Now that organic growth has run out of steam, mergers & acquisitions may be what Chinese materials firms need to count on for continued growth down the road.
The best part about that strategy is it will not further escalate China's overcapacity problem.
That's according to Kai Pflug, a Shanghai-based consultant for the chemicals industry, who discusses this topic in a recent article.
Most growth of China's chemical companies used to be organic — companies invested in their own businesses, mostly by expanding production capacity, he writes.
That growth model has led to substantial overcapacity.
“In the past, there was always the hope that these overcapacities would either vanish soon due to the high market growth, or at least they could be used for export. However, lower domestic growth and a slowdown in export growth indicate that these are no longer viable options,” Pflug wrote.
In contrast to organic growth, M&A will not create additional capacity. Instead, existing capacity could be consolidated to achieve economies of scale and improve profit margins.
“Obviously this advantage is particularly relevant in segments with limited or no growth, a situation which will apply to more and more segments of the chemical industry in China. In fact, in mature chemical markets such as the U.S. and Europe, [M&A] is a major [growth] contributor.”
Pflug, CEO of Management Consulting — Chemicals Ltd., cites a merger involving two Chinese producers of titanium dioxide, which is widely used by the plastics industry as a pigment. The marriage between Henan Billions Chemicals Co. Ltd. and Sichuan Lomon Titanium Industry Co. Ltd. enabled them to stay within their existing business and bring a good understanding of the market.
However, this type of similar-business M&A runs the risks of increased exposure to the given segment as well as overpaying for a competitor, he argues.
Other companies have made deals that help them expand outside of their original businesses, allowing them to change their strategic directions.
When it comes to overseas M&A, Pflug believes it will take time for Chinese companies to establish overseas assets similar to leading global counterparts such as BASF SE, Dow Chemical Co. and DuPont Co. But it would certainly help Chinese companies to become global players as well as to help their domestic business by leveraging the acquired technology and customer relationship.
“Acquiring a business is probably the most immediate way to change the overall direction of a company (along with selling a business, something that so far has not been done very frequently by Chinese companies but is a regular occurrence in the Western world).”
In today's chemical market, it will be harder to achieve substantial organic growth, Pflug notes.
“Chinese chemical companies with the intention to keep growing therefore need to seriously look at acquisitions as a pathway to growth. Apart from a change from a mostly technical to a more commercial mindset, this will also require establishing dedicated resources, in particular knowledge, processes and staff capable of starting and managing M&A processes.”
