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A Chinese national flag flies against the backdrop of skyscrapers at the Lujiazui financial district across the Huangpu River in Shanghai’s Pudong district. Venture capital deals in China plunged in the second quarter, as investors pulled back amid unpredictable trade talks and growing concerns about tech start-up valuations. Photo: Bloomberg

China’s venture capital market plummets amid trade war, tech start-up valuation concerns

  • The value of investments tumbled 77 per cent year on year to US$9.4 billion in the second quarter
  • The number of deals in the country roughly halved to 692
China went through a five-year surge in venture capital investment that fostered a new generation of start-ups, from ride-hailing giant Didi Chuxing to TikTok-parent ByteDance. Now the boom may be over.

Venture capital deals in China plummeted in the second quarter, as investors pulled back amid unpredictable trade talks and growing concerns about start-up valuations. The value of investments in the country tumbled 77 per cent to US$9.4 billion in the second quarter from a year earlier, while the number of deals roughly halved to 692, according to market research firm Preqin.

The second quarter of last year marked the peak for China venture deals with a total of US$41.3 billion invested.

That included a US$14 billion round for digital payments giant Ant Financial Services, US$3 billion for e-commerce upstart Pinduoduo and US$1.9 billion for truck-sharing services firm Manbang Group, also known as Full Truck Alliance Group.

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By comparison, the largest venture deal in the second quarter of this year was a US$1 billion investment in JD Health, the health care affiliate of e-commerce services provider

China has never been through a widespread bust like the United States did after the dot-com boom, in part because the country’s venture capital market is so new.

Years of steady growth in hi-tech investments resulted in predictable – and enormous – profits.

Whether the current downturn becomes a painful crash depends in large part on how venture capital firms, entrepreneurs and regulators in China navigate terrain they have never seen before.

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“We’re seeing real stress in the system for the first time,” said Gary Rieschel, a founding partner at Qiming Venture Partners who has worked in China and the US. “We have never seen a downturn in the China market. For 20 years, it’s been pretty much up and to the right.”

China’s venture capital boom began in 2014 when Alibaba Group Holding went public in the largest-ever initial public offering (IPO), making clear to investors the potential riches in the world’s most populous country. New York-listed Alibaba is the parent company of the South China Morning Post.

Venture capital deals tripled that year to more than US$17 billion and proceeded to rise every year through 2018, when the total topped US$105 billion, which was almost as much as in the US.

Along the way, firms like Qiming, Sequoia China, Tiger Global Management and SoftBank Group Corp fostered some of the most valuable start-ups in the world.

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ByteDance, the force behind short-video app TikTok and other addictive services, sports a valuation of US$75 billion, the highest anywhere according to CB Insights. Didi, the ride-hailing service that ousted Uber Technologies from China, was last valued at US$56 billion, the second highest.

But the rise of China’s technology industry put it squarely in the crossfire of the trade war. The Trump administration has accused China of stealing intellectual property and unfairly subsidising companies in strategic fields, including semiconductors, artificial intelligence and autonomous driving.

In May, the US blacklisted Huawei Technologies, preventing the world’s largest telecommunications equipment supplier from buying American components, and is considering doing the same to a swathe of start-ups.

The trade war gives investors one more reason for caution. Valuations had already grown vertiginous. High-profile start-ups such as smartphone-maker Xiaomi Corp and on-demand delivery services giant Meituan Dianping saw their stocks tumble after they went public, reinforcing the impression that private-market valuations had got out of hand.

We’re seeing real stress in the system for the first time
Gary Rieschel, Qiming Venture Partners
So-called s haring economy start-ups have also tested the patience of their investors. Companies like Didi, Meituan Dianping and bike-sharing provider Ofo blitzed the market with heavy subsidies to grab market share from rivals, making up for their losses with venture money. Now there is scepticism that many such companies will ever turn a profit.

“You’re really reaching the end of the shared economy – this idea of let’s give away services for free and make up for it in volume,” Qiming Venture Partners’ Rieschel said. “Some companies – Didi is the classic case – are just not showing any ability to become profitable.”

A Didi representative did not respond to a message and email seeking comment.

Valuations have not declined yet in China though. The country’s start-ups have resisted so-called down rounds, when they raise money at lower valuations than an earlier round.

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“China entrepreneurs, more than any on the planet, will do unnatural things to avoid a down round,” Rieschel said.

Meanwhile, venture capital firms are pivoting to alternative business models, like enterprise software. Such start-ups are not only less capital intensive, they are at a stage of development where they require less money.

This also may simply be a time when venture capital investors opt for caution. Given the volatile negotiations between US President Donald Trump and Chinese President Xi Jinping, it is not clear what kind of opportunities China’s tech start-ups will face in the years ahead or how capital markets will treat the next big IPO filing.

“It won’t cost you that much to sit on your hands for a few months,” Rieschel said.