Shanghai to unveil RMP LP plan

However, the details of the plan – if it is actually formal, final, official and approved – suggest it may fall well short of many foreign investors’ hopes.

Publicity around the plan

Information on the plan so far suggests that an executive meeting of the Shanghai municipal government – after discussions with the State Administration of
Foreign Exchange (SAFE) and other relevant government bodies – has approved the trial plan for launch in April, to be implemented first in Shanghai’s Pudong New Area. To this end, the plan applies only to RMB funds founded in the area and invested by outside investors. These investors will each receive a foreign exchange quota of around $100 million to be converted into RMB for investment into such funds – at least in the initial period of the plan’s implementation. No fund will be able to receive more than 50% of its capitalization through this route.
Other parts of the plan clearly draw on the PRC’s existing Qualified Foreign Institutional Investor (QFII) scheme, by introducing what is effectively a QFLP plan. However, details of how an investor can qualify as a QFLP are still unclear.
Furthermore, funds that these QFLPs invest in will be treated as foreign-invested funds for the purposes of China’s sector-specific investment restrictions. Real estate and public markets stocks are on the banned list for these vehicles as well.
“We’re waiting to see what it means to be qualified,” John Fadely, Partner with Clifford Chance in Hong Kong, told AVCJ. “The hurdle shouldn’t be as high as it is for a QFII.”

Hurdles and hopes

The new plan, therefore, keeps many of the hurdles impeding outside investment in RMB funds in place. For one thing, separate status of foreign-invested funds blocks these funds from participating in many of the Chinese economy’s most interesting sectors. More critically perhaps, is the uncertainty around whether these new funds will have the same benefits as the existing Foreign-Invested Venture Capital Enterprises (FIVCEs) when it comes to faster and more streamlined deal execution; particularly the leeway to opt for a post-investment filing as opposed to pre-investment approval for a deal.
It is also unclear just how QFLPs will be treated by the draft regulations. As Fadely emphasizes, “Passive investors in FIVCEs don’t have to meet qualification requirements.” The classes of investor covered by the FIVCE rules, which date back to 2003, define active GPs more than they do passive LPs. And, he adds, there is no clarity on whether an offshore LP’s investment in the new class of RMB funds will be taxed on the same 10% withholding tax basis as an offshore investor’s commitment to an existing FIVCE.

The glass ceiling

Most significantly, the maximum quota that a fund sponsor can purchase for QFLPs under the new  Shanghai structure is $100 million – a viable size for a venture capital fund, or conceivably a growth capital vehicle, but far short of the substantial private equity vehicles that most international LPs would like to invest in. This would mean that a sizable fund under the pilot program would have to have substantial Chinese capital.
The $100 million limit, sources suggest, is could be a legacy carried over from the established FIVCE structure and the MOFCOM decision in March 2009 to delegate approval authority for FIVCEs with capital commitments of less than $100 million to MOFCOM at the provincial level. This suggests an incremental approach to regulatory development that has been somewhat left behind by the advent of multi-billion-RMB domestic vehicles.
Other industry players said they were not surprised that the initial reports fell short of many international LPs’ expectations. In particular, the issue for the PRC authorities was not so much the RMB foreign exchange limits administered by SAFE as the sector-specific investment restrictions overseen by the National Development and Reform Commission (NDRC). In their view, PRC authorities are reluctant to create what would be effectively a separate and privileged class of investors by allowing foreign LPs unrestricted access to domestic RMB funds that would themselves circumvent the investment restrictions.
Finally, sources added, the Shanghai government or certain allied agencies may have simply jumped the gun on announcing the proposed plans before some important components are in place.
There is no clarity as to whether the new structure has formal approval from the PRC central government, or whether all the Chinese ministries and departments that would have to be involved and consulted have actually endorsed it. Without such transparency, there is a suspicion that Shanghai is simply trying to stay in the spotlight for RMB fund-related activity. For now, foreign LPs will likely have to wait before their concerns are addressed.

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• Topics
• Funds
• Fundraising
• Regulation
• Renminbi fund
• Greater China