China's Revised Venture Capital Rules: Limited Partnerships with Chinese Characteristics?

In August 2001, China released foreign investment rules intended to encourage foreign sponsors to form China-based venture capital funds. These rules (the 2001 Rules) imposed many non-market restrictions on fund formation and operation and were not successful in attracting investors to China.¹ China revised those rules recently. We assisted in drafting the revised rules, entitled Rules on Administration of Foreign-invested Venture Capital Enterprises (the 2003 Rules), which overcome many of the prior barriers to onshore fund formation.

The 2003 Rules are officially targeted at "venture capital" sponsors and investors. However, because permitted investments are not limited to pure venture capital start-up situations, we believe the 2003 Rules can also be used by most private equity sponsors.

The 2003 Rules were published on February 18 2003 and bring the structure and operations of a Chinese private equity fund (referred to as Foreign-invested Venture Capital Enterprises) far closer to international norms. If the anticipated tax clarifications described below are issued, we believe that there are practical solutions for most of the issues that remain. Sponsors and investors will, however, have to accept that the Chinese government requires more disclosure about fund organization and maintains more control over the investment process than is the case in most other jurisdictions.