China's venture capital investments fall in the second quarter

A lull in innovation is one of the main forces driving the recent downturn in venture capital investments in Chinese tech companies, according to investors who have made contact with CNBC.

The value of venture capital investments in China rose to $ 9.7 billion in the second quarter of 2019, according to the company's financial data Prequin. This represents a decline of almost 77% from the $ 41.3 billion invested in the same period last year.

China has spawned some of the world's largest private technology companies, including parent company TikTok, Bytedance, and Alibaba's affiliate Ant Financial. But investors say the country's technology sector lacks innovation.

"If you look at the last decade, you will see that the first boom in mobile telephony is still paying off, and after mobile, there was no new platform for hosting and spawning new innovations. come Yuan Liu, general manager of China's venture capital fund Zhenfund, told CNBC in an interview.

"So people were wondering if virtual reality (VR) would be the next big thing, if crypto would be the next big platform that … would do that." That's not what happened. said Liu. "And AI (artificial intelligence), there is a lot of hope for that." And then, after AI … investors began to wonder, is the AI ​​a bubble? ? "

For the moment, he said, "there have not been many innovations on the market, so investors have not seen anything that excites them".

Jixun Foo, Managing Partner of GGV Capital, a venture capital firm that invests in entrepreneurs in the US, Asia and other emerging economies, echoed this sentiment.

Foo has invested in major Chinese technology companies such as DiDi, the mobile phone service, and Xpeng Motors, a startup company in electric cars. At a panel organized by CNBC at the RISE conference in Hong Kong, Foo said that the "wave of innovation" was "slowed down".

"Things always happen in cycles," said Foo. "If you had to project 5G in the future, there would be a new wave of innovation, from 3G to 4G, we see a video in abbreviated form, what will come with 5G, augmented reality, with VR, perhaps new waves of innovation that will propel new investments. "

5G refers to next-generation mobile networks that promise ultra-fast data speeds and the ability to support new technologies such as driverless cars.

"There is no shortage of capital, it's just where the money is put, that innovation must be at the heart of this new capital requirement," Foo added.

Other investors cited the ongoing trade war between the United States and China, as well as the poor performance of some Chinese technology companies in government markets as factors in the decline in investment.

"This has a lot to do with the level of confidence with the trade war between China and the US is definitely part of it," said Edith Yeung, managing partner of Proof of Capital. "And then, I also think that many of the IPOs (initial public offering) of 2018 did not really happen … so it sends a poor signal for the first VCs."

Chinese technology companies are facing tensions between the United States and China. Huawei, for example, has been blacklisted by the United States, which prohibits US companies from selling to Chinese companies. Some of these restrictions have since been relaxed. Although Huawei is not listed on the stock exchange, the negative sentiment towards Chinese technology companies has been a factor in government procurement, especially with some of the listed companies over the past year.

The maker of smartphones Xiaomi, IPO in July 2018, is down more than 26% this year. Shares of US-based electric car manufacturer NIO are down more than 46 percent this year.

The concern over the performance of Chinese technology companies in the public market has had an effect on early-stage venture capital investors.

"If you find that public markets are not performing well, the pre-IPO or growth stocks will be more cautious when they look at their valuation indicators and their dynamics … which will then be reflected in those of the B. series, "said Liu. Series B refers to a relatively early financing cycle for businesses.

Many start-ups looking to grow quickly are spending a lot of money to gain market share and evolve in order to achieve future profitability. Some public companies also continue to lose money as they invest in the growth of the company.

Liu, of Zhenfund, who is an early investor, said that companies were now discussing "unity economics" earlier in their fundraising, which had not happened there five years ago.

The unit economy refers to the revenues and costs badociated with the business model of a company. In the case of many Internet companies, only one user is the unit. Working on the economics of units can be a way to predict the profitability of a business and the viability of its business model.

Liu said that he advised companies to act as if they could not raise funds before 6 to 12 months.

Some start-ups are also looking to raise funds in order to have funds in case things go wrong.

"Some of them raise money, come into the market proactively before they need it, when they have 12 months of capital to sell, and they go out now to have more reserve because people are not sure. of the capital market, "Liu told CNBC.