A comparison of the venture capitalists’ investment
behavior pattern between China and America

Author: Chang Liu
Supervisor: Anders Isaksson

StudentUmeå School of Business
Spring semester 2009
Master thesis, two-year, 30 hp

IAbstract
The venture capital market has drawn a great attention from the business world. It
creates a lot of financing opportunities for those young but talented small firms andthe specialized venture capitalist would give their assistance and help them to growbigger and become more competitive in the future. So the success of a venture capitalbacked firms to some extent is pretty much affected by the capability of the venture
capitalists. The better support they can provide, the more promising their portfolio
companies are able to be strong. Hence, this paper conducts a comparison study
between the America and China, to figure out the investment behavior pattern of theventure capitalists throughout the four investment stages: selecting, structure andmonitoring, value-adding and exiting in the both countries and try to identify thedifferences in the end.
In the literature review, I start with a view on how agency theory shape the behaviorof the VCs and then specified on the literature of the four investment stages. From thischapter, brief ideas of what do the VCs do in each phase, and what skills or
instruments they would like to apply to the different activities could be gained. And, I
take a quantitative study by a self-reported questionnaire in both two countries. In theend I succeeded to reach 42 respondents. Based on the answers from them, I test the 8
hypothesis which are driven from the previous studies on the Chinese venture capital
market by a statistic analysis. The empirical findings are abundant, a lot of differences
do exist between America and China and which is also consistent with parts of myhypothesis, especially in the aspects of decision making, contracts design andvalue-added performance. The practical implications could be very helpful to bothinvestors and entrepreneurs who would have better understand of the venture capital
market and the VCs’ behavior patterns in the two countries since then.
Keywords: venture capital, venture capitalists, behavior patterns, differences.

IIAcknowledgements
First of all, I would like to thank my supervisor who has continuously given me a lotof support in the thesis writings. From the structure to the research content, he is quite
responsible to show me different ideas of how to think and how to express. So formany times I am greatly inspired by him. And I have to acknowledge the people whohave answered my questionnaire. Without their help and cooperation, I can neveraccomplish the thesis. Last, I must thank my parents and friends. They always
encourage me and keep company with me all way along, that’s why I can be moreenergetic and concentrate on my thesis works. Thank you very much!

IIITable of Content
1. Introduction.............................................................................................1
1.1 Research question .............................................................................................3
1.2 Research purpose ..............................................................................................3
1.3 Key conceptions................................................................................................4
1.4 Outline...............................................................................................................4

2. Theoretical Framework...........................................................................6
2.1 Agency theories on venture capital market .......................................................6
2.2 Venture capital funding process ........................................................................92.2.1 Selection..................................................................................................92.2.2 Structure and Monitoring ......................................................................10
2.2.3 Value-adding process ............................................................................13
2.2.4 Exit........................................................................................................16
2.3 Background of venture capital in China .........................................................172.3.1 Market size............................................................................................18
2.3.2 Characteristics of investment................................................................192.3.2.1 Size of investment .......................................................................................192.3.2.2 Investment stages ........................................................................................20
2.3.2.3 Industry sectors ...........................................................................................20

2.3.3 Exits ......................................................................................................21
2.3.4 Investors................................................................................................22
2.3.5 Geographic focus ..................................................................................24
2.4 Background of venture capital in America .....................................................24
2.4.1 Characteristics of Investment................................................................24
2.4.1.1 Size of investment .......................................................................................24
2.4.1.2 Investment stages ........................................................................................25
2.4.1.3 Industry Sectors...........................................................................................26

2.4.2 Geographic focus ..................................................................................27
2.5 The Hypothesis Development.........................................................................27
2.5.1 Selection process...................................................................................28
2.5.2 Structure and monitoring ......................................................................29
2.5.3 Value-adding .........................................................................................30
2.5.4 Exit........................................................................................................30

3. Research Methodology .........................................................................32
3.1 Research strategy ............................................................................................32
3.1.1 Research philosophy .............................................................................32
3.1.2 Research approach ................................................................................33
3.2 The design of questionnaire ............................................................................34
3.2.1Selection Questions................................................................................35
IV

3.2.2 Structure and Monitoring Questions .....................................................36
3.2.3 Value-adding Questions ........................................................................36
3.2.4 Exit Questions.......................................................................................36
3.3 Selection of samples .......................................................................................37
3.4 Data collection ................................................................................................38
3.5 Limitation, Validity and reliability of the Data ...............................................40

4. Empirical Findings................................................................................42
4.1 Tests for the Investment Selection Hypothesis ...............................................424.1.1 Test for Hypothesis 1 ............................................................................42
4.1.2 Test for Hypothesis 2 ............................................................................44
4.2 Tests for Structure and Monitoring Hypothesis ..............................................44
4.2.1 Test for Hypothesis 3 ............................................................................44
4.2.2 Test for Hypothesis 4 ............................................................................45
4.2.3 Test for Hypothesis 5 ............................................................................46
4.3 Test for Value-adding Hypothesis ...................................................................47
4.3.1 Test for Hypothesis 6 ............................................................................47
4.3.2 Test for Hypothesis 7 ............................................................................49
4.4 Test for the Exiting Hypothesis 8....................................................................50

5. Discussion and Implications .................................................................52
5.1 Selecting..........................................................................................................52
5.2 Structure and Monitoring ................................................................................53
5.3 Value-adding ...................................................................................................56
5.4 Exiting.............................................................................................................58

6. Conclusion ............................................................................................60
6.1 Conclusions on the results ..............................................................................60
6.2 The Theoretical and Practical Contributions ..................................................61
6.3 Limitations and Future Research Directions...................................................62

Reference ..................................................................................................64
Appendix...................................................................................................68
Appendix 1: SPSS Analysis ..................................................................................68
Appendix 2: Questionnaire ...................................................................................76V

1. Introduction
This chapter will provide the readers with a brief background of the topic and theexisting research gap on it. Ensuing the argument, the purpose of this thesis will beserved and the related key conceptions analyzed in the end of the chapter.
Small and medium sized businesses are by many recognized as an important driver ofgeneral economic growth (Mason and Harrison 1999; Gorman and Sahlman 1989).
And one key successful factor is depended on their ability to obtain and secure thefinancings. However, it is not as easy for the start-up business as for the more maturelarge companies. One of the reasons is that the newly-formed small business can be
exposed to unforeseen changes and there is not much tracking record to be examined,
so the financing risks are too high for the lenders to make the loan. Another reason isthat the young entrepreneurs normally have insufficient experience in the business andhave little chance to know anyone that matters, so even if their business plan is goodand workable, it may fail to be understood and supported by the picky bankers
sometimes (Isabel Isidro, 2009). In this case, venture capital can offer these young but
talented entrepreneurs a great opportunity to fulfill their dreams. Venture capital is a
type of private equity capital typically provided for the high growth-potential newcompanies. The procedure of the venture capital financing is that the entrepreneurs
identify the innovations which are commercially profitable, and the venture capitalists
understand, recognize, and give proper priced financing to them. Then a secondary
market is needed for the venture capitalists to exit and promote the innovations to theindustrialist for large-scale production and marketing (Eliasson, 1996a). Therefore,
besides the entrepreneurs, venture capitalists also stand out in the acceleration of
economic development. They are not only providing financing to the ventures, butalso in the position to understand and be able to competently evaluate the project
proposed to them. Otherwise there will be little chance left for the entrepreneurs tomove forward.
In general, venture capitalist (VC) backed ventures are more likely to be successful(i.e., higher growth, longer survival) than non-VC backed ventures (Gupta and
Sapienza 1992; Sandberg 1986). However, the failure rates can be also high on theother hand. Many of the VC backed ventures actually fail to earn a positive return on
their investment, and such cases can be as high as 60 percent in the venture capital
market. Then what makes the difference between successful and failure ventures? To a1

large extent, the ability of the VCs plays an important role in this regard. Theirintelligence will be passed onto the portfolio companies along with the input ofmoney which can greatly influence the performance of the investees.
Meanwhile, “Investors always focus on growing countries and regions. And GDP
growth is an important indicator when they consider a VC investment”, said byProfessor Martin Haemmig, a world-famous expert in Venture Capital. As one of theworld’s largest economies in terms of GDP, China is full of business opportunities andit is an ideal environment for the development of entrepreneurship (Wang Dan-wei,2007). “Perhaps the venture capital outside China will impose a threat on local
venture capital in the country. However, the former will bring to China international
management modes and experience and greatly enhance the influence of venture
capital in the industry. The government has even started formulating laws for venture
capital. ” (Martin Haemmig). Since the 1980s, venture capital in China has grownsteadily along with the vigorous national economy. However, entering the Chinese
market is not an easy task. Comparing with the western countries, there are so manydifferences on both cultures and the institutional systems. Unlike in the West, profit
maximization, efficiency, and public information disclosure are crucial matters(Sahlman, 1990), in contrast, personal relationships, “guanxi” networks, and harmony
are perceived prior to all of them in China (Ahlstrom and Bruton, 2001; Chen, 2001)
where the information is not transparent, the intellectual properties are not well
protected, and the business contracts not duly respected. Therefore, the behavior of
the venture capitalists will change greatly in such a unique institutional context.
The previous literature on the Chinese venture capital market was either about its
developing history or mainly dominated by the studies on how its institutions,particularly those related to the regulatory environment and cultures, shaped theventure capital industry and created differences from that of the West. For instance,
the paper “Venture Capital Investments in China” written by Feng Zeng is about thehistory of venture capital development in China that is in the following aspects: thepopularity of the international venture capital funds by the end of 1990s, the shift
from investing in state-owned enterprises to private firms and from low-techindustries to high-tech industries, the preference to early-stage firms and the shares
shrinking along with the increased valuation of VC-backed firms. Another research
made by Kuntara Pukthuanthong & Thomas Walker named “Venture Capital in China:

2

A Culture Shock for Western Investors” has highlighted the main differences between
West and China. One of his findings is that, in China, they require a higher level of
personal oversights and close relationships with both the insiders and outsiders of theinvestee firms. Secondly, the VCs and even the board of directors have less power
than the managers in assessing the disclosed information. Lastly, government
restrictions and the lack of well-developed financial markets make it difficult for the
VCs to realize their investment. And the most significant contribution to the literatureof the Chinese venture capital is made by Garry D. Bruton et al. Most of the current
theories are based on their research which is also focused on the differences between
China and West in culture, regulations, and restrictions, etc. In this paper, I will notcenter my studies on the institutional or cultural aspects but on the venture capitalists
themselves. I am trying to examine the roles of the VCs in their funding cycles toreveal how they work with the portfolio companies and assist them to grow in China
and U.S. where the venture capital markets are more established than in the otherplaces. A more thorough comparison will be made on their behavior patterns throughout the initial selecting to the end exit.

1.1 Research question
How do the investment behavior patterns of the venture capitalists in China differ
from that in the United States in selection, structure and monitoring, value-adding,and exit respectively?

1.2 Research purpose
The primary goal of this thesis is to identify the behavior patterns of the venture
capitalists in both China and America in the whole investment cycle. The paper also
probes the main differences in the respect between the two countries, and thenanalyzes the possible factors that would influence the activities of the venture
capitalists.
The object of this paper is to facilitate the understanding and cooperation among theventure capitalists of the two countries in regards to the markets and the VCs’
behavior habits. A depth of analysis on the Chinese venture capital market and the
behavior patterns of the Chinese VCs provided in this paper can benefit the Western
VCs for their China venture. And the entrepreneurs will as well be better equipped, in3their bids for the venture capital financing.

1.3 Key conceptions(Definitions from the Investopedia Dictionary)
Venture Capital
Financing for new businesses. In other words, money provided by investors to startup
firms and small businesses with perceived, long-term growth potential. This is a very
important source of funding for startups that do not have access to capital markets. It
typically entails high risk for the investor, but it has the potential for above-average
returns.
Venture Capitalists
An investor who either provides capital to startup ventures or supports small
companies that wish to expand but do not have access to public funding.
Venture Capital funds
An investment fund that manages money from investors seeking private equity stakes
in startup and small- and medium-size enterprises with strong growth potential. These
investments are generally characterized as high-risk/high-return opportunities.
VC is short for Venture Capitalists
VCF is short for Venture Capital Firms
Ventures in this paper is identical with Venture Capital backed Firms, same as
portfolio companies.

1.4 Outline
The following parts of the paper will be structured as below:
Chapter 2, Theoretical framework, I introduce the theoretical background in which
this thesis is based on.
Chapter 3, Research Methodology, I present my choice of research methodologies andthe process of how I conducted the research survey.
Chapter 4, Empirical Findings, it is the interpretation of all my statistic results fromthe hypothesis tests.
4

Chapter 5, Discussion and Implications, I have further explained my empirical resultsby referring to the existing theories.
Chapter 6, Conclusion, the summary of my entire findings from the research and thesuggestions for the future research are addressed.

52. Theoretical Framework
This chapter reviews the literature on venture capital market in the aspect of how
agency theories shape the behavior of venture capitalists and especially focus on thefour sets of literature: selecting assessment, structuring and monitoring, value-added
assistance and exit strategies. At the end, a brief introduction of the Chinese venture
capital market is presented.

2.1 Agency theories on venture capital market
Agency theory normally concerns the relationship between a principal (shareholder)
and an agent of the principal (company's managers). There are plenty of researches
have emphasis the importance of agency theories on understanding the venture capital
market, like the research done by Kathleen M. Eisenhardt (1989) called “Agency
theory: an assessment and review”; the paper written by Harry J. Sapienza & Anil K.
Gupta (1994) “Impact of agency risks and task uncertainty on venture capitalist-CEOinteraction” and James O. Fiet (1995) wrote the “Risk avoidance strategies in venture
capital markets” and so on. Hence there is no doubt that agency theory could shed thelight on the study of VCs’ behavior pattern. Agency theory researches normally follow
two main streams: positivist and principal-agent theory. Unlike positivist researches,
which focus on one special type of the principal-agent relationship that within thelarge public corporations between the owners and managers, the principal-agent
researches concern with a general theory that can be applied to employer-employee,
lawyer-client, buyer-supplier, and other agency relationships( Harris& Raviv, 1978).
In this paper, the agency relationships are viewed as crucial determinants tounderstand the venture capital financing, and here the agency type is between theventure capitalist--investees, so my theory studies are more influenced by theprincipal-agent theories. The dominant studies of this subject is on determining the
optimal contracts ensure that the agent puts in enough effort by making the agent’s
compensation dependent on the outcome of the signals ( Holmstrom, 1979).
The exist literatures concerning with the causes of agency problems are deliberate
effort shirking and other types of opportunism or disagreement over the direction of
the agent’s efforts added by Happy J.& Anil K in 1994. More in detail can beillustrated as moral hazard among the entrepreneurs, they can withhold information
which is critical to the decision making of the capitalists, since they know better about
6their business and by hiding their private information can increase the agency risks inthe form of information asymmetry. Moreover, the entrepreneurs have the incentives
to pursue short-term interests rather than long-term interests at the expense of those
venture capitalists’ benefits because they can receive significant self-interests frommanaging their own firm. Agency theories also suggest that reductions in managers’
ownership may increase the incentives for them to work for the short-term gain rather
than the long-term profit (Berle &Means, 1932) and this argument is supported byBarney and colleagues (1989) as well who found that low employee ownership is
associated with greater investment in structural governance on the part of venture
capital firms. If information asymmetric and agency costs do not exist, as Hart(1991)
points out that the financing will be simple, since the entrepreneurs pursue
shareholder value maximizing strategies, then the VCs would just provide the money
and the entrepreneurs would decide whether to continue the project from their private
information. But in the real world, the entrepreneurs’ private benefits from managing
the firms do not necessarily lead to the shareholders’ monetary returns. So actually,
during the financing process many mechanisms of the VCs’ behavior are driven to
avoid adverse selections and to mitigate such kind of agent risks which lies in thefollowing aspects:
Based on the informational economics assumption that information to reduce theriskiness of a deal can be acquired at a cost (Hayek.1945). In the investment selecting
stage, in order to acquaint the special information for reduce risk for adverse selection,
the amount of cost they spend on the evaluation process will be affected by it. To
reduce the adverse selection, Amit, Glosten, and Muller (1990) present an agency
model in which investors are uncertain about the entrepreneur’s type when submitting
investment bids. And they relate the venture capitalist’s financing decision to theentrepreneur’s skill level in order to foresee the right one to join in their deal
agreement. In the screening part, since the existence of the agency problems, theinvestors assume investees will overstate returns and understate risks. They attempt tolimit adverse selection by rigorous screening with a fine filter and high hurdle IRRs
setting (only 30% of proposals being reviewed) and careful due diligence, leading tojust 3%of proposals being backed (G.C. Reid et al., 2002).
According to Harris and Raviv(1979) that with a risk neutral principal and a risk
averse agent, the optimal financing contract is to give a fixed payment to the investor

7and make the manager claim the residual fortune. That greatly explain why it is so
important for the entrepreneurs to have monetary incentives or cash flow rights. And
control rights are built to complement the contracting literature and so does theliquidation rights. Both of them play a great deal in the structure and monitoring stage
which I will discuss further in the later passage.
Sahlman (1990) discovers that staged investment which allows the abandon of the
projects could actually prevent the VCs from lost by the agency costs. The staged
investment of the venture capitalist allow the venture investors to intervene and pricesubsequent rounds according to the performance of the company which reduce theuncertainty concerning their portfolios’ prospects and enable them to earn a fair rateof return. In addition, there are plenty of empirical studies show the essential role of
VCs as monitors like by Barry et al. (1990), and Lerner (1995) who also suggests theuse of syndication( i.e., coordinated investment by two or more VCs) as a method toagainst the informational asymmetries problems. Especially the monitoring on theCEOs and managerial teams cause the greatest concern from the VCs (Ruhnka andYoung’s, 1987). The uncertainty caused by agency problems is very high, cause even
there is no question for the managers to willingly take effort to maximize theshareholders’ profits, and the disagreements regarding to prioritize operating goals canstill be an issue. Furthermore, since the venture’s CEO turns to be the most crucial
person to lead the success of the business by possessing the most powerful, unique
technical and capabilities (Rock, 1987) and who normally play in the newenvironment which means they have little experience to rely on, so their decision
making are worthwhile to be carefully watched over for the VCs.
Besides, much of the capital structure literature exam the relation between agency
costs and the structure of staged venture capital investments. As Harris and Raviv(1991) emphasized the role of agency costs in determining leverage. Agency costs
increase with declining asset tangibility and make monitoring more closely and costly,
therefore the VCs would rather to shorten their funding duration to renew thecontracts between each financing round. In empirical research on capital structure,including Titman and Wessels(1988), Friend and Lang(1988),and Rajan andZingales(1995) use the ratio of tangible assets to total assets as a measure liquidation
value, all findings show that the usage of debt increases with asset tangibility.
The information-based theories are also shaping the pattern of exit. If asymmetric8information is a matter even at the exit stage, then the outsiders will not be easy togive explicit evaluation on the assets of the firms and on the other hand the insiders
will have the superior to buy out the VCs’ position. The insiders include the managers
or officers within the portfolio companies and so are the specialists from other firms
in a related business. Thus, it is not surprising that IPOs count for only a modest
fraction of exit (R.AMIT et al., 1998).

2.2 Venture capital funding process
In the above text, I note the influence of agency theories on the venture capitalfinancing, in the next part, in order to have more general ideas about the behavior
pattern of the venture capitalists I will introduce the existing literatures on explaining
the specific role and function of VCs in the venture capital funding process.
Berger and Udell (1998) identified three steps of VCs’ investment model that VCs use
to decrease the fail selection. Those steps are: selecting, contracting and monitoring.
Much earlier Hall (1989), described the VC management process using eight stages:(1) generating a deal flow; (2) proposal screening; (3) proposal assessment; (4) project
evaluation; (5) due diligence; (6) deal structuring; (7) venture operations; and (8)cashing out. Depending on the first five stages the ‘invest or not invest’ decision will
be made which is the pre-investment process can also be understood as selecting
process, after that we can perceive them as post-investment part. If we sort ofcombine these two results, we can see there are four main aspects where the venture
capitalists have to participate in: the selection assessment, structuring and monitoringprocess, value-added assistance to their ventures, and exit strategies. So the theoreticalframework will be illustrated separately about these four activities as below:

2.2.1 Selection
Among all of those opportunities, only few of them can be funded in the end, so what
do venture capitalists look for? To do the investment decision, in the selection process,normally there are three steps taken by the VCs, they are Deal sourcing, Screening,and Evaluation. According to Alex and Sue (2004) pre-investment screening isnecessary to mitigate the damage of asymmetric information like adverse selection
and moral hazard. Before the further screening, a quick elimination will be made byreferring to the elements such as industry, management stage and geography. And a9‘top down’ analysis will be used in the screening, the VCs in this process investigate
and pinpoint macroeconomic trends, then they will only focus on those industries thatwould gain from those trends. In order to reduce the risk of asymmetric information,
due diligence process, commissioning outside research on ventures, or by employing
consultant for particular investment which the VCs have no substantial experience canbe quite useful as well.
For the factors that the VCs use to do the valuation, there are 15 common criteria havebeen identified by Fried and Hisrich (1994) for VCs to do the evaluation of thepotential investments, which were expanded on the three basic aspects summarized by
Hisrich and Jankowicz (1990): concept, management, and returns. And a six –stage
decision making process model was also proposed by Fried and Hisrich: origination,
venture capital firm-specific screen, generic screen, first-phase evaluation,
second-phase evaluation, and closing. Meanwhile the last three stages are not clearly
distinguished in all VC firms. However there are evidences shows that the investment
criteria rankings would be different among the VCFs, which likely due to the stage ofthe investment and the accessible of the information are different. Similar studies havealso been done by Kaplan and Strömberg (2000). They analyzed the investment
records from ten VC partnerships for 58 investments in 42 portfolio companies. Theyfind that VC’s explicitly consider the attractiveness of the opportunity (the market size,
the strategy, the technology, customer adoption, and competition), the management
team and the contract terms. .
Gupta and Sapienza(1992) studied preferences of VCFs for portfolio diversification interms of industry and geography in US, they found out that the larger the VCF size is,the more diversification of their invested industry and geography will be;
non-corporate VCFs are more diversified in the industry but less varied in geography
than corporate VCFs; private VCFs’ funding are made in wider areas than small
business investment companies; and VCFs which focus on early stage are lessdiversified than those who do not have such focus.

2.2.2 Structure and Monitoring
In the process of screening, evaluation, and due diligence of the proposal, by looking
into a certain type of criteria: (1) the entrepreneur/team skills and capabilities; (2)product/service attractiveness; (3) market conditions and competition; and (4)10potential financial returns (Zacharakis and Meyer 2000), the VCs finally make theirdecisions of whether or not to invest. Then move onto the next step, a decision of how
much funding and stages to deliver, how much involvement are needed in the ventures,
that’s what we will discuss in the following part about the structuring and monitoring.
Nowadays, much of the research has been centered on post-investment actions andrelationships in VC research rather than pre-investment decision criteria. For instance,a central topic of discussion in the literature examining VCs has been the VC-E
relationship (G. Tyge Payne, Justin L. Davis, Curt B. Moore, and R. Greg Bell 2009).
And indeed the evaluation of the entrepreneur team is one of the key decision
criterion used by VCs in the decision-making process (Hall and Hofer 1993).However,there are certain features of agency theory present in the VC–E relationship whichmake the investment decision very difficult for the VCs. The structuring ofcompensation and the monitoring of entrepreneur practices are both good examples ofagency issues in the VC–E relationship (Eisenhardt 1989; Jensen and Meckling 1976).
The control system can be conceived as an essential support or better cooperation
when trust and confidence are lacking between the VC–E.
In order to regulate the behavior and specify the rights of both parties, a legal contract
is necessary to be made in order to ease the action of transaction and the decision ofcontrol process. Basically, the allocation of the control rights between the VC-E iscentered the financial contracts. And actually, the allocation of cash-flow rights,
voting rights, liquidation rights, and other control rights will shift along with theperformance of ventures, like the funding normally financed by stage, the further
levels of the funding stages are greatly depending on the performance of theirportfolio companies to see if they’ve achieved the milestones or not. This kind ofcontingent contracts is more common in the early stages of financings where thebusiness suffers more uncertainty (Kaplan and Stromberg 2001). For example, if theventures perform poorly, then the VCs will obtain full control; if the performance
improves, then the entrepreneurs can regain more control back; on the other hand, if
the companies work very well, the VCs will just reserve their cash-flow rights but
give away most of their liquidation and other control rights.
Previous literatures in the financial contracting have proved that convertible securities
should be the optimal choice for minimize the damage of interests disagreement and11information asymmetries between entrepreneurs and venture capitalists theoretically(Sahlmann 1990, Bascha and Walz 2001a, Schmidt 2001, Kaplan and Stromberg 2002,
Cornelli and Yosba 2003; also see Triantis 2001 for a review). Meanwhile, there are
empirical studies taken by Bascha and Walz in 2001 showing that the convertible
securities are the mostly used to alleviate the agency problems. However, different
institutional settings may favor other types of securities (Hady Farag et al.2004),
especially the reference to the taxation regime. In the research paper “Factors
affecting the structure of US venture capital deals” by Edgar Norton and Bernard H.
Tenenbaum(1992), a survey has been done among 98 venture capitalists with a
response rate of 32.7. The analysis of responses provides insight into the factors that
affect how particular deals are structured; that is, what deal characteristics are most
likely to result in common equity financing, preferred equity financing, or debt
financing. The results of the survey indicate venture capital investors lean heavily
toward the use of preferred stock regardless of the existence or nonexistence ofvarious risk, product, environmental, and financial factors. Debt financing is mostprevalent in deals involving taxable income, available collateral, and products that are"recession proof." Common equity positions are more prevalent in deals with a strong
economic environment and where risk can be reasonably controlled.
Concerning to the effect binding of contracts, the institutional theory in this part has
greatly influence on that, since the organizational life and commercial conventions
persist due to the taken-for-granted nature of institutions and their self-sustaining
ability (DiMaggio and Powell, 1991). Like, ineffective legal institutions may limit theenforceability of contracts to the extent that investments become unattractive (Pistor
et al.2000). Such kind of contractual risks thus suggest the need for higher levels ofcontract flexibility, control rights and ex-post monitoring, more cautions should be
paid to the risks coming from ventures’ management characteristics.
Since the contractual provisions by themselves are insufficient to suppress moral
hazard caused by information asymmetries, the post-investment monitoring isabsolutely necessary from this argument (Frydman et al. 2000, Bratton 2002).
Furthermore, as Sapienza and Gupta (1994) have detailed, if the expected goals are
fail to fulfilled or the management team act like inexperience, then the interaction
between venture capitalists and senior management will be significantly more
frequent. Meanwhile both Barney et al. (1989) and Sapienza and Gupta (1994) show

12

the extent of their involvement of monitoring is positively to the ventures businessrisks level. Firms in the early development stages, in the highly dynamic
environments, and with negative profitability are likely to be monitored more tightly.
Venture investments are normally with a long maturity, companying with great
business and agency risks, caused by the uncertain and inexperience of the investees.
In the early stage of the ventures, there are limited financial data to look into, andquality of the managers can’t be proved and information asymmetries are morecommon in the younger firms. So the VCFs have to exercise a great role ofmonitoring in order to have better control and follow up powers. There are four
recognized mechanisms through which the VCs can play their monitoring role: (1)specific shareholder agreements (2) differentiated shareholder rights (3) board
membership (4) relationships with the management team. As noticed, the first two
methods are reinforced by the contractual subscription. These contracts usually set
quite extensive array of responsibilities and liabilities that the portfolio companies
have to fulfill periodically. The expected outcomes from such shareholders contracts
may be contingent on the different incentives, such as financial performance, dividend
payments, future security offerings, or continued employment and so on (Tykvova,
2003). This appointment is consistent with the results found from the institutional
theory as well.
Another important role for VC’s in monitoring management is to find management
and provide advice (M.Gorman and William Sahlman, 1989; Quindlen, 2000). It
seems that there are a lot of studies have proven that VC’s role in shaping andrecruiting the management team, especially when the poor performances given by thesenior managers, the VCs have the power to replace them. Especially the replacementof the CEO is more likely to happen when some soft measures were not work with theintervention of VCs. Normally, VCs require to have board representative on theportfolio companies, and in order to strengthen their management team, an
experienced executive will be hired. Nevertheless, VCs do not intend to be too
involved into their business for the risks of high monitoring costs.

2.2.3 Value-adding process
As we know, one more significant function of the VCs is to provide advice to theventures they had invested in, to help the company to gain a sustainable competitive13

advantage and delivering this into higher shareholder value. One theory about these isthat the most profound help from the VCs is to reduce uncertainties for the venturesand meanwhile, the ventures that perform poorly or suffer more uncertainties will be
more willing and receptive to hearing the advice from the VCs, since the CEOs
themselves may not experienced enough to handle with such unstable and complexity
situations. On the other hand, the experience of the VCs can greatly impact the extent
of how much helpful they can be to the value adding process. VCs who are with moreexperience in the ventures’ industry they can be more helpful, since they know betterwith the business, not like the VCs who never practice in any industry before; VCs
who have more dealing experience will have more thorough knowledge about how tomake a venture grow.
Previous literatures on how and when do VCs add value to the portfolio companies
are focusing on two perspectives: one is about how can ventures benefit from theinvolvement of VCs, the other one is about how are VCFs capable to have its
value-adding role. On the first perspective, it is dominated by the study of how thestart-ups to achieve their professional standards by the intervention of the VCs. Thereis evidence from US shows that VC firms have power to influence the composition of
the organization, which more in details will be the things like human resource
strategies from recruiting process to the hiring of vice president and the possession of
the stock option plans as well. While on the second perspective, ‘three roles’ theory(Sapienza et al. 1996) is quite prevailing among the others: they are strategic,
supportive and networking roles. Despite value-added is transferred through strategic
and supportive role, but it is the characteristics of network enable VCFs could
accumulate know-how from all kinds of the firms they funded. The VCFs’ network
like an established business network provides supplier contacts and market support tothe new entrants, so does the privilege access to a variety of managerial tools which
can be used to facilitate the product operations. In other words is that VCFs’
professional network short the path of the ventures to customers, suppliers,
supplementary financing and consultants.
Concern with the strategy roles, their highlight will be differed by the stage of theventure life cycle they choose to focus on. At early financing stage, the advice support
would concentrate on business plan and strategy development, on generalmanagement methods transfer (e.g. regarding marketing and sales as well as research

14and development) and on specialized knowledge (e.g. structuring of legal andcustomer acquisition) (cf. Kulicke (1993); Sapienza (1992); Sapienza and Gupta(1989); Wupperfeld (1994)). If the case is on later financing stage, then the strategic
advice would be given on the things like building strategic alliances, corporate
acquisitions or preparing an initial public offering.
Another admired research of the non-financial value-added subject was done byDavid Large and Steven Muegge in 2007, the paper called “Venture capitalists’non-financial value-added: an evaluation of the evidence and implications forresearch”. In this paper, they systematically review and analysis 20 previous
researches on the VC’s value adding issues, they sort of synthesized and integrated
literatures and then they draw an eight-category of value-adding inputs from that.
1. Legitimacy by which credibility, reputation, validation and certification can beobtained by the ventures from its association with the VCFs.
2. Outreach which is same as the benefits from networking mechanism, that theventures are able to have direct connections with the key external
stakeholders( customers, suppliers, financial partners) and get their commitment.
3. Recruiting activities, VCs will help to haunt the most talented managers andexperts to join the ventures.
4. Mandating activities, the VCs will help the ventures to set their key targets bysupervise the management team to solely focus on the objects or indicators thatare really matters.
5. Strategizing activities as we’ve discussed above
6. Mentoring activities, which compare with the strategizing activities, are morecasual. The senior managers can get support from the VCs with the more
flexibility. The VCs will spontaneously or volunteered to provide their wisdom onsome complex issues that the executive managers have to cope with in the highchanging environment.
7. Consulting activities, by contrast with the mentoring activities, which are probably
provided to the managers in the portfolio companies when they ask for assistance.
8. Operating activities, the VCs will involve in the day to day management e.g.
active planning, to complement the capability of the management team. However,I think this kind of value-adding is less happened than the others, because
normally the VCs only exercise the control rights rather than take any managerial
decisions and if they involve too much the cost will be a risk as well.

15

2.2.4 Exit
The exit stage as the last process probably is the most critical step for the developmentof the VC market. Though the succeeded exit, the return of their previous inputs canbe finally cashed out, and they will also gain the reputation on the competence thatthey could contribute to the ventures, even become more attractive or credible when
they gather new funds for the new rounds of investment. Normally, there are six waysof exiting available for the VCFs to choose: initial public offering (IPO), company
buyback, trade sales, secondary sale, liquidation, reorganization. However, regarding
to the chance of happening the secondary sale is quite little, cause there are few VCs
are willing to take over the stake from another VC investor (Gladstone 1988), and forthe reorganization since the VC’s share are still in the company, techniquely they
haven’t exit yet (Clement K. Wang & Valerie SIM, 2001), so in the following part I
won’t talk much about these two means of exit but focus on the other four channels.
IPO
IPO is short for initial public offering, which means that the first sale of stock by a
private company to the public (Investopedia). Exit via IPO allows the investees regain
the control back from the VCs, continually obtain capital for further expansion,increase the shareholder liquidity, and finally get an opportunity to operate in a whole
new level of business. For the VCs, the IPO provides the best return from investments
and adds to the reputation of the venture capital investor (Jain and Kini 1995, Lin
1996). By the meantime of its first transactions on the public exchange stock market,
the equity price will greatly exceed its initial value and the VCs are able to gain a lotof fortune when they could sale out their shares into the market, sometimes will beeven several years later than the original listing which is probably due to the US
legislation.
Company buyback
Company buyback is a way for the VCs to exit by selling its equity stake back to thefounders of the investee company (Clement K. Wang & Valerie SIM, 2001). This will
only occurs when the investee companies are not profitable enough to go the IPO but
still have extra cash or can borrow from banks to afford buyback activities from its
investors. Nevertheless, a company would rather to use their excess cash for enlarge
the business or invest in other promising projects than just buying their stakes. Henceapparently the return rates will be ordinary when compared with the harvest from the16

IPO process.
Trade sales
Trade sales conceived as the most likely exit mechanism where the buyer is typicallyan established larger company in the strategic purpose. Such kind of strategic buying
typically require a majority stake in the venture, thus the venture capitalists will not
only need to sell their own stocks but also need to persuade the portfolio company tosell part of their shares as well which are probably hard for the business owners toaccept. Some researches believe that through the strategic buying a high return can beachieved because the third party is willing to pay higher price than the ordinary
publics for the technologies and expertise they can gain from the purchasing since
they know better of the company’s business (Wright et al.1990 & Schilit 1991).
However, Bygrave and Timmons (1992) provide empirical evidence shows thatusually the less performed ventures will be acquired so the actual return issignificantly lower than an IPO gains.
Liquidation
Liquidation is the worst case could happen to the VCs, that means their portfolio
company is failed to survive in the market, there is no other way to exit anymore, they
can only to liquid the venture. It is meaningless if the VC continue to hold the shares
since the ventures can no longer make any profits.
Furthermore, the exit option doesn’t solely depend on the performance of the ventures
but also relate to the institutional and legal system so does the maturity levels of thestock market. No matter the IPOs, or company buybacks and strategic buying are all
subject to much regulation and legislations which will limit or complicate thedealings.

2.3 Background of venture capital in China
The following survey made by the China venture capital research institution (CVCRI)
in 2009, is based on the data from 402 venture-capital organizations, 261 of them are
the local operators, and the other 141 institutions have the overseas background,which is used to shed light on the present situation of China’s venture capital
investment during the year from 2003 to 2008.
17

2.3.1 Market size
Until the end of 2008, the total amount of capital which could be used to invest in themainland of china is about US$ 33.67 billion, it is almost as twice as the sum in 2007.
On average, US$191.96 million is under management per respondent which is morethan 1.55 times as the number in 2007.
Figure 1

Total Venture Capital Volume in 2003-2008(Source: CVCRI_China venture capital annual survey report, 2008)
During the whole year of 2008, US$14.90 billion of committed capital has been newly
raised, and in sum, 191 organizations finished their funds rising, and US$77.99
million per respondent on average which is the 65% of the amount in 2007. Another99 funds founded in 2008, but without revealing that if they have finished the rising,
the total capital will reach to US$19.34 billion as estimated, which haven’t beenaccounted into the newly raised funds.

18

Figure 2

Newly Raised Fund Volume in 2003-2008(Source: CVCRI_China venture capital annual survey report, 2008)

2.3.2 Characteristics of investment
2.3.2.1 Size of investment
In 2008, the size of investments being placed into 506 projects are US$4.97 billion, as
comparison with 2007, the size and quantity are both declined somehow.
Figure 3

The Volume and Number of Investment in 2003-2008(Source: CVCRI_China venture capital annual survey report, 2008)

19

The annual investment intensity shows that a 9.04% growth in 2008 than 2007 which
is US$9.82 million per project.
Figure 4

Investment Intensity of Institutions in 2003-2008(Source: CVCRI_China venture capital annual survey report, 2008)

2.3.2.2 Investment stages
The VCs prefer to fund firms that have established financials and cash flow, since thequality of their provided information can be better approved, the risks can be also
reduced.

2.3.2.3 Industry sectors
In the 2008, by the influence of the financial crisis and the expansion of domestic
demand policy, more and more the venture capitalists break through their usual ideas,
they do not solely focus on the high technologies anymore, but shift their target to thecounter-cyclical traditional industries. According to the statistic analysis, during 2008,
there are 501 projects have been financed by the VC, 119 of them are in theconventional sectors, which is in the top among the other industries.
On the other hand, energy and environment protection is a hot area for the VCs as
usual, since the continuously exhausted energy resources and economic pollutions isalways an urgent issue for the government. In 2008, 45 investment cases happened to
the “green” industry, mainly for the innovation of sustainable technologies, such as
renewable energies.

20

Figure 5

2008. The Distribution of the Industry Sectors(Source: CVCRI_China venture capital annual survey report, 2008)

2.3.3 Exits
Under the impact of the world financial crisis and worries about the economic
situations, in 2008, the world wide equity market suffered a sharply collapse, market
value shrink a lot which bring a serious lost to the investors. The depressions pull
down the finance functions of the capital market, the newly issued IPOs almost cometo the stand point. According to the statistic analysis, there are 146 projects exited in
2008, only 18 of them exit in the form of IPOs, one way of liquidation, on the other
hand, trade sales become the main quit channel occupying 75.32% of the cases.
Figure 6(Source: CVCRI_China venture capital annual survey report, 2008)
Among those 58 cases of trade sales, 41.48% of them are brought back by the original
shareholders, followed by the other institutions and acquisition management which is
22.41% and 13.79% respectively.

21

Figure 7(Source: CVCRI_China venture capital annual survey report, 2008)

2.3.4 Investors
Since 2008, many kinds of financial capital are allowed to involve in the equity
investment which greatly widen the financial channels of the local institutions and thegovernment guidance funds begin to show their effect on encouraging social capital to
be more actively committed to the promotion of science revolution. These two pulling
factors explains why funds in Chinese Yuan becoming so prevalent nowadays. In the2008, among those newly raised funds, 80% of them are in Chinese Yuan and thevalues equal to 22.97% of the total volume. Although, overseas capitals are still in thedominant position in the volume, as the mature of the VC market in China, more andmore out abroad organizations start to raise funds in Chinese Yuan as long as they can
get the operation allowance from the department of commerce.
Figure 8: The changing trend of the Venture Capital resources from the mainland China

22

Figure 9: The changing trend of annual newly raised VC resources in the mainland China

Figure 10: Overseas Venture Capital resources in 2008

Figure 11: The changing trend of annual newly raised Overseas VC resources(Source: CVCRI_China venture capital annual survey report, 2008)23

2.3.5 Geographic focus
As illustrated below, until the end of 2008, 82.96% of the venture capitals aregathering in Beijing, Shanghai, and Shenzhen those three areas. The VC in Beijing is
still in the leading place, but the difference is becoming smaller than 2007. And in
Shanghai, the percentage of their VC to the whole nation greatly shrinks by 12.7%
Figure 12

Regional Distribution of Venture Capital in 2006-2008(Source: CVCRI_China venture capital annual survey report, 2008)

2.4 Background of venture capital in America
2.4.1 Characteristics of Investment
2.4.1.1 Size of investment
Untill 2007 there are a gradual growth of the investment size in America. In total,
US$30.54 billion has been post into 4022 projects in 2007. However, same as in
China, the volume and deals are both decreased in 2008. For the 3980 projects, they
managed to raise US$27.96 billion funds.

24Figure 13
4500

4022
30.54

3743

4000
3500
2960

3000

3193

3117

30
27.96

26.44

25

22.94

21.99

2500

35

3980

20

19.16

2000

15

1500

10

1000
5

500
0

0

2003

2004

2005
Deals

2006

2007

2008

Volume(US$billion)

The Volume and Deals of Investment in 2003-2008(Source: PricewaterhouseCoopers/National Venture Capital Association Money TreeTM Report, Data: Thomson Reuters)

2.4.1.2 Investment stages
In America, dominantly they prefer to invest the companies in their expansion or later
development then followed by the early staged ones. And it become more and moreprevailing to fund early and later stages. However, the money they used to place in theearly stage is much less than they are likely to fund for the more matured companies.
Figure 14
14

12.12
11.25

11.37

12
9.64

10

9.56
8.61

9.05
8.61

10.66
10.37

9.51

8

4
2
0

5.75

5.7

6

3.87

3.49

0.49

0.34

2003

3.87
0.91

4.34
1.21

2004

2005

2006

Seed

Early Stage

Expansion

1.43

2007

5.35

1.58

2008

Later Stage

Investment Volume by Stage of Development in 2003-2008

25

Figure 15
1600

1382

1364

1400

1220

1200
1000

790

800

200

805

973 1014

0

2003

2004
Seed

479

374

249

221

208

1223
1202
1072

844

598

600
400

871

1106
994

1277
1199
1067

2005

2006

2007

Early Stage

Expansion

Later Stage

483

2008

Investment Deals by Stage of Development in 2003-2008(Source: PricewaterhouseCoopers/National Venture Capital Association Money TreeTM Report, Data: Thomson Reuters)

2.4.1.3 Industry Sectors
According to the industry data in 2008, there are 3980 projects have been financed by
the venture capital, 941 of them with US$5.03 billion inputs are made in the software
segment which is in the leading place. Meanwhile, Biotechnology, Energy andMedical device sectors are also quite competitive in the financing bids which sharedmost proportion of the funds in the venture capital markets as well.
Figure 16
Industry

BiotechBusiness

Computers/

ConsumerElectronics/

Financial

Healthcare

Products &Peripherals

Products

Instrumentation

Services

Services

ServiceIndustrial/Energy

IT&
Services

Volume

4.33

0.48

0.45

0.44

0.58

0.51

0.18

4.66

1.82

Deals

497

122

75

106

93

73

53

357

268

Industry

Media

Medical

Networking

Other

Retailing/

Semiconductors

SoftwareTelecommunications

Total

Entertainm

Devices and&ent

Equipment

Equipment

1.82

3.34

0.79

0.02

0.23

1.66

5.03

1.63

27.96

410

384

112

7

39

196

941

247

3980

(US$billion)

Volume&Distribution(US$billion)
Deals

2008. The Distribution of the Industry Sectors(Source: PricewaterhouseCoopers/National Venture Capital Association Money TreeTM Report, Data: Thomson Reuters)

26

2.4.2 Geographic focus
As below, it shows the top 10 regional investments of venture capital in the third
quarter of 2009 in America. Obviously, the Silicon Valley regions which include
Northern California, bay area and coastline are able to gather US$2234 million,
basically equaling to 46.46% of the total investments into 210 deals. New England isin the second place which includes Maine, New Hampshire, Vermont, Massachusetts,
Rhode Island, and parts of Connecticut but excluding Fairfield County. In those areas,
US$559 million has been successfully raised for the 86 projects. For the rest of theregions, they share the left amount of investments fair evenly as illustrated in thechart.
Figure 17
2500

250

2234
210

2000

200
150

1500
1000
500
0

100

55986

n
o
c
i
l
i
S

y
e
l
l
a
V

d
n
a
l
g
n
E
w
e
N

25150

242
30

239
33

236
32

21333

198
23

167
21

o
r
t
e
M
Y
N

t
s
e
w
h
t
r
o
N

A
L

o
g
e
i
D
n
a
S

t
s
a
e
h
t
u
o
S

s
a
x
e
T

x
e
l
p
o
r
t
e
M
/
C
D

Volume(US$million)

50
16140

t
s
e
w
d
i
M

0

Deals

Regional Distribution of Venture Capital in Q3 2009
(Source: PricewaterhouseCoopers/National Venture Capital Association Money TreeTM Report, Data: Thomson Reuters)

2.5 The Hypothesis Development
In the first beginning, we have to clear that the meaning of the venture capital in china.
In the Western country, venture capital is generally perceived as the private equity thatmainly focus on funding the firms that in the small, young position with great growthpotential where huge return could be achieved, on the other hand, the private equity
that used to make investment in later stage or turnaround investments do not accountin the venture capital. However, the border is not that distinct in China, so in order toavoid the confusion, in this paper the broader conception will be more fit, including
both early and late stage investment. Today, there are mainly four types of venture27

capital firms operating in China: foreign firms, government backed firms, university
backed firms, and corporate firms. Of course, the firms with the different backgroundwill act with their unique in the fund rising and investment strategies, but since it is
not the focus of this paper, so I won’t talk about it here. Among them, the foreign
venture capital firms are the most active one. Although the venture capitalists follow
the similar professional standards to the U.S. VCs, it is not enough to succeed, so they
have to adapt themselves to a lot of differences. For that, the institutional theory plays
a crucial role. The institutional stability and predictability can lower the high risk ofprivate equity and venture capital investing (Bruton et al., 2004). In more mature
market, the law and regulation framework are better built, and the VCs are able to relyon them to conduct their activities like the due diligence, monitoring, and professional
assistance. In china, the government still has a dominant role in the economy andstate-owned enterprises still hold the main power in the financial services, power, andtelecommunications. So the private enterprises still suffer a lot of constraint and extra
charges by the government in their concern of political or economic interests. In thenext part, I will further discuss the institutional and cultural influence on the behaviorof the VCs in china.

2.5.1 Selection process
The VCs in China have to build relationship with the government and large
state-owned enterprises (SOEs), in order to find good investment opportunities insteadof rely on the investigation of the proposals (Bruton et al., 2004). The VCs have tospend more time and energy to build their own relation with the local government,
however, they can’t over depend on such political connections since the people who incharge will change and the policies will be inconstant as well. The key reason why the
VCs are hard to assess and evaluate the companies’ business by looking at theirfinancial report is that the huge difference on the accounting mechanisms. First, theaccounting rules in China are aim to manage production not to value assets. So things
like property and inventory may be not fully valued and receivables are prone to be
not realistic. Second, the accounting information is hard to access for the outsiders in
China not like the international regulars that the investors and creditors are theprimary users of the information. Third, even you finally got the related reports,
whereas, the Chinese statements tend to record full of operational and production data
and accurate financial data are normally missing (Bruton et al., 2004). Therefore, thefinancial reports can provide limited help to the VCs when they make their investment
28

decisions.
Another crucial characteristic in China is the regionalism. To some extent, China is
more like EU than a unified country, for the reason that each region, province has
their own specials and the goods crossing provincial borders will face a highprotectionist about 46% tariff-equivalent (Bruton et al., 2001). And in China, they
prefer the decentralized decision-making, so the powers are distributed from thecentral government to provincial and local governments. The province and local
governments are entitled with great self-governance power and there is no clear
authority structure which lefts room for the happen of abuse. Besides, the laws andregulations can be varied greatly among the provinces as well which complex thebusiness transaction in a great deal (Bruton et al., 2001). The VCs must spend a lot oftime to study and interpret each of them if they shift their focus from one place toanother. Luckily, things in the western countries will be much easier where the law arestandardized and better established. When comparing with the selection process in
U.S., I draw the hypothesis as follow:
H1: The venture capitalists in China take more government related policies into
account than the VCs in U.S. when they make the investment decisions
H2: The geography of their funded ventures in China is less diversified than in
U.S.

2.5.2 Structure and monitoring
One tricky part at here is that the sanctions of contracts are not that as strong as they
do in the western countries. Even the contract has already been signed, thenegotiations can be still in the way and significant changes can be made after that.
Moreover, be influenced by the social rules, while business transactions in the Westare typically secured by carefully worded contracts that are regulated with a country’s
law and legislation, China’s legal system provides relatively little protection whenthings go wrong. Therefore, Chinese VCs rely more on social responsibilities thatcome with a well developed ‘guanxi’ relationship (Kuntara & Thomas, 2007).
And unlike the prevailing of the convertible securities in the USA and UK markets(Thompson and Wright 1991, Bascha and Walz 2001b, Cumming 2002, Botazzi and
Da Rin 2002, Sehwienbauer 2002), due to the legal restrictions of the corporate law inChina, the convertible securities can not function as well as they can do in the US. For
29

the monitoring activities, in the U.S., the VCs will typically arrange a membership on
the firm’s board of directors in order to keep eye on them. However, in China VCs are
not necessarily granted a board seat (Low,2002), the board are occupied by a larger
proportion of internal members and even they got the seat, the power of outsider
directors can be weak, comparatively they have little to say on the firm, because thecorporate governance is just in its beginning phase. So the reliable accurate
information they need to do the monitoring, can only be obtained when they develop ahigh level of trust with the entrepreneurs. When comparing with the Structure andMonitoring process in U.S., I draw the hypothesis as follow:
H3: Convertible securities are used less frequently in China than they do in U.S.
H4: Venture capitalists in China use less contractual control rights than those in
U.S.
H5: Problems in monitoring portfolio companies related to management quality
and behavior are more severe in China than in U.S.

2.5.3 Value-adding
In the U.S., the advice can be quite direct, but in China, “face” or respect is so
important that the advice can only be accepted by the managers when their face can be
maintained (Bruton et al., 2001). And basically speaking, the Chinese enterprises areless willing the intervention of VCs; they prefer to hold full power in hand which will
difficult the value-adding process obviously (Bruton et al., 2001). As noted by
Rosenstein (1988) and Gorman and Sahlman (1989) “VCs directly help and influence
the ventures through personal involvement at board meetings and other informalinteractions with the CEOs”. Accordingly, it is reasonable to measure the VCs’
value-adding performance with the frequency of their face-to-face interaction with theCEOs or the other management team members. So the hypothesis I draw from theseare:
H6: The face-to –face interaction between the venture capitalists and the venture
CEO are fewer than it could happen in U.S.
H7: The achievements from the value-added process in China are less abundantas they are in U.S.

2.5.4 Exit
One obstacle for the exit of VCFs is that China’s Shenzhen and Shanghai stock30

exchange market are still dominated by the SOEs. Apparently the government policies
are still prone to benefit them with more privilege and convenience. Meanwhile since
the liquidity and the legal protection are both weak, so the path to the IPOs and thecaptured return rate in the end may not go in line with the expectation of the VCs. For
instance, there is a regulation called as China’s State Administration of Foreign
Exchange in early 2005 restricts the foreign capital flow in and out of China. And
unlike in the U.S., the high-tech companies are granted with more lax listing
requirements, but the A-share markets in China has no such prerogative for the
VC-backed firms (Bruton et al., 2001). With such highly controlled regulations, theVCs can barely earn a fabulous wealth as they can do in the U.S. When comparing
with the Exit process in U.S., I draw the hypothesis as follow:
H8: The venture capitalists in China prefer less IPO as their exit strategy thanthey do in U.S.

31

3. Research Methodology
In this chapter, I will state my research methodologies including why and how I apply
them in this paper. Besides, the design logic and conduct process of my questionnaire
based research are going to be discussed here as well, in order to prove the validity
and reliability of the data.

3.1 Research strategy
3.1.1 Research philosophy
Saunders, Lewis and Thornhill once introduced a model called “research process‘onion’” in their book of “Research Methods for Business Students”. It reveals a clear
procedure of how to decide your research methodologies. According to their theories,that your thinking of the world directly influences the choice of your research
approaches, then you are able to be further detailed to the research strategies and yourdata collection methods. Therefore, in the beginning of this chapter, I will start with
the introduction of my view of philosophical underpinnings. There are two typical
way to view the world. Generally speaking, one group is positivist another isinterpretist. For the positivists, the world is external and objective, and observer is
independent, they rely on the measurable numbers than the subjective ideas. So
normally, they will try to reduce phenomena to the simplest elements in order toformulate hypotheses and then to test them. On the other hand, for the interpretists,
the world is socially constructed and subjective, observer is part of what is observed
and they believe that science is driven by human’s interests. Basically, they will try tounderstand what is happening there, examining each situation and finally develop
their ideas through induction of data.
Back to this research, my interpretation of the facts will guide me to the constructionof my methodology platform. The purpose of the thesis is to explore a general truth
which is to figure out the investment patterns differences of the venture capitalists in
China and America. Thus, it should end up with the same results no matter whoever
conducts the study and tests. However, from the point of view of the interpretists, thereality comes from the human interaction and interpretation (Johansson and Maj,
1993), then which appears not that appropriate than the positivistic perspective when
it is applied to this thesis.

32

3.1.2 Research approach
By the words of Mcgrath (1982), Remenyi, Williams, Mondy, & Swartz (1998)
multi-method approach could balance the inherent flaws of each individual method
which will enable to achieve higher level of generalizability and credibility of theresults. In most of the scientific areas, we often refer to the two broad methods ofreasoning as the deductive and inductive approaches. Deductive approach works fromthe “general” to the “specific” which is also called a “top-down” approach. It Is
usually described as moving from a existing theory to precise hypothesis and bycollecting observations we would end up to accept or reject our hypothesis and further
on to confirm or refuse the original theory. This method is quite common to apply
some mathematical theorem, particularly statistic theories for the examinations.
Inductive approach on the other hand works from a “bottom-up” method in looking
for patterns, regularities that begins with the observations and ends with thegeneration of new theories (Bryman and Bell, 2005).
For this study, in the initial place I am able to gain some pre-understandings on the
behavior patterns of the VCs from the existing theories. For the next step, I would
likely to conclude my hypothesis from those general theories and after testing on theempirical data I am in hope to identify some sort of similarities and differences
between the Chinese and American VCs. This type of research method goes more inline with the deductive approach. However, part of my research purpose is to find out
some new patterns of the venture capitalists in China and United States which has
never been revealed before. In this case, I have to rely on my collected data to develop
and sum up some phenomenon or theories of my own. Therefore, deductive approach
won’t be the only method applied in this thesis. Inductive approach would be usedalternatively in order to higher the accuracy and objectivity of the analysis.
When conducting a study in social science there are two separate methods: qualitativeand quantitative method can be used. Qualitative research is a more subjectively
conducted research, in which the research allows the researchers to introduce theirown partialities to help form a more complete picture (Brendan McGuigan, 2010).
Qualitative research may be more suitable for the cases where the focus of a study isunclear in the first beginning and it may become more apparent as the research goesby. Consequently, the researcher has to determine what data they collected isimportant for the analysis and what isn’t. Qualitative researchers are interested in33

answering “why” questions or taking insight into how people make sense of theirexperience, so the pure numerical data won’t be enough to cope with thesociohistoical complexity. Often the data of qualitative research are collected byinterviews, observation, or diary methods and which describe stories, pictures or
expressions of feelings and emotions. On the other hand, “quantitative research ismore ideal to test hypotheses, and for hard sciences trying to answer specificquestions” (Brendan McGuigan, 2010). The researchers generally know exactly what
they are looking for before the research begins. So they will set up some controls or
remove the factors that might distract the focus of their research. And the study items
can be easily measured or counted and modeled. For the quantitative researchers theyplay much less emotional involvement into the results while the objectivity is theprinciple of them. Distinguishing it from the qualitative method, the empirical data isnormally gathered by the means of surveys or questionnaires and the outputs of it area series of numbers which will be further analyzed by the mathematical, particularly
the statistical tests.
The choice of these two methods should largely depend on the research questions andthe purpose of the study (Holme and Solvang, 1997). My main interest of doing thisthesis is to find out the behavior differences between the American VCs and Chinese
VCs which relies heavily on a mathematical measurement that will enable me toidentify some statistic relationship among the VCs and my hypothesis are going to betested also. Hence, I have chosen the quantitative approach, as I feel it is more
appropriately in line with these characteristics. Moreover, a prevailing idea is that
objectivism and deductivism often characterize a quantitative while subjectivism andinductivism would be likely to shape a qualitative methodology (Bryman and Bell,2005). As I addressed in the first beginning of this chapter, I am more objectivism anddeductivism type, so that further strengthens my choice of the quantitative method forthis piece of work.

3.2 The design of questionnaireFirst of all, I have to clarify the type of my research questions. There are two types ofquestions which are quite fit to the purpose of this study. One is personal factual
questions that ask the respondents to provide personal information, such as age,occupation, marital status and so on. This kind of question also includes questions
about behavior. Such factual questions may mainly rely on the memories of34

respondents. Another type of questions I employed for my most parts of thequestionnaires is the questions about attitudes. And the Likert scale is one of the mostfrequently encountered formats for measuring attitudes (Alan Bryman, 2008). By thewords of Alan, “Likert scale is essentially a multiple-indicator or multiple-item
measure of a set of attitudes relating to a particular area.” The Likert scale is used tomeasure the intensity of feelings about a certain issue or theme. The respondents will
be asked to rate their level of agreement with a series of statements or so called items.
Normally, the format for indicating level of agreement is a 5-point scale or 7-point
scale which going from ‘strongly agree’ to ‘strongly disagree’. The higher scores they
are rating, the more positive feelings they are showing. The 7-point scaled attitude
questions are the main composition in my questionnaire.
Based on the previous study on the theoretical framework, I got to know the fourstages of the investment cycle, so my questionnaire is also going to follow theprocedure of selection; structure and monitoring; value-adding; exit process.
Furthermore, since the responses’ personal experience will great influence theiropinions on the questions so in the beginning of the questionnaire, I also put a part ofpersonal profile to have a brief understanding of their experience and positions in theventure capital market.

3.2.1Selection Questions
Q1, “Please indicate a seven –point scale on the importance of the following
information sources during your investment selection process”, is about the criteria
they would like to use to do the investment selections. The items I list there, isbasically from the studies made by Manigart et al (1998). They found out 15 the mostimportant sources of information in the valuation process. In order to be better fit mypurpose of study, by the concern of my first hypothesis “The venture capitalists in
China take more government related policies into account than the VCs in U.S. when
they make the investment decisions” so I have deleted parts of their items and added
some new resources instead. Like Government industry statistics& information
services; Extent and availability of receiving government support.
Q2, “How would you perceive the geographic position of your firms’ venture capital
investments?” is made for the test of H2.

35

3.2.2 Structure and Monitoring Questions
Q3, “What are your preferred financial vehicles” is aim to test H3. And in order to test
H4, about the strict and usefulness of contract covenants, I ask the Q4, Q5&Q6. For
the covenants I list in the Q6, is referring to the studies made by Bienz et al (2006).
They have done a quite detailed empirical analysis on the evolution of control rights
in the venture capital contracts from Germany. So I just have chosen few of the mainand common used covenants from their research in order to control the size of mystudy, otherwise it might be too annoyed for the respondents to answer. And I havealso done some short explanations for each items here to ease their answer progress,
since the way they name the covenants could be great different between countries. For
the H5, to figure out if Chinese venture capitalists confront more trouble than theAmerican VCs in the monitoring process, Q7 provides a general evaluation for thisconjecture. Besides, I try to test two kinds of problems here that the VCs might suffer.
Q8&Q9 is to check to what extant they have the problems to gain the information
recourses that are needed to the monitoring. Q10 is on the concern of disputation withthe managers, how common it would be.

3.2.3 Value-adding Questions
In this part, Q11 & Q12 is asking something about the interaction density between the
VCs and CEOs which is what need to be discussed in H6. The more importantmission here is the test of H7, to see if the achievements from the value-added process
in China are less abundant as they are in U.S. In the first place, I refer to the article“the value adding role of V2C” written by Jungman et al (2003). In their papers, they
identified 9 categories of the most significant problems that the CEOs in a young firm
would suffer. And in the Q13, I used part of their results to check how would likelythat the VCs will help to solve these problems for the CEOs. Meantime, by theinspiration of the works done by Harry J. Sapienza et al (1996) they’ve done thesimilar test on the effectiveness of the value-adding roles of the VCs. I believe it also
works for my study, so I put Q14 in my questionnaire as well to test the amount ofachievements that could be gain from the value-adding process by the VCs.

3.2.4 Exit Questions
The last two questions in the questionnaire are to check for the H8, the VCs are asked36

to estimate the percentage of each their used exit method from their historicalexperience. The full version of questionnaire is attached in the appendix, for detailed
the questions are available to refer there.

3.3 Selection of samples
For the purpose of this study, my target groups are quite clear. They are the venture
capitalists in these two countries. But do I need to set some selection criteria on theiryears of experience, positions, investment industries or the size of their companies.
Later, I decide not do that, since in this paper I just trying to achieve a general patternof how do the VCs behavior in China and American not to explore the behavior
pattern of certain type of VCs in these two countries. Therefore, I believe thediversified background of my selected respondents is appropriate for this study. There
are so many venture capital firms and VCs in the world, how could I reach them thatis an issue. Things in American are much easier than in China. They have the National
Venture Capital Association, on its website, you can find full list of their membership
including their homepage. And on most of the companies’ homepage you can find thecontact information of their investment team. Moreover, in order to speed up myresearch pace, I am prone to randomly select 4 to 5 person from each company if I
just choose one from each company would be a time consuming project. Sine myquestionnaire is designed on the personally level, not on the basement of the company
I think it would be ok to have more than one person from each company.
On the other hand, to settle down my target groups in China is a long and roughprocess for me. Though, they also have the Chinese Venture Capital Association, but
the information you can gain from them is so few, maybe just the name of thecompany. For some of the companies, you can find the link of their homepage, butalmost none of them have post the contact information of their investment team. To
gather such information in China you have to pay about 2080 RMB to buy themembership directory. Therefore, in this case, I am kind of give up the idea to search
the venture capital companies through the CVCA, instead, by looking at the appendix
of “China Venture Capital Annual Survey Report in 2008” I found a company list for
their works. At least, those venture companies are ordered under their locations. From
this list, I can see that the venture firms are the most in Beijing, Shanghai, andShenzhen, whereas Shanghai is the nearest place to my hometown Wuhan, so I decide
to make my focus at there and so does my hometown Wuhan. The venture capital
37

industry in one city is probably with the highest developing level in China and theother can represent the more usual and ordinary state. I suppose the results come fromthese two cities together would be able to show a picture of venture capital market in
China. So my target companies are either come from that list or by searching in the
Google with the keywords like “the venture capital firms in Shanghai/ Wuhan”.

3.4 Data collection
In the first place, I created a web-based survey by the LimeSurvey Documentation. It
is the only way I can deliver the questionnaires to the U.S. VCs. The LimeSurvey
software is quite smart and easy to use. It allows you to send a batch of invitations toyour respondents at one time, and it can help you to track the state of their replications.
You could have a clear view of if they have answered the survey or not on your pageof survey, and the reminding letters can be sent out at any time you like to thosepeople who haven’t submitted the answers. In the beginning, I also try to do the samething at China. However, for one thing is that there is too few email address I can findthrough their homepage, on the other hand is that even I finally got some VCs’ email
address by the introduction of my parents’ friends, the response rate is almost zero. So
I have no choice but to change my policies at China, in the end, I just went to thecompanies to ask them if they could help me with the questionnaires. I can find mostof their address by the internet but things turn out that not all the information on theinternet is updated one. At Shanghai, I found out that 4 companies I intended to visit
have already moved away. And another barrier for me to do this survey at China isthat not all the people in the investment group would happen to be at office or they are
free to do the questionnaire. Of course, I have already prepared that there must be
some people off the office when I go to visit them but the reality is more serious than I
expected. For 3 to 4 companies there was only one to two people left in the office, andnone of the companies was actually with more than 50% team members at the office.
One more company was on the meeting at the time I arrived, so in total, I successfully
gathered 42 answers from the 15 companies apart from the 5 failed cases, 5 from
Wuhan and 10 from Shanghai. For the results I achieved from American is a little lessthan in China, after 3 weeks, I just got 23 replies out of the 215 invitations. The low
response rate (10.7%) could due to many reasons, according to the emails they sent tome I sort of understand that reasons are: “who are not interested”, “who are justentering venture capital market they are not confident to give any valuable
information”, “Venture capital investments are not their main business of the38

company”. Another reason I am guessing is because my questionnaire is a little bit toolong or ambiguous for them to answer, next time hopefully I can improve my designof the questionnaire to engage more people to participate.

Below is a description of

the features of the venture capital companies where the respondents work for.

TABLE 1 Characteristics of the Venture Capital Firms in This Study
Investment stage

CapitalInvestment sector

Current numbersof portfolios

Early stage$$1 B

IT, Life Sciences, Cleantech

542

Growth/late stage$$450 M

IT

31

3

Early/late stage$$700 M

Healthcare, Life Sciences

22

4

Seed stage$$700 M

Medical device, IT, Data storage,
Disaster recovery, Telecommunication,
Healthcare.

30

5

Early/late stage$$500 M

Virginia-based
Sciences

30

6

Early stage$$1.2 B

IT, Healthcare

27

7

Early stage$$1.4 BLife Sciences, IT, Energy materials

74

8

Early/growth stage$350 M

High-growth technology sectors

40

9Seed /late stage$$600 M

Energy technologies, Communication
services, Digital media, Software

34

10

Seed / late stage$$57 M

Health care

11

11

Early stage$$70 M

Digital media, Consumer marketing
mobile services

10

12

Expansion/late stage $$1 B

IT

100

13

Early /growth stage $$325 M

Technology enabled services

70

14

Early stage

Internet, Healthcare, Media, Business,
Financial services

11

15

Early /growth stage $$500 M

Technology Business28

16

Early stage$$875 M

IT, Physical services

21

17

Early stage$$600 M

Next-generation energy technology

18

18

Growth /late stage$$2.2 B

Technology Business27

19

Early stage$$140 M

Communication
networking,
Semiconductors software, Technology
enabled services

19

20

Beyond early stages $$1.1 B

Media, Communications

18

Photoelectron, Biological medicine

20

IT, Biological medicine, New material

20

High- technology

16

America(20)
1

$$2 B

China(10)1Growth stage$$$40 M2

Growth stage$$183 M

3

Early /growth stage $$25 M

technology,

Life

39

4

Early /growth stage $$500 M

Internet, Consumer
Healthcare services

5

Early stage$$114 M

Technology enabled services

15

6Growth stage$$400 M

New energy, Communicating, Medical
devices

6

7

Early/expansion
stage$$500 M

Technology
industry

Traditional

68Growth stage$$260 M

Educational, Digital and entertainment
industry24

9All stages$$300 M

Healthcare, Cleantech, IT,
materials, Consumer retails

New

12

10

Early/expansion
stage$$150 M

Digital media, Consumer, Technology
sectors7

based

retails,

&

IT,

24

* Another 5 companies in China, participated in the survey, haven’t got a valid homepage yet.

3.5 Limitation, Validity and reliability of the Data
The first primary limitation is rooted from the impairment of self-reported
questionnaire itself. This type of questionnaire is done by the respondents themselves
without any help and extra explanation of the investigator, so the respondents can only
answer the questions by their understanding. One of the biggest problem come alongwith the self-reported questionnaire is that the quality and truthfulness of theiranswers can never be hundred percent approved, since the results could be easily
influenced by their moods and conditions of the day. Another limitation of myreceived data is coming from the culture difference between the two countries. The
fear of losing face is a common phenomenon in China, because of that they are likely
to withhold unfavorable information from the outsiders (Kuntara & Thomas, 2007).
So there is a possibility that the Chinese VCs would exaggerate the positive effects
but to avoid mentioning negative results. When comparing with the American VCs,
normally they are less willing to share the bad news with the others especially theoutsiders if concerning which will lead to the damage of their fame and questioning of
their ability.
Additional concern here is about the languages. First I design the questionnaire in
English, since it is not my mother tongue I am a little worried about my expression
here. But after a few times revise by the help with my supervisor and other people
who are really good at English, I consider it is not a big problem anymore. However,another problem is arisen since I have to translate the questionnaire into Chinese. For
some terminology words you can not translate them just words by words, it could be a40huge change when it in Chinese. And especially for one question about the covenantsin the contracts I am not even for sure if they are using it or not, since the corporate
laws in china are far behind the construction in American, the contracts covenants
might be great different within the two countries. Therefore, before I start to send out
the questionnaires I have done 3 tested questionnaires in China to check if thecontents in the questionnaire are matching with what they are doing at the practicalwork. And since I’ve got all positive feedbacks then I feel free to send them out atbatches.
One more ambiguous thing is that the way I sent out my questionnaire is different
between American and China. In American I’ve done the web-based survey, but in
China I have to deliver it by person so I got chance to meet and talk with myrespondents. In order to make sure that the questionnaires can be done under equal
conditions I didn’t talk much with my respondents in China to avoid the possible
influence on their answers. And I didn’t ask any extra questions beyond thequestionnaires as well, because I don’t want to blur my analysis from the data. In sum,
I do have tried to keep the objective and validity of my collected data. I believe it
would bring me some valuable results after the statistic analysis.

41

4. Empirical Findings
This chapter mainly contains the empirical results from the statistic analysis on myquestionnaire data. A description on each hypothesis test throughout the four
investment stages will be made and a short discuss will be followed after that.
TABLE 2 VCs’ profile in This Study

America(22) China(42)
Mean
Mean
Years of experience
12.18
4.81
Number of portfolios
42.27
5.36
Number of boards
7.77
2.48
Variable

From the table 2 of the respondents’ profile, it is easy to tell that the American VCs inthis study are more experienced players in the venture capital market, no matter fromthe years they are working in this industry or the size of investment business, which isfor certain will lead to the differences of their behavior patterns excepting theinfluence of the culture different. However, since the focus of this paper is not about
the factors how to shape their behavior habits, so I won’t go further on this issue, thetable 2 here together with the table 1 is just to help us have a first impression about
who the VCs are and which groups of people they can represent in the venture capital
market.

4.1 Tests for the Investment Selection Hypothesis
4.1.1 Test for Hypothesis 1
Q. Please indicate a seven-point scale on the importance of the following information
sources during your investment selection process. From irrelevant (1) to extremely
important (7).

42

TABLE 3 Information sources Tests for the selection stage

My own due diligence report
Overall coherence of business plan*
My judgment of the firm’s competitive advantage***
My judgment of the firm’s potential earning growthBalance sheet and profit and loss statements***
Documented track record of management team
My own assessment of management teams capabilities**
Due diligence by accounting /consulting firms***
Product/technical/marketing information
Interviews with entrepreneurs
Proposed exit timing and method***
Government industry statistics & information services***Availability or extent of receiving government support***News from other venture capitalists**
Financial press& Trade Journals***

America
Mean SD

China
Mean SD

6.59
5.95
6.45
5.91
5.50
5.36
6.36
5.09
5.09
5.36
5.41
2.91
2.73
4.77
4.18

6.76
5.45
5.14
5.83
6.31
5.21
5.81
6.24
4.98
5.17
6.19
4.05
4.81
4.05
2.98

0.67
0.38
0.67
0.87
1.14
0.66
0.79
1.23
0.87
1.22
0.73
0.75
0.63
0.97
0.91

0.43
1.27
1.14
1.17
0.68
1.14
0.99
1.01
1.41
1.32
0.74
1.41
1.17
1.13
0.90

Measured on a scale from 1 “irrelevant” to 7 “extremely important”
Significant different between countries: *p<0.1, **p<0.05, ***p<0.01, two-tailed tests.

I take the Independent Samples T-test in the Table 3 to check if there are significant
differences on the usage of various information resources in the selecting phase for
the VCs in the America and China. From the achieved results above, greatsdifferences do occur as the previous expectation including the H1 which is saying theventure capitalists in China take more government related policies into account thanthe VCs in U.S. when they make the investment decisions. The evidences are thesmall p-values in the check of items of Government industry statistics & information
services and Availability or extent of receiving government support. In American, theratings for these two sources are quite low, comparing to the other information they
are likely to refer. On the other hand, although, the rating for ‘government provided
resources’ from the Chinese VCs are not as high as the most other business,management or financial resources, it do matter more than it does in the U.S.
especially when concern to the possibility of getting government support.
It seems that the top 3 important information for the valuation process in America is
my own due diligence report (Mean: 6.59), followed by my judgment of the firm’s
competitive advantage (6.45) and my own assessment of management teams
capabilities (6.36). Nevertheless, there is some thing quite interesting here for the43

Chinese side. Same with Americans, their due diligence report is the most useful one,however, their following rankings are balance sheet and profit and loss statements(6.31) and Due diligence by accounting/ consulting firms (6.24). That almost iscontrary with the theoretical inference. As I stated in the introductions of Chinese
venture capital markets, the financial reports are ruled in the different way with thewestern sheets, and the accuracy and availability of the reports are also under doubted.
However, the Chinese VCs still rely on those papers a lot more than the otherresources. For one thing, it might be influenced by their traditions, since the Chinese
use to refer numeralized information when they are trying to explain the fact of a story.
For another, it might because the Chinese venture capital market is still in theemerging phases, so by comparing with the other information resources the usage ofaccounting and other financial data is more matured developed.

4.1.2 Test for Hypothesis 2
Q. How would you perceive the geographic position of your investments? Estimate
the percentage of your investments made in the different areas.
TABLE 4 Geographic position Means

America

China

Variable

Mean

Mean

Local
Regional
National
International

28.41%
45.23%
22.27%
4.09%

80.83%
15.71%
3.45%
0.00%

The Table 4 indicates the geographic positions in the two countries. The H2 predicted that thegeography of their investments in China is more centralized than in U.S. Thisprediction is strongly supported by the survey which can be shown on the averaged
proportions of each region. Apparently the funded ventures are more widely spreadwith 28.41% of the cases within the local city, 45.23% outside the city but it still inthe same regional area, another 22.27% happens to the other regions but still in thedomestic area and the left 4.09% funded on the international business. Unlike in
America, 80.83% of the cases in China preferred to be made in the same city, which isquite consistent with the hypothesis.

4.2 Tests for Structure and Monitoring Hypothesis
4.2.1 Test for Hypothesis 3
44

Q. What are your preferred financial vehicles?
TABLE 5 Financial vehicles Tests

Variable

America
Mean SD

China
Mean SD

Common equity
Straight debt***
Preferred equity***
Convertible preferred equity**
Convertible debt

5.71
4.29
6.62
6.48
4.55

5.81
1.74
4.52
5.26
4.12

1.19
1.88
0.50
0.60
1.40

1.61
1.91
1.86
2.14
2.51

Measured on a scale from 1 “very uncommon” to 7 “very common”
Significant different between countries: *p<0.1, **p<0.05, ***p<0.01, two-tailed tests.

Table 5 indicates that straight equity financing is ranked as the most important
instrument in China, and the convertible securities play a higher role than I predictedin the H3 (Convertible securities are used less frequently in China than they do inU.S.), for which there is limited evidence to support that. Instead, there is aconsiderable difference on the vehicles of straight debt and preferred equity. In
America, they employ significant more than in China, which probably could be a
proof that the Chinese VCs are prone to have direct equity ownership than thein-direct control rights.

4.2.2 Test for Hypothesis 4
Q. How common is it for you to use the following covenants in your contracts withthe entrepreneurs?
TABLE 6 Usages of Covenants Tests

VC Voting Majority***
Required Decision Majority
Cash-Flow Rights
Structural Veto Rights
Liquidation Rights***
Anti-Dilution protection***Drag Along***
Take Along***
Founder Vesting***
Anti-competition Clauses***America

China

Mean SD

Mean SD

5.81
5.14
5.10
5.38
6.14
6.48
6.62
6.38
5.29
6.48

4.19
5.21
4.98
5.14
4.81
3.71
3.38
4.05
3.60
4.81

0.93
0.85
0.72
0.92
0.79
0.60
0.59
0.59
0.78
0.60

1.71
1.57
1.41
1.87
1.29
1.92
1.72
2.02
1.68
2.03

Measured on a scale from 1 “very uncommon” to 7 “very common”
Significant different between countries: *p<0.1, **p<0.05, ***p<0.01, two-tailed tests.

45

In order to test my fourth hypothesis that Venture capitalists in China use lesscontractual control rights than those in U.S. I want to figure out the constraining
power of the contracts in the first place. From the previous paper, I know that therenegotiation would like to happen in China even the contracts have been signed, butby the results from the survey, it seems that the renegotiation is occurring as well in
America when do the T-test by comparing their means the p-value equals to 0.231, so
there is not much differences between the two countries and also for the contracts
durations, both countries prefer to sign a 4 to10 years contracts.
In the Table 6 the most covenants attached with certain type of control rights havebeen tested. By looking at the average ratings from the VCs, except the common
sense on the usage of required decision majority, obviously the Chinese VCs are lesslikely to employ the covenants to secure their influences on the portfolio companies.
That is consistent with the anticipation of H4. And for the American VCs, Drag Along,
Anti-Dilution protection as well as Anti-competition Clauses are considered the mostimportant rights.

4.2.3 Test for Hypothesis 5
Q. How would you rate the problems in processing the following resources, andwould you have disputation with the managers, on which matters the disputations
are more likely to happen?
TABLE 7 Monitoring problems Tests

To get monthly accounting information***To timely receive reports from the management team***
To gain valuable information from the homepage
To communicate with the managers
Disputations on:
Strategy***
Operations***
Marketing***
Investments
Acquisitions
Equity dilution***America

China

Mean SD

Mean SD

4.68
4.45
4.45
2.50

1.00
1.22
0.80
1.37

2.24
1.57
4.29
2.83

1.51
0.80
2.27
2.04

3.81
3.76
4.62
3.14
3.33
4.52

1.50
1.34
0.81
1.06
1.11
0.93

2.60
2.71
2.86
3.40
3.52
2.86

1.21
0.89
0.81
1.04
0.94
1.18

Measured on a scale from 1 “No problem at all” to 7 “Many problems”; 1 “Very uncommon” to 7
“Very common”. Significant different between countries: *p<0.1, **p<0.05, ***p<0.01,
two-tailed tests.
46

As I want to check if the problems in monitoring portfolio companies are more severe
In China, by the ratings on the overall degree of their suffered problems, I got asignificant p-value to prove the consistence with this idea. By the test for ranking themonitoring used information, in American, they more rely on the accounting andmanagement reports following by the communication with the managers. Similarly, in
China the rankings for management reports are slightly higher than the accounting
information, and the communication with the managers is in the third place. However,in the following tests on the factors which cause the problems in the Table 7, I’ve got
significant lower rates form the Chinese side. They suffer almost none problems totimely get the accounting information and reports from the management team, slightly
more troubles to communicate with the managers. The only severe difficulties are togain valuable information from the homepage. And the disputations with the
managers are also small with the higher mean values of 3.52 and 3.40 on the issues ofacquisitions and Investments respectively. On contrast, generally the Americans gavehigher ratings on most of the items especially on the things like to monthly getaccounting information and disagreements concerning to the marketing and equity
dilution. The conflict answers from the Chinese respondents can be explained thatthey do can receive the documents in time but the usefulness of the information in thatmight be under questioned. And the low disputation rates could due to the lessinvolvement to the portfolio’s business which will be supported with more detailed
arguments in the following tests.

4.3 Test for Value-adding Hypothesis
4.3.1 Test for Hypothesis 6
Figure 13 Mean percentage time to devote to monitor and assist

47

Figure 14 How frequently to have face-to face interaction with the CEO

once a month

Never

once a year

once monthseveral times a year twice a month

once year

several times year

twice week twice month

The Figure 13 shows the average time they would like to devote to monitor and assist
the ventures. The general trend is that the Americans are willing to dedicate 15% moretheir energies to do that than the Chinese VCs. The Figure 14 shows the frequency of
their face-to-face contact with the CEO. In America, the main distribution lies in“once a month” and “twice a moth” and in China, they prefer to have face-to-facecommunication once a month or several times a year and another 18% of VCs will48

have discussions with CEO twice a month as well. Therefore, the overall devoting
time and face-to-face conductions in America are little longer and more intense thanin China which kind of support the H6 (the face-to –face interaction between theventure capitalists and the venture CEO are fewer than it could happen in U.S..

4.3.2 Test for Hypothesis 7
Q. How common is it for you to assist your portfolio companies with the problems in
the following items, and how do you rate the importance of the different roles inthe value added activities with the ventures, please also value your effectiveness incarrying out these roles.
TABLE 8 Value-Added Tests

Sales and marketing***
External financing**
Internal Financial management
Product development***
HR management***
Operations management
Sounding board ***FinancierBusiness advisor***Mentor to CEO
FriendSource of professional contacts***
Source of industry contacts***
Management recruiter***

America

China

Mean SD

Mean SD

4.48
5.67
5.05
4.14
4.48
4.10
26.33
24.67
30.14
23.33
20.62
27.95
28.67
24.10

2.40 1.51
4.40 2.13
4.90 1.69
2.14 0.93
3.19 1.04
4.69 1.65
11.64 8.43
26.83 16.78
20.02 10.00
26.14 11.36
20.19 11.30
18.95 14.95
16.00 11.77
15.48 9.91

1.12
0.80
1.16
1.24
1.17
0.89
8.53
7.19
8.05
9.40
6.78
5.49
5.80
5.75

First six items measured on a scale from 1 “very uncommon” to 7 “very common”
From the Sounding board till the following items, to measure value added performance, I asked
VCs to rate the importance on a scale from 1=not important at all, to 7= very important, and VCs
also rated their effectiveness in carry out these roles from 1=not effective at all, to 7=very
effective. By multiplying the importance by the effectiveness ratings I derived a measure of value
added for each role with a possible range of 1= no value added to 49=very high value added.
Significant different between countries: *p<0.1, **p<0.05, ***p<0.01, two-tailed tests.

In the Table 8 I try to measure the value-added functions of VCs from two separated
aspects. One concern is to check to what kinds of the problems they are common toprovide assistance to the portfolio companies. From the results shown above, there are49

significant differences between the two countries. For the American VCs, most of
their focus are on the financing issues, and then would like be the activities for sales& marketing and HR management. On the other hand, in China, the financing
managements also cause a lot of attentions but the rest of their energy are probably
going to be spent on the operation managements in stead of sales and HR issues that is
actually the last thing the American VCs would like to help. Besides, by looking at themeans, the overall scores are much higher in the U.S., from which we could infer thatthey probably support the ventures to solve more problems for more various businessactivities.
Another part of the tests in the Table 8 is the average score of the overall value added
across the eight roles. The self-evaluations of their achieved works are similar in
performing the roles of Financier, Mentor and Friend. But for the rest of the carriedout roles, the American VCs are able to deliver higher values than the Chinese VCs do,on a significant level. Therefore, H7, the achievements from the value-added process
in China are less abundant as they are in U.S. is confirmed in this way. Moreover, in
America, the VCs behavior each of the role on a more balanced way, unlikely in
China, several roles are severely less functional than the others. The huge differences
are mainly due to that the Chinese VCs make less work on the roles like Sounding
board, Source of professional and industry contacts, and recruiter management. So,
the assisting role of the venture capitalists hasn’t been well explored and behaved yet
in China.

4.4 Test for the Exiting Hypothesis 8
Q. How common do you exit your investments with the following vehicles? Estimate
the percentage of each used method from your historical experience.
TABLE 9 Exiting Tests

America

China

VariableMean

SD

Mean SD

Domestic IPO*
International IPO**
Company buy-back***
Trade sale**
Secondary saleLiquidation
Reorganization

27.27
3.86
11.14
42.05
5.00
7.27
3.86

6.68
4.06
8.58
12.21
4.63
4.29
4.06

19.08
1.71
29.47
30.53
7.76
5.92
5.26

22.14
3.73
27.01
22.80
7.23
6.02
5.45

50

The VCs are asked to estimate the percentage of each used exit method from their historicalexperience.
Significant different between countries: *p<0.1, **p<0.05, ***p<0.01, two-tailed tests.

Ideally, the preferred exit vehicles are averagely ranked as Domestic IPO, Trade sale,Company buy-back, Secondary sale, and International IPO in both America and China
actually. The difference is just that the popularity of each vehicle is quite close witheach other in America, but in China the preference trend is rather clear. Come to thereality in the Table 9, we can’t find strong evidences to support H8 that the venture
capitalists in China prefer less IPO as their exit strategy than they do in U.S.. The
percentages they exit with domestic IPOs are quite close to each other, slightly moredifferences for the international IPOs. And the most frequently used exiting method
nowadays is trade sale in both countries for sure. Further more, the only severe
difference between American and Chinese VCs for the usage of the exiting vehicles islying to the channel of company buy-back which is almost as common used as thetrade sales in China, but in America, it only counts for 11.14% of the cases on
average.
All in all, looking through the whole test results, one more thing can’t be ignored isthe high standard deviations in China which means that there are a lot of varianceexisting in the answers from the Chinese VCs. Unlike in America, in China the
behavior or understanding on specific issues can be huge different among person toperson. That could due to the underdevelopment of the venture capital market in
China. The common sense hasn’t been cultivated yet and an unbalanced development
is in the way.

51

5. Discussion and Implications
This chapter is a discussion and analysis of the findings from the Empirical chapter.
From the aspects of social, culture, legislation, institution I will explain more in detailthe results and try to reconcile them with the practices described in the previous
literature which is also the most valuable implications to the interested readers.
In this paper, I provide the insights into the behavior patterns of the venture capitalists
throughout their four investment phases in both America and China. The results
coming from the tests help to shape the features and effect of VCs’ activities andefforts. The knowledge of differences and similarities in their practices are able todraw between the countries. In this chapter, the behavior habits and preferences whichhave been developed in the previous part will be discussed in detail and explained
further and the possible implications for the practice could be driven from that. In thefirst beginning I would draw a summary of my tests results for the hypothesis.
H1. The venture capitalists in China take more government
related policies into account than the VCs in U.S. when they
make the investment decisions
H2. The geography of their funded ventures in China is lessdiversified than in U.S.
H3. Convertible securities are used less frequently in China thanthey do in U.S.
H4. Venture capitalists in China use less contractual control
rights than those in U.S
H5. Problems in monitoring portfolio companies related to
management quality and behavior are more severe in China
than in U.S.
H6. The face-to –face interaction between the venture capitalists
and the venture CEO are fewer than it could happen in U.S.
H7. The achievements from the value-added process in China areless abundant as they are in U.S.
H8. The venture capitalists in China prefer less IPO as their exit
strategy than they do in U.S.

Strongly supported

Strongly supported
Weakly supported
Strongly supported
Partly supported

Partly supported
Strongly supported
Weakly supported

5.1 Selecting
There are some huge differences between China and America on the highlighted
information resources for the valuation and selection purpose. Although, the statistic
test have proved my H1, the Chinese VCs are still relying more on the government
generated information than the Americans, actually if we compare the ratings in52

government statistics and availability of receiving government supports with the otherinformation sources in China, the numbers are relatively rather low which is almost
the bottom 3 important resources for the VCs. Which means the government
information and supportable extent are not that crucial as they are before. On the other
hand, they resort to the financial statements and accounting information with moreemphasis. One reason could be that a series of reforms boosted since 1990s, joint
venture accounting firms are raised and the Certified Public Accountant Law enacted
in 1993.The development of accounting firms enables to provide better –qualified
information to the VCs, therefore they have fewer need to refer the government
generated information and market-originated economy make them less considered on
the government supports as well (Feng Zeng, 2004). The higher accounting ratings
in China might also due to the fact that the investments in China are more likely to bemade in the growth or expansion stage other than in early stage as you can see in the
TABLE 1 summarized. Whereas, for early stage investments it is always lacking
accounting information, but investing in growth stage, accounting information isavailable to give some thing valuable to check, so of course it becomes quite
important for the valuation progress (Manigart et al, 1998).
Practically, the investment distributions are still quite centralized in China. Normally,
it might due to the concern of to ease the monitoring activities. However, in this case,it seems that the Chinese VCs actually conduct less close interaction with the CEOs,and monitoring functions are played in a little bit more lax manner than the American
VCs who are able to have more various geographic positions. So I believe the main
factor causing the centralization in China is still owing to the self-government within
the province and local which make the regulations and restrictions are quite different
among the regions. That’s a severe barrier for the VCs entering a new geographic
market.

5.2 Structure and Monitoring
According to the tests results, the most prevalent financial vehicles are convertible
preferred equity, preferred equity and followed by common equity in America, which
are quite consistent with the current literature studies. The reasons of why convertible
preferred equity become the most commonly used security are that, first of all,convertible preferred stocks give the holders right (option) to convert their preferredstocks into a pre-specified number of shares of common stock in a pre-decided price.
53

Therefore, on one hand, when the ventures is doing well that the stock price is very
high comparing with the conversion price, then the VCs could exercise the options inreturn they will receive more revenues by doing this. On the other hand, when theventures are fall to reach the milestone within the stage, preferred stocks allow the
VCs to take prior payments over common stockholders (Yaron Leitner, 2009). In
addition to, convertible securities are better used to handle the investment uncertainty
and help to mitigate the agency risks (Hady Farag et al, 2004). And it is quite
understandable that the preferred equity financing is in the second popular position in
the reality if we know the facts that the holders of the preferred stock usually havevoting rights and the right of redemption which enable them to cash out their shares ata certain pre-determined price whenever they want (Yaron Leitner, 2009).
In China, however, the most frequently used investment tool is the common equity. It
can be explained that smaller venture capital investors with only a few partners andlimited financial and personnel resources may more likely to view themselves as
co-partners with the entrepreneurial team seeking the success of the firm in early stage
investments(Edgar Norton et al, 1992). In this way, common stock puts the VCs at thesame level as the management team, hence, the partnership relationship become more
substantial. And the profiles of the Chinese venture capital firms are actually quite
match with the descriptions in these theories. They are younger and with lessexperience in this industry, so probably the usage of common equities can help thembuild trust and co-operated relationship with the entrepreneurs.

Further more, intraditionally, the Chinese VCs are more prefer to hold direct control in their hands, so
the common equity ownership can secure their influence on the portfolio companies
to strengthen their control power in this way (Hady Farag et al, 2004). Noticeably,debt is the last likely resorted vehicle in both America and China, which is greatly due
to the characteristics of debts which cause the ventures to lose the financial flexibility
and precious cash flow. Meanwhile, in typical venture capital deals, most assets areintangible growth opportunities, and tax-deductible interest payments are usuallyunimportant to the ventures in the seed or early stage since they can either barely haveany or just few operating profits.
Moreover, the phenomenon of the prevalent usage of more advanced financial
contracting covenants in America shows the development of investment skills andmay reflect the ease of transfer of general professional skills and mechanisms into the54new markets (Wright et al, 2002). Additionally, the proper used the contractual andstructural arrangements between VCs and their portfolios are possible to mitigate theproblems of control rights of decision makings and managerial opportunities causing
by the agency risks. On the contrary, in China, the VCs are less elaborately to regulate
the control rights (there describe who gets make the firm’s decisions) in the contracts
which could be a sign that the venture capital market is less developed than America.
To study the problems in monitoring, surprisingly, the ratings in China for most of the
difficulties that will hinder the monitoring perform are lots lower than the American
VCs do. However, the Chinese VCs gave a higher degree of suffering problems tomonitor their portfolio companies. One reason contribute to that could be as I stated in
the empirical analysis chapter the poor quality of their received reports. Although they
can receive the accounting or many other financial reports timely, but as we know that
the Chinese accounting standards are made for production planning not for asset
valuation which is the primary usage in America actually (Kuntara & Thomas, 2007).
And the accounting regulations are quite confusing and are not properly enforced(Becker, 2000). Therefore, based on the points above, we can say that the financial
information may not that reliable and helpful for the Chinese VCs. And the Chinese
capital markets still lack transparency for the outsiders (Bruton and Ahlstrom, 2003).
So the main problem for the VCs today is still caused by the information asymmetryin China. The possible reason for why in China they stated with lower rate ofdisputation with the management team is probably because they are less involved tothe business of their backed ventures and provide with less assistance so the chances
to have disputation with the managers are fewer.
From the American side, except some difficulties from timely got accounting
information or reports from the management team, the more serious problems arecoming from the disputations on marketing and equity dilution. The results are quite
logical, and are in line with the existing studies on the venture capitalists. As thetheories in the paper of VCs and the Expropriation of Entrepreneurs by Vladimir
Atanasov et al (2006), expropriation could happen to the founders through “thepowerful contractual rights routinely granted to VCs, such as control over thecompany’s board, strong anti-dilution, redemption rights, liquidation preferences andcontrol over the sources of future financings.”

One of the primary opportunities to

expropriate the wealth from the common stock holders is from the equity dilution by55

VCs. Anti-dilution provisions maintained by the VCs are capable to higher the VCs’
proceeds when a company value decreases from one financing round to another, that’s
actually hurt the benefits of the founders the most. In equity dilution transactions, thenewly issued equities for a new financing round are priced at lower prices some areeven below the fair value of the company. However, the VCs could absorb all theshares without sharing with the common stockholders. “The extent of founder dilution
depends on the anti-dilution provisions in the contract.”(Vladimir). Technically, thefunders have no power to bargain on their welfare, only if there are new investors
participating in the new financial turn. The outside new comer is kind of in the sameside with the founders. Sometimes they would force the VCs to drop off the fullratchet right which is the most damaged anti-dilution provision for the founders as acondition to make the investment. Therefore, no wonder the significant disputations
on equity dilution would more common to happen between the VCs and theirportfolio companies, since which could dramatically cut down the power and benefitsof the founders by the less reputable VCs. Further, the survey shows that the VCs
have more opinions about marketing than the other areas of the operations could
because that it is a lot harder to have substantial advises on the things like scalability
issues, technical standard to endorse. It is quite interesting to see that, on a board
meeting, when the VP of Engineering talks about products development the board
members normally sit silenced nodding with appreciation. Then the VP of marketingshows up and suddenly everyone in the meeting has a point of view (David Hornik,
2006). Apparently, the VCs are more acquainted and capable to give suggestions on
stuffs like product name, web page layout or advertising slogan, so since thediscussions on the marketing issues are fiercer then the disagreements are more likely
to occur.

5.3 Value-adding
The fact of that the Chinese VCs who are more inexperienced in the venture industries
engage less face-to-face communications with the CEOs, is similar with the test
results by Harry Sapienza et al, (1996) for the comparison studies between UnitedStates and Europe. Contrary to the intuitions that the VCs who have fewer experiences
and who are in greater geographic proximity to the ventures should conduct greater
face to face meetings, in the reality, the VCs with greater experiences will have more
frequently face to face conversations with their CEOs. And “Chinese VCs frequently56maintain contacts not only with CEO, but with a wider range of top and mid-level
managers” (Kuntara & Thomas, 2007). They also confirmed that since the personal
relationship is so important in China, so in order to gain more ‘guanxi’ to prepare forthe future business opportunities it is necessary to spend extra time to build
relationship with the mangers as well. Moreover, the personal relationship can makeup for the information control and some regulatory limitations as long as you haveacquaintances in the related departments. In this case, the communication with theCEOs can be less frequently if parts of their energy have to be spent to meet themangers.
Looking at value-adding roles of venture capitalists, we could classify them into threegroups. Sounding board, Financier, and Business advisor belong to the strategic roles;
Mentor, Friend to CEO fall to the interpersonal roles; Source of professional contacts,
Source of industry contacts and Management recruiter are in the third group
networking roles. To exam the statistic results, the American VCs consider theirstrategic roles and networking roles almost as important as each other for their value
adding contributions, the interpersonal roles right after them. Contrastingly, theinterpersonal roles provide more achievements, and then followed by strategic roles,
whereas networking roles can hardly work any more dedications in China. As arelationship based society, in order to increase the receptivity of the entrepreneurs totheir advices and thereby able to perform value adding duties effectively, the Chinese
VCs must spend time to build private relationship with the management teams tocreate and maintain the trust and understanding among them.
However, the extremely poor functions of the Chinese VCs’ networking roles are
particular notable here. As we know, networks are quite prevalent in the venture
capital industry. VCs are prone to syndicate their investments with other VCs rather
than investing alone (Lerner, 1994). Syndicated networks qualify the VCs with thevarious expertises in the different specific area and facilitate the sharing of
information, contacts, and resources among the VCs (Bygrave, 1988). Therefore, thestrong syndication relationships could help to reach the customers and suppliers, or
strategic partners for their portfolio companies. And with service providers likeheadhunters or prestigious investment banks they may even access to the other VCs’
relationships (Yael Hochberg et al, 2007). In this way, how well a VC can be in
his/her value-added services depending on how strong networks he/she has. One study

57

takenbyKaplan,Martel,and

Strömberg

in

2003,

shows

that

the

performance-enhancing role of VC networks is simply experience which means theolder and more experienced VCs are normally better-networked VCs as well. Hence,
the reason why the Chinese VCs have less value-adding performances from the
networking roles can be explained from this point of view. Since the Chinese VCs inthis studies are relatively younger and more inexperienced in the venture capital
market, their networks haven’t fully developed yet, and then obviously not much
sharing information and knowledge they can gain to provide to their ventures.

5.4 Exiting
In the practice, the most majority of the exits are through the route of trade sale inboth America and China, although the most desirable way of exiting for the VCs is
IPO for its highest potential of return. Unfortunately, in many cases even the
successful companies could not go public that easy without the time consuming, often
there isn’t enough time for the ventures to grow strong enough before the deadline
when the VCs decide to drop out, and then trade sales as their second preferredvehicles become the best choices.
Referring to the previous studies on VCs’ exiting methods, there is no doubt that thebenefits come from the IPOs are the most substantial one. Going to public increases
the liquidity of their shares, the freedom to trade also induce the risk of holding thatshares, thereby raise the attraction of the company shares and company values arewould likely to go up as well. For the VCs, they are able to fulfill incredible returns
meanwhile gain a great reputation and credibility. For the entrepreneurs, an IPO
allows them to regain control power of their company. Besides, public stock market
provides a ready source of finance for expansion, for example, acquisitions and theopportunity for involving employees in share ownership can be helpful to minimize
the agency risks either (Glenlake et al, 2000).
After all those advantages, exit with IPO can’t be perfect anyway. First of all, before
the IPOs, the preparation can be both time-consuming and expensive. The focus of theemployees can be attracted away from their day to day works. After the IPOs, thehigher costs continuing for keeping a stock market listing. Taxes become more
complicated, strenuous of disclosure requirements needed to meet the stock exchange
regulations. Moreover, the control of a wild group of shareholders is become harder.
58

Going to the public, can even expose the company in a danger of hostile takeover(Joel Arberman, 2006). So the decision to go public certainly need deliberateconsideration, if the ventures are stable and strong enough to bare the additional
expenses and handle the profit-driven shareholders. All the reasons above, contributes
to the low rate of IPO cases in the both two countries. Whereas, the Chinese VCs arefacing more harsh challenges to exit since they don’t have a marketplace for hi-tech,high-growth and innovative companies to obtain financing not like the Nasdaq Stock
Market in America, they can only resort to A-share markets for which the restrictions
are even stricter. In China, they requires the IPO candidates to be profitable for at least
three consecutive years ahead a public listing and their major shareholders are subject
to a three year lock up period before they can realize cash returns on the IPO (Beijing
Review, 12 MAR. 26, 2009). The weaker capital strength and longer investment
lifecycles are experienced by the most of the Chinese venture capital players.

59

6. Conclusion
In this chapter, I will present a short conclusion on my works and findings. The
research questions can be answered here now and so do the main implication for thepractice. It will end with the limitations evaluation and future research foreseeing.

6.1 Conclusions on the results
The research question can be answered now.
Research question asked:
How do the investment behavior patterns of the venture capitalists in China differ
from the VCs in the United States in the four investment stages of selection, structure
and monitoring, value-adding, exit respectively?
This was tested by the research hypotheses H1 to H8. The results showed as below:
Differences in the stage of selection
For the top three information resources they rely on to do the valuation and selection,in American they are their own due diligence report, firm’s competitive advantage andtheir own assessment of management teams capabilities, while in china, the top one isalso their own due diligence followed by the balance sheet, profit and loss statements
and due diligence by accounting/consulting firms. Meanwhile the H1 and H2 isconfirmed that the government generated information still play a more important rolein China than they do in America and the investment distributions are more
centralized in China due to the self-government barrier within the local regions.
Differences in the structure and monitoring
The Chinese VCs prefer the common equity more than the preferred equity andconvertible securities which on the other hand, are the most prevalent used
instruments in America. And at a significant level, the American VCs have moreelaborated regulated control rights in their contracts than the Chinese VCs do.
Moreover, although in China, for the VCs there is less problems to receive documents
timely for the monitoring and less occurrence of the disputation with the managers,
they still suffer more difficulties to do the monitoring. Since the reports they have in
hand are not that helpful to reveal the facts of what is going on in the firm and less60

disputation is just due to the “face saving” issues, they simply don’t confront theconflicts that straight forward as the American VCs do.
Differences in the value-adding process
The greater experienced VCs in the United States actually conduct more face to facecommunications and they perform better in their strategic roles and the networking
roles in particularly in order to help the ventures grow. For the reason that such strong
expertise, suppliers or strategic partners networks take time to gain and maintain so it
could hardly work well for the younger and more inexperienced venture capitalists in
China. However, the interpersonal role is still functioned in China during theirvalue-adding process. The private relationships with the management team are quite
necessary for the VCs to create the trust and understanding among them.
Difference in exiting
There is not strong evidence to prove the H8 that the Chinese VCs apply less IPO as
their exit strategy as they do in the United States. And considering the drawbacks of
the IPOs like the time, money and energy consuming, the trade sales as the second
ideal tool to exit, in reality become the most popular way to drop out in both twocountries. Additional, the company buy-back is quite commonly used in China as well,which is much rarely to happen in America on another hand.

6.2 The Theoretical and Practical ContributionsFirst of all, government control on the venture capital market is under liberation. So inmany ways, the VCs are no longer constrained by their policies. Second, although thefinancial and accounting reports are not that quality as they are in America, they arestill quite accessible for the VCs and to some extent it can be work for the selection
and monitoring phases. Third, in generally, the Chinese VCs would like to have directcontrol rights over their portfolio companies. Maybe that’s why they prefer to invest
with common equity and in their contracts the voting rights related covenants are themost prevalent one. Since, there is a common sense that the voting right means
control right and power in China. Fourth, the personal relationship is much morecrucial in China. The VCs have to build their ‘guanxi’ with the authorities, partners,
CEO, managers in order to gain more useful information and ease their investment
activities. Fifth, apparently the Chinese venture capital is still under development and61the Chinese VCs are less experienced and skilled than the American VCs are. So far,most of their assistance is still on the financial management. Last, with the revolution
on the capital market, more and more venture capital firms have succeeded to exit
with IPOs, but still trade sales and company buy-back are almost the same popular in
China and have occupied the top two seats on the ways of exiting.

6.3 Limitations and Future Research Directions
This study was restricted by its limited amount of data especially the few respondents
in the United States. Therefore the variety of the data can barely shape the whole
picture of the behavior patterns of the VCs, so the results driven from that might havedeviation with the genuine world. Further, another limitation is caused by the
web-based questionnaire method. Since the questionnaire was designed into closequestions, some phenomenon might fail to be recognized due to the lack of choices or
misunderstanding of the questions. I have no chance to do explanation and they can’t
interpret their answers or make any complements neither. I can only speculate theresults from the data itself. Moreover, the measurements in this paper are quite
general, actually, there are much more additional variables could be tested which
would greatly refine or supplement the findings. However, there is in no way to beable to include all the variables in one study. The imperfection can solely be
accomplished by the future researches.
The possible directions are a lot. For one side, entrepreneurial activities can be studied
as well. The characteristics of the entrepreneurs probably would impact on theinteractions between the venture capitalists and their portfolios companies. On anotherside, we could narrow down the cross countries comparison on a certain type ofventure capital firms. Cause, the features like the size or experiences of the companies,
its ownership structures, stage of investments and investment sectors will certainly
influence the behavior preference of VCs. For instance, the firms owned by private,
government or institutions their targets of the investments must differ among eachother then their emphasis on the selections of the portfolio companies or value-adding
process can be dramatically various. So do the firms with different investment
segments, the one focus on biotech ventures, IT, medical or traditional industries willprobably have different investment lifecycles and preferred way of exiting. Hence,
there still are plenty of the blank fields needed to be explored for the behavior patternsof venture capitalists which might require more advanced statistic tests or resort to62

more complicated methodologies and then bunch of additional theoreticalperspectives have to be reviewed and applied.

63

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67Appendix
Appendix 1: SPSS Analysis
Q. Please indicate a seven-point scale on the importance of the following
information sources during your investment selection process. From
irrelevant (1) to extremely important (7).
Independent Samples Test
Levene's Test for
Equality of Variances

F
Q1A

Q1B

Q1C

Q1D

Q1E

Q1F

Q1G

Q1H

Q1I

Q1J

Q1K

Q1L

Q1M

Q1N

Q1O

Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed

7.464

76.569

9.833

5.824

15.272

6.315

.049

.354

6.054

.002

.059

13.10416.964

.157

.524

Sig.
.008

.000

.003

.019

.000

.015

.826

.554

.017

.965

.809

.001

.000

.693

.472

t-test for Equality of Meanstdf

Sig. (2-tailed)

Mean
DifferenceStd. Error
Difference

95% ConfidenceInterval of the
Difference
Lower
Upper

-1.243

62

.219

-.171

.138

-.446

.104

-1.09030.473

.284

-.171

.157

-.491

.149

1.804

62

.076

.502

.278

-.054

1.059

2.368

52.887

.022

.502

.212

.077

.927

4.960

62

.000

1.312

.264

.783

1.840

5.790

61.019

.000

1.312

.227

.859

1.765

.268

62

.790

.076

.283

-.490

.641

.293

54.550

.770

.076

.258

-.442

.593

-3.553

62

.001

-.810

.228

-1.265-.354-3.04828.987

.005

-.810

.266

-1.353

-.266

.567

62

.573

.149

.264

-.377

.676

.665

61.289

.509

.149

.225

-.300

.599

2.265

62

.027

.554

.245

.065

1.043

2.434

51.973

.018

.554

.228

.097

1.011

-4.00562.000-1.147.286-1.720-.575-3.76136.051.001-1.147.305-1.766

-.529

.349

62

.728

.115

.329

-.543

.772

.402

60.166

.689

.115

.285

-.455

.685

.581

62

.563

.197

.339

-.481

.875

.597

46.042

.554

.197

.330

-.468

.862

-4.021

62

.000

-.781

.194

-1.170-.393-4.03243.075

.000

-.781

.194

-1.172-.391-3.51962.001-1.139.324-1.785-.492-4.21061.966.000-1.139.270-1.679-.598-7.73762.000-2.082.269-2.620-1.544-9.22961.921.000-2.082.226-2.533-1.631

2.561

62

.013

.725

.283

.159

1.291

2.681

48.545

.010

.725

.270

.182

1.269

5.089

62

.000

1.206

.237

.732

1.679

5.070

42.334

.000

1.206

.238

.726

1.685

68

Q. How would you perceive the geographic position of your investments?
Estimate the percentage of your investments made in the different areas.
Statistics
Country
AmericaN
MeanMedianMinimum
Maximum
Percentiles

China

Local
22
0
28.41
30.00
0
60
10.00
30.00
46.25
42
0
80.83
80.00
60
100
70.00
80.00
90.00

Valid
MissingN
MeanMedianMinimum
Maximum
Percentiles

25
50
75
Valid
Missing255075Regional
22
0
45.23
40.00
30
100
30.00
40.00
50.00
42
0
15.71
10.00
0
40
10.00
10.00
25.00

National
22
0
22.27
27.50
0
40
7.50
27.50
31.25
42
0
3.45
.00
0
20
.00
.00
5.00

Internation
22
0
4.09
.00
0
20
.00
.00
10.00
42
0
.00
.00
0
0
.00
.00
.00

Q. What are your preferred financial vehicles?
Independent Samples Test
Levene's Test for
Equality of VariancesF
Cequity

Equal variances
assumedEqual variances
not assumed
Sdebt
Equal variances
assumedEqual variances
not assumed
Pequity
Equal variances
assumedEqual variances
not assumed
CPequity Equal variances
assumedEqual variances
not assumed
Cdebt
Equal variances
assumedEqual variances
not assumed

8.445

7.613

12.95315.99327.466

Sig.
.005

.008

.001

.000

.000

t-test for Equality of Meanstdf

Sig. (2-tailed)

Mean
DifferenceStd. Error
Difference

95% ConfidenceInterval of the
Difference
Lower
Upper

-.240

61

.811

-.095

.397

-.890

.699

-.265

52.143

.792

-.095

.359

-.816

.626

6.570

61

.000

2.548

.388

1.772

3.323

5.681

28.319

.000

2.548

.448

1.629

3.466

5.043

61

.000

2.095

.415

1.264

2.926

6.815

51.380

.000

2.095

.307

1.478

2.712

2.539

61

.014

1.214

.478

.258

2.171

3.414

52.288

.001

1.214

.356

.501

1.928

.715

60

.477

.431

.603

-.775

1.637

.867

58.419

.390

.431

.497

-.564

1.426

69

Q. Normally how long is your contracts duration?
C ountry: A m erica
C ountry:C hina

70.0%

80.0%

60.0%

60.0%

Percent

Percent

50.0%

40.0%

30.0%

40.0%

20.0%
20.0%

10.0%

0.0%

0.0%

4-6Y

7-10Y

4-6Y

Cduration

7-10Y

Cduration

Q. “It is very common that the contracts will be renegotiated” do you agree ordisagree?
Independent Samples Test
Levene's Test for
Equality of Variances

F
ResignEqual variances
assumedEqual variances
not assumed

11.463Sig.
.001

t-test for Equality of Meanst

MeanSig. (2-tailed) DifferencedfStd. Error
Difference

95% ConfidenceInterval of the
Difference
Lower
Upper

1.209

61

.231

.476

.394

-.311

1.263

1.376

55.649

.174

.476

.346

-.217

1.169

Q. How common is it for you to use the following covenants in your contracts
with the entrepreneurs?

70Independent Samples Test
Levene's Test for
Equality of Variances

F
Q6A

Q6B

Q6C

Q6D

Q6E

Q6F

Q6G

Q6H

Q6I

Q6J

Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed
Equal variances
assumedEqual variances
not assumed

Sig.

8.365

17.46611.85014.6003.350

34.64128.83517.855

8.542

9.928

t-test for Equality of Means

t

.005

.000

.001

.000

.072

.000

.000

.000

.005

.003

df

Sig. (2-tailed)

Mean
DifferenceStd. Error
Difference

95% ConfidenceInterval of the
Difference
Lower
Upper

4.032

61

.000

1.619

.402

.816

2.422

4.859

60.519

.000

1.619

.333

.953

2.285

-.194

61

.847

-.071

.368

-.807

.664

-.234

60.478

.816

-.071

.306

-.683

.540

.370

60

.712

.124

.334

-.545

.792

.459

59.612

.648

.124

.270

-.416

.664

.550

61

.584

.238

.433

-.628

1.104

.678

61.000

.501

.238

.351

-.465

.941

4.328

61

.000

1.333

.308

.717

1.949

5.050

58.271

.000

1.333

.264

.805

1.862

6.425

61

.000

2.762

.430

1.902

3.621

8.537

54.420

.000

2.762

.324

2.113

3.410

8.336

61

.000

3.238

.388

2.461

4.015

10.95656.125

.000

3.238

.296

2.646

3.830

5.157

61

.000

2.333

.452

1.429

3.238

6.909

52.973

.000

2.333

.338

1.656

3.011

4.360

61

.000

1.690

.388

.915

2.466

5.437

60.823

.000

1.690

.311

1.069

2.312

3.674

61

.001

1.667

.454

.760

2.574

4.913

53.324

.000

1.667

.339

.986

2.347

Q. “I suffer a lot of problems to monitor the portfolio companies” do you agree
or disagree?
Independent Samples Test
Levene's Test for
Equality of VariancesF
Problems Equal variances
assumedEqual variances
not assumed

.417

Sig.
.521

t-test for Equality of Meanst

MeanSig. (2-tailed) DifferencedfStd. Error
Difference

95% ConfidenceInterval of the
Difference
Lower
Upper

-3.808

61

.000

-.929

.244

-1.416-.441-3.74338.330

.001

-.929

.248

-1.431-.426

Q. Ranking the following resources, which one of them would you rely on to do
the monitoring?

71

Statistics
Country
America

N

China

Mean
N

Account
22
0
1.86
42
0
1.88

Valid
Missing
Valid
Missing

Mean

Reports
22
0
1.86
42
0
2.38

Homepage
22
0
3.23
42
0
3.93

Communi
22
0
3.05
42
0
1.81

Q. How would you rate the problems in processing the following resources, andwould you have disputation with the managers, on which matters the
disputations are more likely to happen?
Independent Samples Test
Levene's Test for
Equality of Variances

F
Taccount

Equal variances
assumedEqual variances
not assumed
Treports
Equal variances
assumedEqual variances
not assumed
Thome
Equal variances
assumedEqual variances
not assumed
Tcommuni Equal variances
assumedEqual variances
not assumed
Strategy
Equal variances
assumedEqual variances
not assumed
Operation Equal variances
assumedEqual variances
not assumed
MarketEqual variances
assumedEqual variances
not assumed
InvestEqual variances
assumedEqual variances
not assumed
Acquisit
Equal variances
assumedEqual variances
not assumed
Equityd
Equal variances
assumedEqual variances
not assumed

7.294

8.393

75.47513.724

1.659

4.314

.005

.000

.252

2.322

Sig.
.009

.005

.000

.000

.203

.042

.942

1.000

.618

.133

t-test for Equality of Meanstdf

Sig. (2-tailed)

Mean
DifferenceStd. Error
Difference

95% ConfidenceInterval of the
Difference
Lower
Upper

6.836

62

.000

2.444

.357

1.729

3.158

7.754

58.603

.000

2.444

.315

1.813

3.074

11.352

62

.000

2.883

.254

2.375

3.391

9.987

30.682

.000

2.883

.289

2.294

3.472

.337

62

.737

.169

.500

-.831

1.169

.434

56.588

.666

.169

.389

-.610

.948

-.689

62

.493

-.333

.484

-1.300

.633

-.777

57.918

.440

-.333

.429

-1.192

.526

3.457

61

.001

1.214

.351

.512

1.917

3.215

33.357

.003

1.214

.378

.446

1.982

3.702

61

.000

1.048

.283

.482

1.613

3.246

29.158

.003

1.048

.323

.388

1.708

8.131

61

.000

1.762

.217

1.329

2.195

8.162

40.508

.000

1.762

.216

1.326

2.198

-.937

61

.352

-.262

.279

-.821

.297

-.930

39.262

.358

-.262

.282

-.832

.308

-.712

61

.479

-.190

.268

-.726

.345

-.674

34.819

.505

-.190

.283

-.764

.384

5.647

61

.000

1.667

.295

1.077

2.257

6.117

49.599

.000

1.667

.272

1.119

2.214

Q. How common is it for you to assist your portfolio companies with the
problems in the following items, and how do you rate the importance of thedifferent roles in the value added activities with the ventures, please also
value your effectiveness in carrying out these roles.
72Independent Samples Test
Levene's Test for
Equality of Variances

F
SM

Equal variances
assumedEqual variances
not assumed
Exfinance Equal variances
assumedEqual variances
not assumed
Interfinance Equal variances
assumedEqual variances
not assumed
Prodevelop Equal variances
assumedEqual variances
not assumed
HR
Equal variances
assumedEqual variances
not assumed
Opmanage Equal variances
assumedEqual variances
not assumed

3.585

27.271

3.429

4.856

.660

5.536

Sig.
.063

.000

.069

.031

.420

.022

t-test for Equality of Meanst

MeanStd. Error
Sig. (2-tailed) Difference Differencedf

95% ConfidenceInterval of the
Difference
Lower
Upper

5.541

61

.000

2.071

.374

1.324

2.819

6.115

51.960

.000

2.071

.339

1.392

2.751

2.616

61

.011

1.262

.482

.297

2.227

3.394

57.841

.001

1.262

.372

.518

2.006

.347

61

.730

.143

.411

-.680

.966

.392

54.896

.696

.143

.364

-.587

.872

7.210

61

.000

2.000

.277

1.445

2.555

6.551

31.576

.000

2.000

.305

1.378

2.622

4.437

61

.000

1.286

.290

.706

1.865

4.270

36.294

.000

1.286

.301

.675

1.896

-1.545

61

.128

-.595

.385

-1.366.175-1.86360.542

.067

-.595

.320

-1.234.044

Independent Samples Test
Levene's Test for
Equality of VariancesF
Soundb

Equal variances.347
assumedEqual variances
not assumed
Financier Equal variances
27.396
assumedEqual variances
not assumed
Badvisor
Equal variances
1.238
assumedEqual variances
not assumed
MentorEqual variances.100
assumedEqual variances
not assumed
FriendEqual variances
5.841
assumedEqual variances
not assumed
Professcon Equal variances
21.300assumedEqual variances
not assumed
Industcon Equal variances
9.086
assumedEqual variances
not assumed
Recruiter Equal variances
12.107
assumedEqual variances
not assumed

Sig.
.558

.000

.270

.753

.019

.000

.004

.001

t-test for Equality of Meanst

MeanStd. Error
Sig. (2-tailed) Difference Differencedf

95% ConfidenceInterval of the
Difference
Lower
Upper

6.497

61

.000

14.6902.261

10.16919.2126.471

39.681.000

14.6902.270

10.10119.280

-.565

61

.574

-2.167

3.837-9.838

5.505

-.716

60.038.477-2.1673.026-8.220

3.887

4.026

61

.000

10.119

2.514

5.093

15.1454.328

48.630.000

10.119

2.338

5.419

14.819

-.978

61

.332

-2.8102.874-8.5562.937-1.04247.506.303-2.8102.698-8.235

2.616

.160

61

.874

.429

2.685

-4.941

5.798

.187

58.815

.852

.429

2.287

-4.148

5.005

2.662

61

.010

9.000

3.381

2.238

15.762

3.463

57.525

.001

9.000

2.599

3.796

14.204

4.643

61

.000

12.667

2.728

7.212

18.121

5.721

61.000.000

12.667

2.214

8.240

17.094

3.679

61

.000

8.619

2.343

3.934

13.3044.357

59.493

.000

8.619

1.978

4.661

12.57773

Q. Ranking your most preferred exiting vehicles
Statistics
Country
America

N

Dipo

China

Mean
N

Valid
Missing

Iipo

22
0
2.09
42
0
1.00

Valid
Missing

Mean

22
0
3.45
42
0
4.19

Cbuyback
22
0
3.41
42
0
3.38

Tradesale
22
0
2.64
42
0
2.71

Secsale
22
0
3.41
42
0
3.71

Q. How common do you exit your investments with the following vehicles?
Estimate the percentage of each used method from your historical experience.
Independent Samples Test
Levene's Test for
Equality of Variances

F
NDipo

Equal variances
26.123assumedEqual variances
not assumed
Nlipo
Equal variances
1.436
assumedEqual variances
not assumed
NCbuy
Equal variances
6.802
assumedEqual variances
not assumed
NTrades Equal variances
9.788
assumedEqual variances
not assumed
NSecs
Equal variances
16.910assumedEqual variances
not assumed
NLiquiEqual variances
2.854
assumedEqual variances
not assumed
NReorgan Equal variances
4.415
assumedEqual variances
not assumed

Sig.
.000

.236

.012

.003

.000

.097

.040

t-test for Equality of Meanst

MeanStd. Error
Sig. (2-tailed) Difference Differencedf

95% ConfidenceInterval of the
Difference
Lower
Upper

1.686

58

.097

8.194

4.859

-1.53217.9202.121

47.472

.039

8.194

3.864

.422

15.965

2.087

58

.041

2.153

1.032

.088

4.219

2.038

40.930

.048

2.153

1.056

.020

4.286

-3.08658.003-18.3375.942-30.232-6.442-3.86248.435.000-18.3374.748-27.882-8.793

2.189

58

.033

11.519

5.262

.987

22.051

2.546

57.764.014

11.519

4.524

2.463

20.575-1.60858.113-2.763

1.718-6.202.676-1.80257.319.077-2.763

1.533-5.833

.306

.924

58

.359

1.352

1.463

-1.576

4.280

1.010

55.368

.317

1.352

1.338

-1.3304.033-1.04758.299-1.4001.337-4.0751.276-1.13154.156.263-1.4001.237-3.8801.081

74

Q. The personal profile of the respondents
Statistics
Country
AmericaN
MeanMedianMinimum
Maximum
Percentiles

China

N
Mean
MedianMinimum
Maximum
Percentiles

Valid
Missing

25
50
75
Valid
Missing

25
50
75

Years
22
0
12.18
13.50
4
20
5.00
13.50
16.50
42
0
4.81
4.00
3
10
3.00
4.00
6.00

Portfolio
22
0
42.27
30.00
8
250
13.75
30.00
45.00
42
0
5.36
4.50
1
20
3.00
4.50
6.00

Boards
22
0
7.77
6.50
0
25
5.00
6.50
10.00
42
0
2.48
2.00
0
8
1.00
2.00
3.00

75

Appendix 2: Questionnaire

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