The General Office of the National Development and Reform Commission (the “NDRC
”) issued a Notice on Promoting the Disciplined Development of Equity Investment Enterprises
(the “NDRC Notice
”) on November 23, 2011, which (i) requires all equity investment enterprises ( “PE Funds”) in China to record with the NDRC or local recordal administration authorities, and (ii) sets out certain new guidelines on fund raising for, and the operation of, PE Funds, including the adoption of a 'look-through' principle in determining whether the legal limit on number of investors in a PE Fund is violated and whether its ultimate investors are qualified investors.
Prior to the issuance of this NDRC Notice, the NDRC had issued the Notice on Further Regulation of the Development and Recordal Administration of Equity Investment Enterprises in Pilot Areas
(the “NDRC Pilot Notice
”) on January 31, 2011. The NDRC Pilot Notice provided for certain guidelines on fund raising for, and the operation of, PE Funds in certain pilot areas (e.g. Beijing Zhongguancun Science and Technology Park, Tianjin Binhai New Area, etc.) and required PE Funds established in those pilot areas to record with NDRC but exempted certain PE Funds (e.g. PE Funds with commitments of less than RMB500 million) from such recordal requirement. O’Melveny & Myers previously prepared a translation of the NDRC Pilot Notice, which is available here
The NDRC Notice adopts most of the guidelines and provisions in the NDRC Pilot Notice (including the disclosure provisions under which the PE Funds shall submit the annual audited financial reports as well as on-time reports on major events in their operations to the NDRC or competent local recordal administration authorities) but also adds some new rules, which include, among others, the following:
1) Expansion of the Recordal Requirements to all PE Funds Nationwide
The NDRC Notice requires all PE Funds in China, regardless of their size, to record with the NDRC or local recordal administration authorities designated by provincial governments within one month after the completion of the registration with the Administration of Industry and Commerce. If aggregate commitments to a PE Fund reach RMB500 million, the recordal is to be made with the NDRC; if the total commitments are below RMB500 million, the recordal is to be made with the local recordal administration authorities. PE Funds set up before the issuance of the NDRC Notice are required to record within three months after the issuance. The NDRC Notice retains exemptions for two types of PE Funds exempted under the NDRC Pilot Notice: (i) a PE Fund which has been recorded as a venture capital investment enterprise, and (ii) a PE Fund which is fully invested and established by a single institution or a single natural person, or by two or more investors who are wholly-owned subsidiaries of the same institution.
2) Fund Raising Limited to Qualified Investors
The NDRC Pilot Notice provides that PE Funds may only fund raise from specific investors who are capable of identifying and tolerating risks involved in investing in PE Funds. The NDRC Notice further provides that such specific investors shall be qualified investors.
3) 'Look-through' Principle
PE Funds are subject to legal requirements as to the maximum number of investors they may have. The NDRC Notice provides that where an investor is a pooled fund trust, a partnership enterprise or other non-legal person institution, a 'look-through' principle will be applied to check whether the ultimate natural persons or legal person institutions investing through such entities are qualified investors, and to calculate the number of investors. Investors which are equity investment fund of funds are excluded from this 'look-through' principle.
4) Qualification Requirements for Senior Managers
The NDRC Notice requires that (i) all senior managers of PE Funds and their commissioned management institutions have no record of violation of law in the past five years or pending major economic dispute litigation; and (ii) there should be at least three senior managers with more than two years experience in equity investments or related businesses.
The issuance of the NDRC Notice shows the increased involvement of the government in regulating the PE Fund industry. It is still too early to analyze how this NDRC Notice would affect the market. However, general partners may want to re-consider how they do fund raising and how to structure their PE Funds to comply with the NDRC Notice. O’Melveny & Myers fund lawyers would be happy to discuss the NRC Notice with any of our clients in more detail.