China’s largest tech companies Alibaba Group Holding Ltd. and Tencent Holdings Ltd. have gained $66 billion in market value since May’s end, propelled by expectations of a gradual return to pre-crackdown growth and a litany of official promises to unshackle the private sector. Yet some investors warn the celebration may be premature.
For the first time since 2021, China’s technology leaders head into an earnings season with what appears to be the wind at their backs. They’re set to report their strongest growth rates in over a year. Driven by a need to rejuvenate the word’s No. 2 economy, Xi Jinping has in recent months led Party cadres and state media in proclaiming Beijing’s support for a trillion-dollar sector wracked by two years of unpredictable diktats. And in July, Beijing signaled it’s ready to unfetter the sector when it wrapped up a probe into Jack Ma-backed Ant Group Co.
Still, investors betting on an inflection point risk getting ahead of themselves. Chinese policymakers have stopped short of providing direct, major fiscal or policy support for businesses, and consumer spending remains muted thanks to a subdued outlook for wages and record-high youth unemployment. Profit margins remain thin amid rising competition from upstarts that mostly escaped the brunt of the crackdown such as ByteDance Ltd. and PDD Holdings Inc.
While a gauge of Chinese tech stocks has gained 20% since the end of May, it’s down nearly 4% this month as nervous investors take some money off the table ahead of Alibaba’s Aug. 10 report.
“The bottom line is if China’s economy is weak, it will be harder for these Internet companies to outgrow the economy now than before. And of course with all the new regulations and restrictions on these businesses, they are no longer free to seek growth,” said Vey-Sern Ling, a managing director at Union Bancaire Privee. “The kind of growth that we saw in the past for China is unlikely to return,” he adds.
Alibaba and Tencent face slowing growth and rising costs
The quarterly prints will offer the first clue on whether the much-anticipated tech revival has truly begun. Yet even if Beijing hews to its promises, it’s going to be a long slog to even approach the pre-2021 years of deal-making, experimentation and free-form expansion. Alibaba and Tencent, after shedding more than $350 billion of value since 2020, cut more than 20,000 jobs between them last year to survive regulatory and economic turmoil.
Analysts expect Alibaba to report a 34% increase in revenue for the quarter ended June, while Tencent is projected to post a 20% gain, according to Bloomberg data. Both figures would mark the fastest pace of growth since the first quarter of 2021, when China was hit by the COVID-19 pandemic.
However, the outlook for both companies remains clouded by uncertainties over their future growth prospects and regulatory risks. Alibaba faces intensifying competition from rivals such as JD.com Inc. and Pinduoduo Inc., which have been gaining market share in e-commerce and online grocery delivery. Tencent is grappling with slowing user growth and lower engagement for its core gaming and social media businesses, as well as regulatory hurdles for its fintech and music streaming units.
Both companies are also facing rising costs as they invest in new areas such as cloud computing, artificial intelligence, live-streaming and short-video platforms. Alibaba’s operating margin fell to 18% in the March quarter, the lowest level since its initial public offering in 2014. Tencent’s operating margin dropped to 25% in the same period, the lowest since 2018.
China’s tech sector awaits more clarity from regulators
While Beijing has eased its pressure on some of the tech giants in recent months, it has not completely abandoned its campaign to rein in their influence and protect consumer rights and data security. The government has issued new rules on antitrust, data protection, cybersecurity and online content, creating more uncertainty and compliance costs for the industry.
Some analysts expect more clarity from regulators in the coming months, which could help restore investor confidence and boost valuations. For instance, Ant Group is expected to resume its IPO process after restructuring its business and obtaining regulatory approval. Tencent is also awaiting a green light from authorities to merge its game-streaming platforms Huya Inc. and DouYu International Holdings Ltd.
However, others caution that the regulatory environment remains fluid and unpredictable, and that more challenges could emerge for the tech sector. For example, China is drafting a new law on personal information protection, which could impose stricter rules on data collection and usage by internet platforms. The government is also cracking down on online education companies, banning them from raising capital or going public.
“The regulatory risk is still there,” said Hao Hong, chief strategist at Bocom International Holdings Co. “It’s hard to say when it will end or what will be the next target. The market is still very cautious and skeptical about the tech sector.”
