Governmental Venture Capital Firms in China: performance and interaction with private peers

Abstract

This research combines quantitative and qualitative methods and aims to provide a detailed analysis of the characteristics of governmental venture capital firms (GVCs) in China, their interaction with private venture capital firms (PVCs) through syndication and the methods to improve GVCs’ performance. I first identify the strengths and weaknesses of GVCs in each stage of a VC life cycle and compare them with PVCs. I focus on VC firms’ exit performance in their portfolio companies and carry out empirical tests using data on VC investments in China between 1991 and 2010. I find that portfolio companies backed by GVCs are less likely to go public than those backed by PVCs, but they have no statistically significant difference in the likelihood of exiting through merger and acquisition. However, when GVCs invest in their local portfolio companies, the underperformance of these investments exiting through IPOs is moderated. In addition, GVCs show no superior performance in early-stage investments. I then look at the mixed syndication that involves both GVCs and PVCs. I identify the positive and negative aspects of mixed syndication and find that the portfolio companies backed by mixed syndication are less likely to receive their second round of financing than those backed by syndication solely among PVCs. I present evidence consistent with two possible explanations: (1) PVC-led mixed syndicates select riskier projects to invest in; (2) lead PVCs with an above-average networking position get limited benefits but suffer high coordination costs from mixed syndication. Lastly, I carry out a case study on Shenzhen Capital Group (SCG), one of the most successful GVCs in China, to explore the methods for improving the performance of GVCs. SCG used to face limited funding resources, less effective compensation schemes and the hurdle of annual assessment by the government as other GVCs did. I document how SCG tackled these problems through its expansion strategy and established a link between SCG’s investment performance and future fundraising. In addition, SCG carried out a series of reforms in compensation, decision-making and staff investment, which better aligned the interests of managers and the company. I find that the investments made by SCG after it adopted its new strategy resulted in higher returns than other GVCs. Furthermore, portfolio companies that received investment by SCG or SCG-led syndicates in their first round of VC financing were more likely to achieve successful exits than those portfolio companies backed by other GVCs.