Weaving Filaments Across Borders
It was a Saturday in June 2019, and Doug Leone, managing partner of Sequoia Capital, was waiting for 50 Chinese guests to arrive at his house in Los Altos Hills, California, one of the towns that make up Silicon Valley. Over the past decade, he’d traveled to China dozens of times, and now over half of his venture capital firm’s assets under management were invested there. China mattered mightily to Sequoia’s continued fortunes, and so did Leone’s Chinese guests. Among them was Neil Shen (whom we first met in chapter 5 with LinkedIn), a colleague who ran Sequoia China. In both 2018 and 2019, Shen had topped the Forbes Midas List, a ranking of the world’s 100 top venture capitalists. The companies he’d backed had included ecommerce giants Alibaba and JD.com, group-buying website Meituan-Dianping, and ride-hailing company Didi Chuxing, which eventually drove Uber off China’s streets. The returns to Sequoia’s limited partners had been substantial. Out of over 500 companies Sequoia China had invested in since its 2005 inception, 53 were valued at more than $1 billion each.
Sequoia was not the first foreign venture capital firm to enter China. IDG Capital had arrived in the 1990s, and New Enterprise Associates opened its Chinese operation in 2003. Other well-known firms had followed Sequoia, including, in 2007, Kleiner Perkins, its neighbor on famed Sand Hill Road in Menlo Park, California, another Silicon Valley community. Yet Sequoia’s success amid this crowd had exceeded even Leone’s dreams. “It’s way better than we ever imagined,” he said.1
He recalled how it began in 2004, five years after Sequoia’s first overseas venture in Israel. Back then, he’d written a one-page memo that listed the reasons to expand to the Far East. It started like this: “I’m not sure whether it’s for defense or offense.” On the defensive side, he reasoned, many of the most talented entrepreneurs in the United States were immigrants, and Chinese start-ups were flocking to the United States for IPOs. Sequoia needed to position itself to be the preferred venture capital firm of Chinese-born entrepreneurs. Otherwise, their start-ups would end up in rival firms’ portfolios. On the offensive side, Sequoia aimed to be the largest outside shareholder in the most valuable companies in the world. These kinds of companies were increasingly coming from fast-growing economies in the developing world, and China dwarfed nearly all of them. “Back then, we didn’t go to Europe, because it was large but was not growing fast,” Leone said. “We didn’t go to Vietnam, because it was growing fast but wasn’t very big. That took us right away to China.” Plus, several of Sequoia’s partners were born cosmopolitans—Leone was originally from Italy, and his partner Michael Moritz from Britain.
When Leone and Moritz started traveling to China, they were aware of how other firms were approaching the country—these outfits typically shuttled their partners back and forth from the United States. Sequoia set out to find a local partner, ideally someone who had spent time in the United States, had contacts in China, and had experience as an entrepreneur. They took 10 trips to China and took dozens of meetings, trying to identify someone who fit their ideal.
None of their efforts yielded the person they sought. Then, after returning home, a Chinese founder of Billpoint, a Sequoia investment and the predecessor to PayPal, introduced them to Shen. Leone, Moritz, and Shen met at a hotel in San Francisco. Sequoia’s search ended there.
Within 30 days they had a handshake deal, and, shortly after, Moritz crafted a private placement memorandum for Sequoia China and handed it to Shen. Shen remembers being impressed by the trust, confidence, and agility shown by Sequoia.2 The fact that the deal was cut quickly also reflected Shen’s strengths. Growing up in Shanghai, he’d excelled at math. After graduating from Yale School of Management in 1992, he’d started his career as an investment banker in New York and Hong Kong. When the first internet wave reached mainland China in 1999, Shen left banking and cofounded Ctrip, a travel company, and later Home Inn, a budget hotel chain. Both went public on the Nasdaq. Yet Leone also appreciated Shen’s acumen when it came to investing in other people’s ventures. He’d displayed that with a bet on Focus Media, an investment made while he was running Ctrip. “He aligned himself with winners,” Leone said.
What appealed to Shen was Sequoia’s history of backing many of Silicon Valley’s legendary companies, including Apple, Google, and PayPal. That would matter to Chinese entrepreneurs. The message was plain, Shen said: Sequoia “would help you to succeed.” Sequoia China’s initial fund-raising went well, with $160 million collected within three months, almost all from the universities, pension funds, and other institutions that had participated in Sequoia’s US investment funds. (A venture capital firm typically raises money from institutional investors for a series of so-called funds, the money from which is invested in promising companies. The venture firm is the general partner of each of the funds, and the institutional investors are limited partners.)
The word “entrepreneurship” didn’t really resonate in China until the new economy, powered by the internet, emerged in the late 1990s. Suddenly, starting a business no longer required a heavy up-front investment. With just a bank of computers, an ambitious Chinese technologist could create ventures similar to those emerging abroad. Shen’s first start-up, Ctrip, had been inspired by Expedia. And that helped shape his pitch to Chinese entrepreneurs: “There’s a chance that you, too, can do that in China.”
To understand Chinese entrepreneurs’ admiration of Silicon Valley’s famed entrepreneurs, a few stories may help. Jun Lei, the billionaire founder of smartphone-maker Xiaomi, aimed to emulate Steve Jobs and build a company that could change the world.3 When he introduced new products on stage, he would wear Jobs’s signature black tee and blue jeans, earning him the nickname “Leibs”—one he was happy to claim. Likewise, Xing Wang, Meituan-Dianping’s cofounder, had stumbled, with failed clones of Facebook and Twitter, before eventually taking Meituan-Dianping public. When Meituan-Dianping was listed on the Hong Kong Stock Exchange, he didn’t thank Facebook’s Mark Zuckerberg or Twitter’s Jack Dorsey. He thanked Jobs. “Without the iPhone and mobile internet, everything we do today wouldn’t have been possible,” he said.4
Elon Musk, who seems to strive to be larger than life, had similarly amassed a fan base in China. His biography, Elon Musk: Tesla, SpaceX, and the Quest for a Fantastic Future, was translated into Chinese with an exuberant title—Elon Musk: Iron Man’s Adventurous Life—and was marketed as an entrepreneur’s must-read. At one point, Xiaopeng He, cofounder of Xiaopeng Motors, an electric vehicle company, faced a lawsuit from Tesla. Yet that didn’t diminish his ardor for Musk. “To change China, we need crazy guys like him,” he said.5
Imagine the venture firm that had partnered with Jobs and Musk reaching out to a Chinese entrepreneur. What would the likely response be? In 2005, Xing Wang fielded just such an inquiry. His initial response—“Sequoia? Never heard of it”6—reflected the firm’s low profile in China at the time. Sequoia had just opened its China office and was using its translated Chinese name, Hongshan. When Wang realized that Hongshan was the prestigious venture investor from Silicon Valley, he rushed over that same afternoon to its Beijing office. A few years later, Ya Shen, the founder of the ecommerce company Vipshop, received a message from Sequoia via his company’s customer service desk (yes, Sequoia still cold calls entrepreneurs it’s interested in). He promptly returned the call.
A storied name is not the only alpha asset Sequoia brought to China. Its investment team came with strong hands-on knowledge of how to run growing companies with big dreams. Sequoia’s preference for “operators”—that is, partners with operating experience—dates back to the firm’s beginnings. The late Don Valentine, the founder, spent over 10 years at Fairchild Semiconductor and National Semiconductor before starting the firm in 1972. His knowledge of microprocessors rivaled that of almost anyone in investment circles back in the 1970s. In a personal account, he wrote: “For a long time on the West Coast, I had a tremendously unfair advantage, because none of the other people understood much about technology.”7
Leone followed a similar path, coming to Sequoia via Sun Microsystems and Hewlett-Packard. After he and Michael Moritz took over, they kept inviting seasoned tech executives and entrepreneurs to join the team. Bryan Schreier arrived from Google, Alfred Lin from Zappos, and Omar Hamoui from AdMob. Shen continued that tradition in China. In 2005, he hired Kui Zhou, an investor from Legend Capital. But before that, Shen said, “he was running a factory in Guangdong.” Shen insists on that approach in recruiting staffers for his office: “An important component of making a good investor is industry knowledge.”
That comports with Valentine’s view. He eschewed financial engineering and believed the venture business was about building companies. Valentine’s deep knowledge of microprocessors and their applications led to Sequoia’s investment in Apple. “Knowing about microprocessors made the evolution of the PC obvious,” he said.8 Then, based on its investment in the PC industry, Sequoia developed an understanding of the internet and identified the potential of the networking industry, which directed the firm to Cisco.
Shen and his team have operated similarly. Sequoia China was one of the first venture firms to bet on ecommerce—today a $1.9 trillion market. That stemmed from Shen’s experiences at Ctrip, his online booking site. Shen saw investing in ecommerce as a simple progression from where he’d started. Thus Sequoia China has also partnered with Alibaba, JD.com, PDD, Vipshop, and a variety of other Chinese ecommerce companies.
The rise of ecommerce has changed Chinese consumers’ shopping, just as it’s changed shopping in the developed world. Online purchases started simple, with people buying relatively inexpensive, easy-to-evaluate items, like apparel and cosmetics, but purchases have moved to more complex transactions, like prepared food. That shift created the online-to-off-line (O2O) category, which led Sequoia to Meituan-Dianping, where consumers order such edibles as desserts and fresh fruit from restaurants and stores and receive delivery from third-party couriers.
Other Sequoia markets were enabled by China’s adoption of mobile payments. That’s how bike sharing arose. A user could scan a QR code with a smartphone to unlock a bike and make a payment through Alipay or WeChat. Sequoia’s experience with investments in ecommerce and mobile payments eased its early bet on Mobike, a Chinese bike-sharing company now operating in over 200 cities.
Meituan’s founder, Xing Wang, recalled being impressed with how Shen wielded his operational knowledge when they first met. “He didn’t even ask me to talk about my business plan. He had a clear understanding of our business model. That judgment rivaled even that of entrepreneurs in the business.”9
Though Sequoia China was rooted in Sequoia’s US business, it wasn’t controlled by its parent in the traditional way, with big decisions made in California and orders emanating from there. Leone insisted Shen and his team make their own decisions. That was a lesson he’d learned in Israel. When Sequoia and Cisco set up an Israeli investment fund in 1999, their approach was to let the Israelis vet potential deals but have the US office make the decisions. That arrangement proved sluggish. In China, Leone wanted decentralization. Shen was expected to create his own distinctive plan.
Shen’s departures from Sequoia’s US investment strategy started early. Initially, he and his team financed Qihoo360, an internet security company, and Dianping, a restaurant review site—choices consistent with the focus of Sequoia US. But then they bet on Noah, a wealth management company with no particular enabling technology, investing about $5 million for roughly a 20% stake. Three years later, in 2010, Noah went public on the New York Stock Exchange and raised $100 million. Today it’s the largest independent wealth management company in China and valued at $2.6 billion. As the only institutional investor, Sequoia China earned a good return. “You would never have done that without a localized strategy,” Shen said. Though Sequoia US had invested in the financial sector, it focused mainly on financial technologies, so-called fintech. But Shen knew his home market well enough to bet not just on IT and health care but also on a broader spectrum of industries, as China was—and still is—in many categories “an open space,” he said.
As the market evolved, Sequoia China’s strategy diverged further from its parent’s. Chinese entrepreneurs, after years of learning from Western peers and being called copycats, had started to develop their own products and business models that didn’t have a model in the United States. These companies could baffle even sophisticated investors from Silicon Valley, including Leone himself. For the first 10 years he visited China, while Chinese entrepreneurs were playing catch-up, Leone would point to a Chinese company and say: “I know it—I saw this in the US.” Yet over the years, his déjà vu began to fade.
Take Meituan-Dianping as an example of how China is creating new categories of companies. It’s hard to define what Meituan-Dianping is. It’s a group-buying and review site. It handles food delivery, hotel bookings, movie ticketing, ride hailing, and other services. In 2018, it acquired Mobike. It rolls the services of Groupon, Yelp, Grubhub, Kayak, and Uber into a single enterprise. When Sequoia China first encountered Meituan-Dianping, it was two separate companies: Groupon-like Meituan and Yelp-like Dianping. (Dianping was founded in 2003, a year before Yelp.)
Sequoia China was the only investor in both companies’ earliest financing rounds. With the evolution of both—Meituan added food delivery, Dianping started offering group deals—a fight for market share erupted. Both firms burned through cash. Sequoia China facilitated a truce and a merger, which created a company with over 300 million Chinese users. During the company’s fund-raising, one leading investor dropped out after its letter of intent was signed. Sequoia China responded by doubling down. It eventually put in a total of $400 million, even though Meituan-Dianping still operates at a loss and some analysts doubt it will ever turn a profit. Shen explained his rationale: “The low logistics costs in China, coupled with high-density cities, is likely to produce massive and successful companies in on-demand services. That’s very Chinese. That kind of opportunity is rare in the US.”
Pinduoduo is another example. Founded in 2015 by Colin Huang, formerly of Google, the ecommerce company grew in three years from inception to IPO. It resembles Alibaba and JD.com, offering everything from clothing and cosmetics to groceries to home appliances. At first glance, it may seem imprudent to bet on an upstart like this when Alibaba and JD.com control over 70% of Chinese ecommerce. Shen thought the same—at first. But Pinduoduo set itself apart through its social functions. Users can share Pinduoduo’s product information on WeChat or QQ, China’s dominant social media apps, and get extremely low prices as a result of group buying. For example, a summer dress might be sold initially for the equivalent of $5. But if you and five friends each buy one, you might get them for $1.50 apiece. Pinduoduo’s interactive shopping, coupled with low prices, earned it a place in China’s ecommerce crowd. Four and a half months after the company launched, it had attracted 10 million users. Three years in, it had 300 million. Now it’s the second-largest ecommerce site in China in terms of active users and market value, behind only Alibaba. Initially, its users were primarily women from lower-tier cities (relatively less developed and less populated cities). “It turns out that there are still opportunities for ecommerce penetration in the tier-3 and tier-4 cities with users who have never shopped on Alibaba,” Shen said. That surprised even him. And Sequoia China bet correctly: Pinduoduo’s IPO on the Nasdaq in 2018 raised $1.6 billion.
Sequoia China’s other successes include DJI, the largest drone company in the world; Bytedance, a company that owns a news app, Toutiao, and a video app, TikTok; VIPKid, an online education company connecting Chinese students with overseas teachers; Innovent; and ZaiLabs and Betta, homegrown pharmaceutical companies. That’s a broader scope of companies than the parent invests in, and because the China team covers that broader range of industries, it’s now bigger than its US counterpart.
Seeing his China team invest differently doesn’t bother Leone. He never doubted that decentralization would result in a drift in strategy. He said he was confident that Sequoia’s principles would continue to bind the geographic units together—not just China but also India, Israel, and Southeast Asia. Those principles are “written in pen,” meaning not subject to change and accepted across the globe. Number one is “performance transcends time and everything else.” As long as that principle is the polestar, the particulars of Shen’s moves—investing in a restaurant chain in Chengdu or a video app that live streams guys eating noodles—don’t worry Leone. The focus on performance will keep Shen on track.
Then there’s trust, which Leone believes he and his Chinese partners have built over their 15 years together. He trusts Shen to run Sequoia China, and Shen has largely maintained his team since the China outfit’s founding. The reason, according to Leone, is how Shen manages his people: “He runs a democracy in decision-making and in compensation.” In an industry known for big egos, backstabbing, and bitter feuds, Sequoia China’s approach is an exception. Tao Zhang, founder of Dianping and a venture investor himself, offered perspective: “In China, most VC [venture capital] firms are a one-man shop. You have this dominant partner, and everyone else works for him. Sequoia China does it in a more institutional way. Neil runs the firm, but he definitely doesn’t make all the decisions himself.”10 That appeals to the young talent he needs to keep.
Beyond the principles, what gives Leone confidence in the ability of the China operation to work in harmony with the rest of the firm is what he calls “many filaments”—the many strands that tie the firm together. No one strand is decisive, but together they bind.
Twice-a-year global leadership meetings are one filament; the company’s annual meeting is another. The teams from the various offices traveling together internationally is yet another. An eight-day cross-border trip for young staffers is still another. With each of these, the Sequoia people meet in person and come to understand each other’s countries, business context, and approaches. “It incurs costs, but we are committed to it,” Shen said. He was referring not so much to cash but rather to opportunity cost—time spent away from finding and developing companies. After COVID-19 erupted in China in December 2019, Sequoia had to put many of these activities on hold and compensated with online Zoom meetings, making sure the global team stayed informed and connected. They even moved their twice-a-year limited partners meeting online.
When the pandemic spread from China, staffers at Sequoia China shared their portfolio companies’ experiences of dealing with the crisis with entrepreneurs in India, Southeast Asia, and the United States. “It turns out that entrepreneurs, no matter where they are, face similar challenges under the pandemic,” said Xing Liu, one of Sequoia China’s partners.11 “We passed along some of the solutions and approaches that Chinese entrepreneurs adopted and found useful.” Because of Sequoia China’s alert, Sequoia US became one of the first venture firms to act, issuing the letter “Coronavirus: The Black Swan of 2020” on March 5, 2020, when the United States had confirmed just 11 COVID-19 deaths and few in the country realized the massive impact from the virus.
Another important filament is integration of financial interests. International venture capital firms are not typically a single legal entity. Yet the filaments tie Sequoia’s entities together financially. All Sequoia partners are essentially investors in all of the Sequoia affiliated funds: A partner often invests his or her own cash in funds controlled by partners in another region.
On top of this, the limited partners in the many Sequoia funds overlap. That is, the universities, pension funds, and other large institutional investors invest in both Sequoia’s US and Chinese funds. This weaving of interests induces that collection of independent legal entities to act more collaboratively than a hierarchical multinational corporation. “There is no such thing as motherhood,” said Shen, referring to an eternal right to the profits of Sequoia’s offspring. “It has to be two ways, meaning that it’s not just the US sharing in the success of China, India and Southeast Asia but also vice versa.”
Leone summarized the situation slightly differently: “Nobody has his hands in anybody’s pocket.” Maybe a better way to say it would be everyone has their hands in everyone’s pockets.
This unusual combination of decentralization and centralization works well for Sequoia. Investment and operational decision-making and operations happen at the regional office. Finance, IT, and organizational coordination are centralized in the United States. Yet the seemingly simply setup is hard to execute. “It requires a huge amount of effort and step-by-step everyday practice,” Shen said.
Even Leone, the original evangelist of local autonomy, has struggled with letting go at times. For instance, when it comes to decision-making, he never wants the China team to feel as if the US office is dictating to them. But he also feels he has learned a few things in his 30 years of investing, which could help them and which he wants to share. Sequoia’s Liu said: “Our US partners are culturally sensitive. They would say: ‘This is what we think, but that’s from the perspective of Americans. It may not be relevant to your case.’ ”12
There have been times when Leone saw his Chinese partners do something he regarded as odd or ill considered, and he’d pick up the phone and interrogate them until he realized there was logic behind the decision. Now when he sees something he doesn’t understand, he tells himself, “There must be a good reason.” There usually is, but when crises do arise, as inevitably happens, he usually gets a call from his Chinese partners immediately. “It’s not like I find out later that they screwed up and they were trying to fix it,” he said.
It’s been 15 years since that bright day at that San Francisco hotel, when Leone and Moritz met Shen, and “things have worked terrifically so far,” Leone said. When asked how much Sequoia China’s success relates to the person he and Moritz handpicked 15 years ago, he pauses for a few seconds: “We got lucky with him. He got lucky with us.”
Sequoia China is now as economically significant as its US parent. By that measure, it may be the most successful case in this book—perhaps even one of the most successful foreign firms to venture to China. The decisive factors in Sequoia’s success were the following:
These elements and other factors in the framework are noted in Table 6.1, along with our subjective assessment of the decisive factors.
|
Factor |
Explanation |
|
|---|---|---|
|
Demand |
▲▲▲ |
Sequoia bet correctly that venture capital would become important in China. Booming entrepreneurship there propelled Sequoia’s success. |
|
Access to market |
Sequoia was formed as a separate Chinese entity, which was allowed by the government, but with cross sharing of profits with partners globally. |
|
|
Advantage |
▲▲▲ |
As a venture firm that had backed a number of legendary Silicon Valley companies, the Sequoia name resonated in China. |
|
Commitment |
Sequoia committed a first fund of $160 million, and Sequoia has kept betting on China with additional funds. |
|
|
Governance |
▲▲▲ |
Shared values, culture, and commitment unite the whole organization. Sequoia let Shen and his team do their work with little interference—but with much support. |
|
Leadership |
▲▲▲ |
As the founding partner of Sequoia China, Neil Shen turned out to be critical. |
|
Strategy |
Globally consistent strategy—investors with deep operating experience. |
|
|
Product |
Venture capital is relatively similar worldwide. |
|
|
Agility |
▲▲▲ |
Sufficient agility from autonomy granted to the China unit. |
|
Luck |
▲ |
Sequoia was lucky to see demand for venture capital boom and in its selection of a China leader. |
|
Note: Upward-pointing triangles indicate a positive factor. Downward-pointing triangles indicate a negative factor. The number of triangles is our subjective assessment of the relative importance of the factor. We omit indicators for those factors that we do not believe were significant for this case. |
||
In the next chapter, we turn to InMobi, an Indian start-up that broke through China’s internet firewall and went on to build a sustainable success.