China’s economy is going through it. From near-zero growth in the second quarter and abandoned economic targets to continued COVID-19 lockdowns, a power crunch, a housing crisis, concerns about the strength of its domestic currency, water shortages, high youth unemployment and more, it’s a tough mix for the world’s second-largest economy — even without mentioning a background loaded with geopolitical tensions.
We want to know how the litany of issues is impacting Chinese startups. It would be easy to presume that China’s tech upstarts are struggling. After all, performance data from major Chinese tech companies in recent months has been anything but encouraging. (This morning’s news that there is some movement on the issue of auditing Chinese companies listed in the United States, perhaps preventing a wave of delistings, is welcome if non-immediate positive change; we are monitoring the matter.)
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To better understand the situation — and to build on our year-ago look at the Chinese venture capital market that asked similar questions — we’ve pulled data from various reporting groups to put the country’s H1 2022 into historical context and provide a first look at Q3 2022 data from the Chinese startup market. Naturally, the third-quarter data is partial, but we can do a little math to slot it into our larger dataset.
The short answer is that things aren’t as bleak as you might expect. For Chinese startups as a single cohort, that’s good news. But the good news might not extend to every sector of Chinese technology activity.
China’s tech industry, and interlude
We entered this particular data dive anticipating somewhat negative news. Not due to our personal political foundations — as a European and an American, our walking bias is toward liberal democracies and market economies, to be clear — but driven instead by the sheer volume of bad news stemming from China’s economy.
Tencent recently reported its first quarterly revenue decline in the second quarter. Alibaba reported what CNBC called “the first time the company posted flat growth in its history,” to pick a few data points that stood out in our memory.
And layoffs are landing with a hammer. Major Chinese tech companies are cutting staff, as are names like Xiaohongshu, less well known outside of the country but important all the same. Just this week, data from Xiaomi ripped up around 900 jobs after missing revenue estimates, to pick another example.
Youth unemployment in China is ticking up, and if the country’s tech majors are now shedding gigs instead of absorbing recent graduates, the situation could get worse. Students are increasingly tempted by government jobs over private-sector work.
And yet. When China’s government kicked off a multiquarter regulatory barrage aimed at its tech giants that, the common thinking goes, had become too powerful in the eyes of the ruling Chinese Communist Party, it did not have as large an impact as we anticipated in terms of private investment and startup activity. Despite TAM being cut (or destroyed by the government), Chinese startups kept on doing their thing.
Is the same trend holding up this year? Let’s talk about it.
2022 thus far
According to the Global Private Capital Association, private capital activity in China was 37% lower in the first half of 2022 than during the same period of 2021. The GPCA added context, noting that “prolonged lockdowns affected the economic outlook.” But it also noted that the nature of deals getting done has changed.
A major part of the capital deployed in H1 2022 went to sectors such as “semiconductors and hardware; electric vehicles and healthcare,” the GPCA noted. Those just happen to be aligned with the Chinese Communist Party’s favored vision of tech.
China’s regulatory crackdown is good news for startups aligned with CCP goals
Companies that benefited from these tailwinds and raised major rounds in the first half of 2022 include chipmaker CanSemi, autonomous driving company WeRide and AI biotech startup METiS. And things seem to be continuing on the same course this quarter, with the EV battery subsidiary of Sunwoda raising a funding round nearing $884 million this month.
Q3 thus far
Let’s go back in time. Leveraging PitchBook data and looking at venture capital deals and PE transactions tagged as growth-oriented (a very minor portion of this dataset), we took a quarterly look at the Chinese venture capital market.
Turning the clock back one year, PitchBook data found 1,689 deals in Q3 2021 worth some $24.31 billion. There were 1,550 deals worth $29.72 billion in the final quarter of last year, and 1,509 deals worth $17.33 billion in the first quarter of 2022. So, somewhat stable deal volume, if a lower value figure from 2021’s highs. That’s what we’re seeing the world ‘round.
In the second quarter of this year, PitchBook data indicates that 1,038 deals in China were worth $10.31 billion. At this point, the declines are getting more material. Sure, the whole world is slowing in venture terms, but China’s individual market is perhaps taking more stick than others. And then there’s Q3.
So far in the third quarter, the same PitchBook query kicks out 596 deals worth $7.49 billion. Converting those figures into a quarterly run rate, we can anticipate around 962 deals in the current quarter worth around $12.1 billion.
That’s slightly worse in deal terms than Q2 2022, but stronger when we count the total value of those transactions. So instead of continuing the declines that we have seen in recent quarters, Q3 2022 is going to either hold the line or perhaps post enough positive data to count as a recovery of sorts from Q2. Naturally, more data has to come in before we can be certain, but Q3 2022 is not going to post further declines from the second quarter, by our read of the data.
(Note: Why are we looking at sequential quarterly results instead of year-over-year comparisons? Because 2021 was sufficiently bonkers that comparing this year and the last is less useful than tracking quarter-by-quarter changes to deal activity.)
Looking ahead
A major thing to look out for in upcoming months will be the impact of Chinese companies delisting from U.S. stock exchanges. When it started to unfold, we drew the obvious conclusion that an IPO in the U.S. was just no longer in the cards for most private Chinese tech companies.
A less obvious consequence of the uncomfortable position of Chinese companies listed in the U.S.? They became M&A fodder. For instance, Nasdaq-listed Chinese online recruitment company 51job accepted a $4.3 billion take-private deal from a private equity consortium. According to the GPCA, “more privatizations of U.S.-listed China tech companies could follow,” and we will be tracking this trend. Whether today’s news on the audit front changes that dynamic remains to be seen.
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