Guest post by Z. Alex Zhang, and Vivian Tsoi from White & Case LLP
Overseas VC funds have been pouring into Chinese startups this year—at certain points, overtaking their US counterparts. What’s the attraction and will it last?
In the second quarter of 2018, for the first time in history, companies based in China secured more venture capital (VC) funding (US$30.9 billion) than their North American rivals (US$27.2 billion), according to data from Goldman Sachs.
Although KPMG data shows that the US reclaimed the top spot for total VC investment in Q3, recording US$27.9 billion for the quarter compared with US$17.6 billion across the whole of Asia, China nevertheless accounted for seven of the 13 largest VC financings globally in Q3. Deal figures reflect how China’s VC ecosystem has developed a proven track record for executing giant funding rounds.
ANT Financial, the Alibaba affiliate that operates China’s largest online payments platform Alipay, secured the biggest VC funding round ever when it raised US$14 billion in a series C funding round from a consortium including The Carlyle Group, Warburg Pincus, Temasek, GIC and Silver Lake, among others. ANT, which has added money market fund and credit scoring services to its Alipay payments platform, now has more than 870 million users and its profits grew by 65% in the year to the end of March 2018. An IPO that could value the business at US$150 billion or more is anticipated.
Other billion dollar-plus funding rounds for Chinese companies include a US$1.9 billion investment in Manbang, the developer of a digital platform connecting shippers and truckers, by a consortium led by China Reform Bank, Alphabet and SoftBank Vision Fund; and a US$1.1 billion round for online healthcare insurance provider Ping An Medical, led by SoftBank Vision Fund, SBI and IDG. Manbang, which applies the logic of ride-sharing apps to transport and logistics, has significant growth potential in a fragmented market worth around US$150 billion.
Ping An Medical, a division of China’s largest healthcare insurer Ping An, provides technology that gives hospitals access to patient records. Ping An has invested aggressively in technology and funded a number of digital real estate, automotive and fintech companies.
Large funding rounds like these demonstrate how China has become the leading market for large venture rounds, with an aggregate value of US$100 million or more. According to research from technology data firm Crunchbase, US companies raised US$38.4 billion in these so-called “giant rounds” in 2018 (through the beginning of November), while Chinese companies raised almost double that amount, securing US$69 billion in 160 “giant” rounds.
For investors looking for growth beyond the mature and competitive US market, China is the obvious alternative. The scale and growth of the Chinese economy, a population of more than 700 million internet users to target with disruptive, tech-enabled services, and extensive financial support from a government eager to diversify a manufacturing-dominant economy have made China’s VC market, the second-largest in the world, one that foreign investors just cannot ignore.
As has been the case in other jurisdictions, venture investment in China has coalesced around the transportation and logistics, fintech and biotech sectors.
In the transportation space, Beijing-based ride hailing app Didi Chuxing raised US$500 million. Logistics platform New Dada also raised US$500 million and Chinese electric car group Xpeng has secured US$596 million in a series B round.
In the fintech sector, meanwhile, China is rapidly evolving into a cashless society, with platforms like ANT Financial’s AliPay and Tencent’s WeChat used by billions of consumers. (ANT Financial is also investing outbound, into bKash Ltd., empowering the mobile fintech provider to promote greater financial inclusion for unbanked and underbanked communities in Bangladesh.)
According to iResearch and Forrester Research, China’s shoppers conduct 11 times more mobile payments than their counterparts in the US. The rapid uptake of digital payments has opened up the opportunity to sell additional tech-enabled financial services to these huge user bases. Alongside the growth of China’s payment platforms, other fintech ventures such as bitcoin-mining unicorn Bitmain have also attracted large funding rounds.
In the healthcare arena, China’s large population and stretched healthcare services have encouraged investment in biotech, personalized medicine and technology tools that help to reduce healthcare costs. Ping An’s extensive investment across all aspects of healthtech exemplifies this trend.
A bright future
As a VC investment hub, China is no flash in the pan. During the last two years, VC investment in the country has nearly doubled, and senior tech executives, such as the head of Google’s parent Alphabet, Eric Schmidt, have predicted China could be ahead of the US in areas such as AI as early as 2025.
But the Chinese market is not without its challenges for foreign investors. Chinese tech giants Alibaba, Tencent and Baidu are such dominant forces that it can be difficult for foreign investors to compete for deals without going alongside one of these behemoths.
Protectionist flashpoints between the US and China are also an obstacle, as it is now more difficult for successful Chinese platforms to build a presence in the lucrative US market. ANT Financial, for example, walked away from a deal to buy money transfer company MoneyGram after being blocked by the Committee on Foreign Investment in the United States (CFIUS) because of national security concerns.
China’s government is supportive of VC investment, but it has tightened some rules that could affect investment opportunities for overseas investors. For example, tougher rules from the central bank for scan-and-go payments could slow growth in the payment processing space.
Despite these hurdles, the Chinese VC model is following a similar route to the US, according to the founder of the Singularity University, Peter Diamandis. And China recognizes that there is much to be gained from bringing in foreign expertise and capital to accelerate the development of its VC scene. Foreign investors in Chinese VCs and start-ups still have much to get excited about.