Published On: Mon, Oct 28th, 2019
World / WSJ | By asif

Chinese Investors, U.S. Tech Entrepreneurs Continue to Make Deals

Chinese investors are pressing ahead in Silicon Valley, putting money into startups and venture-capital funds—moves that highlight the resilient relationship with American entrepreneurs amid broad U.S. efforts to limit foreign access to technology deals.

Such investors have been emboldened partly by ambiguities in a 2018 U.S. law intended to curb foreign access to sensitive technologies. Key rules for implementing the law are yet to be defined, often leaving investors and entrepreneurs to determine what deals are permissible. Also, many U.S. tech entrepreneurs want to nurture connections to China.

Investment ties between the two countries thus remain tight despite political and trade tensions, according to technology investors, entrepreneurs, attorneys and current and former government officials.

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The sources of Chinese-affiliated money vary widely, as do investors’ motivations. Both can be hard to discern.

Palo Alto, Calif.-based Hone Capital was set up in 2015 with about $200 million from China Science and Merchants Investment Management Group, a Chinese private-equity firm known as CSC Group that nearly two years ago was delisted from a Chinese stock exchange, according to a person familiar with the matter and public documents.

Since the law was passed, Hone has continued to invest in the U.S., including in artificial intelligence startups. Last year, Canadian private-equity firm Whitehorse Liquidity Partners gave Hone about $50 million to invest, people familiar with the matter said.

Hone hasn’t received funding from China in more than two years, said founder

Veronica Wu.

Yet Hone employees still report to CSC Group, which recently emphasized to them that the long-term strategy is to bring U.S. technology companies to China, the person said.

Last month, more than 10,000 people flocked to a technology conference in Santa Clara, Calif., an annual gathering of Chinese and American tech workers and investors known as the Silicon Valley Innovation & Entrepreneurship Forum. Speakers included scientists affiliated with the National Aeronautics and Space Administration and U.S. national labs.

“Some people in Washington want to decouple the two economies. We disagree,”

Ren Faqiang,

China’s deputy consul general in San Francisco, told the audience.

The August 2018 law expanded the power of the Committee on Foreign Investment in the U.S., or Cfius, to probe minority investments in critical tech companies through which foreign investors could influence a company’s business decisions.

A secretive panel called Cfius is paving the way for President Trump to block more foreign business deals due to national security concerns. WSJ’s Shelby Holliday explains why you’ll hear more about Cfius during the Trump era. Illustration: Laura Kammerman (Originally published March 20, 2018)

The law mandates that certain startups fundraising from foreign investors report their deals to Cfius for approval, and that Cfius do a better job sniffing out unreported foreign investments in sensitive technologies.

Cfius has broad authority to unwind deals after they have closed if it determines the technology should be restricted, so not reporting a foreign investment can be risky, said

William Newsom,

an attorney with law firm Cooley LLP.

The law prompted an initial pullback. The amount of Chinese venture investment in the U.S. during the first half of 2019 declined about 27% in dollar terms from the second half of 2018, according to research firm Rhodium Group.

“We were seeing a very conservative approach from investors initially,” said

Larry Ward,

a Cfius attorney with law firm Dorsey & Whitney LLP.

But Cfius appears ill-equipped to police the venture-capital industry, current and former government officials say. The government also hasn’t codified which technologies are off-limits to foreigners, so some startups and investors don’t see the need to file with Cfius, Mr. Ward and other lawyers said.

Palo Alto, Calif.-based Amino Capital said it received funding from a local government in eastern China a couple of years ago. The firm, which also manages a venture fund in China, hasn’t changed its U.S. investment strategy in response to the Cfius law, said co-founder

Jun Wu,

who left the firm in August. He said the government phased out its support for Amino, but the firm is still mostly backed by Chinese investors. About 80% of the funding now comes from executives and owners of Chinese businesses seeking to move their money outside China, Mr. Wu said.

Amino managing partner

Larry Li

said the firm’s partners are U.S. citizens and none of its backers have access to private information about startups, nor can they make investment decisions on behalf of the firm.

Last year, Amino incubated and funded DataBeyond, a Palo Alto company that provides data analytics on fashion trends. One of Amino’s partners briefly served as its chief executive. The startup’s new CEO,

Xiaoxi Zhang,

and its top technology officer,

Adrian Wang,

said the relationship provided Amino with more access and influence over the company’s business strategy and growth plans than an average investor. They said their lawyer told them they didn’t have to alert Cfius.

Some Chinese investors are choosing different tactics, including taking pains to conceal their identity, U.S. defense officials and venture capitalists say.

Mike Janke,

co-founder of Maryland-based DataTribe, a venture fund that incubates cybersecurity startups, said that six times in the past year and a half, government-backed investors, including from China and Russia, have offered money for his fund through layers of front companies or subsidiaries. He rejected the offers after learning the origins of the money.

Other Chinese investors have been content to make only passive investments.

“Investment that is purely passive is inherently low-risk from a national security standpoint and in most cases should be welcomed,” said

David Hanke,

a partner at law firm Arent Fox who was the lead staff architect of the Cfius legislation while working for its sponsor, Sen.

John Cornyn

(R., Texas). “We didn’t want to shut off the flow of truly benign investment.”

Chinese financial conglomerate Ping An Insurance Group Co. began making minority investments in the U.S. this August through a venture fund it set up, including $15 million for a less than 5% stake in machine-learning startup H20.ai.

Sri Ambati,

the CEO of H20.ai, said he didn’t notify Cfius of Ping An’s investment because it isn’t taking a board seat and can’t see customer data. A spokesman for the venture fund said it isn’t seeking control with the investments.

Ping An will become a customer of H20.ai and help the startup get more customers in China, Mr. Ambati said. “They were the right match,” he said. “It’s a strong partner to provide a gateway into China.”

Beijing-based venture firm ZhenFund retreated from the U.S. partly because of Cfius, said a person familiar with the matter. But a ZhenFund employee recently pitched prospective investors about a new U.S.-based fund called Olive Capital, according to a pitch deck reviewed by The Wall Street Journal. Olive Capital will include money from a founder of ZhenFund, but ZhenFund itself won’t provide money, the person said. The pitch deck says Olive Capital will invest in U.S. tech companies and help them “gain exposure to China.”

“The policies we have put in place have not been all that effective in limiting China’s technology ambitions,” said

Nicholas Eftimiades,

a retired senior U.S. intelligence officer whose work has focused on China.

Ping An will become a customer of H20.ai and help the startup get more customers in China, Mr. Ambati said.


Photo:

Jason Henry for The Wall Street Journal

Write to Heather Somerville at [email protected]

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