Bao Fan is the founder of China Renaissance, a boutique investment bank advising on Chinese technology companies.
Among the landmark deals the bank has worked on is the 2015 merger of Didi and Kuaidi, which created China’s largest ride-hailing firm. It was also an advisor on the $15 billion merger between Meituan and Dianping, which created the country’s largest internet-based services provider. China Renaissance was also a bookrunner on e-commerce giant JD.com’s $2 billion listing in 2014. More recently, it has worked on some of the latest technology IPOs, including iQiyi's $2.4 billion US listing and China Literature's $1.2 billion float in Hong Kong.
Before launching China Renaissance in 2004, Bao was an investment banker at Credit Suisse and Morgan Stanley.
In an interview with FinanceAsia, Bao talks about how Chinese consumer trends are changing as disposable incomes rise and product offerings become more custom-built, how the supply chain is being overhauled, and the major innovation themes investors should watch out for.
Even though entrepreneurs and venture capitalists can often seem worlds apart, the Shanghai-born dealmaker says maintaining the perspective of both an investor and a business operator generally ensures better outcomes. As such, China Renaissance can act as an advisor or an investor in a transaction, demonstrating its confidence to put its money where its mouth whilst avoiding potential principle-agent conflicts of his interest, he says.
Bao outlines his company’s modus operandi for finding the next Tencent or Alibaba, offering both capital and industry knowhow to assist China’s next cohort of billionaire entrepreneurs.
In the interview, Bao is also vocal about China’s attempts to bring Alibaba and other technology companies onto domestic stock markets. Successful Chinese depositary receipts, he says, could boost Shanghai’s and Shezhen’s standing with other major bourses and help harmonise the country’s regulatory and accounting standards with overseas practices.
The following transcript has been edited.
Q How do you identify the future rock stars of the Chinese tech world?
A In an age of rapid disruption by technology companies, we, as an investment bank and private equity firm at the same time, have developed a system to identify the leaders who have the innovative technology to disrupt established players.
When we think of new economy companies, the people element plays a key role in shaping the future of the company.
By analysing our data of serial entrepreneurs, we found that if an entrepreneur whose previous venture was very successful, the person tends to fail the next one. If his previous venture was a small success, there is a pretty good chance he is going to make it again for his next venture. However, a person whose business ended up in a failure for the first time has a higher chance to fail the next time.
Q How do you manage key man risk when the entrepreneur is so pivotal to the success of the company?
A In China many of the technology companies such as Alibaba and Tencent are still in their early stages of passing over the helm to the next generation of leaders.
Pony Ma of Tencent, for example, is still working 12 to 13 hours a day, [from being] involved in product development [and] staff coaching to maintaining senior government relationships.
Jack Ma has very much stepped down from the daily operations of Alibaba, while the chief executive Daniel Zhang is running the firm on a daily basis. Even Joe Tsai, Alibaba’s vice-chairman, is very much away from the day-to-day routine. For Alibaba, Jack and Joe are in charge of setting the strategic directions and corporate culture of the company.
So in terms of power shift among Chinese technology companies, the signs are good but not conclusive.
These tech titans need to develop a system to nurture the next generation of leaders, ensuring a smooth transition of power.
Q How do you differentiate your business model from your international rivals?
A Since we started in 2004 we have been focusing on advising founders of Chinese technology startups. We have always been focused on a small group of top-notch executives who generate more value than the average.
Our core strength is to identify the next Jack Ma and Pony Ma at an early stage, so it is about early engagement with those people.
In order to do that, we have developed an internal system, rather than relying on a few star investment bankers.
On the banking side we have 500 to 600 people on the ground in Beijing and Shanghai to do the work. I don’t think any of our rivals has such a scale.
Our alpha team specialises in engaging early-stage entrepreneurs. That team each year will review 4,000 to 5,000 cases. In the end we decide to work with probably a couple hundred of them. Our alpha team helps early-stage startups find angel financing and provide other startup counselling and support.
Then we move on to the second selection when our advisory team works with a group of shortlisted companies to raise venture capital once they graduate from the angel stage.
In the last phase, we actively work with about 20 IPO hopefuls, providing investment banking and capital market services.
You can think of it as a funnel approach.
We collect a lot of proprietary data to help us identify the winners and losers of tech startups, giving us an edge in identifying the common characteristics of winners and losers and how the valuation of the private companies evolves over time. We also collect publicly available data in terms of the fundraising size and valuation of private tech companies.
Q So you’re building an ecosystem within the investment community?
A We can bring a group of CEOs of interesting companies to our investors. Once our investors make money from the companies we present to them, they will come back to us.
We serve as a hub for the community of the top entrepreneurs and top investors.
Q Do your private equity and investment banking businesses create a conflict of interest?
A We manage about Rmb20 billion ($2.3 billion) for our private equity businesses, which includes a technology and media-focused fund and a healthcare-focused fund.
We want to be part of the value creation process. In our early days, there were a lot of co-investments where we took share options and equity investments in the companies we work with.
As our investment mandates grow bigger, the investment banking and private equity business were separated.
There is no overlap between the two units and I am the only person sitting in both two units. The only thing the two teams share is industry research and exchanging views.
Q What is the most interesting trend in healthcare that investors need to know?
A The technology underpinning the disruption in healthcare is genomics and big data. The technology decodes the analog system of our human body.
With the improvement in healthcare technology, there’s a lot that can benefit consumers too. The data in the healthcare sector is asymmetric, what we want to do is to give more power to patients.
And with the data we generated from the technology we have we can run a lot of simulations on computer models. Just like in Formula 1, we put the car to run in a wind tunnel for testing.
Q How is the supply chain in China evolving?
A Production will be completely different because demand is for more personalised products. So it will change from the way we source raw material to production.
Q How are China’s retailers adapting in the digital age?
A The traditional channel of retail in China is going to be completely revamped. It is about three things – goods, people and places.
Online retail penetration in China is still about 20% and it still has an 80% market to grow into.
The change in shopping behaviour presents us with opportunities in distribution and content. We will see more cashier-free supermarkets as a way to bring online purchases to offline stores.
We will also see more companies bypassing traditional retailers once they obtain the consumer data and create their own logistics. For example, a cake shop can take your online orders and make a delivery to you directly.
Q What’s the other actionable investment opportunity?
A We also like new energy distribution, especially companies that provide mobile electricity solutions.
Everyone is focused on electric vehicles these days but it is only a change in energy use from gas-powered to electric powered vehicles. If you think of a battery as a storage of energy, you have a distributed storage system. Each battery is a big storage – can you do something about it to make the energy distribution more efficient? If you have an electricity vehicle, can you sell back some of your battery to the grid besides the normal 8 to 9 hours of using the car?
Secondly, the access to electricity is currently fixed but it will be more mobile in the future.
Q What does the introduction of China depository receipts mean for investors?
A China needs to make its onshore listing rules compatible with global standards. There is a lot of work to be done. On the other hand, the introduction of CDR will make China more in line with international practices.
Historically our onshore and offshore banking teams work differently. But with the CDR, the two will work together more closely than ever.
The new rules will allow both private and public companies to issue CDR shares because a lot of the unicorns in China remain private. In theory, the likes of Meituan Dianping, China’s largest provider of on-demand online services, can issue renminbi-denominated shares.
Q Do China Depositary Receipts pose a threat to Hong Kong as a financial hub?
A With the ongoing deleveraging campaign, the mainland market overall is still rigid and the liquidity [available] is comparatively low.
Hong Kong will still be the preferred destination for the Chinese technology companies in the next three to five years, given its connectivity to international and onshore capital.
We are hiring in Hong Kong for both front-office and back-office staff.
Q Are investors in the private funding market increasingly focused on only a few unicorns?
A The big deals such as Ant Financial capture the bulk of liquidity in the private market, given their proven track records. ‘Winner takes all’ has become a commonly accepted notion among investors.
It also shows you something interesting about the investor composition in Chinese names. There are too many amateurs that invest with the brands.
Q Many of China’s largest, privately owned tech companies include clauses in their fund-raising contracts that bar their investors from backing rivals. What do you think of this trend?
A It shows the arrogance and hubris of these companies these days. Anti-trust regulation is generally lagging industry dynamics – if you are looking for one example of anti-trust, it doesn’t really go further than this.
This is abusing your monopoly position to cut off your competitors’ capital supply.
You can no longer look for monopolies purely from a point of view of market position and revenue, you should also include data as a resource.
