China's private-equity market is very active and is by far the largest in Asia. The industry is growing rapidly partly because it is seen as an important source of capital to fund private-sector growth.

Many small- and medium-sized enterprises in China have had difficulty in raising bank loans or accessing capital markets. As a result, the Chinese government has recently introduced a range of measures to support the private equity industry. A vibrant domestic private-equity industry is emerging.

Regulatory reforms are opening up whole new classes of limited partnerships that are permitted to invest in private equity funds, including insurance and securities companies. That provides a theoretical "wall of money" estimated by some to be more than 400 billion yuan.

Still, evidence suggests that fundraising within China may become more difficult, with limited partnerships becoming increasingly particular over which general partners, or managers, they should entrust with their money.

The partnerships' demands for first class governance, controls, investment and divestment procedures, and reporting will result in a consolidation of the industry, which has already begun. Stronger and more reputable Chinese private-equity funds will thrive, eventually emerging to compete on the world stage with their global peers from the US and Europe.

Over the last several years, almost US$200 billion of capital has been raised by the industry for investment in China, and there are now probably more than 3,000 private equity-owned portfolio companies in China. In this part of the world, most exits are by way of initial public offerings. Despite highly volatile equity markets, there were more than 160 private equity-backed IPOs of Chinese companies last year - the highest anywhere in the world.

New fundraising also hit record levels in 2011, with close to US$40 billion raised specifically for investment in China , and this ignores pan-Asian and global funds that also can invest in China. For the third year running, yuan-denominated fundraising comprised about two-thirds of the amounts raised.

Many foreign partnerships have also set up their own yuan funds, whilst others wait on the sidelines. There are many uncertainties related to foreign-currency conversion, investment restrictions, taxation and exit options. It now appears clear that even a very small foreign participation in a yuan fund will result in the whole fund being considered "foreign," thus negating some of the perceived advantages that wholly local funds may enjoy, such as easier regulatory approvals and a less restrictive range of investment options.

Private investment

PwC has seen very strong private equity deal activity in the market recently. Growth capital funds continue to dominate, but there have been a large number of "private investment in public equity" transactions, and a small but meaningful uptick in buy-out transactions.

We believe that as the market matures, buyout transactions will be of greater frequency and importance. Private equity funds are very focused on industries that stand to benefit from the transition in the economy and from the implementation of the 12th Five-Year Plan. Typically, these include Chinese industries linked to domestic consumption, and also healthcare and pharmaceutical, clean technologies, media and entertainment and service industries, including financial services where regulations permit.

Policymakers in China have recognized the importance of private equity in providing capital to the fast-growing private sector of China's economy. They are drawing up a host of new rules and regulations to support a strong domestic private equity industry and facilitate foreign participation.

China's National Development and Reform Commission has said it will regulate the industry and issued an important circular on the subject last year. High-level Chinese government delegations have also made visits to meet with private-equity regulators and industry players in key overseas markets.

Many of the world's leading private equity funds continue to argue that China now offers the best opportunities in the world. Conversely, we are also seeing a steady increase in the number of Chinese private-equity players doing deals overseas.

In summary, whilst some uncertainty remains in the near term, particularly around the issues of regulation, taxation, IPOs and exits, the medium-term tail winds for the private equity industry in China are very strong.

In light of the rapid market interest and growing support from China, many people believe that it is only a matter of time before China produces its own homegrown global private investment firms to rival the largest players in the industry.

David Brown is the leader of PwC Greater China Private Equity Group. Roger Liu is a partner with PwC Greater China Private Equity Group. Sally Yip is an Associate Director with PwC Greater China Private Equity Group. The opinions are their own.