Talking Point

Who dares wins?

2018 is proving a pivotal year for the TMD – as they take on the BAT

Wang-Xing-w

Meituan’s founder Wang Xing hits the gong as his company’s stock makes its trading debut in Hong Kong

Throughout Chinese history, checks and balances have always been at play in the royal court.

Just tune in to an episode of any imperial drama: the plot invariably develops around how the concubines in the palace fight amongst themselves, discredit their rivals and murder each other’s sons. The emperor only steps in when one of his wives is thought to be getting too far out of control.

It wasn’t only with his wives that the emperor needed to calibrate a balance of power – he also needed to make sure that there was enough competition between rival factions in order to retain his own power within the scheming royal court. Intervention was again required whenever a single group grew too strong or too weak. The key was to keep the ambitious focused on attaining more power but preventing them from grabbing too much influence and thus undermining his personal authority.

These same dark arts are at work in modern day China, in this case with Beijing’s constant juggling between the interests of the state enterprises and the private sector. The balancing act has reached a critical stage in the internet era, where the private sector firms in the BAT triumvirate (Baidu, Alibaba and Tencent) have been allowed to thrive, while state giants in sectors like banking and telecoms seem to have been pushed more to the margins.

However, with the commercial tentacles of Alibaba and Tencent now reaching into so many areas of Chinese life (Baidu has struggled to keep up, admittedly) an important question is being asked: is the duo getting too powerful for the liking of the Chinese government?

To ensure a ‘check and balance’ outcome in the country’s thriving internet economy, could the authorities opt to support newcomers that challenge the dominance of Alibaba and Tencent?

A trio of emerging contenders – Toutiao, Meituan and Didi – are known as the TMD. But they’ve run into different “growth problems” of their own this month. How successfully the TMD deals with these challenges needs monitoring as the trio could reshape the competitive landscape of the Chinese internet, and even the wider economy.

Why is Toutiao making its own headlines?

When we first profiled Jinri Toutiao – which means ‘Today’s Headlines’ – in 2014 the news aggregating app looked to be more of a threat to traditional media outlets (see WiC244).

The growing reach of the app soon got investors interested. Reuters reported last month that Toutiao parent Bytedance has been working on another financing round that would value the six year-old business at $75 billion. In comparison, People.cn, the Shanghai-listed unit that runs the website of the long-established People’s Daily, is worth only Rmb8.6 billion ($1.3 billion).

Yet the meteoric rise of Bytedance isn’t only riling the state-run newspapers (which view the Toutiao rivalry in existential terms). The relative newcomer is also emerging as a threat to the country’s most powerful internet firms. Tencent is a case in point. Since June the internet titan and Bytedance have been suing each other over competing claims of defamation and unlawful competition (see WiC416). The rivalry has seen Tencent block content from Toutiao and its sister firm Douyin, the operator of China’s most popular short-video platform, on its ever-present social media network WeChat.

There is no better way to contain the threat from an emerging rival than back a copycat service and outspend the competitor. This seemed to be Tencent’s strategy when it led a pre-fundraising round in March for Qutoutiao (meaning ‘Fun Headlines’ in Chinese). Founded only two years ago, Qutoutiao set out to take market share from Toutiao with a like-for-like news app. The company’s critics say that Qutoutiao is a poor imitation of its larger rival, which is why it is struggling to win over readers in wealthier cities. However, investors seem to like the fact that Qutoutiao has Tencent’s backing. It listed on Nasdaq last Friday and its share price doubled on debut, giving it a market worth of nearly $5 billion.

Earlier this month, China’s biggest video streaming site iQiyi also sued Bytedance for unauthorised streaming of short clips of its hit show The Story of Yanxi Palace (another TV series about the politics of imperial concubines, see WiC422). The Baidu-backed video streamer – sometimes dubbed China’s Netflix – knows a bigger fight with Bytedance is brewing too. The latter announced this week that it will be purchasing and producing its own film and TV content. This should see Bytedance’s video business expand beyond Douyin and compete head-to-head with iQiyi on long-form video content, such as dramas.

Providing news and video content is a tricky business in China, where media controls are morphing in new directions on an almost monthly basis. Bytedance had firsthand experience of a knuckle rapping from the regulators in April, when Toutiao had one of its apps closed by state censors for publishing what was deemed to be misleading information (see WiC405).

The company made a fulsome apology to the government and has subsequently revamped how it will manage content inside China and overseas as it expands abroad.

For instance, the Financial Times reported this week that Douyin and Tik Tok, two of Bytedance’s short-video apps, look almost identical in terms of their interfaces but the latter is only available to foreign users.

The setup, the FT noted, has been designed so as to enable Bytedance’s growth in foreign markets without upsetting state censors back at home. To ensure the proper sense of separation between the two models – and to stop the Chinese seeing unfiltered content – Tik Tok only allows its customers to register an accounts via Facebook, Instagram, Twitter or Google Plus, all of which are blocked in China.

Tik Tok was the world’s most downloaded iOS app in the first quarter of the year and it is another example of a Chinese tech start-up enjoying global success. However, in China Bytedance’s rapid growth has not been without setbacks. As we reported in WiC424, its hopes of taking on Quora-like knowledge service Zhihu have proven its most humbling business experience to date – that’s because its much-vaunted prowess in artificial intelligence (AI) hasn’t proven so successful in this instance.

Is Didi’s expansion running into roadblocks too?

Had the state censors cracked down on Toutiao for infringing the copyright of the state-run newspapers in its early days, it might not have grown to its current scale.

Likewise, China’s dominant car-hailing app Didi Chuxing owes much of its rise to the State Council’s efforts to curb some of the entrenched interests of the country’s state-owned enterprises, or SOEs.

In early 2015 Didi was less than three years old when it came under immense pressure because of the public protests of unhappy taxi drivers (see WiC267). Most of the traditional taxi operators are SOEs backed by the local governments. The State Council’s decision not to outlaw car-hailing apps like Didi’s (in Hong Kong’s freer market Uber is illegal, for example) marked a turning point for China’s sharing economy.

Having combined in 2016 with Uber’s rival China unit, Didi now arranges 10 billion trips a year, which amounts to nearly 90% of China’s ride-hailing market.

All the same, the sector’s rapid growth has attracted a lot of new interest. The automaker Geely, the online travel agent Ctrip and its TMD counterpart Meituan (more on this firm later) are all trying their luck in the ride-sharing business.

A more pressing concern for Didi right now is safety, however, after another female customer was raped and killed by a driver late last month (see WiC422).

Caijing magazine reports that Didi has slammed the brakes on its expansion plans as it tries to shore up its core business. The pause includes cancelling efforts to launch food delivery services in some cities to compete with Meituan.

“Didi will stop using scale and growth as our measurement of success. We shall prioritise safety as the single most important performance indicator,” the company’s CEO Cheng Wei wrote in a letter to staff last month that was leaked to the media, adding that Didi’s 30 million drivers would now be better monitored.

Didi is trying to get back into the good graces of the Chinese authorities and Caijing reports that the company has been in endless meetings with local governments and regulators. According to the magazine, Cheng has been under such intense pressure that he was reduced to tears during one sit-down with officials.

Didi was valued at $56 billion in a fundraising round last year and had plans for an IPO this year. But the FT reckons that onerous new rules to ensure passenger safety – some self-imposed and some required by the municipal authorities – will squeeze that valuation. Cheng’s staff letter also raises questions about its path to profitability. He admitted that Didi had failed to turn a profit since its founding six years ago and that even with its current market dominance, it spent Rmb11.7 billion on driver subsidies in the first half of this year.

Does Meituan have a ‘growth problem’ too?

Wang Xing founded Meituan in 2010 as China’s answer to Groupon (see WiC117 for Wang’s profile). It has since evolved into the world’s largest food delivery firm, building a reputation as China’s “everything app”. It offers a huge range of services including restaurant bookings and reviews, tickets for films and theme parks, appointments for haircuts and beauty treatments, apartment rentals, ride-hailing and bike-sharing. It also claims to arrange more domestic hotel bookings than longtime online travel industry leader Ctrip.

Compared with Toutiao and Didi, Meituan’s core businesses in delivery have fewer interests that overlap with the empires of the leading SOEs. Unlike its TMD counterparts, the Beijing-based company has largely avoided controversy, and probably for that reason it was the first of the three to reach a key milestone this week: an overseas listing.

As we reported in WiC416, a number of China’s tech unicorns have been floating their shares at the behest of their private equity backers (some of whom are desperate to book gains to pacify their own investors). Meituan is one of the highest valued of these unicorns but its IPO could hardly have been deemed ideally timed: its roadshow coincided with weak market conditions that were made worse by the escalating Sino-US trade spat. That explains why the public tranche of Meituan’s share offer was not massively oversubscribed (Reuters said it was 1.5 times covered).

However, the ‘everything app’ seems to have won the market over. When the company debuted on the Hong Kong bourse yesterday it saw its share price rise 5% from its initial offering price.

Having raised $4.2 billion from the listing, Meituan’s market value stood at $51 billion as of Friday lunchtime. This valuation still looks demanding to conservative analysts, given the unicorn’s net losses had tripled to Rmb19 billion in 2017. The loss then widened further to Rmb22.8 billion for the four-month period ending in April this year.

Meituan explains in its prospectus that the bigger loss reflected its $2.7 billion takeover of bike-sharing app Mobike, which was completed in early April. The bike unit then ran up close to Rmb500 million in red ink in less than a month. (Cheng also revealed in his open letter that Didi made a net loss of more than Rmb4 billion in the first half this year.)

Hong Kong Economic Journal says that investors are concerned that Meituan will burn a lot more cash in bolstering its new businesses in areas such as bike-sharing, and in order to keep hold of the top spot in food delivery against Alibaba-backed rival Ele.me (which raised cash to start a price war this summer).

That’s probably why the company announced its decision during this month’s IPO roadshow to shelve plans to expand its car-hailing service into other Chinese cities – to avoid yet more costly subsidies.

As we’ve reported before, China’s biggest tech players have been venturing into each other’s core businesses (see WiC404). Meituan’s decision to backtrack from ride-hailing – together with Didi’s withdrawal from food delivery – could signal the beginnings of an unspoken truce between the TMD rivals.

The pressure is now on Meituan to deliver a strong post-IPO performance in a year in which tech IPOs have generally disappointed fund managers. For instance, both Xiaomi and Ping An’s fintech healthcare platform Good Doctor are trading below their offer prices.

The bigger picture

Alibaba and Tencent have been dubbed China’s biggest private equity investors because they’ve hoovered up hundreds of smaller players across a diverse range of industries. The successes of their core businesses and their expansion into new areas (such as cloud computing) have rewarded the two giants with market valuations around the $500 billion level (at their respective share price peaks earlier this year).

Both companies have seen their stocks drop since then, especially Tencent, which is one of the worst performers in its peer group. But none of China’s other tech players can claim to be a peer in market cap terms – with the valuations of Baidu ($80.7 billion), Xiaomi ($48 billion) and Meituan only a fraction of the duo’s.

Unlisted Didi and Bytedance are in similar territory (Alibaba’s valuation is around 8 times that of Didi, based on its last fundraising round).

However, what all seven firms have in common are very large customer bases, spread across different segments of the Chinese internet. Didi, for example, claims 560 million registered users, which is about half as many as Tencent’s WeChat. Many of these customer bases overlap between the rival platforms but they are all generating huge amounts of proprietary data. This makes the seven firms important to China’s Big Data revolution, as well as potentially significant innovators in the world of AI.

It is an area where the main state-backed companies are mostly absent. That means the central government cannot count on SOEs to achieve its goal of making China the world leader in AI by 2025. Indeed if that dream is to be realised, these seven tech companies will be at the forefront of delivering it.

Which brings back to our earlier discussion about Chinese history: the BAT rivalry has often been likened to the Three Kingdoms Period (220-280) but this tripartite division of ancient China only lasted six decades. The best scenario for the Chinese government now, if again applying the lessons from the past, is to have more tech companies competing with each other and innovating but in the process balancing out each other’s (economic and social) influence. That’s just like what happened during the Warring States Period (475-221 BC) when seven states fought each other to a standstill for several centuries. In other words, Beijing would likely welcome it if the gap between the BAT and the likes of the TMD (as well as Xiaomi) is narrowed.

So will Beijing meddle with private sector tech firms?

This group of seven ‘warring state’ tech firms might achieve a balance of power. But should investors worry that if one firm becomes too successful it will frighten the government with its dominance (and become a victim of its own success)?

Indeed, in a climate in which President Xi Jinping and the Party are struggling with an apparent paradox – insisting on maintaining government control of many sectors of the economy, yet also demanding more creativity and innovation – this is an existential question.

It probably wasn’t a coincidence that this same theme came to dominate a state-sponsored AI conference in Shanghai this week.

Thus far the government has allowed the private sector to dictate much of the development of what is being termed as the ‘new economy’. But there are signs that this policy could be changing. Tencent, for one, is now experiencing the more detailed attention of the regulators in online games. The Ministry of Education introduced new rules last month to limit new video game releases, as well as curtailing playing time for younger people.

Citing company insiders, the Wall Street Journal also reported in November last year that the government was talking about acquiring small stakes in the likes of Alibaba and Tencent in order to have more oversight of their decision-making.

More recently there have been whisperings online about whether Alibaba might be ‘nationalised’ one day as well. Speculation on the topic grew after its chairman Jack Ma said last week that he would step down in a year’s time (see WiC424).

At the AI forum, Ma insisted this week that he had been devising Alibaba’s succession plan for a decade and that any suggestions of him being pushed aside by the government were malicious rumours (Ma says that, far from wanting him ousted, shocked government officials phoned him to ask if he was stepping down because of illness).

But Ma also warned the government attendees at the forum against bureaucratic meddling, saying that Beijing should take a lighter touch in dealing with the country’s tech companies, and allow the market to shape the direction in which new industries such as AI are developing. “I personally think the government should do what the government should do, and companies do what companies should do,” he suggested.

Despite this careful call to trust the private sector more, there were reminders in the state media that the ‘emperor’ will always get twitchy about ceding too much of the economy to the private sector, however. “The standard to measure the development of the new economy is never valuation or user traffic,” the People’s Daily wrote in an op-ed this week. “Instead it should be measured by the rewards, happiness and sense of security of the public.”


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