CHINA’S WAR ON BIG TECH AND WHAT IT ALL MEANS
On June 30, Chinese ride-hailing giant Didi Global had a disastrous IPO on the New York Stock Exchange (NYSE). Though it raised US$4.4 billion ($5.95 billion) in the IPO, its shares barely budged despite attempts by American investment bankers to prop them up. Less than 48 hours after its shares began trading, Didi was fighting for its life. Beijing has ordered a full-scale cybersecurity investigation into Didi and several other Chinese tech firms that had recently listed in New York. On July 4, Chinese regulators banned Didi’s app from all app stores as well as from super apps like WeChat to prevent the ride-hailing firm from accessing new customers.
Apparently, Beijing had advised Didi against the IPO, but the ride-hailing firm went ahead with the listing anyway. China has since announced new rules for firms listing overseas which could lead to the delisting of all 248 listed Chinese firms in the US.
Didi’s brazen defiance of Beijing came just eight months after regulators forced Alibaba Group Holding to pull the US$330 billion IPO of its FinTech affiliate Ant Group, the largest listing in history, merely 36 hours before its shares were to start trading in Hong Kong and Shanghai.
Cracking the whip
The latest tech crackdown is all about the communist government in Beijing maintaining control. In China’s system of government, nobody can be more powerful than the ruling Chinese Communist Party ( CCP). The huge market capitalisation — of half a trillion dollars or more — of its top large tech firms and mega billionaire status of founders like Jack Ma of Alibaba, Pony Ma of Tencent Holding, Colin Huang of Pinduoduo, Cheng Wei of Didi and Richard Liu of JD.com notwithstanding, the CCP top honchos want to make it clear that they call all the shots. They want to send a message across the country’s sprawling and well-heeled tech ecosystem that the party rules and everyone else just needs to toe the line. All of this comes against the backdrop of a new comprehensive data security law that was passed last month but will not be effective until September.
Data is the new oil and whoever controls data has power. So, it is not surprising that Chinese President Xi Jinping wants to clip the wings of tall poppies like mega billionaires Ma, Huang, Liu and Cheng. Beijing believes large local Internet firms like Alibaba, Tencent and Didi have accumulated far too much market power in recent years, along with a ton of sensitive data and their growing clout, constituting a threat to Chinese political system itself.
For years, Beijing has had the back of its homegrown tech champions. It helped nurture them with all sorts of financial support, lax data regulations and indeed built a protective wall making it difficult for the likes of global rivals Google, Facebook, Twitter and Amazon. com to operate in China. Unfortunately, that has only helped Alibaba, Tencent, Didi and TikTok’s owner ByteDance to become so big and powerful that they are now threatening to undermine the government’s own authority.
To be sure, some of Beijing’s data security scare is way overdone. Chinese media recently indicated that one reason Didi was targeted by regulators was that it stores a ton of very sensitive personal data, maps and routes in China. A New York listing makes that data vulnerable since US regulators or American security agencies could possibly access that data if they wanted.
Clearly, that’s a bit of a stretch. How does a Chinese company that is just listing on the US exchange have data security vulnerabilities? Let’s say you hail a Didi car from your
home in a Beijing suburb to a nearby mall and the ride-hailing firm has all your contact details — name, phone number and your credit card details. Why would NYSE, or Nasdaq for that matter, want that data? What use is ride-hailing data to a US exchange? Indeed, the exchanges do not even have the legal authority to request it.
Why would a ride-hailing firm that has no offices, business or assets in the US divulge user data to a stock exchange or US intelligence agency? For its part, Didi denies that because it listed in New York, it has had to turn over user data to the US authorities as some Chinese media have alleged. The ride-hailing firm says it stores all its Chinese data on servers in China and has no intention of storing the data outside China or disclosing it to anyone including US regulators.
For now, all eyes are on the implementation of China’s new data security law which lays out what kind of data needs to be protected and prevented from being accessed by the non-Chinese. The law also defines how even companies like Alibaba, ByteDance, Tencent and Didi that are gathering huge chunks of data can harvest it and what else they can do with it, or rather how they can slice, dice, analyse or sell that data for profit.
Essentially, the new data security law ends the free harvesting of data that made Chinese Internet companies the giants they have become. Beijing isn’t saying just yet that it will not allow its Internet firms to gather and harvest the data, but it now has strict rules around data gathering and harvesting.
US-China tech war
The move against Didi is being seen as a signal that Beijing discourages listings of Chinese tech companies in the US as the two countries battle for tech supremacy. As of July 7, there are 248 Chinese companies listed on US exchanges with a combined market capitalisation of US$2.1 trillion. There are 22 or so Chinese IPOs, mostly small and medium-sized tech firms, that are currently pending listing approval in the US. Investment bankers say they had originally expected up to 40 Chinese listings in the second half of the year. Among them was popular short video app operator TikTok, a subsidiary of ByteDance, which is seeking its own listing in Hong Kong early next year.
Last week, Beijing indicated that US-listed Chinese tech stocks such Alibaba, Pinduoduo and others with a Variable Interest
Entities (VIE) structure may now need Beijing’s approval for future equity issues, as part of China’s goal to slash reliance on the American capital markets. The structure is designed for companies in sectors where China issues an operating license only to local Chinese entities — like Internet, education and media — and foreign shareholding is barred.
Under a VIE structure, Chinese firms like Didi Chuxing set up an offshore firm for overseas listing purposes. That offshore entity, like Didi Global, then enters into a series of contracts with the local firm which operates the business in China, to obtain 100% economic interest in that business. Officially, Beijing has never endorsed the VIE structure, nor has the government ever hinted that it might clamp down on it, until now.
Why is it doing it now? Beijing is increasingly concerned about its companies listing in the US, given the US-China tech war and the American Depositary Receipts (ADR) delisting risk, says Edison Lee, a tech analyst for Jefferies & Co in Hong Kong. China wants to rely less on US capital markets, develop its own stock market and boost Hong Kong’s financial centre status, Lee says. “There is every motivation for China to limit overseas listings going forward, especially those using the VIE structure,” he notes.
China is not the only one that does not want its tech firms listed in America. Indeed, the feeling is mutual. US legislators have threatened to kick out US-listed Chinese firms who fail to comply with American auditing standards for three years in a row. Chinese firms routinely turn down US Securities and Exchange Commission (SEC) requests for basic financial information that Chinese auditors do not include.
US Congress last year enacted the Holding Foreign Companies Accountable Act last year which was signed into law by former president Donald Trump in December just six weeks before he left office. The Biden administration has said it will implement the law ensuring that foreign companies traded in the US are subject to the same independent audit requirements that apply to American companies. The US Public Company Accounting Oversight Board (PCAOB) has said it will enforce the new law if foreign firms refuse to open their records to inspection.
The US Senate recently passed the Accelerating Holding Foreign Companies Accountable Act to further pressure China by requiring its US-listed firms to comply with PCAOB audits within two years instead of three. The new bill also applies to Chinese firms that use audit firms in Taiwan or Singapore and do not comply with PCAOB inspections because of Chinese law.
The ongoing tech clampdown and the decoupling of the two countries’ tech sectors are likely to change how China’s fledgling new tech ventures are funded and how capital is allocated in tech from now on. Venture capital firms, particularly those from Silicon Valley have over the past two decades invested heavily in Chinese tech start-ups as a way to diversify their bets. Alibaba was initially funded by Japan’s SoftBank Group as well as the then US-listed Yahoo! whose founder Jerry Yang still sits on the Chinese e-commerce giant’s board.
Funding aside, Silicon Valley VCs also give Chinese tech companies access to US technology and expertise. The reasons why Chinese tech firms are eager to list in the US are not just higher valuations but also access to a large and expanding global institutional investor base that understands tech and the ability to raise US dollars coveted by existing VC investors. Because Yahoo made tens of billions investing in Alibaba at an early stage, Jack Ma probably felt the right thing to do was to list in New York, rather than have Yahoo sell shares in Shanghai then try and negotiate with People’s Bank of China how to repatriate the money back to the US.
So, what does the latest tech crackdown mean for China? Over the past decade or so, one of the biggest growth drivers in China has been its “new economy” as President Xi accelerated tech competition with the US trying to make China No 1 in 5G communications, artificial intelligence and facial recognition. The decoupling of Chinese and American tech sectors, Beijing shunning VC funding from the US as well as the delisting of Chinese tech firms from US is likely to slow down its once-buoyant tech sector and remove a key engine of growth at a time when there are no other clear growth drivers that can take tech’s place.
China’s economy has already been slowing, weighed down by credit concerns, changing demographics and shifts in the global supply chain, which is seeing factories relocating to Vietnam and other Asean countries as well as some manufacturing reshoring in the US and Europe. Clearly, data security is important to both China and the US, but China cannot afford to kill its golden goose of tech until it has other growth drivers in place.