For the last five years, I have enjoyed a wild ride as managing director for two boutique merchant banking firms in China. But I began my career as an entrepreneur, and despite the rush that comes with investing here, I never lost the entrepreneurial bug. There was always some aspect of investing in core Chinese industrials – manufacturing, energy, food processing – which left a certain part of my soul wanting.
I found myself longing to get involved with a new idea that evokes the effervescent inspiration that drives technology entrepreneurs. Unable to stop the wheels from turning, I formulated a business model based on emerging video-conferencing technology aimed at English-based education in China.
I left my post at Silver Rock Group last fall to launch my second startup. I am now seeing the world of China-based investment through the eyes of an entrepreneur. What a change in perspective!
I would be lying if I told you that love for entrepreneurship were the only driving factor behind my change in career. One thing that became evident to me while I was working as an investment professional was the fact that there is quite a bit of money in China – perhaps too much – chasing a relatively few good deals. This is probably driven by a few factors, including a Chinese economy awash with cash and Western economies that have been stagnating.
That’s not to say that there aren’t good opportunities to be had in China anymore. But it always seemed like the really good deals were getting bid through the roof as hoards of hungry investors lined up.
To the interior
To find deals at a reasonable valuation, one had to dig further into China’s hinterland, which became a key focus of the strategies I employed as managing director. The problem is that the further you dig, the smaller your chances of finding a management team with a profile palatable to Western investors. The profitable firms in these regions are often run by people with relatively little formal education – certainly not an MBA – who don’t speak any English and have very little knowledge of Western business or financial practices.
At some point it became apparent to me that a solid business – even one that is at a very early stage – that is managed by people with Western training and sensibilities would quickly catch the attention of the investment community.
As we prepare to close the first round of investment on the new venture, I have learned that the above theory was half right. A solid plan offered by a team with Western training does indeed attract an early following of investors. However, savvy operators are quick to point out that Western sensibilities alone are not sufficient.
Business in China has its own unique characteristics and every successful team must be stacked with people who know how to get things done. And while I’ve been in China now for five years, that by itself doesn’t qualify me. For many aspects of successful business intercourse, only locals have the language skills, relationships and knowledge of how the system “really” works to be effective.
So as far as Western investors are concerned, the ideal management team is composed of people both Western and local.
Know your target
Another interesting aspect of entrepreneurship in China is the need, even at a very early stage, to understand and interact with government and government policy. Whereas in most Western legal systems, actions are generally legal unless the law specifically states otherwise, in China such actions are often only legal if the law specifically permits them. As a result, there are many business models that fall into a gray area of not being prohibited, yet not permitted either.
Entrepreneurs often work with the real possibility that at any point, a new law could be passed that causes significant problems for their mode of business. As a result, it is imperative to maintain close relations with the authorities so as to anticipate any potential regulatory challenges. Experienced investors are aware of this, and will most certainly look at the team’s makeup to determine if the right people are on board to ensure a smooth expansion.
Aside from the structural nuances of raising money in China, there are also some interesting differences between private equity deals – i.e. investments in relatively mature companies with established customer bases, revenues and profits – versus early stage financing.
Working for merchant banks, I always looked for firms with a track record of success. Of course, trusting the management was critical. But if the investment faltered, there were always assets that could be leveraged to protect the investors. This consequently resulted in a myriad of checks, balances, and paperwork to ensure that there was some legal recourse for the investors.
As an entrepreneur launching a startup, the relationship with investors seems markedly more substantial. Startups rarely have assets that offer much recourse for the investor if the deal goes south. In fact, in most cases, the entrepreneurs are the only real asset – investments are made in the man rather than the machine.
I’ve noticed that seed-level investors are very diligent in getting to know the entrepreneur at a deeper level than one might expect with a private equity deal. Details such as the entrepreneur’s past experience, the stability of his family life, and the extent to which he is aware of his strengths and weaknesses are scrutinized before any financial commitment is made.
As a result, there is far less legal paperwork: Since there must be genuine trust between investor and entrepreneur, the red tape is less relevant. And this, indeed, is a refreshing way to do business.
Thus far, the shift from investor to investee has been exciting, eye-opening, and auspicious. I suspect that the next chapter of my life, riding the entrepreneurial wave in China, will bring many more stories of its own.