April 27th, 2012 | Caixin Facing Risks, Sino Fund Gets Forex for Africa
The government injects US$ 2 billion from foreign reserves to support ‘go abroad’ initiatives by Chinese companies
The official China-Africa Development Fund (CADF) recently tapped the government’s massive foreign currency stash to support company expansions in Africa.
The fund’s parent, China Development Bank (CDB), arranged the US$ 2 billion worth of eight- to 10-year loans at bargain interest rates after CADF’s cash injection plan, some two years in the making, won State Council approval in March.
CADF data shows that it has invested in more than 30 projects. It has another 100 projects in reserve, and has made investment commitment for 30 projects worth US$ 1 billion.
“CADF’s main task is to support Chinese companies expanding investment in Africa” with a focus on “a project’s long-term development prospects,” said Hu Zhirong, the fund’s vice president. “Our primary goals are linking the fund to intergovernmental aid projects and helping more Chinese companies ‘go abroad.'”
For CDB and the State Administration of Foreign Exchange (SAFE), which manages the nation’s 3.2 trillion yuan foreign currency cache, channeling money through CADF also matches the government’s interest in diversifying forex investments around the world.
But putting forex reserves to work in Africa is not without risk. And the practice may violate SAFE management principles, said Zeng Gang, director of the Banking Research Office at the Chinese Academy of Social Sciences.
Zeng said any Chinese forex reserve investment, first and foremost, must be a safe bet. Yet that’s problematic in many parts of Africa, given uncertain global market conditions since the 2008 financial crisis and frequent political turmoil in some countries.
CDB decided to dip into the forex reserves after CADF’s Africa financing plans failed to attract market investors including private funds and banks. Attempts to round up venture capital, for example, were repeatedly rebuffed during the fund-raising effort that began in November 2009.
“Venture capitalists are not familiar with the risks of investing in Africa,” explained a private equity source. “China’s economic development is relatively mature, so they would rather invest in China than African markets.”
Moreover, private equity firms usually want to recoup investments within five years or less. But CADF focuses on projects that offer returns only after more than five years – or even a decade.
Hu admitted an African commercial project investor such as his fund often has to wait a long time for a payback. “This brings many challenges to CADF’s operations and how it can exit an investment,” he said.
CADF generally holds less than 50 percent of a single project but avoids day-to-day involvement in commercial decisions.
“The size of a CADF investment varies significantly from one project to another,” said Hu. “In principle, investments to a single project are controlled at between US$ 5 million and US$ 50 million. And we have high demands for a company’s management ability.
“In principle, we don’t restrict investments to companies at any particular development stage,” he said. “We can invest in start-ups and well-established companies, or finance mergers and acquisitions.
“We pay attention to but don’t rigidly require companies to have a track record of profitability. Instead, we are more interested in the prospects of companies and projects we invest in.”
CDB got the fund off the ground by pumping it with US$ 1 billion in May 2007. The latest injection marks CADF’s second tranche. It plans to raise another US$ 2 billion in the future.
CADF is led by a steering committee that provides policy guidance and management. The committee doesn’t interfere in management details but gets involved in diplomatically sensitive issues. Sitting members include officials from CDB, SAFE, the National Development and Reform Commission, the central bank, and the ministries of commerce, foreign affairs and finance.
Hu said CADF focuses on agriculture and manufacturing projects designed to help African countries tackle development challenges. It also works to support Chinese companies working on industrial parks, trading zones, infrastructure construction, transportation, telecommunications and mining.
No one can accuse CADF of shying away from challenges. In 2009, for example, the fund stepped in to salvage a Chinese mining investment that had gone sour.
A private company from China had signed a US$ 2.6 billion contract with the government of Libya for a mining project. But the Chinese side couldn’t fulfill its obligations, so it put the project up for sale.
At the time, state-owned steel companies were unwilling to get involved partly due to perceived risks of doing business in Africa. CADF assumed 85 percent of the project and negotiated a settlement with the Libyan government, making the project more appealing to potential Chinese buyers. Later, Wuhan Iron and Steel Group bought a 60 percent stake.
The fund has also had setbacks. It financed Ethiopia’s first glass factory, for instance, but the project failed due to low demand.
A finance expert familiar with the matter said the fund’s latest effort to raise money, ending with success in securing a forex injection, points to China’s need to coordinate the nation’s “go abroad” strategy.
“China still lacks an overall plan for foreign investment, as well as an authoritative, comprehensive coordination management institution,” he said. The management gap “results in a large waste of resources and information.”
Success with the latest fund-raiser proved the Chinese government thinks African investments are worth the risk, and that the foreign exchange reserve is worth tapping.
Still, CADF is being encouraged to raise funds from traditional sources from now on.
“Borrowing from the foreign exchange reserve is a compromise arrangement under the current system,” said a source, noting that CADF by design is supposed to raise funds on the market.
Nevertheless, economists say CADF’s initiative underscores China’s shift from exporting products to exporting capital – a path Japan followed in the 1980s after coordinating government and commercial agencies to promote overseas development.
Africa’s problems, such as weak infrastructure and manufacturing, are seen as commercial opportunities by the kinds of Chinese companies CADF supports. Indeed, similar infrastructure demands were common across China 30 years ago.
The sooner Chinese companies enter the African market “the easier they can get an upper hand,” Hu said.
By staff reporter Zhang Yuzhe