Outstanding PE Enterprises to Work with the SOEs to Build a Real Industrial Leader - Lei CAI Talks A


The new-round reform of state-owned enterprises (the SOEs) has started. Capital Shanghai Operations Co., Ltd., as a pilot of the SOE reform, has attracted almost all attentions and participation of top-class professional investors. The reporter, Capital Shanghai, interviewed Lei CAI, partner of JD Capital, on issues such as the SOE reform and mixed ownership.

The SOE reform has a profound historic background and an obviously practical significance.

Capital Shanghai: It is widely known that JD Capital is committed to investing private enterprises. Now, it is ready to take part in investing the SOEs. Does it mean that JD Capital has changed its investment strategy?

Lei CAI: We have invested more than 200 enterprises, most of which were leading private enterprises. Last year, we built for investment on the SOEs a department and a team responsible for such investment all over the country and fund running. It seems that the outside world thinks we have changed our investment direction and strategy. In fact, we don’t see it that way. 

Over the past years, we not only invested private enterprises but also a dozen of the SOEs. All of them are leaders in their own field. For example, Chengdu Small&Medium Enterprise Credit Guarantee Co., Ltd. is one of the largest guarantee institutions in China for SMEs.Chongqing Sanfeng Environmental Industrial Group Co., Ltd. is the largest enterprise providing and operating WtE plants in China. Xinjiang Yinlong International Agricultural Cooperation Co.,Ltd. is one of the largest enterprises that import, export and process cotton in China. Investment on the SOEs and their reform and restructuring are not new to JD Capital. We have a wealth of experience in such investment.  

JD Capital has always been good at equity investment in established enterprises. Industrial background, competitive strengths, growth potential and management team are taken into account to determine whether to invest them. Sometimes, the ownership nature is another element but not the most important.

Capital Shanghai: How do you look at the prospect of this round of the SOE reform and mixed ownership?

Lei CAI: The Third Plenary Session started the new-round, overall reform in China. In our view, it has the same starting point as previous reforms, with a view to solving efficiency and unfairness of the whole society. 

The state-owned economy still dominates China. The public data shows that the net assets of the SOEs and state-held enterprises (excluding financial enterprises) were up to nearly 30 trillion yuan, with less than 2 trillion yuan net profits and about 6% of the ROE in 2011. If we throw off some contributions made by monopolistic central enterprises, their ROE will be lower. If the above input-output level stays a long time, it is obvious that China will soon loose its global competitiveness. So, what is the first to do in this round reform is to solve efficiency of allocating social resources so as to change the low-level efficiency of the state-owned economy.  

Besides, the state-owned economy has seen the hypernormal development fora decade years, resulting in a large number of issues, such as unfair competition, excessive monopoly and rent-seeking corruption. CNPC is a typical case. Excessive development of the state-owned economy has lowered sense of fairness in the whole society, causing a large number of social contradictions. Vigorously promoting the SOE reform will make a significant contribution to fairness and justice in the society.

Based on understanding above, we believe that the SOE reform will have a profound, historical significance as well as outstanding practical meaning on development of China’s society and economy. This reform must be enforced. Greater efforts will be devoted. Undoubtedly, it can not be done at a once.

Capital Shanghai: What’s your comment on participants in the new-round SOE reform?

Lei CAI: There are three types of participants:

First, state-owned institutions, including state-owned industrial enterprises and financial institutions. One view is that the state-backed capital shall take initiative to participate in the reform because it not only can facilitate to carry out mixed-ownership reform but also avoid loss of state-owned assets. We should see its two sides. If such state-owned capital has carried out reform of system and mechanism in itself, it will work. Otherwise, the final reform aim can’t be achieved.

Second, overseas-funded institutions. Considering that a majority of the SOEs are engaged in the pillar industries in the national economy, ownership reform will have impact on industrial security. Participation of overseas capital will be limited.

Third, private institutions, including private industrial enterprises and investors. Market-oriented private capital shall play a leading role in this round of the SOE reform. In fact, the mixed ownership stands for combination of ownership and complement of system of state-owned capital and private capital. However, from an objective view, there are few private industrial enterprises and investment institutions in China, capable of industrial merger and operation for a long term. We need to continuously explore and gradually deepen the reform so as to establish the mixed ownership.

Capital Shanghai: In your opinion, PE firms will play a very important role in this round of reform. Is that true?

Lei CAI: Absolutely yes. I believe that large, powerful and market-oriented PE firms will play a significant part in the reform. 

PE emerged in 1970’s and 1980’s in the United States. At that moment, a large number of enterprises started expanding on a diversified basis. However, their equity structure was so scattered that their operation efficiency was very low, and their share prices was in recession. Accordingly, the “Big Enterprise Disease” broke out. Emergence and investment behavior of Large PE enterprises such as KKP, Blackstone and Carlyle facilitated optimization of corporate governance, accelerated adjustment of industrial structure, and recovered rejuvenation of its industrial economy. It appears that China is in similar situation now.

Why can PE have such unique and significant impact? Mainly because PE capital possesses industrial properties and financial features. On the one hand, they can provide direct financing services for corporate development, with definite requirements on profit and return. On the other hand, they can conduct long-term investments based on mode of the industrial capital and proactively involve themselves in making great decisions and improving their corporate governance and incentive mechanism, with a view to improving operational efficiency and carrying out the industrial integration. In turn, high requirements are put forward toward PE enterprises. Therefore, only large-scaled, powerful and market-oriented PE enterprises can fix it. In my opinion, China-based PE enterprises shall have such sense of responsibility and mission and take an active part in the reform so as to make contributions to development of our country and nation. 

An outstanding entrepreneur is the real soul of a enterprise, always and forever 

Capital Shanghai: JD Capital has branch offices all over the country, with a lot of investment cases. You have rich experiences in investment and cooperation with entrepreneurs. What’s your comment on the SOEs and entrepreneurs in Shanghai? 

Lei CAI: Yangtze River Delta is one of the most highly developed regions in China. Shanghai has the largest quantity of state-owned capital, ranking top among all provinces and municipalities directly under the central government. Shanghai has the largest amount of the public SOEs. Shanghai SOEs are very competitive. Shanghai is used to attending the international economic exchanges and participating the international industrial competition for a long time. With a broad vision and rich experiences, its entrepreneurs perform standard operations. They all have higher overall quality. In case of a great breakthrough in system and mechanism, both of them will become more dynamic. Based on such judgment, JD Capital takes Shanghai as one of the most important bases to invest the SOEs.  

When our investment team for the SOEs undertook internal research and assessment on the reform of Shanghai SOEs, they visually proposed a model of the mixed ownership SOE reform, that is, “a beautiful lady will look for her Mr. Right”. If they are a “pretty lady”, they shall find its “Mr. Right” who is more powerful, more ambitious and more responsible to make long-term cooperation. We are very confident that we are the very “Mr. Right”.

Capital Shanghai: What kind of the SOEs will JD Capital want to cooperate? Would it choose the money-losing enterprises?

Lei CAI: In short, JD Capital will look for the SOEs who have values and growth potential and can complement with us. 

In terms of values, we’ll determine whether the enterprise worth of investing based on its industry, competition pattern and development prospect. In terms of growth potential, we’ll evaluate its possibility and space of improvement after mixed-ownership reform. In terms of complement, we’ll decide whether the ability of various resources and the management team can cooperate after we become its shareholder. If not, it means that we can’t push forward development of the invested enterprise in the future. We need to make a very careful and delicate decision in case of lack of complement.

We pay great attention to the entrepreneurs when choosing the enterprise to invest. We also place full trust on them. We hope to work with them on a long-term base. An outstanding entrepreneur is the real soul of a enterprise, always and forever.

We’d like to contact, understand, and communicate with the state-owned enterprise which meets the basic requirements above, whether money-losing or not, with a view to strategic cooperation. What we look for is not whether the enterprises can make profits in a short time.

Build a real industrial leader with the management team

Capital Shanghai: What measures has JD Capital taken for the mixed-ownership reform?

Lei CAI: We have established four principles, “Compliance, Smooth Transition, Institutional Innovation, Consideration of Benefits”, and all other measures are worked out based those principles.

First, comply with laws and regulations. Compared with the SOE reform carried out a decade years ago, the reform highlights system and procedure compliance. All participants shall strictly abide by corresponding laws and regulations. The whole reform process shall accord with laws and regulations. One of main objectives of the SOE reform is to eliminate social unfairness. We can’t create new unfairness.

Second, make the transition smooth. We hope that no management turbulence happens during reform. We shall try our best to keep the existing management stable and their dominance in the operation. The enterprise can seek bigger development only when its environment is stable and in a good order.

Third, make system innovation. Mixed-ownership reform is not an objective but an approach we will use to promote system innovation and lead the enterprises to improve their governance, make scientific decisions, and release efficiency so as to improve their competitiveness and stimulate development vigor.

Forth, make enterprises profitable. Through reform, we not only satisfy requirements of its existing shareholders and the government but also meet wishes of management and most employees so as to realize the long-term, sustainable development of the enterprise and the relatively ideal ROI for shareholders. Besides, we must emphasize that we will adopt “One Strategy, One Enterprise” for every SOE. We will make full understanding of demands of all stakeholders and satisfy such demands on an innovative basis. After investing so many enterprises, JD Capital has gathered rich experiences in such field.

Capital Shanghai: Would you please introduce your operation model after investment?

Lei CAI: In short, onside but not offside.

First, be not offside. We will make significant business decisions through boards of shareholders and directors. What is more important is to build a good decision-making and incentive system. What PE enterprises are good at is about resource connection and mechanism optimization. Specific operation activities shall be left in operation team’s hands.

Second, be onside. We will carry out the mixed-ownership reform by freely using participation or holding mode. No matter which mode we choose, we shall adhere to the basic concept of “Value-based, Long-term and Active investment”.

We’ve talked about the value-based investment before. Not only we will make judgment on investment values but also need to lead the management to continue to improve the corporate value. 

The long-term investment will take a long time. Generally, it takes us about 5 five years or longer to invest a private enterprise. We have more patience for investment in the SOEs. We would like to work with time even for a longer time to maximize their ability.

In terms of active investment, we will take initiative to provide the enterprise with various resources in the industry and capital market after investment, with a view to promote long-term development. It is completely different from passive investment, that is, share dealing in the secondary market. We do this based on the following judgment: in the next decade, the global industrial landscape will see a dramatic change, creating a lot of opportunities for industrial development. On the other hand, many SOEs are large and strong enough to integrate the industry. After mixed-ownership reform, the management’s vigor will be released and the resources of new shareholders connected, making the SOEs be the leader and integrator in their own industry. JD Capital plans to work with other shareholders and management to spend 5-10 years in promoting the industrial integration in the global stage, with a view to make the SOEs be a competitive industrial leader in the world.

If the objectives mentioned above are realized, the SOEs will develop, their team will grow, the government will be satisfied and we will receive sufficient returns. Not only it is our operation model after investment but also the profit model of investment in the SOEs.

Capital Shanghai: Is JD Capital ready to spend big money in buying a small amount of shares due to its enormous assets?

Lei CAI: At present, the capital under our control is up to 30 billion yuan. We are able to take out about tens of millions yuan to billions yuan each time for equity investment. Besides, JD Capital investors include private enterprises, the SOEs and foreign-funded enterprises, so that we can arrange the appropriate investors based on the SOE demands.

We are also very willing to make strategic cooperation with investment institutions in Shanghai, and to actively participate in innovation-based reform of Shanghai state-owned investment organizations. We are open to all partners and would like to contact and communicate with them as long as they are helpful to increase values of the SOEs.