March 9, 2019 / by Pieter Verstraete

How Chinese Investors Can Invest In Overseas Assets

China’s wealth-management industry is the fastest-growing in the world and had a combined value of USD22 trillion in 2017, up 100 percent from 2012. The market for personal assets for investment is set to grow to USD37 trillion in the next five years. Despite some headwinds during 2018, mainly the US-Sino trade ware, a credit squeeze initiated by the central government and a cooling IPO market, the number of private equity funds in China steadily rose to a total of 75,178.

China’s wealth management market has historically been linked to the sale of high-risk, illiquid products and lax regulatory oversight. In recent years, however, the government has been improving the governance structure and risk management practices. Foreign banks are closely following these developments and ready to increase their presence in the country for onshore private banking services. Banks such as Credit Suisse, Goldman Sachs and UBS will compete on advising wealthy clients in China, where billionaires are created at a faster pace than anyplace else in the world.

China currently has several methods that offers companies to invest in overseas markets. Besides the currently restricted form of Overseas Direct Investment there are other vehicles to invest in overseas assets, including Qualified Domestic Institutional Investor Overseas Investment System, Qualified Domestic Limited Partner and Qualified Domestic Investment Enterprise Overseas Investment System, which is currently piloted in Shenzhen.

Though the Chinese government is limiting the outflow of RMB in the context of its strict foreign exchange policies and limiting the investment scope sectors, we regularly get questions from European private equity funds, family offices are other investors on how to raise capital from China for blind pools. On the other hand we also get almost daily requests from domestic Chinese investors looking for opportunities in Europe.

This article will discuss the abovementioned models, as well as the way how foreign fund and companies can try to get a piece of the pie.

Overseas Direct Investment (ODI)
ODI is the most common and most direct path for Chinese investors to invest in overseas assets. Over the past few decades, China’s attitude towards ODI went through several stages, from “restricted” to “relaxed” to more recently “regulated”. At present, according a notice from the State Administration of Foreign Exchange (SAFE) from July 4, 2014, ODI applications from natural persons will not be accepted and approved.

That means that Chinese citizens aiming to invest abroad first have to setup a company inside China and conduct the overseas investment in the name of the enterprise. Secondly, once having a company they would have to apply to several government departments before being able to make the actual investment. After approval from the Development and Reform Department and the Commerce Department, Chinese companies shall let their bank apply for foreign exchange registration with the SAFE.

Lastly, according the 2018 edition of the Catalogue of Overseas Investment Sensitive Industries, real estate, hotels, cinemas, entertainment and sports related investments will not be approved. These measures were taken after Chinese companies took on huge piles of debt to fuel their overseas investments. Giants Dalian Wanda, HNA Group, Anbang Insurance and Fosun among others went on a shopping spree starting in 2015 buying everything from triple A location office towers and luxury hotels to movie studios in Hollywood and football clubs in Europe. However, since late 2017 they are only making the headlines with debt loaded balance sheets and increasing pressure of loan paybacks and interest payments. The Chinese government’s interference did not end with just promulgating restrictions on overseas investment. It even seized control of Anbang and removed the company’s chairman Wu Xiaohui from his post. Eventually Wu was prosecuted for fraud and embezzlement and ultimately jailed for 18 years and $1.7 billion of his assets confiscated.

Qualified Domestic Institutional Investor Overseas (QDII)
The QDII scheme are domestic fund management companies approved by the China Securities Regulatory Commission (CSRC) to raise funds in China and use some or all of the funds to manage overseas investments.

As of October 30, 2018, the QDII scheme had about 103.2 billion dollars issued to institutions. It increased rapidly throughout 2018, after no new quotas were granted after the domestic stock market crash in 2015. However, early 2018 the SAFE met with banks, insurers, securities firms and other investment firms to discuss new QDII quota. The foreign exchange regulator aims to reform the QDII scheme and invited licensed institutions to seek new quotas.

The recently introduced Greater Bay Area Plan to integrate Guangdong Province with neighbouring Hong Kong and Macau, includes a part that will expand the space for cross-border investment between Hong Kong and mainland residents and institutions, and steadily expand the channels for residents of the two places to invest in each other’s financial products.

The structure looks very similar to the previously announced QDII2 scheme, which has never been implemented. In 2015, the QDII2 programme announced by the CSRC permitted qualified individuals with over RMB1 million of assets in six trial cities to invest in overseas financial assets. The Greater Bay Area Plan seems to include a ‘light’ version of the QDII2 scheme.

It has been said that mainland residents are expected to open accounts through mainland banks, and account holders can directly invest in overseas financial products, including stocks, bonds, gold and foreign currencies. After the investment is completed, the corresponding amounts will be exchanged for RMB, the funds will be extracted from the domestic bank account, and the flow management of the entire cross-border funds will be managed in a closed loop mode.

These details have not yet been confirmed, yet it is not difficult to see the similarities compared with the previous announced QDII2 scheme.

Qualified Domestic Limited Partner (QDLP) and Qualified Domestic Investment Enterprise (QDIE)
QDLP allows foreign banks and hedge funds to raise RMB from qualified investors and invest the proceeds in overseas markets. The approved QDLP-qualified enterprises are mainly concentrated in large-scale professional investment institutions with strong global influence and excellent reputation. Similar to QDII no new quotas were granted between 2015 and 2018. Last year, however, the Chinese government both granted new licenses as well as increased quotas.

Firms that were awarded fresh licenses in 2018, include the investment arms of JPMorgan Chase & Co, Standard Life Aberdeen, Manulife Financial and Allianz. Upon receiving a license, asset managers are required to complete fundraising within six months

The QDLP is very limited in scale and is rarely used as a channel. From a practical point of view, except to the investment scope generally limited to overseas securities investment, QDLP also faces double taxation issues. Also, the complicated process of foreign exchange settlement and approval by SAFE and other departments may cause investors to wait for a long time to complete the redemption process and withdraw funds.

QDIE is currently piloted in Shenzhen. Domestic and foreign investment institutions in Shenzhen may apply to the Shenzhen Joint Conference of Qualified Domestic Investors for Overseas Investment Pilot Work for the “Overseas Investment Fund Management Enterprise” pilot qualification.

The QDIE channel has a very limited quota. A single manager can apply for several projects at the same time, but the total amount cannot exceed $30 million, making it only suitable for small and medium-sized projects. In addition, the institutions that have successfully obtained the pilot qualifications so far are mainly subsidiaries of big domestic financial enterprises and new approvals are currently suspended.

Most feasible route
Based on the above we can conclude that the most viable ways for Chinese to invest in overseas assets are through ODI and the QDII scheme.

Under the ODI path, the Development and Reform Department will not just accept every application for overseas investment. Instead, they will carefully analyze the company that filed the request and screen the company on various items, such as the number of years since it was established, whether it is actually in operation, in which field it is conducting business and whether this is in line with the overseas target company. People that try to outsmart the system by quickly setting up a shell company or use a totally irrelevant business will see a negative result.

If the QDII channel is used, it is recommended to seek cooperation with QDII licensed firms. The licensee will design and package a fund product or asset management plan to withdraw funds. However, this route is subject to the QDII quota limit and needs to be confirmed with the QDII licensee and the SAFE.

About the author
Robert van Aert holds a master degree in law with a major in business law. Having worked in China for over six years, he has extensive experience launching western firms on the Chinese market as well as guiding Chinese investments into Europe in a variety of industries, including Real Estate and High-Tech.

Serval Management & Consulting has over a decade of experience under its belt in managing and consulting successful business mergers, acquisitions and go-to-market strategies. In particular, we help create synergies between European and Chinese firms and projects. Dividing our time between China and Europe, we are equally fluent in the cultures and business traditions of both economic areas, which guarantees your success.

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