State Capital Urges Exit: Exemption, Reduced Local Investment Quotas, S Funds, and Cross-Regional Co-Investment Gaining Momentum

As the “sole” source of fresh capital in the current capital market, state-owned assets have recently made new moves.

On July 25, at the Chengdu High-Tech Zone Ceyuan Capital Ecosystem Conference, the Chengdu High-Tech Industrial Development Zone unveiled a full-lifecycle investment fund operation system. Notably, it clearly defined the tolerance thresholds for losses across various types of investment funds—The permissible loss ratios for policy-oriented funds, such as seed, angel, venture capital, industrial investment, and M&A funds, are set between 30% and 80%, while the permissible loss ratio for market-oriented funds is set at 20%.。

Notably, over the past month, Beijing, Shanghai, Guangzhou, Zhejiang, Henan, and other regions have also made significant efforts to enhance “fault tolerance.” For instance, Shanghai’s recently released *Several Opinions on Further Promoting High-Quality Development of Venture Capital in Shanghai* explicitly states that no negative evaluation will be given for technology investments that fail to meet expected targets, provided they were implemented in accordance with national and municipal policies and regulations, and the personnel involved acted diligently and in good faith without seeking personal gain. Similarly, the *Implementation Plan for Henan Province’s Angel Investment Guidance Fund* clearly stipulates that government decision-making departments, entrusted management institutions, and fund management agencies will not be held liable for losses resulting from policy adjustments or force majeure, as long as the investment loss rate remains within 40%.

Looking Beyond the Surface to the Essence: Local State-Owned Assets Are Currently Collectively Easing Up on "Liability Exemption"Largely driven by an urgent need to exit.. In fact, besides liability exemptions, measures such as lowering the return investment multiplier, easing return investment restrictions, and establishing S funds are also typical manifestations of state-owned capital’s urgency to see returns. On this matter, a senior investor stated, “Although exit difficulties have become a common predicament for both GPs and LPs,However, for local government guidance funds, it is crucial to see returns within a relatively short period.。”

It is evident that the issue of exit strategies for government guidance funds has come to the forefront. As the healthcare sector represents a key area of investment for local state-owned assets, what implications will this have in the future? Can healthcare companies and related funds capitalize on this trend to execute their exits? These questions are becoming the focal point of the industry.

According to data from Zero2IPO Research, in 2023, the proportion of capital contributions from state-owned limited partners (LPs) exceeded 70%.

Figure 1. Cumulative Capital Contributions by Various Types of LPs in Registered Private Equity Funds in 2023 (Data Source: Zero2IPO Research)

This is undoubtedly an astonishing figure, yet the emergence of this phenomenon follows a discernible pattern. In 2022, impacted by the market winter, a wave of U.S. dollar funds withdrew in succession. At a critical juncture when the capital market urgently needed fresh inflows, state-owned capital stepped forward and quickly assumed a leading role. Meanwhile, under pressure from economic growth challenges and the need for industrial upgrading and transformation, local governments also sought to leverage government guidance funds to achieve performance growth targets. Consequently, over the past two years, parent funds with scales of tens or even hundreds of billions have emerged in large numbers. According to statistics from Zero2IPO Research,The scale of government-guided funds grew to nearly RMB 13 trillion in 2023.。

But after the initial fervor subsides, things must return to calm. The first wave of local state-owned capital investors has now reached a critical stage where they must “deliver results,” forcing them to directly confront exit challenges. In this regard, an executive from a Chengdu state-owned enterprise stated, “The typical lifespan of government industrial guidance funds is five to seven years. However, some localities, in their rush to seize market opportunities, may compress the investment horizon to three or four years. This means that starting this year, many local guidance funds will face a wave of liquidations, with exit issues becoming an unavoidable reality for all.”

Beyond the issue of fund maturity, avoiding stagnation has made exits increasingly urgent. Specifically, amid the market winter, exits have become more difficult, with IPOs—the primary exit route—showing a clear narrowing trend. According to incomplete statistics, as of July 2024, nearly 100 healthcare companies had terminated their IPOs for various reasons this year, with only 12 successfully listed. Furthermore, industry-wide data from Zero2IPO Research Center shows that in the first quarter of 2024, there were only 109 IPO cases among domestic portfolio companies, a year-on-year decline of 52%.

Figure 2. Number of Exits in China’s Equity Investment Market, 2019–H1 2024 (Data Source: Zero2IPO Research)

A precipitous drop in data also means that a large number of local government guidance funds are finding it difficult to exit their investments at present, a scenario local governments are most eager to avoid. In this regard, an investor from a Shenzhen state-owned enterprise remarked, “For local government guidance funds, it is crucial to maintain a steady stream of capital repayments. After all, the development of emerging industries also requires capital infusion. If funds cannot be recovered over an extended period, localities will be unable to recycle capital for reinvestment, which would significantly hinder the progress of local industrial development.”

To avoid this situation,“S Funds” Begin to Surge, Since the beginning of this year, Shanghai, Anhui, Sichuan, Xiamen, and other regions have successively announced the establishment of their first local S funds. It is reported that S funds are often regarded as a “buffer zone” for private equity and venture capital funds to address exit challenges, also known as “relay funds” or “succession funds.” Unlike market-oriented S transactions, which primarily aim for arbitrage by acquiring assets at a discount (“picking up bargains”), locally established S funds are mostly designed to take over previous local funds, thereby releasing liquidity for local fiscal authorities, banks, and other entities. In short, it is a strategy of exchanging funds for time.

The final point to address is the source of funding, which is also one of the key factors driving the urgent need for exit among local government guidance funds. It is reported that government guidance funds are primarily capitalized by local fiscal budgets and state-owned asset holding platforms, with local fiscal contributions typically constituting the majority. However, over the past one to two years, prolonged periods of deficit spending have placed significant pressure on many local governments, making the sustainability of future capital commitments a major challenge. It has been revealed that numerous local governments are currently raising funds through various means, including land sales, deferring the disbursement of relevant funds, and borrowing from state-owned enterprises.

Thus, it is not difficult to see that after two or three years of frenzied investment, local governments are now extremely eager to realize returns, which has made the exit issue for government-guided funds increasingly urgent.

Even during the heyday when local government guidance funds were frequently announced, many people expressed concern over this “prosperity.” After all, with such a large volume and scale of capital, how much of it will ultimately be realized? This is not an easy question to answer, as the challenges are clearly evident.

The first challenge is how to confront the market winter. In fact, the current phase in which local state-owned capital has stepped forward coincides with an industry downturn: the primary market has shrunk significantly, while the secondary market is nearly dormant. For reference, according to incomplete statistics from the VCBeat database, there were 415 healthcare and medical financing transactions in China in the first half of 2024, representing a two-thirds decrease compared to the same period in 2021. The direct impact on state-owned capital is that high-quality projects are hard to find, and achieving exit is even more difficult.

Figure 3. Trends in Investment and Financing in the Healthcare Industry, 2012–H1 2024 (Data Source: VCBeat)

A senior executive at a state-owned enterprise (SOE) in Chongqing strongly resonated with this view. He remarked, “Previously, we only considered projects at Series B and beyond, most of which were directly referred to us by institutional investors. However, over the past one to two years, our investment stage has shifted significantly earlier, requiring us to proactively seek out opportunities across China. In this process, we have clearly observed that high-quality projects are scarce. Even when such projects are identified, it is currently difficult to accelerate their development due to substantial market uncertainty. Each step forward entails greater risk, an area where SOEs are least adept.”

And besides the market winter,The misalignment between local state-owned assets and the industry may also make subsequent fund exits particularly challenging.As previously mentioned, the surge in government guidance funds is largely driven by local governments’ pursuit of economic growth. Under such circumstances, local authorities naturally favor frontier sectors with greater market potential, such as synthetic biology, radiopharmaceuticals, and surgical robots. In their rush to gain a first-mover advantage, they often act hastily without adequately assessing their own capabilities or underestimating the challenges inherent in industrial development.

This approach certainly contradicts the logic of industrial investment, particularly in cutting-edge technological fields, where emergence hinges on the maturity of the entire industrial chain. Take synthetic biology, which has garnered significant attention in recent years, as an example. To foster development in this sector, Shenzhen’s Guangming District has not only introduced specialized policies and funding but also implemented comprehensive strategies spanning R&D, incubation, and commercialization. Even project acquisition efforts cover upstream, midstream, and downstream segments. Commenting on this, a senior industry expert stated, “While venture capital is an essential component of industrial development, it is by no means the sole determinant—a nuance that local governments often overlook.”

Last but not least, the constraints inherent to state-owned capital itself represent the most formidable hurdle on its exit path. It is reported that“No loss” is one of the performance evaluation criteria that many state-owned venture capital firms are required to meet., it is evident that this completely deviates from market operating rules. In response, a head of a state-owned enterprise in Hefei remarked, “Since it is investment, there must be both profits and losses. Especially for industrial investment, losses are the norm; if one out of ten projects turns a profit, that is already quite good.”

However, most local governments remain unconvinced by such arguments, continuing to evaluate state-owned venture capital (VC) platforms primarily based on their ability to preserve and increase the value of state assets. This has directly led to excessive caution among state-owned institutions: they hesitate to invest in promising projects and, when suitable exit opportunities arise, often miss them due to valuations that significantly deviate from market levels and lengthy periods required for assessment and filing. In fact, over the past two years, state-owned VC firms have largely struggled to operate in a market-oriented manner throughout the entire process from deal sourcing to exit. When making investment decisions, their primary consideration is how to submit performance reports that meet administrative requirements while avoiding any financial losses.

Therefore, from an overall perspective, it is not easy for state-owned capital to exit at present. While unfavorable external factors certainly play a role, the more critical issues lie within the entities themselves. Immature operational systems and unreasonable performance evaluation mechanisms have indeed become significant obstacles on the current exit path for local state-owned capital.

According to the "Analysis Report on State-Owned Capital Platforms (2019–2023)" released by CVSource Institute, state-owned institutions invested in approximately 20,000 enterprises over the past five years. Based on the total investment volume during the same period, this implies that one out of every three enterprises received direct investment from state-owned institutions. This clearly indicates that China’s capital market has fully entered the “Era of State-Owned Capital.”

Figure 4. Number and Amount of Direct State-Owned Capital Investments, 2019–2023 (Data Source: “Analysis Report on State-Owned Capital Platforms, 2019–2023”)

However, as time progresses, the issue of state-owned capital exit has become increasingly urgent. Consequently, the entire industry has begun to confront the significant challenges and obstacles on the path to state-owned capital divestment, striving to address them one by one. The most notable measure in this regard is the intensified focus on establishing “liability exemption” mechanisms.

In this regard, Hefei’s state-owned assets, which have been particularly active in the venture capital and private equity market in recent years, hold a certain degree of influence. Commenting on this, a healthcare-focused investor from the entity stated, “The Hefei municipal government is not concerned about investment losses incurred by state-owned asset platforms, nor does it impose performance requirements related to returns or tax contributions on state-owned venture capital firms. In their view, investment losses are a normal occurrence, reflecting both market logic and the operational mindset of these platforms. The regulatory boundary for assessing state-owned venture capital firms is ‘non-interference unless necessary’; as long as projects are established in Hefei, regulatory authorities will not readily intervene.”

In addition to liability exemptions, state-owned capital is also increasingly relaxing its criteria for recognition. Taking the reinvestment multiple as an example, according to incomplete statistics from the Fund of Funds Research Center on a subset of tracked government guidance funds, the average required reinvestment multiple across the industry has decreased by more than 40% over the past six years. Compared with the previous common requirements of 2x or 3x, the current industry average reinvestment multiple stands at approximately 1.5x, with some guidance funds even lowering their requirements to below 1x. In Wenzhou, for instance, the reinvestment multiple has been reduced to an unprecedented 0.4x.

Furthermore, regarding local certification, many funds now permit the fulfillment of local reinvestment requirements through various mechanisms. These include equity investments by non-local enterprises (invested by the reinvestment entity) into existing local companies; acquisitions of invested non-local enterprises by local companies; investments in subsidiaries controlled by local enterprises but located outside the region; introduction of non-local enterprises that, although not directly invested in by the reinvestment entity, establish operations locally; and other related investment activities conducted through affiliates of sub-funds.

Spurred by this, since the beginning of this year,New Trends of "Co-Investment Syndication" and Cross-Regional Cooperation Emerge in Government Guidance Funds. Taking the recently established Zhejiang Province Specialized, Refined, Differential, and Innovative (Wenzhou) Fund of Funds as an example, it was jointly initiated by Guangdong Yueke Financial Group Co., Ltd., the Zhejiang Provincial Industrial Fund, and the Wenzhou Industrial Development Fund, with a fund size of RMB 3 billion. In addition, this July, Guangdong Yueke Financial Group signed agreements with seven provinces—Zhejiang, Liaoning, Sichuan, Hainan, Shaanxi, Fujian, and Jiangxi—to establish seven inter-provincial coordinated development funds of funds, with a total scale exceeding RMB 17 billion.

In this regard, a senior executive from a state-owned enterprise remarked, “For government guidance funds, ‘local protectionism’ has traditionally been very strong, which is why there were few instances of ‘consortium co-investment’ in the past. If a fund is capitalized by two different local governments, conflicts may arise regarding its registration. However, the growing number of collaborative cases now reflects that many local governments have become increasingly open-minded and are more determined than ever to achieve successful exits.”

Whether it is granting exemptions or relaxing requirements on the ratio and calculation basis for reinvestment, these moves largely reflect compromises by state-owned capital institutions. In fact, to accelerate exits, state-owned capital is also proactively seeking change.The most typical move is that many regions have recently begun to dismantle their investment promotion departments.. It is reported that Shanghai, Shandong, Jiangsu, Anhui, Chongqing and other regions have taken the lead in abolishing internal government investment promotion departments, and relevant platforms have also initiated procedures for suspension, closure and deregistration.

This means that the past investment promotion models, which were primarily based on “tax incentives” and “rewards and subsidies,” have reached their end. Currently, various regions are placing greater emphasis on the synergy between investment and investment promotion, as well as on the introduction of fund resources, in developing niche industries. Against this backdrop,State-owned assets have also undergone a natural evolution, progressing from the extensive growth model of Version 1.0 to the intensive cultivation of Version 2.0, and now advancing further toward industrialization and matrix-based development.. Its purpose is straightforward: to enable state-owned assets to operate in a more market-oriented manner, as this is the only way to facilitate subsequent exit strategies and revitalize capital.

Therefore, whether it is investment firms backed by state-owned capital or healthcare enterprises directly invested in by state-owned entities, both will witness a wave of “exit activities” in the future, presenting a new round of opportunities for the healthcare industry.

1. "The Inescapable Dilemma of 'Gains and Losses' for State-Owned Venture Capital" — Economic Observer;

2. “0.4x Return Investment: A New Breakthrough for Guidance Funds” – Fund of Funds Research Center;

3. “The Primary Market Fully Enters the Era of State-Owned Capital” – ChinaVenture