Chinese private equity managers, facing waning interest from US and European investors, are increasingly engaging with Middle Eastern sovereign wealth funds (SWFs) to secure funding.
Despite this shift, they must carefully balance the integration of diverse legal frameworks and maintain delicate international relations, as Middle Eastern SWFs stand at a critical juncture in their investment strategies towards China.
Up until recently these funds had, in general, limited boots-on-the-ground in China and mainly invested as limited partners (LPs) in blind pool funds or single purpose funds by locally active general partners (GPs).
Now, many Middle Eastern asset owners have established offices in Beijing, Shanghai and/or Hong Kong, hired teams of locally based investment professionals and are shifting toward doing direct investments, according to Marcia Ellis, partner and global co-chair of private equity practice at law firm Morrison Foerster.
“We will see in the next year or so if they are able to achieve an appropriate balance between centralised control in the Middle East and allowing locally based investment professionals some level of decision making authority,” Ellis, based in Hong Kong, told AsianInvestor.
Achieving an appropriate balance should allow these SWFs to reduce the amount of time it takes them to decide on a particular investment and to have a deeper understanding of the China market, which will only happen when they have some level of trust for the local teams they have hired, she elaborated.
Middle Eastern sovereign wealth funds have considerably increased their level of investments in Greater China – from $100 million in 2022 to $2.3 billion in 2023, Ellis said.
The increasing push from Middle Eastern SWFs comes as Chinese GPs see a need to raise new sources of capital due to a setback in Western LPs’ interest combined with a sluggish economy and forecast.
“Almost every GP I know in China has now been at least once - if not several times - to the Middle East, just desperately looking for money,” Lorna Xin Chen, Asia regional managing partner and head of Greater China at law firm Shearman & Sterling, said at the Asia Private Equity Forum hosted by Hong Kong Venture Capital and Private Equity Association on January 26.
Focusing on private equity and venture capital, Chen represents both GPs as well as LPs like SWFs, family offices and national banks.
Shearman & Sterling
She pointed out that despite the need for raising new capital, the situation hasn’t given new and persistent LPs any significant advantage in relations with GPs.
“You would have thought that the LPs would have a lot more leverage than before, but surprisingly some of the big players, the top tier GPs, have not given up on their terms,” Chen said.
Because many of these GPS are now in fund five or six in a series, it is very hard to change from all the terms that have been negotiated with all existing LPs over the past few funds, she explained. That would change the whole structure and the fundamental terms of future funds.
“Also, surprisingly some of the largest LPs are lenient about it. They want to give the GPs some breathing room to really survive and plow through the difficult times," Chen said.
"All law firms in this market have a secret list of must-have-demands in place with our LP clients, but without touching those must-haves I find my clients pretty considerate."
Chen pointed out that from the GP/LP relationship perspective with private equity investments in China, data privacy has developed over the past few years as the biggest and trickiest point to think about.
On the China side the managers will ask why they should care about EU and US law in terms of sanctions – or why the LPs would care whom the managers do business and what investments they make, she said.
“But then we must try to bridge the gap and say it is because your LPs have US links and are subject to US law. That communication occupies a lot of our time. It is both unsurprising due to the increased issues and surprising because we are working with sophisticated managers,” Chen said.
She believes that this issue is going to stay for the next few years in terms of LP/GP communication.
“All the players in the market are international so we try to be neutral because we are more focused on business and continuing operations. But when it comes to black letter law, we try to bridge the gap and flag that when are in the international market we need to be mindful not to trip over anything,” Chen said.