Venture Capital in China: David Chao of DCM (Part 4)

SM: I am intrigued that I have not heard you speak about bootstrapped entrepreneurship in China. It has been a very strong outsourcing destination for the manufacturing industry for several decades. There must have been a solid bootstrapped entrepreneurship ecosystem during that period, right?

DC: In China there is a whole other world of traditional businesses. These are bicycle factories, solar panel factories, and other manufacturing facilities. There are tons of bootstrapped companies that have done well and gone public abroad and domestically.

That sector was not really a focus for venture capitalists until 2007. The margins are low, along with all the traditional reasons venture capital should not go into those kinds of businesses. However, the rising tide lifts all boats. Your economy is rising 10% year after year, plus you have a booming local stock market. One of the great things about venture capitalism is that worldwide, people are greedy. Instead of investing in a good technology company that will take seven years to gestate, why not triple your money quickly by investing in a bicycle factory or a lettuce farm?

Those are the kind of deals that many VCs, including some very good US brands, started making in 2007 and 2008. Obviously the market crashed last year, so traditional businesses’ return expectations have gone down significantly. But there was still that two-year period during which everyone went crazy over these traditional businesses. Many of them were companies that had bootstrapped for a long time and built themselves over a period of years.

SM: What is the story of the semiconductor manufacturing industry?

DC: Long term, everyone knows that China will be a major player. The result so far is a big question mark. In China, SMIC was the first modern fab. We were investors in it and we exited with solid profits. What is interesting is that there are lots of old generation fabs in China, not the cutting-edge 45nm, but the 13’s and 25’s. Many of them are also older IBM or Motorola fabs that were made years ago.

The issue is that those older fabs are no different than any other factory. They add value from a volume perspective but not from a technology perspective. The US has a lot of restrictions on sending cutting-edge semiconductor technology from the US to China. One of the challenges fabs in China face is how to get the best equipment to be ahead of the curve. Even today, the best fabs in China are a half generation behind the cutting edge in the US.

There is also another ecosystem, the professional service side, which in China is not as mature. There are always IP issues as well. Taiwan has its own issues around that. Is China on a good trajectory in the semiconductor industry? Yes. Has it caught up to Taiwan? No, and it probably won’t for another 10 to 15 years.

The other side of semiconductors is fabless chip design. I think that on the digital side China is one generation behind. On the analog side we have a company called Analogix, which makes HDMI and display port chips. The CEO is a Chinese guy who started the company in the Valley but 80% of the employees are in Beijing, and he lives on an airplane back and forth. Is that a China deal or a US deal?

This segment is part 4 in the series : Venture Capital in China: David Chao of DCM
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