One major advantage of having a joint venture in China is quick access to its domestic $1trn mutual fund market, according to Neil Flynn, Shanghai-based associate for data analytics at Z-Ben Advisors.
Flynn spoke during a FundForum Asia webinar on Wednesday, which was organised by UK-based Informa.
“You set up an operation with the domestic partners, who have majority ownership [of the joint venture], and you get direct access to the industry,” he said.
Some of the biggest fund management companies in China are joint ventures, such as ICBC Credit Suisse and CCB Principal Asset Management, he said.
As of end-2016, China’s public mutual fund industry, which includes retail, institutional and high-net-worth investors, stood at around RMB 9trn ($1.3trn), he added.
However, one of the disadvantages of having a joint venture is that the foreign ownership is capped at 49%. “If a foreign manager can only hold a minority stake, it can’t ever be more than a shareholder that collects a dividend payment every quarter.”
However, if collecting dividends is something suitable for the asset manager, then there is no reason to expand its China strategy to launch a 100% owned entity.
In addition, some joint ventures have shown sub-optimal working relationships between both partners, Flynn added.
WFOE structures
With the WFOE, foreign asset managers can set up an onshore presence in China under their own brand name and would have 100% ownership of the entity.
“This is obviously a solution to the joint venture’s lack of control,” Flynn said.
According to him, there are three kinds of WFOEs: the investment advisory (IA) WFOE, the qualified domestic limited partner (QDLP) WFOE, and the investment management (IM) WFOE.
Many asset managers would have the IA type, but its scope is limited. Managers cannot raise or manage capital with this WFOE, and therefore, it is commonly used for institutional client sales or servicing, he said.
The QDLP WFOE is an upgrade from the IA type, as it allows foreign managers to raise capital from domestic investors and channel it into flagship funds overseas, Flynn said, noting that it is typically used by hedge funds. However, fundraising is capped by individual quota assigned to each manager and is most sensitive to Chinese regulations on capital outflows, he said.
“In the past few months, it is no surprise that fundraising has been restricted because it’s become very difficult for domestic investors to invest overseas [due to capital controls],” he said.
IM WFOE preferable
The IM WFOE would be the best of all WFOEs as it allows foreign managers to raise and run domestic capital in China, Flynn said.
Under this structure, foreign asset managers can register with the Asset Management Association of China (AMAC) as a private securities fund manager, which enables them to launch onshore products to investors, as reported.
Unlike joint ventures, which could access the retail, institutional and HNW segments, IM WFOEs can only target the private fund industry, which include HNWIs and institutional investors, according to Flynn.
“[But] it’s actually an incredibly attractive market in its own right,” he said. In the past two years, the private fund industry grew by 200% and reached around $400bn by the end of last year, he added.
There are several asset managers that have an IM WFOE, such as Fidelity, Allianz Global Investors, Neuberger Berman, Vanguard, Aberdeen Asset Management, JP Morgan Asset Management and others.
Fidelity was the first foreign manager to get registered with the AMAC as a private fund management company, having obtained its licence in January, as reported. But under this licence, asset managers are required to launch a product within six months after registration. If not, their license will be suspended.
Managers who are currently holding investment advisory or QDLP WFOEs may convert them into an IM WFOE, according to Flynn, citing Mirae Asset Management as an example, which converted its IA WFOE into an IM type last year.
“Given the large number of global asset managers in China with an IA WFOE, such as Blackrock and Schroders, we expect a lot of conversion in 2017,” he said.
Product selection
When a foreign asset manager does enter the Chinese private fund industry under the WFOE IM, what product should it launch?
Brand name firms well-known outside of China do not necessarily have the same recognition inside China. A company’s reputation and its track record are important prerequisites when entering the domestic mutual fund industry.
Given that Fidelity is the only foreign manager that is about to enter the private fund industry at the moment, Flynn believes that the firm may launch China equity products in the market.
“Fidelity has a very strong active China equity product suite out of Hong Kong, and we wouldn’t be surprised if a similar strategy is launched in the private fund industry,” he said.
“What we believe in, is sticking to what you know would be a safe bet.”
WFOE plus JV
If a firm has both a WFOE and a successful joint venture, the two can co-exist, Flynn said.
“It’s difficult to assume that you’re going give [the joint venture] up, particularly if it’s successful.”
Citing JP Morgan Asset Management as an example, it has both an IM WFOE and a joint venture with China International Fund Management.
“China International has been very helpful to JP Morgan in terms of selling its Mutual Recognition of Funds products in China,” Flynn said.
The JPMorgan Asian Total Return Bond Fund accounts for around 90% of total northbound MRF fund sales, FSA reported earlier.
Flynn also believes that both the WFOE and the joint ventures would complement and not compete with each other as they both cater to different kinds of investors.
