Only Strong Ties Survive

You might know Renren as the Chinese Facebook. But get ready for Renren 2.0: the Chinese Kickstarter. According to a recent news report, Renren get started offering peer-to-peer loan services.

Not to be outdone, Innovation Works, the company helmed by Microsoft and Google veteran Kai-Fu Lee and a Chinese Y-Incubator wanna-be, has finished raising new funds that will transform the company into a more conventional venture capital firm.

If you want a simple reason for both transformations, it is this: neither business model, in their original incarnation, made money. Renren had a lot of users, but even with the addition of revenue from gaming, loses money, and loses it quickly, as in $25 million a quarter.

If Facebook can’t make money (despite growth and the rise of mobile earnings), you can’t expect a Shanzhai version to make money, especially since Chinese internet ads only generate a pittance compared to its American counterparts.

Same goes for Innovation Works. Despite presenting a couple of highly publicized (and highly controversial) projects, Innovation Works just couldn’t overcome a fundamental obstacle: none of its investment made money or is on the cusp of profitability. China simply does have the environment that makes the incubator model feasible.

To understand why these two business models are among the countless imports that failed to take root in China, one perhaps could find an answer in Barbara Tuckman’s classic, The Guns of August. In a timeless passage, Tuckman described how Vladimir Sukhomlinov, Imperial Russia’s Minister of War, had an unbending faith in cavalry charge. Sukhomlinov himself was a calvary officer during Russia’s war with the Ottoman Empire in 1877, and this lasting impression made him believe that the elan of the riders are forever superior to talks of modern warfare, or silly things such as guns.

In a sense, importing business models from the U.S. to China is like Sukhomlinov living through the ages. It is quick to cross the Pacific Ocean nowadays, but the differences between the two countries in regard to their respective political, legal, economical, and social institutions are still wide, perhaps as big as the one between the Victorian and the Modern era.

America is endowed with the greatest institutions in the world, according to Why Nations Fail, while on the hand, China may be growing at the fastest clip ever recorded, but it remains an extractive country.

So far, this hasn’t stopped China from growing, but it is naïve to think what worked in the U.S. would also work in China. In The Mystery of Capital, economist Herman de Soto argues that property rights exist in different forms. People in the West often think people in the less developed countries have no property rights; that’s simply not true, according to de Soto. To adapt to the lack of strong legal foundations, people in less developed countries have unwritten and informal rules. In such a society, if one still plays and abides by Western rules, failure is almost the guaranteed result.

Because of its historic legacy, America is a country that’s relatively open and with high social trust, a company can thrive on weak ties. In China, however, only the strong ties survive. That’s why an American Linkedin makes money, but a Chinese one can’t even get off the ground. Maybe it is not too late for Renren and Innovations Works to pivot, but for entrepreneur less fortunate and less well endowed, perhaps they should aim for “Chinese characteristics” from the get go instead of waiting until they are pushed to a corner.

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