Stricter regulations eliminate unqualified funds, but holes remain

Updated 2017-01-25 10:01:40 Global Times

Reining in private equity

China's private equity (PE) industry had an eventful year in 2016. The industry's regulator tightened the rules for funds, initiating a registration system for PE fund managers. It also required fund managers to pass a national qualification exam to take a job in the industry. The regulations have eliminated many unqualified funds from the market, a change that one fund manager applauded as contributing to the industry's sound development. However, people in the industry pointed out that holes remain in the regulations. One suggested regulators focus on cracking down on illegal fundraising. Despite fluctuations in fund returns, experts forecast the PE industry will grow quickly in 2017.

Since Wang Hua (pseudonym), a private finance lawyer, sent out a message on Friday to a private placement WeChat group about a client's desire to acquire a "shell" company to create a private fundraising organization, about eight firms have contacted him with offers.

Such organizations, which invest in stocks, bonds and real estate and are only open to private investors, are generally known in China as private equity (PE) funds.

"The client is in a hurry to issue PE products, but if he followed proper procedures, it would take more than two months," Wang told the Global Times on Sunday. "Buying a shell PE company will cut the time to about a month, even though it is against the rules."

The price of a shell PE firm runs from 500,000 yuan (,920) to 1 million yuan.

The procedure Wang referred to is the registration of PE firms. In 2016, the Asset Management Association of China (AMAC) strengthened compliance requirements and asked PE funds to put their qualifications on file.

The registration qualification is detailed, according to people in the industry. For example, it requires at least three senior executives at a PE fund to have passed the national qualification exam for private investment fund practitioners, said Qi Mingyang, chairman of asset management firm Fortune Valley Capital Investment Group. "The exam has been a big change to the industry."

In addition, PE funds are supposed to provide a legal advisory paper to the AMAC, Qi told the Global Times on Sunday, noting that the legal fees for such documents add up to 100,000 yuan.

"The sector has been developing too fast, so fund regulators launched stringent measures in 2016 to rein in emerging risks," Qi said.

Fundraising and fraud

As of the end of 2016, there were about 17,400 registered PE organizations on the Chinese mainland, managing 10.24 trillion yuan in assets, double the amount of 2015, according to AMAC data. The amount has surpassed that of public offered funds.

Since the rules got stricter, however, the number of people in the business has plunged. As of the end of 2016, there were 272,000 professionals involved in the business, down 30.24 percent from the previous year, the data showed.

About 12,000 PE funds were stuck from AMAC's records in 2016, including 1,015 funds whose operations appeared "abnormal." Among those, 26 have "lost contact," including Shanghai Zexi Investment. Zexi's chairman, Xu Xiang, who had been the country's top hedge fund manager, was sentenced to five and a half years in prison on Monday for stock market manipulation.

The PE sector has been plagued by illegal fundraising, a practice in which some funds raise money from ordinary people to invest in private funds, Qi said.

Under industry rules, PE funds are not allowed to solicit money from individuals who cannot afford to invest at least 1 million yuan because of the risky nature of the funds.

PE funds have also been involved in online lending, including peer to peer (P2P) platforms, which have been plagued by default scandals, said Chen Guodong, co-founder of Matrix Partners Capital. In extreme cases, fund managers promised high returns to investors, only to then disappear in an apparent "Ponzi scheme."

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