The China Securities Regulatory Commission recently established new guidelines for fund raising and other activities of all private investment funds in China and their managers, covering both substantive and administrative matters. These new guidelines – Interim Rules for the Supervision and Administration of Private Investment Funds (the “Rules”) – are issued pursuant to the Amended PRC Securities Investment Fund Law (the “Securities Fund Law”) and went into effect on August 22, 2014.
“Private investment funds” are defined as investment funds which raise funds from investors by means of non-public offerings within the territory of the People’s Republic of China. Under the Rules, the formation of private investment funds is not subject to any prior regulatory approval. However, all funds and their managers are required to register with the Asset Management Association of China (“AMAC”), an industry organization backed by the China Securities Regulatory Commission (“CSRC”):
- Each fund manager will need to file its business license, articles of association or partnership agreement, list of major shareholders or partners, information regarding senior management, and any other information specified by AMAC.
- After a fund is raised, its manager is obligated to register the fund with AMAC, specifying the type of the fund based on its primary investment focus and filing the relevant articles of association, partnership agreement and offering memorandum, as applicable.
It is not clear, however, whether foreign funds and their offshore managers will be subject to the Rules if such funds raise money from investors in China. These filing requirements seem applicable only to funds that are established in China. However, the definition of “private investment funds” is ambiguous and may be deemed to apply to the fund raising activities of foreign funds.
The Rules set forth specific criteria for “qualified investors”, a concept introduced under the Securities Funds Law. A qualified investor must be sufficiently able to identify and tolerate risk, and invest at lease RMB 1 million in a given fund. In addition, a qualified investor is required to have net assets of at least RMB10 million if it is an institution, or financial assets (including, among other things, cash, securities, interests in trusts and insurance policies) of at least RMB3 million or have an average annual income for the past three years of at least RMB500,000 if it is an individual. Certain investors are deemed qualified investors under the Rules, including pension funds, investment plans duly registered with AMAC, and fund mangers and their employees investing in their own funds.
The Rules expressly prohibit the offering of interests in private funds to any person that is not a qualified investor or to non-specific targets through general advertisement by means of newspapers, radio, television, internet and other public media, or by means of lectures, seminars, workshops, bulletins, leaflets, text messages, WeChat, blogs, emails, or similar communication methods.
The maximum number of qualified investors allowed in a fund will be determined by the form of the investment vehicle (i.e., corporation versus partnership). For instance, the number of qualified investors in a private fund cannot exceed 200 under the Securities Fund Law, and a limited partnership can have no more than 50 partners (49 limited partner investors) under the PRC Partnership Law. Moreover, partnerships or other contractual arrangements formed to pool investors (but excluding pension funds or investment plans registered with AMAC) will be disregarded and looked through to count the number of ultimate investors.
Fund managers are required to evaluate the level of sophistication of potential investors through questionnaires or other means, and to obtain written confirmation from investors as to their status as qualified investors. Guarantees of no loss or minimum gains are not allowed under the Rules.
Disclosure; Record Keeping
Fund managers are required to provide fund investors with material information with respect to the fund and its investment portfolio in accordance with the relevant investor agreement as well as disclosure rules to be adopted by the AMAC. AMAC must be notified of any material event concerning a given fund within 10 business days and receive the audited financial statements of the fund within four months after the end of its fiscal year. Records of investment decisions, transactions and investor suitability should be kept for at least 10 years after the liquidation of a fund.
In addition to administrative matters, the Rules set forth various substantive provisions, including obligations of good faith and fair dealing, both of which are commonly inherent, but often vague, concepts under Chinese legislation. The Rules also include express prohibitions on self dealing. Misconduct and violations by investment professionals will subject them to administrative and potential criminal liabilities, and, in some cases, a professional ban imposed by the CSRC.
The Rules signal CSRC’s increased focus on regulating the financial markets in China. While the Rules set out the basic legal framework for fund formation and operation in China, they also left some key questions unanswered, such as those relating to the activities of foreign funds and the application of substantive provisions to investment professionals. It remains to be seen whether future rulemaking will provide clarity for these and other ambiguities in the Rules.