Modifications in the Securities Investment Funds Law of the People’s Republic of China, recently passed by China and expected to go into effect June 1, have excluded private equity funds from the law’s coverage, according to a Fangda Partners’ legal brief.
Private equity funds in China are currently regulated by the National Development and Reform Commission, but they would have fallen under the purview of the China Securities Regulatory Commission if caught by the law.
Specifically, the law applies only to “securities investment activities” and those funds established “for the purpose of making securities investments”. Securities activities only refer to investments in the public sphere, including investments in public companies, bonds, and buying debt securities and derivatives, according to Zhen Chen, fund formation associate at Fangda.
There’s been quite a bit of illegal fundraising in China, and that’s what the regulators want to catch
Funds that fall under the law have to go through a registration process. Most private equity funds in China focus on non-public investments, Chen said, and thus are not regulated by this law.
However, a securities investment will be regulated regardless of who the investor is. “If [a private equity fund] is doing a routine PIPE deal, that will fall into the scope of this law,” she said.
In addition, the law has left some “flexibility” in its language, Chen added. It is possible that the China Securities and Regulatory Commission, to which the New Funds Law has delegated the right of interpretation of “securities”, will broaden the scope of the law to include private equity. In fact, Chen thinks it is likely that they will.
“The people who originally drafted the law wanted to include private equity,” Chen said. She speculates that the objections of a few other government agencies might have prevented them from doing so in this instance, but it doesn’t preclude them from trying again.
Boss & Young partner Hubert Tse added that the lack of clear regulation only leads to more uncertainties and risks for private equity funds. The government has indicated regulations for private equity will come in the near future and in the long run he thinks China will have to nationalise its private equity legislation.
“There’s been quite a bit of illegal fundraising in China, and that’s what the regulators want to catch,” Tse said.
In the meantime, Fangda's Chen believes that private equity funds will be more cautious in their PIPE deals. Some of Chen’s private equity clients have decided to jump the gun and register their funds under this law anyway, even though they are not required to.
“It doesn’t hurt to build up connections” in government ministries in China, Chen says, especially with an entity like the CSRC that “has teeth”.