China’s interest in global adtech remains strong despite regulatory clampdown

Chinese interest in global adtech firms remains strong, despite a government clampdown on capital flight that will dampen outbound M&A activity, said several sector advisors.

Dealmaking is driven by China’s fast-growing, but fragmented adtech sector, but also because domestic advertising technology lags the US by two or three years and there is a need to gain new technology, said one sector advisor, who specializes in M&A between China and the US.

China has between 70 and 80 public companies active in the adtech space, of which at least 50 have market capitalizations of between USD 1bn and USD 5bn, said the sector advisor. “That’s much bigger than in the US. Their purchasing power could be very interesting,” he said.

Chinese firms have been using a very strong valuation arbitrage to swing deals. Publicly-listed Chinese firms typically trade at 40x to 50x price-to-earnings and can acquire technology for substantially below that multiple – typically for around 10x earnings, said the advisor and a sector executive.

Chinese companies primarily are interested in acquiring adtech firms that are profitable and growing, said two US-based advisors. In the last year alone, AppLovin, MediaNet, Opera Software and Smaato have all sold to Chinese players.

All US-based adtech companies that were once considered IPO candidates, but were not able to exit because the public market has been so bad for the sector, are expected to be mulling a sale – potentially to a Chinese buyer, said the first US advisor.

PubMatic is one that could interest Chinese buyers, said the second US advisor. The Palo Alto, California-based company began eyeing an entry into China’s adtech market in 2015 and was gearing up to pick underwriters, as previously reported. But weighing against its chances of an IPO is the fact that its closest comp would be The Rubicon Project [NYSE:RUBI], whose shares have struggled over concerns it was slow to adopt new 'header bidding' ad technology.

OpenX, a Pasadena, California-based programmatic advertising company that helps publishers monetize their content, could also be targeted given its profitability, although it has no need to pursue an exit, said the first US advisor.

Other adtech firms that could be targeted by Chinese buyers include Perion Network [NASDAQ: PERI], said the executive and both US-based advisors. However, Perion’s high margin business may have suffered following its acquisition of Undertone in December 2015, said the second US advisor.

Companies currently undergoing a sales process include The Rubicon Project, a Los Angeles-based advertising platform used by website publishers and app developers, and YuMe [NYSE:YUME], a Redwood City, California-based provider of online video advertising. Rubicon has hired Morgan Stanley to explore a sale, according to a Wall Street Journal report last month; while YuMe last November announced it hired Deutsche Bank to look at strategic alternatives.

While Chinese companies continue to have a “very heavy interest” in acquiring global technology assets, said the first advisor, concerns persist that some deals will not happen because of a regulatory squeeze – not just in China, but the US.

In 2016, China’s central bank and the State Administration of Foreign Exchange (SAFE) – the Chinese regulator in charge of keeping the renminbi stable – began to limit capital outflows in a bid to strengthen foreign currency reserves and the weakened yuan.

China’s authorities have targeted deals in excess of USD 1bn and transactions that leave companies over-leveraged, but scrutiny is expected to filter down to much smaller transactions, said the first US-based advisor and a Shanghai-based advisor.

All transactions above USD 50m will draw attention from authorities to ensure they have a strategic purpose, said the Shanghai-based advisor.

“Chinese government policy is not trying to shut down all foreign investment. It is more trying to limit the significant size of transactions,” said the first advisor.

Buyers may turn to off-shore financing to sidestep restrictions, the Shanghai advisor said.

Companies that have already acquired an overseas technology will find it easier to make follow-on acquisitions than those that have not done so, he added.

Many of China’s adtech companies have already done their first one or two deals, noted the first advisor. The next phase of consolidation - now underway - will feature Chinese companies thinking more carefully about how follow-on deals can fit into their future strategy, said the first advisor.

Smaato is a good example of that. The San Francisco and Berlin-based adtech firm recently completed its sale to Beijing’s Spearhead Integrated Marketing Communication [SHE:300071].

With Spearhead’s financial backing, Smaato wants to make acquisitions in the hundreds of millions of dollars to help build out a full stack of mobile advertising technology, as previously reported. “In the next two or three years, China could surpass the US as the biggest mobile advertising market in the world,” said Ragnar Kruse, Smaato’s CEO.

Another area of regulatory concern is on the US side, with the Committee for Foreign Investment in the US (CFIUS) expected to become more protectionist under a Donald Trump presidency. Smaato’s sale – agreed in December 2015 – took a year to close in part because it filed with CFIUS.

“It’s going to get even harder given the change in administration,” said a lawyer who helped steer Smaato through the CFIUS process.

Meanwhile, dealmakers will watch for any policy change from China. With current policy set to end after the third quarter of 2017, all eyes will be on the strength of the renminbi and foreign currency reserves over the next two quarters, the first advisor said. “We’ll have to see what happens after that.”

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