All you need to know about Ant Group (and its canceled IPO) — Fintech Beat Podcast, Episode 76
Hong Kong University professor Douglas Arner joins the Fintech Beat podcast to talk about the origins of Ant Group, its regulatory shortcomings in the Chinese financial system, and when he expects to see an IPO.
Dr. Chris Brummer: Welcome to Fintech Beat, where finance, technology and policy come together. I’m your host, Chris Brummer and the future of finance is now.
Perhaps the biggest international news in fintech this year was the forced abandonment of Ant Financial Group’s initial public offering. Now, for those of you who might not be as familiar with Ant, don’t be fooled by its name. It’s a giant in the fintech world and is the app of all apps offering a panoply of services, including savings, peer to peer lending, wealth management, virtual credit cards, payments, and more. The fintech company was on track to do a $35 billion offering in Asia which would have made it the biggest IPO ever and raise its market cap to more than $300 billion. And though that may be less than Apple’s $1 trillion valuation, it’s still more than three and half times that of Goldman Sachs.
Now, for many years, the company was a darling of the Chinese tech scene and a sign of the country’s growing sophistication and economic clout. But in the fall, regulators began to look more closely at Ant’s performance, sparking an outcry by Jack Ma, the company’s CEO, of the way the fin tech company was being regulated both in China and by the Switzerland-based Basel Committee. Things ultimately did not end up well after that. Just two days before the planned listing, the Shanghai Stock Exchange, where Ant was planning to list, abruptly suspended the offering, citing major issues with the group where it could be failing to meet information disclosure requirements. Hong Kong Stock Exchange, where Ant was planning a dual listing, soon followed thereafter.
The debacle has raised many questions about not only Ant, but also China’s larger fintech and regulatory systems. And to walk us all through it, we have Douglas Arner, the Kerry Holdings Professor in Law at the University of Hong Kong and an alum of the show. Douglas is one of the world’s leading experts on China’s regulatory system and it’s an honor to have him back to let us in on the economic challenges facing Ant and what it all means to the larger financial system.
Douglas, thanks so much for making it back onto the show.
Douglas Arner: Thanks, Chris. Great to be here again.
Dr. Chris Brummer: So, maybe you can tell us a little bit about Ant. What are the origins of the company and how did it grow so quickly?
Douglas Arner: You know, I think it’s a really interesting story and I think, for perspective, we have to realize that had Ant’s IPO gone to schedule, it would have emerged as, effectively, about the world’s fourth or fifth largest financial services company. We think about current market cap, Visa, MasterCard, tend to be one and two. JP Morgan is around three, Ant would have ended up right around four. So this would have emerged as a very significant global company. Of course, the listing would have been on the Hong Kong and Shanghai exchange. So I think it’s interesting, as you say, to think a little bit about where they came from. Really, where it came from is from the origins of Alibaba. Alibaba, of course, is the e-commerce major, the sort of Amazon of China, but it’s even more than that.
If you think about Alibaba’s origins in the same way that one of the key paying points for Amazon back in the 1990s was electronic payments, likewise around the same time, one of the key barriers to getting started for Alibaba was the need for an electronic payment system. So, in 2014, Alibaba creates something called Alipay. Alipay is, effectively, an electronic payment system, an online payment system. What would you do? Well, you would transfer money from your bank account to Alibaba. You would then have an Alipay account. You could use the funds in that Alipay account to make purchases via Alibaba. And, over the next 10 years, like Amazon, Alibaba grew massively in scale. And so, by 2014, there was a determination amongst Chinese regulators that it made sense, from a policy perspective, to split Alipay off into a separate entity. And that entity, created in 2014, was what is today Ant.
Dr. Chris Brummer: So this new entity, Ant, is created. What was the regulatory approach to it, at least initially, and what were the drivers to the new policy?
Douglas Arner: I got a specialized banking license, which allowed it to focus on rural credit products. So it wasn’t really a banking license, but it was a sort of limited financial services license. The idea being that China’s financial system then, and today, was facing a very big problem. And that is that the Chinese banking system is not very good at delivering financial resources to small companies and private sector companies. And of course, in China, as in any economy around the world, most of the growth comes from private sector companies and smaller companies. And so, the lack of financing was a major constraint to the growth of those companies. So around this time, Chinese policymakers, convinced by people like Jack Ma and others working in the area of digital finance, digital commerce, allowed an experiment. Basically, the growth of largely unregulated digital financial services firms as an attempt to go around this problem, to get financial resources to small businesses, the private sector, to help the economy grow. And it has to be said, it worked, but in some ways it worked too well. So that by 2016, China had more p2p lending firms than the rest of the world combined.
Dr. Chris Brummer : So what did that look like in terms of the actual numbers of all its activities and its development?
Douglas Arner: Ant, if you think of Alipay today, has 900 million customers in China, trillions of dollars in payment transactions and it, a couple of years ago, was the second largest securitization structure in China. It’s the largest payment structure. It is the second largest consumer lender. So if we think about Ant’s evolution, it starts with payments but then it moves from just payments to letting people leave their money in the firm. Basically like money market mutual funds in the US in the 1970s. Ant wasn’t a bank, so it couldn’t take deposits and it couldn’t pay interest to people, but as an ecosystem, it wanted to get people to leave their money in the system. So what does it do? Like a money market mutual fund, it offers people the option of investing their money. Where do they get to invest their money? Into bank bond markets. What are these? They are short-term debt securities and they offered, at the time, a higher rate of interest than bank accounts. And not surprisingly, hundreds of millions of people move their savings from banks into Ant to get access to those higher interest rates. What does that give you? Well, in a short period of time, it actually gives you the largest money market mutual fund.
Dr. Chris Brummer: Now, all the while, we still have this reality that Ant is still connected very much to an e-commerce platform. How was that impacting the growth story?
Douglas Arner: Perhaps one of the greatest examples is what’s called Singles’ Day. What is Singles’ Day? Singles’ Day is kind of the Chinese answer to Black Friday. It’s November 11. One, one, one, one. So that’s Singles’ Day. And basically, what is it? It’s a huge marketing blitz to get people to buy stuff via e-commerce platforms. And of course, to make this work, you need electronic payments and today, the volumes of electronic payments each year set records for the transactions per second, the numbers of transactions in a day, the overall volume. But it takes more than just electronic payments and a good platform.
You need to have merchants selling stuff. And of course, this isn’t a holiday where merchants would generally build up inventories. This is just a marketing ploy. So how do you do it? Well, one of the best ways is to provide trade credit. Credit to all of those merchants to build up inventories. Now remember, Ant isn’t a bank, so it can’t take deposits. So how does it fund itself? It takes a little bit of its own capital and it uses that to make loans, then it repackages those loans as securities and sells them into the interbank bond markets. By 2017, Ant was the second largest securitizer in the world’s second largest securitization market.
Dr. Chris Brummer: So how does that compare to what is going on on the consumer side of things? I think that if you want to give money to people to do things, you presumably want to give them credit as well. What does that look like for Ant?
Douglas Arner:Ant today makes hundreds of millions of loans to individuals to buy stuff. Short-term loans which allow people to buy things, particularly in the convex of Singles’ Day, but all across the year. How does it fund those? Exactly the same process as it did with SME credit. It makes them loans. It then repackages them, sells them off in the markets in order to make new loans. Now, around 2018, Chinese authorities got a little bit nervous about some of these volumes and so restricted some of the securitization transactions and instead, Ant structures itself as a platform, basically a p2p lending platform, where it is matching, kind of like the world’s largest mortgage broker, except that it’s doing SMES and consumer credit. It’s matching all kind of lenders across China with all kinds of borrowers across its platform. So what we can see is that over this period, from its origins as an electronic payment system, it grows to be a, sort of, savings and investment tool to being a borrowing and lending tool to being an insurance tool, to being, as you say, one of the biggest apps in a period of about 10 years.
Dr. Chris Brummer: So I’m hearing these words like banking, lending, securitization and money market funds and I’m sure that many of our listeners hearing all this are thinking to themselves, “This is more than just an app. It’s more than just e-commerce, and it really does sound like something where you can get into questions about systemic risk and financial stability and all kinds of questions. Market integrity.” And the growth with Ang was exponential and some of it being a response to regulatory developments and also in anticipation of greater scrutiny, perhaps, to come. At what time was there a change in regulatory emphasis that would really push regulators to take a harder stance, especially when it came to the litany of services and products that Ant was ultimately offering?
Douglas Arner: Yeah, I think that’s a really interesting question. And often, people sort of focus on 2020, as if this decision by the regulators in November to halt the offering, as if that was something that had come out of nowhere and really, that’s not the case at all. I mentioned Ant’s creation and there was this policy decision sometime 2010 to 2015 or so, a decision in China to basically allow digital finance to grow largely unregulated. And of course, we can think of this as kind of similar to the decision taken in the United States in the 1990s about internet business. Basically, to take some decisions to let it grow, largely unregulated, because it seems to provide lots of benefits.
I think what we see is largely an unregulated environment for digital finance. What we might call fintech in the rest of the world and today we would call that in China. But in 2015 we call it digital finance. 2015 is a key year. Why? Because in 2015, China has a massive bubble built up in its stock markets and in 2015 that bubble starts to crash and what you see is a situation, in some ways not unlike what we saw in the US in 1929. What happened in 1929 was you had lots of credit provided, particularly by securities firms and others, in the context of purchasing stock. And the stock was then used as collateral for those loans. And at the time, we really didn’t have much in the way of restrictions around what you would call securities margin lending.
Now, today, all across the world, as a result of the 1929 experience, we have strict restrictions on the amount of money that regulated financial institutions can lend on the basis of stock, for preventing exactly that same sort of issue. China, of course, in 2015, had the same sorts of rules but where was a lot of the lending coming from? A lot of the lending was coming from the unregulated p2p platforms and as a result, China’s attitude towards p2p lending, in particular, changed dramatically.
Dr. Chris Brummer: That’s really interesting. How so? And what did this mean for the peer to peer payment landscape?
Douglas Arner: We see a shift to requiring licenses, to licenses becoming very difficult to get, to a situation this year, 2020, where 2016… Remember, China has more p2p lenders than the rest of the world combined, over 6,000 p2p lenders. How many p2p lenders does China have today? Well, by some accounts, three. Three. That is a policy decision that that experiment with online p2p lending was a failure and it was closed down from 2015 to 2020. So from 2015, we see an increasing amount of regulatory attention to digital finance in China. At the same time, we’re seeing a lot of parallel attention to what are called shadow banking products. In China, we would call these wealth management products and, in particular, as firms like Ant move from p2p lending into what you would think of as shadow financing. Your sort of mortgage broking, your sort of asset-backed securitization, and as they grew to very large players in those markets, you see increasing regulatory attention.
So to the point, by the end of 2019, China, like other regulators, had created a new forum, what is called the Financial Stability and Development Commission. The Financial Stability and Development Commission is kind of like FSOC or the European Financial Stability Board. These are pan-regulatory bodies bringing together the Treasury, senior officials and regulators to take decision on financial stability. And at the end of last year, China’s Financial Development and Stability Commission designated Ant as a systemically important financial institution and created new holding company legislation similar to the financial holding company legislation you see in the United States to regulate these sorts of holding companies, including Ant.
Dr. Chris Brummer: What did COVID as a driver behind these developments?
Douglas Arner: Across 2020, you see this continued growth of Ant. And, of course, in the context of COVID-19, this massive growth in digital. Digital payments, digital finance. So that firms like Alibaba or Ant or Amazon in the United States become increasingly significant from the standpoint of the government, of the society at large, in order to keep things functioning. So Ant grows and grows.
Dr. Chris Brummer: Now, this is all happening, but obviously Jack Ma, himself, has some very pointed opinions about this and certainly he’s made, very recently, some comments about how fintech was being regulated, not just in China by the systemic regulators, as you noted, but also internationally and making remarks about the Basel Committee and the like. How is that fitting in your story?
Douglas Arner: Yeah. So, let’s go at this from three different ways. So 2020, you’re seeing this increasing tension between the regulators and these big companies. Kind of sounds familiar from the standpoint of the US and that tension all comes to a head in November 2020. And the result is that Jack Ma loses to the regulators. And this is something that… He’s got a long history. If you think about the history of Alibaba, a lot of that was dealing with different regulators. Dealing with the telecoms regulators, the Commerce Ministry, to get, essentially, light touch regulation to allow it develop, to allow it to grow. And we see this happening very, very effectively. We see this before 2015 in the context of financial services, this argument that digital finance can solve China’s problems and therefore shouldn’t be regulated.
Now we see that sort of start to go the other way from 2015. In other words, from 2015, the financial regulators, in particular, are starting to push back against those tech arguments and as the financial digital finance firms grow increasingly significant, the tensions grow bigger and bigger to the point where, if we think about one of the rationales for the digital yuan for China’s central bank digital currency proposal, one of the rationales from that was to, essentially, mandate, or to put in place intraoperability between Alipay and Tencent’s competitor to it, WeChat Pay, which, at the moment, are closed ecosystems.
So we can see this developing tension between the private sector, in particular Jack Ma, who, as you said, has historically always been very outspoken and the regulators. And I think what we see is, in the context of November 2020, that really comes to a head. Why? Because the banking regulators have decided, by November 2022, that not only are they going to have financial holding company legislation, with Ant as a systemically important financial institution, but the way that they’re going to deal with internet finance, digital finance, fintech going forward is they’re going to treat it the same as traditional finance. And what does that mean? It means that Ant is going to be regulated like a bank. And of course, Ant is not very happy about this because this is going to mean that it’s going to need a lot more capital to justify all of those loans and its sort of freewheeling existence is going to be constrained.
You can see those comments in Shanghai, for me, really is that sort of last shout-out of saying, “This is a battle. Someone needs to take a decision. Is it going to be them or me?” And why do we get that weakened from, probably, the highest level in China, certainly the second highest levels in China, Liu He, [Huang Xixong 00:22:50] who are the leaders of the Financial Stability and Development Commission, their statements the next week make it very clear which side the central leadership has taken and it has gone with the banking regulators. And, to be quite honest, this is something that most of us around the world, at the end of the day, if your central bank says you’ve got a financial stability risk here, at the end of the day, most governments are probably going to side with the central bank over the tech entrepreneur.
Dr. Chris Brummer: Yeah, the story obviously sounds very familiar and there are certainly certain undercurrents to that story that you hear all the time in the United States, in terms of interactions between, maybe, Silicon Valley and Washington, DC or entrepreneurs, really, scattered throughout the country and regulators. When you take these concerns and you focus them specifically on Ant, moving forward we have the IPO that, obviously, was canceled. Where do you get a sense as to how Ant, first of all, is going to come out of this regulatorily, right? Because, presumably, this is not just a question of the IPO. It’s not just a question of its fundraising, but also how it will be regulated as a financial institution going forward. And then secondly but closely related, then there’s the question about what will happen in terms of a future IPO? Do you get a sense as to either one of those questions? What will Ant look like or how it will be regulated in the near term and then what does this do for its future capital raise?
Douglas Arner: Yeah, I think both very interesting questions. And, you know, it’s interesting if we look at the initial sorts of explanations for why the IPO was halted. You had, I think you could say, probably three different theories. One, which was what you saw from the Shanghai Stock Exchange, was that the regulatory context had changed and therefore the information disclosures and the prospectus were no longer accurate and it needed to be halted, the investor protection sort of argument. And, it makes sense, but the reality is that, of course, the discussions around this new law on online lenders had been going for a while and so this was not really new information to anybody. So there was a decision there.
The second was that maybe you had some sort of battle. Jack Ma versus the senior leadership. I think that that’s something that is also, if you think about it, if there really was that, it wouldn’t have been about the cancellation of the IPO, it would have been more severe consequences as we’ve seen in other cases. And I don’t think there’s any real question that there is a, sort of, big picture conflict, just some policy direction decisions. And of course, the third is around jealousy. That people in government were jealous of the amounts of money being made. And once again, I think given the power dynamics, this is unlikely the case.
So if we’re thinking about the regulatory context, what has happened? Well, the first is that it’s now clear and it’s been announced after the stopping of the IPO, that China is putting in place a comprehensive approach to digital finance. Which basically means treating digital finance and non-digital finance largely the same. So going forward, Ant is not only going to have to deal with the new financial holding company legislation and its designation as a systemically important financial institution, it’s going to have to deal with new restrictions on internet lending, which, as I said, were already in place. It’s going to have to deal with being designated as a bank and having to deal with bank capital requirements going forward and it’s going to also have to deal with a range of new limitations that are being put in in a context of a new draft law on e-commerce, as well as on data privacy and protection.
And these are the sorts of things that we’re also seeing addressed in the US and Europe. So, obviously, from the standpoint of Ant, it’s got a whole bunch of different regulatory pieces that it’s going to have to deal with. But that doesn’t cancel the fact that it is one of the most significant financial institutions in China, that it is at the core of the payment system, that it’s at the core of lending, of investment, of insurance. But what it does mean is it is going to have to deal with a more conservative regulatory environment. Now, in some ways, had the IPO been allowed to go on, all of these things would have still happened, but Ant would have been able to raise $35, $37 billion dollars, which would have gone a long way in meeting those new capital requirements. But the new regulations, as they came in over the next year or so, would have impacted its valuations. Would have impacted it’s growth.
Now, what is the probable, likely situation for another IPO? Well, probably we’re going to have to wait at this stage until all of these various new laws and regulations are in place and that’s probably going to take another year or two to get them in order and then we can have another go at it. And what is likely to happen is you’re still going to have a very large firm but it’s prospects will be a little bit lower. But if we look at a Visa or a MasterCard, these are firms that are tech platforms, global in operations, regulated according to traditional financial sector approaches, but at the moment are still, by market cap, the world’s largest financial institutions. So, I think the hype around Ant comes down, we’re probably looking at a year or two to get the new regs in place and then probably, we see another go at it.
Dr. Chris Brummer: Douglas, this is super interesting and enormously helpful, I know, for everyone who’s listened in. Thanks so much for having joined us.
Douglas Arner: Thanks a lot, Chris. Great to talk again and happy to do so anytime.
Dr. Chris Brummer:
The story of Ant is most interesting because it’s a tale of something that didn’t happen. The world didn’t get to see the largest IPO ever. We didn’t get to see a Chinese fintech waltzing onto the world stage, sending shivers down the spines of Morgan Stanley or Goldman Sachs. And we didn’t see the exportation of Chinese know-how and technology, at least not immediately, to the rest of the world. Instead, what we saw was something more than a little familiar to US audiences. A hugely successful tech firm that had scaled its ventures in ways that no one had done before, a CEO who gains international acclaim, but in, perhaps, a bout of hubris, fails to understand or appreciate the regulatory system. And we saw the response by regulators, skeptical of the governance and disclosures of a technology firm promising to change the world. Which actually makes this non-event supremely interesting.
It’s a reminder of just how different and similar fintech ecosystems can be, both in terms of market participants and the often uneasy relationship between regulators and the regulated. And it’s perhaps there where the most compelling comparisons and contrasts can be drawn and where the future of the global market for finance and fintech will reach their highs and lows.
Thanks for listening. If you enjoyed the show, please be sure to subscribe on Apple, Spotify, or wherever you get your podcasts. And we’d love to get your feedback. If you’d like to get in touch, just hit me up @ChrisBrummerDR. That’s at C-H-R-I-S-B-R-U-M-M-E-R-D-R. We’d love to hear from you.
