Hong Kong – Grant Thornton’s latest Sale and Purchase Agreement (“SPA”) Research Report 2020 (the “Report”) reveals a decrease in the number of SPAs by approximately 10% to 273 in 2019, compared with 304 in 2018 with 43% of the targeted companies of business acquisitions and disposals locating in the Guangdong Province, Hong Kong and Macau region. 

Grant Thornton has focused on SPAs initiated by Hong Kong-listed companies and/or their subsidiaries from 1 January to 31 December 2019, where the underlying transactions were classified as Major Transaction, Very Substantial Acquisition (“VSA”) and Very Substantial Disposal (“VSD”) under the relevant definitions of the Hong Kong Listing Rules. The Report shows that major and non-connected transactions executed by companies listed on the Main board continued to dominate in 2019.

Grant Thornton analyzed the data of an aggregate of 273 SPAs entered into by Hong Kong-listed companies and/or their subsidiaries in 2019 from the HKEx website, of which 146 were acquisitions and 127 were disposals. The Report shows that in 2019, Hong Kong-listed companies entered into SPAs mainly for the purpose of acquiring and disposing equity interests in businesses. Business acquisitions accounted for approximately 71% of all acquisition transactions (2018: 60%), while business disposals accounted for approximately 87% of all disposal transactions (2018: 71%). Other transactions involved land use rights, properties and other assets.
 

Pandemic Weighs on the Outlook of Global Cross-border Deal-making

While distressed economic conditions has led to a 10% decrease in number of SPAs in 2019, the global pandemic that began in early 2020 has led to conservative corporate activities as both risks and uncertainties circulated in the market. Data suggests that the numbers of SPAs initiated by local companies in the first quarter of 2020 has decreased by 6% year-on-year, driven by a 14% drop in acquisition SPAs and a 3% increase in disposal SPAs.

Barry Tong, Joint APAC Head of Transaction Advisory Services at Grant Thornton, said, “Despite governments having intervened and provided funding to ease the pressing needs of the public, investment sentiment remained weak and corporates were either cancelling ongoing deals or liquidating assets to remain solvent. We expect a further decline in the total number of SPAs in the second quarter and the second half of 2020 as the corporates will be more risk averse with their upcoming transactions before the pandemic eases.”

Growing M&A Opportunities in the Guangdong Province, Hong Kong and Macau region

During the year of 2019, approximately 88% of the business acquired and 88% of the business disposed were located in Mainland China, Hong Kong and Macau, of which approximately 43% of the business acquired and business disposed were located in the Guangdong Province, Hong Kong and Macau region, compared with approximately 33% in 2018.

Mr. Tong said, “Benefitting from the favorable government policies, the cities in the Greater Bay Area could become more attractive hunting grounds for business transactions of Hong Kong-listed companies. With closer integration among the seven cities in Guangdong Province and the two SARs which are Hong Kong and Macau to build an integrated economic and world-class business hub, we anticipate that more government incentives will be introduced to further foster the economic development of the Greater Bay Area. This would potentially bring more M&A opportunities in the region.”

Increasing Transactions in Properties & Construction and Consumer Discretionary Industries

In 2019, there were a total of 146 acquisition SPAs, 103 of which were business acquisitions. Buyers from the Properties & Construction and Consumer Discretionary industries continued to dominate corporate transaction activities during 2019, accounting for an aggregate of approximately 65% of all business acquisitions (2018: 47%). In addition, data shows that buyers from Properties & Construction and Consumer Discretionary industries were likely to acquire target businesses within their own industries.

With regard to the 127 disposals in 2019, 110 were business disposals. Sellers from the Properties & Construction and Consumer Discretionary industries comprised most of the total business disposal SPAs, which is consistent with the results from 2018. These two industries accounted for an aggregate of approximately 49% of all business disposals SPAs in 2019 (2018: 29%).

Mr. Tong said, “Mainland government authorities and regulators have been tightening the funding channels under the nation’s shadow banking system to control lending to the overheated real estate sector, which accelerated the industry consolidation. This provided good opportunities for large developers to take up small peers which encountered cash flow problems amid the ever-tightening funding environment. Due to the economic lockdown, business and treasury in all sectors were affected globally, accordingly, we expect the industry consolidation trend to continue in 2020.”

Controlling Interest Transaction and Cash-Only Settlement are the Most Popular

The Report reveals that over 70% of the businesses considered to acquire or dispose of 50% or more of the equity interest in the target company in 2019. About half of the SPAs had the entire equity interest in the target company acquired or disposed.

Hong Kong-listed companies continues to use three major types of valuation approaches, namely, the market approach, asset approach and income approach. In 2019, the market approach was mostly used in acquisitions, accounting for 43% of the business transactions (2018: 47%). On the other hand, the asset approach was commonly used in disposals, accounting for 48% of business disposal transactions.

Mr. Tong said, “One reason for the dominance of the asset approach in disposal SPAs was that sellers sought to maximize the dollar amount they received from the distressed assets based on the NAV presented by the balance sheet of the disposed business, whereas the value of the business under other methodologies might be susceptible to the unfavourable economic conditions.”

In terms of settlement methods, the most popular way to settle a business transaction remained to be by using cash only. The general observation on settlement methods is consistent on the industry level, with cash-only mostly used to settle SPA transactions in both acquisitions and disposals, accounting for 66% and 92%, respectively.

Mr. Tong continued, “These results suggest that buyers were urged to complete their transactions, as cash-only considerations often require less time, effort and costs compared to issuing shares, convertible notes, or other financial instruments.”  

Due Diligence, Independent Valuation, Tax Restructuring & Reorganization and Warranties & Indemnities are Essential Components of Successful Business Transactions

Grant Thornton strongly recommends the listing companies to satisfy the four major conditions, namely due diligence investigation, independent valuation and tax restructuring & reorganization as well as the compliance of certain assurance clauses related to warranties and indemnities, as they are essential components of successful business transactions, especially in times of uncertainty such as the pandemic.

The Report shows that approximately 42% of business transactions conducted due diligence investigations compared with 41% in 2018. In addition, approximately 50% of business transactions conducted independent valuation as a condition precedent to completion compared with 47% in 2018. The Report also shows that approximately 24% of business transactions conducted tax restructuring & reorganization prior to completion, improving from 19% in 2018. Approximately 60% of business transactions contained legal protection provisions related to indemnities, representations and warranties, down slightly from 63% in 2018.

Mr. Tong concluded, “The recent economic downturn is adding significant complexity to deals for both buyers and sellers, including how to value the assets and liabilities when negotiating and drafting sale and purchase agreements. Thus, it is in the best interests of the companies to implement the aforementioned measures by seeking professional advice, thereby reducing transactional risks and improving the corporate governance of the companies.”

Top 10 Acquisition Locations in Mainland China 2019

Top 10 Disposal Locations in Mainland China 2019




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