Chinese ecommerce giant Alibaba is a market superstar but back in 2011 when US technology private equity firm Silver Lake first invested in the company, it wasn't such an easy sell.
Back then, the company founded by former English school teacher Jack Ma caused controversy when it transferred ownership of online payment platform Alipay to another company controlled by Ma, without the knowledge of major shareholder Yahoo.
"There was a swirl around Alipay, the wonderful acronym VIE, and those kinds of things that were creating a lot of confusion," Kenneth Hao, Silver Lake's managing director told delegates at the Asian Venture Capital Journal's Forum in Hong Kong on Thursday. "We had to overcome that with an exceptional degree of confidence in the growth story."
Variable interest entities, or VIEs, are Chinese legal structures. They enable a Chinese business that is wholly or partially foreign-owned to have effective control over the company which holds the licences needed to operate in a restricted domestic area such as technology. VIE structures enable Chinese companies to raise money overseas where foreign investors are not able to invest directly in the operating firm.
On the panel with Hao was Joe Tsai, Alibaba's vice chairman.
Silver Lake typically looks to double or treble its money within two to three years, so when it invested in Alibaba this would have implied a company valuation of at least $100 billion. While at that time this looked far-fetched -- triggering some debate within Silver Lake's own investment committee -- it now looks conservative compared to Alibaba's $291 billion market capitalisation.
Alibaba had a strong measurable business model which appealed to the private equity firm. It also didn't hurt that Tsai came from a private equity background and spoke the lingo that private equity players could relate to.
Tsai and Hao first met back in in 2008 when Hao was moving to Hong Kong and a mutual friend introduced them. "I asked a trusted friend who spent a lot of time in tech in China...which Chinese technology company [he] would personally put a lot of [his] own net worth in and he said: Alibaba," Hao said.
Their initial meeting was followed by lunches at the IFC Mall but it wasn't till three years later that Silver Lake invested in Alibaba, taking what Hao described as a "deep minority" position.
That investment reaped big rewards in September when Alibaba listed on the New York Stock Exchange with a world-beating $25-billion initial public offering of shares.
Alibaba's share price has since almost doubled to $118.20. As a result, Silver Lake’s 2.2% stake is now worth more than $6 billion. The firm reportedly invested just $300 million in Alibaba as part of a consortium that paid $2 billion for a 5.7% stake.
Getting a private equity firm to take out its cheque book was an important vote of confidence for the e-commerce giant in 2011. "It was a good validation of the company at a time when people didn't really know a lot about Alibaba," Tsai said.
Today it's an entirely different story, with investment banks and investors keen to court the ecommerce titan. Clad in jeans and a green jacket, Tsai, who was a competitive lacrosse player in college, is clearly optimistic about the company's growth prospects propelled by rising incomes in China.
"What we're looking at is the bigger trend which is the shift of the Chinese economy, from an export/investment-led economy to a consumption-driven economy," Tsai said.
Consumption only represents 38% of China's GDP whereas in developed countries such as the US, that percentage is closer to 70% of GDP, he added.
China is a country with about 300 million online shoppers, which is roughly half of the whole internet population in China. Alibaba essentially uses internet technology to enable shoppers to consume and it has been enormously successful. At the company's Singles' Day event on November 11 alone it attracted $9.3 billion in sales.
A rising share of Alibaba's e-commerce is taking place over smart phones and other mobile devices. Alibaba roped in $95 billion of its gross merchandise value via mobiles in the year to September-end, which is roughly 36% of total gross merchandise value.
Tsai said that Alibaba doesn't face as much of a challenge turning its traffic into money compared with social networks such as Facebook, as most of its users are already looking to make purchases.
"Anyone who opens up a Taobao mobile app wants to buy something," Tsai said. "The conversion is very high. There isn't that big bottleneck when it comes to monetisation."
Alibaba is open to co-investing with financial investors and since it has a longer time horizon for investing, it could also provide an exit for investors. "Our horizon is much much longer. We sort of have an infinite horizon so we know if we bring a financial partner...they will want to exit. We could be their exit," Tsai said.
Alibaba's competitors beware. If his attitude towards lacrosse is any measure, Alibaba vice chairman looks keen to beat down the competition. "When you put on the uniform, you’re there to win, not there to go through the motions," Tsai said.