When Jack Ma launched his e-commerce company in 1999, he decided to call it Alibaba, after the famous character from the One Thousand and One Nights. In the story, Ali Baba opens the door to a cave of treasures using a magic phrase: “Open sesame.” Ma pledged his company, like its namesake, would “open a doorway to fortune”.1
Over the following two decades, Ma delivered on his promise: Alibaba became the dominant Chinese e-commerce firm and expanded into other areas, including artificial intelligence, cloud software and even filmmaking. An affiliate firm, Ant Group, controls Alipay, a leading mobile payments platform.
Ma himself became a globally recognised personality, criss-crossing the world in a private jet to ink joint ventures, buy real estate and glad-hand with foreign leaders. But in October 2020 he finally overreached, making a speech in which he likened state-run banks to pawnshops and branded financial regulators “an old people’s club”.2
Ma's disappearance from public view prompted rumours he had been detained by the authorities
The response was swift. The following week, the Shanghai Stock Exchange cancelled Ant Group’s $37 billion initial public offering (IPO) – which would have been the world’s biggest – citing “changes in the financial regulatory environment”.3 In December, the State Administration for Market Regulation (SAMR), an antitrust body, started investigating Alibaba over alleged monopolistic practices.
Ma disappeared from public view, prompting rumours he had been detained by the authorities. After a three-month absence, he posted an online video on January 20: striking a humble note, he said he and his colleagues would devote themselves to “education and public welfare”.4
Fall of the house that Jack built
Jack Ma’s downfall is emblematic of a wider shift in Beijing’s attitude towards China’s tech giants and the tycoons who run them. Over recent months, a raft of new financial, antitrust and data-protection laws have been introduced, leaving tech bosses scrambling to comply. The sudden clampdown has sent shivers through the country’s equity markets and beyond. Alibaba’s share of the wider MSCI EM Index has plunged since the crackdown began (see Figure 1).
Figure 1: Alibaba weighting in MCSI EM Index (per cent)
Source: Bloomberg, as of May 20, 2021
On April 10, 2021, regulators fined Alibaba a record $2.8 billion for abusing its dominant market position and called on other tech giants to conduct “comprehensive self-inspections” to ensure they are adhering to competition law.5 It was not an idle warning: the following week, the regulator opened a new antitrust investigation into takeaway delivery platform Meituan.6
Regulation of technology companies is tightening everywhere
For many years, Beijing took a hands-off approach to the technology sector, willing to countenance the rapid growth of national champions that provided convenient services to the population at home and commanded respect on the world stage. But now the government has changed tack, and for reasons that differ from those driving recent regulatory moves in the West.
“Regulation of technology companies is tightening everywhere – it’s a global trend. In practice, though, Chinese tech firms were already under much more state influence than their counterparts in the US or Europe. What we are seeing is more of a shift in emphasis from the authorities,” says Alistair Way, head of equities at Aviva Investors.
“Beijing is trying to balance the interests of China’s national tech champions with its own policy objectives. The factors behind this regulatory tightening are threefold: The first is political, about affirming who’s in charge; the second is economic, and has to do with stabilising the financial system; the third is the antitrust element, motivated by concerns over competitiveness.”
The battle for power
Start with the politics. The clampdown on tech giants can be seen to reflect the all-powerful central government under President Xi Jinping, who has cemented control over the Communist Party and the state since constitutional term limits on his office were abolished in 2018.
Xi has long been uncomfortable with the power wielded by billionaire entrepreneurs
Xi has long been uncomfortable with the power wielded by billionaire entrepreneurs such as Ma. At the G20 Summit in Hangzhou in 2016, visiting dignitaries divided their time between conferences with Xi and audiences with Ma at Alibaba’s headquarters, reportedly angering the president, who felt upstaged.7
Tech firms’ sway over media platforms is a particular bone of contention. Pro-Ant editorials on Alibaba-owned business websites have been taken down in recent months, while Alibaba has also been criticised for censoring gossip about its executives on social media. As the state-run People’s Daily put it in a recent article on the subject: “It’s astonishing how powerful [Alibaba] is in forming public opinion.”8
The regulatory blitz on Ma’s businesses could be the first step in what The Economist calls a “de-tycoonification” of the tech sector. March saw the surprise resignation of Colin Huang, founder and CEO of fast-growing e-commerce firm Pinduoduo, ostensibly to pursue new interests – reports suggest he was wary of leading the company at a time of greater scrutiny from regulators – while other moguls, such as Tencent founder and CEO Pony Ma, have sought to prove their loyalty to the government by calling publicly for tougher regulation on their own businesses.9
Big tech has considerable power over media, data, and communication
“Big tech has considerable power over media, data, and communication,” says Kendra Schaefer, head of tech policy at Beijing-based consultancy Trivium China. “China has never had to contend with huge domestic players that are not state owned. While China does not want to kneecap its tech champions’ ability to compete on the international stage, it doesn't want to allow them unlimited power domestically.”
As well as reining in the bosses, the government has sought institutional means to keep the large companies under control, reshaping the relationship between state and private enterprise at a deeper level. Companies have been asked to launch “Party Committees” to weigh in on corporate decisions and ensure they are aligned with government policy.10
While Jack Ma’s speech might have been the immediate catalyst for some of these policy changes, they also represent the latest development in the long-running battle between regulators and tech firms seeking to make inroads in finance.
There has been a long-running battle between regulators and tech firms seeking to make inroads in finance
The process started with online payments. Innovative apps such as Alipay and Tencent’s WeChat turned China into the world leader, with millions of people using smartphones to pay bills not just online, but also in brick-and-mortar shops and restaurants. E-payments had a penetration rate of 32.5 per cent in China as of 2019, compared with eight per cent in the US.11
Over time, the big tech firms sought to build on their digital expertise to explore more lucrative financial business lines. Ant Group created a wildly popular money-market fund, Yu’E Bao (“leftover treasure”), which allowed the 700 million monthly users of Alipay to invest spare cash left over in their accounts. The government imposed some restrictions on the fund in 2016, citing liquidity risk, but allowed it to continue.
The key selling point for investors in the lead-up to the ill-fated IPO was Ant’s consumer lending business. Alipay provides users with two lending products: Huabei, an app-based credit card, and Jiebei, a kind of unsecured loan. Thanks to these offerings, Ant’s lending to consumers ballooned to over 1.5 trillion RMB ($250 billion) as of June 2020, according to Reuters data. This made it the country’s largest lender, surpassing traditional retail banks that faced stricter capital requirements.12 Now regulators have moved to level the playing field.
“Although the timing was dramatic, the intervention to thwart Ant Group’s IPO shouldn’t have come as a surprise. It looked as though Ant was trying to aggressively push through its IPO on a wave of publicity from investment banks and hysteria among retail investors, before regulators could properly assess the implications for financial stability,” says Way.
Ant’s lending business will now be regulated more like a traditional bank
In April 2021, the government announced it was investigating how Ant obtained such swift approval for the IPO. Ant will also be forced to restructure: the company’s lending business will now be regulated more like a traditional bank, and it will have to operate its payments platform separately.13
Meanwhile, the government has been making progress in the development of an official, central bank-administered digital currency as an alternative to the Alipay and WeChat Pay apps, which would give policymakers more real-time data on economic activity.14
In their public statements, China’s regulators have argued these measures are not simply about financial stability, but also about bringing tech companies into line with the country’s modernised competition and data protection laws. As in the West, the government is concerned these firms are using the information they collect on users to manipulate online behaviour and outmuscle smaller competitors.
“Tech companies, especially those online platform giants, came on the radar of Chinese antitrust authorities for enforcement as early as 2019,” says Scott Yu, Beijing-based partner at the law firm Zhong Lun and a specialist on the legal frameworks surrounding corporate competition.
Mergers and acquisitions will come under closer scrutiny
“The Interim Measures on Prohibition of Abuse of Market Dominance, promulgated in June 2019, dedicated one article specifically on how to determine if an internet sector operator has market dominance. In the recently issued Platform Economy Antitrust Guidance, one can find rules and provisions very similar to the dominant theories currently discussed and used in the US and EU, such as spoke-and-hub harm theory.”
Spoke-and-hub refers to a practice whereby a dominant player restricts competition by using its market clout to coordinate the activities of other companies. Yu says the regulator is also looking into “choose one of two” cases, where tech giants force merchants using their platforms to favour their own services over those owned by rivals, as well as algorithms that offer different prices to users based on their shopping history. In addition, mergers and acquisitions will come under closer scrutiny.
The SAMR investigation into Alibaba found it guilty of using its “market position, platform rules and data, and platform position” to reward merchants that used its shopping sites exclusively, and to punish those that did not. Meituan also stands accused of forcing exclusivity on partner firms and implementing algorithmic price discrimination.15
In a separate case, platforms backed by Alibaba, Meituan and Pinduoduo have been fined for running so-called “group-buying schemes” that became popular during the pandemic, whereby communities would club together to purchase heavily discounted groceries via the major e-commerce platforms. The schemes sparked concerns over employment, because smaller food retailers were being squeezed out.
This points to a difference between China’s regulatory approach and Western counterparts. Although the group-buying schemes were good for consumers, who benefited from lower prices, this did not stop SAMR putting in measures to control them. By contrast, US and European regulators are typically constrained by the need to prove companies’ activities have hurt consumers before they bring antitrust action.
Chinese antitrust law grants the central government strong sanctioning powers
Angela Huyue Zhang is director of the Center for Chinese Law at the University of Hong Kong and author of the recent book Chinese Antitrust Exceptionalism: How the rise of China challenges global regulation. As she writes: “[Chinese] antitrust law grants the central government strong sanctioning powers, allowing it to impose anything from astronomical monetary fines to severe structural remedies. The Chinese antitrust regulator also possesses vast administrative discretion while being subject to little judicial oversight. Furthermore, Chinese antitrust law enforcement is spearheaded by a central ministry that follows the central government’s directives.”16
This suggests that China’s antitrust regulator can be wielded by the central government as a powerful strategic tool, even as it ostensibly targets some of the same practices as its peers in Washington and Brussels.
Zhang points to a stridently worded editorial in the People’s Daily, which frames the regulatory crackdown on Big Tech as a way to encourage these companies to redirect their efforts away from boosting retail profit margins towards loftier ambitions, such as technological innovations that might give China the edge in its ongoing rivalry with the US.
Control of data
A similar tension between the rule of law and the government’s strategic objectives is evident in China’s recent moves to update its data protection regime, which should curb technology firms’ ability to hoard user information. The government has introduced a Cybersecurity Law, a Data Security Law and a draft Personal Information Protection Law since 2017.
“These laws are all generally aimed at achieving the same goal: creating an ‘orderly’ digital economy in order to drive the next phase of growth. China has stated ambitions – most recently in its 14th Five Year Plan – to create a standardised data market, where the laws and norms around the buying, selling, and trading of data are clear, and so that data can circulate throughout society and the economy,” says Schaefer.
These laws aim to bring China’s approach to data classification in line with recent regulatory developments in the West
In part, these laws look to be aimed at modernising China’s approach to data classification to bring it in line with recent regulatory developments in the West, such as Europe’s General Data Protection Regulation (GDPR), a project designed to put users back in charge of their personal information.
Non-profit organisation Ranking Digital Rights finds that China’s 2017 Cybersecurity Law has been particularly effective at improving tech companies’ record on reporting data breaches to users. In fact, Alibaba, Baidu and Tencent are now more transparent than the likes of Amazon, Google and Microsoft in this respect (see Figure 2).17 The report also finds that investor engagement with Chinese companies on environmental, social and governance (ESG) criteria can be effective in encouraging these firms to improve their standards.
“Chinese companies have improved significantly in that, when there is a breach, they are getting much better at informing the user as well as the authorities. That is not something that you see as standard practice across the world by any means,” says Louise Piffaut, senior ESG analyst at Aviva Investors. “Nevertheless, governance experts are still concerned by the government’s access to data in China.”
Figure 2: Does the company publicly disclose information about its processes for responding to data breaches?
Note: Percentages show company's score against the relevant indicator on RDR's index. Source: ‘Chinese tech giants can change: But the state is still their number one stakeholder’, 2020 Ranking Digital Rights Corporate Accountability Index, 2020
Figure 3: Does the company regularly publish data about government demands for user information?
Note: Percentages show company's score against the relevant indicator on RDR's index. Source: ‘Chinese tech giants can change: But the state is still their number one stakeholder’, 2020 Ranking Digital Rights Corporate Accountability Index, 2020
The government’s stance on this issue is complex. On the one hand it has brought in laws to protect consumers, perhaps wary of a social backlash if big companies continue to indiscriminately hoover up personal data. It has even sought to educate citizens on their rights: in March 2021 state television broadcast a “Consumer Day” programme, featuring an investigative report into the use of facial-recognition cameras in high street shops that obtain data without consent.18
On the other hand, Beijing is trying to preserve its own access to private data. Unlike Western firms, China’s tech giants publish almost no information about government requests to access user data (see Figure 3).19 Media reports suggest the People’s Bank of China, the central bank, is pressuring Ant Group to hand over the reams of information it has on consumers, with a view to creating a data bank that enables state-owned financial institutions to better assess consumers’ creditworthiness.
The government is looking to create a joint venture with the largest tech companies to oversee vast pools of user data
On a grander scale, the government is in talks with the largest tech companies to create a joint venture designed to oversee vast pools of user data across all their business lines, from social media and online gaming to banking and e-commerce.20 Few details of the plan are available at this point, but if taken forward it is likely to provide the government with even more power to oversee and control citizens’ lives in a country where mass surveillance is already a fact of life.
“We have spoken to the tech companies about this project,” says Way. “While this joint venture may create a more formal process for government access to data – at the moment the state requests information on an ad hoc basis, which the companies have no choice but to hand over – this would give the government the opportunity to know what is going on everywhere.”
The plan is particularly concerning in light of events in Xinjiang. According to a 2019 report from Human Rights Watch, the government is already leveraging tech companies’ cloud services and AI tools in a brutal regime of surveillance, incarceration and “re-education” of ethnic Uighurs and other Muslim people in the province.21
Unlike in the US, where the announcement of antitrust investigations into Google and Facebook barely dented share prices, Beijing’s regulatory tightening has had a pronounced market impact. Alibaba’s shares fell sharply in the wake of the cancelled Ant IPO and the start of the antitrust investigation in late 2020. During this period, some of Alibaba’s rivals rose in value, reflecting a view that Alibaba was an isolated case and its rivals would be able to grab market share from it.
Beijing’s regulatory tightening has had a pronounced market impact
Given the nature of the e-commerce sector in China, this is somewhat understandable. Alibaba was already facing tough competition on numerous fronts before the antitrust probe was announced; JD.com has a superior logistics operation and better-quality goods; Pinduoduo was catching consumers’ interest with its distinctive, entertaining platform; and Meituan was using its strong local distribution operation to snatch customers from Alibaba’s food-delivery subsidiary.
But the widening of the regulatory crackdown has impacted these other firms, as reflected in the sharp decline in the Hang Seng Tech Index of Hong Kong-listed stocks, on which many of mainland China’s largest internet and e-commerce firms are represented (see Figure 4 and Figure 5).
Figure 4: Hang Seng Tech Index
Source: Hang Seng Indices, as of April 21, 2021
Way says other factors were partly responsible for this decline, including a wider rotation of portfolios out of “growth” towards “value” stocks. Baidu’s shares also took a hit due to the forced liquidation of positions held by Archegos Capital, a family office, in late March. But the shift in regulation is undoubtedly “the biggest driver of stock prices at the moment”.
Alibaba’s shares recovered slightly after the antitrust investigation concluded in April. Despite the massive fine levelled by SAMR – which amounts to around four per cent of the company’s 2019 revenue, below the maximum ten per cent penalty permissible under Chinese law – investors appear to be heartened by the sense it draws a line under the affair and removes the more serious threat of a company break-up.
Figure 5: Relative equity market performance of China’s major tech firms
Source: Aviva Investors and Bloomberg, as of April 30, 2021
Meanwhile, Meituan’s share price has fallen in relative terms, as SAMR begins its antitrust probe. As for the next company in the firing line, reports suggest Tencent’s music-streaming spin-off Tencent Music will be forced to give up exclusive music rights and sell off its two main apps to satisfy the competition regulator. As of April 30, the subsidiary’s shares on the New York Stock Exchange had fallen almost 50 per cent since their peak on March 19.22
Levelling the playing field?
The crackdown on Big Tech may bring some market benefits. For one thing, the meteoric rise of the Chinese tech giants had distorted wider emerging market indices and brought possible concentration risk. At its peak in October 27, 2020, shortly before the response to Jack Ma’s fateful speech, Alibaba accounted for almost nine per cent of the index; as of May 20, 2021, its index weighting was just below five per cent, according to Bloomberg data.
The meteoric rise of the Chinese tech giants had distorted wider emerging market indices
This suggests one consequence of the antitrust action would be to bring about a more balanced, diversified and competitive economy that would probably benefit markets in the long run. Other Chinese companies whose business models are better suited to the government’s strategic objectives could find opportunities in this new environment.
“There are some smaller companies whose business models look more aligned with the government’s current objectives of promoting employment and balanced growth. One is called Dada Nexus, a firm that works like eBay for local supermarkets: its platform allows smaller retailers to connect with customers online to sell their stock,” says Way.
“The government wants traditional food retailers to survive – they have cold-chain facilities, good inventories, fresh-food distribution routes – and a company that helps these firms gain a digital presence is more likely to stay on the right side of regulators than one that aggressively seeks to put them out of business,” he adds.
Other firms could emerge in a stronger position in the long run
Other firms that have been hit by the regulatory tightening could emerge in a stronger position in the long run, and investors will need to carefully monitor how each company is responding to the new rules.
Take e-commerce firm Vipshop, which runs a site specialising in discounted retail. The company was hit by a SAMR fine of around $500,000 in February for anticompetitive practices.23 But since then it has started seeing some high-end brands list their products on its platform for the first time, because the exclusivity agreements that previously restricted them to using the major shopping sites are no longer allowed. This indicates a tougher antitrust regime could work in its favour.
Reading the regulatory runes
The crackdown on Ant Group, meanwhile, could permanently reshape China’s fintech sector and potentially insulate traditional lenders from disruption. By forcing Ant to separate its payments and consumer loans businesses – and potentially making it share its data – the government has provided banks with a competitive moat.
“China’s traditional financial institutions should be beneficiaries of the new regulation, especially the retail-business focused banks,” says Xiaoyu Liu, global equities fund manager at Aviva Investors. “Ant Group and many other online lenders were focusing on retail lending. Now the government has put them on the same playing field as the banks, because they will need to put down capital for lending and to share the credit cost.”
The crackdown on Ant Group could permanently reshape China’s fintech sector
Chinese financial institutions were already in a robust position, thanks to the economy’s strong rebound from the coronavirus slump – GDP grew 18.3 per cent year-on-year over the first quarter, according to official figures. From an investment perspective, Chinese banks tend to offer higher dividend yields and lower price-to-earnings ratios than their counterparts in other emerging markets.
As for Ant itself, it is setting up a new unit to handle consumer lending. But it seems unlikely the company will be able to return to the market with an IPO at anywhere near the $37 billion originally proposed. The sharp reversal in Ant’s fortunes contains lessons for investors in China, who must always be aware of how companies’ business models fit within the government’s strategic vision for the future of the country.
“Ant’s story serves as a reminder of something investors in China should have known already: you always need to be aware of subtle shifts in the tone of statements emanating from official bodies. No company – not even a tech goliath – is big enough to defy the state,” says Way.