A policy change in China will
significantly restrict hedge
funds access to corporate records. But local
corporate agencies could present an alternative access route to
information, at least in the short-term.
As revealed by
IFLR last week, and
reported by the
Wall Street Journal, a new policy has
been introduced over the past few months by Administrations of
Industry and Commerce (AICs) in Shandong and Tianjin provinces
as well as parts of Shanghai and Beijing. It prevents deal
counsel from independently examining and copying the content of
a companys AIC files - one of the major sources of legal
materials in a due diligence process.
It remains possible, however, to search certain basic corporate
information on the AIC website. But only with a proof of claim
to the court or the target companys written permission,
in accordance with the Regulation on Review of Company
Offshore hedge funds are likely to be the
most severely impacted by this. As
they rarely deal directly with a company before making an
investment, they cannot expect permission from a target company
to access their records.
Market participants in Beijing and
Shanghai have advised those that cannot attain the cooperation
of a target to rely on background agencies, and research
organisations operating in China to source the required
information for them.
Kirkland & Ellis Shanghai-based
corporate partner Chuan Li said AICs across China had become
increasingly reluctant to grant access to the corporate
financial and performance records, such as annual audit reports
and equity ownership changes, typically required by hedge
We used to be able to rely on local
PRC lawyers to help us obtain such information, but recently
even local law firms have been refused access by AICs to
anything beyond a copy of a companys business
licence, he said.
Chinese authorities have yet to
formally announce the policy change, however. And that presents
a loophole for hedge funds that do not have buy-in from a
One Beijing-based law firm
partner said until the policy was clarified by way of a
national directive, investors could still legally mandate
so-called corporate agents to source the required data on their
Such agents are
locally-operating service providers specialised in approaching
AICs on behalf of local and foreign parties, normally for a fee
up to $1000. Although as Fredrik, at the
China Finance Blog has subsequently
warned, this could increase as restricted access drives up
the price of reliable Chinese due diligence.
Nonetheless, the Beijing partner
said as the sole remit of such agents is dealing with
AICs, agents usually have strong longstanding relationships
with the relevant bureaucrats in these agencies, and might
still be able to access data others cannot.
Law firms operating in China
could usually make the necessary referrals to reputable agents,
But he warned the efficiency of
the strategy would vary considerably depending on the AIC
involved, and that as soon as the policy was formalised at a
national level the workaround would no longer be legally
Weil Gotshal & Manges Shanghai counsel Helen
Jiang said certain types of investigation firms could prove an
alternative option, where PRC lawyers or corporate agents were
unable to access information.
Ben Rowse, the Asia head
of investigative firm Nardello & Co, said investigators on
the ground in China were not just limited to AIC records and
other forms of public records.
would have established networks of trusted and informed sources
who they can reach out to for their expertise and
knowledge, he said. A New York-based hedge fund is
unlikely to have such a network.
countries such as China where information access restrictions
apply, obtaining human intelligence through discreet enquiries
with well-placed sources is often critical to understanding the
full picture and identifying potential pitfalls and issues of
concern, he said.
It has been reported the move
aims to better regulate the use of company information.
Previously domestic lawyers, the police and Chinas
national security bureau, among others, could undertake company
AIC searches. But some smaller firms and sole practitioners had
begun misusing this privilege by passing information along to
unauthorised foreign and local parties for a fee.
Sources in Beijing believe it is more likely to be a reaction
repeated challenges from research firm Muddy Waters, to
publicly-reported ChinaCo financial results, however.
There is speculation too that
the move was prompted by a recent probe into commercial
Dun & Bradstreet, amid allegations it violated
Chinas consumer-privacy laws. And that its a
knee-jerk reaction to a series of recent high profile and
highly embarrassing public relations disasters involving Bo
Xilai, Sino Forest and all the other Muddy Waters-inspired
exposes of fraudulent overseas-listed Chinese companies.
Certainly, while the information
restrictions are not insurmountable from a due diligence
perspective, they send a rather disturbing message to investors
about the state of the playing field in China.
Less transparency will erode investors' confidence in Chinaco
disclosure. And as
Business Insider's Stan Abrams has since
pointed out that could be bad for joint ventures, license
agreements, and even supply/manufacturing deals.
According to Jiang, PRC lawyers
are trying to find some solutions. Shanghai Bureau of
Justice has already had several rounds of discussion with
Shanghais AIC, she said. She was hopeful they would
work out something this or next month. No improvement has been
made in Beijing so far, however.