Strategic trade
Trade view / 17 February 2015 at 4:08 GMT

Taxi app merger with Tencent to boost Alibaba

China Watcher / Shanghai
China
Instrument: BABA:xnys
Price target:
Market price:
Background

In October, I discussed how tech giants Alibaba and Tencent have invested heavily in rival taxi hailing apps, in order to increase spending volume over their respective payment systems. Alibaba, through its Ant Financial subsidiary, has invested in Kuaidi Dache and the Tencent has invested in Didi Dache, with both apps aggressively spending away in order to build market share, despite receiving no payments from customers and not even taking a percentage of the journey fee.

In fact, both apps have only recently begun to monetise through advertisements. Despite generating no revenue until recently, both firms had been subsidising both passengers and drivers to use their service over each other, which created an incredibly unsustainable business model. Therefore investors welcomed news of the merger, as the haemorrhaging of cash would slow down dramatically and the new entity would have a market share of around 95% of China’s taxi hailing industry.

The CEOs of both apps will act as co-CEOs of the combined entity, and will announce their new business model after the Chinese New Year festival ends. In the coming months, the two apps will continue to operate as independent brands, but it is expected that they will eventually merge operations under one name before the end of the year.

The original business model of both Kuaidi and Didi was to allow users to hail a taxi through an app. Drivers could see the location of the user, call them to confirm, and then find them. At busy times, both apps allowed users to add an extra fee for the taxi driver in order to take their fare. Therefore by promising an extra 10 yuan tip, the taxi driver would take their fare instead of that of someone hailing a taxi on the street. However, as Uber entered Asia with its executive taxi service, both Kuaidi and Didi moved quickly to counter this threat. When hailing a taxi, users can select from different levels of cars and service, from the standard taxis to the executive Mercedes S-Class service.

For both Alibaba and Tencent, this is a strong move, because both had been investing heavily in the apps, despite making very little revenue. The merger should see a heavy fall in subsidies and more monetisation, and will likely see an expansion of the service into more areas of public transport and car sharing, as well as taking a percentage of the journey fee. I personally think that Alibaba will gain more from this merger, because the Alipay system is more widely used than Tencent’s WeChat Pay. Therefore assuming that the passenger would be able to use either payment method for the new combined app, Alipay would likely see an increase in payment volume.

Management and risk description

Alibaba’s ongoing issue with the State Administration for Industry and Commerce (SAIC), China’s main business regulator, has now seen the Securities and Exchange Commission request information about the firm regarding the SAIC report that suggested that Taobao has a high percentage of fake products on its platform.

Whilst this may seem ominous to some, I take the view that SEC involvement is nothing more than a formality. As both Alibaba’s management and myself have discussed, the report in question isn’t fair to the firm, and is far more subjective than objective. This issue may continue throughout the next few months, so there may be some volatility throughout the life of this trade. However, I don’t expect that there will be any major ramifications against Alibaba from either the SAIC or the SEC. 

Parameters

Entry: $89.05

Stop: $85

Target: $95

Duration: Three months

— Edited by Robert Ryan

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