By Guus Keder
Guus Keder is a veteran Brussels-based investor and start-up founder, and a partner in Beijing-based consultancy Zhou & Masters.
With clear signs that the Chinese government is easing its regulatory crackdown on some of its biggest technology companies, investors around the world are now asking themselves how they should refresh their evaluation models for these tech giants, often referred to as “platform companies”.
Fiercer regulation on platform companies, of course, is nothing new. Similar regulatory storms have swept over the United States and Europe in recent years, therefore neither savvy investors nor Chinese tech giants themselves should have been surprised by the timing and severity of the regulatory interventions they faced in the last two years.
Like their western peers, these mega-platforms have created completely new business models and ecologies around themselves, and presented mounting regulatory challenges in terms of privacy, data security, anti-competition, and so on. In China’s case, even though the crackdown generally lagged a few years behind the US and Europe, it has clearly curtailed the activities of the tech giants, both in terms of their business scope, for instance financial services developed by Alibaba through its Ant subsidiary, and in the roll-out of their products and services, evidenced by the lack of domestic market licenses for new games by Tencent.
In the short run, the hard-handed regulatory measures create roadblocks and uncertainties for these large businesses, but in the longer run they should create a more transparent framework in which the companies can develop their different businesses. Government can minimise the turbulence around regulation by providing guidance and transparency, including sending clearer signals about the intentions, goals and timing of these campaigns.
Companies can smoothen the impacts by being proactive in their dealings with governments and being transparent with investors and customers. Regulatory pressure will continue to exist and will hopefully become a predictable element of the big tech environment, but not without the affected companies taking active measures to deal with the pressures and the investment environment.
That said, we do not believe it is Beijing’s intention to smother its tech giants. In fact, the platform companies will be an essential part of accelerating the digitization of the Chinese economy going forward. The Chinese government has an incentive to create a healthy competitive environment for technology companies, because an intensifying global technology race means China needs to compete internationally with ever stronger players, such as the FAANG companies in the US and their equivalent in Europe. A strong platform economy will be the necessary basis for the next wave of technology development that will be less consumer-oriented and more focused towards industrial or semi-industrial applications.
We see enormous opportunities in Chinese healthcare (where the Covid pandemic has laid bare the current limits of the Chinese healthcare infrastructure), agriculture, integrated circuits (where we currently see strong technology sovereignty pressure at a political level), secure internet services including blockchain-based payment systems, quantum computing, environmental protection and climate change mitigation, mobility, energy and environmentally-friendly housing technology, amongst others. In our view, these developments will be the backbone of the economic growth in China in the decades to come. They need to be supported by strong, reliable, and trustworthy platforms. We also see the development of these technologies as a good basis for diversifying the Chinese stock exchanges and providing a broad range of future investment opportunities. However, to realise this potential, China needs to find better ways to innovate.
There has been much talk about whether the platform giants can still grow. Tencent’s 2nd quarter earnings, released last month, were an important bellwether because it provided indicators on how a major Chinese technology platform remaps its growth path as Beijing’s regulatory crackdown eases. While many analysts saw Tencent’s three-percent revenue contraction as a signal for long-term doom, we believe such conclusions are premature. Tencent and the other large platform companies are in the middle of a change process that will take more than a quarter to yield the results investors are looking for. It is therefore essential that the technology companies communicate in a transparent way about their prospects.
Chinese platform companies are still a lot smaller than their US competitors. For instance, Baidu’s 2021 revenue was US$ 19.5 billion, paling against Alphabet’s US$ 258 billion. While US platform companies have been actively diversifying their product and service offerings for years, Chinese regulatory pressure has prompted the BATs into speedier action on this front too. For years, Chinese technology giants have invested billions in start-up businesses at home and abroad, acting very much as venture capitalists. But venture capitalists are notoriously bad at predicting the future success of the companies they invest in, according to research we recently conducted on European “unicorn” companies.
Instead, we believe the best diversification strategy for the BAT-league is to build on their strengths with added-value services to their current activity base. And for this they need smart people. Technology-driven economies, such as the US, EU, UK, Singapore and to some extent India, heavily rely on innovation and individual entrepreneurship for their future growth and developments. China is playing in the same league. While a generation of world-class innovation leaders such as Jack Ma of Alibaba, Ren Zhengfei of Huawei, Pony Ma and Allen Zhang of Tencent, Lei Jun of Xiaomi, have helped place China at the top table of global technology competition, China needs to continue to create the right and safe environment for new entrepreneurs for decades of much stiffer competition to come. Failing to do so will put China at a disadvantage internationally and hamper China’s growth prospects.
Internet giants, however, are not the only “technology platforms” that China has successfully created. Don’t forget the thriving drone and robotics industries, high-speed rail system, and the domestically developed civil aircraft. These industrial-technology platforms are fertile grounds for future integration where existing technologies are integrated at large scale with new, emerging “deep” technologies. The coming era of deep tech developments will have a very important impact on pivoting the Chinese economy away from large-scale but low value-added products and services, towards smaller scale and much more value-added systems. This will bring diversification from an investment point of view, and will also bring a diversified and high-quality employment environment in which the large numbers of well-educated young Chinese will have a chance to find meaningful jobs and maximize their productivity.
In summary, we believe that Chinese platform technology companies potentially have a healthy growth path in front of them, but their search for purpose and more attractive business models will create turbulence in the near term. Patient investors will be rewarded in the decades to come, provided both Beijing regulators and platform companies get their acts together. Depending on the strategic choices to be made by the world’s leading economies, the world has the potential to grow its economy by five to ten-fold, at the same time addressing the issues related to climate change and resource availability, according to the IPCC. By creating a healthy environment for innovation to thrive, China can not only contribute to this goal, but also take a stronger leadership role.
