Doll Warns of Bubble Blowing in Beijing –

BEIJING – Venture capital investment in China surged more than 30% in the first half of this year, largely driven by U.S.-based investors. The market is so hot that some VCs, like veteran Dixon Doll, are now warning that it could be overheating.

Doll, the founder of DCM-Doll Capital Management, was among the more than 300 VCs, limited partners, investment bankers and service professionals who gathered in Beijing in September for the third annual meeting of the China Venture Capital Association (CVCA).

In a presentation at the conference, Doll told the audience that he believes that there is an investment and valuation bubble building in China, a sentiment wholeheartedly endorsed by Duane Kuang, director of strategic investments in China for Intel.

Just how hot is it? Well, Zhou Quiren, an economist with Beijing University, told the audience at the CVCA event that, “you can find provincial governors in the hallways of [public restrooms] doing deals.”

Zero2IPO Venture Capital Research Center, a Beijing-based research house, reported in glowing terms the booming VC investment environment in China for the first half of 2004. A look at the numbers, however, is revealing. Zero2IPO data shows that venture capital firms invested $438 million into 80 mainland or mainland-related enterprises during the first six months of this year, an increase of 32% from the same period in 2003.

While the percentage growth in China is significant, the dollar amount is relatively small. For example, VCs invested nearly the same amount in one U.S. market segment – semiconductors – in the second quarter alone, according to the MoneyTree Survey by PriceWaterhouseCoopers, Thomson Venture Economics and the National Venture Capital Association. For the full six months of this year, VCs invested in excess of $10 billion in more than 1,400 U.S. companies in the first half of this year, according to the MoneyTree report.

Zero2IPO’s report also shows that in the first half of this year that foreign VCs outperformed their Chinese counterparts in terms of total investment, average deal size and number of deals.

Cally Liao, research editor for Zero2IPO, says that foreign (largely U.S.) VC firms dominate China’s venture capital industry, accounting for 85% of the total in the first half of 2004. The average deal size for U.S. VCs was about $10 million in the first half of the year, about 7 times greater than that of domestic VCs.

Semi Sweet

In terms of venture investment, China’s hottest market sectors are semiconductors, the Internet and telecommunications. Several speakers at the CVCA said they expect semiconductors, in particular, to keep booming. Paul Hsiao, of New Enterprise Associates, York Chen of Acer Capital, Duane Kuang of Intel, and Helmut Struss of Siemens all pronounced a positive outlook for semiconductor-related startups in China.

The consensus of most attendees is that the growth of the consumer electronics industry, communications and IT-related companies is going to fuel growth and opportunities for semiconductor startups here for the foreseeable future. Siemen’s Struss predicted that China would become both the largest semiconductor foundry nation in the next two to three years.

The bullish news coming out of the CVCA event was balanced by a number of cautionary statements from Doll and others.

On the exit front, Brad Rohal, head of technology for JPMorgan Partner’s Asia Pacific Group, said that the era of me-too IPOs was coming to an end in China and that investors have begun to ask for better differentiation of companies as China moves forward.

And in a catch-your-breath moment, attorney Carmen Chang of Shearman & Sterling warned the audience that plaintiff’s attorneys are starting to sniff around the newly public Chinese companies that are domiciled in the Cayman Islands and are listed on U.S. stock exchanges. The law firm of famed litigator Bill Lerach has been hiring Chinese- speaking attorneys and hiring attorneys in the Cayman Islands, seeking advice on how to best pursue potential litigation with those companies, Chang told the crowd.

Finally, Doll reminded the audience that Chinese-based VCs still have a long way to go. A recent study of venture firms in China revealed that of the domestic VC firms founded in China over the last two years, more than two-thirds have closed their doors, Doll said. At the same time, he said, there were many U.S. VCs “coming to China over the last six to nine months because they felt like they had to say that they have a China strategy and to expend some of the capital overhang that they can’t invest in U.S. startups.”

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