2007: Year One of RMB Private Equity Investment Funds

Author: [Mu Zi]
Source: [Fund Analysis]
Article type: Regular article
Published: 2007-6-22 19:15:29
Column: Expert Perspectives

After more than 20 years of reform and opening up, a large batch of outstanding enterprises has continually emerged. These enterprises have achieved rapid development in their respective industries, becoming the ideal investment targets for RMB-denominated private equity funds. But before the share-structure reform, without a good exit channel, such funds could only remain at the theoretical discussion stage and lacked significant practical operational value.

After the share-structure reform, listed company shares gained a smooth exit channel. Combined with the increasingly market-oriented IPO process, and China's capital market demanding more high-quality listing resources for its extraordinary development — all of these together have created the historical development opportunity for RMB private equity funds. Since the lock-up period for RMB-denominated non-controlling founding shareholders' shares is 12 months versus 36 months for foreign-capital non-controlling founding shareholders, this objectively creates a higher entry barrier for foreign capital. Combined with the government's concerns about foreign acquisitions of "national livelihood" industries, this provides an even more accommodating environment for the development and growth of RMB private equity funds.

Due to previous serious misperceptions in the positioning of the capital market's role, China's capital market hasn't had the best reputation. The tight control over listing quotas turned going public into a marathon of public relations — often consuming enormous financial and human resources with nothing to show for it. This caused many excellent enterprises without major connections to view listing with suspicion, and even develop strong resistance. On the other hand, given the macro environment of China's rapid economic development, enterprises had abundant development opportunities and lacked a sense of urgency. Moreover, many enterprises had developed under the real-economy model, and some private enterprises remained in family-style management modes. For them, becoming a public company through listing presented an enormous conceptual chasm.

But the sustained development of China's real economy has made the major development of a multi-tiered capital market an indispensable link. The foundation of the capital market is the listed companies traded within it. The quality of listed companies is the key to whether the capital market's development rests on a solid foundation. A market whose starting point is tainted with original sin cannot develop normally. Solving listed company quality ultimately requires establishing the principle of market-orientation — allowing all companies meeting listing conditions to choose an appropriate time to list under market-oriented principles. Then through strict supervision and market elimination, firmly delisting companies that no longer meet standards. Only this can ensure the quality of listed companies. The most important prerequisite here is allowing all companies meeting listing conditions to list under market-oriented principles. It can be asserted that this prerequisite is gradually becoming reality — and it is also an indispensable prerequisite for China's capital market to become a global capital market. The establishment of this prerequisite likewise provides the most basic guarantee for the healthy development of RMB private equity funds.

On the other hand, Chinese enterprises at the real economy level have broadly entered development bottlenecks and must combine with the capital market to gain new developmental momentum. Those enterprises without capital market support face increasing risk of being squeezed out, defeated, or acquired by enterprises backed by the capital market's powerful funding. For enterprises still attempting to avoid the capital market, the survival pressure ahead will only intensify. Under such pressure, to be or not to be — this is the foremost question every enterprise must face. Fully leveraging the capital market to grow and strengthen oneself is an unavoidable, inevitable choice for all enterprises meeting listing conditions. It can be asserted that more and more enterprises will tie their fate to the capital market, thereby providing sufficient exploitable resources for RMB private equity funds' development.

For administrators, the major development of a batch of socially credible, well-regulated RMB private equity funds enables the professional, market-oriented, industrialized, and internationalized integration of unlisted resources, providing sufficient high-quality listed companies for the capital market. More importantly, such funds' development allows the capital market's resource allocation function to be more effectively exercised. The resulting M&A funds will play a critical role in the market's ecological balance, with extremely broad development prospects.

On December 28, 2006, the China Banking Regulatory Commission promulgated the new "Measures for the Administration of Collective Capital Trust Plans of Trust Companies," making "collective capital trust plans" an important vehicle for asset management and structured financing in China. The Partnership Enterprise Law, which took effect on June 1, 2007, provides a comprehensive legal framework and legislative safeguard for RMB private equity funds. In other words, after June 2007, the development of RMB private equity funds has become unstoppable. 2007 will surely be recorded in the history of China's capital market development as Year One of RMB private equity investment funds.

Finally, attached below are the basic listing requirements for the Shenzhen SME Board:

Total share capital before issuance no less than 30 million yuan; net assets as a proportion of total assets before issuance no less than 30%; intangible assets as a proportion of net assets before issuance no more than 20% (excluding land use rights, mining rights, and aquaculture rights); consecutive profitability for 3 years before issuance, with cumulative 3-year net profit no less than 30 million yuan, calculated on a lower-of basis after deducting non-recurring gains and losses; cumulative 3-year operating cash flow before issuance no less than 50 million yuan, or cumulative 3-year revenue no less than 300 million yuan.

(Special Senior Advisor to this publication, Mu Zi)