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05 March 2021

China - New Year & New Dawn

This column would not have been written a decade ago. In fact, it was unlikely to have been written five years ago. The tenacious and precipitous rise of China as a global superpower has kickstarted the wealth management world into action. Investment managers are slowly dipping their toes into what has previously been characterised as dangerous waters, out of bounds for most investors.
 
In truth, while corporate governance in China remains flimsier than in the West, and despite the questionable political and ethical policies and standards employed by the Government, the Chinese market has an array of supercharged companies. For every Amazon there is an Alibaba, for every Facebook there is a Tencent, and for every Just-Eat there is a Meituan.
 
But forgetting about these big names, the focus of this article is on Kuaishou, the Chinese video-streaming app which rose to prominence mid-February after it raised US$5.4bn overnight in the largest technology listing since Uber raised US$8bn in 2019. ‘Asia’s-decade’ is certainly living up to its billing: a record US$13bn was raised through Asia IPOs in January.
 
Founded in 2011, the company allows users to share animated images (gifs) and is the world’s second most popular short-video platform with 769m monthly active users. The millions of users check the Kuaishou app an average of ten times a day, spending an average of 86 minutes watching videos. If that sounds impressive, that its shares were more than 1,200 times oversubscribed in its IPO and nearly tripled on their first day of trading in Hong Kong, trumps the lot.
 
You may think that sharing short videos is a niche market, but it is turning out to be quite the battleground; ByteDance, TikTok’s parent company, is considering a market-listing, with Douyin, its Chinese arm, already boasting over double the number of users as Kuaishou. Furthermore, Kuaishou’s US$6.3bn of sales in the first nine months of last year may seem impressive, yet are dwarfed by ByteDance’s US$30bn, albeit over the full year, while the latter generates more than three times the advertising revenue per user hour of Kuaishou. As we have learnt from the developed US tech market, advertising often lies at the crux of businesses revenue streams.
 
Yet, according to a local source, Kuaishou’s strength lies in its ability to attract ‘ordinary’ Chinese users, who seem to remain extremely loyal to the platform. Moreover, Kuaishou has an advantage in developing online game-related business thanks to its ties with Tencent, while Kuaishou leads the race in online shopping - between December 2019 and May 2020, Kuaishou sold products worth 104.4bn yuan compared to just 11.9bn yuan on Douyin.
 
Nevertheless, retail investors were clearly intent on continuing the global theme of ignoring a business’s intrinsic value, pumping more air into the ever-growing bubble.

What makes Kuaishou’s first-day performance even more frightening was that it failed to raise eyebrows; shares jumping on their first day of trading has become the rule, rather than the exception – the visa-versa should certainly hold true in an efficient and stable market. Bubble, the dating-app, saw its shares swell 64% on day one, while Dr Martens was valued at over ten times what its past owners had paid on its market debut.
Kuaishou shares now trade at an enterprise value-to-sales ratio of 15x which, even by tech standards, is looking frothy. Additionally, it is not as if the corporate governance stands up for much; Chief Executive Su and Cheng Yixiao, the company’s founder, effectively control the company through a special class of stock with ten times the voting power of ordinary shares. Moreover, regulators are scrutinising livestreaming e-commerce, while recent legislation has tightened controls on tipping on platforms such as Kuaishou. In China, tipping your favourite livestreaming host has become as common as tipping a waiter in a restaurant. With this accounting for 62% of Kuaishou’s revenues over the past nine months, this is a sign of potential danger.
 
All-in-all, investors should be wary. Not only did the company fail to turn an operating profit in its latest trading update, Kuaishou is also operating in a highly competitive, politically charged and tightly regulated market; with pricing-caps now in place on users sending tips, there is effectively a limiter on the company’s potential cash streams.

The likes of Tencent, which holds a c.22% stake in Kuaishou, alongside the investment banks which led the IPO, Bank of America and Morgan Stanley, will be pleased with their work. Retail investors should tread with caution.

Please note that investments and income arising from them can fall as well as rise in value. Please note that this communication is for information only and does not constitute a recommendation to buy or sell the shares of the investments mentioned.
China - New Year & New Dawn
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