Few nations pose as big a challenge for global asset management companies as China. The country may have one of the fastest-growing pools of savings in the world, but tapping into those funds is easier said than done.
Peter Alexander knows these challenges well. As founder of Z-Ben Advisors, the Shanghai-based fund consultancy, he has been helping foreign groups navigate China since 2004, back when the country had only just started to open up to international fund houses.
Since then, the Chinese fund industry has grown from Rmb295bn ($35bn) in assets under management to Rmb2.11tn ($336bn). Dozens of foreign groups have set up operations on the mainland over the past decade, with mixed success.
A major source of frustration for foreign groups is that Chinese regulations prevent them from owning more than a minority stake in their asset management joint ventures, so they must cede control to their local partner.
“Everybody I talk to says these JVs have been miserable failures, or the foreigner’s been pushed out or they have no control,” says Mr Alexander.
“I have to stop them and say, first of all, define failure. If you’re looking at it from an economic standpoint, they’re almost all profitable, all but a couple. And with regards to control, unfortunately that’s what’s going to happen when you only have 49 per cent.”
Mr Alexander reckons joint ventures are still an attractive business model for foreign asset managers who want to build a business on the mainland – as long as the foreigners are prepared to accept the inherent limitations and can build a rapport with the Chinese partner.
“When you come in all guns blazing, you’re going to shoot yourself,” he says.
Already, at least one of the 38 foreign groups with a mainland joint venture is heading for the exit. In recent months, according to market reports, Belgian financial group KBC has been seeking buyers for its 49 per cent stake in KBC Goldstate, one of China’s least successful fund management companies. Mr Alexander expects several other beleaguered European financial groups will seek to raise capital in the coming year by selling their stakes in Chinese JVs, which have become increasingly valuable.
For example, last year, Z-Ben helped Power Corporation of Canada, the Montreal-based conglomerate, acquire a 10 per cent stake in China Asset Management Co, the largest asset manager in China, for $270m. That price valued China AMC at about 8 per cent of its assets under management. By contrast, asset management groups in the west typically sell for between 1 and 3 per cent of AUM.
As China continues to liberalise its financial markets, Mr Alexander is extremely confident about the future of foreign fund groups in the country. Anticipating strong demand, Z-Ben doubled its headcount over the past 14 months and expanded its business model. As well as selling research reports for $25,000 per year, the company has started to offer bespoke advice and commercial due diligence services for 10 times that amount.
While some fund executives have “sniggered” at the prospect of paying $250,000 for consultancy services in China while their global operations are under pressure to slash costs, Mr Alexander says a handful of groups have already signed up.
“Our argument is that it’s very difficult to find a single individual with even a basic knowledge of China for that cost per year,” he says.
Many foreign groups are still using “antiquated” strategies to navigate the complex mainland market, Mr Alexander says. “We’ve realised from the work we’ve done that very few companies actually have a China strategy. They say they do, but if you really delve deep and ask them questions, their China strategy is very similar to the strategy they followed back in 2006/2007.”
For foreign groups that want to secure mandates from China’s pension and sovereign wealth funds, a growing force in international markets, Mr Alexander says it may no longer be enough to simply have a representative office in Beijing or an outpost in Hong Kong.
“The more platforms, or access points, you have in place, the more opportunity you’re giving yourself,“ he says. With this in mind, Mr Alexander is urging clients to consider setting up wholly foreign-owned enterprises (WFOE), pronounced woofies.
Under Chinese regulations, foreign groups that want to set up a WFOE must apply for a business licence from the State Administration For Industry and Commerce. As part of the application, they must choose their intended “scope of business” from a government catalogue, with one option being “investment advisory”.
While the permitted activities of an investment advisory WFOE are a regulatory “grey area”, Mr Alexander believes that setting them up now is a good idea because “the WFOE platform will have immense positional value three years from now”.
“We believe that you could theoretically have your own 100 per cent owned investment advisory, where you could advise on a portfolio of assets. Not manage them, but you could advise,” says Mr Alexander.
Indeed, perhaps the biggest challenge facing foreign groups at the moment, he says, is understanding how to take advantage of ambiguity in Chinese regulation, since there is a often a large grey area between what is legally permitted and what is not explicitly banned.
Regulatory uncertainty spans a range of areas, from operating trust companies to the use of QFII investment quotas by qualified foreign institutional investors. But Mr Alexander is convinced that international fund executives would be making a big mistake if they used uncertainty as an excuse for inaction.
“When operating in China there is no doubt there are risks, and significant risks at that,” says Mr Alexander. “What I think has happened over the last couple of years is that people are forgetting to ask themselves whether or not the expected return of that business compensates for the risks that are being taken, which is ironically what asset management is all about.”
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