YY.com soars on opening. Is the curse of the Chinese Internet IPO over?
Just a few months ago, the conventional wisdom among tech investors in both China and the US was that the IPO exit route was all but closed off for Chinese Internet companies. A series of accounting scandals and poor stock market showings – by Dang Dang, VIPshop, Mecox Lane, Youku, and Tudou – had besmirched the reputations of Chinese Internet companies just when they were starting to look unstoppable. Then Facebook's disappointing IPO came along and made life harder for everyone in tech, not only the companies in China. Those factors delayed the public outings of companies such as AdChina, and, likely, ecommerce giant 360buy.
Last week, a previously low-profile company called YY.com struck what might come to be seen as the first blow in reversing the fortunes for Chinese Internet companies on the US public markets. YY is a communications and entertainment portal at which people can set up their own audio or video "channels" to do anything from perform karaoke songs to discuss pig farming with peers.
After starting out as a Gamespot-like gaming news portal called Duowan, the company added impressive audio and video streaming technology that allows thousands of people to communicate clearly in a specific channel at any one time. The tech was initially used to help Chinese "World of Warcraft" players coordinate their gaming. In 2008, the company added former WebEx engineer Tony Zhao as CTO and switched focus from portal to streaming. As of the middle of the year, it was hosting 11 million channels and 60 million monthly active users. The company was sitting on more than $100 million in cash, $95 million of which it had raised in venture backing from Morningside Ventures, Steamboat Ventures, GGV Capital, and Tiger Global Partners.
On November 21, YY went public on Nasdaq, and not only did the process go smoothly, but its stock has also registered healthy gains in the days since, climbing from the opening price of $10.50 per share to $12.65 (at time of writing). The IPO has also made YY angel investor and Chinese Internet superstar Lei Jun an even-richer man. He saw a hundred-fold return on the IPO.
YY is the first Chinese Internet company to take the plunge into a US stock exchange in eight months. As Quartz points out, the number of Chinese IPOs in the US has fallen from 41 in 2010, to 12 in 2011, to just two, including YY. VIPshop, which went public in March, raised 40 percent less than it sought, but in recent months it has experienced a comeback, climbing from $4.80 per share in late August to an all-time high of $13.11 today (at time of writing).
For Hany Nada, founding partner of GGV Capital, a major YY investor, many American perceptions of Chinese Internet companies of late have been unfair. There have been accounting frauds in Chinese companies – including, prominently, at Sino-Forest – but Nada says accounting fraud happens in US companies, too. "There are bad apples in every basket," Nada says. "The question is 'How big is your basket?'"
Often the problems seen in Chinese companies that are hoping to go public, or have done so, are a reflection of inexperience and over-aggressiveness, Nada says. “Many of the issues you hear about with Chinese companies is frankly just lack of experience rather than willful wrongdoing.” But the same kinds of things happen in the US, he points out – just look at Groupon and Autonomy for two recent examples.
“It doesn’t get treated the same way as if there’s a Chinese company has a problem,” Nada says. If a Chinese company is seen to have problems, then other Chinese companies tend to get tarred with the same brush. “I think they’re largely mistreated and treated unfairly just because of a few bad apples.”
However, strong companies always have the opportunity to go public, despite the market conditions, says Nada.
In YY's case, there is certainly much to catch one's interest. In July, I visited the company's headquarters in Guangzhou, southern China. The company is housed in a five-storey building that’s tucked down a lane in a center-city complex once dedicated to light industry. The lobby has stone floors polished to look like marble, and an orange wooden sculpture that twists and builds on itself in a motionless fury like an unstoppable tornado.
About 1,000 people work at YY – many of them wondering around in T-shirts and jeans, looking like they've stepped straight off a university campus – but the company is still not that widely known even in China. Going public was one way to legitimize the company as a top place to work, YY's CFO, Eric He, told me at the time. Top talent in China are often reluctant to work at startup or a company that does not have a high-profile reputation.
Until the IPO, few people realized how much money YY was bringing in. Perhaps that's because for a long time it was making a loss. In 2011, it lost about $13.35 million, but this year it registered a profit of $8.9 million. A lot of its revenue had been coming from advertising and gaming, but in the last year the company has seen a surge in profits from its music division. It generates cash by selling virtual items that members use to reward singers they like in specific channels. Many of these singers are amateurs, but some are making tens of thousands of dollars a month just on YY.
Now, the company is building up its education monetization in a similar way. YY members can set up their own channels to teach lessons, on everything from math tutorials to English classes, for which students are willing to pay.
In the future, YY hopes to expand as a platform, playing host to an app economy in which third-party developers can build tools that improve the current offerings inside the channels. One example is virtual whiteboards for teachers, which could be sold cheaply, with YY taking a handsome cut, perhaps as high as 70 percent of each transaction – a figure that Chinese companies can get away with.
There are no companies quite like YY in the US, although both Airtime and Google Hangouts use similar technology. In China, Tencent is trying to build a similar platform but so far doesn't have a competitive consolidated offering. It does, however, have Weixin (the English-language version of which is WeChat). Now 200 million users strong, Weixin has a leg up over YY on mobile and satisfies some of the mass communication needs that YY serves. Another challenger is Changba, a mobile karaoke app that lets singers create and broadcast their own songs and accept virtual gifts from fans.
As the Internet emphasis in China increasingly shifts to mobile, YY will have to find ways to stem the momentum of both Weixin and Changba to keep that stock price ticking up.