Majority equity ownership in China does not always equate to majority control
Op-Ed Commentary: Chris Devonshire-Ellis
Nov. 13 – As the proposed Apollo-Cooper Tires M&A deal continues to go south amid accusations and lawsuits, lessons can be learned from this New York-brokered deal about the perils of ignoring even minority-owned assets based in China.
Cooper, who own 65 percent of a joint venture with state-owned Chengshan Group in China, have been the subject of a US$2.5 billion takeover by Apollo Tires of India. Lessons about structuring this deal, and the importance of getting both political and operational due diligence into M&As, are highlighted by the manner in which this particular acquisition has run into problems. It is in fact the minority equity holder, Cooper Tires’ joint venture partner Chengshan Group, who have been dictating terms, despite the fact their equity is not being acquired. With the Cooper-Chengshan deal, the Chinese side viewed Cooper as an ideal partner to allow them access to the huge American automotive market. Cooper has seen its global business develop as a result, up until a suitor – Apollo – came knocking.
Apollo is an India-based tire manufacturing company, yet also concentrates on other markets – they own plants in India, Africa, and Europe, and made an offer for Cooper’s NYSE listed shares at a 43 percent premium back in June. That deal, structured in New York, did not include any provisions for the Chengshan Group – as it was not their shares that were being acquired. Cue pandemonium in China. As we reported on China Briefing earlier this year, Chengshan Group promptly called all of its roughly 5,000 workers out on strike. They have remained so (or only working on Chengshan’s domestic Chinese tire production) ever since. Of interest to note here is the relationship between Chengshan Group – as a state-owned enterprise (SOE) – and the local government. Dreams of having what is a provincial flagship Chinese company succeed in the American market via their Cooper Tires JV have been destroyed, a situation alluded to by the Chinese Labor Union responsible stating: “We oppose this purchase because Apollo is an Indian company. If it was Michelin, we might have agreed.”
That simple statement reveals serious strategic and political shortcomings on behalf of Cooper, Apollo, and the advisers responsible for negotiating this deal – as it seems that since Chengshan’s equity was not being acquired, they left them out of the due diligence equation. What should have happened is that Apollo and their advisers discussed the issue with Chengshan in detail first. India actually has a rapidly growing auto industry, as does Africa, and Apollo is in prime position to target both. Yet the Chinese side was simply not consulted or educated about the benefits that this deal would bring to them.
The other salient point here is that although in terms of equity, Cooper Tires owned 65 percent, in reality that does not always equate to control in China. Companies in China will not call workers out on strike without specific government approval, and Chengshan Group is an SOE. Cooper Tires lost control of their majority-owned operations. That was political naivety.
Chengshan Group has now filed to dissolve their Cooper JV in its entirety. This may or may not be granted, but it is in all likelihood a delaying tactic to force Cooper Tires and Apollo back to the negotiating table. The deal, meanwhile, remains in limbo.
The sad fact is that with a bit of practical common sense and acknowledgement of the strategic asset that Chengshan Group partially possessed, a US$2.5 billion deal is now in serious jeopardy. Remedies in dealing with the Chengshan Group correctly should have been put in from the front end and presented to them. These should have included a strategy as to what Apollo would have been willing to give to Chengshan to garner their support, which could have included, among other things:
- Global board participation
- Consultation on business decisions
- Secondment/appointment of qualified Chinese managers to global positions
- Exchanges between labor reps, R&D managers, marketing/sales personnel, etc.
Most of these things involve little to no costs and are critically needed integration and loyalty-building exercises. On the monetary incentive side, formulas can be developed and offered that provide for profit-sharing for Chengshan if performance metrics are met.
In the meantime, Apollo doesn’t have a lot of choices. Chengshan has already wrestled the JV operation away from Cooper. Chengshan contributed the land and facilities to the JV, and they control by possession. The same is true for the labor unions and governmental approval processes. Meanwhile, what’s likely to be the real purpose of the litigation between Chengshan and Cooper Tires is to increase Chengshan’s bargaining power and to hold up the transaction. They’ve done that so successfully that both Cooper Tires and Apollo have been involved in litigation of their own. It would make far more sense to get to the core of the issue, negotiate with Chengshan, and show them why being a JV partner with Apollo is a good idea.
This is a deal whose genesis should never have been concentrated purely in boardrooms in New York and India, and which should never have omitted the minority Chinese component – even though that was not being acquired. That they ignored the Chinese position was both naïve and demonstrative of a lack of awareness of the cultural, operational and political due diligence processes required when it comes to structuring multinational M&A deals with minority component assets physically based in China – and especially so if an SOE is involved. Such deals require China knowledge and strategic input, not just American or Indian.
Chris Devonshire-Ellis is the Founding Partner of Dezan Shira & Associates – a specialist foreign direct investment practice providing corporate establishment, business advisory, tax advisory and compliance, accounting, payroll, due diligence and financial review services to multinationals investing in emerging Asia. Since its establishment in 1992, the firm has grown into one of Asia’s most versatile full-service consultancies with operational offices across China, Hong Kong, India, Singapore and Vietnam as well as liaison offices in Italy and the United States.
For further details or to contact the firm, please email firstname.lastname@example.org, visit www.dezshira.com, or download the company brochure.
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