Does it still make sense to market your EB-5 Project in China?

I believe that there are a number of reasons why it no longer makes much economic sense for the vast majority of Regional Centers, issuers and firms to go to China to market an EB-5 offering through the use of migration agents and other Chinese "finders". Here are my reasons:

1. Cost
2. Competition  
3. Age-outs, Caps, Retrogression & Sustained Investment 
4. Violations of U.S. Securities Laws: Non-Disclosure, Fraud, Misrepresentation and Omission 

1. Cost

Unless you are a well established Regional Center with a long track record of I-526 and I-829 approvals, chances are that most Chinese agents will charge you a staggering amount of both upfront and ongoing fees.  Agents typically charge all of the upfront subscription fee: $40,000 - $60,000 or more per investor is now standard even for some of the Centers with prior raises and established "track records".  

They will also want much of the backend juice as well, and most will charge from 3-8% or more, pushing up the loan costs to the developer and increasingly leaving little left for the Regional Center to cover their start-up and operating costs, even less for the investors who have probably not been told of this arrangement, contra to U.S. securities laws requirements.

Many are also asking for upfront fees so that they can conduct their "due diligence" which could include travel to and from your location, more fees if you are accepted to begin marketing, which could include translation costs, training fees to educate their staff, and fees to reserve meeting spaces for hosting seminars not to mention travel, hotel and travel expenses for you and your team.

Agents are increasingly choosing to work only with well established firms or Centers with large resources and money to spend on marketing and on large ($50 million+) transactions in select, well known locations where they earn considerably larger commissions and higher margins through reduced project volume, marketing and staff training.  

Factors which will increase the likelihood that your deal will not be accepted:

• new entrant to the market
• no immigration track record
• small transaction size
• non-real estate
• outside of a high visibility Metro "gateway" city 
• limited resources to pay agents to market and capture market share

If any of the above apply to your offering then the chances are high that they will look you over or simply mark up their finder's agreement so high that the investor acquisition & transactions costs will exceed any potential for profitability or a successful exit.  

Since there are relatively few Tier 1 agents but hundreds of regional centers desperate to raise capital and a now fixed pool of increasingly frustrated investors (see below) the laws of supply and demand come into play.  A few years ago Centers were able to dictate terms to the Chinese agents but now the leash is in the agent's avaricious hands. Not happy with their terms? They are eager to show you the exit and move on to the next prospect.  

2. Competition

Demand: There are now several hundred EB-5 projects in the market and nearly all of those are being marketed in China.  Since USCIS does not release any project data it is not possible to know with certainty how many projects are in the market but if we take into account what information is in the public domain we would estimate that the current appetite for EB-5 investment is north of $12 billion, over $3 Bn. in a handful of NYC developments alone.  

Supply: If you assume that there are on average 2 to 2.5 family members per investor (the investor plus 1 - 1.5 family member) then that would leave between 4,000 - 5,000 investors in the pool out of the 10,000 EB-5 visas available each year.  Assuming that 95% are at the $500,000 level and 5% are at the 1,000,000 that would mean a pool of between $2.1 - $2.625 Bn.  The portion of that which can be raised from Chinese investors depends on a number of factors which will be described below, but it would most likely be from 60-80% of the total leaving an available pool of EB-5 capital from China  to allocate to the hundreds of projects of between $1.3 - 2.1 billion.  

In other words, there is more demand for EB-5 capital from NYC real estate developers alone than there is for the entire rest of the issuers in the market.  Add to that the demand from other large corporate developers in Los Angeles, Miami, Seattle, San Francisco, Houston, etc. and one should see that there would be little available room for smaller scale development in rural and non-gateway cities, ie. "flyover" country.

This should be particularly discouraging for manufactures, infrastructure, agriculture, commodity, medical device, start-up development or other capital intensive non-real estate investments. 

Assuming that there would be no new entrants into the market, it could take over four and half years (at current levels) for sufficient capital to be allocated to your project. Based on what is published, however, it appears that there is at least one new EB-5 project being introduced to the market every day (thank the endless number of conferences and "easy money" EB-5 seminars by overly enthusiastic immigration attorneys, industry service providers and promoters promising easy access to low-cost capital) so the length of time to complete your raise in China, given the above, would be significantly longer.  

Our understanding is that fewer than 10% of the deals shown to the Tier 1 & 2 agents are being accepted and of those that are marketed by them less than 1 in 10 projects are being fully funded. The probabilities of getting your project accepted and funded by an agent who can complete your raise are currently low unless you are an established Center and/or firm with deep pockets to take away market share from others as this is a zero sum and increasingly competitive and crowded space. 

3. Age-outs, Caps, Retrogression & Sustained Investment

China is in a sticky situation with retrogression and the number of investors that can be granted residency status.  Simply stated it means that the number of visas that the State Department is able to allocate to any particular country is capped and for the past two years China has exceeded the quota of available visas so they now face a throttle on how many applicants visas can be reviewed, approved and then given visa numbers in any one year.  There is now a long waiting line and limit to how many investors from China can invest in a single year which places a ceiling on the amount of capital that can be raised in China.  

This is a complicated subject but there are three excellent articles which give superb insight, go into much more detail, and should be reviewed by all considering their Chinese EB-5 strategy:

1. Suzanne Lazicki's EB-5 Timing Issues: Not a Fast Track

"As of December 2015 there were about 20,000 I-526 petitions pending at USCIS and about 21,000 pending EB-5 visa applications, which means about 57,000 people are currently in line for an EB-5 visa. With the annual EB-5 visa cap set at about 10,000 visas, it will take that queue about six years to advance through the system. So if you are an EB-5 investor entering the queue today, it may take you six or seven years just to reach the window where you can get conditional permanent residence (based on the number of people in front of you and the annual visa allocation, regardless of how efficient USCIS/DOS may get with processing times). And that means it may be nine to eleven years before you can expect to have conditions removed and think about exiting the investment."

"Investors and businesses using EB-5 investment should look long and hard at the timing scenarios in the chart above, and consider the implications. That T3 scenario is dire. It’s hard on investors, who are generally interested in immigrating sooner rather than later, may have children who will age out in less than six years, and who don’t want to maximize the time their capital is tied up at negligible interest. It’s hard on businesses, who’ll have to try to make predictable plans on a decade horizon, will be limited in how they can close out successful projects, and face a long period of dealing with EB-5 record-keeping and reporting"

2. Robert Divine's The Realities and Implications of Chinese EB-5 Investors’ Wait for Visa Numbers

"The EB-5 industry needs to face a new reality: Investors born in mainland China who file I-526 petitions from now to the foreseeable future will have to wait at least six years before a visa number will be available for them to use an approved I-526 petition to actually immigrate to the United States. The higher the number of I-526 petitions that exceeds the visa supply, the longer the wait will get."

3. Julia Park's article: EB-5 Investment Sustainment Requirement 

Regarding a key provision in EB-5 law, sustaining the investment, this now has also become much more complicated and onerous for the issuer who subscribes Chinese investors. The problem is only encountered in China, and it will affect the eligibility and repayment to the investor, possibly their dependents, and will involve issues that the RC and issuers and need to take into consideration and address when drafting their Chinese offering and marketing documents.    

4. Violations of U.S. Securities Laws: Non-Disclosure, Fraud, Misrepresentation and Omission

Chinese agents have represented many of the projects that have failed, Centers that have been terminated and issuers who have been the subject of Federal agency investigations and actions.  Nearly all of the actions by the SEC have involved projects which used Chinese agents and other non-registered persons and this has caused significant problems for issuers and investors alike.

From failing to disclose compensation agreements to investors, omission of material facts, to fraud and misrepresentation, the list of problems which could be caused by the inappropriate actions of these agents is extensive.  

The ability of Regional Centers, issuers and borrowers to escape their responsibilities concerning the actions of agents and finders they engage with, regardless of their location, and the repercussions for failure to properly supervise what they do and say (or not say) is the subject of several articles from Doug Hauer with Mintz Levin:

Borrowers in EB-5 Deals Not Insulated from Securities Litigation by the SEC

"While issuers and regional centers are the focus of EB-5 litigation right now and into the foreseeable future, if you are taking direct proceeds as a borrower in a transaction facilitated by an EB-5 regional center or issuer you need to have legal advice on the scope of your liability in a deal. Many large-scale EB-5 transactions are driven by a regional center that is facilitating a loan to a project or EB-5 borrower. 

"Borrowers in such transactions often operate under the misconception that they are insulated from liability because they are not an issuer, and that this “insulation” means no accountability to the SEC or to investors. Nothing could be further from the truth."

"The SEC may name an EB-5 borrower in a transaction as a relief defendant in a civil action against a regional center or issuer. An asset freeze, disgorgement and reputational harm, among others, are all possible outcomes if a borrower receives direct proceeds of a toxic EB-5 deal that lands in litigation. The SEC also has the power to sue persons who aid and abet a violation of the securities laws. In the EB-5 context, where borrowers may accompany a regional center on a roadshow or participate in marketing efforts, caution is warranted."

Limiting Securities Litigation Risks in EB-5 Offerings: What Regional Centers and Issuers Need to Know

"First, know the parties selling your deal abroad. Material misstatements in the sales process made by a promoter to an investor can cost you later. If you rely on agents and market makers outside the U.S., know those parties and do not take risks entrusting the marketing of your deal to unknown parties." 

What damages and penalties can be assessed?

"Under Section 20 of the Securities Act (15 U.S.C. § 77t), and Section 21 of the Securities Exchange Act (15 U.S.C. § 78u), the SEC may bring a court action to enjoin illegal acts, to enjoin a person from serving as an officer or director of a public company, or impose civil penalties. The defendant may be ordered to pay the gross amount of pecuniary gain to such defendant as a result of the violation, or a penalty of up to $100,000 for a person or $500,000 for any other entity. See 15 U.S.C. § 77t(d)(2);  15 U.S.C. § 78u(d)(3). The SEC may also bring an administrative action in which it can assess penalties as high as $150,000 for a person or $725,000 for any other entity."

"A private plaintiff may recover damages for economic loss sustained as a result of the alleged misstatement, omission, or fraud. For example, “a defrauded buyer of securities is entitled to recover the excess of what he paid over the value of what he got.” 

Conclusion

China is still by far the largest gorilla in the room and migration agents there will still raise about $2 billion of capital from EB-5 investors for U.S. issuers so there is no doubt that it is, and will remain for the foreseeable future, a large and fertile source of capital.  

The two central points I feel are important for those considering raising capital in China by engaging the help of a Chinese migration agency (or attorneys & promoter "finders" with connections to China) to help market their offering:

1. The landscape has changed significantly in the past few years:

• The number of investors from China is capped limiting the total amount of capital that can be raised (supply is limited)
• Explosion in the number of Regional Centers and investment offerings has risen dramatically (demand far exceeds supply and is growing exponentially)
• Increased scrutiny and actions by Federal regulators on overseas EB-5 offerings will increase the investor acquisition cost and penalties for  securities violations: failure to disclose compensation arrangements, material facts (omission), fraud and misrepresentation

2. The capital raised is going to a very small number of established Centers and firms with substantial resources.  Some estimate that 90% of the capital raised in China goes to fewer than 10% of the Centers / issuers.  To capture market share from those entities is very expensive and time consuming.  

The increase in the competition for capital (demand) given a smaller pool of investors (supply) and increased costs to operate in a more regulated environment naturally means that the cost to acquire the investor will increase.

Issuers should look beyond the marketing hype promoted by the agents and their cheerleaders and perform a realistic cost benefit analysis to determine if marketing in China makes economic sense for the deal and most importantly, for the issuer and the investor.  

A Possible Alternative Solution

While the problems with agents and finders have increased in recent years in hand with the increased investor acquisition costs, they are by no means new.  To address the needs of issuers to speak with investors worldwide in an efficient and U.S. securities compliant manner we have developed a solution which uses technology and reforms to U.S. securities laws to allow Regional Centers and issuers to interact directly with potential investors regardless of their location.

By removing the finders, issuers are able to reduce the costs involved in their capital raise globally, reduce subscription fees, increase returns to investors substantially increasing the attractiveness of their offering (ROI) and offer a greater level of transparency to the immigration attorneys and investment advisors conducting due diligence on the investment.  This results in lower costs not only for the issuer but also for the investor while increasing the transparency of the offering in a securities compliant environment.  

In addition to eliminating commissions, travel and time spent doing offshore seminars could be reduced or eliminated saving much time, cost and aggravation to the principals.  The platform can support Reg. S, D and A+ offerings as we do the KYC and accredited investor verification so only accredited investors see the offering details, and only those that qualify: Resident (D) or Non-Resident (S) or all (A+).   Partners of ours can do the fund administration, AML, source of funds investigation, escrow (if needed) and bank account set up, which integrates with the platform.  

The platform's back end administrative section can be used by investment managers to post updates and reports on the status of the Job Creating Entity (JCE) to all investors in the pool ensuring compliance with USCIS and FINRA reporting requirements.   Investors, their attorneys and advisors can view the progress and development of the JCE from development through operation and exit reducing their anxiety and helping them prepare for the I-829 filing, income and tax reporting.   

Using the platform may not eliminate the need to use foreign agents but it could be part of a low-cost, efficient and securities compliant global capital acquisition strategy, especially for those who find engaging offshore agents difficult or expensive. For a demo of our EB-5 Investments platform solution please contact us. 

https://www.linkedin.com/pulse/does-still-make-sense-market-your-eb-5-project-china-michael-gibson?published=u

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• U.S. Citizenship and Immigration Services
• UNITED STATES SECURITIES AND EXCHANGE COMMISSION
• Robert Divine
• FINRA - Financial Industry Regulatory Authority

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