As China’s Markets Waver, Silicon Valley Smells Opportunity
As the stock markets took the proverbial roller coaster ride in Shanghai and Shenzhen, with many fearing economic misery, Neil Shen was in San Francisco, describing China as a land of financial opportunity.
Shen heads the Chinese operations of Silicon Valley venture capital firm Sequoia Capital. Two days before, Shen had joined Airbnb in announcing that the American room-sharing startup was entering the Chinese market with backing from Sequoia and another venture fund called China Broadband Capital. Arriving on the tenth anniversary of Sequoia China, he told us during at sit-down at WIRED’s San Francisco offices in mid-August, the deal was part of the firm’s larger effort to move “top American companies” into his home country. Airbnb, he explained, would follow the blueprint that Sequoia helped set in guiding LinkedIn’s business-centric social network into China.
Yes, the Chinese stock markets continue to rumble, sending ripples across markets in Europe and the U.S., and the country’s overall economy in indeed slowing down after a quarter century of unprecedented growth. But despite all this, China remains an enormous opportunity for US internet companies—remember: it’s the world’s second largest economy—and after years on the outside looking in, many companies are now crossing the frontier. That includes not only Airbnb and LinkedIn but ride-hailing startup Uber, which launched in China last year and recently poured another billion dollars into the country, and the online collaboration outfit Evernote, which says it now serves more than 11.5 million local Chinese. What’s more, according to a recent report, Google is eying a return to mainland China, after pulling out nearly a decade ago when Chinese hackers allegedly attacked its internal computing systems.
Shen, 47, one of China’s most successful investors in in the words of Forbes and the co-founder and former CEO of Chinese travel giant Ctrip, acknowledges that the Chinese market still presents a labyrinth of challenges for U.S. companies—particularly internet companies—and he makes a point of restating the obvious: not every online outfit can find success in the country. The Chinese government bans services like Facebook and Twitter because they can so easily spread dissent, and other companies will struggle to navigate both government regulation and the unique landscape of the local market. But he believes that certain American companies can thrive in China, even as the nation’s economy slows.
Shen straddles the U.S. and China markets like few others. Born in China’s Zhejiang province and raised in Shanghai, he studied business at Yale in the late ’80s and worked as a Wall Street investment banker with Citigroup in the early ’90s handling “emerging markets.” At the time, that meant Latin America. But in the middle of the decade, when the Chinese capital markets opened up, he joined Lehman Brothers in Hong Kong and later served as head of Chinese capital markets for Deutsche Bank. Then, as the internet boomed, he founded Ctrip, together with an old junior high school classmate, and in 2005, with the company’s market cap at $1.5 billion, he joined Sequoia, helping the firm launch its first Chinese fund.
“What we didn’t want was to set up a franchise operation, set up a dual-brand operation, or invest remotely. But, also, we didn’t want to control things centrally. If you take a bunch of American guys from Silicon Valley and they become the decision makers for what you do in China, that’s a formula for disaster,” says Sequoia partner Doug Leone. “[Shen] had the Chinese flavor, but he also understood what it meant to do business with American partners.”
With $6 billion under management, Sequoia China has proven unusually successful. At one point, according to Forbes, citing Chinese state figures, the firm held stakes in companies with a market capitalization of $400 billion. With the recent market downturn, this figure is surely much lower, but Shen believes Sequoia is well positioned for the long haul, mainly because it very much blends the American with the Chinese. “Sequoia is a global brand. But [Sequoia China] is very localized,” he says. “We make all the local decisions, including management decisions. Some investments may not make sense in the U.S., but they make sense in China.”
This is the same basic approach the firm takes in ushering the likes of Airbnb and LinkedIn into China. These companies seek to establish their own Chinese offices, but they’re doing so in tandem with local investors (including Sequoia Capital). And according to Shen, they aim to run these operations like local businesses—not merely as the branch offices of larger operations back in the U.S. This, Shen believes, is what other American companies have failed to do in the past.
It’s Not Evernote. It’s 印象笔记
Due to government restrictions, some U.S. internet operations have entered China without really entering China. Microsoft and Amazon offer their cloud computing services through local partners. “Governments have a role to play in protecting their citizens,” Microsoft CEO Satya Nadella told us this past fall, as we discussed the company’s Chinese cloud business. “You just have to have a framework to accommodate that.” Shen would agree, though companies like Airbnb and LinkedIn have retained more control of their Chinese operations through joint ventures.
“Clearly, they don’t need our money, with a $40 billion market cap,” Shen says of Linkedin, “but they need our help to navigate the competitive dynamics and government regulation.” And even if the parent company retains control of the local operation, he says, the local operation must be given a certain degree of autonomy. “You can’t just come in a hire a Chinese GM. You won’t get the best of the Chinese talent,” he says. “The best talent is very entrepreneurial. They want to run their own business. For LinkedIn China, we hired someone on the ground to be their China GM, but he’s called the China CEO.”
That may seem like a fine distinction, but whatever the semantics of the situation, LinkedIn certainly melded its operation to suit the local market. LinkedIn China offers a new version of the social network called “Red Rabbit,” a version that operates entirely in Chinese and was built specifically for the way Chinese consumers use mobile devices. This is nothing less than essential in China, where consumers tend to prefer home grown services.
“In China, almost everyone uses the mobile phone as their first identity. They aren’t happy about email registrations,” Shen says. “Red Rabbit was, from day one, mobile. It did not have a desktop version.”
This jibes with the approach taken by Evernote. Setting up a joint venture with China Broadband Capital, the company established a local office, launched a local version of its service on local servers, even gave the service a local name (印象笔记, or Yinxiang Biji). And according to Shen, the company turned to Sequoia China as it sought a local CEO (the fund did not invest in Yinxiang Biji, but Evernote is part of the larger Sequoia portfolio). Yinxiang Biji general manager Amy Gu studied at Stanford’s business school with one of the firm’s local employees.
Airbnb is moving into the China as concerns mount over the local stock markets. But the stock market should not be confused with the wider economy. “The stock market is not terribly important,” says David Dollar, a macroeconomist with The Brookings Institute who specializes in China, previously worked for the World Bank, and lived in China for nine years. “It’s small in China, and not that many people are involved.”
Economic data, mostly gathered from outside the government, indicates that the economy continues to slow, but much of this is the result of changes in what Dollar calls “the old economy”—industry, manufacturing, and exports. Though the services sector may be slowing as well, this is a national economy in transition. In many ways, it’s still maturing. “If you look at the direction of China’s real economy, it’s still on an upward trajectory—although it is slowing in some ways,” says Ann Lee, a professor of finance and economics at New York University, who previously served as a visiting professor of macroeconomics at Peking University in China. “It will take a while for China to develop new sectors, including the services sector.”
As a venture capitalist, Shen is gazing beyond the recent turmoil. “We’re looking very, very longterm,” he says. In fact, the drop in the market may actually work to the advantage of local investors. “Valuations in the primary capital market might come down, become more attractive to investors,” he says. “It could be more of an opportunity, instead of bad news.”