China tech’s venture capital boom is going cold

January 22, 2020, 11:10 AM UTC

Venture capital firms in China are operating under a climate of increasing uncertainty. The U.S. and China’s partial trade agreement has not assuaged fears of a tech war and a growing political rift between the two countries, and China’s economic growth rate sunk to an almost 30-year low in 2019.

Venture capital investment—fueled by China’s half-decade venture capital boomfell globally in 2019, from $302 billion in 2018 to $258 billion, and the number of deals also declined. The volume of U.S. venture capital investment in China peaked at $17.4 billion in 2018. A Rhodium Group report estimated it would fall to $4 billion in 2019.

Chinese tech startups have been hit especially hard. Venture investment in tech startups in China dropped 51.5% year-on-year in the fourth quarter of 2019, according to the China Academy of Information and Communications Technology, a government-backed research institute. And of the $6.84 billion invested in China’s tech startups in the fourth quarter, more than half went to a single company, the data center operator Tenglong Holding Group.

Looking further afield

As VC funding begins to slow, some investors are steering clear of high-risk deals in China and looking towards emerging tech startup markets in Southeast Asia.

David Chang, managing partner at Mindworks Ventures, a Hong Kong-based VC firm that invests in early-stage tech startups in Asia, says Washington’s blacklisting of Chinese tech companies “turns off a lot of investors” in the U.S. who want to invest in firms that could later list on U.S. stock markets.

“Having the trade war turning into a technology war automatically creates a lot of tension [around] technology investment into China,” Chang says. He expects that VC fund investment, reassured by the phase one trade deal, will improve in 2020, but will not return to 2018 levels.

Mindworks’ portfolio includes startups in mainland China and across Asia, including Thailand and Singapore.

“Southeast Asia is becoming a very hot market,” Chang says, adding that U.S.-based investors may reroute funding to Southeast Asian tech startups, especially as the U.S.-China tech war progresses.

Outside the impact of global politics, the dynamics of China’s tech startup landscape are changing.

“I would say there is a focus back on less risky investments,” Chang says, compared to a few years ago, when startups with high burn rates were raking in VC funding. “Now I don’t think these stories will be repeating itself as investors really demand [gross profit margins].”

The notorious collapse of China’s bike-sharing industry, which featured startups with eager investors and unsustainable high growth, in late 2018, was one such wake up call.

Now, as the country’s birth rate hits an almost 60-year low, threatening economic growth, many investors are turning to safer bets and funding larger, more stable companies over smaller, higher-risk startups.

Herbie Fu, partner at Hong Kong-based, fintech-focused VC fund T3 Labs, says VCs in China are “a lot more cautious” now compared to the investment environment five to eight years ago.

Fu adds that consumer-facing tech startups benefited from China’s large population and low internet penetration rate, which is starting to slow, and says investors are turning to companies that work on “frontier tech” and business-to-business transactions.

As many as 336 Chinese startups had to cease operations in 2019, including several unicorns, companies valued at over $1 billion.

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