China will surpass the US in terms of venture capital investments by 2019, says Claudia Zeisberger, Senior Affiliate Professor of Decision Sciences and Entrepreneurship and Family Enterprise at INSEAD. In the last four years, venture capital activity in China has exploded, and according to her, it will soon eclipse traditional hubs such as the Silicon Valley.
At the 71st CFA Institute Annual Conference in Hong Kong, Zeisberger explained how her base projection expects compound annual growth rates of 28% in China and 6% in the US; both forecasts are extrapolated from the growth rates she has observed in the last three years.
Using these numbers, early and late stage venture capital investments in the US will reach US$94 billion in 2019, behind the expected US$102 billion in China. If this happens, it will be the first time in the history of venture capital that the US will lose its crown.
Piotr Polanowski, CFA, a managing partner at Synerga +, specializes in strategic advisory, M&A, and corporate finance. He agrees with Zeisberger. “Based on the growth dynamics of venture capital over the last years, my bet is that it will be this year when the value of deals in China will approach 80 billion US dollars,” he says.
Zeisberger’s base-case forecast expects the value of deals in China this year to be just under US$80 billion, while her optimistic projection expects the figure to be slightly over the US$80 billion mark.
It’s not just returns boosting the growth of venture capital. Zeisberger senses a VC fashion trend in the top echelons of management. In her words: “The mid-life crisis reaction of most corporate CEOs: we need a corporate venture fund. [In the past,] you either bought yourself a Harley Davidson or sold a hedge fund when you crossed your 50s, nowadays you want to have a corporate venture under your belt.”
Corporate venture investors have been coming to the forefront in the last 4–5 years. Zeisberger’s data shows that in 2017, they allocated the largest amount of funds in the history of venture capital. The most active corporate venture investor is still headquartered in Silicon Valley — it’s Google’s parent company, Alphabet. However, the number two spot goes to China’s tech titan, Tencent Holdings, underscoring Zeisberger’s point about the country’s growing influence.
One of the factors driving Tencent into venture capital, along with other Chinese investors, is the high level of enthusiasm about early-stage investing. Zeisberger said that when she talks to people in China about early-stage capital, they are excited. When she has the same conversations in Europe, she gets a much colder reception.
The expansion of the startup environment is further encouraged by the Chinese government’s effort to generate non-manufacturing jobs for the over 6 million students graduating from colleges each year.
High valuations and a lack of exit strategies have been putting a damper on private markets, despite strong growth. Zeisberger’s recent survey of LPs showed that in Asia, exits are the top concern. They have been in decline globally since 2014, with a slight uptick this year, and their values have been dropping, while valuations are at record highs.
Inflated valuations are the second-biggest worry in the region. However, when surveyed globally, LPs flip the two concerns and rank valuations as their main one.
Polanowski falls into this camp. “The primary concern is excess volumes of financing, leading to inflation of valuations that may result in a huge price expectation overhang in subsequent rounds of financing,” he says. “Companies with weak business models that would probably not have made it before due to lack of financing will be able to hang around a lot longer.”
Zeisberger also concluded from the same survey that LPs are showing greater interest in direct investing. In other words, more managers are cutting out PE funds and investing themselves. But Zeisberger doesn’t expect this trend to last. She says: “LPs will realize, life as a GP is tough.”
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