Regulatory change reopens route for inflows of capital

The mainland is preparing for a flood of private equity and venture capital deals after a recent regulatory change reopened a crucial route for funds to flow into the country.

"There is definitely a pent-up demand," said Sun Chang, managing director of Warburg Pincus Asia and chairman of the China Venture Capital Association (CVCA).

"Dozens of deals were held up because of changes in government regulations," he said at the CVCA's annual general meeting yesterday.

Regulations announced by the State Administration of Foreign Exchange (SAFE) in January and April this year brought private equity and venture capital transactions in China to a virtual halt by requiring that all such deals be registered with the government.

The main aim of the regulations, known as Circulars 11 and 29, was to stop managers of state-owned companies from stripping state assets by selling them off cheaply to their own shell companies registered in havens such as the British Virgin Islands.

Unfortunately for foreign venture capitalists, they often use the same routes to acquire stakes in Chinese firms.

The government also wanted to stop domestic companies from using this method to gain foreign-investor tax exemption status. But the intention was never to stop legitimate private equity and venture capital deals.

In mid-October, SAFE issued Circular 75, which mostly cleared the way for a resumption of investment.

"Some uncertainties remain" regarding the legislation, Paul Hastings Attorneys partner Maurice Hoo said, adding that registration requirements had been radically simplified to allow deals to go ahead.

"Now every major fund in the [Silicon] Valley is looking to do something in China," CDH Investments managing director Stuart Schonberger said.

The CVCA estimates US$5 billion in venture capital is hoping to invest in China and plenty of promising mainland technology companies are looking to raise money.

"Every time I come here I take ideas back to the US and wonder why we're not as advanced," said Mary Meeker, a managing director at Morgan Stanley, known to many as "queen of the bubble" for her bullish views on the internet industry during the late 1990s.

In two years, at least nine venture capital-invested Chinese firms, including internet search engine Baidu, have earned investors a 10-fold rate of return through sales or public listings.

The CVCA's focus has shifted to persuading governments across Asia to allow institutional players to invest in high-risk capital and private equity funds. "We expect a healthy 20 per cent to 30 per cent annual rise in deal flows in the next few years, but the industry could really explode if Asian pension funds and insurance companies were allowed to participate," Mr Sun said.