China vs. India – Warning shot pt. II

The smartphone market is the elephant in the room.

• India has continued to express its unhappiness with China in a dispute which could end up hurting Chinese companies a lot more if India continues to follow the US down this path.
• India has banned another 43 apps for what it calls “engaging in activities which are prejudicial to sovereignty and integrity of India” and these will now be blocked with immediate effect.
• How AliExpress, which provides a route for Chinese merchants to sell products to customers outside of China is prejudicial to the sovereignty and integrity of India was not explained, but the message is very clear.
• India is concerned that allowing China to take over large parts of its digital economy will increase China’s influence over domestic Indian affairs and the lives of its citizens.
• This has been heightened by a border skirmish where 21 Indian soldiers were killed and have given the Indian government the political capital to take a much more protectionist stance when it comes to its economy.
• With almost all of the Chinese digital ecosystem now blocked in India, the local players are jumping at the chance that they have been given to fill the void.
• Local players like Roposo, Chingari and Mitron are racing to fill the vacuum and the more apps that India bans, the easier it becomes for them.
• The problem here, of course, is that with less competition, the overall quality and therefore utility will be lower and it is likely that the long-term value creation could be lower as a result.
• To be completely fair to the Chinese, they are really good at creating compelling digital life services which users love and the local players have so far badly failed to match that quality.
• Now that these have been removed, the bar for success will be lower, leading to a degradation of the overall user experience.
• With increasing hostility to China, the big question now becomes what is going to happen with smartphones?
• Chinese companies dominate the market for cheap smartphones and India is no different.
• In Q3 2020 Counterpoint Research (see here) estimates that after Samsung on 24% market share at least 2/3rds of the market is held by Chinese vendors.
• Should the relationship continue to deteriorate, it is quite possible that action against Chinese brands in the local market may be taken.
• There have already been some signs of this sentiment from consumers, but this appears to have been rapidly quashed through the use of aggressive pricing to overcome patriotic instincts.
• Consequently, I think that it will take action by the Indian government to alter the face of the smartphone market as it is so price-sensitive and the Chinese are very keen to hold onto it.
• This could be done on the basis of data security raising concerns regarding the private data of Indian citizens ending up in the hands of the Chinese state but it would still represent a big move and escalation.
• There is no shortage of players waiting in the wings to take up the slack but once again it does come down to quality because the Chinese are very good at making cheap smartphones at a good standard of quality.
• This is a significant area of risk for the Chinese vendors as the emergence of the Indian smartphones market has led to India making up a significant portion of their overseas revenues.
• This is especially the case for Xiaomi, which has been investing heavily in India for years and until recently held the No. 1 market share position.
• Hence, there is risk for the Chinese players should India get more aggressive but there are no clear signs of this yet.
• Xiaomi is the key stock to assess here and its share price performance and 2020, 2021 PER ratio of 44x and 32x are not pricing in this risk.
• Hence, I would be cautious of getting involved here.