Falls of the Mighty :: Who killed Alibaba, Meituan, JD, and Tencent, the gods of the Internet?

If 2021 is the year when the Chinese Internet enters the "Battle of the Gods", then in 2023, the Chinese Internet landscape has been determined and the gods have fallen. Two charts explain everything:

1) Without considering the buffalo market brought about by the three-year disaster, starting from 2019, even considering the addition of newly listed companies such as Kuaishou, the "Three Foolish Cars", Beike, and DiDi, the total market value of typical overseas Chinese concept assets listed in Hong Kong and the US has fallen by more than 10% in the past three years.

As the most vibrant asset class in China over the past decade, this is the first time there has been an overall decline in the past three years.

2) Looking closer, the source of the decline is clear: the overall decline of the e-commerce sector is the main culprit for the overall contraction of market value. The market value of listed Chinese e-commerce assets has shrunk by 35% in the past three years, with BABA-SWR alone accounting for a market value shrinkage equivalent to the current market value of Pinduoduo + NetEase + Meituan + Xiaomi + JD.com.

So, what happened in these three years? Who killed BABA-SWR, Meituan, JD.com, Tencent, and others?

Of course, at this point, if you ask anyone on the street, they can probably come up with a bunch of reasons: such as policies, regulations, macro factors, natural disasters, or even go further to international factors... There are definitely plenty of external factors to attribute to. But after attributing them, the conclusion can only be a tragic realization that "my fate is determined by heaven, not by me". Under this line of thinking, Internet peers should all consider selling their businesses and not doing anything anymore.

However, in reality, in such an environment, we still see the rise of Pinduoduo, the "my fate is determined by me, not by heaven" attitude of ByteDance, and the resilience of second-tier giant NetEase.

In essence, one must be strong to forge iron. Blaming external factors excessively and forgetting to reflect on oneself and the harm to the business will only lead to greater consequences. Therefore, in this summary, Dolphin Research will set aside these external factors and focus on four questions from the perspective of industry competition and internal factors:

1. Why did the "gods" fall?
2. Has the golden age of the Chinese Internet truly passed?
3. Can BABA-SWR, Meituan, JD.com make a comeback?
4. How should we view the future of the Chinese Internet?

The following is a detailed analysis:

I) Traffic, the "lifeline" of the Chinese Internet business

The rise and fall of Chinese Internet giants is ultimately a history of changes in user attention and the ability to monetize based on traffic.

1.1) Traffic first, then monetization:

a. "Onlineization" of the Chinese population: The penetration rate of Internet users on PCs was slow to increase. However, with the emergence of smartphones in 2009-2010, the onlineization of the Chinese population surged.

b. Onlineization of the population before advertising: 2015 was the peak year of O2O (Online to Offline) under the wave of mobile internet. For example, major O2O giants such as Didi Kuaidi, Meituan-Dianping, 58.com, and Ganji merged. Baidu launched Nuomi, Alibaba-SWR promoted word-of-mouth marketing, and JD.com expanded into home delivery. Alibaba-SWR and JD.com also entered the offline retail market through their supermarket businesses.

Looking at 2015 as a turning point: at that time, the number of Internet users and non-Internet users in China were evenly split. However, in terms of the allocation of advertising revenue, offline and online advertising were distributed in a 7:3 ratio, clearly lagging behind the speed of onlineization of the population.

Mobile advertising was even slower: the ratio of mobile to PC Internet users was 9:1, but at that time, the allocation of mobile and non-mobile advertising revenue was just about equal, with monetization lagging behind.

c. Looking at the present in 2023 (data as of the first half of 2023), as the onlineization of the Chinese population has reached its peak, the growth of total Internet users and usage time has stagnated, and the logic of overall growth is no longer there. The battle for users has basically settled.

In terms of commercial monetization, by 2022, the migration of advertising revenue from offline to online still seemed to have some residual effects, but the space for online PC advertising has almost been squeezed out.

1.2) The ultimate battle for traffic: From user acquisition to usage time

The battle for user acquisition has ended, and theoretically, the Internet should enter a stable state, and the battle for traffic should also reach a stable state. However, this is not the case. This is because the final battleground of the traffic war has shifted from user penetration rate to the competition for usage time. The key indicators in this regard are the number of daily active users and the duration of daily active users, which represent the competition for users' attention.

In fact, from a retrospective perspective, around 2018, the penetration rate of Chinese mobile users reached its peak, and the overall usage time of the Internet began to enter the stage of competition for usage time. The Chinese mobile internet, which was originally focused on text and images, has completely entered the era of mobile video internet.

With the acceleration of staying at home during the three years from 2020 to 2022, the competition for usage time has become more intense, with short video platforms gaining substantial strength. The defensive measures taken by Tencent's video platform can only be seen as stopping the bleeding of market share within the Tencent ecosystem.

By 2023, the new landscape of traffic has roughly settled, and the challenge from new giants to old giants has been completed, leading to a further redistribution of users' attention.

China's transition from PC to mobile took about 10 years (around 2010), while the transition from mobile text to mobile video, with Douyin's independent launch in 2018 as a milestone, took about 7 years. Behind each shift in traffic is the reshuffling of giants: from BAT, to BAT+TMD, and now to BABA-SWR's twilight years, Tencent's middle age, and Pinduoduo's prime.

Therefore, at this current juncture, when considering whether the lineup of Chinese internet giants is stable, the first question to address is whether there is a new form of content consumption at the bottom layer of internet business that can instantly capture the attention of over 1 billion Chinese netizens.

Perhaps around 2010, Sina, Sohu, and NetEase failed to anticipate the imminent shift in traffic, but by 2013-2014, BAT had a deep understanding of the mobileization of traffic, with the outcome depending on their respective strategies.

During the period of 2016-2018, BABA-SWR and ByteDance were also well aware of the arrival of the video era: 5G can further promote the growth of traffic duration, BABA-SWR launched Taobao Live in 2016, and Tencent and BABA-SWR aggressively invested in the video track - Kwai and Douyin. ByteDance's App Factory vigorously promoted various video apps, searching for the key to traffic.

However, at this juncture in 2023, after 5 years of mobile video internet, it is still unclear where the next form of consumer internet consumption will emerge: will it be a mix of mobile "visual and graphic" internet, or an AR/VR internet?

If it is the former, then having Toutiao and Douyin, Douyin seems to already be the king of mix-and-match, with at most some attention given to whether Xiaohongshu has the opportunity to become a leader. If it is the AR and VR internet, then there is still a long way to go in the era of consumer internet, as hardware is still in its infancy. It may take many more years for software and content consumption to become mainstream.

In addition, from the perspective of vested interests, UGC short videos/live streaming have lowered the threshold for content creation through the ability to broadcast anything on the backend and the ability for anyone to broadcast, resulting in a decline in the quality of front-end content (referred to as "pig feed" by long videos) to cater to the content consumption needs of the majority of Chinese netizens (80%, 700-800 million netizens with education levels below high school). This has created a product that operates at a universal traffic level. Through live streaming rewards and private advertising revenue sharing, relative income sharing between creators and platforms has been achieved, preventing creators from being solely dependent on platform monetization as in the era of text content. The rate at which content producers leave the platform will also slow down.

Therefore, from this perspective, Dolphin Research roughly concludes that in the current state of China's video internet, unlike the constant changes in the PC and mobile text eras, the traffic landscape in the video era has reached a stable state. As Dolphin Research mentioned earlier, traffic comes before making money. For video giants who hold the key to user engagement, the battle for user engagement has already been won, leaving only intense competition for monetization opportunities.

2. in the era of mobile video, all business models are worth revisiting.

With the battle for traffic settled, Dolphin Research will now focus on the competition for monetization. Before discussing this issue, let's first talk about the differences in capital investment and monetization models between UGC/PUGC short and medium videos + live streaming.

a) Short and medium videos: Internet content platforms "capital-intensive"

However, for content platforms that rely on self-generated traffic, the production investment is significantly higher compared to previous text-based content platforms (such as Baidu and Weibo):

One is the cost of bandwidth and servers in the production of UGC/PUGC content (excluding long videos, music, etc., such as Baidu, Weibo, WeChat Moments, etc.).

Taking short videos as an example, in terms of Capex, the cost of bandwidth + server (depreciation of leased data center assets for a period of one year or more) accounts for about 10%. In contrast, for platforms like Baidu, which represent the traffic platforms of the text era, the cost of bandwidth and servers accounts for only about 5% under steady-state conditions.

Another factor is the cost of acquiring traffic: The cost of acquiring traffic in the text-based internet is simply traffic procurement + content production (such as Baidu Baijiahao, Weibo creation). The incentive mechanism for creators is fundamentally misaligned, with very little incentive for creators and little loyalty to the platform. When users leave, creators are likely to follow suit.

However, in the video internet, the creators of live streaming and short video content, which are the sources of traffic, can share the benefits with the platform to some extent. For example, even if there is a love-hate relationship between Simba and Kuaishou, it is difficult for Simba to leave.

To some extent, by investing heavily in content and sharing a portion of the benefits with creators, the loyalty of content creators will be higher. These content costs are reflected in the revenue sharing during live streaming rewards.

In addition to attracting traffic through heavy content investment, Kuaishou also acquires users' attention by allowing them to directly send money while watching videos, thus acquiring user engagement.

b) Upgraded business models: In the era of mobile video, true boundlessness emerges

The result of this investment is that in the text era, whether it is Baidu, Weibo, or even BABA-SWR, the gross profit margin of advertising is generally above 80-90%, representing a typical light asset model.

However, before the emergence of short videos, content-heavy business models such as games, music, long videos, and entertainment live streaming mostly relied on content-related payments such as premium memberships, live streaming rewards, and in-app purchases (collectively referred to as value-added services).

The final form of the app either had a limited user base due to its niche nature, such as YY, Douyu, and Yuewen, or it couldn't cover the basic content costs due to users' limited payment ability or willingness, making it difficult for the business model to prove itself, such as online music and long videos. They were unable to truly grow into a threat to the leading players in the Chinese internet industry. As a result, in the era of mobile graphics and text, although assets are light, the infectious power of graphics and text is not as strong as that of short videos and live streaming. Those who rely on free content and traffic diversion to earn advertising revenue only focus on monetizing through advertisements and cannot achieve monetization through e-commerce. Even if they can avoid direct competition, the mobile graphics and text era of the Internet has clear boundaries, and no one has achieved the so-called "boundary-free derivation" like Meituan.

However, in the era of video/live streaming Internet, the heavy assetization of traffic acquisition means that there must be stronger monetization capabilities compared to traditional Internet in order to generate gross profit.

If a diverse range of commercial monetization cannot be achieved, it is equivalent to ruining the business model of the Internet, similar to how the commercial model of music was ruined by the transition from cassette tapes to streaming media.

Fortunately, in terms of monetization in the consumer Internet, platforms like Douyin, Kuaishou, and even video accounts that are on the path to e-commerce monetization have basically achieved a diverse range of monetization options on the foundation of traffic: besides paid content that either lacks the ability to monetize (such as games) or is not interested in monetizing (novels, long videos, audio memberships), the rest have evolved from first-tier live streaming rewards to second-tier advertising, and now third-tier e-commerce, on today's short video platforms.

3. The ultimate battle for monetization in mobile video—traffic-based comprehensive e-commerce

In the history of the Internet, whether in China or abroad, there has never been a successful precedent of content platforms transitioning from having traffic to delving into deep-level e-commerce after completing shallow-level advertising monetization.

One reason is that in the mobile era where text is the main form of content from the user's perspective, e-commerce links inserted into graphic and text content platforms are more like "band-aids," with very poor traffic conversion.

However, short videos, with their duration and content format, occupy users' fragmented and disposable time, unlike focused durations such as WeChat chats and long videos. They naturally adapt to advertising and planting seeds, and have much less interference, resulting in strong monetization capabilities for short video durations.

Another broad statement is that e-commerce is not just about traffic, it also requires strong operations. The ability model of content-based traffic, which is accustomed to light assets, does not match the heavy asset nature of e-commerce.

But with the emergence of Douyin, coupled with the pioneering role of Taobao Live and the catalysis of the pandemic over the past three years, the gap between mass-level content/entertainment traffic platforms and e-commerce monetization has been bridged.

3.1) Douyin's physical e-commerce

Based on research and comprehensive media information, Douyin's e-commerce has three astonishing data points:

a. Douyin's e-commerce GMV in 2023 is estimated to be around 23 trillion yuan, which is only 30% of BABA-SWR's e-commerce GMV.

b. Shopping habits on Douyin are being cultivated: In 2023, Douyin's GMV growth rate is 60%, and payment GMV growth rate is 100%. The total GMV exceeds 23 trillion yuan. The faster growth rate of payment GMV may be attributed to users developing shopping habits on Douyin. b. The related revenue of Douyin e-commerce may reach 220 billion yuan in 2023, which is equivalent to 30% of BABA-SWR e-commerce GMV and 70% of BABA-SWR e-commerce revenue.

c. The monetization rate of Douyin e-commerce is around 9.5%, while BABA-SWR is still hovering below 4.5%.

The reason why Douyin can achieve such a high monetization rate is partly because the e-commerce business with relatively high gross profit margin (beauty, clothing, etc.) accounts for a higher proportion. The brand advertising on Tmall, as the brand promotion platform, seems to have been taken over by Douyin.

In addition, Douyin e-commerce advertising generates revenue that Taobao, Pinduoduo, and JD.com do not have. This refers to the e-commerce ads placed by these platforms and their merchants on Douyin. Roughly estimated, this part alone has increased the monetization rate of Douyin e-commerce by at least three percentage points.

3.2) Douyin Local Life E-commerce

Based on industry data and research information, in the local life battlefield, Douyin has the advantage of information distribution flow, posing a basic threat to Meituan:

a) With over 300 million DAU and longer user engagement, the GMV growth rate of local life is expected to be around 10% on a monthly basis in 2023. The GMV for the first 11 months has already exceeded 250 billion yuan, and the GMV redemption rate has surpassed 60%, aiming to reach 65%.

b) In terms of categories, catering, comprehensive services, and travel are all in a blossoming state, with travel showing particularly strong growth. It is so strong that it may eventually pose a threat to Ctrip's domestic travel business.

c) The current core issue in local life is food delivery, with monthly GMV being negligible and can be ignored. Unlike physical e-commerce, logistics capacity is shared among e-commerce peers, namely Meituan and Ele.me. Douyin does not engage in immediate delivery, making it difficult for food delivery to have a slice of the cake like physical e-commerce.

From the pace of physical e-commerce and local life information distribution, Dolphin Research's overall perception is that, except for ride-hailing and food delivery, Douyin may face difficulties and have a lower cost-effectiveness.

However, for other forms of e-commerce (physical, local life information distribution, and OTA), which mainly rely on traffic distribution and do not have logistics barriers, and have high user monetization value, Douyin can replicate them to achieve the ultimate amortization of content-heavy investments.

The basic premise for this judgment is what was mentioned in the previous analysis of traffic ecology. With the transition of content traffic platforms to the present, the market share of giants has been established, and ByteDance has become a black hole-level presence in domestic traffic. It can slowly and steadily focus on commercial monetization on the upper floors of the building without worrying about users voting with their feet and moving to a new traffic platform.

3.3) It's not that the internet hasn't grown, it's that the pioneers of the internet haven't grown Based on Dolphin Research's data analysis, ByteDance, the leader in the short video industry, has a similar revenue structure to Kuaishou in the Chinese market. While exploring various internet monetization models, ByteDance has achieved a healthier revenue scale and diversified traffic sources, making it the top player in terms of revenue amount, structure, and distribution.

a) In terms of the scale of business revenue: ByteDance's global total revenue in 2023 is approximately CNY 800 billion, Tencent's is around CNY 600 billion, and Alibaba-SWR's total revenue (excluding low-quality revenue from entertainment, logistics, and local services) is also around CNY 600 billion after excluding industrial internet and direct e-commerce businesses. The additional CNY 200 billion of ByteDance's revenue comes from its international operations.

b) In terms of revenue growth: Alibaba-SWR's e-commerce business is experiencing zero growth, Tencent is growing at 10%, while ByteDance is expected to achieve 30% growth this year.

c) In terms of revenue structure, compared to Kuaishou, ByteDance has a larger scale effect, a higher proportion of high-margin advertising revenue, and a healthier traffic ecosystem, which gives ByteDance a clear advantage in terms of gross profit margin and sales expense ratio. ByteDance's operating profit margin is 25-30%, which is on par with Tencent's projected operating profit margin of 20-30% in 2023.

(Note: The lower apparent e-commerce revenue for ByteDance in China is because it only includes commissions. If e-commerce advertising revenue is included, e-commerce revenue actually accounts for 37% of ByteDance's total revenue in China, not 10%.)

3.4) Evaluating ByteDance: The Top Player in China's Internet Industry

While collecting data, Dolphin Research has already had an intuitive feeling that ByteDance may already be, and will continue to be, the top player in China's internet industry, leaving Tencent and Alibaba-SWR behind.

Dolphin Research estimates that Douyin's core operating profit in 2023, which is close to CNY 200 billion, has already surpassed Tencent. Considering Tencent's core business PE valuation of approximately 20X and Meta's PE valuation of 25X, ByteDance's current valuation should be conservatively estimated between USD 500-550 billion, which is higher than Tencent's current valuation.

Dolphin Research has noticed that the internal valuations rumored in the market for 2023 include employee stock option repurchase valuations and investor equity repurchase valuations, which are only around USD 220-260 billion. This seems to indicate a deliberate attempt to lower the price for repurchases, possibly due to weaker liquidity.

4. The Era of Video Internet: New Lineup of Chinese Internet Giants: BTP

At this point, Dolphin Research can provide relatively clear answers to the four questions raised at the beginning:

a. Why did the "gods" fall?

Answer: The underlying transition of internet traffic in the video industry has already been completed, and within the next 2-3 years, we won't see another major transition. However, in terms of monetizing internet traffic, the video industry has achieved "truly boundless expansion" in the history of the internet.

From the beginning with Baidu to the current BABA-SWR, JD, and Meituan, they have all been suppressed by the traffic of Douyin. E-commerce businesses either focus on acquiring traffic or improving efficiency. The latter earns hard-earned money, while the former is relatively easier. The two traditional comprehensive e-commerce platforms, BABA-SWR and JD, find it difficult to counterattack Douyin's assault and can only choose to focus on extreme efficiency to counterattack Pinduoduo's offensive.

b. Has the golden age of China's internet passed?

Answer: It's not that it has passed, but rather that the competition for traffic has ended and the market has entered a stable state. Most of the traditional internet giants are gradually being left behind because of the stable competition for traffic. Video industry players have enough time to calmly build the upper structure for commercial monetization, but the experience of the previous generation of internet players is not so good during this process.

c. How do we view the future of China's internet?

In Dolphin Research's internet summary last year, "As the Cycle Declines, How Much Value is Left for BABA-SWR and Tencent?" it was mentioned that future internet players will only focus on three main directions:

Mastering the first interval: focusing on efficiency.

Laying ambush on the second curve: expanding business.

Seeking incremental markets: expanding overseas.

Combining these three monetization tracks, Dolphin Research believes that the first-tier players in the stable state of the internet have already taken shape: BTP (ByteDance, Tencent, Pinduoduo). In this stable state, compared to the US stocks Amazon, Google, and Meta, they will all be in a relatively stable pattern for a relatively long period of time.

a) E-commerce track: core efficiency - Pinduoduo, overseas expansion concept - Temu.

b) Gaming track: ultimate products - Tencent, overseas expansion concept - Buff, overseas games account for 30% of total gaming revenue.

c) Advertising track: ultimate traffic - ByteDance, overseas expansion concept - Buff, TikTok, overseas revenue accounts for 25% of total revenue.

In the short term, Dolphin Research's outlook for China's internet in 2024 is that ByteDance will not go public, and the Chinese internet still appears to be clouded. If we must find opportunities:

a. Product-driven companies - Tencent, NetEase.

b. Content payment companies - the impact of Douyin's traffic has passed, and Douyin does not attempt monetization in these areas. For example, Tencent Music, iQiyi, and Yuewen may experience a reversal of their predicament. Pay close attention to Tencent Music.

c. "Resurgence" opportunities for mobile text and image pioneers - BABA-SWR, Meituan, JD's highly undervalued "rebound," note that it is a rebound, not a reversal.

d. Overseas opportunities - Pinduoduo, Shein, BABA-SWR International, etc.

4) Can BABA-SWR, Meituan, and JD.com make a "comeback"?

In the era of video internet, the traffic landscape has stabilized, and with the realization of "borderless" monetization, Dolphin Research believes that without the logic of going global, in the long run, Meituan and JD.com may not have a true "comeback" in the real sense.

Of course, the chances of a long-term trend are not great, but that doesn't mean there are no opportunities for fluctuations: Meituan and BABA-SWR, due to excessive borderless expansion and failed internal and external investments, their current market value is the result of market punishment valuation. By stopping internal investments, returning to their core businesses, and unlocking the benefits of equity assets to provide returns to major shareholders, there is still a great chance for the stock prices to rebound.

However, JD.com and Meituan, who have not made significant progress in incremental business and incremental markets, are unlikely to have a business logic reversal in the long term. While their valuations may rebound, a complete reversal is difficult.

As for whether BABA-SWR can have a long-term reversal, Dolphin Research is currently taking a reserved stance. When it gives up the fight against TikTok and chooses to compete with Pinduoduo, it is actually about competing for ultimate efficiency. Currently, BABA-SWR's organization is bloated and its efficiency is low, and there have been no signs of improvement.

Risk disclosure and statement for this article: Dolphin Research Disclaimer and General Disclosure