At 8.30am last Thursday, from his office in New York, Stephen Schwarzman, the global chief executive of $684bn private equity giant Blackstone, logged into a video call with Fang Xinghai, the chair of Beijing’s top financial regulator.
The timing of the “China-US Financial Roundtable”, an annual meeting between a handful of Wall Street veterans cherry-picked to speak with a small group of top Chinese officials, was awkward.
Not only was the world obsessing over the looming risk of default at property developer Evergrande, but less than a week earlier, Blackstone’s biggest ever bet on the Chinese real estate market — part of the engine of its Asia growth plans — had been thwarted by regulators in Beijing with no warning.
The buyout group was forced to call off a $3bn deal to buy property developer Soho China, whose skyscrapers line skylines in Shanghai and Beijing, after its founders — billionaire husband and wife Pan Shiyi and Zhang Xin — had been accused of trying to cash out on their business and “flee” to the US.
“Steve is a very diplomatic guy, who has been very successful in China by doing and saying the right things,” said a person briefed on the call.
It would have been a mistake to “pound the table”, said the same person while another briefed on the call said Schwarzman did not mention Soho China. Blackstone denied the “recurring meeting” had anything to do with the deal.
But the collapsed deal remains the elephant in the room and the latest episode to leave the private capital industry, which controls the flow of trillions of dollars worldwide, reassessing how to place its bets on the world’s second-largest economy.
It also underlines that even the highly connected can struggle to navigate China’s political vagaries.
Schwarzman is “among the most influential of US dealmakers in China, and even he couldn’t secure the approval for a seemingly benign real estate acquisition”, said Brock Silvers, chief investment officer of Hong Kong private equity firm Kaiyuan Capital.
Blackstone is not alone in coming up against roadblocks. Foreign listings of Chinese companies – a mainstay of Wall Street investing – have been derailed following the disastrous initial public offering of ride-hailing app Didi, while the dollar-bond market looks set to follow suit in light of unfolding events at Evergrande.
“Now, foreign private equity funds will likely look at China with a greater sense of caution,” said Silvers.
The collapse of the deal has had a “chilling effect” for rival firms planning big cross-border deals for assets considered “strategic” to the Chinese economy, said a senior M&A lawyer in Hong Kong who has worked on some of China’s biggest deals. Some are guessing which industries the government will turn to next, and trying to steer clear.
The decision by China’s State Administration for Market Regulation to stop the Blackstone takeover has prompted widespread speculation about the motives of Chinese officials.
An executive at one of the Wall Street banks that advised on the deal said few people close to it had been officially informed: “It’s guesswork on what the real motivations were. There was nothing to point to a monopoly risk.”
“We do know individual tycoons are being targeted. The government is saying you’re selling out, going to live in New York and moving your wealth offshore. No chance.”
The Blackstone deal would have resulted in a significant windfall for the couple behind Soho China, who own more than 60 per cent of its shares through companies controlled by Zhang, and would have helped them to decrease their exposure to China at a time when Beijing has ordered corporate tycoons to distribute their wealth.
The chief executive of a $10bn private equity firm in Hong Kong said the incident meant many now had “deep reservations about the regulatory approval process. For anyone trying to buy something substantial in China, with a seller who isn’t straightforward, the thinking is don’t waste your time.”
Some Chinese entrepreneurs, already reeling from a widespread regulatory clampdown and restrictions on foreign listings, have started to rethink plans for listings or sales, according to bankers.
The head of M&A at a major bank in Hong Kong said: “The reality is that if you created a business in China that’s worth billions, you’ve done so with the blessing of the government, so it’s definitely the wrong time to be cashing in.”
The failed Blackstone deal follows wider scrutiny of foreign investments as Chinese authorities target what they perceive to be monopolistic business practices.
Crackdowns on technology, education, gaming and cosmetic surgery sectors under President Xi Jinping’s “common prosperity” drive, and restrictions on overseas listings, have unnerved foreign investors, who have rushed to sell off Chinese equities.
In August, owners of Chinese tutoring firms suffered billions of dollars of losses when regulators effectively outlawed the sector making a profit. Shares in the companies have lost as much as 90 per cent of their value, while private backers are attempting to claw back some capital.
“Is China a scarier place to invest? Yes,” said a senior dealmaker at a large global private equity firm. “Anyone allocating money in China is asking, can you buy anything that has any government touch points?”
“If it’s tech, consumer or data related, the government has shown a willingness to get involved, so that’s bad. Right now we will do a lot less, and China will become a smaller part of our portfolio.”
Private equity groups have agreed transactions worth $26bn in China since the beginning of this year, far surpassing the $10bn of deals in the whole of 2019, figures from Dealogic show.
Deals worth $11.3bn involving China-based companies have been agreed but not yet completed, the Dealogic figures show. These include the merger of the Canadian chain Tim Hortons’ Chinese business with a US-listed Spac backed by private equity firm Ascendent Capital Partners.
However, as more regulatory action is unveiled each month, foreign investors are watching ever more closely for signs that Beijing turns against another sector such as private tutoring or online gaming.
Hong Kong private equity firm Primavera Capital Group bought Mead Johnson, the infant formula business of Reckitt in China, for $2.2bn in June.
But “that deal was completed at the right time”, said the head of M&A at a European bank in Hong Kong. “Anyone looking to buy or sell companies in that space needs to have a rethink. China is looking carefully at anything that increases the cost of raising children.”
Property developers were already affected by regulatory tightening before the Soho China debacle as Beijing has vowed since roughly 2017 to end a cycle of increasingly unaffordable housing.
Despite this, global investors have been ramping up bets on commercial and rental properties in China. Last year, Blackstone acquired a majority stake in a large logistics park in the Greater Bay Area for $1.1bn and bought Westlink, an office and retail complex outside Shanghai, for $1.25bn.
A senior partner at another large US-based private equity firm that has offices in China said the country was “too important to walk away from”.
The trick is to find deals that are less politically sensitive.
“If foreign capital assists the people of the country, or doesn’t get in their way, I think you’re fine,” another private equity dealmaker said, adding that he would “stay away from anything that makes a lot of money” in a way that would be seen as profiting “off the people”.
A senior executive at a Wall Street bank in Asia warned that investing in China has always come with regulatory risk: “You can’t always assume that regulators will interpret and apply the rules evenly.”
“But everything that has happened in the last six months would tell a regular investor that now everything is political.”