THE ANNUAL REVIEW 2010 - PEI Media

private equity annual review 2010 pa g e 111
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As fundraising in RMB continued to dominate in China in 2010, the country’s offshore
LPs have been feeling increasingly marginalised, finds Hsiang-Ching Tseng
One of the key statistics to come out of
China in 2009 was the fact that at $8.73
billion, fundraising for RMB-denominated
China-focused private equity funds overtook
funds raised in USD ($4.27 billion) for the
first time, according to China-focused private
equity research body Zero2IPO.
Despite a recovery in Western LPs’
appetite for private equity commitments
(especially to China), the trend looks to
have continued into 2010. In fact, the ranks
of Chinese LPs are set to be swelled even
further going forward since in August 2010
China’s Insurance Regulatory Commission
finally gave Chinese insurance companies the
green light to invest in private equity. Though
investment into the asset class is capped at no
more than 5 percent of their last quarter’s
total assets, the new rules mean as much
as RMB226 billion (€26.2 billion; $33.2
billion) could enter China’s private equity
market, based on total Chinese insurance
industry assets of RMB4.52 trillion at the
end of June.
But as spending power and funds raised in
RMB have increased, so too has the feeling
of marginalisation from offshore LPs who
have invested in China-focused USD funds
with prominent local managers managing
both types of fund.
In a country which has one (very strict)
rule for the investment of foreign money,
and another (much laxer) one for local
money, it is not hard to see how conflict can
arise. The LP Association of China (LAPCN),
which was formed three years ago by LPs
such as Pantheon, Morgan Creek Capital
Management and Adam Street Partners,
has identified four principle areas where
conflicts of interest have arisen: deal
allocation; resource allocation; timing of
successor funds; and economic incentives.
And given the opacity of investment in
Huang: RMB funding is the future in China
“We have to wake up
to the reality that the
RMB funding source is
the future in China and
returns from RMB funds
are likely to be better
in the near future”
China, LPs feel they have no real way of
knowing how much manager discretion is
playing a role when it comes to choosing
between their USD and RMB pools.
“GPs say if it’s a restricted industry then
we’ll use RMB – ok I’ll buy that. Or they’ll
say the entrepreneur only wants RMB – but
how do you know for sure? You have to take
the GP’s word for it – it’s not practical for
LPs to be checking up on every deal. So you
always wonder... maybe that deal could have
been done in USD?” explains Jason Zhang, a
Beijing-based managing director at Morgan
Creek Capital Management.
Despite the strain this conflict has placed
on many GP-LP relationships, offshore LPs
acknowledge that the growth of China’s
RMB industry is not only unstoppable, but
natural.
“For all these years, private equity in
China has meant Chinese GPs managing
USD funds,” reflects Vincent Huang, a Hong
Kong-based partner at Pantheon. “We have
to wake up to the reality that the RMB
funding source is the future in China and
returns from RMB funds are likely to be
better in the near future. We cannot change
this; we can at best try to align interests
with the GPs.”
The ultimate solution would be for the
government to scrap Circular 142, a 2008
law from the State Administration of Foreign
Exchange which restricts the conversion
of foreign currency for the purposes of
investment, allowing foreign and domestic
LPs alike to invest into the same fund.
And in October, it seemed that Shanghai
had come close to doing just this when
it announced it had gained in-principle
approval from China’s financial authorities
to launch a Qualified Foreign LP (QFLP)
programme.
Similar to the Qualified Foreign
Institutional Investor scheme already in
existence, which allows approved foreign
investors access to Chinese equities, the
broad aim of the QFLP would be to allow
approved foreign LPs access to the domestic
private equity industry.
However, although a cautious welcome
was expressed by China’s foreign LP
community, wholesale celebrations have yet
to be seen as much of the detail around the
QFLP scheme still needed to be clarified. n