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Foreign capital invests more wisely amid China clampdowns

This is the second of two stories taking a close look at China’s private equity market and the sectors that are still of investment interest for foreign capital, in the aftermath of regulatory crackdowns.
Foreign capital invests more wisely amid China clampdowns

China’s $2 trillion private market consists of much more than hard-hit sectors like online platforms and private education — in fact, investments in healthcare, carbon neutrality, and high-end manufacturing, all sectors that are in line with China’s long-term development strategy, are still welcomed despite regulatory headwinds.

“It is clear that social equity, people’s wellbeing, and national security will continue to be among the main policy focus areas for China for the coming years,” said Beijing-based Benran Huang, managing associate at Zhao Sheng Law Firm, Linklaters’ joint operation partner in China.

“Bearing this in mind, we expect more investment and growth opportunities in the themes of advanced manufacturing, rural revitalisation, carbon neutrality, and renewable and clean energy.” 

“Any business or sector that may have a negative impact on social equity, people’s wellbeing, or national security will likely be subject to tightened regulation and increased scrutiny,” Huang noted.

Benran Huang,
Zhao Sheng Law Firm

GOING GREEN

Meanwhile, Natixis Corporate and Investment Banking’s Asia Pacific head of mergers and acquisitions Miranda Zhao thinks green sectors like renewables will remain active in the future.

“Other ESG-positive sectors that will also attract investor appetite include global carbon reduction, waste and pollution elimination, enhanced biodiversity suitability, supply chain technology upgrading, energy and infrastructure efficiency improvement, data security technology, sustainable and accessible healthcare, and education,” Zhao said.

Since the Chinese government has been urging utility companies to cut down on coal consumption, Zhao noted that these players will have to rely on the acquisition of renewable assets and industry consolidation to meet regulatory requirements, investor and customer expectations, and social responsibilities.

“This in return will result in long-term sustainable success and resilient profitability,” Zhao said.

This view is echoed by Shirley Ma, senior portfolio manager for Apac private equity with Dutch pension fund APG, whose private equity portfolio has exposure to China through pan-Asian funds and China-focused funds, as well as co-investments alongside General Partners (GPs).

Miranda Zhao,
Natixis CIB

“Despite the recent regulatory headwinds, we continue to believe in the long-term growth prospect of the country driven by its continued urbanisation, growing middle class, as well as increasing demand for high quality business services, enabled by technology and innovations,” Ma told AsianInvestor recently.

ALL’S NOT FAIR

By the end of July, China’s private equity and venture capital funds managed Rmb12.6 trillion ($1.98 trillion), tripling that from end-2016, according to Bloomberg.

However, not all sectors that enjoy policy support and long-term growth potential are accessible to foreign capital.

For example, even though semi-conductors and chip manufacturing are areas that China is focused on developing, foreign capital is not welcome under the country’s self-reliance strategy amid trade tensions with the United States, noted a mainland China-based analyst at a mid-cap private equity investment firm.

Generally, foreign investors enter China’s private market through the Qualified Foreign Limited Partnership (QFLP) programme. For large overseas asset owners, meeting these requirements is not difficult, but some sectors are just not available to them, the analyst said.

Note: Deal value was disclosed for 354 of 533 announced PE transactions in YTD21; and 361 of 510 announced PE transactions in YTD20; *YTD21 refers to the period from Jan 21 – Sep 21, YTD20 refers to the period from Jan 20 – Sep 20. (Source: EY)

Such rules are part of an unwritten “code of conduct” for private equity firms, which will simply not accept Limited Partners’ (LPs) bids for shares in those sectors, she explained.

“In general, foreign capital is not welcomed in companies that possess exclusive technology in the industry, and are large and mature. On the contrary, overseas investors are encouraged to invest in companies and sectors with high uncertainties and [those that] need mass capital,” she said.

“Uncertain” companies include those in new drug research and development, high-end devices (including for medical use), and precise instruments.

RULES MATTER

Private equity investors are also advised to avoid sectors with existing and ongoing regulation overhauls, such as online platforms and private education.

Investment in electronic cigarette companies, which have been mushrooming in recent years and are popular among investors, are also to be avoided going forward due to regulatory risks, even though concrete regulations have not yet been announced, the mainland-based analyst said.

The consumer sector, despite seeing a strong comeback amid economic recovery, is overcrowded with foreign investors, resulting in valuations that are too high. It has become a tricky area to enter, the analyst added.

This article has been edited to clarify the relationship between Zhao Sheng Law Firm and Linklaters. 

¬ Haymarket Media Limited. All rights reserved.
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