中国首创投资

“Coincidence is God’s way of remaining anonymous” – Albert Einstein

Leave a Comment / May 18, 2010

Longquan vase from China First Capital blog post

Just about everyone has experienced a miraculous coincidence at least once in their lifetime, a chance encounter with a friend at a place and time where neither side would ever have expected to meet. I’ve had a few in my life. The most memorable was running into Giovanna, an old girlfriend of mine from when I was a graduate student at the Chinese University of Hong Kong. I literally bumped into her, eight years after losing touch (this was in the pre-email era) one morning at the bustlingly gorgeous Campo de’ Fiori vegetable market in the center of Rome.

We quickly got reacquainted, and she juggled me and her then-current boyfriend for awhile. I was a foreign correspondent for Forbes based in London. She was living in Rome, close to the market, one of my favorite spots in one of my favorite and most-visited cities in the world.

There was a high degree of improbability about that meeting in Rome. But, it wasn’t completely unfathomable, since she was an Italian, and even when I knew her, interested in film-making. Rome is the center of that industry in Italy. Giovanna had studied in China, spoke good Chinese and had landed a small job helping Bernardo Bertolucci shoot scenes in China for “The Last Emperor”.  She parlayed that into a friendship with the director and the producer of Last Emperor, and then found other work in the film business.

In Chengdu recently, I had an even more remarkable coincidental meeting than that one in Campo de’ Fiori. At a large and fancy restaurant there, a friend of mine from work, Nick Shao, who is a Managing Director of PE firm Carlyle in Shanghai, came up and greeted me as I sat down at a table with two people I only just met.

My brain circuitry is not what it used to be. It probably took me two to three seconds to actually figure out who Nick was and how I knew him. Then it clicked, of course, and I started burbling in my bad Chinese about how remarkable the whole thing was – why was he there? Doing what? Was the food any good?

Running into Nick was remarkable for a lot of reasons, including the fact I know a comparatively small number of people in China, had not been in Chengdu in 28 years, and was in a restaurant that seats at least 800 people. To end up at a table nearby to someone I knew, in a city of 11 million that neither of us have any connection to, in a country with the largest population in the world, that’s a level of unlikelihood that I can’t even begin to quantify. I’d be hard-pressed to find one of my own family members in that restaurant, it’s that large and crowded.

As I found out, Nick was in Chengdu for an EMBA course he’s taking. This also left me a little nonplussed, since I knew Nick already had an MBA from Columbia. Why would anyone need two? Why was his Shanghai university convening its class at a not-especially famous restaurant in Chengdu? I still don’t have solid answers to either of these questions, even after exchanging emails with Nick later that day.

For my part, I was in Chengdu to participate in a PE conference organized by the Sichuan government. I skipped the official lunch to meet some friends-of-friends. It would not be stretching things to say the last place I’d expect to meet someone I know would be that restaurant, in that city, in that country, at that date and time.

I had a great three days in Chengdu,  eating, chatting and walking around China’s most relaxed, pleasant and livable major city. Meeting Nick made it very much more memorable, just as I continue to remember, when I think of Rome, that meeting, over 20 years ago, in Campo de’ Fiori.

For me, at least, this coincidental meeting spurred a lot of what little I can muster in terms of philosophical reflection. It’s all hackneyed stuff, of course, but our lives really are created by the miracle of birth, and punctuated thereafter by occasional miracles, large and small. The world is, in its most benign state, the motive force for the coming true of every sort of wonderful, unexpected but thoroughly delightful possibility. Dreams come true. Happy coincidences occur.


Going home again – Back at Forbes, this time in 中文

Leave a Comment / May 11, 2010

Forbes China website Peter Fuhrman column

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My career has come full circle. I’m back at Forbes Magazine. Only this time, I’m published in the magazine’s Chinese website, as an occasional columnist.

Have a look here: http://www.forbeschina.com/review/201005/0000757.shtml 

I was at Forbes for almost ten years, and left in 1995, after writing I’d guess around 120 articles, first in New York, and then in Europe, based in London.  I had a splendidly enjoyable career at Forbes, traveling farther and wider than I ever dreamed possible, while writing about companies, ideas and events that seized my interest, and that of my editors at Forbes. I had the great good fortune to be at Forbes while it was edited by Jim Michaels, perhaps the finest ever editor of a business publication.  Read about him by clicking here. 

After leaving Forbes, I always told friends I was much happier outside journalism. I never looked back, never hankered for even a day to get back into journalism. There’s some truth, at least when applied to me, that it’s more rewarding to try to make a little history, rather than to write about those who do. 

All the same, it’s a special feeling to see my byline on the Forbes Chinese website. I accepted immediately when the magazine called to see if they could publish Chinese versions of my blog posts. I’m not all that sure how successful, if at all, Forbes is in China. So, my columns may have a smaller readership than some of the Chinese-language SMS messages I send. 

This time around at Forbes, my writing won’t go under the knife of a sharp team of editors and wordsmiths. Back then, I railed frequently, and impotently, against what I saw to be the boneheaded or misguided changes imposed from above.

Now, well, I have to acknowledge my work could probably benefit from some editing and intervention. Chinese is not a language I speak with much skill. Writing it far harder still. I rely on lots of assistance from my smart co-workers to transubstantiate my hot air  into solid Chinese. 


CFC’s latest research report: 2010 will be record-setting year in China Private Equity

2 Comments / May 8, 2010

China First Capital 2010 research report, from blog post

 

China’s private equity industry is on track to break all records in 2010 for number of deals, number of successful PE-backed IPOs, capital raised and capital invested. This record-setting performance comes at a time when the PE and VC industries are still locked in a long skid in the US and Europe.

According to my firms’s latest research report, (see front cover above)  the best days are still ahead for China’s PE industry. The Chinese-language report has just been published. It can be downloaded by clicking this link: China First Capital 2010 Report on Private Equity in China

We prepare these research reports primarily for our clients and partners in China. There is no English version.

A few of the takeaway points are:

  • China’s continued strong economic growth is only one factor providing fuel for the growth of  private equity in China. Another key factor that sets China apart and makes it the most dynamic and attractive market for PE investing in the world: the rise of world-class private SME. These Chinese SME are already profitable and market leaders in China’s domestic market. Even more important, they are owned and managed by some of the most talented entrepreneurs in the world. As these SME grow, they need additional capital to expand even faster in the future. Private Equity capital is often the best choice
  • As long as the IPO window stays open for Chinese SME, rates of return of 300%-500% will remain common for private equity investors. It’s the kind of return some US PE firms were able to earn during the good years, but only by using a lot of bank debt on top of smaller amounts of equity. That type of private equity deal, relying on bank leverage, is for the most part prohibited in China
  • PE in China got its start ten years ago. The founding era is now drawing to a close.  The result will be a fundamental realignment in the way private equity operates in China. It’s a change few of the original PE firms in China anticipated, or can cope with. What’s changed? These PE firms grew large and successful raising and investing US dollars,  and then taking Chinese companies public in Hong Kong or New York. This worked beautifully for a long time, in large part because China’s own capital markets were relatively underdeveloped. Now, the best profit opportunities are for PE investors using renminbi and exiting on China’s domestic stock markets. Many of the first generation PE firms are stuck holding an inferior currency, and an inferior path to IPO

Our goal is to be a thought leader in our industry, as well as providing the highest-quality information and analysis in Chinese for private entrepreneurs and the investors who finance them.


Kleiner Perkins Adrift in China

1 Comment / May 13, 2010

Gold ornament from China First Capital blog post

No firm in the venture capital industry can match the reputation, global influence and swagger of Kleiner Perkins Caufield & Byers (“KP”). KP is accustomed to outsized success and glory  – which makes the lackluster performance of KP’s China operation all the more baffling. For all its Midas-touch reputation in Silicon Valley, KP’s China operation looks more like 100% pyrite. It seems beset by some poor investment choices, setbacks and even rancor among its partners and team. The firm’s Chinese-language website even manages to misspell the Kleiner Perkins name. (See below.)

Two years ago, Joe Zhou, one of the founding managing partners of KP in China left the firm to set up a rival VC shop, Keytone Ventures. Two other KP partners in China have also left. Losing so many of its partners in such a short time is an unprecedented occurrence at KP — even more so that two of these partners left KP to set up rival VC firms in China.

A partnership at KP is considered among the ultimate achievements in the business world. Al Gore took up a partnership at KP in 2007, after serving as Vice President for eight years and then losing the presidential election in 2000. Colin Powell also later joined the firm, as a “Strategic Limited Partner”.

Joe Zhou left KP just 13 months after joining. When he left, he also took some of the senior KP staff in China with him. Zhou also negotiated to buy out the portfolio of China investments he and his team had overseen at KP China. They paid cost, according to someone directly involved in the transaction. In other words, KP sold its positions in these investments at a 0% gain. Factor in the cost of that capital, and the portfolio was offloaded at a loss.

This isn’t going to endear KP to the Limited Partners whose money it invests.  It also signals how little confidence KP had in the future value of these China investments the firm made. Other top VCs and PEs are earning compounded annual rates of return of +50% in China.

There was every reason to believe that KP would achieve great success when it opened in China in 2007. Indeed, when KP opened its China office, it issued a celebratory press release, titled “Kleiner Perkins Caufield & Byers Goes Global;Joe Zhou and Tina Ju to Launch KPCB China”.

Along with having the most respected brand in the VC industry, KP arguably has more accumulated and referenceable knowledge than any other VC firm on where to invest, how best to nurture young companies into global leaders. It’s roster of successful investments includes many of the most successful technology companies in history, including: Amazon, AOL, Sun, Genentech, Electronic Arts, Intuit, Macromedia and Google.

Opening in China was KP’s first major move outside the US – indeed, its first move outside its base in Silicon Valley. KP has only three offices in total, one in Menlo Park , California and one each in Shanghai and Beijing.  On its website, the firm’s China operations receive very prominent position. Two of the firm’s most renowned and respected partners, John Doerr and Ted Schlein, apparently played an active part in KP’s entry into China. Along with the high-level backing, KP also raised over $300mn in new capital especially for its China operations. One can assume KP has already taken over $15mn in management fees for itself out of that capital.

Beyond the capital and high-level backing, KP also prides itself on being better than all others in the VC world at building successful companies. So, it’s more than a little surprising that KP’s own business in China has so far failed to excel, failed even to make much of an imprint. Physician heal thyself?

I’m in no way privy to what’s going on at KP in China, and thus far have not had any direct dealings with them. I’ve always admired the firm, and fully expect the China operation to flourish eventually. For one thing, great entrepreneurs and good investment opportunities in China are just too numerous. A firm with KP’s deal flow, capital and experience should find abundant opportunities to make significant returns investing in IPO-bound businesses.

From the beginning, KP’s operation was  a kind of outsourced operation. Rather than sending over partners from KP in the US, the firm instead hired away from other firms partners at other China-based VCs. While this meant KP could ramp up in China more quickly, it also put the firm’s stellar reputation, as well as its capital, in the hands of people with no direct experience working at the firm.

The KP website lists 14 companies in the China portfolio. The portfolio is very heavily weighted towards biotech, cleantech and computer technology, mirroring KP’s focus in the US. Other tech—focused VCs in China have run into trouble, and are now shifting much of their investment activity towards established Chinese SME in more traditional industries. In the best cases, these SME have strong brands and very robust sales growth in China’s domestic market.

In my view, investing in these SME offers the best risk-adjusted return of any PE or VC investing in the world right now. KP has yet to make the shift. I wish KP nothing but success, and hope for opportunities in the future to work with them. Its technology bets in China may pay off big-time, in due course. But, meantime, KP is in the very unaccustomed position of laggard, rather than leader, here in China.

_________________________

 

It’s surely embarrassing, if not emblematic, that the home page of the Chinese-language version of KP’s own website manages to misspell the company’s name.  Check out the top-most bar on the page, where the firm is named “Kliener,  Perkins, Caufield and Buyers” .

Kleiner Perkins China website


Update: as of May 11, 2010, the Chinese version of Kleiner Perkins’ home page has been corrected.

 



Shanghai’s New Hongqiao Terminal: What’s Lost is As Important as What’s Gained

3 Comments / April 13, 2010

Tang horses from China First Capital blog post

Whenever possible on visits to Shanghai, I’ve always chosen to fly into Hongqiao Airport, rather than the larger, newer Pudong Airport. Shanghai is the only major city in China with two major commercial airports, and Hongqiao and Pudong couldn’t be more unalike. Or at least that was the case until a few weeks ago, when the new Hongqiao terminal and runway opened. I just flew in and out of this new building, and while it’s an impressively gleaming facility, I find myself mourning the loss of the old Hongqiao. 

Hongqiao was always a dowdy remnant of a bygone era in China, built over 20 years ago when the western part of Shanghai was still largely farmland. The first time I went to Hongqiao was 1982, to see my friend Fritz off. He was flying on PanAm Airlines to the US, back when there were very few international flights into and out of China. As I remember it, the PanAm 747 came gliding in like a metallic chimera, over the heads of peasants transplanting rice. 

Gradually, the city enveloped the airport and Hongqiao is now one of the few downtown airports in China, a short cab ride to the main business areas in Shanghai about 8 miles away. Its 1980s vintage terminal was also one of my favorite sites in China – a reflection, perhaps, of the fact I rarely get to travel to anywhere very scenic in China, but hop around from booming metropolis to booming metropolis.

The old terminal has a brute, utilitarian ugliness about it, fishhook-shaped, small, cramped and comfortingly ramshackle. It’s so past-its-prime, in fact, it would not be out of place at all in the US, with its outdated urban airports like LAX, Kennedy, LaGuardia, Midway. 

The comparison with Pudong, opened ten years ago 25 miles outside the center of Shanghai, was stark. At Pudong, you whizz along long corridors on motorized walkways, and travel downtown on the world’s only commercial Mag-Lev train. If Pudong is glass and steel, Hongqiao was cement and plastic. 

But, again, all this now belongs to the past tense. The new Hongqiao Terminal is, if anything, more loudly and verbosely modern than Pudong when it opened. I had no idea it was even being built, it’s so far away from the old facility, on what was the back fringe of old Hongqiao. It’s a 20-minute shuttle ride between the two. All domestic flights now operate from the new terminal, and my hunch is that the old terminal will not be standing for very much longer. Civic leaders clearly came to see it as an eyesore, an embarrassingly “Third World” entry-point for a city busily striving to become the world’s next great commercial and financial capital. 

There was a rush to open the new Hongqiao, since next month, the Shanghai Expo opens. The roads leading to the new terminal are still under construction, as is the subway line. Vast expanses of ground in the front and to the sides of the new building are now just barren plots, waiting for parking lots, airport hotels and rental car facilities to populate them. Our cab driver had not been yet to the new terminal and couldn’t find the departures area. 

On entering, the first impression is of a very un-Shanghai-like emptiness. The new terminal must be at least ten times larger and three times taller than the old one. The line of check-in counters stretches for half-a-mile. You get a sense of what Jonah must have felt like entering the whale. Everywhere else in Shanghai is so jam-packed that you are part of a perpetual mob scene, breathing in someone else’s exhaust. Not here. It hints at a Shanghai of the future, a city not defined mainly by its enormous and densely-packed population, but by its modernity, efficiency and polish. 

That’s just it. What’s most special, and worth preserving, about old Hongqiao is that it belongs to the Shanghai that “was”, rather than the China that “will be”.  Even the name itself is a delightful throwback. Hongqiao means “Red Flag”, a name straight out of the Maoist lexicon. 

The old axiom is very apt: “you don’t know where you’re going if you don’t know where you come from”. When Hongqiao’s old terminal goes, so too will the last conspicuous reminder of the Shanghai of thirty years ago, a city,  ever so tentatively, starting down the road of economic reform. 

A tangible part of my own history in China will also disappear. Flying into Shanghai will never be the same.  


The Worst of the Worst: How One Financial Advisor Mugged Its Chinese Client

1 Comment / April 8, 2010

stamp from China First Capital blog post

One of my hobbies at work is collecting outrageous stories about the greed, crookedness and sleaze of some financial advisors working in China. Sadly, there are too many bad stories – and bad advisors – to keep an accurate, up-to-date accounting. 

Over 600 Chinese companies, of all different stripes,  are listed on the unregulated American OTCBB. The one linking factor here is that most were both badly served and robbed blind by advisors.

Many other Chinese companies pursued reverse mergers in the US and Hong Kong.Some of these deals succeeded, in the sense of a Chinese company gaining a backdoor listing this way. But, all such deals, those both consummated or contemplated, are pursued by advisors to put significant sums of cash into their own pockets. 

Talking to a friend recently in Shanghai, I heard about one such advisor that has set a new standard for unrestrained greed. This friend works at a very good PE firm, and was referred a deal by this particular advisor. I’ve grown pretty familiar with some of the usual ploys used to fleece Chinese entrepreneurs during the process of “fund-raising”. Usual methods include billing tens of thousands of dollars for all kinds of “due diligence fees”, phony “regulatory approvals” and unneeded legal work carried out by firms affiliated with the advisor.  

But, in this one deal my Shanghai friend saw, the advisor not only gorged on all these more commonplace squeezes, as well as taking a 7% fee of all cash raised, but added one that may be rather unique in both its brazenness and financial lunacy. The advisor had negotiated with the client as part of its payment that it would receive 10% of the company’s equity, after completing capital-raising. 

Let’s just contemplate the financial illiteracy at work here.  No PE investor would ever accept this, that for example, their 20% ownership immediately becomes 18% because of a highly dilutive grant to the advisor. It’s such a large disincentive to invest that the advisor might as well ask the PE firm to surrender half its future profits on the deal to put the advisor’s kids through college.

The advisor clearly was a lot more skillful at scamming the entrepreneur than in understanding how actually to raise PE money. The advisor’s total take on this deal would be at least 17% of the investor’s money, factoring in fees and value of dilutive share grant. 

By getting the entrepreneur to agree to pay him 10% of the company’s equity, along with everything else, the advisor raises the company’s pre-money valuation by an amount large enough to frighten off any decent PE investor. Result: the advisor will not succeed raising money, the entrepreneur wastes time and money, along with losing any real hope of every raising capital in the future. What PE firm would ever want to invest with an entrepreneur who was foolish enough to sign this sort of agreement with an advisor? 

This is perhaps the most malignant effect of the “work” done by these kinds of financial advisors. They create deal structures primarily to enrich themselves, at the expense of their client. By doing so, they make it difficult even for good Chinese companies to raise equity capital, now and in the future.  

I’m sure, based on experience, that some people reading this will place blame more on the entrepreneur, for freely signing contracts that pick their own pockets. No surprise, this view is held particularly strongly by people who make a living as financial advisors doing OTCBB and reverse merger deals in China.  This view is wrong, professionally and morally. 

In most aspects of business life, I put great stock in the notion of “caveat emptor”. But, this is an exception. The advisors exploit the credulity and financial naivete of Chinese entrepreneurs, using deception and half-truths to promote transactions that they know will almost certainly harm the entrepreneur’s company, but deliver a fat ill-gotten windfall to themselves. 

Entrepreneurs are the lifeblood of every economy, creating jobs, wealth and enhancing choice and economic freedom. This is nowhere more true than in China. Defraud an entrepreneur and, in many cases,  you defraud society as a whole. 


 

The Harshest Phrase in Chinese Business

Leave a Comment / April 1, 2010

Shou screen from China First Capital blog post

What are the most reckless and self-destructive words to use while doing business in China? “Let’s skip lunch and continue our meeting.”  Of course, I’m kidding, at least partly. But, there’s nothing frivolous about the fact food is a vital ingredient of business life in China. This is, after all, the country where people for hundreds of years have greeted each other with not with “Hello” but with the question “Have you eaten?”. 

China is no longer a country where food is in any way scarce. But, perhaps because of memories of years of scarcity or just because Chinese food is so damn delicious, the daily rhythms of life still revolves around mealtimes in a way no other country can quite match. This is as true in professional as personal life. 

It’s a certainty that any business appointment scheduled within 1-2 hours of mealtime inevitably will end up pausing for food. In practical terms, that means the only times during working hours that a meeting can be scheduled without a high probability of a meal being included is 9-10am, and 1:30-2:30pm.

At any other time, it’s understood that the meeting will either be shortened or lengthened so everyone participating can go share a meal together.  Any other outcome is just about inconceivable. Whatever else gets said in a meeting, however contentious it might be, one can always be sure that the words “我们吃饭吧” , or “let’s go eat”, will achieve a perfect level of agreement.  

Everyone happily trudges off to a nearby restaurant, and talk switches to everyone’s favorite topic: “what should we order?” Soon, the food begins to pile up on the table. Laughter and toasts to friendship and shared success are the most common sounds. The host gets the additional satisfaction and “face” of providing abundant hospitality to his guests.  

And yet, there are some modern business people in China that can and do conceive of meetings taking precedence over mealtime. Thankfully, they are quite few in number, probably no more than a handful among the 1.4 billion of us in China. I just happen to know more of them than most people. 

In my experience, those with this heterodox view that meals can be delayed or even skipped are mainly Chinese who’ve spent time at top universities in the US. There, they learn that in the US it’s a sign of serious intent to work through mealtimes. It’s a particularly American form of business machismo, and one I never much liked in my years in businesses there. Americans will readily keep talking, rather than break for food. Or, as common, someone will order takeout food, and the meeting will continue, unbroken, as pizza or sandwiches are spread out on the conference room table. 

Heaven help the fool who tries to change the subject, as the takeout food is passed around, to something not strictly related to the business matters under discussion. If as Americans will often remind you, “time is money”, the time spent eating is often regarded as uncompensated, devoid of value and anything but the most utilitarian of purposes. 

Is it any wonder I’m so happy working in China? I love food generally, and Chinese food above all else. It’s been that way since I was a kid. These days, I often tell Chinese that adjusting to life in China has had its challenges for me, but I know that every day I will have at least two opportunities for transcendent happiness: lunch and dinner. 

So, not only do I accept that business meetings will usually include a break for a nice meal, I consider it one of the primary perks of my job. But, I do meet occasionally these US-educated Chinese who don’t share my view. They will ask if meetings can be scheduled so there won’t be the need to break for a meal, or if not, to make the mealtime as short and functional as possible, so “work can resume quickly”. 

This is misguided on so many levels that I worry how these folks, who I otherwise usually like and admire, will ever achieve real career success in China. The meals are often the most valuable and important part of a business meeting – precisely because they are unrushed, convivial and free of any intense discussion of business. 

Trust is a particularly vital component of business in China. Without it, most business transactions will never succeed, be it a private equity investment, a joint venture, a vendor-supplier relationship. Contracts are generally unenforceable. The most certain way to build that trust is to share a meal together — or, preferably, many meals together. 

To propose skipping a meal is a little like proposing to use sign language as the primary form of negotiation for a complex business deal: it’s possible, but likely to lead to first to misunderstanding, frustration and then, inevitably, to failure.


Zhejiang Province: Why It’s China’s Richest and Will Be Richer Very Soon

4 Comments / March 26, 2010

QIng Dynasty vase, from China First Capital blog post

Geography is destiny. Nowhere is this more true, of course, than in China. The country is the world’s fourth-largest, in terms of territory. But, much of the country is inhospitable: with deserts, mountains,  loess and other areas less fit for human habitation. In a population of 1.4 billion, over 550 million are peasants and farmers. Yet, only 14.86% of the land in China is well-suited for cultivation. Too many hands with too little land to hoe. That basically sums up China’s vast agricultural economy.    

The most fertile agricultural areas are also the ones that have had the highest rate of industrial and overall economic development in the last 30 years. The three richest provinces in China also have the highest concentrations of fertile land: Guangdong, Zhejiang and Jiangsu. Together, these three coastal provinces have a population of about 230 million, or 17.5% of China’s total. But, their combined share of China’s gdp is almost twice that. 

When economic reform got underway, these provinces were already relatively well-off, because of the high quality and productivity of its farm output. They were not as heavily industrialized as more northern parts of China, which got the major share of government investment and attention during the first 30 years after the 1949 revolution. 

This lack of industrial infrastructure turned out to be a decisive advantage for the three provinces, especially Guangdong and Zhejiang.  As reform took hold, they weren’t weighed down by the bloat of forced industrialization. The rich farmland and relatively high living standards helped create a greater sense of economic security and this, in turn, bred more of an entrepreneurial mindset.

As the Chinese government relaxed controls on private business, Guangdong and Zhejiang were the first to seize the opportunities. Capital from private sources was more readily available because of the profitability of farming in the region. Entrepreneurship flourished. To this day, one can travel around Zhejiang and Guangdong and rarely, if ever, come across a state-owned business. Their economies are almost entirely in the hands of private business, with larger, private SME in the lead. 

Travel north or west and the situation is markedly different. Here, subsistence farming was often the norm. There were no large agricultural surpluses to finance the growth of private business. State-owned companies, often of the “we pretend to work and they pretend to pay us” variety,  have predominated. The private sector still fights for its share of resources in these other regions of China. Those with entrepreneurial flair often emigrate. Shenzhen is particularly full of such transplants, drawn from every corner of China. I’ve met many successful entrepreneurs here from inland provinces, especially Jiangxi, Hunan, Sichuan and Hubei.  

I’m in Zhejiang as I write this, and am stuck struck by the beauty of its scenery as well as the industriousness and wealth of its people. It reminds me most of Northern Italy, where I’ve spent a lot of time, earlier in my life. Northern Italy is one of the world’s most prosperous places, as well as among its most visually stunning.

In both places, mountains are close by nearly everywhere, and over recent decades, much of the rich farmland has been plowed under to build factories. Northern Italy includes most of that country’s (and the world’s) most successful private-sector companies and brands, including Benetton, Luxottica, Armani. The food is also particularly excellent, another trait it shares in common with Zhejiang. 

Northern Italy, statistically, is the richest area, per capita, in Europe – richer even than next-door Switzerland. Zhejiang, similarly, is the richest place in China, per capita. While Zhejiang can’t yet claim its home to any internationally-renowned brands, it does have China’s strongest nucleus of SME businesses. Many of these, in coming decades, will likely grow into large businesses that dominate their markets. One Chinese auto brand, Geely, which is about to complete its purchase of Volvo from Ford, is based in Zhejiang.                                               

Zhejiang is unique among provinces in China. It has three cities that vie for commercial and entrepreneurial supremacy. Wenzhou, Ningpo and Hangzhou act like separate pumps, channeling energy and wealth into the province’s circulatory system. I spent time recently in Fuyang, the area about 30 miles to the south of Hangzhou. We’re now lucky to have an outstanding client SME in that city. Fuyang is mainly mountainous. Thin strips of flat richly-fertile land hold much of the population, transport infrastructure and industry. 

It’s hard to imagine there could be a more productive slice of our planet than this flat land in Fuyang, including in Northern Italy. In a hectic 36 hours, I visited six different companies in Fuyang, each from a different industry, and each already of a scale that puts it in the top flight of all China’s SME. They are a very small sample of the great entrepreneurial output of this area of Zhejiang.  I was very impressed with each company, and with each “laoban” (老板）, Chinese for “boss”. 

These companies, and Zhejiang itself, embody the two most powerful forces that are now reshaping the Chinese economy: the twin reliance on private sector SME, and on producing for China’s domestic market rather than manufacturing OEM products for export.   

Zhejiang started out with a lot of natural advantages that other regions in China could only envy: the fertile land, an abundance of fresh water, inland waterways (including the Grand Canal) and plentiful rainfall, proximity to the coast and the major ports in Ningpo and nearby Shanghai. But, it’s richest blessing is a population of talented, instinctive entrepreneurs. They’ve taken what nature provided and augmented it, building a thriving, vibrant industrial economy in an area that 20 years ago was still mainly farmland and rice paddies. 

Other people’s idea of a perfect holiday is a week on some beach, or a visit to a tourist city like Rome or Paris. Mine is to spend time in a place with great food and great entrepreneurs, visiting their factories, hearing their strategies to conquer new markets and seize new opportunities to make money. 

Zhejiang really is my kind of place.

  

Smart Commentary on China from Washington Post

3 Comments / March 7, 2010

John Pomfret article Washington Post in China First Capital blog post

From his perch at the Washington Post,  John Pomfret is one of the better-known American journalists writing about China. He is also, coincidentally, one of my oldest and closest friends. I quibble with him often about his take on China, particularly now that I’m living here and he isn’t. He moved back to the US five years ago, and wrote a well received book about China called “Chinese Lessons”.  Quite a lot of it was written in my dining room in LA. 

For a change, I actually agree with the main thrust of one of John’s articles on China. It’s an opinion piece, co-written with his colleague Steve Mufson, published recently in the Post. It’s title: “There’s a new Red Scare. But is China really so scary?” Read it here.

The key insight is that America, in the midst of a deep and long recession,  is undergoing one of its periodic bouts of self-laceration. The widespread anxiety that America is in decline is exacerbated by a sense that China is now better, smarter, faster in many important ways. A lot of this is plain silliness, as John’s article points out. 

America’s problems are home-grown. China’s rise over the last 30 years is overwhelmingly positive, for its own citizens first and foremost, but also for the rest of the world, US included. 

There’s a lot for an American to admire, even envy, about China. Two examples: even while remaking most aspects of its society, the family has retained its primacy in Chinese life, as a source of stability, happiness, and purpose. China also remains the most “kid friendly” country I know, measured by the care and affection lavished on the young Chinese, particularly infants and preschoolers. 

Americans, in the main,  have always had a special fondness for China, regardless of the state of the political relationship between the leaders of the two countries. But, that fondness doesn’t stop many of them from perpetuating simplistic notions about the place. Once, China was seem as hopelessly backward and poverty-stricken. Now, it’s seen as a novice superpower, outmuscling the US across the globe. 

John’s article cites a quote from Sun Tzu, “If ignorant both of your enemy and yourself, you are certain to be in peril.”


Carlyle Goes Native: Renminbi Investing Gets Big Boost in China

2 Comments / March 1, 2010

 

Qing Dynasty lacquer box from China First Capital blog post

My congratulations, both personal and professional, to Carlyle Group, which announced last week the launch of its first RMB fund, in partnership with China’s Fosun Group. I happen to know some of the people working at Carlyle in China, and I’m excited about the news, and how it will positively impact their careers. 

Carlyle is the first among the private equity industry’s global elite to take this giant public step forward in raising renminbi in partnership with leading Chinese private company. It marks an important milestone in the short but impressive history of private equity in China, and points the way forward for many of the private equity firms already established in China. 

The initial size of the new renminbi fund is $100mn. By Carlyle’s standards, this seems almost like a rounding error – representing a little more than 0.1% of Carlyle’s total assets of $90 billion.  But, don’t let the size fool you. For Carlyle, the new renminbi fund just might play an important role in the firm’s future, as well as China’s. 

The reason: Carlyle will now be able to use renminbi to invest more easily in domestic companies in China, then help take them public in China, on the Shanghai or Shenzhen stock markets. Up to now, Carlyle’s investments in China, like those of its global competitors, have been mainly in dollars, into companies that were structured for a public listing outside China. Carlyle has a lot to gain, since IPO valuations are at least twice as high in China as they are in Hong Kong or USA. 

That means an renminbi investment leading to a Chinese IPO can earn Carlyle a much higher return, likely over 300% higher, than deals they are now doing.  By the way, the deals they are now doing in China are anything but shabby, often earning upwards of five times return in under two years. Access to renminbi potentially will make returns of 10X more routine.  Carlyle has ambitious plans to keep raising renminbi, and push the total well above the current level of $100mn. 

As rosy as things look for Carlyle, the biggest beneficiary may well turn out to be the Chinese companies that land some of this Carlyle money. PE capital is not in short supply in China, including an increasing amount of renminbi. But, smart capital is always at a premium. Capital doesn’t get much smarter – or PE investing more disciplined — than Carlyle. They have the scale, people, track record and value-added approach to make a significant positive impact on the Chinese companies they invest in. 

This is the key point: the best opportunities in private equity are migrating towards those firms that have both renminbi and a highly professional approach to investing. That’s why the leading global PE firms will likely join Carlyle in raising renminbi funds. Blackstone is already hard at work on this, and rumors are that TPG and KKR are also in the hunt. 

Carlyle now joins a very select group of world-class PE firms with access to renminbi. The others are SAIF, CDH, Hony Capital, Legend Capital and New Horizon Fund. These firms are all focused primarily (in the case of SAIF) or exclusively on China. While they lack Carlyle’s scale or global reach, they more than make up for it by commanding the best deal flow in China. SAIF, CDH, Hony, Legend and New Horizon have all been around awhile, starting first as dollar-based investors, and then gradually building up pool of renminbi, including most recently funds from China’s national state pension system. 

Like Carlyle, they also have outstanding people, and very high standards. They are all great firms, and are a cut above the rest. Up to now, they have done more deals in China than Carlyle, and know best how to do renminbi deals. Carlyle and other big global PE firms will learn quickly.  As they raise renminbi, they will elevate the overall level of the PE industry in China, as well as increase the capital available for investment. 

The certain outcome: more of China’s strong private SMEs will get pre-IPO growth capital from firms with the know-how and capital to build great public companies.


Life in the Fast Lane – Driving China’s Expressway Network

Leave a Comment / February 27, 2010

Bamboo painting

 

“Do Not Drive Tiredly”  That’s the message, in English, on large highway signs spanning the roadway in Jiangxi. I was charmed by the idiosyncratic English, and even more by the fact that almost all highway signs in China, including mundane ones announcing upcoming exits or defining the hard shoulder, are all bilingual, Chinese and English.

Based on my recent highway travels through part of Jiangxi Province, I was probably the only one who could get much value from the English. That’s because almost all the other traffic on the highway consisted of very large and heavily-loaded long-distance Chinese trucks. Passenger cars are few and far between. 

Highways are a recent phenomenon in China, of course. I’ve never seen anything quite like them, in my +30 years of driving around the US and lot of the rest of the developed world. The Chinese highways are mainly well-built and usually in pristine condition. Besides the English-language signs, another source of frequent delight are the life-size plastic policemen, pointing plastic radar guns at oncoming traffic. They’re planted in the highway’s central meridian as not-so-subtle reminders to avoid speeding– or as the sign calls it, again in English, “Overspeeding”.

It’s those large trucks, though, that really define for me the current experience of highway driving in China. Despite their huge size – the trailers often have 20-wheels, and seem to stretch the length of seven or eight passenger cars – the trucks are often buckling under the weight of their loads. Most of the time, the cargo hold is open at the top, and covered with a very large tarpaulin, in various colors, intricately tried to the bottom of the flatbed. The trucks have a tendency to wobble and weave as they move along the road – the result of either unbalanced loads or, more likely, less-skilled drivers.

Long-distance trucking may be among the fastest-growing new professions in China. It’s a safe bet few of today’s drivers have been behind the wheel for more than two or three years. Many have their own particular style of driving. Heavy, slow-moving trucks often canter along, 30mph below the speed limit,  in the left-hand passing lane. Their side-view mirrors – the only way the drivers can see traffic behind or alongside them – are often tilted at angles that seem to defeat the purpose.  

Few of the trucks have any kind of marking on them. The concept of a truck as a moving billboard is still an alien one in China. Not so the ordinary highway billboard, which is very common, as are advertisements posted on overpasses. 

China produces so much, including a huge percentage of the world’s manufactured goods, that it’s hard to imagine how all this stuff moved around before the expressway network was built. The traffic on many expressways, including the ones I was on in Jiangxi, must be over 90% trucks. That’s only going to increase, as more production in China is moved to cheaper, inland areas.

The expressways are already quite crowded. Often, they are only two lanes wide in each direction – which may have seemed more-than-adequate 10 years ago when first designed, but now seem to belong in the Pleistocene Age. Within ten years, these roads will almost certainly all need to be widened. That can cost almost as much, per kilometer, as building new expressways. 

China’s toll fees are among the highest ones I’ve seen. In Jiangxi, it’s 0.4 Renminbi ( or around five US cents) per kilometer for passenger cars, and more for trucks. So, financing all this construction won’t necessarily put a big dent in state revenues.  

Even with all the slow-moving truck traffic, the expressway network in China is a godsend. It makes distances much less foreboding than they used to be in China. It’s possible to average over 100 kilometers-an-hour. On the older, ordinary road network, you’d be lucky to average half that speed. Where the trucks thin out, you can “overspeed” at around 160kph, and rustle the plastic policemen in your backdraft.

The Changing Formula of PE Investing in China: Too Much Capital ÷ Too Few PE Partners = Bigger Not Always Better Deals

Leave a Comment / February 16, 2010

Yuan tray


In the midst of one of the worst global recession in generations and the worst crisis in recent history in the global private equity industry, China looks like a nation blessed. Its economy in 2009 outperformed all others of any size, and the PE industry has continued, with barely a hitch,  on its path of blazingly fast growth.

In 2009, over $10 billion  of new capital was raised by PE firms for investing in Asia, with much of that targeting growth investments in China. For the first time, a significant chunk of new PE capital was raised in renminbi, a clear sign of the future direction of the industry. 

This year will almost certainly break all previous records. A good guess would be at least $20 billion in new capital is committed for PE investment in China. For the general partners of funds raising this money, the management fees alone (typically 2% of capital raised) will keep them in regal style for many years to come. 

In such cases, where money is flooding in, the universal impulse in the PE industry is to do larger and larger deals. But, in China especially, bigger deals are almost always worse deals on a risk-adjusted basis. Once you get above a $20 million investment round, the likelihood rises very steeply of a bad outcome. 

The reasons for this are mostly particular to China. The fact is that the best investment opportunities for PE in China are in fast-growing, successful private companies focused on China’s booming domestic market. There are thousands of companies like this. But, few of these great companies have the size (in terms of current revenues and profits) to absorb anything much above $10mn. 

It comes down to valuation. Even with all the capital coming in, PE firms still tend to invest at single-digit multiples on previous year’s earnings. PE firms also generally don’t wish to exceed an ownership level of 20-25% in a company. To be eligible for $20 million or more, a Chinese company must usually have last year’s profits of at least $15 million. Very few have reached that scale. Private companies have only been around in China for a relatively short time, and have only enjoyed the same legal protection of state-owned businesses since 2005. (see my earlier blog post)

Seeing this, a rational PE investor would adjust the size of its proposed investment. In most cases, that will mean an investment round of around $10 million – $15 million. But, rational isn’t exactly the guiding principle here. Instead of doing more deals in the $10 million – $15 million range, PE firms flush with cash most often look to up the ante.  Their reasoning is that they can’t increase the number of deals they do, because they all have a limited number of partners and limited time to review investment opportunities. 

This herd mentality is quite pervasive. The certain outcome: these same cash-rich PE firms will bid up the prices of any companies large enough to absorb investment rounds of $20 million or more. This process can be described as “paying more for less”, since again, there are very few great private Chinese companies with strong profit margins and growth rates, great management, bright prospects and  profits of $20 million and up. 

Some day there will be. But, it’s still too early, given the still limited time span during which private companies have been free to operate in China. There are, of course, quite a few state-owned enterprises (SOEs) with profits above $20 million. Most, however, are the antithesis of an outstanding, high-growth Chinese SME. They are usually tired, uncompetitive businesses with bloated workforces, low margins, clapped-out equipment and declining market shares. They would welcome PE investment, and are likely to get it because of this rush to do larger deals. Some SOEs might even get a new lease on life as a result of the PE capital. 

The certain losers in this process: the endowments, pension funds and other institutions who are shoveling the money into these PE firms as limited partners. They probably believe, as a result of their own credulity and some slick marketing by PE firms,  their money is going to invest in China’s best up and coming private businesses. Instead, some of their money is likely to go to where it’s most easily invested, not where it’s going to earn the highest returns. 

Bigger is clearly not better in Chinese PE. I say this even though we are fortunate enough now to have a client that is both very large and very successful. It is on track to raise as much as $100 million. It is every bit as good (if not better) than our smaller SME clients. Unlike PE firms, we don’t seek bigger deals. We just seek to work with the best entrepreneurs we can find. Most often for us, that means working for companies that are raising $10 million – $15 million, on the strength of profits last year of at least $5 million. 

Our business works by different rules than the PE firms. We aren’t using anyone else’s capital. There’s no imperative to do ever-larger deals. We have the freedom to work with companies without much considering their scale, and can instead choose those whose founders we like and respect, and whose performance is generally off-the-charts. 

The ongoing boom in PE investment in China is likely to continue for many, many years. This is due largely to the strength of the Chinese economy and of the private entrepreneurs who account for a large and growing share of all output. 

But, the push to do larger deals will cause problems down the line for the PE industry in China. It will result in capital being less efficiently allocated and returns being lower than they otherwise would be. PE firms will collect their 2% annual management fee, regardless of how well or poorly their investments perform. 

Raising private capital for PE investment in China is a good business. And, at the moment, it’s also an easier business than finding great places to invest bigger chunks of capital. 

Is This China’s Worst New Brand? Cambridge University Clothing

2 Comments / February 9, 2010

store

 

In a recent blog post, I discussed how and why Chinese brands are not just holding their own in China, but winning against global titans like P&G, Nike, Unilever, Coca-Cola. A big reason is that there are Chinese entrepreneurs with a great feeling for what kind of brand messaging works best in China. 

But, of course, success is not automatic. China can also produce its share of Edsel brands, clunkers that seem from the start preordained to fail.

One such case has some special resonance for me. There’s a new retail clothing brand in China called “University of Cambridge”. It was just launched a few months ago, and there are already about ten stores across China, including one in the Shenzhen shopping mall closest to where I live. The parent company is also based in Shenzhen. 

I was more than a little surprised to see the Cambridge clothing shop open. For one thing, my guess is that I’m one of probably fewer than fifty graduates of the English university living in Shenzhen (Cantab. M.Phil 1985) . So, the “captive population” is going to be very small. What’s more, from a quick look around, I wouldn’t be caught dead wearing any of their clothing , best described as a slinky, polyester mélange of “Ye Olde England” and futuristic Chinese design. 

But, the bigger reason I was surprised to see the University of Cambridge store open is that I can’t believe the university would grant a license to a Chinese retailer to use the University of Cambridge name. Yet, on the walls of the store, as well as on the label of the apparel, it says that this company does, indeed, have the official license from Cambridge. Also, stuck into a lot of the clothing on display are pins emblazoned with the Cambridge emblem: cantab2If anyone can verify that this is legit, that this university did give this Chinese entrepreneur a license, I’d certainly like to know. The store is so brazen in claiming to have the license it’s hard to believe they’re making it all up. But, it could be. 

The store claims they are the first ever to get this kind of license from the university, and that it was granted in 2009, the 800th anniversary of Cambridge’s founding. They also say they have big plans for global expansion. If they don’t have a valid license to use the Cambridge name, then of course any such plan is going to fail from the outset. 

But, if they do have the license, I’d suggest someone at Cambridge should be doing a better job controlling how its name is being used. The clothing is really atrocious. If it were just t-shirts and sweatshirts with the Cambridge logo, it would be one thing. But, the store only has its own designs, both men’s and women’s, and nothing that really connects the styles to the university. 

The store is not without its sources of amusement. In describing the university, it provides a list of famous alumni, based on various categories. My favorite among these: “Politicians: Charles, Mandela, Lee Kuan Yew”.  I’m guessing they mean Prince Charles, though it’s clearly a stretch to describe him as a politician. 

I’m a particularly bad “one man focus group” to evaluate which brands are going to be successful in China. On most things, my tastes are way out of whack with those of the host population. But, I’m pretty confident the Cambridge University retail chain is going to sputter and die. Associating yourself with a famous European institution is not a bad idea by itself, and lots of successful Chinese brands look to capture a kind of European cache. But, this stuff is just too ugly, and too expensive, to catch on. 

The target market seems to be very affluent middle-aged Chinese of both sexes. They have much better, safer and more tasteful choices in the same mall: including Ralph Lauren, Zegna, Lacoste, Louis Vuitton, Canali, Gucci.

Ford marketed its Edsel brand for two years, before killing it off in what is still the biggest and fastest failure for any mainstream auto brand. My guess is that University of Cambridge retail chain won’t survive even that long.


 

Sino-American Relations – Some Overblown Analysis from the USA

Leave a Comment / February 4, 2010

Ge Vase from China First Capital blog post

Is China’s reaction to last week’s announced US arms sale to Taiwan really all that more strident than in the past? Should America be worried? To read some of the recent American news reporting, citing the usual ragbag of US-based “China experts”, you might conclude so.

http://www.washingtonpost.com/wp-dyn/content/article/2010/01/30/AR2010013002443.html
 http://www.nytimes.com/2010/02/01/world/asia/01china.html?scp=1&sq=helene%20cooper&st=cse

I don’t buy it. China is not set, contrary to such reports, firmly on a course to antagonize America. It is, however, a great power with legitimate national interests to assert and protect. Sometimes those will clash with America’s national interests. But, the bilateral relationship also has a root system of common goals and shared admiration. 

I also don’t buy the line by American “China experts” about rising Chinese “triumphalism” , due to continued strength of Chinese economy. China’s economy has been outgrowing the US by eight to ten percentage points just about every year for the last 30 years. Same was true in 2009. The only difference: China grew by 8% while the US economy shrunk by over 5%. A similar net result as in the past, but one that highlighted a dramatic lessening of China’s economic dependence on the US. 

Do Chinese officials realize they now can maintain high economic growth without single-minded focus on exports to US, but look to domestic market instead? Yes. But, as you’ve also read, from Premier Wen Jiabao on down, there’s frequent public declarations on all the many problems and inefficiencies in China’s economy. 

Yes, China is getting stronger every year in every respect. But, is the tone now on arms sales to Taiwan really all that different? I don’t see it, and wonder how much others here see it, or whether it’s just the usual conventional US wisdom on China, a cousin of the “China expert” analysis that Chinese economic growth is a fraud, only resulting from cooked gdp numbers. 

China is mainly busy being China, just as America, most of the time is also mainly busy being America.  Both are continental powers with huge populations and vast domestic markets. Both also have a long history of being more inward- than outward-looking, quite patriotic, even occasionally xenophobic.

They often view the world with a similar sense of aloof distrust. There will always be points of friction between the US and China. But, time is gradually wearing down those points of friction, not sharpening them, as much of the US press would have us believe.

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