Overall China outbound investment shows adjustments but B&R gains momentum

Beijing, 11 April 2018

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  • EY released the 7th issue of China Go Abroad: Belt and Road - exploring a blueprint for steady growth in overseas investment

EY - Overall China outbound investment shows adjustments but B&R gains momentum

 

Today, EY released the 7th issue of China Go Abroad: Belt and Road - exploring a blueprint for steady growth in overseas investment. The report indicates that in 2017 China outbound investment has entered into a steady adjustment period, but the investment structure continued to optimize in the midst of the tightened capital control, the rise of international trade protectionism and the complex global investment environment. On the other hand, the Belt and Road (B&R) development progressed smoothly while China’s mergers and acquisitions (M&As) in ASEAN countries reached a new high, which is expected to lead the way in B&R investment. In addition, even though by and large the US tax overhaul is expected in favor of Chinese companies investing into the US, Chinese companies should conduct prudent assessment on the tax implications together with business considerations.

EY predicts that the improved investment policy and environment in 2018 will drive China overseas investment to grow steadily and healthily and to focus on the real economy as infrastructure, construction, health care sectors are expected to keep the momentum. Meanwhile, B&R investment will continue to boost regional economy. As Chinese companies increase global presence and competitiveness, the demand for international talents will surge.

Three factors indicating China overseas investment has entered into a steady adjustment period

EY - Overall China outbound investment shows adjustments but B&R gains momentum

 

Against the backdrop of tightened cross-border capital control and increased global investment uncertainties in 2017, China’s outward direct investment (ODI) decreased by 32% on a year-on-year (YoY) basis to US$134 billion1. Loletta Chow, Global Leader of EY’s China Overseas Investment Network (COIN), identifies three characteristics in China outbound investment reflecting a shift to steady adjustment stage:
Firstly, industrial structure continued to optimize with investment focused on real economy sector.
Secondly, investment is being stabilized and regain growth momentum at the year end.
Thirdly, investments to B&R countries increased despite overall drop in China outbound investment.

Industrial structure continues to optimize and transportation and life sciences industries are becoming increasingly dynamic

With respect to overseas M&As, total investment announced by Chinese companies fell 32% YoY to US$144.8 billion in 20172. Alex Zhu, EY’s China North Transaction Advisory Services Leader says, “Despite a significant decline in Chinese overseas M&As, deal value in automotive and transportation, power and utilities, oil and gas and life sciences posted a YoY increase. That shows even though the scale of China outbound investment decreased in 2017, investments in real economy still keep a steady momentum.”

EY - Overall China outbound investment shows adjustments but B&R gains momentum

 

In 2017, the deal value of Chinese overseas M&As in the automotive and transportation sector swelled to US$45.1 billion, up 504% YoY, hitting a new high and topping all sectors by deal value. 4 out of top 10 overseas M&As that were disclosed in 2017 came from the automotive and transportation sector2. Given that the development of transportation is the foundation for facility connectivity, according to EY, with further development of the Belt and Road Initiative (BRI), Chinese enterprises will continue expanding their footprint in the global automotive and transportation market (especially in Asia) as they gain more international competitiveness.

In the meantime, as China has been boosting the industrial and consumption upgrade in domestic life sciences sector, China overseas investment in the sector surged due to expanded market demand. Data show that Chinese overseas M&As in life sciences sector have enjoyed an annual growth of more than 40% for 3 consecutive years. In 2017, disclosed value of China overseas M&As increased 61% YoY to US$9.9 billion2. “In recent years, Chinese overseas investments in life sciences sector show four characteristics,” Alex Zhu adds. “Firstly, both pharmaceutical groups and institutional investors increase investments in innovative products and technologies. Secondly, Chinese enterprises achieve synergy across different businesses along the industrial value chain to strengthen corporate competitiveness. Thirdly, Chinese enterprises realize their international strategies through overseas M&As. At last, transactions are in line with national strategies and corporate demands, while the BRI drives regional investments.”

EY predicts that Chinese overseas investment in the life sciences sector is expected to continue achieving rapid growth, while innovative technologies and products and life-sciences companies along the B&R will keep being targets of Chinese enterprises.

Creating an important cooperation platform, the BRI drives rapid growth of China overseas M&As to ASEAN

In 2017, China saw a decline in M&As in Europe and Americas but a significant increase in M&As in Asia (especially ASEAN) and Oceania. In 2017, deal value of Chinese M&As in ASEAN surged to US$34.1 billion, rising by 268% and representing a quarter of total value of disclosed Chinese M&As2. Andrew Choy, EY’s Greater China International Tax Services Leader, says, “Taking advantage of its geographic location as a trade hub under the BRI, ASEAN has achieved steady growth in recent years. Benefiting from ample human resources and extensive opportunities in infrastructure and other sectors, ASEAN is drawing increasing attention from investors. Looking forward, China and ASEAN are expected to further improve their relationship and expand broader cooperation under the BRI.”

The report points out that Singapore has become China’s biggest M&A destination in 2017 as M&A activities by Chinese enterprises surged, mainly in transportation, technology, telecommunications and life sciences sectors. Andrew Choy says as Singapore is equipped with great opportunity, low risk, openness and creativity, it will play an important role in the BRI development especially in such implementation in ASEAN countries when Singapore poses as a regional financing hub or logistics and infrastructure construction hub, a preferred location for regional headquarters (RHQ) and international headquarters (IHQ) and a platform to offer high-level talents.  

EY - Overall China outbound investment shows adjustments but B&R gains momentum

 

Situated along the B&R, Malaysia and Indonesia offer plenty of investment opportunities. The report reveals that both countries have offered incentives to attract foreign investment. The Malaysian Government in particular has introduced new tax incentives that include expanding current preferential tax policies to invite investments in specific sectors in Malaysia, while the Indonesian Government has updated its list of negative investments and opened foreign ventures such as raw materials for pharmacy, e-commerce and tourism, allowing foreign investors to run sole proprietorship in these industries.

US tax reform is expected to improve the country’s investment sentiment among Chinese enterprises who need to be thoughtful when picking location

Andrew Choy explains the impact of the US tax bill that came into effect in January 2018, “In general, the US will be more attractive due to the significant reduction in US federal corporate income tax rate and the simplifications part of the tax regimes. Chinese enterprises should combine prudent assessment on tax implications with business considerations when making investment decisions.” According to EY’s report, driven and stimulated by relevant tax reform policies, Chinese-funded enterprises that have planned or made investments in the US will have motivations to increase the proportion of local capital expenditures in order to be eligible for the tax benefits under the expensing of capital expenditure. Under the influence of Base Erosion and Anti-abuse Tax (BEAT), the US giant companies invested by Chinese-funded enterprises will be subject to limitations on US federal tax deductions in terms of payments of interest, rentals, royalties and service fees between related parties.

As for potential business implications of US tax reform on Chinese-funded enterprises in the US, Andrew Choy suggests an enterprise-wide strategic change office is needed to manage the comprehensive nature of immediate and long-term potential changes required of their business. He adds, “The US tax reform brings impacts to financials as well as corporate strategy, business model, people and capital.”

Furthermore, EY suggests prudence and good judgment when Chinese-funded enterprises invest in the US. They should take the diverse commercial and tax environments of different US states into account, and assess the state and local government’s preferential policies toward inbound investments and jobs creation, and the various operation costs incurred in respective States. For location selection purpose, Chinese-funded enterprises should consider aligning their business strategies with the federal, state and local economic development and employment strategies to maximum extent.


1 Source: MOFCOM, SAFE, EY analysis
2 Source: Mergermarket, including data for Hong Kong, Macau and Taiwan

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