As of July 2020, eight of the most valuable companies in the world are technology companies. Of those eight tech companies, two are Chinese companies. Furthermore, there are several other Chinese tech giants on the verge of competing with the largest tech companies in Silicon Valley.
Any serious Wall Street investor needs to pay attention to the growing number of large and rapidly growing technology companies based in China. This post is a rundown of the largest and most important Chinese tech companies, and some of the factors that investors should consider when investing in them.
- What makes China’s tech firms unique?
- The 5 largest Chinese internet companies
- Other prominent Chinese tech companies
- Advantages, disadvantages and risks of investing in Chinese tech companies
- How to invest in Chinese tech companies
What makes China’s tech firms unique?
Chinese tech companies can be divided into two categories; those that build hardware, and those that provide internet-based services. Amongst the hardware companies, there are several prominent smartphone manufacturers which are entirely homegrown – though most are privately owned. By contrast the semiconductor and PC manufactures in China tend to be joint ventures with more established external partners.
But the companies that really stand out are the internet companies involved in ecommerce, social media, online content, and entertainment. These companies have emerged in an unique environment. Firstly, the most prominent US internet platforms – Google, Facebook, Twitter, and YouTube – are banned in China. This has given local companies exclusive access to the Chinese market. Furthermore, these platforms have emerged while China’s middle class has grown at an unprecedented rate.
The growing middle class has meant growing disposable income. Platforms like Tencent and Alibaba have therefore been in the right place at the right time. Many of these rapidly growing Chinese internet companies have held IPOs on US exchanges. This has allowed them to access large amounts of capital more cheaply. It has also made them accessible to global investors.
The 5 largest Chinese internet companies
As you will see, the two largest Chinese tech companies, Alibaba and Tencent both trade at a similar market cap. Exactly which one of the two is worth more can vary from one week to the next. Nevertheless, both companies are now the 6th and 7th largest tech companies in the world. In terms of market capitalization, they are ranked right behind Apple, Amazon, Microsoft, Alphabet and Facebook.
Tencent (US OTC: TCEHY, Hong Kong: 700)
Tencent Holdings is a company few investors had heard of until a few years ago. It is now worth close to $700 billion. The company owns numerous platforms and products, mostly related to social networking of some kind. Tencent was founded by Pony Ma in 1999, and is based in Shenzhen. Tencent’s initial success came from QQ, an instant messaging platform and web portal.
The portal acts as a platform for Tencent and third-party games, microblogging, and other services. This platform has allowed Tencent to launch numerous other products directly to an exceptionally large market. WeChat, a similar service to WhatsApp, is Tencent’s other major success. However, unlike WhatsApp, WeChat is heavily monetized via apps available on the platform.
Tencent uses its platforms to make thousands of apps available to users. These apps cover numerous industries, with gaming, streaming music and streaming video being most popular. A long series of acquisitions has also resulted in Tencent effectively becoming the largest gaming company in the world. Streaming music is another big revenue generator for Tencent. In 2019, the music related businesses were spun off as Tencent Music Entertainment (TME) which is listed internationally.
Tencent’s growth has been astronomical over the last ten years: revenue has grown from $2.9 billion to $53 billion, while net income increased from $1.2 billion to $13.4 billion. During the same period the stock price has increased 17-fold, making Tencent one of the most valuable multibagger stocks to own.
Alibaba (NYSE: BABA)
Alibaba is more widely known than Tencent but trades at a similar market value. It is the largest e-commerce company in China, and in some respects even larger than Amazon. Jack Ma, arguably China’s most famous entrepreneur, founded Alibaba in 1999 in Hangzhou in Zhejiang province. Alibaba’s primary business is e-commerce via several platforms. Unlike Amazon, Alibaba tends to act only as a middleman rather than as a vendor.
Alibaba.com, the original platform is a business to business (B2B) platform, Taobao is a consumer to consumer (C2C) platform and TMall is a business to consumer (B2C) marketplace. To put these three platforms in perspective, their websites are all ranked amongst the busiest 10 sites in the world for traffic, while Amazon.com comes in at 12th place.
While Alibaba is known for its e-commerce platforms, it is also a global leader in fintech, cloud services and artificial intelligence. Alibaba’s online payment service, Alipay, is now part of a separate subsidiary, Ant Financial, which is rumored to be holding an IPO in the near future.
While Tencent does not have a direct listing outside of China and Hong Kong, Alibaba held its record-breaking IPO on the NYSE in 2014. The stock began trading around $95 and has steadily increased to over $250 since then. The stock price growth has been backed-up by revenues which have grown from $ 3.2 billion to $71 billion since 2014. Net Income has grown from $671 million to over $21 billion.
JD.com (NASDAQ: JD)
JD.com is China’s other ecommerce giant. Unlike Alibaba. JD.com is a vendor as well as a marketplace operator. The company started out in 1998 as Jindong Century Trading, a wholesaler of optical drives. In 2004 the first website was launched, and later the company began diversifying its product range.
Walmart has a 12% stake in JD.com. This partnership is beneficial to both parties and has helped JD.com expand internationally. JD has also invested heavily in automation and AI and is believed to have the largest drone delivery system in the world. In this regard, JD.com is very well positioned for the future.
Over the last decade, JD.com’s annual sales have grown from $3.3 billion to $85 billion, an increase of 2,400%. Net income has been somewhat erratic as the company has reinvested all profits in growth. Nevertheless, investors have approved of the strategy and the stock price has increased fourfold since JD.com listed on the Nasdaq in 2014.
Baidu (NASDAQ: BIDU)
Baidu which owns the largest search engine in China is often regarded as the Google of China. The company’s main business is search and its main search site is the fourth busiest website in the world. Baidu is also a world leader in artificial intelligence and autonomous vehicle technologies.
Like Google, Baidu owns numerous other sites, products, and platforms. These include a mapping site, a cloud storage solution for consumers and a news aggregation service. Baidu’s search products can be used for music, images, and videos. The search solutions are the “go to” platforms for anyone searching the Chinese Internet. The company has also successfully replicated most of its products for Japanese language content.
Baidu is the lead partner in the Apollo project, an operating system for autonomous vehicles. Baidu has partnered with over 40 companies including Intel, BMW, and Mercedes Benz on the project. As has been the case with similar Chinese tech companies, Baidu has seen impressive revenue growth of 1,000% over the past 10 years. However, in Baidu’s case margins and profits have been more erratic. This has resulted in a rather volatile stock price. It’s worth considering that many of the technologies Baidu has invested in may only become profitable at a later stage.
ByteDance (Unlisted)
ByteDance is a private company but worth including in this list for three reasons. Firstly, it is exceptionally large and growing rapidly. Secondly, there is a good chance it will hold an IPO at some point in the next few years. Thirdly, ByteDance is arguably the most successful social media company in the world.
ByteDance is a holding company that owns and develops technology products. The company is owned by its founders and venture capital investors. It said to be the most valuable unicorn and privately owned company in the world, with an estimated value of between $100 and $150 billion.
The most important products are TikTok, a short form video platform, and Toutiao, a content discovery platform. TikTok has been downloaded over 2 billion times and has 800 million active monthly users. ByteDance’s ability to use artificial intelligence to drive user engagement and grow market share is the reason investors should keep an eye on it. It is believed that ByteDance is currently generating close to $20 billion in annual revenue. The bulk of this is from TikTok which was launched just four years ago.
Other prominent Chinese tech companies
Listed below are some of the other prominent companies that may grow into global giants in the years to come. First there are smaller internet companies, and then there are the smartphone manufacturers.
Meituan Dianping (US OTC: MPNGF, HK: 3690)
Meituan Dianping operates various B2C ecommerce platforms. These include food delivery networks and sites that sell vouchers for restaurants, hotels, and other entertainment businesses. The company has seen meteoric growth over the past four years. As a result, Meituan, which is listed in Hong Kong and trades on US OTC markets, has seen its market value grow to $142 billion.
Pinduoduo (NASDAQ: PDD)
Pinduoduo is a newer ecommerce platform which held an IPO in 2019 on the Nasdaq. Despite only being launched in 2015, the company is already worth $100 million.
NetEase (NASDAQ: NTES)
NetEase provides a range of web-based content and gaming services. The company which has a market value of $64 billion has a solid record of consistent revenue growth.
Tencent Music Entertainment (NASDAQ: TME)
TME was spun out of Tencent Holdings and held its IPO in late 2018. As an investment the company is often compared to Spotify, but with a unique difference – TME have developed multiple revenue sources across its platforms.
Huawei (Private)
Huawei is a very successful and very controversial manufacturer of smartphones. Despite being banned in several countries, the company still has the second largest market share in the global smartphone market. Huawei is also a world leader in 5G technology. The company is privately owned but generated more than US$122.972 billion in 2019.
BBK Electronics (Private)
BBK Electronics is a holding company and is also effectively the world’s second largest smartphone manufacturer. It has achieved this as the owner of the OnePlus, VIVO and OPPO smartphone brands – all ranked within the top 10 by units sold. Besides smartphones, BBK companies also produce MP3 players and other electronic devices.
Xiaomi (US OTC: XIACF, HK: 1810)
Xiaomi is another of the Chinese tech companies that has emerged as a global leading smartphone manufacturer in recent years. It now sells 9% of all mobile phones in the world, making it the 5th most popular smartphone brand. The company has grown revenue threefold since 2015 to $30 billion. Unlike Huawei and BKK Electronics, investors can buy shares in Xiaomi. The stock is listed in Hong Kong and also trades on the OTC market in the US.
Advantages, disadvantages and risks of investing in Chinese tech stocks
The companies described in this article have a lot of promise, as well as several drawbacks which are mostly related to the risks associated with them.
Advantages
For most Chinese tech companies, penetration outside of China is still relatively low. This implies there is still a lot of potential for growth. China leads the world in online payments – this means companies like Alibaba, Tencent and JD.com are better prepared for the transition to a cashless society than their Western competitors. Chinese companies have developed more diversified revenue streams than their Western peers. This should make their revenues more defensive in the future.
Risks and disadvantages
Accounting standards in China are not what they are in developed countries. This has resulted in several large cases of fraud. The most recent example was Luckin Coffee which was listed on the Nasdaq. The company inflated sales figures by as much as 88%. When the fraud was uncovered, the stock price fell by as much as 95%.
China’s relationship with the global economy is another major risk. As mentioned, many of these companies benefit from the fact that global competitors are banned in China. Some countries, particularly the US, are beginning to take exception to this uneven playing field. In addition, certain Chinese companies are regarded with suspicion – Huawei has already been banned in certain countries, and there is speculation that TikTok will soon be banned too. These issues, along with the trade war may make growth outside China a challenge.
As is always the case with growth stocks, tech stocks can find themselves more exposed when there is a stock market crash. However, it is worth noting that the Coronavirus recession has been positive for most tech companies. It can be challenging to try to understand a company if its products and content are Chinese. This can make it difficult to determine whether or not a stock will make a good investment.
How to invest in Chinese tech companies
Many of the largest Chinese tech companies are listed on exchanges in the United States, so there is no need to open a trading account in China. Stocks that aren’t listed on international exchanges can often be traded on the OTC market, or on the Hong Kong market. It is advisable to avoid companies that are only listed within China unless you have specialized knowledge. For the most part, the most promising companies are listed outside of mainland China.
Exchange traded funds (ETFs) are an option for investors who want to take a hands-off approach. As always, there is a tradeoff involved when investing with ETFs. They do simplify the process of investing in Chinese companies and eliminate the need to select individual stocks. On the other hand, the fees are relatively high, and performance will depend on the selection process and investment strategies used by each fund.
The following funds offer exposure to most of the stocks mentioned in this article:
- Global X MSCI China Consumer Discretionary ETF (CHIQ)
- Invesco China Technology ETF (CQQQ)
- WisdomTree China ex-State-Owned Enterprises Fund (CSXE)
- KraneShares CSI China Internet ETF (KWEB)
When it comes to selecting individual stocks it’s important to remember that many of the conventional stock picking techniques don’t apply to growth stocks. In this regard, fundamental analysis and stock valuation metrics may be of little help. Investing in web platforms comes down to recognizing the potential for a product, and then managing the risk that comes with a position.
Regardless of how good a company is, volatility in the Chinese tech space is likely to be very high from time to time. The only way to manage portfolio risk is by keeping individual position sizes small relative to your entire portfolio. Diversified asset allocation across other asset classes can help you reduce portfolio volatility.
Conclusion: Investing in Chinese tech firms
The tech giants located in Silicon Valley and elsewhere in the US tend to get a lot of media attention, so it’s easy to overlook the largest Chinese tech companies. However, as highlighted in this article, these companies have several unique advantages. It is quite possible that in years to come the most valuable company in the world might be one of these Chinese tech giants. For this reason, investors shouldn’t ignore this important group of companies.
Nice write up, I’ve always wanted to invest direct in Shanghai or Shenzhen exchanges but can’t seem to find a reliable platform. Based in Australia – all we have is ETF exposure, any ideas regarding platforms for active investing into the Chinese direct shares?
The stock exchanges in China are closed or at least highly limited to direct investments by foreign individuals. Probably the best way for direct exposure is to invest in Chinese stocks listed at the Hong Kong stock exchange. The other way to get China exposure would be stocks that are listed in the U.S. (e.g. BABA) or indeed choose ETFs that have exposure to Chinese stocks.