Chinese investment in technology companies is set to reach a new high this year following a wave of private placements in the first half.
Since the start of the year, Chinese financial institutions including banks, fund investment companies and insurers have sought to acquire stakes in tech companies and startups defying a trend in Silicon Valley where fundraising activities have slowed.
In the first quarter alone, investors have offered to buy stakes in at least four tech companies that raised a combined US$14.5 billion through private placements. At this pace, 2016 deals could surpass last year’s private placements in the sector amounting US$45 billion.
Top institutional investors including the sovereign wealth fund China Investment Corp, state-owned China Life Insurance Co and investment bank China International Capital Corp participated in these placements. Their significance lie in the size as well as the targets. Investors were funding the nation’s tech champions. To illustrate, e-commerce giant Alibaba affiliate Ant Financial raised US$4.5 billion in April, while Chinese ride-sharing app DiDi Kuaidi Joint Co attracted funding worth US$7.3 billion in June.
Behind the investment surge is the lacklustre equity markets that are driving companies to abandon initial share sale plans as well as a slowing global growth. China technology IPO volume hit a snag in the first quarter after only three tech companies raised US$267 million, a drop from six share issuances with US$551 million in proceeds in the prior quarter, and from US$1.1 billion a year earlier.
“One reason for the boom in private market is the difficulty in raising funds from traditional approaches. Banks are unwilling to lend and IPOs come with tight requirement in net profit. The private market is obviously advantageous in terms of convenience,” says Lin Chongkai, senior lawyer and partner of Yingke Law Firm.
Private placements are a form of fundraising where a company can issue shares or bonds to investors through private sales by broker-dealers, rather than through a general offering on a public exchange. In China, this exercise is exempted from the extensive financial reporting requirements that govern public offerings.
“Startups can easily get access to private market without public disclosure obligation as long as they can convince the investors that they have a sustainable business model and can generate good profit,” says a senior banker from a top Chinese investment bank. Lin agrees. “Creditors have the obligation to disclose the information only to the investors rather than the public in a private deal, while in an IPO, they should do this to the public.”
Bigger deals
Over a course of a few months Chinese private deals have turned bigger. In January, China’s largest group deals site Meituan Dianping holds the record for the tech firm that raised the most funds via placements worth US$3.3 billion. Ant Financial trumped that deal with its US$4.5 billion fund exercise three months later. It took only two months for Didi to exceed Ant Financial’s funding with its US$7.3 billion placement, the world’s largest by a technology firm.
Investors are positive towards the prospect of Chinese tech industry on the back of the broader usage of the internet. “China has largest internet population. Internet is widely used in China. Chinese companies create value by combining the two advantages,” Jia Yueting, CEO of Chinese technology firm LeEco was quoted in the local media as saying.
China has 649 million internet users by the end of 2014, majority of whom engage the internet with their mobile phones or tablets. Goldman Sachs is overweight the Chinese IT industry, which is expected to be a US$10 trillion sector by 2020.
The Chinese government is seeing a lot of potential in the tech industry as a means to drive growth and boost people’s wealth.
“Internet plays a vital role in encouraging people to start their own business, inspiring people to come up with innovative ideas. That’s why we are working so hard to support those internet companies,” says Premier Li Keqiang during the Bo’ao Asian Forum.
Finance is an area that the government and investors believe tech startups can thrive. “Banks are trying their best to combine new technologies like big data and cloud computing with traditional banking industry. Despite the threat from those non-financial institutions, the banks are making efforts to catch up with the leaders,” says Jack Chan, managing partner at EY.
In May, China Merchants Banks and Didi announced their collaboration over an online payment system. In 2015, CMB was one of the investors in Didi’s US$3 billion private deal. The collaboration with Didi is a strategic step for CMB in the fintech space, according to the company, adding that it will benefit from Didi’s vast online customer base.
As more startups grow in size in China, their more established counterparts are expanding globally.
According to a report from Chinese research company Morning Whistle, there were 478 overseas M&A deals by Chinese companies in 2015 and telecommunication, media and technology or TMT was the most popular industry. In 2015, Alibaba invested US$680 million in Paytm while China’s biggest gaming group Tencent acquired Riot Games. Chinese-language internet search provider Baidu bought PopIn, a Japanese startup.
While investor interest in the tech sector has been solid, some analysts have raised concerns about the sector’s rich valuations and the overall oversight of private fundraising. Regulations are an issue amid fewer disclosure requirements.
Many analysts are quick to note, however, that the overall outlook remains promising despite these issues.
“People have different valuations towards a company. But if you look at the number or valuation of many startup companies, they haven’t reached the 1999 level (when valuations peaked),” a banker with a Chinese investment firm notes.
Lin shares his optimism. “The future of this market is still bright despite the fact that China has such a complex financial market. So it’s of great necessity that the government should closely monitor this market to manage the financial risk. In this regard, China still has a long way to go. ”
The China Securities and Regulatory Commission has made huge strides in overseeing private deals. In May, CSRC vice president Li Chao expressed confidence over the growth of China’s private market.
“China will continue to encourage the private market while keeping a close eye on the deals,” says Li.
CSRC has said it will build a better infrastructure for risk management in connection to the fundraising activities, attract more qualified investors and explore a multi-layer supervision system for such deals.
