One of the main restrictions on private equity in China is being removed in Shanghai. Foreign private equity investors will be able to form limited partnership RMB funds, and qualified foreign limited partners ("QFLP") will be able to invest with RMB converted from foreign currency.

The Implementing Measures on Pilot Program of Foreign-invested Equity Investment Enterprises (the "2011 Measures"), formulated by three branches of the Shanghai government and effective from 23 January 2011, are summarised and discussed below.

Previously, foreign investment has been forced into partnering with a domestic joint-venture partner because SAFE will not approve conversion of foreign currency into RMB for investment purposes (except for investment companies or FIVCEs).

The 2011 Measures deal with two types of entity:

  • first, foreign invested equity investment fund management enterprises ("Fund Management Entity"); and
  • second, foreign invested equity investment enterprises ("Equity Investment Fund").

The 2011 Measures provides that some of these entities (appearing to be those special types of institutional investors, e.g. banks, insurers, pension funds, etc) can apply for "pilot" status, and can then take advantage of the new measures, as discussed in section 4 below.

Fund management enterprises existed already in Shanghai, under special regulations issued in Pudong in June 2009. The 2011 Measures copy the bulk of the 2009 set of rules, although they adjust some of the pre-requisites. More importantly, they allow Fund Management Enterprises to be set up as partnerships.

Presumably, the 2011 Measures will supersede the 2009 Pudong rules.

  • Funds may use their own money, including foreign currency, for portfolio investment in the PRC.
  • The 2011 Measures, however, do not provide any details relating to the actual formation and registration of a partnership sponsored and established by a Fund Management Entity.
  • The 2011 Measures require that each Fund must engage a "qualified" custodian bank in China to manage its fund.  It is, however, unclear what kind of banks may qualify as custodian banks for this purpose, especially whether foreign invested banks are qualified, and what rules may be adopted or applied for managing the Fund's money.
  • A Fund Management Entity that has obtained the pilot qualification is permitted to convert its foreign currency into RMB for investment in an RMB fund; provided that the amount so converted does not exceed 5% of the aggregate capital commitments of the RMB fund. Such investment would not change the nature of the fund.

1. Fund Management Entity

The 2011 Measures provide that a Fund Management Entity can be either a partnership or a company, and may do the following:

(a) establish Funds;

(b) manage the investments of Funds and provide services; and

(c) provide equity investment consultancy, and other approved business.

In the case of a partnership, it will be a QFLP participated fund management entity. The last two were allowed under the 2009 Pudong rules, but the key development under the 2011 Measures is that they will be allowed to establish Funds.

Conditions for formation

Although the 2011 Measures do not state it clearly, it seems a foreign investor is still required to form a Fund Management Enterprise in Shanghai to raise funds.

To form a Fund Management Entity, the conditions are:

(a) at least one of the investors, or an affiliate controlled by or controlling that investor, must have equity investment or management of equity investment as its business scope;

(b) two of the senior management should have the requisite qualifications, including but not limited to: five years experience in equity investment or equity investment management, including two years in senior management, as well as China related banking and finance work experience, and they should not have been involved in economic disputes over the preceding five years; and

(c) subscribed capital must be at least USD2 million, in cash, with 20% to be paid in within 3 months after issuance of business license and the rest to be paid in within two years.

If the Fund Management Entity takes the form of a company, Shanghai local MOFCOM approval is required. According to the 2011 Measures, this will take around 30 working days after required documentation is submitted. Following that, Shanghai AIC registration, a routine procedure, is required and is supposed to take around one to two weeks.

If the Equity Investment Fund Management Entity is formed as a partnership, only Shanghai AIC registration is required. This will take at least around 15 working days, according to the 2011 Measures.

2. Fund

Capacity and conditions for formation

A Fund may use its own capital to conduct equity investment, to provide management consultancy, and other approved business.

It appears that the Fund is assumed to be a partnership, and the 2011 Measures only discuss procedures to set up a Fund as a partnership. It is unclear and not specified under the 2011 Measures whether there will be special conditions, or restrictions, for a QFLP to directly participate in the formation of a QFLP Equity Investment Fund.

The Fund must have the following:

(a) the words "equity investment fund" in its registered name;

(b) subscribed capital of at least USD15 million, totally contributed in cash;

(c) partners who invest in its own names; and

(d) each limited partner to subscribe to at least USD1 million.

Capital used by the investor, eg. a Fund Management Entity, to contribute into the Fund could be either convertible foreign currency, RMB profits obtained within China or RMB sums gained through equity transfer or liquidation.

The formation of a Fund requires a registration procedure with Shanghai municipal AIC. It will take at least around 25 working days, as per the 2011 Measures.

Funds' investment restrictions

When making a portfolio investment, a Fund set up under the 2011 Measures is required to follow the foreign investment laws and regulations in China. The 2011 Measures specifically provide that a Fund is prohibited from:

  • investing in foreign-restricted sectors in China;
  • investing on a stock or corporate bond exchange in the secondary market (except when its invested company is listed);
  • investing in futures or other financial derivatives;
  • making investments directly or indirectly in non-self used real estate;
  • not using its own capital to make investments; or
  • providing loans or guaranties.

In addition, it is unclear whether there will be any particular conditions or procedures for a Fund established in Shanghai to invest outside Shanghai, and what the other local government authorities' attitudes will be.

3. Special regulatory bodies

For the formation of either a Fund Management Entity or a Fund, approval is needed from the Shanghai Municipal Financial Affairs Office (the "Finance Office"), a department within the Shanghai local government, which will receive information/documents from Shanghai local MOFCOM or Shanghai AIC, as applicable.

On top of these authorities, the 2011 Measures set out a Foreign Invested Equity Investment Enterprise Pilot Programs Joint Commission (the "Joint Commission") (participants include the Finance Office, Shanghai local MOFCOM, Shanghai municipal AIC, Shanghai Municipal Development and Reform Commission, Tax Bureau, and other related regulatory bodies). The Joint Commission is required to work on the relevant pilot programs, and any problems arising from the programs should be addressed to it.

4. Pilot Fund Management Entities and Pilot Funds

The 2011 Measures also regulate the establishment of "pilot QFLP Funds" or "pilot" funds or Fund Management Entities to be invested by foreign institutional investors, particularly, sovereignty funds, pension funds, charity funds, fund of funds, insurance companies, banks and securities firms.

Pilot Fund Management Entities and pilot Funds have the following features:

(a) They will be selected from established QFLP Fund Management Entities,

(b) Most of the pilot Fund Management Entities will be invested by particular types of institutional private equity investors abroad, such as banks, insurers and pension funds, etc. The 2011 Measures require higher level approval (approval from the Joint Commission, on top of the AIC or the Finance Office and/or the BOC), and so the application may be more complicated.

Pilot Fund Management Entities may use their own foreign exchange, besides the registered capital contributed into established Funds, to invest into any of the Funds that they establish ("Additional Discretionary Investments"). These Additional Discretionary Investments are subject to a 5% carve-out treatment, i.e. such investments are capped at 5% of the invested Funds' sizes for each case. The 2011 Measures do not affect the "original nature" of such invested funds.  No further interpretation of this is available, but many commentators have suggested that this may allow domestic funds to avoid being categorised as foreign-invested. 

In addition, as mentioned above, if the Funds' investments are made Shanghai, it is questionable whether the relevant approval authorities in that city will recognise the exceptional treatment granted by the Shanghai authorities.

In application for a pilot Fund Management Entity and/or pilot Fund, the investor must have, among other qualifications:

(a) held, in the preceding fiscal year, assets of no less than USD500 million or managed assets of no less than USD1 billion; and

(b) no less than five years relevant investment experience, or its affiliate must have such experience.


The 2011 Measures represent an important step forward and an opportunity for private equity. It is now the turn not of law firms and regulators, but of fund managers, private equity practitioners and investment banks to work out how the new rules work and to observe and comment on their implementation.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.