Venture Capital Investment Market and Services in China


China being a developing and transitioning country, its venture capital market has some special characteristics.

1. China’s venture capital practices lag behind the international norm

The high-tech enterprises in China, relying on various sources of capital, have undergone a difficult process of development. Although China has quite a few high-caliber entrepreneurs in the high-tech industry, a large number of these companies (16,000 in Beijing while 72,000 nationwide) are run by inexperienced individuals.

a) Serious information asymmetry

First, there exists an information asymmetry between the managers of high-tech companies and the outside investors.

Second, there exists an information asymmetry between high-tech companies and venture capital firms. By international practice, both parties should be honest with each other and exchange information openly. After all, the venture capital investors add value by using their management and technological expertise to improve the company’s performance.

b) Serious exclusionism

High-tech companies in China, particularly those run by the locals, have a tendency to refuse to cooperate with outside investors.

c) High cost of investment

Chinese high-tech companies, particularly those run by the locals, are mostly under the control of couples or families. These ownership structures make it difficult and costly to follow the customary practice for venture capital investments, under which venture capitalists receive a substantial portion of ownership and control in the companies

2. Company managers, rather than venture capital investors, retain majority control

It is a common practice for the managers of some high-tech companies in China to demand for majority holding in cooperation with venture capital firms. There may be many explanations for such behavior, yet the primary reason lies in the influence of traditional Chinese thinking. This thinking is based on the belief that one will lose control over the company without majority holding or a leadership role in the company.

3. China lacks an infrastructure of service professionals to support venture capital firms

The growth of venture capital involves not only high-tech companies and venture capital firms, but also intermediary agencies such as law firms, accounting firms and assessment centers. Unfortunately, China still lacks agencies that offer proper services to the venture capital community.

At present, venture capital firms in China have to shoulder the multiple tasks of seeking for investment projects, assessing the projects, avoiding legal risks, planning the finances of invested companies and helping the portfolio company to list on the stock market.

4. The legal framework for venture capital investments is inadequate

Although China has set the national strategy of “revitalizing the country through science and education,” it has yet to set up a legal framework in support of venture capital investments. The Chinese venture capital community has been growing in the absence of proper protection by law.

5. The Chinese capital markets provides inadequate exit channels for venture capital investments

The returns of a venture capital firm do not depend on yearly dividends but on the acquisition or the initial public offering of its invested companies. Such liquidity events require mature capital markets, which China lacks at present.

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