Investment prospects in China are suddenly brightening as the country gradually phases out its draconian zero-COVID policy, which has disrupted businesses of all kinds and kept the country’s borders closed for the past three years.
For venture capitalists, the pandemic has been a tumultuous ride. Tony Wua partner at Northern Light Venture Capital, a China-focused venture capital firm with $4.5 billion assets under managementcalls 2022 the “toughest” in his 15 years of investing in Chinese startups.
“Now spring is finally bringing new life to dried-up trees. There is a lot of optimism for 2023,” said Wu, who focuses on the consumer internet at the company, in an interview with businessroundups.org. NLVC’s extensive portfolio includes Chinese on-demand service giant Meituan; BGI, the country’s gene giant; and Black Sesame Technologies, one of the few homegrown car chip makers.
What went wrong in 2022? And what makes Wu more hopeful about the coming year?
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Harbinger of spring
In recent years, China’s regulatory crackdown on its internet industry, coupled with COVID restrictions that created major uncertainties in the economy, has dramatically dampened investor confidence. Venture Capital Agreements collapsed 44% year-over-year to $62.1 billion in the first 10 months of 2022, according to research firm Preqin. Investments in stocks decreased by 33.9% in the first three quarters of the year, according to another report by Chinese market researcher Zero2IPO.
The bearish mood of 2022 “was similar to 2008-2009,” Wu believes. But unlike the 2008 financial crisis, he argued, this round of downturn has “fundamentally damaged the vitality of the country’s venture capital investments.” “Money fled, talent left and many internet bosses moved to Singapore.”
Regulation is nothing new in China’s tech space, as authorities are always issuing new legislation to curb the reckless growth of emerging industries. But the recent wave of suppression, which began roughly in 2020 when the government suspended Ant Group’s colossal IPO, is widely seen as the harshest in decades, forcing tech companies left and right to rethink their strategies.
Businesses operating in heavily regulated areas such as social media, video games and web3 saw fewer and fewer opportunities domestically, so many of them packed up and headed for culturally renowned and geographically close Singapore. Their investors, especially those who raise money from international limited partners, followed suit and set up outposts in the city-state. An era of rising tensions between the US and China further prompted Chinese companies with overseas ambitions to cut ties with their home countries.
The abrupt end of the zero-COVID policy and its first signs regulatory relaxation gives investors hope that some aspects of the tech industry may finally get back on track. Investors can at least casually meet founders in another city without worrying about being quarantined on the way back.
Clouds also appear to be slowly spreading in the regulatory space. In December, China granted a series of licenses up to 44 foreign matches, ending an 18-month hiatus that hit gaming giants like Tencent. Wu believes regulators will also begin lifting some of the restrictions on Ant Group, which has revised its fintech business at regulators’ urging to act more like a traditional finance group.
Hunting for web3
Even when the darkest days of regulation are behind us, generation has limitations. The reckless, fast-growing era of social networking, ride-hailing, and other consumer-oriented businesses has come to an end. In web3, one of the few remaining tech areas that still delivered amazing returns for VCs until the recent market crash, “there is no future for China for now,” suggests Wu.
That is a conclusion shared by many founders and investors. Over the years, China has taken steps to ban much of web3’s underlying infrastructure, especially cryptocurrency trading. As a result, many serious web3 projects have moved abroad.
Despite the talent exodus, Wu continues to support web3 entrepreneurs from China. By 2023, he plans to allocate at least 60% of his “energy” to web3, which he says is as disruptive to venture capital as it is to the internet.
“Web3 has fundamentally changed the way investments are made,” notes the investor. “In the past you invested Chinese founders with activities in China. Now, a web3 startup could have its R&D in China, but its product is global and the rest of its team could be in Singapore or the US. It takes both equity and token investments. And instead of 10%, we will take only 1% of his interest.”
Like others who remain bullish on web3 despite the crash, Wu believes the bear market is a good time to “build” when people finally stop seeing crypto as a speculative asset class. “We should be looking at how many users and new developers are using web3 instead,” he notes.
China also remains crucial to the global development of web3, even though there is no domestic market for the decentralized technology. Two decades of frantic growth at tech giants like Tencent, Alibaba and ByteDance have created a pool of skilled software engineers known for delivering results under pressure and strict deadlines, and who, cost, on average, only a fifth of their US counterparts.
China’s internet talent is also experienced in handling fast-growing, large-scale internet services, Wu argues. “Solana is known for being fast and cheap, right? But it’s also had a few glitches. The blockchain only manages more than a thousand nodes. But name any large Chinese internet company: it easily manages hundreds of thousands of servers.”
He continues. “The question is how do we unleash Chinese developer offerings for the global web3 industry.”
Electric car race
As Wu follows the Chinese web3 founders abroad, he’s also placing bets on domestic players in another intoxicating area: electric vehicles. Even in the relatively new EV industry, he thinks the race has already entered “the second half” and the competition is going “murder”.
China shipped about 20 million vehicles in 2022, of which 6.5 million or 32.5% ran on “new energy” such as electricity or hybrid, according to China Passenger Car Association. “It is certain that EV penetration will reach 60-70% — because there will still be petrol cars — [a 30% penetration means] the industry is entering the second half,” says Wu.
So far, none of the Chinese EV companies have come close to the level of brand recognition that Germany’s luxury car manufacturers enjoy. But they each offer their unique selling point. Upstart Nio pays close attention to customer service and its rival Xpeng prides itself on advanced technologies such as autonomous driving.
Wu points to BYD, the 28-year-old battery and EV giant, as the pioneer in globalizing Chinese EV companies because of its incredible affordability. In December, BYD’s overseas sales more than 10,000 units – which doesn’t sound like much. But the automaker is already well established in China, often battling Tesla for first place in the world’s largest EV market.
“The globalization of Chinese electric vehicles is inevitable. We have a complete supply chain and our price advantage is already quite clear,” Wu argues, pointing out that BYD is the only Chinese EV maker that controls the entire supply chain like Tesla, which gives it leeway to lower prices. “You have to remember that these Chinese automakers come from an extremely competitive environment.”
