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February 2024
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PE Panorama: China’s new private equity rules look good but face headwinds

Private equity
By Paul Mackintosh   
July 17, 2023

New regulations on private equity in China ought in principle to be a major topic of interest for the asset class. After all, we're talking about a pool of roughly US$2.9 trillion, an ecosystem that is said to be the world's second largest private equity market.

The new regulations, which were announced on July 9 and will come into force on September 1, had been widely anticipated in the industry. They formalise the status of private funds and clarifies the China Securities Regulatory Commission’s authority to regulate the sector. It also eases the relationship between funds and fund-of-fund investors, and lays a basis for project fund and co-investment fund structures.

Official statements around the news emphasised private equity’s advantages for supporting entrepreneurship, economic development and job creation. Industry participants meanwhile welcomed the new regulations as putting the asset class on a more solid footing.

Private equity funds, at least in name, became a fashionable investment fad in China for a while as individual investors ploughed money into speculative investment vehicles. And it’s an interesting quirk in timing that, almost concurrently with the promulgation of the new rules, Chinese President Xi Jinping spoke out about accelerating China’s technological development amid curbs from the US.

In China, for China, the regulations are very likely to be a positive for the industry. However, they don’t look likely to significantly assist outside investors looking to commit to and support Chinese private equity. At best, those outside investors that do manage to get into Chinese funds may gain a slightly higher comfort level.

A Financial Times report in May headlined “Has China become too cosy with private equity?” hints at just one of the problems. State-connected institutions investing in state-connected funds still form an outsize portion of the Chinese asset class. While the FT report was mostly focused on government-connected funds investing offshore, their domestic role can be as much of a headache. If a fund doesn't operate according to market principles, with a rigid attitude towards performance of investees, it might as well just be another state development fund.

Firmer regulation around such areas, drawing clearer boundaries, might ease the participation of foreign, especially US, investors in the Chinese asset class. It’s unlikely in the current climate, but possible. However, no such reforms are in evidence.

Bain & Co. announced in April that private equity investment in the Greater China region plunged 53% year-on-year in 2022 to $62 billion, an eight-year low. The new regulations may help remedy this shortfall. But it’s uncertain how much they can do amid strong prevailing macroeconomic and geopolitical headwinds.