Huge capital outflows from China triggering tighter regulations on outbound investment

Doug Ferguson, Partner in Charge, Asia & International Markets

Chinese authorities are tightening regulations and oversight after an estimated USD 725 billion of capital outflows and 7 percent devaluation of the RMB in 2016.

Chinese companies have been on a binge of outbound direct investment in the past few years. With over 640 foreign investment deals worth USD 215 billion announced by Chinese companies in 2016, there was widespread concern they were investing into very large, debt-funded deals in non-core sectors which were speculative in nature.

Between September and December last year, regulators responsible for the oversight of China’s foreign exchange, banking and state-owned enterprises introduced important policy reforms to address several emerging concerns including:

  • The continuing depreciation of the RMB which fell 7 percent during 2016 despite attempts to stabilise the currency relative to the USD, and;
  • The estimated capital outflows of USD 725 billion by Chinese companies and individuals

China’s foreign reserves were reduced from a high of USD 4 trillion in mid-2014 to USD 3 trillion in February 2017, threatening to further destabilise the economy.

The response

In late 2016, a combination of Chinese regulatory policy levers were pulled: monetary policy and supply was tightened for Chinese banks, lower foreign exchange limits and approval processes were enforced and strict overseas investment regulations for state and private companies were introduced.

Some key policies for overseas investment include:

  • SOEs are not permitted to independently invest into large, offshore non-core deals by themselves (a negative list is in development and will be published) or undertake investments over USD 1 billion in the real estate sector.
  • Private Chinese companies require regulatory approval for payments over USD 5 million and approval for foreign acquisitions over USD 10 billion or USD 1 billion if deemed non-core.
  • Chinese companies must report overseas cash remittance over USD 50,000, whilst residents are only permitted one USD 50,000 transfer per year.

The impact

It’s too early to understand the full impact of these regulations, but initial observations are that they are biting hard and Chinese companies and individuals are finding the process of moving capital offshore and getting approvals difficult, slow and very heavily monitored. Approved capital outflows have slowed dramatically with China’s State Administration of Foreign Exchange showing a fall from over USD 25 billion in the month of September 2016 to only USD 900 million in December.

There is still a lot of uncertainty around enforcement and whether these will be long term or temporary.

What does it mean for Australia?

As noted in our Demystifying Chinese Investment in Australia 2016 report, Australia remains a very attractive destination for Chinese investors as it offers sectors which the Chinese middle class consumer wants – especially health, tourism, education, food, services and technology. These are among the sectors most encouraged for investment in the Chinese Government’s 13th Five Year Plan.

There are already well over 500 large Chinese companies invested here, with funds offshore  who continue to show interest in high quality, large scale investments and projects.

Australia has major infrastructure investment needs across rail, road, conventional and renewable power which Chinese SOEs are still encouraged to bid for under the revised regulations. Recent comments by visiting Chinese Foreign Minister, Wang Yi, reassure us that Australia remains on good terms and is a strategically important partner for China.

Private Chinese companies and individuals may be the most exposed if they don’t have foreign currency denominated assets already offshore as access to local AUD borrowings (secured against Chinese assets and income flows) is very limited and expensive. Investments signed and announced late last year may be at risk of settlement default and cancellation.

From KPMG’s perspective, we not yet seeing a slow-down in Chinese investment interest. However, deal completion activity may be slower in the first six months of 2017 while these tighter regulations remain in place and adjustments are made for the new processes.

In the midst of all the current global uncertainty and disruption, the Australian Government has an opportunity to introduce key structural reforms to make Australia even more attractive and reliable

Doug Ferguson

Add Comment