Viewpoint     Spring 2008

Pushing the boundaries of communicationsm

The China Investment Corporation: Keys to Success

Gao Weijie, member of APCO Worldwide’s International Advisory Council
Chang Song, associate director, APCO Worldwide

Background
Sovereign Wealth Funds (SWF)

What is a SWF?
Sovereign wealth funds (SWF) are government investment entities, funded by a country’s foreign exchange assets, which manage assets separately from the official reserves of the country’s monetary authorities. They are either oil-fuelled, like the Middle Eastern, the Russian and the Norwegian, or international trade-fuelled, like the Chinese and the Singaporean. SWFs typically manage their funds to a higher risk tolerance and higher expected return than official reserve managers (who normally focus on short-term currency stabilization and liquidity management).

The rise of SWFs
SWFs have existed since at least the 1950s, but their total size worldwide has increased dramatically in the past 10-15 years. The International Monetary Fund (IMF) estimates in 1990 SWFs held at most US$500 billion in assets; the current asset total is estimated at almost US$3 trillion with the IMF projecting US$10 trillion by 2010, based on current growth projections. While US$3 trillion accounts for about two percent of the world’s traded securities, it is at least as much as the value of the global hedge fund or private equity industries.

SWFs did not attract much global attention until major emerging market countries, such as Russia and China, established SWFs in 2004 and 2007 respectively. In recent years, they have caused both commercial and political concern on the global stage given their state affiliation and, most recently, due to their involvement in re-capitalizing major financial institutions, which have been marred by the current U.S. mortgage credit crisis.

China Investment Corporation
China’s foreign currency reserves in December 2007 reached US$1.53 trillion – the largest in the world – and have continued to rapidly expand. As the RMB appreciated against the U.S. dollar (12.5 percent since being de-pegged from the greenback in July 2005), the value of China’s U.S. dollar reserves has consequently fallen. To mitigate the continuing losses from its U.S. dollar-dominated foreign reserves, the Chinese government established the China Investment Corporation (CIC) in September 2007 as an additional investment channel beyond U.S. treasury bonds.

The CIC began its operations with an asset pool of US$200 billion, which has been earmarked in the following manner: one-third to acquire Central Huijin, an investment vehicle that serves as the nominal owner of the government’s shares in China’s state banks; another third to recapitalize the remaining state banks; and the final third notionally allocated to overseas investments. It is this final component of the CIC that has been the subject of so much media attention in recent months.

CIC answers directly to China’s highest executive authority, the State Council (headed by Premier Wen Jiabao). However, a number of important ministries, including the Ministry of Finance, the People’s Bank of China, the State Administration of Foreign Exchange and the National Development and Reform Commission also wield influence on CIC’s overall investment decisions through having their own officials as part of CIC’s senior management team.

Significant CIC Investments

• Blackstone: In May 2007, before it was formally established, CIC invested US$3 billion for slightly less than 10 percent of New York-based private equity firm Blackstone Group just before its initial public offering (IPO), with no role in the management of the company and a four-year lock-in period.
• China Railway: In November 2007, CIC invested US$100 million in China Railway’s IPO on the Hong Kong Stock Exchange. This investment will be locked for one year. China Railway shares gained in value by 27 percent on the day of their IPO.
• Morgan Stanley: In December 2007, CIC signed an agreement to buy US$5 billion convertible bonds from Morgan Stanley at an annual interest rate of 9 percent. After two and a half years, CIC’s bonds will be converted into an equity stake of around 9.9 percent. CIC will remain a passive investor with no seat on the board.

Challenges facing CIC and other SWFs

Political backlash
Since late 2007, SWFs have injected a significant amount of capital into major Western banks, including Citigroup, Merrill Lynch, UBS, Morgan Stanley and Barclays. Such investments have raised American and European concerns that SWFs, particularly those from the Gulf and China, might be used as political instruments and, therefore, pose a threat to their national security and economic well-being. However, even within the EU, the reaction to SWF investments has been mixed. Germany and France have responded more severely, but the UK has been more open.

Transparency
Opacity is certainly a focal point of the debate. The recipient countries of investments made by SWFs have tried their best to push SWFs to enhance their transparency and disclosure practices. Similar to other investment vehicles, SWFs are expected to disclose information about their investment objectives, returns on investments, the size of their assets under management and other items. Some SWFs have followed through with demands for higher transparency. The Norwegian fund is globally regarded as the best example of a transparent SWF, which publishes and updates investment details. Other SWFs, however, have responded to such pressure by claiming unfair treatment compared to hedge funds and private equity firms whose investments and practices are also considerably opaque in nature.

Corporate governance/independency from the state
With responsibility over state wealth, SWFs are routinely headed by either government heads (Abu Dhabi, Qatar Investment Authority and GIC) or financial ministers (CIC, the Norwegian pension fund, the Kuwait Investment Authority and the Russian stabilization fund). This has caused public doubt on the ability of SWFs to follow commercial principles when pursuing new investments, rather than being driven by political interests.

How to Address the Challenges?

There are various approaches CIC and other SWFs can consider to address these challenges and facilitate their investment plans. Ultimately, however, SWFs will be required to develop and execute a well-designed, multi-pronged communication strategy that encompasses the following:

• Accurately assess and define the regulatory, political and media environment well in advance of publicly announcing an investment plan
• Promptly anticipate the challenges and risks emerging from the public and political environment
• Identify and engage at an early stage partners and allies who can endorse the investment plan
• Engage with opinion-leaders, academia and media for third-party support
• Inform key regulatory and public stakeholders of the objectives and benefits of the investments
• Prepare an issue/crisis management strategy and execute that strategy promptly once a crisis emerges

Gao Weijie is member of APCO Worldwide’s International Advisory Council with more than 42 years of experience in the shipping, transportation and logistics industry. He is the former chairman of China Ocean Shipping Company America and serves as the chairman of the China operation of Lloyd’s Register Asia.

Chang Song is an associate director in the investment and government relations practice in APCO Worldwide’s Beijing office. Formerly with the Bank of China, he is an expert in corporate banking, international trade finance and correspondent bank business.

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