Asia braced itself for the worst when last September's financial quake sent shock waves pulsating between continents. Sure enough, Asian stock markets plummeted. Banks teetered. Finances froze. And exports went into free fall.

As Western economies contracted, conventional wisdom held that Asia-related investment flow would dry up too. Signs were ominous. Private equity firms, which had rushed into China, India and other Asian nations like herds of hormone-addled teenagers armed with daddy's credit card, appeared in full retreat. Global investment banks were dead, wounded or hunkered down. Everyone else wandered aimlessly.

Some of China and India's own big-time investors didn't seem much better off. The Chinese government's sovereign wealth fund, China Investment Corp., had poured a total of $8 billion into Morgan Stanley and Blackstone Group LP in late 2007, an investment that had pretty much disappeared less than a year later, along with a loss of face. India's premier private conglomerate, Tata Group, spent almost twice that much on European trophy acquisitions such as steelmaker Corus Group and carmaker Jaguar-Land Rover, not exactly the best deals to weather a global recession.

More than a half-year into the crisis, what has actually transpired with M&A-related investments in China and India is more complicated than simply that boom times begat bust. Though dealflow overall may have suffered, outbound investment from China appears to be picking up steam, while inbound investment to India in certain sectors is actually booming. The rationale for doing deals may be changing. Consolidation plays will become more important. Distress-related deals are just now beginning. However, deals are still getting done, many small and midsized, a few quite large.

"There's still plenty of M&A activity," says Chris Devonshire-Ellis, founding partner of the consulting firm Dezan Shira & Associates, which advises multinationals on tax, accounting and due diligence issues related to foreign direct investment in China, India and Vietnam.

Not that it's all business as usual. Valuations are down. Financing is more difficult. Current owners suffer from sticker shock, and some buyers have retreated home. "There isn't a meeting of the minds" between potential buyers and sellers, says Hong Kong-based Christopher Stephens, managing partner, Asia, for Orrick, Herrington & Sutcliffe LLP.

How quickly deal-related activity in India and China will recover is uncertain. "Most people feel this is temporary," says Beijing-based Lovells LLP partner Thomas Man, talking of a downturn in China-bound investments. "But how to define temporary?" he says. "Is it three months or one year?"

To be sure, the lack of both consumer demand and financing has taken its toll on M&A. Most surveys indicate that the number and value of deals dropped rapidly in the fourth quarter in Asia. First-quarter totals weren't much better, preliminary estimates indicate.

According to estimates by PricewaterhouseCoopers, in the Asia-Pacific region, total inbound and outbound M&A by dollar during the fourth quarter of 2008 fell by a staggering 42% compared with the fourth quarter of 2007. Foreign direct investments in China fell 20.6% in the first quarter of 2009 over Q1 2008, while FDI in India dropped 43.1% in the first two months of this year over Jan-Feb 2008, according to government statistics.

In cross-border investing, China and India play outsized roles, which befit the world's two most populous nations and two of the most dynamic economies. The U.S. and Western Europe may traditionally be home to more megadeals, private equity purchases and transactions in general, but emerging markets hold huge promise to many global businesses, not only in the U.S. or Europe, but also elsewhere in Asia.

An often-narcotic mix of real economic numbers and pixie-dust visions of domestic markets has fueled inbound investment flows into both China and India for years. Because India protected its domestic markets until this decade, investments into China far outweighed those into India. However, the gap is narrowing quickly. In 2005, foreign direct investment to China was $72.4 billion, while India totaled only $7.6 billion, according to the United Nations Conference on Trade and Development. In 2006, China's FDI was $73.7 billion, whereas India's totaled $19.7 billion. In 2007, China was $83.5 billion, while India was $23 billion.

According to data compiled by London-based investment bank India Advisory Partners Ltd., all M&A and private equity deals -- offshore and domestic -- in 2008 in India totaled 1.527 trillion rupees ($30.72 billion), only a 3% decline from 2007. Of this, 65%, or about $20 billion, was cross-border. However, in the second half of the year, the value of investment into India fell by 33%, India Advisory estimated.

With China, it's hard to get accurate figures on inbound-related, cross-border M&A, since investment flows include a large percentage of overseas Chinese money. Zero2IPO Research Center, the research unit of Zero2IPO Co. Ltd. and a Beijing based financial advisory and information services firm, supplied one estimate. Zero2IPO tracked 66 cross-border deals in 2008, 43 of which disclosed transaction values. The $12.96 billion total represented a 30.6% drop from the $18.67 billion the firm tracked in 2007.

Reading economic tea leaves in both countries can be difficult as well.

"Remember, what's down is the growth rate. It's not negative," stresses Parag Saxena, founding partner and CEO of New Silk Route NSR Partners LLC, a growth capital firm that invests in emerging economies in Asia and the Middle East.

China's GDP growth went from 13% in 2007 to 9% in 2008. It is projected to expand this year by 6%, says the Economist Intelligence Unit, or some 6.5%, according to the World Bank. India should clock in at 4%, according to the World Bank, or 5%, says the EIU. India registered a 9% GDP growth rate in 2007 and a 6.6% increase last year.

Such a performance is inconceivable for the U.S. and Western Europe, but for emerging economies of Asia, that lower growth rate can mean trouble. "Six or seven percent is almost a base level of growth," says Orrick's Stephens. "It essentially means no growth in the corporate sector."

Lack of demand in the West has hammered China's export-centric economy, and factories are closing by the thousands. Like other analysts, the Council on Foreign Relations' Brad Setser warns that with Chinese exports so dependent on the West, "there will be a prolonged period of slower growth."

However, the Chinese government has put hundreds of billions of dollars into infrastructure projects and priming bank loans. There's evidence that's now taking hold. "A ray of hope may be emerging, with signs of China's economy bottoming out by mid-2009," the World Bank said in a report last month.

By necessity, New Delhi has taken a more modest approach to any stimulus package, cutting interest rates rather than pumping in billions of dollars in funds. "The small fiscal stimulus could also mean that the government would prefer to rely on monetary measures because it frankly does not have the money to do a large stimulus package," wrote Sunil Rongala, an economist with Deloitte Research, Deloitte Support Services India Pvt. Ltd.

India's problems are not as severe. "The financial sector has not been as affected as it is in the developed economies," says Ranjan Biswas, partner and national director for transactions advisory services at Ernst & Young Pvt. Ltd. in India.

While India is less dependent on exports for growth than is China, it has relied on investment spending to stimulate growth, Rongala points out. That included foreign borrowing and selling shares, avenues that have been seriously impaired. "It's unlikely that companies can raise the amount of money they did in previous years," he says.

Those tracking the current terrain stress that investment patterns aren't uniform from sector to sector. Private equity favorites real estate and financial services are pretty much dead. Pharmaceuticals, healthcare and telecommunications remain remarkably robust.

Indian outbound investment is a study in contrast. No one expects India to put up numbers anywhere near the go-go days of 2007, although some Indian companies continue to look around for acquisitions. Saxena cites the outsourcing behemoth Infosys Technologies Ltd. It has no debt. All its revenue is in dollars. "That's the kind of firm most likely to make acquisitions," he says.

China, on the other hand, is expected to stress offshore investment even more than in the past. "I tell my Chinese clients, 'If you think you have the money and have the ability to manage the [target] company, it's one of the best times you'll ever see in the next 20 to 30 years,' " says Lovells' Man. "Chinese companies are tentative ... but they have the desire internally."

While China's sovereign wealth fund may be chastened after its foray into private equity and investment banking, that isn't stopping Chinese companies from trolling for overseas investments. "Outbound direct investment has really taken root and must continue," says Mitchell Silk, a New York-based partner at Allen & Overy LLP who heads the firm's U.S.- China group.

He cites the need in China for both "energy security and manufacturing sustainability," which means acquiring companies offshore to bolster distribution channels, marketing channels and after-market servicing channels.

Most prominently, Aluminum Corp. of China, or Chinalco, is dangling $19.5 billion in cash for assets and a further stake in Rio Tinto Group, Australia's second-largest mining concern. This marks the biggest, and most controversial, Chinese deal out there, and could become a reprise of the unsuccessful $18.4 billion bid for American oil company Unocal Corp. by CNOOC Ltd. in 2005. CNOOC was forced to drop its offer after running smack into a full-body political slam in Washington.

There are some important differences between the two. Rio Tinto needs the cash after defending itself from a $66 billion hostile bid from BHP Billiton Ltd. This isn't a takeover, but a minority investment. The Chinalco bid includes $7.2 billion in subordinated convertible bonds and $12.3 billion in what are described as aluminum, copper and iron ore strategic joint ventures, stakes which would range from 15% to 50% for the Chinese. If it fully converts its bonds, Chinalco would bring its holdings to 18% of the group, according to filings. In a complex joint venture with Alcoa Inc., Chinalco bought a 12% stake of Rio Tinto in February 2008 through the London-based publicly traded mining subsidiary, Rio Tinto plc.

Chinalco made the $19.5 billion bid in February. Australia's antitrust regulator gave its blessing on March 25, but the country's Foreign Investment Review Board hasn't ruled.

China already is feeling the heat regarding natural resource acquisitions. In late March, Australian Treasurer Wayne Swan nixed the proposed A$2.6 billion ($1.9 billion) acquisition of another mining company, Oz Minerals Ltd., by China Minmetals Non-ferrous Metals Co. Ltd. Security grounds were cited, as Oz Minerals owns a copper and gold mine called Prominent Hill, located within a missile testing range.

On April 1, Minmetals amended the offer. Oz Minerals agreed to sell various assets excluding Prominent Hill to Minmetals for A$1.75 billion.

Protectionist concerns go both ways. In March, China's Ministry of Commerce, commonly known as Mofcom, nixed Coca-Cola Co.'s $2.3 billion acquisition of the country's top fruit juice manufacturer, China Huiyuan Juice Group Ltd. Mofcom cited violation of the country's relatively new competition law as reason for the denial, though not everyone buys that rationale. "As a general rule, China is very open to greenfield investment, particularly export, much less welcome to buying existing businesses," says Setser. "The default is never openness."

Not necessarily true, counter others. "Greenfield in the past was the dominant form of investment in China," says Lovells' Man. "In the past five years, acquisition of existing companies was the most prominent."

Some believe Coca-Cola mismanaged negotiations in China and underestimated political pressure. "I see that deal more a failure of Coke rather than Chinese strategy," says Dezan Shira's Devonshire-Ellis.

This school of thought holds that the Coke-Huiyuan case was unique and shouldn't be seen as emblematic. "For every high-profile Coca-Cola type of deal, there are scores of smaller deals ranging from $50 million and up that are successfully completed," Stephens says.

While the unsuccessful Huiyuan transaction may have generated a considerable amount of press, smaller, more successful inbound deals are announced regularly in China. Goldman, Sachs & Co., for example, was part of three separate acquisitions late last year: a solar water heater manufacturer, a cement maker and a distiller.

For Chinese businesses, international exposure through acquisition is growing. One Chinese carmaker, SAIC Motor Corp. Ltd., is looking at General Motors Corp. U.K. subsidiary Vauxall Motors Ltd., while another Chinese automaker, Chery Automobile Co. Ltd., is investigating a bid for AB Volvo, owned by Ford Motor Co. A nascent company called BeijingWest Industries Co. Ltd. just acquired for up to $108 million bankrupt Delphi Corp.'s global brake and suspension component business.

The vast majority of this activity -- more than 80%, according to one estimate -- will come from state-owned enterprises. "It's government policy. It's just not written," says Man, adding that private companies are beginning to act as well. They're huge companies. They can make $10 million, $20 million acquisitions just like that. The only problem is they don't know how to do it, so they're forcing the old owner to manage the company. I've been working on projects in the last three months where Chinese buyers are making key managers stay three years as a condition of investment."

These days, India is generating most of the higher-profile investments. That, in itself, is noteworthy, since India continues to have the rap of being bureaucratic and highhanded regarding foreign investment.

That's no longer true, Saxena counters. While the Indian government last year may have attempted to discourage real estate investment -- which has pretty much disappeared anyway -- it's become remarkably open to foreign investment in almost all sectors. "Telecommunications is much more deregulated than in the U.S.," he says.

Telecommunications in India continues to attract serious money. In one of the country's biggest-ever investments, NTT DoCoMo Inc. acquired a 26% stake in mobile operator Tata Teleservices Ltd. for $2.66 billion from the Tata Group.

While Tata could certainly use some cash to service the debt from its own mega-acquisitions, most of the investment is coming from fresh shares and will be used for expansion, Ernst & Young's Biswas points out in an e-mail exchange. That transaction was announced in November and completed in March.

Telenor ASA in March made a $250 million investment in the yet-to-be-launched Unitech Wireless, the first of three tranches that cost the Norwegian telecom a total of $1.2 billion for a 67.25% stake. That price reflects an 11% discount off the original offer made last year, but Unitech is in no position to quibble. The construction and real estate development concern has been hit hard by the slowdown.

Not all these deals have distressed elements. Last year, Telekom Malaysia Bhd. bought a 15% stake in Idea Cellular Ltd. for $1.82 billion, a transaction that allowed Idea Cellular to itself acquire a 40% stake in another Indian wireless operator.

Idea Cellular is part of the empire known as Aditya Birla Management Corp. Pvt. Ltd., which rivals the Tatas' dominion in reach and wealth.

India Advisory predicts more telecom-related activity this year, citing a 50% jump in numbers of subscribers from April to September alone.

India's biggest-ever inbound investment was completed last November. Daiichi Sankyo Co. Ltd. bought a 64% stake in India's largest pharmaceutical company, Ranbaxy Laboratories Ltd., for $4 billion. "Beyond Ranbaxy, a lot of people are sniffing around pharmaceuticals in India, especially in generics," Saxena says.

Most recently, Paris food services giant Sodexo SA closed on its $100 million acquisition of Radhakrishna Hospitality Services Pvt. Ltd., based in Bangalore. AAA United BV has made an open offer to the shareholders of Bombay Rayon Fashions Ltd. to buy up to a 20% equity stake for a total of $64 million. AAA, a wholly owned unit of Danish jeansmaker Aktieselskabet AF, already owns 20.7% of Bombay Rayon, the Mumbai-based textile and garments manufacturer.

Saxena believes that dealflow into India will rise only once national elections are over, assuming the incoming government isn't anti-business, and once sellers get over sticker shock. "They're finding it difficult to adjust to new prices. They're waiting for buyers to increase their offers somewhat," he says. "What we see right now is a standoff, especially among publicly traded companies. They're all agreed they need cash, but not at the current stock price."

"I don't see many big-ticket deals happening this year," Biswas adds, who says his own data shows more than half the cross-border transactions were less than $50 million in value. What's more, he says, private equity continues to be active in India. "Almost half the biggest deals announced this year in India so far are PE," he says.

Outbound investment from India will take longer to recover, Saxena and others believe. Not only did aggressive companies such as Tata overextend themselves, but Indian corporations in general have been hard hit by both a lack of overseas credit and the devaluation of the rupee. "It's a 25% reduction," Saxena points out. "That's huge."