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Blackstone Group LP
Goldman Sachs Group Inc/The
Not that long ago, Blackstone Group (BX), TPG Capital, Goldman Sachs Group (GS), and other foreign buyout specialists had little trouble muscling out local rivals for deals in China. Today, Chinese firms dominate the private equity landscape. Investments by Chinese firms in the world’s second-biggest private equity market rose to $7.8 billion last year, overtaking for the first time the $7.4 billion that came in from U.S. and European funds, according to Asian Venture Capital Journal.
The shift coincides with China’s stepped-up efforts to develop homegrown private equity firms such as Beijing-based Hony Capital. Local firms enjoy privileges over foreign rivals when it comes to regulations and access to funding in yuan, also known as renminbi. “Renminbi fund managers have a huge advantage in terms of speed of execution as well as easier exit opportunities within China,” says Chris Meads, Hong Kong-based global head of investment at Pantheon, a London private equity company that has invested $2.7 billion in Asia. “Deal flow is being diverted to renminbi funds because it’s just easier for them.”
The Chinese government treats local businesses that receive capital in U.S. dollars or other foreign currency as foreign-invested enterprises, which means additional layers of required approvals from regulators, even for actions as routine as opening a retail store. “Many Chinese companies realize taking money from any foreign-currency fund will result in more restrictive scrutiny, and they just can’t stand the red tape,” says Jessie Jin, a Shanghai-based partner at venture capital firm GGV Capital in Menlo Park, Calif.
To counter this challenge, Goldman Sachs announced its first yuan fund in China in May, followed by Morgan Stanley (MS) a week later. In February, TPG Capital, the Fort Worth-based buyout firm, said it raised 4 billion yuan ($630 million) in a first round of fundraising for its renminbi fund, 90 percent coming from private investors in China. “For the global players aiming for a large market share in China, without renminbi funds, you probably feel more or less insufficient,” says Eric Zhang, a Beijing-based managing director at Carlyle Group, which runs a private equity fund with the Beijing municipal government.
Whether renminbi investments by foreign managers get the same regulatory treatment as domestic private equity funds is subject to interpretation by local authorities. China hasn’t formulated nationwide rules governing the private equity industry because there is little cooperation among regulators, including the National Development and Reform Commission, the China Securities Regulatory Commission, and the People’s Bank of China, the central bank. Global funds also have been tripped up by currency-conversion restrictions, GGV’s Jin says. Companies receiving investments in foreign currencies can’t exchange them for yuan all at once. They need separate approvals to convert portions of those funds to pay employees or buy equipment, she says.
Domestic private equity firms have an edge over global rivals because they’re more focused on just one market, says Hony Capital Chief Executive Officer John Zhao, who raised 10 billion yuan last year for the firm’s second renminbi fund, doubling the size of a previous one in 2008. “Our decisions will be quicker” than foreign funds, he says.
Executives from Carlyle and Goldman Sachs counter that big Chinese companies still prefer to deal with well-known foreign investors because of the expertise they provide in listing abroad as well as orchestrating cross-border acquisitions. “To stay competitive, we need a local fund and a local team, but we always have to deliver value on top of capital,” says Stephanie Hui, a Hong Kong-based managing director at Goldman Sachs’s private equity unit.
Despite the increased local competition, executives at global private equity firms say they’re still finding opportunities to invest in transactions that give them managerial control. Buyout deals in China more than doubled last year, to the highest level ever, data compiled by consulting firm Bain show. Leveraged buyouts increased to $7.5 billion, from $5.9 billion in 2010, according to Preqin, a London-based data provider.
While global firms face multiple bidders for good businesses in China, the number of target companies also is rising, says Goldman Sachs’s Hui. “There are still attractive deals for foreign investors in China,” Pantheon’s Meads says. “They have to work a lot harder than they have in the past to get them.”
The bottom line: Since 2008 the number of Chinese private equity firms has almost doubled to 129. Foreign firms face regulatory and funding challenges.