Intelli-bytes Episode: Cashing in on a New China

In response to LPs’ requests for sharing our virtual research meetings, we bring you Intelli-bytes– video-recordings of our interactive dialogues with managers of interesting opportunities. Our live conversations with managers are not scripted but curated from a research perspective to help our sophisticated LP audiences learn about niche investment opportunities, strategies, relevant manager skills/experiences and personalities, just as they would if they were interviewing the managers themselves. These conversations are neither meant to be product pitches nor staged to allow a manager to give canned presentations that they could perhaps give on their own behind a camera or in podcasts behind the scenes.

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Our latest episode of Intelli-bytes is with Ben Fanger of ShoreVest, probably one of the earliest investors in China distressed debt who set up shop on the ground in China 15+ years ago and has transacted over $ 1 billion in NPLs and special situation loans since then. After an initial review of ShoreVest featured in Intelli-bytes in October 2021, we conducted a full-fledged investment audit in the first quarter of 2022, summarizing our findings in a confidential Investment Audit Report that many LPs globally have accessed directly from us to initiate/complete their own due diligence.

As one can appreciate, a lot has transpired globally and especially in China in the last eight months since we completed our investment audit in March 2022. Therefore, we thought it’s imperative to reaffirm ShoreVest’s original thesis in light of the changing macro environment in China. Through this episode of Intelli-bytes, we share with you a live recording of our conversation that you might find useful as an addendum to our comprehensive Investment Audit Report, as you continue your due diligence of ShoreVest.

Synopsis: Cashing in on a New China

What was a preview to a new China the last couple years, now formally defines China’s “new era” with Xi Jinping’s confirmation for an unprecedented third term at the recently concluded Chinese Communist Party’s congressional meetings. “Xi Jinping Thought”, “Common Prosperity”, “Dual Circulation”, etc, are loudly proclaimed China’s governing mantras as it paves its path forward to the world stage and at home. The go-go yester years that lured foreign investors to Chinese equities (recall the “A Share” craze) and bonds will yield to a new environment where private businesses (and by extension investments) will have to stretch further to find new catalysts to grow and thrive in harmony with the State’s objectives.

In this milieu, cashing in on a new China is almost counter-intuitive! But banking on one of China’s key objectives (i.e., Xi Jinping’s signature policy reforms, more pertinently) of “de-risking and deleveraging” affords an idiosyncratic opportunity which forms the central thesis of ShoreVest’s two-pronged “cash generative” strategy: monetizing non-performing loans, and lending into special situations.

Recognizing the impending threat to its financial (and social) stability, China gave a regulatory push in recent years to its de-risking and deleveraging signature reform by mandating its Asset Management Companies (AMCs) to dispose of non-performing loans estimated up to $4 trillion (Source PwC) accumulated in the aftermath of the GFC through China’s unbridled debt-fueled expansion/fiscal stimulus in 2009-2014.  As a result, each of the last two years saw massive NPL disposals of $0.5 trillion on average (Source: CBIRC). Relatedly, since 2018 China has also cracked down on its shadow banking sector removing ~$ 800 billion (Source: Moody’s) of a valuable funding channel for borrowers who often need urgent flexible capital for special situations to refinance a maturing loan, bridge finance to an IPO, rescue finance, etc.

With a remaking of China’s Politburo and faced with a sharp economic slowdown, it warrants reaffirming, if China would continue down its de-risking and deleveraging path or revert to its debt-fueled expansionary ways. By the same token, it begs asking if AMCs would stay committed to their core mandate to dispose of NPLs and not get distracted/go slow by Beijing’s interim directives and their own temptations to digress to bailing out the ailing property sector.

With the property market in a state of flux, establishing real estate/collateral values poses a challenge which justifies asking how ShoreVest is adapting to the new environment to value collateral which is key to pricing its bid and exits of NPLs as well as establishing loan-to-value margins for its special situations’ loans. By extension, it is imperative we ask how ShoreVest is adopting conservative practices to underwrite, execute, risk-manage its portfolio. Lastly, it’s important we re-establish how the exit environment is shaping up with some indications from ShoreVest’s recent exits of NPLs and special situations (in a downbeat atmosphere) for it to realize its return objective of mid-to high teen IRRs at the deal level.

We discussed all the above and more with chief strategist, Ben Fanger of ShoreVest (China) Credit Opportunities Fund II drawing upon his all-Mandarin speaking local team’s on-the- ground presence and Shorevest’s China-wide footprint through in-house and external servicers.

Please take a listen and stay tuned.

LPs are welcome to reach out to us at [email protected] with questions, comments, or requests for more information/Investment Audit Report on ShoreVest.

Yours truly,

Kamal Suppal, CFA

Chief Investment Auditor

November 9, 2022

The above content including the recording of the video-call is for information purposes only and should not be used as a basis to make investment decisions. This content is intended for sophisticated audiences as in institutional investors or family offices to help qualify an opportunity for further due diligence. Any theme or idea discussed above is not an offer to buy or sell any investment. All opinions expressed in the video-recording are the managers’ and not of Emerging Markets Alternatives.

GPs with compelling value propositions who wish to be featured in future episodes of Intelli-bytes and/or considered for a full investment audit, are also welcomed to reach out with a profile of their firm, strategy, and related fund.