Alibaba Group Holding (BABA) shares jumped 8.5% at the open on Monday in Hong Kong, after the company received a record C¥18.2 billion (US$2.8 billion) fine on Saturday from Chinese regulators. A record fine, followed by a surge in the stock - what's going on?!
The answer is that this fine, 4% of Alibaba's total revenues in China, removes a significant question mark about the company. Alibaba and antitrust? US$2.8 billion please, the price to pay for playing in China. Let's move on.
The sizable penalty "removes a significant overhang" for Alibaba, ratings agency Standard & Poor's says. It could also have been as much as 10% of its 2019 revenues, which were used for the calculation. "However, the competitive intensity will likely be higher in the future," with Big Tech likely to remain in the crosshairs of Chinese regulators.
The fine concludes an investigation that began in December into anticompetitive behavior, particularly its past practice of "Picking One From Two." That policy required merchants, particularly high-profile brands, to pick between Alibaba and rival e-commerce sites such as JD.com (JD) and Pinduoduo (PDD) , and sell their merchandise exclusively on one of those sites.
That clearly is anticompetitive. However, as a Hong Konger, I have to note with a sigh that the Chinese Communist Party is not quite so keen on competition when it comes to other spheres of life, particularly politics. Thanks to changes in the election rules here in Hong Kong, no one can run for office without a background check by the secret police and selection by a Beijing-picked selection committee.
Anyone can run, as long as the Communist Party wants them to run. Voters have no control or oversight over what goes on in the puppet government here. The city has become a one-party state, just like mainland China. On the mainland, there are actually occasionally local elections, carefully vetted so that they produce Communist Party-friendly results.
Pick One Communist Party From One. We don't get to pick From Two.
This dissonance demonstrates how Chinese labor laws and privacy policies are actually pretty good, on paper, at protecting consumers and workers from corporations. China's Cybersecurity Law offers a lot of protection for Chinese citizens over their digital data and cyber-privacy, as legal professor Jyh-An Lee told me when I interviewed him for a story for the Chinese University of Hong Kong's home page.
Political choice is another matter. So what the party says goes, goes.
Alibaba, in fact, thanked the government for its regulation and "critical oversight," saying it has been crucial to its development. "For this, we are full of gratitude and respect," the company said in its statement on the fine.
It also escaped any severe administrative action that might hamper future operations. Most of all, the penalty did not order BABA to break up, or significantly change how it operates, other than to stop the "One From Two" practice. The regulator, in fact, praised Alibaba for having "proactively rectified its business practices."
Alibaba said it has fully cooperated with the State Administration for Market Regulation's investigation, and "seriously studied" the government's policies and expectations for Internet platforms. "We accept the penalty with sincerity and will ensure our compliance with determination," Alibaba states.
Of course, it has no choice in the matter. "Like it or lump it," as we say in my native Britain.
Alibaba had a cash balance of C¥339 billion (US$51.7 billion) as of the end of last year, so it will pay the fine out of money in its back pocket. Nomura had predicted Alibaba would be fined 5% of revenue, but only on e-commerce, which would have led to a penalty of US$2.6 billion. The US$2.8 billion fine was levied on 4% of its business across the board, including B-to-B services such as cloud computing.
The final fine is "carefully weighed by the regulator to serve as a deterrence to other big platforms but not be too big to hurt BABA's operation severely," Nomura China Internet analysts Jialong Shi and Thomas Shen write in a note to clients. "As such, we think this fine, albeit painful, is a manageable one-off expense for BABA."
Alibaba has a point that the Internet and e-commerce have hit a new stage of development in China. In the early days of its Taobao and Tmall sites, Alibaba was looking to keep costs low for itself and its merchants, and build a customer base as quickly as possible.
In China, the importance of e-commerce in terms of total retail has doubled in the last five years. For 2020, e-commerce accounted for 24.9% of all retail purchases in China, according to Statista, up from 20.7% in 2019. So 1 in 4 yuan is spent online, a pretty startling statistic.
"We are acutely aware that our livelihood depends on keeping up with the times and our nation's development," Alibaba's executive statement says. "It is not lost on us that today's society has new expectations for platform companies, as we must assume more responsibilities as part of the nation's economic and social development."
Back to business. S&P expects bulk buying to eat into Alibaba's future profits. "Community buying" where groups of consumers appoint a leader to choose items and take delivery is catching on, particularly in smaller and poorer cities. It took off during the COVID outbreak, when grocery stores closed and people avoided crowded places. Consumers then realized it was both convenient and cheap.
Community buying, which S&P estimates hit C¥130 billion in 2020, is still a small fraction of the overall C¥39 trillion online spend in China. But it is likely to grow 50% to 60% in 2021, based on sales momentum and recent corporate investments, the rating agency forecasts. It may also help companies translate grocery spending in China, a US$770 billion industry, online.
Alibaba has responded to bulk and community buying with a "Taobao Deals" program and other initiatives. This, S&P predicts, will eat into margins, which for this segment have fallen from 71.5% for the previous two fiscal years to about 68% in calendar 2020.
Community grocery buying is "the most heated battleground in the entire Internet space," Nomura's Internet analysts Shi and Shen believe. But will it become a source of cash burn? With JD.com and Meituan (MPNGF) also spending heavily in community buying, the "fundamental credit question for investors is whether this is the beginning of an explosive new market, or a fad that will lead to diminished margins and wasted capital," S&P notes.
After Alibaba's fine, another question is whether other tech companies such as Tencent Holdings (TCTZF) will face pressure of their own. On the face of it, Chinese regulators are cracking down on Big Tech in much the same way as Western regulators. But in China, where international companies have been barred from the Internet economy, online monopolies were essentially fostered on purpose, so the local e-operators could safely build scale.
It is clear that the Communist Party is scared these tech giants are becoming too powerful. CCP officials do not want to find themselves in a situation where any company can "shut down the Internet," or hold the Communist Party to ransom.
Alibaba found itself in the line of fire after co-founder and figurehead Jack Ma criticized the Chinese banking industry as having a "pawnshop mentality," in a speech in Shanghai last October. The banking regulators and Chinese Communist Party officials in attendance were furious. The Alibaba spinoff Ant Group found its world-record-size IPO pulled hours from its market debut, reputedly thanks to direct intervention from Chinese President Xi Jinping.
Those behind-the-scenes pressures suggest it may be Alibaba alone that faces big fines. The regulators have made their point. Consumers can now Pick Many From Two marketplaces online. No one is above the One Party.
