What lies ahead for China private equity

As China’s top officials gathered on Wednesday to kick off its 19th congress to outline its priorities over the next five years, industry watchers tell PEI what’s at stake for private equity.

China’s senior political officials began discussing the future of the nation on Wednesday during the Communist Party of China’s 19th national congress. Market sources explain to Private Equity International what is at stake for one of the fastest changing private equity industries in the world.

Yuan funds will continue to soar
Government interference in the markets will remain. As a result, yuan-denominated fundraising will become increasingly dominant in Chinese private equity and venture capital, largely driven by capital from government-backed funds. Yuan fundraising surged well above 2015 levels last year, representing a 177 percent year-on-year growth, according to a PwC report. More than $72 billion was raised by Chinese private equity and venture capital funds in 2016, with over two-thirds held by yuan funds.

“The government will play an even more important role than before in investment activity, not just in capital regulation but also in its influence over the general partners,” Dayi Sun, managing partner of Shanghai-based fund of funds Jade Invest says. He adds that market-driven funds will become less important than government-backed funds, significantly changing the investing landscape whereby direct investments from investors are encouraged over securing bank loans. “At this moment it will be very hard to find any new fund without any government funding.”

Against this backdrop more and more foreign funds are setting up yuan-denominated programmes. Rather than relying on raising US dollars from the same group of global limited partners, funds are choosing to raise money in yuan from Chinese investors, often government-linked. Yuan funds are also necessary as certain deals such as media and healthcare are difficult for foreign capital to invest. General partners with both dollar and yuan funds will have more flexibility.

Focus on innovation and high-quality services

At president Xi Jinping’s opening address on Wednesday, he highlighted that China will “significantly ease market access, further open service sectors, and protect the legitimate rights and interests of foreign investors”.

Private equity investors have been looking for more clarity on China outbound investments in the past year as the government stepped up the pace of curbing capital outflows. Cross-border deal activity fell by 20 percent in the first six months of 2017, compared with the same period a year ago, according to research firm Rhodium Group.

Notwithstanding the government’s efforts on financial tightening, outbound transactions are likely to continue in specific industries that are ‘encouraged’, which include infrastructure projects in the Belt and Road Initiative, high-tech businesses and natural resources.

Myron Zhu, co-head of private equity Asia Pacific at Aberdeen Standard Investments says: “China is a maturing economy and the historical high growth of the last 30 years is difficult to replicate. This is why the focus has now shifted to the quality of the growth, therefore we expect to see increased private equity-backed deals in technology and innovation as well as healthcare – from medicine manufacturing to services and delivery – in the near future.”