Why are foreign financial investors in China in the line of fire?

SASAC vice-chairman warns financial investors of frosty reception.
According to participants at the Enterprise Development Forum in Beijing which finished on Sunday, financial investors may find lucrative projects in China hard to come by in the future.

During the conference, which was organised by the Development and Research Centre, a think-tank attached to the State Council and the Economic Times, Shao Ning, one of four vice-chairmen at SASAC, said that priority would be given to genuine strategic investors who could provide industry and management expertise, rather than just capital.

ôAlthough he did not define it explicitly, the term æfinancial investorÆ was taken to mean foreign private equity companies and the principal investment arms of investment banks,ö says a source in Beijing.

ShaoÆs position is two notches under that of Li Rongrong, the chairman. SASAC is responsible for overseeing key state firms, such as enterprises directly run by the central government, and especially those in strategically sensitive areas.

Investment banks such as Goldman Sachs and Morgan Stanley, as well as government entities such as Temasek, have made large gains from minority stake, pre-IPO investments in a range of Chinese companies.

A slew of measures to consolidate supervision of foreign financial investors were announced at the conference, say participants.

Currently, a sale has to be signed off individually by the central and local offices of SASAC, the Ministry of Finance and the Ministry of Commerce. This is to be changed to a joint decision.

ôSo instead of having three documents with one chop on each, the foreign buyer will need one document with three chops,ö says one specialist, who explained this will improve government supervision of the process and avoid the passing of responsibility.

The sale of state assets to foreigners already features other limitations, such that the final price may not be at a more than 10% discount to the companyÆs net asset value, as set by an approved assessor.

In addition, civil servants running ChinaÆs administrative units have reportedly been told they will no longer be appraised based solely on the GDP growth and foreign investment they engender.

ôGDP growth has now been made only one of five elements on which an official will be judged, which include environmental and poverty alleviation elements,ö says a specialist.

As a result, itÆs likely that local officials will no longer be under pressure to sell off their best assets to foreigners. ôWhat they will try to do from now is to sell off their worst assets to foreigners,ö suggests one observer.

The case of The Carlyle Group, which is currently attempting to buy a majority stake in Xugong was also raised, according to participants at the conference, primarily because of concerns regarding the ties some of its top executives, such as former president George Bush Senior and Frank Carlucci, a former secretary of defence, had with the Central Intelligence Agency.

Carlyle has been in negotiations with the government concerning a majority acquisition in Xugong Construction Machinery Group for $375 million, since 2005. Although Xugong is primarily a manufacturer of construction equipment, other parts of the group reportedly also manufacture components for military tanks, making the transaction very sensitive for the government.

One banker says that although it is clearly unfair, there is a perception in China that foreigners are making too much money in China.

ôPeople are saying (in the case of recent bank IPOs) what did the foreign financial investors bring to the table? They brought their name, and thatÆs about it, and walked off with very large gains,ö says one banker, quoting what he says is a widespread perception in China.

But foreign financial investors point to their skills in setting strategic goals and mile posts for a company; helping out with financial and management expertise; and introducing their portfolio companies to each other as evidence of the added value they bring to their projects.

Indeed, through their investments and underwriting top foreign investment banks have added vital cachet to Chinese banks, which not so long ago were considered very dangerous for investors.

With respect to traditional private equity, few buy-outs have been completed, making claims of massive returns hard to digest.

Even China's first leveraged buyout û Warburg PincusÆ successful majority acquisition of the holding company of Harbin Pharmaceutical alongside a local partner in 2005 û faced its share of problems.

Action on further foreign financial investment will not require any changes in law, say specialists. "It will still be theoretically possible for foreign financial investors to buy assets in China. In practice, the government will simply not approve the process,ö says a source who attended the conference.

Another specialist says itÆs not all as simple as economic nationalism or envy - and that deals could even resume. ôThe administration of President Hu Jintao and Premier Wen Jiabao wants to show investors that the favours they earned under (former President) Jiang Zemin and his æShanghai GangÆ donÆt count any longer. The foreign investors need to build up relationships with the new people in charge,ö he says.
¬ Haymarket Media Limited. All rights reserved.