Investors’ desire to take advantage of recent moves by authorities in China to welcome overseas investment funds and expertise goes hand in – hand with offshore structures.

This year has seen a number of developments that will strengthen the position of offshore funds in China. Ann Ng is a partner at Maples and Calder in Hong Kong specialising in the formation of Cayman Islands and British Virgin Islands investment funds.

Here, she and Michael Wong, senior associate at Allen & Overy, look at initiatives in 2012 that will provide further means for offshore hedge and private equity funds to tap into the PRC market using simple and flexible Cayman Islands legal structures.

QDLP programme

The first initiative is the launch of the qualified domestic limited partner (QDLP) trial programme by Shanghai authorities. Under the QDLP programme, foreign fund managers would be able to set up China-based foreign-owned private fund management companies (or FMCs) to launch private onshore funds (QDLP funds).

Each QDLP fund would raise renminbi (RMB) funds from domestic high-net-worth individuals and institutional investors, convert the RMB funds into foreign currencies, and then remit the funds to an offshore hedge fund.

Michael Wong expects that, once the Chinese regulators are comfortable that the programme achieves its purposes, there is enormous potential for managers to establish simple and flexible Cayman corporate hedge funds. In our experience, this is by far the most popular structure used by Asian fund managers to tap China’s vast domestic savings via the QDLP fund/offshore fund route.

China QFII licences

The second initiative is the potential easing of the criteria to qualify for Chinese qualified foreign institutional investor (QFII) licences, which allow foreigners to buy Chinese A-shares. In 2012, China nearly tripled the QFII quota ceiling for foreign investors, from $30 billion to $80 billion.

Hedge-fund managers and fund-of-hedge fund managers should be eligible to secure a greater portion of this QFII allocation in the longer term. If fund managers are given a QFII allocation directly, this may provide offshore fund managers with greater control over their own QFII quota and potentially lower costs for offshore funds, as there will be no need to use a third party’s QFII quota.

Questions remain, however. For instance, the tax treatment of QDLP funds and the repatriation of capital is unknown. China’s securities regulator is also currently only studying plans to allow hedge funds and private-equity funds to join the QFII programme – nothing has been decided. Finally, pre-approval is still required from the relevant regulators before undertaking any of the new initiatives.

Therefore, many of the details of the approval prerequisites, and the process and timing of the approval process, will only be known once the first batch of approvals under such initiatives are made.

From China to the Cayman Islands

In the offshore world, there are no such uncertainties. In the Cayman Islands, the establishment of investment funds is a well trodden path that provides fund managers with the speed and simplicity required for structuring complex transactions.

The Cayman Islands government together with the legal practitioners have worked hard to promote flexible and practical business laws, including the Mutual Funds Law, the Exempted Limited Partnership Law and the Trusts Law, just to name a few.

Establishment of a company, limited partnership or a unit trust, which can all be structured as an investment fund in the Cayman Islands, can be completed within a short time frame.

China’s new initiatives will undoubtedly go through a process of teething issues, like nearly all pilot schemes across the world. Ann Ng believes that a Cayman Islands domiciled investment fund would be the perfect complementary offshore structure, in light of the Cayman Islands’ established English-based legal system and experienced financial services sector.

Ann Ng is a financial services and corporate lawyer with a particular focus on the international investment fund market. She has expertise in the formation, structuring and restructuring of all types of open and closed end funds including hedge funds, private equity and venture capital, real estate and infrastructure funds. Her clients include a wide variety of international players including hedge fund and private equity fund sponsors, investors, asset managers, banks, trustees, administrators and other service providers.

Michael Wong is a senior associate at Allen & Overy, Hong Kong. Allen & Overy’s Greater China Practice have significant experience in the QDLP and QV programme.

This article is not intended to constitute legal advice. In the case of any specific advice required you should contact either the author or your usual legal adviser.