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One team, Sixteen years: Partnership and CoStone investment philosophy

2017.11.20 Security Times Views:



Founded in 2001, CoStone now boasts its 16 years of investment management experience. CoStone was among the first batch of growth equity investors in China, through years of hard work, today it is managing more than 40 funds of different types, including VC, PE growth, PE buyout, achieving an AuM of ¥45 billion. And one feature distinguishes CoStone from other established players in the field: The founding members of CoStone have never part ways for 16 years.

Zhang Wei, Lin Ling, Xu Wei, Tao Tao, Wang Qiwen, Chen Yanli and Han Zaiwu were the 7 initial members of the CoStone team. Yesterday, on the Venture Capital Forum of the 19th China Hi-Tech Fair, CoStone’s Chairman Zhang Wei shared about what has united the founding members for all these years: the distinct corporate culture of partnership.


Partnership: Inhibitor of investment risks

Zhang Wei believes that partnership is a corporate management model that aims for value creation in the long run. Venture Capitals need more than just capital, the partnership culture is also crucial.

The essence of investment industry is to manage asset for others, therefore, one of the most important competences for institutional investors is risk control. Gambling on others’ money is unacceptable.

Zhang Wei quoted David F.Swensen, CIO of Yale University, as saying that the managers’  high proportion of co-investment can ensure that they would see gains and losses from the same perspective of the investors. He said that corporation governance and risk control should seek to align the interest of managers and that of the investors, in comparison, the man-made protocols and rules could be compromised rather easily and is not always reliable.

In practice, CoStone Investment Committee never violates the One-Person One-Vote rule, partners can only co-invest in funds instead of specific portfolios so that their interest is highly aligned with the LPs.

According to Zhang Wei, the four most important characteristics of partnership in organizing and managing start-ups are: consensus, risk-sharing, entrepreneurship and achievement-sharing. Consensus refers to the strategic agreement of partners, who share the same mission and the same value. Risk-sharing is self-explanatory. Entrepreneurship requires partners to fully demonstrate their specialty in different fields. And achievement-sharing indicates that equity result will benefit all partners. Among these four aspects, risk-sharing and consensus are the most vital, because the former demonstrates the contract of human resource and capital, and without the latter, partnership will soon fall apart.

“Our team has been solid for the past 16 years, and now we have grown into an AuM of ¥45 billion.” Zhang Wei said that the essence of major modern enterprises is the collaboration based on coordination or division of labour, to which entrepreneurship and achievement-sharing are relevant . “CoStone has a diversified equity structure, there are both internal and external capitals. But the core members and key staff all hold shares, thus the corporate governance system is effective.

Zhang Wei further explained how partnership culture could influence investment. He illustrated with the example of WENS, the world’s largest pig farming company and also an investment project CoStone has followed for long. From Zhang Wei’s observation, WENS has achieved an impressive innovation of partnership culture. The ultimate controlling owner of WENS is the Wen family, but they only possess 16.74% of the company’s shares, in the meantime, company shares are also owned by senior managers and over 6,000 company staff. “Generally speaking, public listing is not that easy for companies with over 200 shareholders, but WENS made it. Many of these 6,000 shareholders were initially pig farmers. WENS promotes sharing, and it built a platform to connect over 56,000 household farms through internet, by doing so, WENS achieved a model of intensive management and distributed operation. This allowed WENS to follow the asset-light strategy and also addressed the responsibility issue. Thanks to such a distinctive partnership, WENS made a profit of ¥11.8 billion in 2016.

Another typical partnership model is the one adopted by HUAWEI. 80,000 people hold shares of HUAWEI. By contrast, the founder, Ren Zhengfei, only owns 1.24%, yet he still has absolute control over company affairs. The essence of HUAWEI’s price distribution is employee stock ownership. Over the past 20 years, HUAWEI has also been promoting its partnership beyond just profit sharing, it has been highlighting value creation. “Guaranteeing profit sharing and maintaining corporate culture is what partnership is really about.” Says Zhang Wei.


A closer bond between investment institutions and corporations

Investment philosophy can also be inspired by partnership culture. Zhang Wei points out that there are two most important issues for VPs. The first is valuation. On the one hand, margin of safety is an important foundation for a good investment, on the other hand, irrational exuberance of the capital market can also be necessary for a big success.

The second important issue is assessing the growth potential of a corporation. A corporation’s growth potential is determined by its entrepreneurship, corporate governance, organizing system, technological advancement. industrial structure and industrial cycle, among these factors, CoStone values entrepreneurship the most.

“I don’t think entrepreneurship is a common quality that can be found in every individual. I’ve summarized three levels of entrepreneurship: The first level is diligence and resilience, many have such qualities. The second is the ability to think outside the box. True entrepreneurs will not be bound by rules, sometimes one need to take some risks. To put it in Schumpeter’s words, that means to fight your way to success regardless of what resources you have at the moment. The third is even rarer, it is about aspiration and a big heart. Aspiration means that the corporation must not pursue purely for money, instead, it should have a vision and try to build a true career. And only a big heart can realize that the corporation needs to be shared.” Zhang Wei said.

Zhang Wei believes that investment institutions should have a closer bond with corporations they invest in. “We have invested in a few corporations with entrepreneur spirit, and they are very rewarding. We’ve also formed a close bond during investing.” According to Zhang Wei, the long-established competitive enterprises share one secret: They are not the producer of a specific product, instead, they are the organizers of an entire industrial chain. That means corporations must work on the lower and upper stream of the industry and maintain an operating partnership in the long run. “CoStone highlights the relationship between investors and the invested entrepreneurs. CoStone encourages to build a quasi-partner ecosystem through long-term engagement, so that common grounds can be bigger, service can go deeper, and value can be created better.”

Zhang explained with the example of CoStone’s investment in HUAWEN Media Group (000793.SZ). Zhang Wei noticed that Huawen Media was the only newspaper that distributed stocks to managers, which promoted sharing. CoStone has also looked into other city newspapers in Nanjing and Guangzhou, but they both lack the sharing mechanism, therefore CoStone had faith in Huawen Media, for the benefits and risks are both shared. Seven years later, Huawen Media’s profit increased to six or seven times higher. Having made a success, Huawen Media returned the favor by investing in CoStone and it is now a firm advocating LP of CoStone. 

Rewritten by: Xue Guanda, Edited by: Du Zhixin, Li Yunzhen

The year 2019 marks the fortieth anniversary of China’s Reform &Opening-Up, once again, we meet at the turning point of history. What’s the next step for the game, is there any clear guidance? The answer is affirmative.

Our country is enjoying a good momentum of development, which does not come from the Washington Consensus nor the Beijing Consensus. China’s experience has proved that both the visible hand and the invisible hand are crucial: the visible hand, stands for the government-led reform, and would yield benefits for reform and opening up; the invisible hand, stands for the Marginal Power represented by the private sector, and would improve economic efficiency and tax collection, create jobs and employment opportunities.

Provided that we want to protect and expand the benefits form reform, three simple but mandatory agreements are to be made and followed: No.1 Private ownership must be recognized, protected and treated equally with public ownership constitutionally, both ownerships are scared and inviolable;No.2 Make further clarification of the principal position of market economy, “deepen economic system reform by centering on the decisive role of the market in allocating resources”, as President Xi addressed in the third Plenary Session of the 18th CPC Central Committee;No.3 Implement the guiding principles of “comprehensively promoting law-based governance” of the fourth plenum. The rule of law is essential for economic growth, irreplaceable to protect private ownership, and necessary to encourage innovation and entrepreneurship.

Above are three rules for us to avoid falling into the Middle-income Trap. Assuming that we are breaking systematic barriers to private enterprises’ participation in market economy, and boosting innovation and entrepreneurship of our society, then we are heading towards a promoting direction. We are marching in the path of light, regardless of the ups and downs of Sino-US relationship, the drop in GDP growth rate, or the monetary policy.

These principals also apply on knowing how better to run a business: don’t be hedged by rules and regulations at the beginning, pay more attention to your survival, and you’ll learn more when you start your second business.

For many years, Huawei has been the only Chinese company on the list of the Top 50 R&D Spenders. Regardless of the economy and its income, what Huawei has been doing is investing in its future, dedicated to R&D, continuously and resolutely. This provisional work underscores Huawei’s accomplishments, makingHuawei anindustry leader.

So, there are standard answers on how to run a company,which could be summarized as concentration and professional dedication, continuous investment on innovation and trying harder in R&D. Entrepreneurship is also important, every single company needs entrepreneurs to push aside all obstacles and difficulties, to implement strategies and ideas. We, as investors, are destined to look for such outstanding entrepreneurs and their companies, invest in them and partner with them.

At this key point of history, a country, a company, or asingle individual, will all need to find the right path. Four decades after the Reform and Opening-up, it’s time to learn from our experience and stop “wadding across


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