Four years ago, Joe Zhou and his partners at Softbank Asia Infrastructure Fund (SAIF) made an investment of $40 million into Shanghai-based online game operator Shanda Interactive Entertainment Co Ltd. The investment was believed to be highly risky, as the prospect of online games was uncertain in China and Shanda was in legal trouble with its South Korean partner.

However, the venture capital (VC) firm turned out to be a successful pioneer in leading an investment wave into online game companies with over 10 times in returns in less than two years. Since then, other venture capital firms have closely watched the moves of Zhou and his partners.

Now Zhou, a venture partner with SAIF since 2001, is trying to lead the venture capital trend again. This time, he's looking to the healthcare industry.

"We manage a fund of $1 billion, and the first investment in the healthcare industry happened last year; this move is typical among venture capital firms," says the 46-year-old Zhou, who holds a masters in electrical engineering from the New Jersey Institute of Technology.

According to the Beijing-based VC industry consultancy Zero2ipo Co Ltd, there was $4 billion in venture capital funds in China in 2006, and $1.78 billion have been invested. Of those investments, less than 60 percent went to the traditionally favorite information technology sector, down from 66 percent in 2005.

On one hand, say experts, there is plenty of money available. On the other, too much concentration on the Internet drives up the valuation of a single deal.

Now, when VC companies search for new targets, firms involved with healthcare often attract their attention.

Milestone for the sector

On September 26, Shenzhen-based Mindray Medical International Ltd, a minor competitor of GE in medical monitoring equipment and ultrasound scanning equipment, listed its stocks on the New York Stock Exchange (NYSE) and raised $311 million from the public offering.

"This is a milestone of China's healthcare industry, but it is equally important to the global healthcare industry, as it is the largest IPO in the business in the past two years," says Ge Yang, a representative of NYSE in China.

According to Zero2ipo, four Chinese healthcare companies made overseas public offerings last year and nine mergers and acquisitions took place, showing increasing interest from investors.

The prospect of China's healthcare industry is also encouraging to investors.

The US pharmaceutical consulting firm IMS Health says in its global industrial forecast that China's pharmaceutical industry will grow at 15-16 percent to $1.5-1.6 billion in 2007, compared against a global average growth of 5-6 percent.

Jiang Feng, president of the China Medical Equipment Industry Association, says that the proportion of the whole healthcare industry, including hospitals, medicine and equipment, only accounts for about 3 percent of gross domestic production in China, while the proportion in developed countries like the United States and Japan is around 10 percent.

The issue of intellectual property rights (IPR) remains a big concern for investors. But the IPR protection situation is improving, experts say, as the Chinese government recognizes its importance in building a country not dependent on low-end manufacturing.

Lack of international expertise and talent is also easing as many Chinese are returning home with medical or bio-science degrees from the United States, Europe and Japan.

The research and development investment of international pharmaceutical giants such as Novartis and Glaxo Smith Kline also bring global expertise.

The uncertainties in regulations are still one big difficulty, as many government officials, doctors, distributors, and sales representatives were arrested in an anti-commercial bribery campaign in 2006. Even so, the market does see some positive factors, and the window for bountiful returns on investments has opened.

Small player leads trend

Harbinger Venture has $150 million under management, much smaller than big name VC's such as SAIF or Sequoia, but it has been a pioneer in investing in healthcare firms.

T.C. Chow, co-president of Harbinger, says his firm used to focus on semiconductor and electronics, but in 2000, it began to invest in healthcare firms, when it saw the help of electronic devices as improving the quality of healthcare services.

To date, it has invested in six medical equipment firms, three in the United States and three in the Chinese mainland and Taiwan.

"We started our healthcare investment in the United States, but then we realized our investment in Chinese equipment makers could also help offer cheaper and better quality services than imported products, and it turns out our investments were worthwhile," says Zhou.

Jonathan Wang, general manager with Burrill & Company's Greater China business, says the US life science investment firm manages $800 million globally, but only started to invest in China with a science technology fund.

"One philosophy for us is to be a bridge of life science technology. China does lack technology," says Wang. "What China needs the most is a bridge, which connects it with the world."

He adds that in developed countries, there are large and mature markets and advanced technologies. But China has cost advantage and huge untapped demand, so a capital bridge will help bring the advantages of both sides together and generate good returns for the future.

Last year, the company brokered P&G to sell one of its antibiotic products to a Chinese firm for about $100 million.

However, China is still a different market compared to those in the United States and Europe.

In China, the healthcare market is subject to regulations. Hospitals rely on sales of medicines as the most important revenue pool, while the value of medical services by doctors and nurses are not recognized, so the prices of medicines at hospitals are usually quite high. What's more, bribery used to be a frequent practice between hospitals and medical companies.

Another difficulty is that the process of new medicine development is uncertain, while in the United States, approval from the Federal Drugs Administration usually means the medicine will be able to be delivered to the market in a predictable period of time.

So, many VC companies mainly focus on areas such as personal beautification, dental services, medical outsourcing, and export-oriented companies, which are less impacted by regulations.