China is the largest Internet market in the world and it’s growing. As of June 2011, China’s Internet users reached 485 million, an increase of 27.7 million from the prior year.However, China’s Internet stocks have been taking a beating lately. Most recently, last Friday some of China’s strongest Internet companies suffered their biggest losses of the year.
While a total shutdown of these sites is unlikely, it is important to understand the many risks these companies face.
This is unlikely to happen to major players that have established themselves as household names domestically and respected Chinese brands internationally, but smaller and newer entrants may face the risk of being shutdown by the government.
Also, no matter how popular a site is, if it is starting to seriously facilitate public uprising or the organisation of dissenters it will face the ire of the Chinese leadership. This threat is getting more serious in recent days, and Xinhua anticipated the more recent challenges in this threatening article released in August.
The recent coverage of the VIE issue has brought attention to the questionable legal structures of Chinese Internet Companies. And even if it turns out the legal structure is OK, the reputational harm surrounding the current uncertainty may linger.
The U.S. has begun investigating more and more Chinese Internet companies for fraud, often companies using the VIE structure. Due diligence is crucial for investors hoping to enter the Chinese market anywhere and certainly in the Internet industry. Reuters explains some of the current fraud indictments against Chinese companies.
Investors should be aware of the potential risks from large-scale Internet shutdowns that can result from social unrest or major political developments, such as the 10 months the north-western province of Xinjiang went without open Internet access.These disruptions can seriously affect the ability of users to access even the best behaved Chinese Internet companies and can result in major downtime or reduced visits.
As savvy web users in China increasingly find ways around Internet censorship they may start to use restricted foreign companies. The Chinese government continues to try and block the use of foreign virtual private networks (VPN), but the nature of the technology is such that new ones always pop up. VPN use still remains far below the levels it would need to reach for it to seriously affect the strong hold domestic companies have on the China market. But every day more and more Chinese Internet users are signing up for VPNs.
One wrong move with a powerful individual may cross the political line of what is acceptable and can lead to serious problems for companies in China. China experts know you have to be aware of Chinese political games.
You also have to watch out for a state media apparatus that is eager to enter the Internet market and may be willing to target existing competition. This detailed post from Penn Olson's Steven Millward explains the recent incidents between CCTV-2 and Baidu and its political overtones.
Chinese Internet companies also need to keep an eye out on social attitudes and their reputation. The Chinese people can be conservative and unforgiving. The same tools which have made them popular, like Weibo and social networking platforms, also make it easier for dissatisfied Chinese netizens to attack them and their reputations. A recent article from the China Daily has been considered part of a broader propaganda move by the government leadership to weaken microblogging, but it also shows some of the ways that reputations can suffer on the Internet in China.