China's growth fixation may cost it innovation

Mergers in China's e-commerce space, including Ctrip's tie-up with Qunar, are the default response to competition. A few giants now control vast swaths of the sector unopposed.

Ctrip and Qunar’s merger neatly wraps up any conundrum a family in China seeking to book a holiday might have. There will effectively be only one online travel agent in town once the $7 billion merger is complete.

The merger of Ctrip and Qunar, disclosed in a statement on Monday, will create an online travel powerhouse accounting for roughly 70%-80% of holiday bookings in China, according to Summit Research. It will enjoy a virtual monopoly in a fast-growing business sector. 

For the two companies the alliance makes a lot of sense. It offers economies of scale. Ctrip gains a strategic shareholder in Qunar owner Baidu, one of China's largest search engines. This aspect alone brings considerable heft and will allow Ctrip to build commissions and secure more favourable terms from hotels and airlines.

US investors endorsed the deal to create the holiday-booking giant in the making. Ctrip’s American Depositary Shares rallied 22% to close at $90.78 on Monday, while Qunar’s rose 7.9% to $42.65 apiece.

Survival of the biggest

Ctrip and Qunar are joining a rising tide of e-commerce companies entering into alliances via M&A and various cooperation structures in order to dominate their market segment.

Alibaba, the grand-daddy of China e-commerce, is estimated to account for 80% of the country’s online shopping through three primary sites – Tmall, Taobao and The sites facilitated transactions worth $248 billion in 2014, according to iResearch. That sort of turnover helped the company price the largest initial public offering ever in September 2014.

In February this year, taxi-hailing app companies Didi Dache and Kuaidi Dache, backed by Alibaba and e-commerce giant Tencent respectively, entered into a $6 billion tie-up. The deal did not simply create a segment powerhouse; the merged entity gained total dominion over the taxi-hailing category with a market share of over 99%, promptly following up with a $2 billion capital raising exercise in July.

There are often sound reasons to support the creation of an e-commerce leviathan. Retail-focused industries are typically low margin and often need to invest considerable sums for IT or – in the case of Alibaba – logistics. Faced with high monthly burn rates, small companies struggle to meet obligations.

Yet while such arguments have some merit, they do little to justify the presence of monopolistic monoliths laying claim to huge swaths of China’s e-commerce industry, curtailing market-enhancing competition and innovation in the process. 

A question of priorities

By their very nature, private companies and the entrepreneurs who start them seek to maximise and protect profit, thus assuring shareholders and investors they backed the right horse. Operating in an competitive industry, their very survival will likely depend on a strategy beyond mere discounting, product tweaks and clever marketing ploys.

Absent competitive pressure and assured of market share, monopolies become bloated and inefficient. To remain commercially viable they may lobby officials, leveraging their role as a big employer to gain tax breaks or low-interest loans.

Innovation, which requires effort, thought and imagination, is not in their business survival kit or corporate DNA. Aware of their disability, they view competition from even small players as existential threat and snuff it out.

Would-be rivals are not the only casualties in this battle. Customers endure inferior, sometimes dangerously designed products, or take their purchasing power and move to other, more open markets. The educated classes and the business and political elite can afford moving costs; the resulting brain drain and capital flight can hobble an entire society.

Official enablers 

Recognising the danger posed by monopolistic practices, markets have anti-monopoly statutes, and China is no exception. Yet the central government's focus on the growth of e-commerce companies, with online finance seen as particularly relevent, should not come at the cost of a consumer-oriented market committed to fair play on a level playing field.  

It is no doubt easier to regulate a few big firms than many at various stages of development, which might explain why some governments have tolerated monopolies or oligopolies. They are simpler to oversee, easier to direct.

Yet if Beijing truly wants Chinese citizens to play a larger role in promoting economic growth it can do so by encouraging competition, especially in the online space, which still has vast untapped commercial and social potential.

Encouraging the development of a few jumbo-sized national champions can promote economies of scale, but allowing such players to control e-commerce categories and online segments may have unintended economic consequences and prove counter-productive to Beijing’s stated desire to let the market have a greater say.

All economies can benefit from the presence of ambitious, efficient small- and medium-sized firms.  By fostering such an inclusive market, Beijing will achieve its long-sought increases in domestic consumption.   

China's anti-monopoly laws clearly require companies with merger plans to submit to a review by the Ministry of Commerce if their combined annual turnover is more than Rmb2 billion ($314.78 million).

China's e-commerce companies, owned and operated by some of the nation's brightest business minds, had legal workarounds to the stipulation before the ink on the document was dry.

Anti-competition cases are being heard in China's courts. And the rulings, even those that seem to contradict the letter and spirit of the country's anti-monopoly law, matter because they suggest China’s regulatory agencies and courts lack the determination to challenge what on the surface appears to be a national success story: the brands Alibaba, Baidu and Tencent, among many others.

Beijing now has an opportunity to exercise power in a positive way on behalf of consumers and in defence of small- and medium-sized firms denied the chance to compete. They should be willing to do so. 'Made in China' sounds a lot better than 'Monopolised in China'. 

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