• Tao Zhang

Should Investors be Worried About Backing Companies in China?

Updated: Nov 2

Tutoring is a big business in China. Or, at least it was.


As recently as earlier this year, as many as 92% of families with school-aged children in China were paying for private tutors, up from 65% in 2016. On the whole, it’s an industry worth more than $150 billion USD.


Not surprisingly, this has attracted interest from outside investors and education companies looking to tap this vast and lucrative market. And that, this past July, got the attention of the Chinese government. That’s when the state council released new rules barring for-profit companies from tutoring in core curriculum subjects. No new licences would be issued and all existing outfits must register as non-profits.


The reason?


To reduce pressure on parents and students and level the playing field in the country’s hyper-competitive schools.


The result?


Shares of some tutoring companies listed in New York and Hong Kong immediately fell as much as 60% on the news. Major education companies like Gaotu Techedu, the New Oriental Education and Technology Group, and the US-listed Tal Education Group have said they will comply with the new regulations. Tal’s stock price, for instance, currently hovers below $5 per share, down from over $60 just 12 months ago.


For foreign investors, in particular, this event highlighted worries that many have around investing in China. Faced with such strong government oversight, the future of entire industries effectively lies in the hands of few people in Beijing. If they decide they don’t like what a company or an industry is doing, they can effectively put it out of business almost overnight.


As investors in China ourselves, we at Dao understand this impulse.


The concern for many in the international community is that China remains something of a black box and doing business there introduces unknown risks like the government intervention that has transformed the education sector. It’s true, those things happen.


But in those concerns lie opportunities.


To continue to use the education sector as an example, despite the government crackdown on private tutoring, the most recent policy update from China’s State Council is that foreign businesses are encouraged to invest in adult education and vocational training in Beijing to start with, with specific policies to be enacted by the municipal government.


Investor skittishness surrounding Chinese companies and those companies focused on the Chinese market has created a vacuum across multiple markets -- including alternative proteins -- in which high-growth opportunities are in need of capital to scale their businesses but are having trouble finding it. That’s a chance for foreign investors to unlock new opportunities that others are overlooking, if they choose the right angle to look at this market.


Unorthodoxically, that angle is not just business, it should be impact -- social and environmental impact that is closely aligned with what China’s policy makers are trying to achieve for a good society as perceived from their prism.


Why is the Chinese government cracking down on private tutoring businesses while encouraging foreign investment in adult education and vocational training? Because they know that if China wants to create an almond-shaped, stable society where the core is middle class, private tutoring intended to create elites is far from being helpful as much as adult education and vocational training.


Beyond the private tutoring business, it is not surprising that international investors seem to be more worried about China’s crackdown on some of the country’s flagship internet companies such as Didi and Alibaba.


As pointed out by a very recent New York Times guest essay: “Yet even here, the story is not black-and-white. The internet crackdown is not really about crushing private enterprise: Private companies in many sectors, including tech hardware, are doing just fine. Rather, the crackdown addresses...the same anxieties about big tech that governments around the world are grappling with: unaccountable power, monopolistic practices, shoddy consumer protection and the tendency of a tech-heavy economy to drive income inequality.”


At the end of the day, China has come up with and more than likely will continue to have a hybrid model where both market forces and government meddling are at play at the same time, though to various extents depending on the circumstances, going forward. So far it has worked. As far as I can see, such a model with Chinese characteristics will keep on evolving, and for the best interest of the entire world, I certainly hope that it will keep on working all along the way.


What this means to alternative proteins


Now, back to impact and alternative proteins.


Every impact angle seems to pivot to where Chinese policies should be moving over the coming years and decades, be it environmental impact, protein security, national health and nutrition, or even social equity. And this certainly bodes well for the alternative proteins sector.


This being said, this certainly does not mean that international alternative protein investors and companies can just rush into China thinking that their impact is naturally aligned with China’s policies, loud and clear. If so, they are wrong again if they are not wary of the pitfalls along the way. For instance, curbing food waste is high on China’s policy agenda. If alternative protein investors and companies are producing a lot of food that mainstream consumers don’t accept and therefore result in being wasted, the fear is that the fate of the private tutoring business could await them around the corner.


In a nutshell, China is not the black box that it might at first appear. An impact angle always helps in navigating the nuanced and always-evolving policy environment. As a cross-border impact venture founded by experienced policy analysts and China-focused impact investors, Dao Foods is certainly well positioned to help and guide all along the way. For this, it is probably worth noting that it was at a policy school, rather than a business school, where the Dao Foods founders studied, crossed paths and developed a shared passion for impact investing.


Good Food, Better China, and a Better World.