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Technology funds backed in Beijing, with nearly $ 900 billion managed, are struggling to meet their profit targets, according to executives who say their capital is trapped in companies that cannot launch initial public offerings and are unattractive. for investors.
“Traditional private equity fund exit strategies don’t work well for us,” an executive at Zhongyuan Science Innovation Venture Capital, a state-backed investment fund in central Henan Province, told the Financial Times.
“Our investment decisions have more to do with policy considerations than with market principles,” added the executive, who asked not to be appointed.
Since its inception in 2015, ZSI, which has invested in more than a dozen emerging companies in one of China’s poorest provinces, has been unable to unload stakes in two-thirds of the companies in its portfolio.
These range from agricultural machinery manufacturers to social media sites, many of which barely make it to the end. As a result, ZSI is unlikely to meet the six-year divestment deadline in December.
ZSI is just one of thousands of Chinese government guidance funds, or GGFs, that may not be able to liquidate their investments on time. GGFs, which operate similarly to private equity funds, represent one of Beijing’s most significant efforts to foster its own innovations as a rivalry between the US and China. tight the amount of Western technology available to the world’s second largest economy.
However, the initiative has been scrutinized as policy-based investment strategies and market-based performance targets conflict.
“There will be a real calculation of government guidance funds,” said Andrew Collier, managing director of Orient Capital Research in Hong Kong.
Although Chinese GGFs emerged in the early 2000s, they did not take off until 2014, when the state council announced plans to aggressively expand the industry to address it. financing of technological start-ups scarcity.
The initiative was intended to replace direct government subsidies, which Beijing began to reduce in the mid-2010s, when the practice was pressured to be inefficient and harm fair competition.
This led to an increase in FPGs, whose capital came from central and local tax budgets. Chinese provinces and cities hoped that investment vehicles could build industry champions.
At the end of March, China had 1,877 GGFs managing a total of $ 5.7 billion ($ 892 billion), according to Zero2IPO, a Beijing-based consultancy. A decade earlier, there were 71 funds with Rmb83bn under management.
“GGFs are one of the largest and most active players in China’s private equity industry,” said Li Lei, an executive at a Beijing-based GGF. “No one can compete with government resources.”
The investment boom gave life to some local businesses. Nio, an electric vehicle manufacturer that once fought, had a change of fortune afterwards receiving an investment of Rmb7bn last April of three GGF. Shares of the New York-listed automobile company have grown more than tenfold since the firm reported a jump in sales.
Success bet on Nio, however, numerous failures followed. Public records show that Chinese GGFs have charged less than a quarter of the portfolio companies that had received financing for more than six years. This has put many funds, which are nearing the end of their life cycle, under stress as they struggle to execute their exit strategies on time.
As with PE funds, most GGFs are structured in a fixed term so that their capital can be reallocated to new investments.
“I can’t think of a quick fix to the problem given our flawed business model,” said Li, who faces a December deadline to deviate from seven companies.
Poor investment decisions are partly to blame for the delay in exit. Most GGFs, especially those funded by local governments, face geographical and industrial constraints on where they can allocate their funds. These requirements are motivated more by political priorities than by business logic and have led to numerous low-yield investments.
He told him that his fund, backed by the Beijing municipal government, is mandated to invest at least 70% of its money in specialized chemical companies and advanced manufacturing companies in the capital, where these industries are underdeveloped.
“We had to buy unqualified companies to meet the quota,” Li said. “This affected the results of the investment.”
To improve performance, many GGFs have changed their business-driven investment strategy to focus on established companies seeking IPO, the traditional exit channel for private equity funds.
The pivot was affected, however, by Beijing’s decision to do so tighten stock market approvals this year to protect investors. Official data showed that nearly half of the OP applications on the Shanghai and Shenzhen stock exchanges could not continue for the first four months of this year.
“We have given up hope of divesting through IPOs, given regulatory reinforcement,” said Wang Zhi, an investment manager at a GGF based in Zhejiang Province.
With few other options and settlement deadlines approaching, some GGFs have decided to offload their investments with lower-than-expected profits, or even suffer losses. In April, Wang’s fund sold a stake in a local machine tool factory he bought five years ago to make a 20% profit, a low yield by industry standards.
“Our priority is to achieve the goals of the policy and prevent the loss of state assets,” Wang said. “We are not a market-based entity that only cares about return on investment.”
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