July 26th, 2007 | Caijing China’s Unique Cash Pool for Building Africa
Combining market principles with a desire to promote progress in Africa, the Beijing government’s China Development Bank has patterned its huge China-Africa Development Fund after private equity funds.
By staff reporter Zhang Yuzhe
China’s recent US＄ 3 billion injection into the U.S. private equity firm Blackstone Group may have attracted more media attention, but the Beijing government also turned heads by creating a huge, PE hybrid designed to accelerate development in Africa.
The China-Africa Development Fund was launched in June with an initial US＄ 1 billion and a goal of expanding the pool to US＄ 5 billion. Sponsored by the state but targeting private enterprise, the fund was formed with a unique structure that blends the practices of global PE firms and China’s industrial development funds.
At the helm is Beijing’s policymaking China Development Bank (CDB), which forecasts a 50-year lifespan for what’s being called the world’s largest, single fund aimed at African development.
But fund managers are not seeking purely capital returns. Building on CDB’s previous experience with six industrial funds, the China-Africa fund will continue the bank’s development model by combining commercial interests with political and economic needs.
Gao Jian, chairman of the new China-Africa Development Fund Co. and vice president of CDB, told Caijing that “profits are not the fund’s first priority. The China-Africa Fund first seeks to advance economic, political, and societal development.
“At the same time, this is an independently managed fund operating on market principles and incurring a certain degree of risk,” Gao said. “If managed appropriately, the fund could realize significant gains.”
Gao’s confidence is backed by CDB’s previous investments. In recent years, the CDB has created a development lending model which, in terms of loans for basic construction, has exceeded those of commercial banks. Although CDB’s industrial fund has had extensive policy implications, it has provided valuable opportunities to accumulate experience and resources.
However, an expert familiar with CDB’s model added a word of caution.
“Governments can utilize the market to invest in any industry or area, but should adhere to market principles as closely as possible so as not to disturb the laws of resource allocation and commercial principles,” the expert said. “CDB’s model functions well in a transition period, but can’t be copied easily.”
Before launching the China-Africa Fund, CDB invested in five funds including four international pools and the Bohai Industrial Investment Fund, founded last year. Unlike western PE firms, the bank keeps its hands on the funds’ investments. As an investor itself, CDB has undergone regular evaluations of its loan projects while gaining experience in managing industrial funds.
Chi Jianxin, president of the China-Africa Fund, said CDB learned to develop its own programs and make investment recommendations by participating in private equity funds. CDB’s Investments Bureau would analyze recommended projects from each branch and recommend the most promising programs to fund managers.
Meanwhile, CDB denied itself controlling stakes.
“In general, shares from a single investment will not exceed 40 percent of a given enterprise’s total equity,” Chi said.
He gave the example of one fund – a Sino-Swiss industrial fund — in which no single investor’s stake can exceed 33 percent. Why? “Controlling shares would increase management costs. Instead, we only invest in firms with the most capable management teams,” Chi said.
The new fund’s management structure also stands out. While CDB’s other funds operate separately from their management companies, the China-Africa Development Fund Co. puts fund and management operations under one roof.
The scale of the new investment set a record. CDB will provide the initial US＄ 1 billion in full, and China Everbright Bank will be custodian. CDB has assured potential participants that the first round of capital is available and ready at any time. Outlays are expected over the next three years.
The second round of capital is expected to boost the fund to US ＄3 billion. A proposed final round would raise the stakes to US ＄5 billion.
The focus of the fund’s investments is above initial industry expectations. “The China-Africa Fund is not allocated by country but collaborates with preexisting projects and enterprises,” Gao said. “Regardless of ownership or size, we will give our support where the fund sees need.”
Gao said investments would be aimed at providing capital for Chinese enterprises operating in development, investment, economic and trade activities in Africa. Investments would also be made in companies providing consulting services and to win local support for policies.
But an established rule will apply: The fund will not take a controlling stake in any project.
Furthermore, equity investments can be made in accord with Chinese policy and the laws of host countries including, but not limited to, preferred stocks, mixed capital tools and convertible bonds. Additionally, the China-Africa fund can allocate an appropriate portion of capital to other African funds.
“The investment size for the China-Africa Fund spans a wide range — US＄ 100 million for the largest and a few million for the smallest, placing even greater requirements on management proficiency,” Chi said. “An enterprise’s stage of development does not affect the fund’s ability to invest.”
The fund can choose to invest in startups or mature enterprises. “We don’t have strict requirements for a business to show several years of profitability before investment,” he said. “A firm’s future prospects are more important.”
Unlike previous funds involving CDB, the China-Africa Fund is completely funded by CDB and dedicated solely to supporting the African investments of Chinese companies.
“The China-Africa Fund is registered in Beijing, and can thus better represent China and embody China’s support of Africa,” Chi said. Among other CDB funds, the ASEAN Development Fund is based in the Cayman Islands, Sino-Swiss is in Beijing, and the Mandarin Fund in Luxembourg.
The fund has a supervisory board and a board of directors, which is composed of boards for investment decisions and risk management, as well as a steering committee for setting policy with members from CDB, Ministry of Commerce, Ministry of Foreign Affairs, and National Development and Reform Commission.
“The steering committee only provides policy assistance and will not interfere with the fund’s normal operations,” Chi said.
So far, the China-Africa fund has signed letters of intent with six Chinese companies. “We hope to make substantial investments by the end of this year,” said Chi.
The market is ripe. In 2006, trade between China and Africa reached US＄ 55.5 billion, making China the continent’s third largest trading partner. Investment coming from Chinese enterprises, especially privately owned enterprises, has rapidly increased in recent years. According to the Export-Import Bank of China, only 100 of the more than 800 Chinese enterprises operating in Africa in 2006 were medium or large state-owned enterprises; the rest were private firms.
And support for the fund comes from the very top. The proposal was first advanced by President Hu Jintao 2006 at the China-Africa Summit Forum as one of his “Eight Actions for Africa.” Even though the China-Africa Fund operates according to market principles, it is different from purely private funds.
Gao drew a distinction between the fund and international assistance, saying aid programs usually only invest in a few projects and shoulder no risks. The new fund would neither focus on resources in Africa nor increase those nations’ debts.
’Profiting from investments is not the fund’s main aim,” Gao said. “The goal is integrating the Chinese and African economies in a way that is mutually beneficial to both countries.
’For instance, in recent years, Chinese companies had excess production capacity and started to climb the value chain, whereas African companies in the development stage had a hard time producing enough consumer goods.”
The fund’s main purpose will be assisting in the recovery and development of African economies. One goal is to invest in projects to improve people’s lives, another is to invest in basic infrastructure — housing, city infrastructure, water conservation, irrigation projects, and industrial zones.
“We will synthesize the relationship between risk and reward, improve companies’ administrative structures, and gradually improve the level and efficiency of operations,” said Gao. The CDB also plans to appoint professional teams to handle management operations and risk control.
Gao told Caijing that, in the past two years, the CDB has provided traditional loans as part of China’s outreach program to encourage Chinese companies to invest overseas. While these loans were small, totaling less than US＄ 1 billion, they gave the bank invaluable experience.
Reportedly, CDB is currently tracking 50 projects in Africa involving more than US ＄2 billion. Gao emphasized that CDB’s outreach work could be beneficial to the China-Africa Fund as well. For example, some projects previously handled by traditional loans from the CDB might need additional equity funding that could be provided by the fund. Conversely, some projects could also benefit from CDB’s loans.
“Adhering to national policy and economic goals is of greater importance than commercial benefit,” Gao said. “We have to be aware of international norms while satisfying domestic interests. We have to be aware of political and economic requirements, but also the requirements CDB places on us as a commercial organization.’