The Exchange spent a little time on Friday ruminating on the impact of then-rumored regulation in China targeting its edtech sector. News that the Chinese government intended to crack down further on the education technology market hit shares of public, China-based edtech companies. It was a mess.
Then over the weekend, the rumors became reality, and the impact is still being felt today in the global markets.
But there’s more. China is also bringing new regulatory pressure on food-delivery companies and Tencent Music. More precisely, we’ve seen successive market-dynamic-changing moves from the Chinese government in the last few days, coming as 2021 had already proved to be a turbulent environment for China-based technology companies.
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Today we have to do a little bit of work to understand precisely what is going on with the various regulatory changes. Why? Because the Chinese venture capital market is a key player in the global venture scene. And Chinese startups have gone public on both Chinese, Hong Kong and U.S. exchanges; there’s a lot of capital tied up in companies impacted today — and possibly tomorrow.
For startups, the regulatory changes aren’t a death blow; indeed, many Chinese tech startups won’t be affected by what we’ve seen thus far. And upstart tech companies in sectors less likely to be targeted by central authorities may become more attractive to investors than they were before the regulatory onslaught kicked off. But on the whole, it feels like the risk profile of doing business in China has risen. That could curb the pace at which capital is invested, cut valuations and lower interest in the Chinese startup market from private-market investors able to invest globally.
Let’s parse what’s changed, examine market reactions and then consider what could be next. We want to better understand today’s Chinese startup market and what its new form could mean for existing players and future performance.
Changes
The edtech clampdown did not start last week. China’s edtech sector started to rack up penalties and fines in June, which led to what the Asia Times called “warning bells” in the sector. From there, things went from penalties to punishing regulatory changes.
Sourcing from a Chinese state website published in English, here’s what’s hitting the edtech sector (excerpts from main document, formatting changed and bolding added by TechCrunch):
- Education authorities shall improve free online learning services.
- Local governments shall stop approving establishment of new off-campus curriculum subject-tutoring institutions for students in compulsory education, and existing institutions shall be registered as nonprofit institutions.
- Curriculum subject-tutoring institutions are not allowed to go public for financing; listed companies should not invest in the institutions, and foreign capital is barred from such institutions.
- Off-campus tutoring shall include no overseas education courses and their courses shall not be taught on national festivals and holidays.
- Mainstream media, new media, billboards in public places and residential areas, and online platforms shall not publish or broadcast off-campus tutoring advertisements.
Summarizing: No new after-school tutoring companies can be founded, existing after-school tutoring companies must become nonprofits, after-school tutoring companies cannot go public, and all such companies cannot teach courses from other countries, nor advertise their wares. And that’s the end of that industry from a capitalistic perspective, we reckon.
Investors agree. TAL Education, a U.S.-listed edtech company from China, is worth around $5.25 per share at the moment, down from more than $90 per share earlier this year. That’s a nearly complete erasure of value.
But there’s more. Back in April, the Chinese government’s market regulatory body (SAMR) said that it had “filed investigations into Meituan’s ‘choice of two’ and other suspected monopolistic activities.” Then today the same body said that Tencent would “adjust” its copyright model to accept a fine. An English-language Chinese government website summarized that “Tencent and its affiliated companies must end their exclusive music copyrights within 30 days and stop charging high prepayment and other copyright fees.”
Or more precisely, Tencent can no longer hold a vice grip on the Chinese streaming market thanks to exclusive contracts with rights holders. Not good for Tencent, but probably good for the larger Chinese streaming market.
And then there are the changes to the food delivery market. China’s regulatory efforts in this space did not start recently. Back in April, SAMR kicked off a regulatory dig into the on-demand company Meituan. That cost the company tens of billions in value. Then today, per Bloomberg, “the [Chinese] government posted notices that online food platforms must respect the rights of delivery staff and ensure that those workers earn at least the local minimum income.”
Shares of Meituan fell nearly 14% today. From a high of HKD460 set earlier this year, Meituan’s equity has lost sufficient value to be worth just HKD235.60 per share today. That’s a brutal downward slope. Alibaba’s stock, listed in the United States, set a 52-week low and is worth around $194 per share today, off around 5%. The company was worth as much as $309.92 in October 2020, per Yahoo Finance data.
So what?
There has always been risk investing in Chinese companies, especially those that list abroad, from a history of fraud to issues relating to the use of variable interest entities (VIEs) that have provided China-based companies with access to external liquidity. But things seem to be changing for the worse, in terms of both future access to foreign capital for Chinese companies and, frankly, doing business in China overall.
Every country has regulations. Every country updates its regulations. But China’s regulatory moves appear, broadly, to be aimed at reclaiming market power from private companies to the public sphere. That doesn’t bode well for growing businesses in the country. Like startups.
It’s going to be hard to invest in certain sectors now that their regulatory profile has changed. And for startups in sectors that have yet to endure expanded government attention in recent quarters, concern that they could face a more difficult business climate could limit interest in investing in their equity. This may prove especially true in a global startup market that is increasingly flat from an investor perspective; with other countries seeing an investment boom, like India, it will take more for Chinese companies to attract capital from investing groups that have options.
I am in the process of learning more about Xi Jinping, including spending time reading his various speeches to better understand his perspective on how the country’s economy should run. In light of my beginning research, I am not surprised to see the Chinese government arrogate market authority. But from a startup perspective, the changes are likely unwelcome.
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