The Twilight of China’s Online Consumer Paradise

Thanks to investors from around the world, Beijing’s Li Weiling lives beyond her means. The 30-year-old advertising specialist gets lunch delivered to her doorstep, summons chauffeured cars during rush hour, and goes to movies for less than she’d pay for a cup of Starbucks coffee. All this on a monthly salary of 6,000 yuan, or about $800.

This is the Chinese dream, an on-demand economy underwritten by sovereign wealth funds, venture capitalists, and local internet pioneers. For the past year or so, startups backed by the country’s troika of internet leaders—Alibaba, Tencent, and Baidu—have offered plentiful and steep discounts on everything from massages to car washes, trying to claim market share in their nascent on-demand  businesses by any means necessary.

Now this peculiar golden era for smartphone-wielding consumers may be starting to wane. “Great for the consumer, but brutal in terms of burning cash,” says William Bao Bean, a partner at venture firm SOSV in Shanghai. When local ride-hailing leader Didi Chuxing finishes its takeover of Uber’s operations in China, for example, the latter’s supercheap rides will likely be over; already, prices are rising.

China’s so-called sharing economy took in $2 trillion last year, as the deep discounts flew and more than 500 million people used at least one on-demand service, according to the government. Chinese internet businesses received $20.3 billion in venture capital in 2015, eclipsing the U.S. haul of $16.3 billion and more than quintupling since 2012, PricewaterhouseCoopers says. But that investment frenzy peaked last fall. PwC’s Wilson Chow says private equity and venture investment may have fallen by a quarter in the first six months of 2016.

“A lot of VCs believed in the formula that, if you have tremendous user growth, there will be some way to convert that into profitability,” says Kai-Fu Lee, founder of Sinovation Ventures ·  in Beijing. “Too many people believed that and pumped in more cash.”

As investment in China’s tech businesses has dropped, consolidation has risen. Since last year, there’ve been a string of multibillion-dollar mergers among on-demand startups, including: in the ride-hailing business, Didi and Kuaidi One, then Didi and Uber’s Chinese operations; Meituan and Dianping (food delivery and group coupons); Ganji and 58.com (classified ads); and Ctrip and Qunar (online travel). Each of these deals was backed by some combination of Alibaba, Tencent, and Baidu, which, as investors, were said to have orchestrated the mergers to stanch losses. Uber and Didi alone are estimated to have spent billions trying to undercut each other.

Less competition is starting to lead to higher prices. “It’s not that they want to feed the Chinese consumer and give them goodies,” says Richard Lim, managing director at GSR Ventures, an early investor in Didi. “It’s that they thought the end result would be a monopoly.”

In many of these arenas, big-ticket mergers have created dominant players with greater pricing power.  Those companies have noticed. “Before, Meituan and Dianping worked with owners like me for free,” says James Jiang, who runs High Altitude Coffee shop in Beijing. This year, he says, “they take 15 percent of sales.”

Didi’s prices in Beijing are rising, and discounts on peak-hour Uber rides have fallen more than 80 percent, to about 1.4 yuan (19¢) from 8 yuan, in the past three months, according to one customer’s record. That means a ride that cost 8 yuan in May will now cost about 13 yuan. Even users of the more niche service Shenzhou Zhuanche, also known as UCar, say subsidies have fallen by a similar margin. Earlier this year, UCar users got a 100-yuan credit for every 100 yuan they spent; now the credit for the same outlay is 20 yuan, says Alice Xin Liu, a literary translator in Beijing. “Still use it, though,” she says.

Edaixi, one of China’s largest online laundry services, has begun to back away from its discounts, says Zhang Rongyao, founder and chairman of Edaixi’s parent company, Rongchang Laundry. “The laundry service can survive without heavy subsidies because of strong demand,” he says. Industries like entertainment may be more vulnerable. Following a flurry of mergers and acquisitions, the top four online movie- ticketing services control two-thirds of the market. Says Po Hou, an analyst for Deloitte China, “The days of heavily subsidized movie tickets may be over.” As online discounts on film tickets have become rarer, China’s steep rise in box-office sales has petered out.

Even if economic expansion in the country continues to decelerate, the number of affluent households (with annual income of more than 136,000 yuan) could more than double in the next decade, to 180 million, says Arthur Kroeber, managing director of Gavekal Dragonomics, a research service in Beijing. That population would offer a natural cushion for on-demand startups. And if consumers have become addicted to their new conveniences, they may be willing to pay for them.

Cao Siqi, a journalist in Beijing, is among the hooked. She’s used Baidu’s food-delivery app Waimai for two years and misses the early days, when she’d get 5 yuan to 10 yuan back for orders larger than 25 yuan. Now the discount is more like 1 yuan or 2 yuan. But when asked whether she’s kept up ordering anyway, she nods. “Of course.”

— With reporting assistance by David Ramli and Jeanne Yang 

[Bloomberg Businessweek]