An Analysis of Cross-Border Investment and Financing Paths for Private Equity Investment Funds

Private Equity Investment Funds, as a Bridge Connecting Capital and the Real Economy, Their Cross-Border ① Investment and Financing Activities Play a Significant Role in Promoting Global Capital Flows, Optimizing Resource Allocation, Advancing Industrial Upgrading, and Stimulating Innovation Vitality. This Article Will Focus on Analyzing the Cross-Border Investment and Financing Paths of Private Equity Investment Funds, with the Aim of Providing Practical Guidance and Reference for Investors, Fund Managers, and Enterprises Seeking Capital Support.

1. Cross-Border Investment of Private Equity Investment Funds

In line with China’s current relevant legal regulations, there are mainly three legal paths for private equity investment funds to conduct cross-border investment: Outbound Direct Investment (ODI), Qualified Domestic Institutional Investor (QDII), and Qualified Domestic Limited Partner (QDLP). These three paths differ in terms of regulatory authorities, quota management, and investment scope.

01. Outbound Direct Investment (ODI)

Outbound Direct Investment is a common channel for domestic entities to make cross-border investments, and ODI filing is the crucial first step for domestic enterprises to legally carry out overseas business. The ODI filing process consists of three stages: verification/filing by the National Development and Reform Commission (NDRC), verification/filing by the Ministry of Commerce (MOFCOM), and registration with the State Administration of Foreign Exchange (SAFE).

The NDRC oversees the direction of enterprises’ overseas investment activities, exercises macro-control over the scale and scope of overseas investment, and issues the Notice of Filing for Overseas Investment Projects upon completion of filing.

MOFCOM conducts a comprehensive review of overseas investment events, assesses the legality and orderliness of investment activities, and issues the Certificate of Overseas Investment by Enterprises.

SAFE focuses on supervising capital outflows, prevents illegal capital flight from the perspective of financial security, verifies capital outflow procedures, and issues the Foreign Exchange Registration Certificate for Outbound Direct Investment.

The detailed process and considerations for ODI filing are shown in the figure below:

02. Qualified Domestic Institutional Investor (QDII)

Against the specific backdrop where the RMB capital account has not yet been fully convertible and the capital market has not been fully opened, the Qualified Domestic Institutional Investor (QDII) system emerged as a special institutional arrangement. Currently, institutions eligible to apply for QDII qualification in China include banks, fund management companies, trust companies, insurance companies, and securities companies. QDII qualification is approved by the China Securities Regulatory Commission (CSRC).

After obtaining the qualification, relevant institutions can apply to SAFE for a QDII quota in accordance with specified procedures. SAFE implements a balance management system for QDII quotas, meaning that the net foreign exchange outflow for overseas investment (including foreign exchange and RMB funds) shall not exceed the approved investment quota. If the investment quota fails to be effectively used within two years, SAFE has the right to reduce it, and the quota shall not be transferred.

As of July 30, 2024, a total of 184 institutions have obtained a QDII quota of USD 167.789 billion. Currently, if domestic entities intend to invest in overseas primary markets through the QDII channel, they can do so by cooperating with financial institutions that hold QDII qualification and quotas.

In addition, the following points should be noted when making overseas investments through QDII products:

Investment Scope: The investment scope of each QDII product is specific, and overseas investments made through QDII products are restricted by the scope of the product itself.

Investment Regions: Investment destinations must be countries and regions that have signed a Bilateral Memorandum of Understanding (MOU) on Regulatory Cooperation with the CSRC.

Restrictions on Multi-Level Nesting: In accordance with the Guiding Opinions on Regulating the Asset Management Business of Financial Institutions (referred to as the "New Asset Management Regulations"), multi-level nesting of asset management products is prohibited.

03. Qualified Domestic Limited Partner (QDLP)

The Qualified Domestic Limited Partner (QDLP) pilot program was first launched in Shanghai in 2012. This system aims to provide diversified options for Chinese investors’ overseas layout and allows overseas funds to raise RMB from qualified domestic investors for investment in overseas markets. Currently, the QDLP pilot program has been expanded to multiple provinces and regions in China, including Beijing, Chongqing, Hainan, Jiangsu, and Zhejiang.

Taking Jiangsu Province as an example: In 2021, four departments—the Jiangsu Provincial Local Financial Supervision and Administration Bureau, the Nanjing Branch of the People’s Bank of China, the Jiangsu Branch of SAFE, and the Jiangsu Regulatory Bureau of the CSRC—jointly issued the Interim Measures for the Pilot Work of Overseas Investment by Qualified Domestic Limited Partners in Jiangsu Province and the Implementation Rules for the Pilot Work of Overseas Investment by Qualified Domestic Limited Partners in Jiangsu Province.

The relevant regulations on QDLP in Jiangsu Province cover two levels: fund managers and funds. Fund managers that meet the relevant conditions can apply in accordance with the following process:

Comprehensive Comparison of ODI, QDII, and QDLP

ODI

Advantages: Wide scope of application, no restrictions on entity type—both individuals and institutions can realize overseas investment through the ODI channel, making it the most traditional overseas investment channel.

Disadvantages: Investment quotas are greatly affected by foreign exchange control, resulting in uncertainty; each project requires separate filing, which leads to high costs and low adaptability for investment institutions with frequent overseas investment activities.

QDII

Main Advantages: Low minimum investment threshold, high liquidity, wide audience, and diverse products (index-based, equity-based, bond-based, ETFs).

Limitation: The QDII system mainly targets overseas securities markets, and equity investment in overseas unlisted companies is generally not included in the QDII investment scope.

QDLP

Features: Operates under a private fund model, with more flexibility and a broader scope in quota management and investment range, enabling more effective allocation of diversified strategies.

2. Cross-Border Financing of Private Equity Investment Funds

Corresponding to cross-border investment, the cross-border financing channels of private equity investment funds mainly include three types: Foreign Direct Investment (FDI), Qualified Foreign Institutional Investor (QFII), and Qualified Foreign Limited Partner (QFLP).

01. Foreign Direct Investment (FDI)

Foreign Direct Investment (FDI) refers to various investment activities carried out by overseas individuals, enterprises, or other entities in Mainland China. Relevant authorities such as industry and commerce, MOFCOM, and SAFE conduct reviews of equity structure and capital sources to confirm that the ultimate beneficial owner is a non-Chinese national. This regulation also applies to residents of Hong Kong, Macao, and Taiwan.

Relevant overseas entities must complete filing and registration in accordance with regulations when making investments in China. The specific process is shown in the figure below:

02. Qualified Foreign Institutional Investor (QFII)

The Qualified Foreign Institutional Investor (QFII) system allows qualified foreign investment institutions to convert their foreign currency funds into RMB and then use the RMB funds to invest in China’s capital market. When these overseas investors plan to withdraw their investments, they can convert the RMB proceeds back into foreign currency through official channels and remit the funds back to their home countries or regions.

According to China’s current relevant regulations, the following conditions must be met to obtain QFII qualification:

03. Qualified Foreign Limited Partner (QFLP)

Under the Qualified Foreign Limited Partner (QFLP) system, overseas investors can convert foreign exchange funds into RMB and directly invest in the equity of unlisted companies in China, making it highly compatible with private equity funds.

Compared with FDI and QFII, QFLP has unique institutional value, including:

Broad Investment Scope: QFLP can not only invest in the equity of unlisted companies but also engage in various investment methods such as non-tradable shares, preferred shares, private placements, convertible bonds, mezzanine financing, and non-performing debts of listed companies.

Simplified Administrative Approval Procedures: Compared with other foreign investment methods, QFLP’s administrative approval procedures are significantly simplified. In some regions such as Hainan, joint approval has been abandoned in favor of a recommendation system.

Facilitated Foreign Exchange Management: QFLP offers convenience in foreign exchange management, allowing overseas funds to be converted into RMB for investment in domestic private equity funds, and the funds can also be used for investments in the "quasi-primary market" such as private placements.

Policy Support: Local governments actively promotePolicy Support**: Local governments actively promote the QFLP pilot program and have introduced a series of policy measures. Taking Nanjing as an example: In 2021, the Nanjing Municipal Local Financial Supervision and Administration Bureau and the Administrative Committee of Jiangbei New Area jointly issued the Interim Measures for the Pilot Program of Qualified Foreign Limited Partners in the Nanjing Area of the Pilot Free Trade Zone. Since the policy was issued, some fund managers have successfully obtained approval.

Efficient Supervision Mechanism: QFLP generally adopts a post-event supervision model based on information reporting, with an emphasis on information disclosure and the monitoring and investigation of illegal and irregular activities.

Notes

① Unless and irregular activities.

Notes

① Unless otherwise specified, "overseas" in this article includes Hong Kong, Macao, and Taiwan regions of China.

② Including pension funds, charitable foundations, endowment funds, trust companies, government investment management companies, etc.

Source: Wang Ruonan, Compliance Management Department
Review: Xue Yao
Release: You Yi