Chinese investment flows into Silicon Valley hedge funds

Chinese investment flows into Silicon Valley hedge funds

Chinese investment in U.S. venture capital funds is flowing, showing economic ties between Silicon Valley and China remain deep despite political and national security risks, according to investors, government officials and a new report.

Chinese investment is on track to reach about $880 million this year, the second-highest level in at least a dozen years, according to think tank Foundation for Defense of Democracies. The report, a novel effort to quantify the opaque flow of money from China to US venture capital firms, shows that Chinese government entities, funds, private individuals and corporations have invested at least $4 billion in US ventures since 2010, with at least another $3.5 billion going to US private equity firms.

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Silicon Valley investors and national security analysts say Chinese capital continues to back US venture capital firms large and small, sometimes representing a fraction of a venture fund and sometimes , much more. US government officials say their main concerns have less to do with the amount invested, but more to do with the personal and business relationships of investors in Beijing, the ability to access technical information and the influence at the venture capital firm.

The problem, government officials said, is that the Chinese can use their roles as investors to gain insights to launch a new company or scale a technology company. Such insights can inform how Beijing funds and develops technology in areas strategically important to the US, such as semiconductors and artificial intelligence, according to the think tank report.

Chinese capital is found in large global funds, including those affiliated with Sequoia Capital and Lightspeed Venture Partners, and smaller Silicon Valley firms, including Playground Global, GSR Ventures, Foothill Ventures and 11.2 Capital, according to the report, and investors in those Business.

“I think the Chinese are as aggressive as ever” in targeting American startups, said Michael Brown, outgoing director of the Defense Department’s Silicon Valley Defense Innovation Unit and author of a 2017 report that drew attention. on the role of Chinese capital in American start-ups. .

Foothill Ventures said Chinese investors contributed 1.59% of its current assets under management, and GSR Ventures said less than 5% of its US fund came from China. Chinese investors contribute to Lightspeed‘s

China fund only, and Sequoia’s Chinese unit operates independently, spokeswomen for the firms said. The other firms declined to comment.

The think tank’s report findings highlight an area of ​​resilience in the US-China relationship, as the two countries decouple their economies and US policies aim to limit Chinese investment in tech sectors. According to the report, Chinese investment this year is expected to be around nine times higher than a decade ago and only down from 2020, when more than $1.2 billion flowed into US equity funds. American risk.

Silicon Valley venture firm TSVC, founded by graduates of China’s Tsinghua University with assistance at one point from the university’s funding arm, made its mark with an early bet on Zoom.


Photo:

Jason Henry for The Wall Street Journal

Tracking Chinese investment in the US is challenging because limited partners who fund venture capital firms often make no public disclosures, sometimes use labyrinthine structures to hide investments, and often ask the companies they’ve invested in invested to keep their identities secret. The report’s authors said the dollar figures underestimate the actual total.

“Capital flows from limited partners are grossly underestimated for their strategic value and effect,” said Nathan Picarsic, a senior fellow at the Foundation for Defense of Democracies, who co-wrote the report, called “The Militarization of Capital,” along with with his colleague Emily de La Bruyere. “Their influence shapes how the venture capitalist thinks, because limited partners are the venture capitalist’s clients.”

The Foundation for Defense of Democracies is a Washington-based nonprofit organization with conservative leanings; his work advocates an aggressive US response to the challenges posed by China.

“China always opposes the United States generalizing the concept of national security and strengthening unreasonable investment review,” said Liu Pengyu, a spokesman for the Chinese embassy in Washington. He said the United States has used national security arguments to “put obstacles in the way of normal investment.”

The participation of Chinese investors varies. Many are looking for a financial return and don’t have or want access to non-public information about individual startups, venture capitalists said. Other limited partners solicit introductions from startup founders or introductions from them, and receive quarterly updates on the startups’ progress and insights into tech sector trends, they said.

In a 2020 lawsuit, former partners at Silicon Valley venture capital firm Hone Capital allege that the firm’s Chinese investor, China Science and Merchants Investment Management Group Co., Ltd., ordered them to bring in about 20 new companies each quarter to China to seek partnerships. , joint ventures and additional investments. The lawsuit, which is ongoing, alleges that the lawsuits were problematic due to “legal issues related to the sharing of sensitive technology with China.”

“They leveraged the system in the US to gain access to over 300 companies,” said Purvi Gandhi, a former partner at Hone Capital.

J. James Li, a lawyer for China Science and Merchants Investment Management Group, said the allegation is false and an attempt by the company’s former partners to gain influence after their client sued them for breach of fiduciary duty.

The US government may stop or cancel certain investments by China limited partners. The 2018 legislation handed over the responsibility to the Committee on Foreign Investment in the US, a panel of government agency representatives run by the Treasury Department that reviews foreign investments on national security grounds. Legislation and efforts in general to limit Chinese access to American technological know-how have had bipartisan support. But challenges in identifying the limited partners behind venture capital funds and understanding the national security risk they present have created a blind spot that hampers enforcement efforts, national security officials said.

President Biden on Thursday ordered tighter scrutiny of U.S. investments from China and other nations seen as adversaries, the latest move to combat what many in the administration see as China’s unwelcome access to technological innovation. The executive order is intended to sharpen Cfius’ focus on reviewing foreign investment deals involving key technologies, including those built by venture capital-backed startups such as semiconductors, artificial intelligence and biotech.

The order also asks Cfius to screen investments for cybersecurity risks, where China is active, and the possibility of giving a foreign investor access to sensitive Americans’ data.

The National Security Council has called for strengthening and expanding the Cfius review, according to people familiar with the matter. That includes looking at sectors where an adversary has made multiple investments, even small investments through venture capital, that would give it an advantage in that particular technology, the people said.

As China’s economy slows, national security officials said they expect Chinese investment in the US to accelerate, particularly in clean energy and semiconductors, sectors in which the US government has increased the investment.

The financial success of a long-standing US venture capital firm may further help China’s tech ambitions, according to the report. Silicon Valley venture firm TSVC, founded by graduates of China’s Tsinghua University with help at one point from the university’s funding arm, made its mark with an early bet on Zoom Video Communications. Inc.

A China-based affiliate of Tsinghua University on its website touted TSVC as a high-yield technology fund for mainland China in Silicon Valley, saying TSVC is using its capital and connections to advance the semiconductor industry. of China in collaboration with local governments.

Spencer Greene, general partner of TSVC, said the company has no role in supporting China’s semiconductor industry or collaborating with any government and that the Tsinghua University affiliate no longer exists, although public records show that you still have an active business license.

write to Heather Somerville at Heather.Somerville@wsj.com

Corrections and Extensions
Lightspeed Venture Partners says that only its Chinese subsidiary, which it does not own, Lightspeed China Partners, accepts Chinese capital. An earlier version of this article lacked that detail. (Corrected on September 17)

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