China Special: Full Steam Ahead For The Tech Sector

This article was originally published on Private Equity International on April 25, 2017, written by Annabelle Ju.  

Investors continue to seek opportunities in the Chinese technology sector.

If there’s anything we can learn from Chinese technology giants such as Alibaba becoming global household names, it’s that demand for the tech sector remains strong, despite high valuations and a fall in the price of tech stocks in 2016.

The correction, which consultant Bain & Company called “overdue” in its Global Private Equity Report 2017, was the main reason for the 9 percent decline of the Morgan Stanley Capital International All Country Asia-Pacific index in 2016. “The market is still very active,” says Mingchen Xia, managing director of the Asian fund investment team at Hamilton Lane. “There is still a lot of capital in the venture capital and tech space in China.”

High-growth tech companies remain a popular target for fund managers. The internet and telecommunications, media and technology sectors attracted $42 billion, or 45 percent of total investment value, in 2016, according to Bain. Internet deals alone accounted for more than a third of the total, a slight dip from 2015, but almost triple the slice the industry took five years earlier, the Bain report says.

The semiconductor industry has also seen a spate of deals, with the amount of private equity capital for deals surging from $719 million in 2014 to $4.9 billion in 2015, according to Ernst & Young.

But some sectors do appear overcrowded. “There are new places overheating, such as the bike-sharing business, where there’s a lot of capital chasing opportunities,” says Xia. “You suddenly would see 50, 60 similar companies coming out; it’s a very competitive market.”

And valuations remain a concern, with purchase price multiples, which vary by each sub-sector, still expensive, especially for market-leading companies. For these companies, valuations will remain high as long as the tech popularity continues, Xia says.

But there are sound reasons to believe that demand will remain strong, aided by the Chinese government’s 13th Five-Year Plan through 2020, published last August, which identifies the science and tech sectors as growth areas. The plan includes the building of a global-calibre industrial technology system and supporting Beijing and Shanghai to become international centres of innovation.

“The government introduced a lot of favourable policies for start-up companies, such as lowered tax rates and free office space for young people to start their own business,” Xia says. “I think in the future the government could look to reform the capital market, as well, to make it more friendly – I think the IPO rules may change.”

An even bigger force is the growing consumer market. “Growth in the economy is being led by a 400-plus million strong new generation of consumers whose lifestyle and tech-enabled habits of engagement have gone straight to mobile and leapfrogged those in more mature consumer markets of the US and Europe,” says Chris Lerner, head of Asia for placement agent Eaton Partners. “The flood of capital into downstream mobile and community-based solutions is a race for a piece of a market that is expected to be $6.5 trillion by 2020.”