China's Appetite for Foreign Capital Will Dominate 2005
CBS Market Watch
2004-12-23

SHANGHAI (CBS.MW) - This Year, We Saw the First Moves from Chinese Companies Able to Flex Their Muscles on a Global Playing Field

Information-technology heavyweights like TCL acquired big assets from Alcatel and Lenovo made its landmark deal to buy IBM's personal-computer division. Expect to see more cases of Chinese companies looking outward for growth, even as the domestic market provides a breeding ground for the next global giants.

In 2005 China will throw up a number of surprises for market watchers. An insatiable appetite for foreign capital will be one of them. Despite the hundreds of millions of US dollars chasing China deals, driving valuations higher, Chinese technology, media, and telecommunications companies, will continue to tap foreign financiers and markets for their capital needs.

Venture-backed technology and media companies will dominate the China-to-Nasdaq IPO roster in early 2005. In the first quarter, look for advertising platform Focus Media hit the Nasdaq. Target Media, a rival, might not be too far behind. Both companies sell advertising time on LCD screens placed in office buildings across China.

Focus has a list of venture backers as long as your arm, while Target counts the Carlyle Group as its one institutional investor. Goldman Sachs has been tapped as Focus Media's underwriter - a $30 million capital injection into Focus by Goldman back in November locking the investment banking business down.

While Sina, Sohu, and Netease made China portals part of investor vocabularies, there are still some portal plays that could make their way to market in 2005. As rising property prices make millionaires out of average Beijing and Shanghai home owners, niche real estate portal Soufun has shrugged off suitors and is expected to make a run at Nasdaq in the first half.

Wireless Players

AllYes, DoubleClick's China nemesis, has benefited from online advertising's 30 percent compound annual growth in China and the consequent success of online media properties beyond the major portals.

Big wireless companies like Nokia, Motorola and Samsung and are looking at China with hope and trepidation. One company seems to be reveling in the handset business even as its leaders watch their margins slide. Set up only two years ago with backing from Qualcomm, TechFaith could hit $100 million in sales in 2005, designing and building handsets for NEC, Kyocera, and Mitsubishi.

TechFaith's design and manufacturing process (it does not own factories) allows it to churn out multiple new handset designs every month. The company has already shunned a Hong Kong listing, stating its hopes for a Nasdaq listing early in 2005.

Investor appetite for China online gaming companies does not appear to have been sated by the mid-2004 listing of Shanda nor The9's spectacular Nasdaq debut in mid-December. While Shanda and The9 dominate the online gaming market with portal Netease, a handful of online gaming related companies could make it out of the gate in 2005: Prepaid card distributor Junnet has made rumblings about a 2005 listing; Kingsoft, a software developer and online gaming contender, has also indicated it hopes to tap offshore capital markets in the coming year.

The Bankers

Goldman Sachs took instant-messaging giant Tencent and Shanda to the public markets in 2004. But 2005 should see the emergence of a new Goldman Sachs in China, led by veteran banker Fang Fenglei and his connected-to-the-hilt cohort of Chinese bankers. Like Morgan Stanley's interest in China International Capital Corp., Goldman's interest in Goldman Sachs China is not expected to stop it from carving out an identity of its own.

While there will be no let up in the heavy banker traffic between China and the United States, a number of banking outfits are expected to set up shop on the mainland. West Coast boutique WR Hambrecht is expected to open an office in Shanghai on the back of a couple of IPOs and M&A deals.

Jeffries Broadview is also expected to declare its China presence by opening an office. Singapore's DBS is already looking at potential hires to run its China operation. And Hong Kong-based Latitude Capital (the team that brought Yahoo and 3721 together) could bring some debt sophistication to the mid-market in 2005 with word of a new debt fund floating around the market.

Trends

Unlike in the United States and other developed markets, technology advances in China continues to be about meeting consumer demand rather than enterprise. Fashion-conscious urbanites drive demand for TechFaith's handsets, Lenovo's PCs and a myriad of consumer-focused information services.

Growth in advertising will be strong thanks to solid consumer demand, as will growth in a number of mediums: Digital TV, radio, and print media. Media watchers will be looking to see whether changes to foreign ownership laws give the authorities occasion to relax their grip on mass media.

High-profile newspaper launches of the National Business Daily and the Daily Economic News in late 2004 illustrate Chinese media confidence in the advertising market. The consumer magazine market continues to attract offshore interest and investment as production and editorial expertise set quality titles apart from the 8,000 plus magazines available in China.

Mergers and acquisitions in telecom will be a key area to watch. All four major carriers now have listed vehicles that make offshore acquisitions a real possibility. Just as Singapore Telecom did back in 2001, Chinese telecoms might begin casting a net across Asia in search of acquisition opportunities in 2005.

Progress and Problems

Foreign investors might be getting more comfortable with the complex structures Chinese companies use to access foreign capital markets. But exiting the market remains one of the biggest issues for investors who want exposure to pre-public Chinese companies.

With U.S. funds committing well over $1 billion in private equity and venture capital to China in 2005, liquidity issues could sour market appetite for China deals. Investors should dig through quarterly results, looking for any flaws in the China growth story. Any number of catalysts could send the market screaming either way.

A revaluation of the yuan would be fantastic news for many of the current market darlings - the portals and online game companies that generate most of their revenues in China but report in the United States. However, a slowdown - even a hiccup - in advertising growth could send a shudder of uncertainty through the market that would hurt those same players.

By Paul Waide