The high-risk, high-return world of angel investing

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4 COVER STORY

Four squares on a phonescreen show photos of fourwomen. Tap the one you likeand profiles appear showing

age, occupation, education, andcurrent location: a 27-year-olddentist and a 23-year-old garmentbuyer in Beijing; a 24-year-olddesigner in Hong Kong, and a 32-year-old sales executive in Taiyuan.

Tap the application to reveal thebackground of your photo-basedchoice, and a photo of yourbackground-based selection. Whomshould you message? One knowsWill, your college friend, while theother works at the same company asyour roommate, Peggy.

This is Qiuqiu, or “cupid” in Chinese, a dating app that steers users to potential partners. Itis the vision of former JP MorganChase New York analyst 27-year-oldMichael Lewis, who moved to the mainland to chase his start-up dreams.

Daters have three categories toassess: appearance, background andpeople they know in common. “It’smore in line with how peoplenaturally meet,” says Liuzhou-bornLewis, who emigrated to the USaged six. “If you have 10 friends, andthose 10 friends each have another10 friends, that’s 100 people you canmeet. It’s quite exponential.”Enormous too: the mainland has theworld’s largest singles population,estimated at 180 million.

To some, Qiuqiu is also aninvestment opportunity. Richindividuals bought a stake in thefirm at an early stage, acting as so-called angel investors. These areinvestors that provide critical capitaland guidance to a promising firmjust as it is getting off the ground.

Such investors are “angels” inthat they look over fledgling firmsand nurture them with money andguidance in their early years. Angelinvestors fill a crucial niche in thatthey provide capital to new firmsbefore they are big enough to get theattention of professional investors atventure capital funds, who generally

won’t look at any opportunity underUS$1million.

Because angel investors come inearly, taking risky bets on firms thathave yet to establish themselves,they typically get to buy into thecompany at a low price. The pay-offusually in comes in the form of ashare sell-down at the firm’s initialpublic offering or in an acquisition.

This is high-risk investing. CaseyLau, the organiser of Startups HK,which brings local entrepreneurstogether, says he expects just twoout of 10 start-ups to succeed.

But the pay-off can be huge.AngelVest, which introducesinvestors to entrepreneurs, seeksreturns of at least 10 times an initialinvestment within 10 years.

Simon Squibb, of Nest, anincubator which nurtures start-ups,offers an example of how successfulangel investing can be. Eighteenmonths ago Squibb and partnersput HK$1million into a Hong Kongmagazine called Foodie. He

estimates the investment is nowworth HK$25 million.

Most of the start-up activityinvolves technology, in general, andthe internet, in particular. HongKong investors are lucky to be sittingon the doorstep of the perhaps theworld’s most promising tech start-up market: the mainland.

The mainland lags behind therest of the world in developing webbusinesses, but the potential is huge,thanks to the population and thegrowth in consumer spending. Themainland is also cranking out scoresof promising new firms, particularlyin Beijing’s Zhongguancun district,the country’s main technology hub.

AngelVest co-founder DavidChen – who teaches a BeijingUniversity entrepreneurshipseminar in his spare time – says awave of entrepreneurs is emergingon the mainland, and their ideasneed funding.

“There’s interest, especially inthe past two years. The grads are

highly motivated, although theyrequire some education,” he says.

Top-tier academe like Tsinghuaand Beijing University churn outgraduates much as Stanford servesSilicon Valley, creating an ecosystemripe for Chinese entrepreneurs.

Beijing-based Natasia Guo,founder of website Nuandao, whichspecialises in goods with a sharp,original design, speaks of an“anything goes” mentality in thecapital. She likes the mainland’sscrappy start-up scene and thinksSilicon Valley is oversaturated. “I’mfrom the Bay area. Everybody is anentrepreneur there,” she says withreference to San Francisco Bay,which encompasses Silicon Valley.

Like many mainland start-ups,Nuandao is a Chinese version of asuccessful Western business. Itfollows a similar business model toFab, a design-focused online retailervalued at US$600 million.

The reason for copying a tried-and-tested formula is that it’s an

Investors are again betting onstart-ups in themainland, saysTiffany Ap

I think that a lot of people investbecause it is a good thing for thecommunitySIMON SQUIBB, CEO, NEST

Michael Lewis, co-founder of Qiuqiu (screen shot below), says mainland investors are more conservative than their Western counterparts. Photo: K.Y. Cheng

Angels on the

easier sell. Investors have a referencepoint and can also see a way to exit.

Although Chinese companieshave come up short on innovation,they have excelled at adaptingexisting business models. “We mayhave copied Fab in terms of businessdirection, but we’re now pivotingaway from that to solve our users’unique needs,” says Guo. “Weibocopied Twitter but they evolved andnow they’re more fun than Twitter.”

Crucially, while the start-upscene in Silicon Valley is saturatedwith venture capitalists and it can behard to find decent opportunities,mainland entrepreneurs are hungryfor money. This is partly becauselocal investors are less experiencedand comfortable with angel-styleinvesting. Investors from themainland generally want to see anoperating business with a tangibleproduct before they commit capital,and many of the tech start-upslooking for funding are tooconceptual for their tastes.

“In California, there are manygenerations of entrepreneurs andangel investors, but in [mainland]China the cycle only started five to 10years ago,” says AngelVest’s Chen.

Rui Ma, China adviser toCalifornia-based 500 Startups,believes the lack of experiencedangels – she estimates there are 300to 500 active angel investors inChina – often results in deals that arehighly favourable to investors.

“The terms investors offer are notalways reasonable,” she says.“Instead of a straight equityinstrument, the deal is often morelike a debt. Or they will ask for bigchunks of the company. They mightsay, ‘If you don’t perform and meettargets, you have to give me moreshares. I up my stake from 30 percent to 50 per cent without puttingin more money.’ ”

It’s a supply and demand issue,Ma believes. Fewer early investorsmake for greater leverage. “As moreinvestors emerge, it will becomenormalised,” she says.

Lewis says mainland tech start-ups are starved of capital becausemany local investors are reluctant toput money into unproven entities.

“Investors in China are a lot morecautious than in the West,” he says.

“There arefewer angelinvestors,they don’ttake as muchrisk, and theyinvest later. Theywant to see tractionover investing in astrong team.”

This is an opportunity forrich Hongkongers looking for a high-return investment and who mighthave the stomach for this brand ofrisk. Many wealthy investors fromHong Kong are entrepreneursthemselves, and are therefore in aposition to understand the potentialof a start-up.

Those interested in suchopportunities might get in touchwith angel clubs such as AngelVest,which offer a good entry point.Launched by Chen and a HarvardMBA classmate in 2007, it is themainland’s largest angel investmentgroup with more than 60 members.

It has since invested in 16 mostlytech-related deals, with ideasranging from a web service thathelps users carpool (Wodache), tofitness software that lets joggers tryout the world’s best runninglocations around the world, thanksto simulation in high-definitionvideo (Paofit).

The group applies strict rules onits invitation-only membership.Would-be angels must berecommended by two existingmembers, and they have to be

wealthy: they must have a net worthof US$1million or income of morethan US$200,000 a year in the lasttwo years, and a reasonableexpectation to exceed US$200,000 inthe current year.

AngelVest generally givesbetween US$100,000 andUS$500,000 in seed money to start-ups. It plans to launch a Hong Kong chapter early next yearaimed at networking Hong Konginvestors with mainlandentrepreneurs, and vice versa.

Hong Kong investors, of course,have already had dealings with themainland tech story, in 1999-2000,when scores of internet firms rushedthrough IPOs on the Hong Kongexchange. The experience did notend well for many, as early investorsin Tom.com, PCCW, china.com,hongkong.com, e-kong orAsiacontent.com can attest.

So, before throwing money at thefirst computer science major with abright idea, Chen advises investorsto determine whether they haveexperience in, and an understandingof, the business they are looking toinvest in. “If you’re a doctor andinvest in a gaming company, I’m notso sure,” says Chen.

Investors also need to be ready totake on an advisory role. “It’s not apassive investment like property –you invest, and then you’rementoring and connecting,” saysLau of Startups HK.

The Nest group is nurturing 10young companies, giving them

office space in Sheung Wan and aninitial investment of HK$500,000.

More importantly, it offers plentyof industry know-how andguidance. Squibb set up his firstcompany at the age of 24 and hastwo decades of experience buildingcompanies, while his other Nestpartners include a lawyer, a Googleveteran, and marketing andbranding gurus. For the first three tosix months, Squibb says he meetswith the entrepreneurs every day.After the company has got off theground, he meets with them once aweek, usually over coffee or lunch.

Although he recognises thatmany angel investors can onlycommit spare time to a company,being involved is the smartest way toinvest, he says. “I learned, by losingmoney, that I have to be in thebusinesses a little bit more. I startedlike everyone else, having a day joband angel investing on the side. Fastforward five or six years, and I hadcompanies that did well and onesthat didn’t do so well. The ones that

didn’t do well were the ones I hadn’tspent time on. If you do somethingpart time, you get part-time results.”

Angel investors can hope for arich pay-off for their work, but manyfind the role of mentor and of beinga part of exciting start-up to berewarding in itself. Angel work has alarge social enterprise element, saysSquibb. He notes that richHongkongers have recently becomefascinated with investing in carparking spaces that can be boughtfor up to HK$1million apiece. Hesays that car parks might providereasonable financial returns, butresult in nothing exciting. “If you putthat into an entrepreneur, imaginewhat they could do,” he says.

“People invest to make a returnand that’s certainly what we do; I’mnot shy about that. But I think a lotof people invest because it’s a goodthing for the community. You’rehelping a human be successful, feedtheir family, helping the city. That’s alot more interesting than a car park.” tiffany.ap@scmp.com

COVER STORY 5

Nest’s Simon Squibb takes a hands-on approach to investing. Photo: May Tse

300• The number of angel investors

estimated to be active on themainland, where investorsprefer more establishedcompanies

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