Uber makes a U-turn in China as subsidy war ends in Didi deal
Car-booking app was fighting losing battle against homegrown rival and regulatory changes
This time last year, Uber’s chief executive Travis Kalanick was on the road raising money for Uber China, seeking to conquer a market that he called “one of the largest untapped opportunities for Uber”.
Mr Kalanick was personally overseeing Uber’s growth in China and travelled there extensively, spending nearly one in five days in the country last year. He announced plans for Uber to expand to 50 cities, and then to 100.
However, Uber’s abrupt decision to sell its Chinese unit to its rival Didi Chuxing highlights the extremely costly battle that was raging behind the scenes. Both companies were pouring money into subsidies for drivers and riders to gain market share, with Uber spending more than $1bn annually.
The peace agreement between the two bitter rivals, in which Uber will take a stake in Didi, and Didi in Uber, marks the first time that Uber has thrown in the towel in any of its global markets.
Selling Uber China, which had the heaviest losses of any Uber unit, is a step that puts Uber within reach of profitability, and clears the way for the company to focus on its ambitious technology projects such as mapping, delivery and driverless cars.
The deal also points to the start of a new era for car-sharing: a period in which consolidation, rather than expansion, may become the rule of the day.
Over the past two years, an unprecedented glut of capital has poured into car-hailing companies around the world, fuelling stiff competition between duplicate services.
Uber and Didi have been the two most aggressive fundraisers, achieving a collective $25bn between them, much of that within the past year.
Because car-hailing is a winner-take-all market, one in which the company with the most drivers and riders gains the advantage, many companies have been pouring their venture funding into deep subsidies for passengers.
However, now that Uber and Didi have ended their rivalry in China, admitting that these subsidy wars are unsustainable even for the most well capitalised companies, others are more likely to follow. Pressure will be particularly high on Lyft, which is Uber’s smaller competitor in the US, and on Ola, which is locked in a heavily subsidised fight with Uber in India.
The Uber-Didi deal also shows that it will be much harder for investors in second-place car-booking companies to make the same outsized returns as those promised by the market leaders.
In return for Uber China, Uber is receiving a stake in Didi with a new class of shares that promises 18 per cent of the economic interest and 6 per cent of the voting rights.
That equity stake is worth about $5bn, depending on how the economic interest is counted, based on Didi’s most recent fundraising at $28bn. Uber China’s other investors also receive a small stake.
The terms could be considered a let-down, given that Uber has invested more than $2bn of its own money into its China operations, and had previously cited a $7bn valuation for its Uber China unit (The other investors in Uber China, including Baidu, will collectively receive an equity stake of less than 1 per cent in Didi).
However, the deal does provide a graceful exit, after a period in which it had become increasingly clear that Uber was unlikely to win in China.
When Uber first entered the market in 2014, Mr Kalanick said its underdog position was part of the appeal.
“Anytime we got into a discussion about our efforts in China, most people thought we were naive, crazy — or both,” he wrote in a Facebook post on Monday. “We saw things differently of course.”
However, Uber’s task in China became much harder when China’s two largest car-hailing companies, Didi and Kuaidi, merged early last year. Didi and Kuaidi had been locked in fierce competition with each other, but after the merger, they focused their firepower squarely on Uber.
Uber responded by pouring more subsidies into the market, prompting a surge in journeys that pushed several Chinese cities to become Uber’s busiest anywhere in the world.
But even after years of rapid growth, Uber was still no match for Didi, which operates in more than 400 Chinese cities and runs 100m journeys per week. Uber is in 60 cities and serves 40m rides per week.
Even more importantly, Didi’s extraordinary round of recent fundraising made it clear that the company had the financial firepower to keep matching whatever subsidies Uber might pour into China.
In June, the company raised $7bn from investors in equity and debt, including an unusual $1bn investment from Apple. Not to be outdone, Uber raised $3.5bn from Saudi Arabia’s private wealth fund and issued $1.15bn in high-yield debt.
However, the final straw might have been China’s car-hailing regulations, which formally legalised the practice just last week.
While those rules were much more permissive than previous versions, and were openly welcomed by both Uber and Didi, they also contained a clause that prohibited rides from operating below cost, effectively banning subsidies. That would have upended Uber’s current model in China.
The rules also gave cities more control over car-sharing, a step that could potentially make expansion to new cities more cumbersome.
Talks of a deal between Didi and Uber grew serious in recent weeks, after Didi’s war chest had been filled. Pressure also mounted from Uber’s investors, concerned that the company would spend too much money on a fight it could not win, according to a person close to the situation.
The terms of the agreement suggest not only a financial transaction but also a strategic alliance, with both companies taking seats on each other’s boards. This puts Didi in the unusual position of being an investor in both Uber and in Lyft, in which it took a stake last year.
In the seven years since its founding, Uber has earned a reputation for its hard-scrapping business style, typically operating independently, and aggressively, as it enters new markets. At times, this has alienated partners, including Google, an early investor in Uber that is now in the position of competing to develop driverless cars.
A key question in its new alliance with Didi will be how closely the former rivals will work together. This could be particularly delicate if Didi decides to expand outside China, which is currently its only market.
For Uber, the deal draws a line under a period of subsidy-fuelled expansion that Mr Kalanick described as “irrational”. It will also free up resources for the company to focus on new technology investments. A more rational era could be about to begin.
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