Venture capitalists in China are looking to improved investor returns and plenty more listings of their portfolio companies next year in the U.S.
The improved environment comes as IPOs of venture-backed Chinese tech companies in the U.S. in 2013 performed well and as the impact of fraud cases and allegations of financial irregularities that tarnished the China sector eases up.
Don’t be surprised to see at least 20 China-based companies with venture backing go public in the U.S. in 2014. That’s up from eight Chinese company IPOs on the NYSE and NASDAQ exchanges this year, and only two in 2012.
The increase is welcome news to venture capitalists and their high-tech portfolio companies that have waited out the slump of the past two years.
This upturn is set to improve venture capital investment returns in China that have been challenged in recent years as the traditional exit through an initial public offering of their investee companies has narrowed. In this tough market environment, the China venture capital market has seen a weeding out of firms to fewer players competing for deals and increased specialization.
With the IPO window effectively shut, mergers and acquisitions took the lead over IPOs as a way for entrepreneurial companies and their investors to cash out. Consolidation of large Chinese companies and acquisitions of smaller, innovative companies by market leaders has been the trend.
Now the newly reopening IPO path could help to jumpstart the China venture capital market again. But don’t expect it to return any time soon to the heights of 2010, when 38 Chinese companies listed in the U.S., or the boom years of 2006 to 2009 when China-based Internet companies went public with high market valuations.
But you can’t argue that performance has been bad. PRC-based companies that listed in the U.S. in 2013 had an average day one return of 35.7 percent. That compares with 17.3 percent for U.S. counterparts that listed in the U.S., according to investment banker David Williams of Williams Capital Advisors.
“Investors are clearly making money on China IPOs,” said David Etheridge, Senior VP and head of the Capital Markets Group at NYSE Euronext. He expects a broader range of technology companies extending to healthcare, education and retail, to go public next year in the U.S.
NASDAQ Senior VP Nelson Griggs is eyeing a similar uptick. He points to the performance of several NASDAQ-listed companies this year such as Baidu with a 60.6 percent increase for 2013 through early December and Ctrip, up 102.5 percent.
If the improved market conditions continue for Chinese stocks, expect to see fewer privatizations of listed Chinese companies. Privatizations had caught on in the midst of the toxic environment for China-based companies trading in the U.S., mostly those that listed through reverse mergers.
Going private transactions such as Focus Media and 7 Days have been outnumbering IPOs. In 2012, 24 going private transactions were announced compared with two Chinese company IPOs – YY and VIPShop.
The goal of many of the going private transactions among Chinese companies has been to relist in Hong Kong, Thomas Chou, a partner at law firm Morrison & Foerster in Hong Kong, pointed out. The valuation of Chinese companies listed in Hong Kong has tended to be higher and analyst research coverage has been seen as more positive, he noted.
From 2010 through mid-2013, Houlihan Lokey research shows that 20 China-based companies delisted from U.S. exchanges.
The Hong Kong exchange gained as an alternative to the U.S., drawing 29 Chinese company IPOs during 2013.
Performance of China IPOs in the U.S. has clearly improved in 2013. In one indicator, the average gain for this year’s China IPOs in Hong Kong was 24.3 percent through early December. That compares with 50.2 percent for the China IPOs in the U.S. during the same time period, according to investment banker Williams.
Now as investor sentiment improves in the U.S., look for high-growth technology companies to head to the U.S. exchanges for the prestige value and chance to score a big-time IPO. Currently, 201 Chinese companies are listed in the U.S., up slightly from 186 in 2009.
While the environment for Chinese IPOs is better, risks remain for investors in Chinese companies. They include lack of transparency, inadequate disclosure and financial statement auditing below standards expected in the U.S. Moreover, fears and concerns about Chinese companies in the wake of SEC investigations and allegations of fraud by short-sellers will not dissipate soon.
Other factors that could boost China venture capital returns a surge of Chinese company public listings in Mainland China. IPOs on the domestic China exchanges were shut more than a year ago due to regulatory issues. Now, more than 800 local Chinese companies financed by RMB-denominated venture funds that have been in the pipeline to go public in China will start to trickle out and ease the logjam.
