Over the last few months, the Chinese government unleashed a deluge of tightening measures on various industries. From imposing the “three red lines” on the property sector, reining in internet companies over data security issues, to banning for-profit tutoring in core school subjects, the rationales behind their introduction vary. In today’s article, we will be focusing primarily on the policies’ impact on Chinese technology stocks.
Before we delve into how the measures hit these companies, let’s take a step back and tease out the logic on which they are built. Judging from multiple sources, we think it comes down to three main reasons. First, to prevent leakage of confidential national data and state secrets, and to protect national security. Second, to prevent monopoly and encourage competition. Third, to prevent large corporates from exploiting employees. To the entire tech industry, the changes these reasons will potentially set off will be tremendous.
Jack Ma once said that, data is to the modern world what oil was in the previous century. User data allows companies a glimpse into users’ preferences and habits, enabling them to recommend services and products more accurately suited for target customers. Naturally, the critical role data plays becomes increasingly clear to China. But the question is: how will the country stop the data from leaking abroad and putting national security at risk?
On June 10 this year, China passed a new data security law, yet concrete details in implementing it are still unclear[1]. What we can infer from Didi Chuxing’s debacle in its attempt to go public in the US is that, China will likely take a cautious stance towards foreign investments in domestic internet companies and hence curb the willingness of those foreign funds to put money into China’s internet sector. The law also poses a hurdle to venture capital funds wishing to exit existing investments through IPOs. But on the flip side, weaker investment inflows also translate to better access to potentially attractive start-ups for existing investors.
Moreover, the monopoly power once in the firm grip of large tech groups will perhaps come to an end. While internet behemoths have had an enormous advantage over small companies in data, recent developments will likely turn the table around. Discussions have also emerged over whether the state will step in to take over these data. Provided that sharing the data will not put national security in jeopardy, with a small fee, small companies and non-tech companies may also be allowed access to a wealth of data previously only available to large technology companies. But the idea of data being a gold mine is premised on a thorough understanding of its nature and the ability to conduct analysis with it, so a mere broadened access has no bearing on whether every company will be able to benefit from it.
Another point worth noting is that China’s internet industry is primarily dominated by two local giants, with their respective payment systems all but incompatible with each other’s ecosystem. But this will likely change as an increase in competition will put a dent in the profitability of their payment businesses.
Finally, what would result from the measures aimed at stopping large companies from exploiting their employees? Most delivery workers or taxi drivers relying on existing gig economy platforms for income are independent contractors, meaning that they are not employed by these companies, which under such arrangement have no obligation to bear the workers’ social security expenses. However, if relevant laws are revamped to require these platforms to do so, the total annual expenditure on social benefits will cost the largest food delivery company China as much as RMB40 billion according to an estimate by a local media outlet[2]. While this may be a rough estimate, it sheds light on how big of a shakeup it could bring about.
But this is not to say that these factors will strip tech stocks of all investment value. While technology companies may see a decline in their data advantage, they can still count on the benefits of economies of scale and networking effects. Having said that, the days where their valuations stood at elevated levels may have been gone.
[1] Source: The National People’s Congress of the People’s Republic of China, as of June 2021
[2] Source: Sina Finance, as of July 2021
Disclaimer
This document is based on management forecasts and reflects prevailing conditions and our views as of this date, all of which are accordingly subject to change. In preparing this document, we have relied upon and assumed without independent verification, the accuracy and completeness of all information available from public sources. All opinions or estimates contained in this document are entirely Zeal Asset Management Limited’s judgment as of the date of this document and are subject to change without notice.
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