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Tencent restructuring prompts fears for China's startup funding

Half of Chinese unicorns in for rough ride if tech giants curtail investment

Tencent is one of five Chinese tech companies that provide a combined 49% of startup funding in the country. (Photo by Yu Nakamura)

TOKYO -- Concerns are growing about funding for Chinese startups as Tencent Holdings -- by far the biggest source of capital for these companies -- moves to tackle falling profits with a shift from maturing consumer markets to servicing businesses.

The operator of the WeChat social media network announced this weekend its first restructuring in six years, consolidating content businesses and creating a new division to provide services for corporate clients in areas such as cloud computing. The move comes after the group announced in August its first year-on-year quarterly profit drop in more than a decade. Tencent shares plummeted following a government crackdown on video games, the group's main revenue generator.

Tencent's recent troubles have sparked concerns among startups that restructuring will force the group to focus more on its own operations, leaving less money for riskier venture funding.

China's startup sector now needs careful monitoring, said Anand Sanwal, CEO of venture capital monitoring company CB Insights, speaking to the Nikkei Asian Review before news of Tencent's restructuring broke.

"China's growth is largely driven by the Chinese investor ecosystem," Sanwal said. "We saw it in the last dot-com boom. When corporate performance declines, one of the first things that goes is corporate venture investment. You start to focus on the core business."

According to CB Insights, 49% of Chinese unicorns -- startups worth $1 billion or more -- are backed by Baidu, Alibaba Group Holding, Ant Financial Services Group, Tencent and Tencent alone backs 28% of unicorns, more than the other four combined. CB Insights calls Tencent a "Chinese social giant moonlighting as an investment holding company."

As of mid-August, Tencent participated in 31 equity rounds totaling $100 million or more this year, compared with 18 for Japanese investment giant SoftBank Group, according to CB Insights. Tencent owns stakes in Didi Chuxing, online booking platform Meituan Dianping, which went public last month, in addition to Tesla and music streaming giant Spotify.

"If Tencent, Alibaba, Baidu and are investing less in big rounds in the coming quarters, I think that would be an indication of a correction," Sanwal said.

Sanwal is the latest in the growing chorus of voices warning about soaring valuations of Chinese startups. Last month, Peter Xu, CEO of Plug and Play China, warned that too many venture capital companies are piling into just a handful of Chinese startups, resulting in sky-high valuations.

China accounts for about 30% of the 260 global unicorns on a list complied by CB Insights, second only to the U.S. at 47%. These include ride-hailing company Didi Chuxing, truck-hailing company Manbang Group and bitcoin mining company Bitmain Technologies.

Signs of a funding slowdown can already be seen. A survey conducted by Chinese research company Zero2IPO found a 44% on-year decline in the amount of money available for investment among Chinese venture capital companies in the first half of 2018.

Anand Sanwal thinks that China's startup sector needs monitoring for signs of further slowdown. (Photo by Takuya Fujisawa)

"There are a lot of Chinese companies that are overfunded," Sanwal said. "It might be a little bit of sanity returning to investments."

Sanwal stressed that he hasn't seen data that supports an imminent correction, but noted: "We need to look now. By the end of Q1 [in 2019], we'll know if they have actually pulled back or whether this is just noise, and whether they will continue to invest aggressively."

Tencent is not the only company facing challenges in core operations.

Alibaba, China's largest e-commerce company, announced last month the retirement of charismatic co-founder Jack Ma. The move prompted talk that Ma's leaving was tied to increased government control over private business in China. The billionaire has denied the rumor, but concerns still linger., Alibaba's e-commerce rival, has its own problem. Founder CEO Liu Qiangdong was arrested in the U.S. on Aug. 31 on suspicion of sexual assault. He was later released and returned to China in September.

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