3 points to consider before you make your first angel investment in China

Rui Ma is the Greater China Venture Partner for the global seed fund and accelerator 500 Startups. She has been working in finance for over a decade and is well into her second year as a professional angel investor. Follow her on Twitter @ruima.

Disclaimer: the opinions expressed in this piece are the author’s own and not those of her employer or colleagues.

I have had the great fortune to work across several different industries and investment stages in the seven years or so that I have worked as a finance professional in China. From real estate to entertainment to technology, and from angel/seed stage to late/pre-IPO stage, I have accumulated both breadth and depth in expertise. In an effort help overseas investors get savvy when preparing to make their first investment in China, below I’ve compiled a list of some common traps that angels new to China fall into.

A lot of this is also what I wish I had known coming in, not just for technology seed investing, but for deal making in general. Most of these ills are common across multiple geographies, but I hope you at least get a chuckle out of these (occasionally painful) personal anecdotes.

1. In China, accuracy is optional , and the truth is open to interpretation.

There are those who embellish, but in China many go far beyond that. A friend who ran an HR consultancy in China once told me that as many as 78 percent of Chinese applicants lie on their resumes.

I myself have been the victim of blatant resume fraud  –  someone who worked with me, and who actually asked me to be an employment reference, basically gave themselves a paper promotion that was worth at least a decade in professional experience. I was disappointed, but mostly flabbergasted. I don’t generally suffer from pedigree worship, and am less concerned about education (although you’d be surprised to know that Summer School at Harvard might qualify many to call themselves Harvard alumni). But I always poke around when I see resume lines along the lines of “I started X.com which had 40mm users.” You’d be surprised how many times that means, “I was about to be fired from an Internet company but begged my way to a new initiative being launched and landed a copywriting position there.”

This behavior is not just relegated to locals — many expats have localized well. There are a few overseas companies, even publicly listed ones, who probably do not realize how many “founders” they have running around in Beijing and Shanghai. The story of my friend’s healthcare company who only found out that their head of China was simultaneously working as head of China for another competitor after one year probably takes the cake, don’t you think?

Another hilarious (or depressing, depending on your sense of humor) example is when my boss Dave McClure and I showed up at the offices of a China-based accelerator. I had known of the entity for a while but had never made any official contact, and it was never on my list of top partners. However, the investment manager attended a talk we hosted and insisted that we visit their headquarters and “exchange information for future cooperation.” When we arrived, we were photographed as if we were movie stars and handed thick, colorful introductory booklets of the fund, its history and vision. I usually leaf through such things quickly out of politeness, but one paragraph caught my eye  – 500 Startups was listed as an official partner to said entity. We guessed that was why our mugs were so valuable  – it would give credence to the company’s claims that we were their intimate overseas partners.

Pro tip: 360-degree due diligence is a must. Relying on trusted local co-investors may be common sense, but it’s a lifesaver in China. I am lucky in that in my nearly seven years here I have been able to build a solid local network that allows me to do quick due diligence within my circle of contacts. But even then, moving from city to city can mean adjusting to an entirely different ecosystem where information asymmetry is high. When building out new networks from scratch, I advise taking statements with an oceanful of salt.

2. It’s normal to not disclose conflicts of interest

Conflicts of interest are more difficult to discover than incidents of resume fraud. I have no doubt conflicts of interest occur in many other parts of the world, but a few of my first-hand experiences take on a uniquely Chinese flavor. For example, when I first arrived in China, an old classmate asked to borrow some money and I gladly obliged. However, what he claimed was “small side business working capital” turned out to be arbitraging the commission cuts between what his large multinational employer was paying the subcontractors he was responsible for vetting. Fail. This happens with startups as well. It is important to ask about the details behind certain business arrangements that sound too good to be true, because often they are really “related-party transactions” and not repeatable, scalable, nor ethical.

Additionally, in at least one head-scratching acquisition I know of, the deal carried forth solely because it would deliver outsized returns on the decision maker’s friend’s angel investment. I’m guessing the decision maker received some amends as well, especially as they were eventually fired when the hugely underperforming deal was more closely scrutinized.

To make matters worse, media in China operates like a black box, and while tech media is much better, I’ve not seen any consistent disclosure standards there either. Given all these considerations, whenever there is a story that doesn’t seem to make much economic sense, I try to corroborate the story with as many people involved as possible. There’s often more than what meets the eye.

Unfortunately, the lack of proper disclosure may not change any time soon – not necessarily because people are flouting the regulations but because in at least some instances no such rules exist. As a result, many people haven’t even developed these sensibilities. In fact, culturally, conflicts of interest can be considered competitive advantages and lack of disclosure doesn’t always point to criminal wrongdoing. When I briefly worked with a very large Chinese company a few years back, I saw the first nascent attempts at transparency and accountability in their employee agreements (“This is the first year we are having new hires sign these,” I was proudly told). These measures are still evolving and maturing, and overseas investors should by no means take them for granted.

3. Government relations very rarely make a business.

Wrap-up