China may have the second biggest VC market in the world after the U.S. and have a shared interest in new and emerging technology startups, but recent numbers and growth show the country is working its way into first place.
This is especially true since venture capitalists are considered one of the prime sources for capital funding in the U.S. for startups and small businesses.
According to a Wall Street Journal blog and Dow Jones VentureSource, investors poured $15.5 billion into deals during 2014, which was more than twice the previous record of $7.3 billion in 2011.
Other figures reported by Bloomberg from Preqin Ltd. Venture estimated that VC deals in China totaled $13.6 billion in 2014, up from $4.2 billion in 2013, while U.S. VC deals rose from $36 billion in 2013 to $54 billion in 2014. The focus for Chinese VCs has been on consumer-focused disruptive businesses tied to mobile and the internet as well as on cleantech.
However, after the size and ongoing growth trajectories, that’s where the similarities end. After that, there are specific cultural differences that distinguish the two VC environments.
Still Developing and Fragmented
The significant size of the Chinese VC market makes it easy to concluded that the VC market is advanced, but it is still in a growth stage and considered highly fragmented, as noted in an EY interview with Dr. Kai-Fu Lee of Innovation Works and Peter Liu of WI Harper Group. In this interview, the two seasoned Chinese VCs attempt to explain some of the differences they see between Chinese and U.S. VCs.
As Peter Liu explained, “For instance, in the US, the angel financing network is estimated at 260,000 participants, and Silicon Valley’s best-known companies, such as Apple and Google, were funded by angels. In China, on the other hand, the angel and seed investor network is highly fragmented, and many former VC funds have moved into the growth equity market where large funds of US$500 million to US$1 billion-plus invest in consumer goods and industrial products. These investments have limited, if any, technology content.”
According to first-hand research by Steve Blank of UC Berkeley’s Haas School of business, the VC industry in China has gaps to fill. He noted, “While Beijing has VCs and Angel investors happy to write a check there aren’t as many angels/VCs in China versus US per capita. Several VCs mentioned that there’s a funding gap for seed stage investments. The Angel/Seed network in Beijing feels fragmented and mostly inexperienced (as are a good number of the China VC’s).”
Traditional Cultural Differences
The VC culture in each country also reflects their distinct cultures, which impact how business is done and the way philosophies about leadership and success are shaped. Kai-Fu Lee explained that the latest generations of Chinese entrepreneurs have tended to be born and raised in China rather than educated elsewhere, which means that the newer entrepreneurs tend to continue the traditional fear of failure and high risk aversion along with a more collaborative approach, rather than taking the lead.
To Lee, the result has been a riskier situation as compared to the involvement of VCs in U.S. startups. As he concluded, “The combination of these structural barriers creates a situation where start-ups are starved of capital, mentorship and top engineers. In sum, I believe that technology start-ups in China are both less expensive and more risky than in the United States or Europe.”
Additionally, Blank listed other cultural differences that could be impacting the Chinese VC industry, including the missing concept of “pay it forward” that is often found in the U.S. as well as the limited number of experienced mentors, no AngelList model, and limited open source education.
While information, ideals, and investment deals are typically shared freely in the U.S., the Chinese collaboration culture does not necessarily extend to idea sharing due to the fear that someone will copy their startup idea. This has led to some significant trust issues between Chinese startups and VCs unlike the U.S. culture.
Learning Curve of VCs
VCs in China are still working on learning how to manage risk in their portfolios to address the aforementioned issues found within Chinese startups. Lee’s firm, Innovation Works, is focused on filling in the gaps that exist in the VC knowledge and experience in China, including focusing more on value creation than on high valuations as well as developing CEOs and teams of technical talent all of which already exist in the U.S. VC culture.
Joe Tian of DT Capital Partners in China also agreed there is more of a learning curve for Chinese VCs than the U.S. due to the rapid changes occurring in China as the government begins to shift toward new areas, including clean energy and cleantech.
However, there are significant differences where the Chinese VC culture has to catch up, according to Tian: “The biggest challenge, in my view, is how the VC players can better work with good companies across the country and across different industries. Often, VC players have a lot of overseas experience but lack deep knowledge of the local environment, and therefore, they may be unable to work with local investees seamlessly to create win-win scenarios.”
According to a Bloomberg article, others who have invested in and worked within China see that the VCs are putting extremely high valuations on startups there that are similar to the U.S. but that lack the same traction and development as their American counterparts. Since this movement into large investments is relatively new for China, this learning curve most likely will continue. At some point, the Chinese VC culture could catch up and begin to emulate the U.S. as this curve shortens. For now, though, more understanding needs to be gained on the U.S. side to better understand the cultural differences in order to not focus on the ongoing lack of trust between the nations in terms of security breaches and intellectual property right thefts.
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