DiDi Global (DIDI) which held an IPO on June 30 crashed through the IPO price and kept falling this week after the China's government banned the company's app from app stores.
DiDi is a Chinese ride-sharing app that was wildly popular in the Chinese market as an alternative to Uber (UBER). The app was banned from Chinese app stores by China's Cyberspace Administration due to alleged security risks associated with the plethora of data held by the company.
While we all know that investing in IPOs is a riskier bet than investments in established companies, the DiDi situation is proving to be an important reminder that investments in Chinese companies - IPO or not - adds a layer of systemic risk to the investment that is unique to communist nations.
The Rundown
After opening for trading, DiDi and its investors quickly ran into trouble due to a shift from the Chinese government which questioned the company's right to have access to an immense amount of data that it can use for "big data analysis."
As a ride-sharing company, DiDi has access to data on some behaviors and habits by individuals due the transportation company’s knowledge of where users travel and when. This caused the communist nation to decide that it must maintain stricter oversight on DiDi for national security purposes, as well as for protection of Chinese citizen's personal data.
Now this development didn’t completely come out of the blue. In May, China ordered DiDi and its competitors to overhaul practices that cause what is says are arbitrary price hikes as well as improve treatment of drivers. Aside from forcing changes in business practices, the Chinese government has been taking steps to crack down on tech giants to curb the growing influence these companies have. These moves include blocking the Ant Group IPO and the $2.8 billion fine handed to Alibaba (BABA).
Unique Risks
As mentioned earlier, DiDi, Alibaba, and other Chinese firms come with a unique set of risks that don’t really apply to companies that operate in democratic nations. This is because, unlike the molasses-like speeds at which the U.S. government operates, the Chinese government is able to quickly change the country’s laws with little to no roadblocks or warnings.
If the Chinese government feels that a company has too much information on its citizens, or simply that it does not rely on China enough, it can just change the rules. In the case of Ant Group, China blocked the IPO after releasing draft rules that drastically changed China’s consumer-loan industry. These laws were slapped into place on the eve of Ant’s $35 billion listing in Shanghai and Hong Kong.
As China continues to crack down on its tech giants, the companies continue to list and raise money abroad, which raises the question "should foreign investors invest in Chinese IPOs?" While the answer to this of course relies on your risk-appetite, you’re going to have to be really craving risk to want to get in on these companies after what happened with DiDi.
Companies that can raise billions of dollars abroad rely a lot less on China than those that don't or can't, which, if you're the most centralized government in the world, is not really what you want. This means that the companies that are listed on U.S., or other exchanges not on the Chinese mainland, are much more likely to find themselves in the crosshairs of the Chinese government and may be more likely to be handed sanctions of some sort.
Furthermore, given China's already tight controls on capital flow into and out of China, they're clearly not concerned with upsetting foreign investors, and so these sudden policy changes which act as a rug pull don't really have any negative consequences for China's government. In as much as these actions harm Americans, China's government may even see them as positive as the country is likely to face no repercussions for such acts.
The timing of China’s tactics couldn’t come at a worse time for American investors either. In the first quarter of 2021 alone, 24 Chinese companies listed on American stock exchanges. This is just six fewer than all of 2020, giving American investors more exposure to these firms than ever before.
So as you parse prospectuses from Chinese firms and make your decision as to whether you want in around its IPO date or not, remember to step away from the financials and also pay close attention to if the company has found itself in China’s cross-hairs in recent times. Regardless of any negative history between the Chinese government and the firm, keep in mind that the country’s sentiment towards the company may change in an instant, potentially leaving you holding the bag, regardless of how well you did your due diligence.
