China High-Tech Companies

China still lacking in innovation — Nikkei Asian Review

1 Comment / June 25, 2016

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blueprint China

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China still lacking in innovation

January 23, 2015 1:00 pm JST

By Peter Fuhrman

China’s economy suffers from an acute case of “not invented here” syndrome. Everything can be, and increasingly is, manufactured in China, but almost nothing of value is invented here.

The result is an economy still centered on low-pay, low-margin drudge work manufacturing products designed, patented and marketed by others. This is as true for advanced medical diagnostic equipment from General Electric as it is for Apple’s iPhones and tablets.

While manufacturing accounts for almost 50% of China’s gross domestic product and keeps 100 million people employed, China has few if any domestic companies selling sophisticated, premium-priced manufactured products to the world. As long as this remains the case and China remains a huge economy with only the tiniest sliver of consequential and profitable innovation, it will grow harder each year for the country to sustain high economic growth rates and big increases in living standards.

The government is increasingly anxious. “China is now standing at a critical stage in that its economic growth must be driven by innovation,” warned the State Council, China’s cabinet, in May.

With the talk comes money. Lots of it. Billions of dollars are being allocated to government-backed research projects and venture capital. But for all the rhetoric, government policies and cash, China remains a high-tech disappointment, more dud than ascending rocket. As an investment banker living and running a business in China, I very much wish it were otherwise. But I still see no concrete evidence of a major change underway.

On others’ shoulders

Indeed, the flagship products of China’s advanced manufacturing sector are still built largely on foreign components, technologies and systems, with Chinese factories serving as the assembly point.

Consider Xiaomi, which achieved great success in China’s mobile phone market last year and began getting some traction overseas. The company now has a market valuation of $45 billion, far higher than Sony, Toshiba, Philips, Ericsson and many more of the world’s most famous innovators.

Xiaomi’s handsets rely on components and software from a group of mainly U.S. companies, including Broadcom, Qualcomm and Google. They, along with U.K. chipmaker ARM Holdings and foreign screen manufacturers, are the ones making the real money on Android phones like Xiaomi’s.

Many of Xiaomi’s phones, like those of Apple and other leading brands, are assembled in China by Hon Hai Precision Industry, a Taiwanese company better known as Foxconn. As of now, Foxconn has no Chinese competitor that can match its production quality at a comparable low cost. Its superior management systems for high-volume production underscore another critical area where China’s domestic technology industry is weak.

The picture is similar with products such as computers, cars and aircraft. China’s military and commercial jet development programs have relied on foreign engines because of the country’s continuing failure to design and produce its own. Compare this with the Soviet Union, which, though an economic also-ran all the way up to its extinction in 1991, was producing jet engines as early as the 1950s; Russia still supplies advanced military engines for Chinese military jets. The picture is little better with jet brakes and advanced radar systems.

Stumbling blocks in China’s jet engine development continue at the manufacturing level with difficulties in serial production of minute-tolerance machinery, at the materials level with a lack of special alloys, and at the industrial level where a state-owned monopoly producer faces no local competitor to drive innovation as has been seen in the dynamic in the U.S. between GE and Pratt & Whitney.

China’s inability to make its own advanced jet engines casts light on problems China has, and likely will continue to have, developing a globally competitive indigenous technology base. This challenge, to bring all the parts together in a high-tech manufacturing project, is also evident in China’s failure, up to now, to develop and sell domestically developed advanced integrated circuits, pharmaceuticals and new materials globally.

China has, by some estimates, spent more than $10 billion on pharmaceutical research, but it has had only one domestically developed drug accepted in the global market, the modestly successful anti-malarial treatment artemisinin, or qinghaosu. Interestingly, it is derived from an herbal medicine used for 2,000 years in China to treat malaria; the drug was first synthesized by Chinese researchers in 1972.

Missing pieces

It’s simply not enough to count Chinese engineers and patents, or to rely on the content of the government’s technology-promoting policies. China still lacks so many of the basic building blocks of high-tech development, such as a mature, experienced venture capital industry staffed by professional entrepreneurs and technologists. A transparent judicial system is also essential, not only for protecting patents and other intellectual property, but for managing the contractual process that allows companies to put money at risk over long periods to achieve a return. Nondisclosure and noncompete agreements, a backbone of the technology industry in the U.S. and elsewhere, are basically unenforceable in China.

Tencent Holdings’ WeChat mobile messaging service is an example frequently cited by those who claim to see a dawning of innovation in China. An impressive 400 million phone users have signed up for the service. The basic application, though, is similar to that of Facebook’s WhatsApp, Japan’s Line and others.

WeChat’s real technological strength is in its back end, in building and managing the servers to store all the content that is sent across the network, including a huge amount of video and audio files. Tencent does this because it’s required to do so by Chinese internet rules and government policies on monitoring Internet content. Tencent might be able to commercialize and sell its backend storage architecture globally, but it’s not clear anyone would be interested in buying it. It’s a technology that evolved from specific Chinese requirements, not market demand.

China’s record of invention is the stuff of history: gunpowder, the compass, paper, oil wells, porcelain, even alcoholic beverages, kites and the fishing reel. All that occurred over 1,000 years ago. China’s greatest modern invention has been its singular pathway out of poverty as the economy expanded 200-fold over the last 35 years. But growth is now slowing, costs are rising sharply and profit margins are shrinking. To go on prospering, China needs to invent a new path and discover a new wellspring of breakthrough innovation, and it needs to do so in a hurry.

Peter Fuhrman is the founder, chairman and chief executive of China First Capital, an investment bank based in Shenzhen, China.

 

http://asia.nikkei.com/Viewpoints/Perspectives/China-still-lacking-in-innovation

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Tencent Stalks Alibaba — China’s Number Two Internet Company Quietly Takes Lethal Aim at its Number One

Leave a Comment / January 8, 2015
China's two most successful internet entrepreneurs share a last name but have very different strategies for mobile e-commerce. The future belongs to which?
China’s two most successful internet entrepreneurs share a last name but have very different strategies for mobile e-commerce. The future belongs to which Ma?

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China’s second-largest private sector company Tencent is aiming a cannon at China’s largest private sector company and new darling of the US stock markets Alibaba. Will Tencent fire? There’s a vast amount of money at stake: these two companies, cumulatively, have market cap of $400 billion, Tencent’s $140bn and Alibaba’s $260bn.

Alibaba, as most now know,  currently has China’s e-commerce market in a stranglehold, processing orders worth over $300 billion a year, or about 80% of all Chinese online sales by China’s 300 million online shoppers. Meanwhile, Tencent is no less dominant in online chat and messaging, with over 400mn users for its mobile chat application WeChat, aka “Weixin” (微信).

The two businesses appear worlds apart. And yet, they are now on a collision course. The reason is social selling, that is, using a mobile phone chat app to sell stuff to one’s friends and contacts. It’s based on the simple, indisputable notion it’s more reliable and trustworthy to buy from people you know. Facebook, Twitter, Linkedin are all quite keen on social selling in the US. But, nowhere is as fertile a market as China, because nowhere else is the trust level from buying through unknown online merchants as low.

Alibaba has accumulated most of its riches from this low-trust model at Taobao’s huge online bazaar. It is a collection of thirty million small-time individual peddlers that Alibaba can’t directly control. The result, especially in a country with no real enforceable consumer protection laws or litigation, Taobao can be a haven for people selling stuff of dubious quality and authenticity.

Chinese know this, and don’t much care for it. It’s one reason both US-listed JD.com and Amazon China both seem to be gaining some ground on Alibaba. Their strategies are similar:  to be the “anti-Taobao”, selling brand-name stuff directly, using their own buying power and inventory, their own delivery people, and a no-questions-asked return policy. Their range of merchandise, however, is far more limited than Taobao’s. Tencent in 2014 bought a significant minority stake in JD.com.

Thanks to Weixin, Tencent now has the capability directly to become Alibaba’s most potent competitor and steal away billions of dollars in transactions. Will it?

As of now, Tencent seems oddly reluctant. Even as millions of Weixin users have started using the app to buy and sell goods directly with their friends, Tencent has countered by making it more difficult. Tencent introduced limits on the number of contacts each Weixin user can add, has made sending money tricky, and has more or less banned users to include price quotes in their mobile messages. For now, Weixin users appear undaunted, and are using various ruses to get around Tencent’s unexplained efforts to limit their profit-making activities. One common one: using the character for “rice” (米） instead of the symbol for the Chinese Renminbi （元）.

This social selling through Weixin is called “Weishang” (微商) in Chinese, literally “commerce on Weixin”. It is without doubt the hottest thing in online selling now in China.

It’s hard to understand why Tencent wouldn’t passionately embrace social selling on Weixin. For now, Weixin looks to be an enormous money sink for Tencent. The Weixin app is free to download and use. What money it earns from it comes mainly from promoting pay-to-play online games. That’s small change compared to the tens of millions of dollars Tencent spends on maintaining the server infrastructure to facilitate and store the hundreds of millions of text, voice, photo and video messages sent daily on the network.

Chinese of all ages are glued to Weixin at all hours of the day. It can be hard for anyone outside China to quite fathom how deeply-woven into daily life Weixin has become in the four years since its launch. Peak Weixin usage can exceed 10mn messages per minute. With only slight exaggeration, Tencent’s founder and chairman Pony Ma explains Weixin has become like a  “vital organ” to Chinese.

It’s not just young kids. I took part in a meeting recently with a partner from KKR and the chairman of a large Chinese publicly-traded company At the end of the discussion, they eagerly swapped Weixin accounts to continue their confidential M&A dialogue.

My office is in the building next to Tencent’s headquarters in Shenzhen. I know quite a few of the senior executives. But, no one can or will articulate why Tencent, at least for now, is unwilling to use Weishang take on Alibaba. Some who claim to know say it’s because the Chinese government is holding them back, not wanting to have Tencent steal Alibaba’s spotlight so soon after its most-successful-in-history Chinese IPO in the US.

The two have sparred before. Tencent years ago launched its own copycat version of Taobao, now called Paipai. But it failed to put a dent in Alibaba’s franchise. Alibaba, in turn,  launched its own online message system to compete with Weixin. But, it’s sunk from sight as quickly as a heavy stone dropped in a deep pond.

Seen from a seller’s perspective, Weishang is fundamentally more attractive than selling on Taobao. Margins are higher, not only because Tencent charges no fees, but it’s getting much harder and more expensive to get noticed on Taobao. That’s good for Alibaba’s all-important ad revenues, but bad for merchants.

How does Weishang work? A woman, for example, buys twenty sweaters at a wholesale price, then takes a selfie wearing one. She sends this out to her 300 contacts on Weixin. Though the message includes neither the price nor much of a sales pitch, since both may be monitored by Tencent, she will often get back replies asking how to buy and how much. The sales are closed either by phone call, or through voice messaging over Weixin, with payment sent direct to the seller’s bank account.

Tencent knows Weixin is being used more and more like this, but because it’s driven the commerce somewhat underground, Tencent has no idea on the exact scale of Weishang. My guess is aggregate Weishang sales are already in the tens, if not hundreds, of millions of dollars.

Alibaba has clearly noticed. But, social selling isn’t something its Taobao e-commerce marketplace can do. Its mobile e-commerce strategy amounts to making it easy to scroll through Taobao items on a small screen. Social selling in China is and will remain Tencent’s natural monopoly.

For anyone wondering, Alibaba’s IPO prospectus from a few months ago did not mention Weishang and Weixin, and Tencent gets a single nod as one of many possible competitors. Weishang really began to gain traction only during the second half of 2014, after the main draft of the Alibaba prospectus was completed.

To those outside China especially on Wall Street, Alibaba seems to be on the top of the world, as well as the top of its game. In the last four months, it’s collected $25 billion from the IPO and another $8 billion in a bond offering. Its share price price is up 50% since the IPO. For a lot of us living here in China, the boundless enthusiasm in the US for “Ali” (as the company is universally known here) can sometimes seem a bit unhinged.

When will Tencent make its move? Why is it now so reticent to promote Weishang, or discuss its plans with the investment community? Is it busy next door to me readying a dedicated secure payment system and warranty program for Weishang purchases?

I don’t have the answer, but this being China, I do know where to look for guidance. Sun Tzu’s “The Art of War”, written 2,500 years ago, remains the country’s main strategic handbook, used as often in business as in combat. The pertinent passage, in Chinese, goes “微乎微乎，至于无形；神乎神乎，至于无声；故能为敌之司命.” In English, you can translate it as “be extremely subtle, even to the point of formlessness. Be extremely mysterious, even to the point of soundlessness. “

In other words, don’t let your competitor see or hear you coming until its already too late.

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Nanjing: A Special Kind of Chinese Boomtown

Leave a Comment / November 25, 2014

Nanjing City Investment Promotion Consultant

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In 1981, when I first arrived in Nanjing as a student,  the ancient and rather sleepy city had a population of four million and a GDP of Rmb 4 billion. Today, the population has doubled to eight million and GDP is two hundred times larger. Yes, you read that right. This year’s GDP will exceed Rmb 850bn. Even by recent Chinese standards, that kind of growth rate for a major city is just about unheard of. Since 1981, Nanjing’s GDP has grown almost twice as fast as China as a whole. It is now richer in per capita terms than Beijing, and its economy continues to expand more quickly than the capital, Shanghai and just about every other major city in the country.

I was back in Nanjing in the last week to visit friends and clients, as well as receive from the Nanjing city government an official appointment as an “investment promotion consultant”. That’s me in the photo above celebrating with Mr. Kong Qiuyun, the cultured an charismatic director-general of Nanjing Municipal Investment Promotion Commission. It’s an especially welcome honor since I consider Nanjing, all these years later, my hometown in China, my  “laojia”. Every return is a homecoming.

With or without the official status, saying good things about Nanjing comes easily. It’s a special kind of boomtown. Despite the steep economic ascent over the last 33 years, today’s Nanjing is visibly woven from strands of its 2,500 year-old history as a city at the core of Chinese civilization. Old parks, streets and buildings stand. Though stained by tragedy – including the Nanjing Massacre in 1937 and bloody civil war at the end of the Taiping Rebellion civil war 73 years earlier — Nanjing is a city with a lightness of spirit and an intimate association with Chinese traditional culture of painting, calligraphy, poetry.

There is an ease, prosperity and comfort to life in Nanjing that is largely absent in Beijing. One is built upon the parched steppes below the Gobi Desert. Camel country. The other is set amid China’s most fertile, well-irrigated patch of bottomland –a kind of Chinese Eden, saturated by rivers, lakes, ponds and paddies, where just about everything can be grown or reared in abundance. The city is a symbiosis of man and duck. In a typical year, the people of Nanjing will consume over one hundred million of them. Every trip, including this most recent one, I return to Shenzhen with a suitcase padded out with three or four salt-preserved Osmanthus-scented ducks. Each trip back to the US I carry several with me and deliver them to my father in Florida. Somehow, age 82, he has developed a fine appreciation for them.

Nanjing took awhile to get its economic act together. During much of the 1980s, it was a backwater, trailing far behind the nearby cities of Shanghai and Suzhou as well as the coastal cities of Guangdong and Fujian. Earlier it had a reputation for being not very well-managed. Today the opposite is true.

Nanjing is the most ideally-situated large city in China. It is at the back door of China’s richest, most developed region, the Yangtze River Delta, stretching from Shanghai through Hangzhou, Suzhou, Wuxi and Changzhou. It is also now the front door for China’s huge market of the future, the inland regions where growth is now strongest, particularly the provinces of Hubei, Sichuan, Chongqing, Anhui farther up the Yangtze.

Nanjing’s is a large economy but without especially large and dominant companies. Few even in China can name its largest businesses or employers. This sets it apart from Beijing, Shanghai, Shenzhen, Hangzhou, Tianjin. Credit Nanjing government’s hands-on far-sighted economic management. It’s made up for the lack of large businesses by encouraging the growth of smaller mainly private-sector entrepreneurial businesses, as well as bringing in investment from abroad. Sharp, BASF, A.O. Smith, ThyssenKrupp are among the larger foreign companies with significant investment in Nanjing.

Major American investors are still comparatively few. This needs correcting. I hope to help in my new role as a consultant. Americans in the first half of the 20th century played a conspicuously positive role in Nanjing’s development. US academics and missionaries helped establish the city’s two oldest universities, Nanjing University (where I studied) and Nanjing Normal University. They remain the rock-solid backbones of Nanjing’s outstanding university system with over 25 institutions of higher learning.

An American team of architects and urban designers were responsible for creating the layout of much of the modern city of Nanjing, including the city’s main shopping district of Xinjiekou. The city was designed to combine elements of Paris and Washington D.C., with wide boulevards, stately traffic roundabouts like the Place de l’Etoile, and an elegant diplomatic quarter with large mansions spread along arching plane tree-shaded streets.

During the pre-1949 era, American companies were the most prominent and successful businesses in Nanjing. Two in particular – Socony (then the world’s leading petroleum company, a part of the Rockefeller Standard Oil group, and now ExxonMobil.) and British American Tobacco – managed large operations in China from their headquarters in Nanjing. They were then among the largest companies in China of any kind. They left in 1949 never to return to Nanjing and their previous prominence.

An individual American, a long-term resident of Nanjing, wrote while there the most popular and influential book about China in English. It was then made into a successful film which etched in the minds of many Westerners the enduring image of China’s Confucian values and pre-revolution rural poverty. Pearl Buck’s “The Good Earth” was for years a best-seller and played an influential role in winning her the Nobel Prize for Literature in 1938. *

To my thinking, America has an unfulfilled destiny in Nanjing. It’s a smart place for smart capital to locate. In modernizing, it has kept its soul intact.

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* For sharing his rich and consummate knowledge of America’s multi-facetted engagement with  Nanjing in the first half of the 20th century, I’m indebted to John Pomfret. John’s book “Chinese Lessons”, about his years as a student at Nanjing University and the lives thereafter of his Chinese classmates, is as good as anything published about China’s remarkable transformation these last thirty years. You can read more about the book, and about John, by visiting http://www.johnpomfret.org/

 

China High-Tech: giant ambitions can’t disguise a disappointing record of achievement

Leave a Comment / October 8, 2014

–China innovation

China high-tech achievements

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“China, the innovation nation. With nine times more engineering graduates and more patents filed each year than in the US, China is transitioning quickly away from its roots as a copycat, knockoff economy to become a potent new high-tech power.” By now, we’ve all read the headlines, heard the hype. China’s high-tech ambitions were part of the sales pitch used in Alibaba’s successful US IPO last month.

No story about China, no prediction about China’s future gets more attention or more traction from consultants, authors, policy analysts. It encapsulates the unanimous hopes of China’s leadership, and the fears of America’s. “China is now standing at a critical stage in that its economic growth must be driven by innovation,” declared China’s ruling State Council in May this year.

While China is certainly making strides the reality is sobering. For all the hype, the government policies and cash, China remains a high-tech disappointment, more dud than ascending rocket. As a banker living and running a business in China, I very much wish it were otherwise. But, I see no concrete evidence of a major change underway. The best the many boosters can offer is, “give it more time and it’s bound to happen”. In other words, they make their case unfalsifiable, by saying today’s China’s tech famine will turn into a feast, if only we are prepared to stand by the empty banquet table long enough.

Unlike a lot of those forecasting China’s inevitable rise to technology superpowerdom, I’ve actually met and talked with hundreds of Chinese tech companies, and before that run a California venture capital firm with investments in the US, Israel and Europe. I’ve also run a high-tech enterprise software company in the US that used proprietary technology to gain leading market position and ultimately a high price from an acquirer when we sold the business. So, I’ve been around the tech world a fair bit, both in China and elsewhere. Rule number one: deal with the facts in front of you, not wishful thinking. Rule number two: a high-tech economy is not a quotient of national IQ, national will, national urgency or national subsidies. If it were, China might well by now be at the epicenter of global innovation.

High-tech is meant to be a savior of China’s economy, delivering higher levels of affluence in the future and an escape from the so-called “middle income trap” that has slowed growth elsewhere in Asia. But saviors have a nasty habit of never arriving.

Let’s start with perhaps the most glaring weakness: China’s failed efforts, despite momentous efforts across more than a decade, to reach even the first rung of high-tech engineering competence by designing and serially producing jet engines.

Military power both requires and underpins high-tech success.  Any doubt about this was eliminated by the collapse of USSR. I was fortunate to have a front-row seat for that event. During the 1980s and 1990s, as a Forbes journalist, I spent a lot of time in the USSR surveying both its military and civilian industries, its indigenous technology base. I was one of the few who got to spend time, for example, inside the secret Soviet rocket program, including visiting main factories where its rockets and space station were built. The rocket program was for decades the pinnacle of Soviet tech achievement.

But, it proved to have little overall spinoff benefit for USSR economy. It was a dead-end. Note: the Soviet Union then, like China now, had far more engineers and engineering graduates than the US.

As I wrote back in the 1990s, US’s military supremacy rests as much on Intel and Broadcom as it does on Lockheed Martin fighter jets and GD nuclear submarines. The US has a huge fast-adopter civilian technology market with strong competitive dynamics, something China is without. This means US military then and now can procure the best chips, best integrated software and systems cheaply and quickly from companies that are mainly serving the civilian market. The Soviet Union had no civilian high-tech industry, no market forces. The Soviet military was exposed as a technology pauper by the 1989 Iraq War.

China is different and better off in so many ways. It now manufactures a lot of the world’s most advanced civilian high-tech electronics products. This gives China huge advantages USSR never had. All the same, the USSR by the mid-1950s was producing jet engines for military and civilian use. To this day, China relies on Russia, using Soviet-successor technologies, for its advanced military jet engines. Russian jet engines are generally considered a generation at least behind the best ones manufactured now in the US, France, UK.

China’s inability to make its own advanced jet engines casts light on problems China has, and likely will continue to have, developing a globally-competitive indigenous technology base.  In the case of jet engines, the problems are at manufacturing level (difficulty to serially produce minute-tolerance machinery), at the materials level (lack of special alloys) at the industrial level (only one designated monopoly aircraft engine producer in China, so no competitive dynamic as in the US between GE and P&W).

A recent report on China’s jet engine industry puts the technology gap in stark terms.  “In some areas,” it concludes, “Chinese engine makers are roughly three decades behind their U.S. peers.”

This challenge, to bring all the parts together in a high-technology manufacturing project, is also evident in China’s failure, up to now, to develop and sell globally domestically-developed advanced integrated circuits, pharmaceuticals, new materials. In drug development, China by some estimates has spent over $10 billion on pharmaceutical research and up to now has had only one domestically-developed drug accepted in the global market, the modestly-successful anti-malarial treatment Qinghaosu (artemisinin). Interestingly, it is derived from an herbal medicine used for two thousand years in China to treat malaria. The drug was first synthesized by Chinese researchers in 1972.

It’s simply not enough to count engineers and patents, or the content of government technology-promotion policies. China lacks so many of the basic building blocks of high-tech development. Included here is a mature, experienced venture capital industry staffed by professional entrepreneurs and technologists, not MBAs. A transparent judicial system is also essential, not only for protecting IP, but managing the contractual process that allows companies to put money at risk over long-periods to achieve a return. Non-Disclosure and Non-Compete agreements, a backbone of the technology industry in the US, are basically unenforceable in China. Not just here in China, but anywhere this is the case you can about kiss goodbye big-time technology innovation.

While ignoring the troubling lessons of China’s failure to produce a jet engine (as well as jet brakes and advanced radar systems) the boosters of China’s bright tech future these days most often cite two mobile phone-related businesses as signs of China’s innovation. The two are Xiaomi mobile phones, and Tencent‘s WeChat service. Both have had great success in the last year, including getting some traction in markets outside China. Look a little deeper and there’s less to be positive about.

Xiaomi is a handset manufacturer that now has a market valuation of over $10 billion, higher than just about any other mobile phone manufacturer. It relies, though, on the same group of mainly-US companies (Broadcom, Qualcomm, Google) for its phones. They, along with UK chip-maker ARM and non-Chinese screen manufacturers, are the ones making the real money on all Android phones. In addition, Xiaomi’s phones as are many cases manufactured by Taiwanese company Foxconn. As of now, China has no domestic company that can achieve Foxconn’s levels of quality at low manufacturing cost. Foxconn does this from factories in China. Its superior management systems for high-volume high-quality production also underscore another critical area where China’s domestic technology industry is weak.

With WeChat, it’s done some impressive things, in signing up over 300 million users. The basic application is similar to that of Facebook‘s WhatsApp and others. Its real technology strength is in its back end, in building and managing the servers to store all the content that is sent across WeChat, including a huge amount of video and audio files.

Whatsapp doesn’t have similar capacity. In fact, it points with pride to the fact it doesn’t backup for storage any Whatsapp customers’ conversations. Tencent does this because it’s required to do so by Chinese internet rules and government’s policies to monitor internet content. Tencent might be able to commercialize and sell globally its backend storage architecture, but it’s not clear anyone would be interested to own it. It’s a technology that evolved from specific Chinese requirements, not market demand.

Earlier this year I spoke on a panel at a conference in Shanghai of the global bio-manufacturing industry. This is precisely the sort of area where China most needs to up its game. Bio-manufacturing relies on a combination of first-rate science, cutting-edge manufacturing techniques and far-sighted management. After all the talk and the establishment of dozens of government-funded high-tech pharmaceutical science parks across China, the simple verdict was China has yet to achieve any real success in this industry.

China is not alone, of course, in having its difficulties nurturing a globally-competitive indigenous technology industry. In their time, most of the world’s advanced major economies have all tried — Germany, France, Japan, UK. All lavished government subsidies to foster domestic innovation. All made technology a policy priority. Yet, all have basically failed. If anything, the US is now more dominant in high-technology than it was at any earlier time in history. The US is home to most of the companies earning high margins, market shares and license fees for their proprietary technology.

China has already achieved what no other country has: in the course of a single generation, it has achieved the highest-ever sustained rate of growth, and so lifted hundreds of millions of its citizens out of poverty. This achievement shows the capabilities of the Chinese people, the far-sighted and pragmatic skills of its policy-makers. Both will continue to deliver benefits for China for decades to come.

For China, becoming a tech power is neither certain nor impossible. Progress can be hurt more than helped by those who engage more in hype, in predicting certain outcomes, rather than critically assess the impediments, and learn lessons from the failed efforts so many other countries have had in developing a technology industry. New thinking about innovation, and how to encourage it in China, is still lacking.

 

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Alibaba grabs the IPO money but the future belongs to Jeff Bezos and Amazon China

4 Comments / October 3, 2014

Amazon China & Alibaba

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Alibaba Group should next week collect the big money from its NYSE IPO. But, Seattle’s Amazon owns the future of China’s $400 billion online shopping industry. Amazon’s China business is better in just about every crucial respect: customer service, delivery, product quality even price when compared to Alibaba’s towering Taobao business. Hand it to Jeff Bezos. While few have been watching, he is building in China what looks to me to be a better, more long-term sustainable business than Alibaba’s Jack Ma.

Amazon’s China business fits a familiar pattern. The company is often mocked for keeping too much secret, investing too much and earning too little. In China, far away from the Wall Street spotlight, Amazon has invested hugely, with a long-term aim perhaps to overtake Alibaba and become a dominant online retailer in the country. But, it has zero interest in letting its shareholders, competitors, or the world at large know what it’s doing in China. Open the company’s most recent SEC 10-K filing and there are three passing mentions of China, and nothing about the size of its business there, the strategy.

Amazon shareholders may well wake up one day and suddenly find Bezos has built for them one of the most valuable online businesses in the world’s largest e-commerce market, the only one not owned and managed by a Chinese corporation. No rickety and risky VIE structure, unlike Alibaba and virtually all the other Chinese online companies quoted in the US.  (Read damning report by US Congress investigators on these Chinese VIE companies here. )

Jeff Bezos has been in the online shopping business from its genesis, in 1994. He first got serious in China ten years later, by buying a small online shopping business called Joyo in 2004. Taobao was founded by Jack Ma a year earlier. Within three years Taobao had demolished eBay’s then-lucrative China online auction business, by making it free for sellers to list their products on Taobao. Buyers and sellers both pay Taobao zero commission. It earns most of its money from advertising. EBay China closed its doors in 2006. Since then, Alibaba has grown from about $170mn in revenues to over $6 billion in 2013. Approximately three out of every four dollars spent online shopping in China goes through Alibaba’s hands. Overall, online shopping transaction value is on track to exceed $1 trillion by the end of this decade.

online shopping China

The champagne and baijiu will flow at Alibaba next week. Meantime, Bezos will continue executing on his plan, begun in earnest around 2012, to first gain on Taobao, and one day outduel it in China. How? To buy from Amazon China is to see Bezos’s mind at work. He has clearly assessed Taobao’s pivotal weaknesses, and is targeting them with precision.

Taobao has done phenomenally well. But, it is much the same business today as a decade ago. It is mainly a raucous collection of individual sellers where counterfeit, used-sold-as-new or substandard goods are rife. Everything is ad hoc. Sellers can appear and disappear overnight. They charge whatever they like to ship you your merchandise. Try to return things and it can be anything from complicated to impossible. Most payments are processed by Alipay, a business with similar ownership to Alibaba, but not fully consolidated as part of the IPO. Alipay tries to act like an impartial escrow service between Chinese buyers and sellers who too often seem to be out to try to cheat one another.

Taobao is a product of its time, a China where getting stuff cheap, of whatever origin, authenticity and quality, was paramount. It’s also been a great way to create an army of small entrepreneurs in China, eight million in total, with their own shops selling merchandise to over 200 million different individual customers on Taobao. But, Chinese are much richer and more discriminating today than ten years ago. They are getting richer by the day. The larger trends all point in Amazon’s favor.

Here’s why. When you buy things on Amazon China, you mainly purchase direct from Amazon, not from individual sellers. As in the US, Amazon China sells a full range of merchandise not just books. While it has far fewer items for sale than Taobao, it does many things that Taobao cannot. First, it has its own nationwide delivery service. Where I am in Shenzhen, I get delivery the next morning from a guy in an Amazon shirt with his electric motorcycle parked on the sidewalk in front of my building. You can either pay online by credit card, or pay the delivery guy in cash, COD. Delivery is free and reliable. Parcels are professionally packaged in Amazon boxes and generally arrive in mint condition. It’s a limousine service compared to Taobao.

Stuff ordered on Taobao can take days to arrive, and is sent using any of a group of different independently-owned parcel delivery companies. They don’t accept returns, or cash, and often in my experience as a Taobao customer for the last five years the parcels arrive pretty badly roughed up. The Taobao sellers do their own packaging, sometimes good and sometimes no, usually with boxes rescued from the trash, then call whichever parcel company offers them the cheapest rate. The seller usually takes a mark-up since delivery on Taobao is generally not included.

Amazon China is putting its brand and reputation behind everything it sells. This provides a quality guarantee that no individual seller on Taobao can match. I’ve also found over the course of the last year that prices for similar items are often now cheaper on Amazon than on Taobao. How so? For one thing, unlike the Taobao army, Amazon can use its buying power to extract lower prices and better payment terms from its suppliers. Taobao has a subsidiary business called TMall, where major brands directly sell their products. Here at least there should be no worries about the quality and authenticity of what’s being sold. But since each brand manages its own store on TMall, the prices are often higher than on Amazon China. Delivery is also less efficient, in my experience.

What does Taobao still do better than Amazon China? Its website seems a bit easier for Chinese to navigate than Amazon China’s, which looks and acts a lot like the main Amazon website designed and managed in Seattle.

As Bezos’s shareholders know well and occasionally grumble about, he loves spending money on warehouses, shipping technology and other expensive infrastructure. The China business is a marvel of its kind, a kind of “Bezosian” tour de force. The scale and complexity of what Amazon China are doing is formidable. Bezos started and prospered originally with a no inventory business model, letting outside wholesalers hold and so finance the inventory of books he was selling online.

In China, Amazon must stock huge inventories to get products delivered to customers overnight. Where these facilities are and how much Amazon has spent is beyond knowing. Anything I buy on Amazon China — most recently three books, an electronic garlic-mincer and some ceramic carving knives — is delivered to me next day, within about 15 hours of when I ordered it. In a country China’s size, where moving things around long-distance by truck as UPS and Fedex do in the US is difficult and expensive, Amazon has apparently invested in a large nationwide distributed network of warehouses to hold all this inventory. Whether these are owned by Amazon or third parties is also not disclosed. But, it all works smoothly. I get what I order quickly and efficiently, direct from Amazon’s own liveried delivery team, at prices Taobao can’t match.

Every delivered package drives home the message how much faster, cheaper and more reliable Amazon China is compared to Taobao. Try us once, Bezos seems to be saying here in China, and you’ll try us again.

Amazon China delivery guyCan Amazon China be making any money here? My guess is No, that the current operation in China is a big money sink. How big? China’s other big online shopping business, JD.com, which went public earlier this year and has a business model more like Amazon China than Alibaba’s, is losing money every quarter. (Nonetheless, it has a current market cap of $40bn.)

Alibaba, by contrast, is making money hand-over-fist, Rmb8 billion ($1.3bn) in net income the last quarter of 2013. To get noticed, those eight million individual Taobao sellers, as well as TMall brands, need to pay more and more to Taobao for ads and preferential placement.

Longer term, though, the Taobao ad-supported model looks ill-adapted to where China is headed. Traditional store retailers in China are getting slaughtered by online competitors. Among those online players, it seems likely business will shift to those that can guarantee quality, authenticity, easy product returns and efficient next-day-delivery. That describes Amazon.

One reason it’s crazy to bet against Bezos is he has shown no compunction about using shareholder money to build a business that can only start to make real money in ten maybe fifteen years. Jack Ma has no such luxury, especially now that Alibaba will be quoted on the NYSE. Alibaba is not likely to attract the kind of patient shareholders drawn to Amazon.

This is perhaps one reason why Ma has been out spending a huge pile of Alibaba money buying into all kinds of businesses to tack onto Alibaba. These include US car service Lyft, messaging business Tango, and all sorts of domestic Chinese businesses, including a big slice of China’s Twitter, Weibo, the digital mapping company AutoNavi,  16.5% of China’s YouTube knockoff, NYSE-quoted Youku and a Hong Kong-quoted film studio that seems to have been cooking its books. He also bought control of a professional soccer team in China, hoping to upgrade the much-maligned image of the domestic game. Add it up and it looks like even Ma isn’t fully convinced Taobao will be able to keep spinning money for years to come.

His most successful recent venture begun last year is an online money management business called Yuebao that pays Chinese savers about 4% on deposits, compared to the less than 0.5% offered by local Chinese banks. As of early September, it had Rmb574 billion, nearly $100 billion, under management. This business is not included in the Alibaba entity going public in New York. That points up another worrying aspect of Jack Ma’s business style. He has shown a proclivity to put some of the more valuable assets into vehicles that only he, rather than the shareholder-owned company, controls. Yahoo! and Japan’s SoftBank have some bitter direct experience with this.

How far can Bezos go in China? After all, he doesn’t speak Chinese and doesn’t seem to visit China all that often. Can a kid from a Miami high school really build a better China business than scrappy Hangzhou-native Jack Ma? One pointer is that the most successful traditional retailers are now mainly foreign-owned and managed. Domestic retailers couldn’t adapt to this new era of rampant low-price online competition. But, Zara, H&M and Sephora are all thriving here. They, too, focused on details often overlooked here, like good customer service, no-questions-asked return policy, competitive prices and great merchandising.

Alibaba’s market cap next week, after its biggest-of-all-time IPO, may temporarily overtake Amazon’s, at $160 billion. But, make no mistake, Amazon will likely prove the more valuable business over time, both in China and globally.

 

China’s rise enters a more challenging phase, where bold ambitions confront stubborn, often centuries-old obstacles

Leave a Comment / August 5, 2014

China First Capital 2014 Survey cover

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China’s economy and society have both reached levels of wealth and development that were unimaginable 30 years ago. What comes next? How can China continue to push forward, against some deep-seated problems, including how to generate globally-competitive innovation, how to sort out land ownership, how to attract and reward global investment flows? These issues are examined in detail in the new research study published by China First Capital.

The new report is titled ” China Survey 2014: The Rise Continues, New Directions & Challenges“. Copies may be downloaded by clicking here or from the research reports page of the company’s website.

China’s economy remains vibrant and fast-evolving. Many of the Fortune 500 successes stories of recent years – KFC, P&G, Coca-Cola – are finding it harder and harder to keep winning in the China market. As they lose share, other companies are gaining, both domestic and international. The report looks at this transformation through the vantage point of China First Capital’s rather long experience working in China,  alongside some talented CEOs in both domestic and global corporations, the incumbents and the disrupters both.

Investing successfully in China, either through the stock market or through M&A, also remains challenging. But, it’s worth the strain, the report asserts, since no other country can rival China today in terms of both the number and scale of money-making opportunities.

The new China First Capital report discusses these broad trends, and also examines the following in depth:

  •  is China’s investment community (PE and VC firms, stock market investors)  over-allocating now to mobile services and online shopping;
  •  an assessment of the serious challenge facing traditional shopping mall operators and retailers mainly because of competition from soon-to-IPO Alibaba’s online shopping giant;
  • a sober analysis of actual disappointing state of China’s high-tech industry;
  • how China triumphed over India, and won the battle as the world’s best and biggest Emerging Market,
  • why 3M may be the most successful American company in China, but flies so far beneath everyone’s radar

Some of the contents have already been published here on this blog and on Seeking Alpha.

The report’s core conclusion is that China has come a long way and in raw terms is certainly the most successful emerging economy of all time. But, it needs to become more innovative, generate more globally important technology breakthroughs, not just copycatting. There’s no absence of hype around about how China is poised to become a global technology powerhouse. The report, though,  cites China’s failure to serially produce an aircraft engine as a concrete, if not often talked-about, reminder of its technology frustrations and limitations.

 

 

Going for broke: the PE world’s big risky bet on China’s internet and mobile industries

Leave a Comment / June 18, 2014

China fortune-teller–

The World Cup has begun. Along with being the globe’s most watched event it is also certainly the most gambled upon. Thirty-two teams, sixty-four matches to determine the winner on July 13th in Rio de Janiero. To choose the winner, you want to look at the individuals, the team management, the history of past success, the competition. In other words, it’s a lot like the process a private equity or venture capital firm uses to choose which companies to invest in.

It would be ill-advised, if not borderline crazy, to bet one’s life savings on the USA team to win the World Cup this year. Coral, the big British bookmaker itself owned by three PE firms, is offering odds of four hundred to one.

While no one is offering odds or a betting pool, the current mania among PE firms in China for investing in loss-making internet and mobile services businesses looks like an even wilder bet. Herd behavior is a familiar enough phenomenon across the PE and VC world. But, the situation in China has reached almost comical proportions. At the moment, there is little, if any, PE money going to large, profitable, mature, comparatively “de-risked” manufacturing companies. Instead, almost all the publicly-announced deals are investments in a variety of mainly online shopping sites or mobile-phone travel, game and taxi-booking services, none of which has a true technological barrier to entry, and all of which seem to hinge mainly on the same prayed-for low-probability outcome: a purchase down the road by China’s two internet leviathans, Tencent or Alibaba.

A US IPO is also at least theoretically possible. This year has already seen successful IPOs for Chinese internet and mobile companies, including Zhaopin, Cheetah Mobile, Qihoo 360, Leju, Chukong Technologies, Sina Weibo, Tuniu. But, deals being done now are for smaller, newer less well-established China companies that mainly face a steep failure-filled mountain climb of at least two to three years to even reach a point at which an IPO in New York might even be possible.

It is true that China’s online shopping and services industry is booming. Problem is, almost all the money is being earned by these same two large firms. In online shopping, 80% goes to Alibaba. In online gaming, a far smaller money-maker, Tencent is about as dominant. Both have done a few deals in the last year, buying out or investing alongside PE firms in smaller Chinese companies which have gained some traction. At the same time a few Chinese internet companies have gone public in the US and Hong Kong. But, the overall environment is much less positive. There are far too many “me too” businesses with business models copy-catted from the US pouring out PE and VC cash to buy customers or a thin allotment of a 20 year-old Chinese male’s online gaming budget.

China is the world’s best mass manufacturer with the world’s largest, or second-largest, domestic market in just about every imaginable category. Simply put: there are so many better, less risky, more defended Chinese companies out there than the ones now getting most of the PE and VC time and money.

My bet is that Tencent and Alibaba will also soon lose their appetite for buying smaller Chinese internet players. They are at a similar phase as companies like Amazon, Google, eBay, Cisco, Microsoft, Electronic Arts, IAC/InterActiveCorp, once were. These giants at one time bought small US internet companies by the bucket-load. But, most have either quit or cut back doing so. The businesses usually fail to prosper, are non-core, and prove hard to integrate. Minority deals usually turn out worse. Corporate investors make bad VCs.

In other key respects, there is every difference in the world between the US VC scene and this current activity in China. The US has far more trade buyers for successful VC-backed companies, far more genuine innovation, far more success stories, far less monopolistic internet and mobile industries, and a far richer “early adaptor” market to tap. You don’t need to look back very far to see where this kind of investing activity can lead. It’s only a little more than two years since PE firms poured hundreds of millions of Renminbi into Chinese group shopping sites modeled to some extent on US Groupon. Almost all these companies are now out of business or losing serious money. Chinese like group-buying. They just don’t let any company make any money from offering such a service.

Scan through the last three weekly summaries of new PE and VC deals in China, as digested by Asia Private Equity in Hong Kong. Virtually all involve deals to invest in online and mobile services. (Click here to look at the list of these deals.)

I talk or meet with PE partners on a regular basis. I can recall only a single discussion, over the last six months, where the PE firm’s primary focus was not on these kind of deals. This lonesome PE is the captive fund of one of China’s largest state-owned automobile groups. At this stage, about as differentiated as Chinese PE investment gets is whether the money should go into one of the many online sites for takeaway meals or one of the even larger number selling cosmetics.

China PE is slowly emerging from a prolonged period of inactivity and crisis, the result of both a slowdown in IPO activity and PE portfolios bloated with unexited deals. It’s good to see some sign of animal spirits again, that some PE firms at least are looking to do deals. But at least up to now, it looks like some bad old habits are being repeated: too many PE firms enslaved to the same investment thesis, chasing the same few companies, bidding up their valuations, inadequate diversification by industry or stage.

In the US, in most VC-backed companies, one of the busiest members of senior management is the head of business development. This job is often to find strategic partnerships, barter and co-bundling deals to generate more growth at less expense. This kind of thing is much rarer in China. Instead, for most, the primary method of customer acquisition is to spend a lot of money on Baidu advertising.

Baidu is far more accommodating than Google. It’s the dirty, not-so-well-kept secret of China’s internet industry. Baidu, which handles over 60% of all Chinese search requests, lets advertisers buy placement on the first page of what are called  “organic search results”. There is basically no such thing in China as “most relevant” search results. The only search algorithm is: “who has paid us the most”. It’s one reason Google’s pullback from the China market is so damaging overall for the Chinese internet.

The “pay to play” rules in China’s internet leads to companies taking lots of expensive short cuts, often using PE and VC firm cash. There’s more than a little here to remind me of the Internet Bubble years in the US. I ended up running a VC firm in California right after the bubble burst. I still shake my head at some of the deals this VC firm invested in before I got there, when, as is now in China, pouring lots of LP money in any kind of dot.com or shopping site was seen as prudent fiduciary investing. Things turned out otherwise. They turned out messy. They will too with this PE infatuation with online and mobile anything in China. A bet on the USA to win the World Cup offers more attractive odds and upside.

 

Alibaba files for IPO in US — China Daily article

Leave a Comment / May 8, 2014

China Daily

 

 

Updated: 2014-05-07 06:56

By MICHAEL BARRIS in New York (chinadaily.com.cn)

Alibaba files for IPO in US

Alibaba Chairman and Non-executive Director Jack Ma participates in a teleconference in Hong Kong in this October 22, 2007 file photo, one day before its initial public offering in the territory. [Photo/Agencies]

Chinese e-commerce giant Alibaba Group Holding officially filed on Tuesday to go public in the US in what could be the largest initial public offering ever.

A regulatory filing gave a $1 billion placeholder value for the offering, but the actual amount is expected to be far higher, possibly exceeding $20 billion and topping not only Facebook’s $16 billion 2012 listing, but Agricultural Bank of China Ltd’s record $22.1 billion offering in Shanghai and Hong Kong in 2010.

Alibaba, founded by former English teacher Jack Ma in a Hangzhou apartment, and its bankers have been moving to throw their own shares behind the IPO, analysts have said.

In its filing Alibaba gave no date for the proposed IPO or whether it would be on the New York Stock Exchange or Nasdaq. It cited its advantageous placement in a nation in which e-commerce is fast becoming a way of life, as Chinese consumers turn to the Internet to buy innumerable items. But Alibaba’s prospectus cited statistics showing that the market hasn’t been fully tapped. Just 45.8 percent of China’s population used the Internet, while 49 percent of customers shopped online.

Often described as a combination of eBay and Amazon, Alibaba handled $240 billion of merchandise in 2013. With more than 7 million merchants, it has more than $2 billion in revenue and profit of more than $1 billion.

Alibaba’s sheer size could weigh on the stock price of US rival Amazon.com if the Chinese company’s shares are added to indexes and portfolios targeting e-commerce and related sectors, analysts said.

“Amazon simply doesn’t measure up to the size of Alibaba’s earnings and earnings growth rate,” analyst Robert Wagner wrote.

Shares aren’t expected to begin trading for several months, as the US Securities and Exchange Commission reviews Alibaba’s offering materials and the company promotes its prospects to institutional investors.

The offering managers are Credit Suisse, Deutsche Bank, Goldman Sachs, JP Morgan, Morgan Stanley and Citigroup.

Ma, who has described the challenge of providing what he calls personal business as “my religion”, is Alibaba’s biggest individual shareholder, with an 8.9 percent stake.

Alibaba’s announcement continues a flurry of IPO filings by Chinese technology companies. Internet security application developer Cheetah Mobile is expected to go public on the New York Stock Exchange on Thursday and is expected to raise $153.75 million to $178.35 million. Three weeks ago, Weibo Corp, the Chinese micro blogging service owned by Sina Corp and Alibaba Group Holdings Ltd, raised $285.6 million in a Nasdaq IPO, while real-estate listings website Leju Holdings Ltd raised $100 million in an initial offering on the NYSE.

“The key question for China is how much new money, if any, Alibaba will raise in this US IPO,” Peter Fuhrman, chairman and CEO of China First Capital, told China Daily.

“If all the cash goes to Japan’s Softbank and US’s Yahoo, then it’s hard to see how Alibaba, its customers and the hundreds of millions of Taobao-addicted Chinese consumers will benefit from the IPO.” US web-portal company Yahoo is a 24-percent Alibaba shareholder, while Japan’s Softbank has a 37-percent stake.

http://usa.chinadaily.com.cn/business/2014-05/07/content_17490099.htm

China’s Capital Markets Go From Feast to Famine and Now Back Again, China First Capital New Research Report

Leave a Comment / January 19, 2014

China First Capital 2014 research report cover

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The long dark eclipse is over. The sun is shining again on China’s capital markets and private equity industry. That’s good news in itself, but is also especially important to the overall Chinese economy. For the last two years, investment flows into private sector companies have dropped precipitously, as IPOs disappeared and private equity firms went into hibernation. Rebalancing China’s economy away from exports and government investment will take cash. Lots of it. Expect significant progress this year as China’s private sector raises record capital and China’s state-owned enterprises (SOEs) gradually transform into more competitive, profit-maximizing businesses.

These are some of the conclusions of the most recent Chinese-language research report published by China First Capital. It is titled, “2014民企国企的转型与机遇“, which I’d translate as “2014: A Year of Transformation and Opportunities for China’s Public and Private Sectors”. You can download a copy by clicking here or visiting the Research Reports section of the China First Capital website, (http://www.chinafirstcapital.com/en/research-reports).

We’re not planning an English translation. One reason:  the report is tailored mainly to the 8,000 domestic company bosses as well as Chinese government policy-makers and officials we work with or have met. They have already received a copy. The report has also gotten a fair bit of media coverage over the last week here in China.

Our key message is we expect this year overall business conditions, as well as capital-raising environment,  to be significantly improved compared to the last two years.  We expect the IPO market to stage a significant recovery. Our prediction, over 500 Chinese companies will IPO worldwide during this year, with the majority of these IPOs here in China.

We also investigate the direction of economic and reform policy in China following the Third Plenum, and how it will open new opportunities for SOEs to finance their growth and improve their overall profitability, including through carve-out IPOs and strategic investment. SOEs will become an important new area of investment for PE firms and global strategics.

The SOEs we work with are all convinced of the need to diversify their ownership, and bring in profit-driven experienced institutional investors. For investors, SOE deals offer several clear advantages: scale is larger and valuations are usually lower than in SME deals; SOEs are fully compliant with China’s tax rules, with a single set of books; the time to IPO or other exit should be quicker than in many SME deals.

As financial markets mature in China, we think one unintended consequence will be a drop in activity on China’s recently-established over-the-counter exchange, known as the “New Third Board” (新三板）.  The report offers our reasons why we think this OTC market is a poor, inefficient choice for Chinese businesses looking to raise capital. While the aims of the Third Board are commendable, to open a new fund-raising channel for private sector companies, the reality is that it offers too little liquidity, low valuations and an uncertain path to a full listing on China’s main stock exchanges.

Over the last three years, China has had the highest growth rate and the worst performing stock market among all major economies. In part, the long stock market slide is both necessary and desirable, to bring China’s stock market valuations more in line with those of the US and Hong Kong. But, it also points to a more uncomfortable reality, that China’s listed companies too often become listless ones. Once public, many companies’ profit growth and rates of return go into long-term decline. IPO proceeds are hoarded or misspent. Rarely do managers make it a priority to increase shareholder value.

A small tweak in the IPO listing rules offers some promise of improvement. Beginning this year, a company’s control shareholder, usually the owner or a PE firm, will be locked-in and prevented from selling shares for five years if the share price stays below the original IPO level.

Spare a moment to consider the life of a successful Chinese entrepreneur, both SOE and private sector. In two years, access to capital went from feast to famine. And now maybe back again. An IPO exit went from a reachable goal to an impossibility. And now maybe back again. Meanwhile, markets at home surged while those abroad sputtered. Government reform went from minimal to now ambitious.

2014 is going to be quite a year.

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Chinese IPOs Try to Make a Comeback in US — New York Times

Leave a Comment / June 24, 2016

––NYT

 

I.P.O./Offerings

Chinese I.P.O.’s Try to Make a Comeback in U.S.

BY NEIL GOUGH

HONG KONG — Chinese companies are trying to leap back into the United States stock markets.

The return, still in its early days and involving just a handful of companies, comes after several years of accounting scandals that pummeled their share prices and prompted scores of companies to delist from markets in the United States.

But the spate of recent activity suggests investors may be warming once more to Chinese companies that seek initial public offerings in the United States.

Qunar Cayman Islands, a popular travel website owned by Baidu, China’s leading search engine company, began trading on Nasdaq on Friday and nearly doubled in price. On Thursday, shares in 58.com, a Chinese classified ad website operator that is often compared to Craigslist, surged 42 percent on the first trading day in New York after its $187 million public offering.

The question now — for both American investors and the companies from China waiting in the wings to raise money from them — is whether these recent debuts are an anomaly or have truly managed to unfreeze a market that was once a top destination for Chinese companies seeking to list overseas.

Peter Fuhrman, chairman of China First Capital, an investment bank and advisory firm based in Shenzhen, China, said that for both sides, the recent signs of a détente between American investors and Chinese companies is “a matter of selectively hoping history repeats itself.”

“Not the recent history of Chinese companies dogged by allegations, and some evidence, of accounting fraud and other suspect practices,” he added. “Instead, the current group is looking back farther in history, to a time when some Chinese Internet companies with business models derived, borrowed or pilfered from successful U.S. companies were able to go public in the U.S. to great acclaim.”

That initial wave of Chinese technology listings began in 2000 with the I.P.O. of Sina.com and later featured companies like Baidu, which has been described as China’s answer to Google. In total, more than 200 companies from China achieved listings on American markets, raising billions of dollars through traditional public offerings or reverse takeovers.

But beginning about 2010, short-sellers and regulators started exposing what grew into a flurry of accounting scandals at Chinese companies with overseas listings. In some cases, such accusations have led to the filing of fraud charges by regulators or to the dissolution of the companies. Prominent examples include the Toronto-listed Sino-Forest Corporation, which filed for bankruptcy last year after Muddy Waters Research placed a bet against the company’s shares in 2011 and accused it of being a “multibillion-dollar Ponzi scheme.”

Concerns about companies based in China were reinforced in December when the United States Securities and Exchange Commission accused the Chinese affiliates of five big accounting firms of violating securities laws, contending that they had failed to produce documents from their audits of several China-based companies under investigation for fraud.

In response, American demand for new share offerings by Chinese companies evaporated, and investors dumped shares in Chinese companies across the board. It became so bad that the tide of listings reversed direction: Delistings by Chinese companies from American markets have outnumbered public offerings for the last two years.

Despite the renewed activity, it is too early to say whether Chinese stocks are back in favor. The listing by 58.com was only the fourth Chinese public offering in the United States this year, according to Thomson Reuters data. LightInTheBox, an online retailer, raised $90.7 million in a June listing but is trading slightly below its offering price. China Commercial Credit, a microlender, has risen 50 percent since it raised $8.9 million in August. And shares in the Montage Technology Group, based in Shanghai, have risen 41 percent since it raised $80.2 million in late September.

Still, this year’s activity is already an improvement from 2012, when only two such deals took place, according to figures from Thomson Reuters. Last month, two more Chinese companies — 500.com, an online lottery agent, and Sungy Mobile, an app developer — submitted initial filings for American share sales.

But the broader concerns related to Chinese companies have not gone away. In May, financial regulators in the United States and China signed a memorandum of understanding that could pave the way to increased American oversight of accounting practices at Chinese companies. But the S.E.C.’s case against the Chinese affiliates of the five big accounting firms remains in court.

The corporate structure of many Chinese companies is another unresolved area of concern. Because foreign companies and shareholders cannot own Internet companies in China, both 58.com and Qunar rely on a complex series of management and profit control agreements called variable interest entities. Whether such arrangements will stand up in court has been a cause for concern among foreign investors in Chinese companies.

And short-sellers continue to single out companies from China, often with great success.

In a report last month, Muddy Waters took aim at NQ Mobile, an online security company based in Beijing and listed in New York, accusing it of being “a massive fraud” and contending that 72 percent of its revenue from the security business in China last year was “fictitious.”

NQ Mobile has rejected the accusations, saying that the report contained “numerous errors of facts, misleading speculations and malicious interpretations of events.” The company’s shares have fallen 37 percent since the report was published.

(http://dealbook.nytimes.com/2013/11/01/chinese-i-p-o-s-attempt-a-comeback-in-u-s/?_r=1)
 
Download PDF version.
 

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Better and Worse Investment Ideas For China’s Future

Leave a Comment / October 16, 2013

–tablescreen Where is China headed and how to make money by getting there first? If you were to ask professional China investors, almost without exception you’ll be offered an identical vision of the China of 2020 and beyond:  retired Chinese in their tens of millions living in assisted-living housing spending their days on their smartphones buying clothes, playing games and booking European vacations.

It follows, the pros will tell you, that the best places to put your money today are with Chinese companies building retirement and assisted living housing, mobile apps and online shopping websites. Indeed, these are the sectors getting by far the most attention and seeing the most substantial flows of new investment capital these days.

I happen to think the “smart money” is wrong and here’s why. First, in my experience across 30 years of business life, whenever you get so much agreement about where the future is headed and where money should be staked, the predictions usually prove wrong and the money usually lost.

In this case, the basic analysis is fine. Yes, China is getting older and yes it needs more places to house and care for the elderly. And, yes, Chinese will buy more stuff online since prices are often much lower than in shops. But, only a fraction of the projects now receiving funding will be successes.

The assisted living, online shopping and mobile services businesses already seem over-invested. And yet the money keeps pouring in. It reminds me very much of the last “can’t miss” investment idea in China: group shopping. Two years ago, PE and VC firms poured billions into at least a dozen different group shopping sites in China Most, if not all of that, will be lost.

There are formidable hurdles in the way of all three of the currently-favored business models. For assisted living and retirement housing, it’s not clear Chinese retirees in significant numbers will want to move into these kinds of places, even if their kids are paying. Nor is it clear how these projects will make equity investors money, since Chinese banks remain loathe to lend money to any kind of real estate project.

Online shopping? Great business, but all the companies getting investment have to compete with a few powerhouses with huge market shares. The list includes Alibaba’s Taobao business, Yihaodian (part-owned by Wal-Mart), Amazon China, 360buy.com. I see little reason to believe these newer PE-backed entrants will make any serious dent against these competitors.

As for mobile services, yes Chinese have all switched en masse to smartphones. And, yes, they use the mobiles to do lots of stuff online, including shopping, chat, games. Problem is, in the overwhelming number of cases, Chinese don’t pay for any of it. In my view, they never will. Any investment predicated on the theory that eventually Chinese will start paying fees to mobile service-providers is usually based on not much more than a hope and a prayer. Nothing solid.

So, where else to put money now to be best-positioned for the China of 2020? I can think of two places. One is organic foods and the other is health supplements and what are called “functional foods” in the US.

As of now, both are tiny industries in China, a fraction of their size in the US and Europe. My guess is that the market in China will eventually dwarf those two other places. I’ve read about a few PE investments in these industries. But, in general, the so-called “smart money”  has stayed out.

So, why do I think organic, “functional foods” and supplements will become huge businesses in China? In general, the same forces will prevail in China that have propelled the growth of these industries in the US and Europe: a wealthier population, more interested in their health, more distrustful of traditional commercially-prepared foods, and also more interested to improve their health, fitness and life expectancy by exercising, eating well (including vitamins and supplements) while keeping away from doctors.

In China, this distrust of commercial foods and commitment to a more healthful lifestyle, though still in a comparatively early stage,  is already strong, deep and widespread. So is the lack of trust in the quality of medical care received from doctors.

As anyone who lives in China can attest, there are very good reasons for all of this. Food scandals are common. There seems to be a lot of unhealthy and unhygienic food circulating.  Doctors don’t enjoy a very high standing any longer. They are often seen as fee-grubbing predators, ever willing to make phony diagnoses as a way to put more money in their pockets from their share of fees paid for tests, medicines, surgery, hospital care.

In short, the conditions couldn’t be riper for the development of organic foods, and health supplements of all kinds. Chinese traditional medicine shares quite a few principles in common with the OTC health supplements sold in the US. Chinese, in a way Westerners generally do not, have always accepted that Western pharmaceuticals should often be taken as a last resort. They worry greatly about side effects. If there’s a more “holistic” way to treat a condition, Chinese will often prefer it.

China, as of today, has no vitamin and supplement shops like GNC in the US, nor do mainstream pharmacies give such products any shelf space. When you can find them, vitamins are sold at very high prices in China, usually at least double the US level. There are no good domestic brands, no winning products or packaging formulated specifically for Chinese consumers.

One data point: it’s more and more widely known in China that fish oil is beneficial for digestion and circulation. And yet, it’s hard to find the product anywhere in China. When you do, it is usually stuff imported from the US, in old-looking packaging, with English-language  labels, and prices three to four times higher than in America.

Whether the world has enough cod livers to meet future Chinese demand for fish oil is another story. But, I’m confident the China market should eventually rival the US’s in size.

As for organic and healthy foods, China has lots of conventional supermarkets. But, so far no one has tried to follow the path blazed by Whole Foods Market in the US. Nor are there large, established organic food brands like Organic Valley, Applegate.

It will all happen. When, and which investors will make the big money is hard to say. Even now, the demand for genuine organic fruits, vegetables and dairy outstrips the available supply. There’s yet no real standard in China for what can be called organic, and so Chinese consumers often view products labeled that way with suspicion. That too represents a business opportunity in China — providing standards and credentials for the organic farming industry.

The lesson here: in China, the best business opportunities are often hiding in plain sight, often unseen by professional investors. Nowhere is contrarian investing more warranted and more potentially profitable.

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Pactera ‘Challenged By Investors Every Day’ — Wall Street Journal

Leave a Comment / March 9, 2014

WSJ

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By Paul Mozur

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In an interview with The Wall Street Journal  on May 10th,  the chief executive of China’s largest software outsourcing company Pactera Inc. PACT -1.04% said investors had been pestering the company “every day” to carry out share buybacks to bolster the company’s share price.

“Our shares are trading very badly, it’s at a multiple that I can’t even imagine,” CEO Tiak Koon Loh said during the interview.

Since that interview, Mr. Loh, along with Blackstone Inc. BX -0.58% and several other Pactera executives, decided to try to cash in on that low price with a bid to take the company private for $7.50 a share or a 42.5% premium to where shares closed Friday on the Nasdaq Stock Market NDAQ -0.19%.

Following on the heels of a bid by a CITIC Capital Partners-led consortium to take private another Chinese IT services company AsiaInfo-Linkage Inc. ASIA -0.17%, the Pactera deal has led bankers and commentators to wonder whether the recent trend of private equity firms jumping to take Chinese companies listed in the U.S. private  is looking a little frothy.

“The [Pactera] deal may go down in the annals of most expensive [leveraged buyouts] ever launched. Blackstone is offering current shareholders a price equal to over 200 times 2012 net income,” said Peter Fuhrman, chairman of China First Capital.

Nonetheless, in the interview before the deal, Mr. Loh laid out his reasoning for why Pactera has good growth potential ahead of it. In particular, he said the company stands to benefit over the next decade, not just in the industry of software outsourcing, but also in tech consulting services as China’s technology industry booms.

For example, Pactera partnered with Microsoft Corp. MSFT -1.33% and 21Vianet Group Inc. to help develop Windows and Office cloud services in China, which launched on Wednesday.  Mr. Loh said that the company has a number of other cloud projects it is working on, in particular helping provincial governments build cloud infrastructure.

“China has always grown faster than the global [outsourcing] market,” Mr. Loh said.

But there are reasons to be more bearish on Pactera, especially in the short term. With more than 10% of its revenues coming from Japan, the company is likely to be hit hard this year by the falling Yen, according to Mr. Loh.

“Everything you do is in Japanese Yen, and every contract is signed in Japanese Yen, and it has just dropped 25%,” he said, adding that business has grown despite recent political difficulties between China and Japan.

Another issue is integration. Pactera was formed by the 2012 merger of HiSoft Technology International Ltd. and VanceInfo Technologies Inc. Mr. Loh acknowledged that there had been some “leakage” of productivity as the two companies work to integrate cultures and some employees or teams had left, but he nonetheless said that he expected growth to return.

“But beyond this year and getting back to the norm we should see ourselves growing…. no less than the industry and no less than the industry is at least 16% [revenue growth] year on year,” he said.

More than just saying it, Mr. Loh is betting on it. Now it’s a matter of whether shareholders believe that kind of growth in the coming years could get them more than the $7.5 per share on offer from the deal.

Blackstone did not immediately return calls.

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SOEs That Are SOL – China’s Forgotten and Unprivileged State-Owned Enterprises

3 Comments / December 15, 2013

Perhaps the most commonly-heard criticism these days of the Chinese government’s economic policy is that secret policies favoring State-Owned Enterprises (so-called “SOEs”) are becoming more numerous, heavy-handed and harmful to the prospects of private business in China. This criticism, like others of China,  gains strength and credence because it is basically unfalsifiable. Since the policies are secret and the impact hidden from direct view, the only evidence offered is the continued growth and profits of SOE giants like China Mobile, ICBC, Sinopec and others.

While it’s undeniable that SOEs do enjoy a lot of advantages private companies can only dream of, often including easier access to bank loans and markets rigged to prevent free competition, I’m dubious that a real shift really is taking place, and that the Chinese government is wholesale turning its back on private business in order to make life easier for SOEs.

Not all SOEs are living a life of wine and roses. For them, government support is limited, haphazard, often counterproductive. There are hundreds of such SOEs in China. They aren’t the giant companies many foreigners have heard of. These SOEs are surviving, but not really prospering, with clapped-out equipment, low profits, bloated workforces and balance sheets larded with debt. It’s by no means clear that having a government owner is more of a benefit than a liability.

These SOEs have no real pressure to optimize profits and increase efficiency.  Their government owners, to the extent they even notice these smaller industrial SOEs,  are mainly concerned that they should continue to provide jobs, hand over a bit of money each year in taxes and dividends, and continue to increase output. In many ways, for all the epochal changes over the last 30 years in China, many SOEs are still run much as they were during the days of complete central planning:  growing bigger is still more important than growing more profitable, innovative, dynamic.

Thirty years ago, all of Chinese industry was state-owned and most urban Chinese were employed by the state. Then came the private sector reforms and liberalization under Deng Xiaoping, the rise of private business (which officially now contribute more than 70% of China’s gdp) and the bankruptcy of thousands of large SOEs, when many of the largest loss-making SOEs were forced to close. This process of culling the loss-making SOEs is often called “淘汰” (“taotai”) in Chinese, a term I quite like. It literally means to “wash clean” or “wipe out”.

But, many thousands of smaller, barely-profitable SOEs survived “taotai”. They are the ones now often living in a state more akin to Dickensian squalor than the plush recipients of government favor. Visit, as I did recently,  one of the “un-taotai’ed”  SOEs, and you will soon be disabused of the idea that all SOEs are prospering and that the Chinese government is running an economy to benefit SOEs at the expense of private business.

The SOE I visited is in Shaanxi province, about an hour’s drive from the capital, Xi’an. The factory was established in 1966, at the start of the Cultural Revolution, by a team of thousands of workers forcibly relocated from Tianjin. It manufactures certain special types of fiberglass, including some used by China’s military and space program. The SOE still produces many of the same products, on 45 year-old equipment, in a sprawling and broken-down facility the likes of which I’d never seen before in China. Most of the buildings are dilapidated, the roads inside potholed. Polluted waste water belches from pipes into overflowing holding pens.

This company, in one sense, is lucky. It has no competitors inside China, and only two elsewhere, Soviet-era factories in Byelorussia and Latvia. Saddled with unnecesarily large payroll and other ancillary costs not related to producing fiberglass, profit margins are low. But, the company earns money most years, including about $1 million in profits in 2011.

The problem, though, is that the company can’t get the capital to modernize, expand or rationalize its workforce of almost 2,500. It’s still responsible for the running costs of a local hospital, school and kindergarten. When the company’s boss goes to the government for help, he’s mainly told to fend for himself. The company is too small to get any attention from its government owners. So, it floats along in a kind of sad limbo.

With money and profit-seeking owners, the company could probably grow into a quite successful industrial business. The market for its products is actually growing. If they could let go excess payroll and obligations, margins would likely rise above 15%, generating sufficient surplus to finance the large expansion plans and upgrade the company’s boss has been trying, unsuccessfully, to implement for six years. The government says it has no cash to inject. State-owned banks, for all their supposed leniency towards SOEs, won’t increase lending. Instead, the government is urging the factory boss to find a private investor, to put together some kind of privatization plan.

But, in this case and many like it, whenever the Chinese government won’t invest, few if any sane private investors will. Any new investor would have to fund the cost of layoffs of up to 1,800 people. Most are entitled to one month severance for every month of employment.  Average salary is around $500 a month.

The new investor would also, according to Chinese law, probably need to buy its shares from the provincial arm of SASAC at a price tied to the company’s net assets, not its rather dismal operating performance. The entire business may be worth only $10 million. But, using the net asset formula, which includes a big chunk of valuable land, the price almost triples. After all this money goes out the door, the new investor would need to pump another $12mn-$15 mn into the company to finance improvements and expansion.

For any investor seeking to buy control of the company, the likely rate of return after all these outlays, even under the most optimistic scenarios, would be under 10% a year.  That’s a deal that few investors would consider. Along with the need to shell out all the money, a new owner would also acquire lots of contingent liabilities of unpredictable size and severity, including the cost of an environmental clean-up, repairs to company-owned housing where most of the current 2,300 workers, as well as retirees, live.

After spending the day with him, I sympathize with the company boss’s plight. He wants to run an efficient operation, turn it into a leading producer of certain high-technology fiberglass materials, and maybe earn his way into owning a small piece of the company. But, the current mix of policies in China will make that hard, if not impossible, to achieve.

While big SOEs do enjoy a lot of political clout, with sparkling new headquarters, and a low cost of capital that other companies envy, these smaller SOEs inhabit an altogether different and inhospitable world. Government ownership is far more of a hindrance than a help. And yet, they have no real way to free themselves.  These SOEs are, as Americans would say, SOL.

 

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Is Huawei a Paper Tiger?

1 Comment / January 3, 2012

No large Chinese company is more scrutinized, criticized, ostracized and demonized than Huawei, the Shenzhen-based manufacturer of telecommunications equipment. With revenues of $28 billion in 2010, and 110,000 employees, Huawei is the second-largest telecom equipment company in the world, along with being the largest and most prominent private technology company in China. It is also said to enjoy significant behind-the-curtain support from senior figures in the Chinese government and military.

Not much is known about the secretive company. But for all its size and prominence in the telecommunications industry, Huawei’s corporate finances and balance sheet may be a good deal weaker than commonly assumed. The problem comes from Huawei’s unbalanced balance sheet, and an over-reliance on loans from Chinese state-owned banks, rather than payments from customers, to finance its business. In 2011, instead of too much help from the Chinese government, Huawei seems to have suffered from a lack of it.

The bigger Huawei has grown, the more criticism it has attracted. Competitors outside China have loudly claimed the company was a front for the Chinese military, and that it owes its size in large part to an efficient process of stealing others’ technology and then selling its cut-price knock-off equipment within China and to telecom monopolies in the world’s poorer, most despotic countries.

Huawei has had a particularly hard time of it in the US, where it was sued in 2003 by Cisco for patent infringement. More recently, its plans to buy several US tech companies were blocked by the US government or obstruction by US politicians. Some of the same politicians also blocked Huawei’s sale of some larger telecom equipment in the US by asserting, without producing any real evidence,  Huawei equipment was used by the Chinese military for eavesdropping.

In part to counter all the criticism and alter its reputation as a technological lightweight, Huawei has been spending heavily in recent years to build large R&D centers around the world, hiring lots of PhDs, both Chinese and Western. The company is filing patents by the truckload, a total of over 50,000 at last count. In 2010, the company is said to have invested over $2 billion in R&D. According to the company, profits in 2010 were Rmb24 billion (US$3.7 billion) up from RMB18.27 billion in 2009.

But, the question still remains: is Huawei a solid high-tech company that is misunderstood and unfairly attacked by jealous competitors or attention-seeking politicians? Or, is it more of a bloated, backward and barely profitable machine-maker kept in business through hidden subsidies and support from various arms of the Chinese government?

I have no way to accurately judge, nor any particular interest in the company. I meet with Huawei people occasionally. Huawei is, after all, the largest and most prominent company in Shenzhen, where I now live. As a private company, Huawei releases limited financial information.

My sense is that Huawei’s main problem, at least at the moment, isn’t technical competence, but poor cash flow. This has been brought on by fast-declining profit margins, slow market growth, erratic payments from customers in less-advanced countries where Huawei derives a significant percentage of its sales. To top it off, once compliant Chinese banks have turned stingy in extending loans. Add it up, and Huawei may currently be in much less robust financial condition than previously. A paper tiger? Probabaly not. But, it does look like a very large company with a similarly large imbalance in its financial structure.

To sell its products, Huawei must usually be the cheapest supplier. But, its costs are rising fast and some of its largest markets of late, like equipment for 3G and other high-bandwidth mobile phone systems, are no longer growing quickly. Other product areas are basically stagnant, especially for traditional fixed-line telecom switches.

Though the company has made no public announcement about its financial condition, my conversations with Huawei people suggest the company had a relatively poor year in 2011, and has run into some serious cash-flow challenges. One example: Huawei’s private equity arm, which until recently was trumpeted by Huawei as a key source of future profits and access to new leading-edge technologies, has all but shriveled up and died. Funding has been basically cut off. The cash is needed apparently to keep other parts of the business above water.

In the past, Huawei could sustain its cash flow by tapping China’s state-owned banks for loans. This year, the flow of loans seems to have been curtailed. One reason:  the Chinese government has clamped down hard on all bank lending to stem rising inflation. That’s impacted most heavy borrowers in China, including, it seems, Huawei.

Chinese banks have cut back lending to Huawei, so Huawei apparently has cut back elsewhere in its business. If so, it suggests Huawei’s own cash reserves are scarce, particularly for a company its size. This is caused not only by low margins, but also because Huawei, as a private company, cannot raise money from the capital markets. Its only cushion is taking loans from Chinese banks. These loans, in turn, are dialed up or dialed down not based purely on Huawei’s creditworthiness, but also the overall credit stance of the Chinese government.

The simplest solution, a Huawei IPO, seems as a remote a possibility today as it ever was. The company does not seem ready to endure that level of public disclosure — of its murky financials, ownership, profit margins, management structure, reliance on orders and loans from Chinese government-backed entities.

Over the years, most of Huawei’s erstwhile competitors – including Northern Telecom, Alcatel, Fujitsu, Siemens, AT&T – have either gone out of business, or been dramatically slimmed down. Only Sweden’s Ericsson has sales larger than Huawei.

In the absence of reasonable profit margins and reliable cash flow from customer purchases, Huawei has used a ready flow of Chinese bank loans to finance its operations and investment. But, those low margins also make it a challenge to repay the ever larger bank debts. Ultimately, positive cash flow needs to come from customers, not bank loans.

Whatever the situation with Huawei’s books at the moment, I’m rather sure we will not be reading financial headlines anytime soon about a cash crisis at Huawei. It is a large business,  and well-connected politically. It is also reportedly a large supplier of equipment to the Chinese military.

The large banks in China are state-owned and are routinely used to advance economic, political and social goals.  These banks may have cut back on funding to Huawei this year, but if the company needs money to stave off more serious – and public — financial problems, it’s all but certain the flow of bank cash will be increased. If need be, Huawei could be put on heavy state loan intravenous support.

As Huawei has grown larger, the reliance on bank lending becomes ever more of a risk. It is, above all, a very stilted, unbalanced way for the company to manage its capital needs. A diet of too much debt and too little equity often leads to corporate malnourishment.

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Song Dynasty Deal-Sourcing

1 Comment / December 5, 2011

I get asked occasionally by private equity firm guys how CFC gets such stellar clients. At least in one case, the answer is carved fish, or more accurately my ability quickly to identify the two murky objects (similar to the ones above) carved into the bottom of a ceramic dish. It also helped that I could identify where the dish was made and when.

From that flowed a contract to represent as exclusive investment bankers China’s largest and most valuable private GPS equipment company in a USD$30mn fund-raising. It’s in every sense a dream client. They are the most technologically adept in the domestic industry, with a deep strategic partnership with Microsoft, along with highly-efficient and high-quality manufacturing base in South China, high growth and very strong prospects as GPS sales begin to boom in China.

Since we started our work about two months ago, several big-time PE firms have practically fallen over themselves to invest in the company. It looks likely to be one of the fastest, smoothest and most enjoyable deals I’ve worked on.

No fish, no deal. I’m convinced of this. If I hadn’t correctly identified the carved fish, as well as the fact the dish was made in a kiln in the town of Longquan in Zhejiang Province during the Song Dynasty, this company would not have become our client. The first time I met the company’s founder and owner, he got up in the middle of our meeting, left the room and came back a few minutes later with a fine looking pale wooden box. He untied the cord, opened the cover and allowed me to lift out the dish.

I’d never seen it before, but still it was about as familiar as the face of an old teacher. Double fish carved into a blue-tinted celadon dish. The dish’s heavy coated clear glaze reflected the office lights back into my eyes. The fish are as sketchily carved as the pair in the picture here (from a similar dish sold at Sothebys in New York earlier this year), more an expressionist rendering than a precisely incised sculpture.

It’s something of a wonder the fish can be discerned at all. The potter needed to carve fast, in wet slippery clay that was far from an ideal medium to sink a knife into. Next came all that transparent glaze and then the dish had to get quickly into a kiln rich in carbon gas. The amount of carbon, the thickness and composition of the glaze, the minerals dissolved in the clay – all or any of these could have contributed to the slightly blue-ish tint, a slight chromatic shift from the more familiar green celadons of the Song Dynasty.

All that I knew and shared with the company’s boss, along with remarking the dish was “真了不起”, or truly exceptional. It’s the finest celadon piece I’ve seen in China. Few remain. The best surviving examples of Song celadon are in museums and private collection outside China. I’m not lucky enough to own any. But, I’ve handled dozens of Song celadons over the years, at auction previews of Chinese ceramic sales at Sotheby’s and Christie’s in London and New York. The GPS company boss had bought this one from an esteemed collector and dealer in Japan.

The boss and I are kindred spirits.  He and I both adore and collect Chinese antiques. His collection is of a quality and breadth that I never imagined existed still in China. Most antiques of any quality or value in China sadly were destroyed or lost during the turbulent 20th century, particularly during the Cultural Revolution.

The GPS company boss began doing business in Japan ten years ago, and built his collection slowly by buying beautiful objects there, and bringing them home to China. Of course, the reason Chinese antiques ended up in Japan is also often sad to consider. They were often part of the plunder taken by Japanese soldiers during the fourteen brutal years from 1931 to 1945 when they invaded, occupied and ravaged parts of China.

Along with the celadon dish, the GPS boss has beautiful Liao, Song, Ming and Qing Dynasty porcelains, wood and stone carvings and a set of Song Dynasty paintings of Buddhist Luohan. In the last few months, I’ve spent about 20 hours at the GPS company’s headquarters. At least three-quarters of that time, including a visit this past week, was spent with the boss, in his private office, handling and admiring his antiques, and drinking fine green tea grown on a small personal plantation he owns on Huangshan.

I’ve barely talked business with him. When I tried this past week to discuss which PE firms have offered him money, he showed scant interest. If I have questions about the company, I talk to the CFO. Early on, the boss gifted me a pretty Chinese calligraphy scroll. I reciprocated with an old piece of British Wedgwood, decorated in an ersatz Chinese style.

Deal-sourcing is both the most crucial, as well as the most haphazard aspect of investment banking work. Each of CFC’s clients has come via a different route, a different process – some are introduced, others we go out and find or come to us by word-of-mouth.  Unlike other investment banking guys, I don’t play golf. I don’t belong to any clubs. I don’t advertise.

Chinese antiques, particularly Song ceramics,  are among the few strong interests I have outside of my work.  The same goes for the GPS company boss. His 800-year old dish and my appreciation of it forged a common language and purpose between us, pairing us like the two carved fish. The likely result: his high-tech manufacturing company will now get the capital to double in size and likely IPO within four years, while my company will earn a fee and build its expertise in China’s fast-growing automobile industry.  

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