Sino Hotspot Series: Internet Finance

Transcription

1 Asia Pacific/China Equity Research Macro / Financials / Software & Services Research Analysts Vincent Chan [email protected] Victor Wang [email protected] Dick Wei [email protected] Evan Zhou [email protected] Frances Feng [email protected] Contribution by Grace Chao Hu Shen* * Please refer to 'Technology pushing reforms' (pages 38-48) for the contribution by Hu Shen Sino Hotspot Series: Internet Finance THEME A force of creative destruction? Figure 1: Money market funds (MMFs) take off along with Internet finance China US Nov E 2020E Rmb bn Rmb bn Rmb bn US$ bn US$ bn US$ bn Money market funds (MMF) 633 2,454 5, Household demand deposits 16,823 15,141 13, Enterprise demand deposits 13,839 13,701 12, Total demand deposits 30,662 28,841 25, MMF as % of demand deposits MMF as % of GDP Demand deposits as % of GDP Source: Federal Reserve, Asset Management Association of China, Credit Suisse estimates The landscape of China Internet finance. Online payment, online financing and financial product distribution are the three major businesses in Internet finance. Internet companies: A new layer of service digitisation. Over the next two years, we expect financial services to become a major area in the tide of service digitisation in China. Major Internet companies such as Baidu, Tencent and Alibaba enjoy the lead with large business scale, sticky traffic base and solid service infrastructure, as they have operated in the market for a longer period. Vertical leaders such as Soufun could leverage their vertical expertise in offering tailor-made products. Emerging start-ups will likely have more opportunities in areas of P2P loan, vertical search and crowd funding. Financial institutions: Evolution favours the fittest. Internet companies may not pose too much competition to banks in the medium term, but in the long run they could change the banking competitive landscape with new technology and business models challenging the market positioning of banks. We view Minsheng, ICBC and CMB as best positioned among banks to face these challenges. Ping An enjoys first mover advantage with several new technology companies in place including Lufax and Zhong An Insurance. The brokers could be under pressure with the potential introduction of pure online brokerage. Technology pushing reforms. Internet settlements should help money market funds (MMFs) take off in China. MMFs could exceed Rmb2 tn by 2014 if 10% of household demand deposits can be mobilised. By compensating small depositors under the current interest rate control regime, MMFs also challenge the official road map for interest rate liberalisation. DISCLOSURE APPENDIX AT THE BACK OF THIS REPORT CONTAINS IMPORTANT DISCLOSURES, ANALYST CERTIFICATIONS, AND THE STATUS OF NON-US ANALYSTS. US Disclosure: Credit Suisse does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the Firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. CREDIT SUISSE SECURITIES RESEARCH & ANALYTICS BEYOND INFORMATION Client-Driven Solutions, Insights, and Access

2 Focus charts and tables Figure 2: The landscape of China Internet finance Figure 3: Internet finance exposure of major players Online Payment Internet-enabled P2P Loan Internet Finance Online Financing Internet-enabled SME Loan Crowd Funding Financial Product Distribution Sub-sectors Baidu Tencent Alibaba Online Baipay Tenpay Alipay payment Online P2P Loan N/A N/A N/A financing Internet-enabled Baidu Licensed Ali Finance SME loan SME Loan Crowd funding N/A N/A N/A Financial product distribution 8.Baidu.c om Stock App; Co-ops with fund companies Alipay MM Fund (Yu'E Bao), Mutual funds Tmall stores Source: Credit Suisse research Figure 4: Third-party online payment (Rmb bn) Source: Company data, Credit Suisse research Figure 5: Market share of third-party online payment Others, 1.9% Yeepay, 3.4% epayment, 2.9% 99Bill, 6.7% China UnionPay Online, 11.7% Alipay, 48.8% ChinaPnR, 5.9% Tenpay, 18.7% Source: iresearch Figure 6: Yu'E Bao return vs benchmark rates 7% 6% 5% 4% 3% 2% 1% 0% 2-Nov 16-Nov 30-Nov 14-Dec Source: iresearch, 3Q13 Figure 7: Size of Yu'E Bao Customer Purchase Asset Investment per number (Rmb) (Rmb) person (Rmb) 29-May mn mn 522, Jun Yu'E Bao was launched 30-Jun 2.5 mn 6.6 bn 4.2 bn 1, Sep 13.7 mn bn 55.7 bn 4, Oct 16 mn+ 130 bn N/A N/A 14-Nov 29 mn+ N/A 100 bn+ 3,448 Yu'E Bao 7D avg return 1-yr dep rate Shibor ON Current dep rate 5yr dep rate Source: CEIC Source: Tianhong Asset Management Website Sino Hotspot Series: Internet Finance 2

3 Internet finance: A force of creative destruction? In this thematic report, we examine different forms of Internet finance, the future path of each business model, and analyse the impact they are going to have on all parties. The landscape of China Internet finance Online payment, online financing (including P2P loans, SME loans and crowd funding) and financial product distribution are the three major businesses in Internet finance. Internet companies: A new layer of service digitisation We see financial products representing a new layer of services offered by China Internet companies to users and business partners, on top of their existing offerings in tangiblegoods e-commerce, games and advertising. Although their near-term financial contribution should be limited, improvement in the overall payment infrastructure could enable more business and consumption activities to move from offline to online, especially with the perfection of mobile payment processes. This should further enhance user stickiness of major Internet companies and vertical leaders. Major Internet companies, such as Tencent, Baidu and Alibaba, are enjoying the lead, with the likely reason being that they have a larger business scale, a relatively sticky traffic base and a more proven service infrastructure as they have been in the market for a longer period. Vertical leaders such as Soufun could leverage their vertical expertise in offering tailor-made products. Emerging start-ups will likely have more opportunities in P2P loan, vertical search and crowd funding. Financial institutions: Evolution favours the fittest In the medium term, we believe Internet financing players will offer very little competition to banks, but they may force banks to change their existing business models. Currently, SMEs are not a major revenue source for most banks, and financial product sale on Internet are mostly limited to less-profitable fixed-income products; so Internet finance is unlikely to have meaningful earnings impact on banks. In the long run, however, given their low cost base and improving data quality, Internet finance players could become meaningful competitors of banks in niche business segments such as SME financing, personal lending without collateral, and payment and cash management services. In the future, bigger number of branches and counter staff could be drags on traditional financial institutions. Online distribution of insurance is particularly feasible for simple products such as auto and accident insurance and, indeed, the Chinese insurers are moving towards the direct channel as well. Broker commissions have been under pressure given industry competition and potential introduction of pure online brokerage. Technology pushing reforms Development of Internet finance has accelerated the pace of interest rate liberalisation. The effective settlement mechanism in Internet finance has allowed money market funds (MMFs) to grow sharply, but this could not have happened without the substantial gap between shortterm interbank rate (4%-plus) and current deposit rate (less than 1%) in China. We believe MMF assets would exceed Rmb2 tn by 2014 if 10% of current household demand deposits could be mobilised. And we estimate the latter's assets will surpass Rmb5 tn by 2020, around 10% of GDP. In the US history, seven years after the birth of the first checkable MMF, their assets grew from 1.5% in 1974, to almost half of household demand deposits. Interest rate liberalisation is a good thing for China. However, if radical changes are brought about in the realm of short-term and small deposits, whether the real economy can afford them or not is an open question. On the other hand, lending to banks but avoiding the 20% required reserve ratio (RRR) and growing MMFs could influence the monetary multiplier and in fact increase money supply in the real economy. Three key activities in Internet finance Major Internet companies enjoy the lead with significant business scale, sticky traffic base and solid service infrastructure Internet companies could become meaningful competitors of banks in niche business segments in the long run With the help of Internet, MMFs could reach Rmb2 tn in 2014 and surpass Rmb5 tn by 2020 and they are challenging the government roadmap of interest rate liberalisations Sino Hotspot Series: Internet Finance 3

4 Stock recommendations China Internet companies Figure 8: Valuation comparison Closing Mkt cap P/E P/B PS ROE EV/EBITDA FCF yield (%) Company Ticker Ccy price (US$ mn) 2013E 2014E 2015E 2014E 2014E 2014E 2013E 2014E 2015E 2013E 2014E 2015E Tencent 700 HK HKD , x 32.8x 25.7x 9.4x 9.0x 28.5% 31.7x 24.0x 18.7x 2% 3% 3.9% SouFun SFUN US USD , x 18.2x 14.4x 8.3x 8.2x 45.3% 18.6x 14.8x 12.2x -2% 5% 6.0% Baidu BIDU US USD , x 24.1x 18.7x 6.7x 8.8x 27.8% 24.4x 18.2x 14.0x 3% 4% 5.6% Source: Company data, Credit Suisse estimates Baidu (OUTPERFORM, TP US$200) Baidu's investments in mobile Internet (R&D, marketing and acquisitions) began paying off in 3Q13. The company has reported 130 mn daily users of its mobile search; also, its native search app installation base has reached 330 mn (up 50% QoQ). We expect Baidu s organic mobile traffic to accelerate, with the introduction of light apps, 91wireless integration and vertical search. Fundamentally, we maintain our view that users have a strong need to perform general search on mobile. While we have been positive on mobile search monetisation, we are encouraged to see that 75% of mobile search spending is actively managed (which should minimise concerns that advertisers are not aware of its mobile spending). With increasing awareness among advertisers about mobile ads and the need of mobile websites, together with a better 4G network, we expect the mobile and PC monetisation gap to gradually narrow. There is risk of revenue market share loss, but search market size continues to see sustainable growth. We expect the search market to continue to see a healthy 22% CAGR (over ) and Baidu to continue to benefit from this growth. Competition between Qihoo and Sogou should lead to a smaller revenue share for each player. As a result, both Qihoo and Sogou should see less traffic in optimising revenue per search. Mobile search usage should accelerate Deeper mobile monetisation a key long-term driver Growth in the search market size despite Baidu potentially losing market share Our target price implies 28.9x FY14E and 22.4x FY15E earnings, and implies a PEG of 1x, on the back of 20-25% long-term earnings growth. We believe it is still a good entry opportunity for investors, given potential upside in mobile and vertical expansion. Tencent (NEUTRAL, TP HK$440) Maintain OUTPERFORM and US$200 TP While most market watchers have focussed on WeChat mobile game monetisation in the near term, we see greater long-term value being created by WeChat: global expansion and O2O (Online2Offline e-commerce) opportunities. WeChat's comprehensive offering of free and reliable basic services communication, social networks, entertainment and news information (public accounts) have a strong appeal for the next billion new global Internet users (from now to 2017). O2O should help Tencent tap into offline services payment, food and ticketing, etc. Over the past few quarters, we have seen growth decelerate in the "social networks" segment. We expect the segment growth to reaccelerate in 2014 with: (1) full launch of Super VIP subscription that bundles PC and smartphone-based privileges and (2) new subscription products on the mobile platform. We expect Tencent to capture 33% and 40% of China s mobile game market share in 2014 and 2015, respectively. We believe Tencent could eventually distribute a higher portion of mobile game, given WeChat's unique social reach and features. International and O2O to create further value 2014 should be the inflection point for social networks revenue growth Mobile games revenue progression a near-term catalyst Sino Hotspot Series: Internet Finance 4

5 Our target price implies 30.9x FY14E and 24.2x FY15E earnings. We expect Tencent to trade close to 1x PEG on 25% long-term growth rate. While we are positive on Tencent in the long term (through WeChat monetisation, international expansion, O2O, etc.), we see lack of near-term share price drivers for the company. SouFun (OUTPERFORM, TP US$87) Maintain NEUTRAL and HK$440 TP We expect demographic tailwinds to propel increasing online usage in the real estate segment in the coming years. The usage shift should gradually migrate real estate marketing, sales and consumer spending dollars from offline to online. We see SouFun as the biggest beneficiary of this dollar migration as the leading real estate vertical and service solutions site in China. We estimate total available marketing size for SouFun to be US$8.7 bn. We view SouFun's e-commerce and listing segments as its key growth areas in the next two-three years, benefiting from increasing awareness of customers and merchants using the online medium as an important real estate transaction channel, as well as a healthy pick-up in China's secondary real estate market volumes. Mobile brand ad has already contributed a revenue of Rmb14 mn, <5% of marketing revenue in 3Q13. We expect mobile to account for >10% of marketing service revenue in SouFun also started offering paid listing services on mobile in 2Q13. Given the strong location-based service (LBS) element of the real estate discovery process, we expect further penetration of SouFun mobile app/web to its users, with monetisation tailwinds in the next two-three years. Structural beneficiary of real estate demand shift from offline to online E-commerce and listing as key growth segments Mobile as a new catalyst Our target price of US$87 implies 21.0x FY14E and 16.5x FY15E diluted adjusted EPS. The company has a strong cash position of US$294 mn (US$3.5 per diluted share) in 3Q13. Financial institutions Maintain OUTPERFORM and US$87 TP Figure 9: Valuation comparison Close Mkt cap P/E P/B ROE, % DY, % Company Ticker Ccy price (US$ mn) 2013E 2014E 2013E 2014E 2013E 2014E 2013E 2014E ICBC 1398.HK HKD , x 5.1x 1.1x 1.0x MSB 1988.HK HKD , x 3.8x 1.0x 0.8x CMB 3968.HK HKD , x 5.6x 1.2x 1.0x Ping An 2318.HK HKD , x 12.8x 2.3x 2.1x Source: Company data, Credit Suisse estimates ICBC (OUTPERFORM, TP HK$7.00) We have an OUTPERFORM rating on Industrial & Commercial Bank of China (ICBC). We view ICBC as the best quality large-cap China bank, and advise long-term China investors to treat it as their core-holding stock. On top of prudent credit policy, ICBC is particularly competitive in IT systems, efficient cost control capabilities and leading distribution network. These factors allow ICBC to better defend its profitability than most peers, as we believe its funding cost is more stable, revenue structure more diversified and cost pressure easier to manage given clear economies of scale. Given most investors view ICBC as a proxy of China's macroeconomy, we believe macroeconomic data points such as strong GDP data, fund inflows into the H-share market and better LGFV lending disclosure are the likely catalysts for the stock. Our target price is based on 1.32x 2014E P/B, implying 31% 12-month upside potential. We view ICBC s current valuation as attractive. Top pick among large-cap banks under our coverage Short-term share price driver is macroeconomic improvement We value ICBC at 1.32x 2014E P/B Sino Hotspot Series: Internet Finance 5

6 CMB (OUTPERFORM, TP HK$20.70) CMB remains a high-quality bank but has de-rated meaningfully in the past few years. We believe two positive catalysts could help unlock its potential and enable the bank to better leverage its premium retail client base. They are: (1) the arrival of new senior management with strong commitment to a restructuring business model, especially in non-mortgage retail loans, branch working procedure and KPI reform, as well as Internet financing; and (2) the Rmb35 bn A+H placements in 2013 lift CET1 CAR to 9.38% in 3Q13, removing the prolonged capital constraint. CMB has always enjoyed a strong mobile banking platform compared with peers and it has also grown MSE loan balance by 56% in the first three quarters of 2013 to Rmb590 bn, accounting for 31% of total domestic loans. Further growth of MSE loans could meaningfully change its loan-risk profile and overall yield, potentially pushing up its ROE. Our target price of HK$20.70 is based on 1.25x 2014E P/B, assuming 13.1% COE, 14% long-term ROE and 3.0% terminal growth rate. We view CMB as a premium bank with meaningful restructuring upside and assign an OUTPERFORM rating. Minsheng Bank (OUTPERFORM, TP HK$12.80) MSB has a strong commercial culture focusing on profitability and accountability, which is likely related to its private and diversified shareholding structure. During , MSB delivered a 46% profit CAGR and substantially lifted its ROA from 0.98% to 1.38%, due to: (1) substantial micro- and small-enterprise (MSE) lending (26% of total loans by 1H13); (2) clear improvement of deposit acquisition (LDR down from 78% to 72%); and (3) strong fee momentum (64% CAGR). Further, we are impressed by MSB's strong execution power, which should enable the bank to cope with fast-evolving market conditions. This alliance would allow Minsheng Bank to open direct banking system and offer tailor-made wealth management products for Taobao users. Given MSB management's strong execution track record in the past, we expect high synergies to come out of this alliance. We also think that Internet finance will become an important profit driver for MSB in the long term. We value MSB at HK$12.80, based on 1.27x 2014E P/B, assuming 14.3% COE, 13.0% long-term ROE and 3% growth rate. MSB is our top pick among China banks. We admit its business model inherits bigger volatility than large peers, but its strong execution power, sufficient internal checks and balances and 17-year clean track record convince us to believe in its strong potential. Ping An (OUTPERFORM, TP HK$ 88) We like Ping An given its best-in-class insurance business and strong growth potential. We also highlight that Ping An has adopted a financial conglomerate model and has started exploring the Internet finance space. It has started Zhongan Online Insurance together with major internet companies Alibaba and Tencent, and also owns Lufax (Lujiazui Financial Assets Exchange), an online P2P lending company. Ultimately, Ping An wants to fully service its wide customer base by providing comprehensive financial products. We appreciate its efforts and believe the company has a first-mover advantage if executed well despite the fact that Internet finance is still immaterial to the company right now. Recent rights offer unlocks CMB's potential Catalysts: MSE lending and Internet financing TP implies 1.25x 2014E P/B A unique player focusing on the MSE business Alibaba formed a strategic alliance with MSB A high-risk, high-return stock Ping An: The most active player in Internet finance Sino Hotspot Series: Internet Finance 6

7 The landscape of China Internet finance The concept of 'Internet finance' is often used when people talk about what has happened in China s finance sector in recent years. Sometimes it refers to financial institutions moving their businesses online to cater to the changing user behaviours. Yet, we believe another type of Internet finance, that Internet companies start providing financial-related services, is going to substantially reshape China s finance ecosystem in the years to come. These entrants bring in new thinking, big data capability, long-tail customers and low-cost advantage. In this report, we take a close look at the finance innovations of Internet companies, and how they resemble or differ from the products of traditional financial service institutions. The scope of Internet finance We break down Internet finance products and services into the following three major segments. Internet companies start providing financial-related services Online payment Online financing, including: P2P loan Internet-enabled SME loan Crowd funding; and Financial product distribution. Figure 10: Scope of China Internet finance Internet Finance Online Payment Online Financing Financial Product Distribution Internet-enabled P2P Loan Internet-enabled SME Loan Crowd Funding Source: Credit Suisse research (1) Payment Online payment serves as the foundation for Internet-related finance activities. Besides paying through online banking, users are increasingly adopting the use of third-party online payment services as a more convenient way to handle money transactions online. Payment services the foundation of Internet finance Sino Hotspot Series: Internet Finance 7

8 In China, online payment has been the early enabler of a booming e-commerce market, as more consumers complete the whole purchase process through online third-party payment services. Although a fairly large proportion of online shoppers still adopts cash-on-delivery (CoD) when buying goods online, products like utilities payment, credit card repayment, cell-phone charging, etc., and functions such as express payment ( 快 捷 支 付 ) to shorten processes are migrating payment behaviour day by day. Online payment the early enabler of China's e- commerce Figure 11: Size of China's third-party online payment transactions (Rmb bn) % % 100.1% 118.1% 67.0% 55.2% 49.1% 37.3% 25.8% E 2014E 2015E 2016E Third Party Online Payment Transaction Value (RMB B) YoY Gth 200% 180% 160% 140% 120% 100% 80% 60% 40% 20% 0% Source: iresearch (2) Online financing Financing activities outside the banking system has long existed, but Internet makes it more versatile and accessible for individuals and small business owners. Within online financing, there are three major areas of interest: Internet P2P loan: Internet platforms that enable peer-to-peer lending by introducing credit-worthy borrowers to return-seeking lenders. Internet SME loan: Internet companies are acting as lenders to issue loans to SMEs they have business relationship with usually their suppliers, merchants on their platforms and advertisers. For example, Alibaba s small loan company successfully converts trading data into credit records to support loan issuance. Crowd funding: Emerging crowd funding websites organise fund raising on projects, equities, debts, rights and even venture into private market share trading. (3) Financial product distribution In the offline world, banks, brokers and insurance companies own the most extensive distribution network and dominate the sales of financial products, from mutual funds to insurance policies. However, their reach may still not be comparable with that of Internet companies which enjoy a fast-growing Internet population of 591 mn, as of mid-2013, with 464 mn on mobile, according to CNNIC. Internet companies and finance vertical websites are beginning to change the financial product distribution landscape. According to Sina News and Hexun News ( Yu'E Bao's Rmb100 bn-plus fund base and East Money's Rmb9 bn sales of Huoqibao ( 活 期 宝 ) in 3Q indicated that low-risk cash management products have gained traction on the Internet. Fund management companies are rushing to Tmall to open stores and sell their products. Using transaction data to evaluate credit The reach of Internet may reduce the role of traditional financial product distribution networks Cash management products are gaining traction on the Internet Sino Hotspot Series: Internet Finance 8

9 Figure 12: Key companies in China Internet finance Segment Sub-segment Companies Activities Global Comps Payment Online payment and settlement Fund distribution Payment and settlement for fund sales Third-party e- commerce platform for fund distribution Forex payment for cross-border e-commerce POS and offline payment Online Financing P2P Loan Financial Product Distribution Others Crowd Funding Distribution Platform Vertical product search Personal finance management tool Financial social networks Credit loan to gamers Alipay, Tenpay, ChinaPnR, 99bill, etc Alibaba China UnionPay, Lakala, Tencent, Alibaba, etc Lufax, My089.com, Renrendai.com, Ppdai.com, dianrong.com, Yooli.com, Renrenmoney.com, etc. Angel Crunch, Demo Hour, Dajiatou.cn, Zhongchou.cn Tmall.com, Howbuy.com, Fund123.cn, dashu88.com Baidu.com, Rong360.com, Haodai.com, 91jinrong.com, qqw.com.cn Feidee ( 随 手 记 ), Cardniu, Tencent Portfolio Xueqiu Mo9.com.cn 250 licenses have been issued since 2011 by PBOC. 26 licenses issued to independent fund distribution company. 11 licenses issued to third-party payment companies by October Alibaba received the first license in October pilot licenses issued by SAFE since September It is estimated by P2P lending watcher Wangdaizhijia that over 500 websites are doing the business. CreditEase is also a large player but only part of its business is online lending and it discloses very limited information. Distribute products including mutual funds, trust products, wealth management products, insurance, hedge funds, and PE/VC products. Help users to find the best credit card and loan products and charge service fee on banks, mainly smaller banks looking for more customers. Personal finance management and budgeting apps/software trying to connect all bank accounts of users and become a distributor of products in future. Xueqiu creates a community for investors to discuss their investment ideas and socialize. Offers instant loans to game players for virtual item purchase Square Zopa, Prosper, Lending Club Kickstarter MINT Seekingalpha.c om Mo9 Source: PBOC, CSRC, Lufax, My089.com, Renrendai.com, Ppdai.com, dianrong.com, Yooli.com, Renrenmoney.com, news.cnstock.com, Angel Crunch, Demo Hour, Dajiatou.cn, Zhongchou.cn, Tmall.com, Howbuy.com, Fund123.cn, dashu88.com, Baidu.com, Rong360.com, Haodai.com, 91jinrong.com, qqw.com.cn, xueqiu.com, mo9.com.cn Payment Payment has always been a volume-driven business and differentiation is quite limited here. Price is one of the key considerations for merchants. Leading payment services take dominant share and enjoy better economics. As they grow larger, they are able to further optimise their cost structures and lower price on a larger scale. Followers struggle with market share and can barely break even. Smaller players have to focus on SMEs rather than large accounts such as shopping malls and restaurant chains. Business model When a payment/transfer is made, third-party payment providers charge merchants a service fee, (say %, on average less than 1%). On the cost side, third-party payment providers connect to banks directly or through China UnionPay. They pay service charges to banks at a lower rate (say 0.05%-0.3%, usually paid monthly or quarterly in a packaged lump-sum). The spread they earned is their profit. Payment is a scale business Earn the spread between what they get from customers and what they pay to banks Sino Hotspot Series: Internet Finance 9

10 Figure 13: Third-party Internet payment market share by transaction volume Others, 1.9% Yeepay, 3.4% epayment, 2.9% 99Bill, 6.7% China UnionPay Online, 11.7% Alipay, 48.8% ChinaPnR, 5.9% Tenpay, 18.7% Source: iresearch, 3Q13 Figure 14: Payment processing rate comparison Payment service provider Payment processing rate Alipay 0.7%-1.5% Tenpay 0.8%-1.0% 99bill 0.5%-1.0% ChinaPnR 0.5%-0.8% ChinaPay 0.5%-0.7% CUP POS 1.0% Source: Alipay, Tencent,99bill, ChinaPnR, Sina News Competition dynamics There are mainly three categories of third-party payment companies. (1) Internet companies' own online payment arm: Alipay, Tenpay, Shengpay, etc. (2) Companies with certain backgrounds from traditional financial institutions: UnionPay Online, 99bill, ChinaPnR, etc. (3) Standalone third-party payment companies: Yeepay, Lefu, Fuyou, etc. Since Alipay, Tenpay and UnionPay Online are taking lions' share in the market, smaller players use different strategies to compete and differentiate. Concentrating on specific verticals or customer segments: Focus on verticals for example, ChinaPnR provides air ticketing agents with convenience tools and loans so that agents can pre-pay for tickets. Smaller third-party payment providers tend to focus more on SMEs rather than large corporations. Expanding into other areas in Internet finance, such as financial product distribution and SME loans: ChinaPnR is among the first Internet companies to get online fund selling license in With millions of merchants with POS machines and basic payment services, online payment companies can provide value-added services such as loans/credits as well as wealth management products. Better services: quicker to implement. Third-party online payment companies operate in a more efficient way. They can release POS machines within one-two days, compared to two-three weeks for offline POS providers and banks. Focus on specific customer segments Distribute financial products in the platform Faster payment than traditional means Sino Hotspot Series: Internet Finance 10

11 Major online payment players Alipay Launched in 2004, Alipay is now the largest third-party payment service provider in China (48.8% market share in the third-party payment market of China in 3Q13, according to iresearch). On 11 Nov 2013, Alipay set a record for the highest daily number of transactions, processing 170 mn payments during the 24-hour period with over Rmb35 bn in transaction volumes, Alipay announced Alipay partners with more than 180 financial institutions including leading national and regional banks across China as well as Visa and MasterCard to facilitate payments in China and abroad. In addition to Taobao Marketplace and Tmall.com, Alipay provides payment solutions for more than 500,000 merchants, covering a wide range of industries including online retail, virtual gaming, digital communications, commercial services, air ticketing and utilities. Alipay is an affiliate of the Alibaba Group. The capability of online payments has been re-defined since Yu'E Bao s success. According to Sina Tech Channel, the Rmb200 mn money market fund took 110 days to grow 278 times to the country s largest, and to over Rmb100 bn after the 11 Nov "Singles' Day" online shopping carnival. With their money insured in full and decent return, users have begun to put their cash in Alipay, as indicated from Yu'E Bao's Rmb100 bn-plus fund base. According to Tencent Tech Channel, Alipay now owns a real-name account system, a group of users with high stickiness, a data source for credit rating and idea generator for product design. Tenpay Tenpay is the second largest player in the online payments market after Alipay. With Tencent lacking a strong online shopping context, Tenpay mainly set its foot into B2B online transfer and consumer related usage in Tencent's various entertainment-related services Entering the mobile era, Tenpay is able to leverage WeChat's vast, engaging user base and long time spent to enable more innovative application scenarios and contexts. WeChat Payment uses Tenpay for its payment infrastructure. It recently launched various personal financial services such as AA payment, Lottery, mobile phone recharges, utility fee payment, movie ticketing, Q coin purchase, etc. WeChat Payment feature now boasts around 20 mn users, with 200, ,000 daily new adds. In future, Tenpay may introduce more products through WeChat such as Yu'E Bao-like financial products. WeChat Payment's long-term goal is to eliminate the use of POS machines to enable more streamlined online-to-offline transactions. 99bill Launched in 2005, 99bill is the third largest third-party payment service providers in China (6.7% market share in the third-party payment market of China in 3Q13, according to iresearch). 99bill specialises in providing working capital management solution and services for various customers including Ping An, JD, Dangdang, Baidu, Lenovo, Dell, etc. According to Guoguang Guan, CEO of 99bill, the company processed capital volumes of over Rmb1.2 tn in It currently has 2.7 mn business partners in various industries such as travel, insurance, e-commerce, logistic, etc. Online financing P2P loan P2P loan, or peer-to-peer lending, is a service platform that directly connects fund-seeking borrowers to return-seeking lenders. Borrowers submit their funding needs and supplementary information for credit appraisals. P2P platforms perform various levels of credit checks and analysis, approve, price and specify the details of the loans. Lenders choose projects/loans to invest in and receive the principal and interest. Alipay accounts for almost 49% of third party payment market The online payment platform of Alipay paved the way for Yu'E Bao's success Tenpay to leverage the vast user base of WeChat WeChat Payment has around 20 mn users 99bill the third largest player with 6.7% market share P2P loan connects borrowers and lenders directly on the Internet Sino Hotspot Series: Internet Finance 11

12 P2P platforms earn origination fees and/or service fees from borrowers and lenders as their main revenue source. Ideally, P2P platforms do not establish a funding pool and earn interest income out of the residual fund. Information shall be transparent to both sides. Depending on different operation models, the P2P platforms may or may not provide any forms of guarantee. This business model was introduced in 2005 by a British company, Zopa.com, that provides loans totalling 416 mn. Later in the US, Prosper and Lending Club took the success and influence of P2P to greater levels. According to Sina News, China has over 500 P2P loan websites. It is reported that every day, there are over 20 P2P sites being set up in China now-a-days. P2P platforms earn origination/service fees from borrowers and lenders Over 500 P2P websites in China Business models Within P2P loan, companies operate in different business models. (1) Pure online model In this model, company operation is conducted online no offline business development; on-the-ground credit checks are performed. Paipai Dai ( 拍 拍 贷 ) was the first to introduce this model into China and focus on a pure online model. PPdai believes that lenders and borrowers will meet directly on the Internet and take responsibility for their own risks. According to the company, PPdai.com s loan balance reached ~Rmb1 bn by 3Q13. Some other pure online platforms such as Renren Money went even further to host other offline finance agencies (small loan companies, pawn shops, guarantee companies) to locate local borrowers, perform credit checks and provide guarantees. They only act as pure online platforms and collect very low service fees. PPdai.com's loan balance reached Rmb1 bn by 3Q13 Renren Money to host other offline finance agencies to locate local borrowers (2) Offline + online model Majority of P2P companies operate in a hybrid model, incorporating both online and offline elements. The online platform attracts lenders and a part of the borrowers, while the offline team acquires a large portion of credit-worthy borrowers and performs necessary credit checks on the entire borrower base. Most P2P companies have both online and offline activities Leading companies employing this model include Renren Dai, Sino Lending and Lufax. Lufax (Shanghai Lujiazui International Financial Asset Exchange) Established in September 2011, Lufax officially started its P2P lending business in January 2013, and to some extent B2B and B2C lending businesses as well. It mainly attracts borrowers online, i.e., around 70% with 30% from other offline channels while the lenders are all online. Lufax, a subsidiary of Ping An Group, is strong in risk management given its background, and also cooperates with the group's guarantee company to better manage credit risks. It also operates a secondary market, which allows online secondary transaction of the products this adds liquidity and is quite unique compared with other P2P lending models. (3) Offline-intensive model (CreditEase) During the course of business model evolution, some P2P loan companies adopted a heavier, offline-intensive model to conduct a wider variety of financing and asset management services. 70% of Lufax's business is online a subsidiary of Ping An Group CreditEase ( 宜 信 ) CreditEase is one of the largest P2P platforms in China, with loans exceeding Rmb10 bn in It has a large business development team of 30,000 employees, who set up booths in communities to look for borrowers and lenders. CreditEase adopted the concept of P2P to start its business, but gradually added more offline component in wealth management. The company packages various types of loans into fixed income products and sells them to investors with 7%-10% annualised return. Borrowers and lenders are CreditEase has a large offline component in its business Sino Hotspot Series: Internet Finance 12

13 blind to each other and CreditEase earns the spread. It also sells various wealth management products to investors. Lack of regulatory oversight A major issue that has been frequently talked about on P2P loan is the current regulatory void. Until now, no formal regulations or policies have been formulated on P2P loans by government authorities, including PBOC and CBRC. On one hand, lack of regulations prompted new business models and encouraged the creation of innovative product designs that are changing user experience and behaviour in a fundamental way. On the other hand, proliferation of small P2P sites creates regulatory challenges. At present, anyone can build a website and get into the business immediately, without any approval or licenses from regulatory bodies. Going into 2014P2P websites are both emerging and collapsing at a faster speed. According to Guangzhou Daily ( and Shanghai Business ( about 50 sites ran into problems since October, some involving funds of over Rmb100 mn and 1,000 investors. The China government has clearly showed its resolve to curb shadow banking. In June, Vice Finance Minister Zhu Guangyao stated that China needs to cautiously regulate shadow banking and CBRC issued a document to warn banks of five types of external risks: small loan companies, pawn shops, guarantee companies, informal financing and illegal fund raising. In August, the inter-ministerial coordination institution of financial supervision, led by PBOC and joined by CBRC, CSRC and CIRC, was established. A research team of Internet finance development and regulation was soon formed and led by PBOC and did surveys in major cities of China. Lack of regulatory oversight in P2P business prompted new business models and innovation but also created risks to the system Regulators started focusing on this business Figure 15: China's shadow banking Aggregate Social Financing (ASF) and bank loans 90% % 70% 60% 50% 40% 30% 20% 10% % Source: PBOC New ASF New bank loans Percentage of bank loans in ASF Figure 16: Small loan company boom Number of companies Capital Base (Rmb bn) Loans Outstanding (Rmb bn) 4Q , Q , Q , Q , Q , Q , Q , Q , Q , Q , Q , Source: PBOC Sino Hotspot Series: Internet Finance 13

14 According to our interviews, industry practitioners in banking and Internet industries believe the market size of P2P might reach Rmb mn by Business volumes of P2P financing are not included in any official statistics yet. During our interviews, many P2P companies expressed concerns about the risk control capability of the entire sector. Industry practitioners are calling for release of formal regulation in Internet finance, especially regarding P2P and SME loans. Regulators are now facing the dilemma of managing risks in this fast-evolving business while promoting non-soe capital to participate in social financing. Overall, we do see the digitisation of social financing to provide a way to make offline shadow banking more transparent and essentially easier to regulate. P2P market might reach Rmb bn by 2014 Industry practitioners calling for formal regulation of Internet finance We believe it is the right time to launch some regulations on Internet finance. An inter-ministerial coordination institution led by PBOC has been set up as the top supervisory body over China s financial issues. In the past, no regulatory entities held the responsibility of supervision, and this regulatory void was taken advantage of. The business model of P2P lending has become clearer. Most companies have taken the online + offline model, and provide guarantee/protection to investors to varied extent. The degree of urgency is increasing, since a large number of companies are having troubles while alluring profitability of P2P business attracts more starters with very poor knowledge about risk control. Large financial institutions such as Ping An (Lufax) and China Merchants Bank show strong interest in Internet finance, yet they face potential compliance issues. It will be good for fair competition if game rules are made clear. Recently an official at the PBOC mentioned some potential guidelines about regulating P2P lending, including no explicit guarantee, no money pool, qualified investors, no public deposit taking, no fraud, and clearly-defined third-party custody. See the 21 st Century Business Herald report ( Although these may still be some preliminary views, we believe making clearer rules will help in healthy development of the P2P loan sector. Crowd funding Beside debt financing companies can also seek equity financing through crowd funding platforms. Crowd funding is a collective effort of individuals or investors who network and pool their money to support projects initiated by other people or organisations. Crowd funding is initially used to support a wide variety of activities, including disaster relief, support of artists by fans, political campaigns, start-up companies, micro movies, free software development, inventions development, scientific research and civic projects. In the Internet finance area, crowd funding is used for funding of a company by selling small amounts of equity to many investors. Angel Crunch, Demo Hour and Dajiatou are the leading players. According to the company, Angel Crunch has 8,000 projects and 800 qualified investors, and raised Rmb250 mn for 70 projects to date. It issued a lead investor rule in Nov-13, trying to clarify legal relationships in crowd funding. Its affiliated company 'IPO.la' is a share trading platform for pre-ipo companies, with similar business model to SecondMarket and SharePost in the US. Again, regulations remain a key issue for crowd funding as well. Companies are exploring their own projects and investor qualification and investor protection systems. Guidelines to regulate P2P lending Crowd funding is a collective effort of individuals or investors who pool their money to support projects Angel Crunch raised Rmb250 mn for 70 projects through crowd funding Sino Hotspot Series: Internet Finance 14

15 Financial product distribution With strong traffic base and sticky user engagement, distributing financial products is a natural business for Internet companies to tap into. Alibaba's Yu'E Bao, Baidu's Baifa and other financial products are becoming increasingly available to online users with good user experience and accessibility. Following the success of these pioneer products, almost all major China Internet companies including Tencent, Sina, Soufun, NetEase, Shanda are offering their version of cash management/fund investment products. For product providers, Internet platforms usually charges less distribution fee and are more transparent in user data sharing and other behavioural information. Product providers can leverage Internet platforms to realise large business scale and do more customisation to their target clients. EastMoney ( SZ) With strong traffic base and sticky user engagement, Internet companies start distributing financial products Lower distribution fee and more transparent in user data sharing Figure 17: EastMoney fund distribution business overview Product Sales revenue Number of Investment amount Sales revenue excluding number (Rmb mn) purchases per transaction Huoqibao (Rmb mn) July Fund distribution started. Dec ,175 11, Q ,561 8, H ,854 10,483 Huoqibao was launched. 3Q , ,246 15,716 5,320 Source: EastMoney Fund distribution is a core business of EastMoney and represents 33% of its sales revenue. EastMoney subsidiary Shanghai Tiantian Fund Distribution Company ( com.cn) is a licensed fund distributor. The company did fairly well in mutual fund distribution since late In 1H13, the company sold Rmb2.2 bn funds and generated revenues of Rmb10.3 mn. An average fee it received from distribution was 0.47%, based on a rough calculation. At present, Internet channels offer discount as low as 60% on fund distribution, while banks offer 50% discount. However, charging methods vary case by case. For example, Taobao charges 0.6% when you buy an equity fund (60% off discount), while banks charge 1.5% when you buy it over the counter. EastMoney launched a product called Huoqibao ( 活 期 宝 ) in May 2013, a tool that facilitates users to buy money market funds. Huoqibao hit a sales record of over Rmb9 bn in 3Q13. Distribution of other funds totalled Rmb5.3 bn. Net sales in the third quarter were Rmb12.9 bn and generated revenues of Rmb21.3 mn. An average fee it received from distribution dropped to 0.16%. Baidu s 8% return product started a competition for customers by offering higher returns. On 26 November, EastMoney launched a product promising 7% return, with a duration of three months, and a Rmb1 mn threshold for a single investor. It raised Rmb135 mn in 24 hours. Sina Sina is mainly interested in two areas of Internet finance: financial product distribution, and potentially online securities brokerage in the longer run. Sina received its third-party payment license in July In financial product distribution, according to Tencent News, Sina is planning on a financial product marketplace under the brand name of 'Cangshi ( 仓 石 )'. It is also preparing Weibo version of Yu'E Bao products Weicaifu ( 微 财 富 ). Fund distribution accounted for 33% of EastMoney's revenue now, despite it only starting in 2H12 Lower fund distribution fee on Internet channels Only 0.16% distribution fee for EastMoney's products Competition on yield as well Sina received its third-party payment license in Jul-13 Sino Hotspot Series: Internet Finance 15

16 Feidee and Cardniu Feidee( 随 手 记 ) and Cardniu( 卡 牛 ) are sister companies that are focusing on development of personal finance management and credit card management tools/apps, respectively. Feidee is designed for users who are involved in various asset classes, while Cardniu s typical users are young generation who mainly deal with credit cards and debit cards. According to the company, Feidee has 70 mn registered users and 3 mn DAU, of whom 300, ,000 are paying users. By providing online personal finance analysis and management features, these two apps will help users establish their personal balance sheets and generate personal financial reports, evaluate users asset management ability and provide recommendations. Business model would be like a supermarket of financial products, charging distribution fees from various providers. There are around 180 rivals offering similar services on the market; Feidee is the largest and leaves the second largest far behind, according to the company. The company thinks it is still early to monetise at the current stage. Currently, the priority task of Feidee and Cardniu is to improve their users experience; for example, extending its cooperation to all banks to read their mobile bank apps to get more accurate data. Feidee and Cardniu focused on personal finance and credit card management tools/apps which help users establish their personal balance sheets Feidee is the largest among around 180 rivals in this business Sino Hotspot Series: Internet Finance 16

17 Internet companies: A new layer of service digitisation We see financial products representing a new layer of services offered by China Internet companies to users and business partners, on top of their existing offerings in tangiblegoods e-commerce, games and advertising. Although their near-term financial contribution should be limited, improvement in the overall payment infrastructure could enable more business and consumption activities to move from offline to online, especially with the perfection of mobile payment processes. This should further enhance user stickiness of Internet companies and vertical leaders. Major internet companies are well-positioned in various aspects of Internet finance, with their sizeable balance sheets, big data repository and rich accumulation of users and merchants. Baidu has been actively developing finance products for both business partners and individuals in recent months. Tencent's focus is more on the consumer side, and service launches are carefully paced. WeChat payment application scenarios are gradually expanding both online and offline. Mobile QQ payment will also likely be released soon. Vertical leaders such as Soufun could leverage their vertical expertise in offering tailor-made products. Emerging start-ups should have more opportunities in areas of P2P loan, vertical search and crowd funding. Improvement in payment infrastructure could enable more business and consumption activities to move online Leading Internet companies are well-positioned with their sizeable balance sheets, big data repository and rich accumulation of users and merchants Figure 18: Core competitive advantages of leading Internet companies Companies Core advantage(s) Baidu Marketing power: No.5 website globally and No.1 in China, according to Alexa. Market share over 70% in China search engine market. Baidu enjoys the largest traffic base in China on user side. Advertisers relationship: Over 460,000 advertisers are doing online marketing on Baidu on a quarterly basis. This can serve as a good customer base for Baidu's to-b financial products in future. Tencent WeChat: Most popular mobile IM with 600 mn registered users. Although just launched in August, WeChat Payment fits well into the usage scenario of impulse buying and social sharing. SouFun Userbase: In 3Q13, SouFun has over 30 mn registered members, over 10 mn SouFun card members and over 100,000 SouFun card VIP members who have high demand on house purchase and house loan service. Alibaba E-commerce and payment data: According to Sina Tech Channel, Taobao and Tmall annual sales volumes surpassed Rmb1 tn in 2012, ~5% of China's retail sales. According to iresearch, Alipay had a market share of about 50% in 3Q13. In Nov-11 this year, transactions on Tmall via Alipay surpassed Rmb35 bn. Data repository on Alibaba sites provide a solid data base for credit analysis for AliFinance. Jingdong Supplier relationship: Jingdong has management efficiency and higher bargaining power over its suppliers. Source: Alexa, iresearch, company data Baidu, Tencent, SouFun, Alibaba and Jingdong put Internet finance in a strategic position. Baidu has strong marketing power in product distribution. Tencent s 'killer move' is WeChat payment. SouFun has wide userbase that has strong demand in house loan products. Alibaba, with its SME financial service group AliFinance, is taking initiative in this sector, while Jingdong s focus lies in supply-chain finance. Figure 19: BAT's (Baidu, Tencent and Alibaba) exposure in Internet finance Sub-segments Baidu Tencent Alibaba Payment Baipay Tenpay Alipay Online financing Internet P2P loan N/A N/A N/A Internet SME loan Baidu SME Loan Licensed Ali Finance Crowd funding N/A N/A N/A Financial product distribution 8.Baidu.com Stock App; Co-ops with fund companies Yu'E Bao, Mutual funds Tmall stores Source: Company data, Sina News, Credit Suisse research Badi, Tencent, SouFun, Alibaba and Jingdong have put internet finance in a strategic position Sino Hotspot Series: Internet Finance 17

18 Baidu: 300 mn daily financial queries Figure 20: Baidu's Internet finance-related business Company Product/Service Activities comps Baidu Payment Baifubao received third-party payment service license. PayPal Small loan Credit card/loan search Financial product distribution Bank Source: Company Data,8.baidu.com, Credit Suisse research Shanghai Baidu Small Loan Company Limited received approval Jinrong.baidu.com was launched The first product Baizhuan raised Rmb 1 billion in 1.5 hours on 8.baidu.com Launches Baifa with guarantee of 8% return. Potentially apply for a banking license. Baidu is No.1 Chinese search engine with 6 bn search queries on a daily basis, of which 5% are financial product related. Among those finance-related queries, a fair proportion is from potential financial product buyers. However, these potential customers may easily lose their appetite for buying when they get to destination sites with inferior page design and unsatisfactory user experience. To improve the conversion rate, Baidu decided to become more involved in the transaction process. If Baidu can successfully convert part of these search requests into orders, it can receive distribution fees from institutions such as fund management companies. On the other hand, Baidu can leverage its large advertiser base (annually ~600,000 in 2012) to provide credits on their daily operations. Baidu believes that finance will become an important part of Internet and it wants to have its share to maintain its current leading position. Baidu is stepping up effort to develop Baidu payment (BaiPay) directly as the core of its Internet finance strategy. In our view, Baidu s Internet finance consists of three main segments: (1) 'to B' business, (2) 'to C' business and (3) 'intermediary page' strategy. 'to C' business: Financial product distribution Baidu launched its 'to C' Internet finance business with an eventful promotional campaign on its new products. The company hopes these products would persuade users to set up accounts and move their money out of banks into Baidu payment system Baidu Wallet (previously BaiPay 百 付 宝 ). Baidu currently has three financial products: (1) Baidu financial product B: This was previously named BaiFa ( 百 发 ) but changed to its current title due to a CRSC requirement. Baidu cooperates with the ChinaAMC money market fund on this product. It guarantees 8% annual rate of return % rate of return is provided by ChinaAMC, while the rest is compensated by Baidu. Due to its impressive rate of return, it achieved total sales of Rmb1 bn in four hours of its launch. (2) Baizhuan ( 百 赚 ) is also a product bond with the money market fund of ChinaAMC but offers a lower annual rate of return of 4-5%. Although its rate of return is comparable with other money market funds, it still achieved total sales of Rmb600 mn in 12 days, according to Tencent Finance, supported by Baidu's traffic advantage. (3) Baifa phase II ( 百 发 二 期 ) is a product provided by Harvest Fund to invest in bank deposit agreement. Baidu involves 'group buying' mode into the sales process and encourage users to register for Baidu wealth management account beforehand to get the priority in actual subscription. Baidu doesn't give guarantee on rate of return this time but still implies rate of return of 8% on its financial product vertical 8.baidu.com. Global Around 5% of Baidu's search is related to financial products Baidu wants to involve more in the transaction process to boost the conversion rate Baidu tries to persuade users to move their bank deposits to its payment system Baidu financial product B guarantees 8% annual return to investors Baizhuan is a money market fund co-operated with ChinaAMC Baifa Phase II is a product by Harvest Fund to invest in bank deposit agreement Sino Hotspot Series: Internet Finance 18

19 Figure 21: Three types of licenses in fund distribution Type Issue history Source Fund sales Payment and settlement for fund sales Third-party e-commerce platform for fund sales Source: CSRC 26 licenses issued to independent fund distribution company. 11 licenses issued to third-party payment companies by October Taobao.com received the first license in October Payment system is an infrastructure for Baidu s 2B and 2C businesses. In the past, Baidu failed to develop its e-commerce platform, so its payment service system construction also lagged behind. Baifubao only received its license for third-party payment services from PBOC in July Currently, it only links to the debit cards of seven banks. In the short term, Baidu s strategy is to focus on seeking cooperation with more financial institution partners to offer more customised new-type products carrying Internet characteristics. 'to B' business For to B business, Baidu has a small loan company located in Jiading district of Shanghai which got approval from the Shanghai government in Sep-13. The company mainly targets Baidu s online marketing customers at the first stage. Baidu had about 464,000 active online marketing customers in 3Q13, while revenue per customer was ~Rmb19,100. In the long run, the company may look for a bank license. Intermediary page strategy On 5 November, Baidu Finance (jinrong.baidu.com) was officially launched. The financial product search platform enables one-stop application for credit card and loans, including home loans, auto loans, consumer loans and business loans. Haodai.com, a vertical loan search engine, provides data and services for Baidu. Both parties share the service fees paid by banks. Earnings implication estimates For Baidu, in the short to medium term, potential revenue could mainly come from two sources in Internet finance. (1) to B: based on latest annual advertiser base of ~600,000, Baidu can issue loans or offer credit lines to these SMEs with marketing spend data supporting credit rating and analysis. (2) to C: Baidu would serve as a distribution platform and help distribute financial products such as funds, trusts, WM products. From our estimates below, we see potential revenue opportunities (interest income) for Baidu's finance-related offerings reaching an annual run-rate of ~Rmb3 bn in a blue-sky scenario. Figure 22: Baidu Internet SME loan business scenario analysis Bear case Base case Bull case Revenue (Rmb mn) 22,306 22,306 22,306 # of advertisers (mn) ARPU 37,426 37,426 37,426 Non-GAAP net income 10,668 10,668 10,668 Loan amount per advertiser 10,000 30,000 50,000 Advertiser loan penetration % 20% 50% 70% Total loan amount (Rmb mn) 1,192 8,940 20,860 Annualized all-in interest rate 8% 10% 15% Interest income (Rmb mn) ,129 As % of Baidu 2012 revenue 0.4% 4.0% 14.0% As % of Baidu 2012 net income 0.9% 8.4% 29.3% Source: Company data, Credit Suisse estimates 1/t _ htm 1/t _ htm 1/t _ htm Strategy: Co-operate with financial institutions to provide customised products with "Internet characteristics" Small loan company targets Baidu's online marketing customers Baidu Finance enables onestop application for credit card and loans Sino Hotspot Series: Internet Finance 19

20 Tencent: Another layer of service to its strong user base Figure 23: Tencent's Internet finance-related business Company Product/Service Activities Comps Tencent Virtual currency Q coin Global Payment Tenpay received third-party payment license. PayPal Insurance Fund distribution Bank Forex trading and currency exchange Online brokerage Source: Company data, Tencent News, Credit Suisse research WeChat Payment was launched Zhongan Online Property Insurance Holding was established. Tencent holds 15% Tenpay received a license for payment and settlement service for fund sales Four asset management companies may start selling money funds on WeChat Tencent was reported to be applying for a banking license. Tenpay receives a pilot license for cross-border e-commerce payment business from SAFE Sinolink Securities announced 2-year partnership with Tencent, which covers online securities brokerage, online wealth management and offline private wealth management. Tenpay, Tencent's payment service, has a share of 18.7% in the online payment market in 3Q13, according to iresearch, compared with 48.8% of Alipay. However, once integrated with WeChat, which enjoys a user base of over 600 mn, Tenpay can become a strong rival comparable with Alipay, especially in mobile application contexts. Financial product distribution via WeChat Tenpay received a third-party payment and settlement license for fund sales in May Since 2013 it has been adding fund management companies as partners to the list. To date, it has extended to ten asset management companies partners. WeChat and Tenpay are different business units under Tencent's Corporate Development Group (CDG). WeChat Payment was launched in August 2013, yet it is still far from perfect. At present, users can buy from Yixun.com, Dianping.com, AA payment, Lottery, mobile phone charges, utility fee payment, movie ticketing, Q coin purchase, etc. We see WeChat adding more functions and business partners to its payment platform. Tencent had been in talks with several asset management companies about cooperation in fund distribution. According to Sina Tech, a WeChat wealth management platform will be launched soon. Supported by Tenpay service, these asset management companies are expected to sell their money market funds to WeChat users. On services, many asset management companies established their official accounts on WeChat to provide services. For example, by subscribing the service account of China AMC, customers can complete operations like checking account balance, or purchasing and redeeming certain money market funds. Tenpay: Still pacing the roll-out Tenpay is already running annual total payment value (TPV) of Rmb740 bn with a 20%-plus third-party payment market share. WeChat payment enabled mobile payment application scenarios that were previously impossible in practice. Mobile QQ payment is also likely to be released soon. Tencent is still pacing the full-fledged commercial roll-out internally. Tenpay user base is already more than 200 mn. Major payment application scenarios include: (1) public account payment; (2) PC/Offline QR code scan payment; (3) in-app payment such as cooperation with Dianping. Charles Schwab Tenpay could be a strong rival to Alipay after it integrates with WeChat Tenpay has ten asset management partners now WeChat is likely to add more functions and business partners A WeChat wealth management platform will be launched soon Asset management companies establishing official accounts on WeChat Tenpay is already running annual total payment value (TPV) of Rmb740 bn with 20%-plus third-party payment market share Sino Hotspot Series: Internet Finance 20

21 Invest in Howbuy: To build a one-stop financial product platform On 16 December, Howbuy, a third-party wealth management announced to receive B- round financing from Tencent. Founded in 2007, Howbuy is the first batch third-party fund sales license holder in China with one of the largest fund research teams. Howbuy now provides over 2,000 third-party wealth management products and tailor-made investment plan for its clients. We view such investment as part of Tencent's strategy in building a one-stop financial product platform. By cooperation with Howbuy, Tencent can connect with various fund companies once for all without negotiation with each company separately. Investment in Howbuy will have Tencent build a onestop financial product platform Earnings implication estimates We expect Tencent to be more active in the 'to C' part of the business, i.e., various financial product distribution via its various traffic assets (QQ, WeChat, etc.) to its sizeable user base. We think revenue/earnings contribution from these services will be limited in the short run compared with Tencent's sizeable revenue base. Over longer run, we think Tencent will be the most likely player among Internet companies to provide online brokerage services, if such licenses become available. Tencent has already signed a two-year strategic cooperation with Sinolink Securities. Potential areas of cooperation include online brokerage, online wealth management and offline private wealth management. We expect Tencent to be more active in the 'to C' part of the business with limited revenue/earnings Tencent could be the most likely player among Internet companies to provide online brokerage services Sino Hotspot Series: Internet Finance 21

22 SouFun Figure 24: SouFun e-commerce service from 1.0 to 5.0 Launch Version date Theme Description Online auction Provides online auction services for real estate developers, such as Soho China Group Buying SouFun is the first online RE portal to provide group buying services, host 1000-plus projects since E-commerce platform ( 狂 拍 团 ) Provides various services such as online booking, payment, new house debut, real image house preview New house express ( 新 房 通 ) Provides a multi-function platform to connect new house resource with real estate agents Soufun Financial Service Collaborates with various financial institutes to provide real estate relevant loan Channel (8.soufun.com) products to members. Source: Company data, 8.soufun.com, Credit Suisse research SouFun recently announced the launch of its financial services platform 'SouFun Financial Services Channel' on 16 December. SouFun will provide various genre of third-party financial products, such as home mortgage, home insurance and consumption loan to meet the requirement of its members. SouFun currently has over 15 mn registered members, over 500,000 certified agents and more than 10,000 developers and home improvement clients. SouFun has already signed strategy partnership contracts with ICBC and Ping An Bank in Dec-13. According to Xiaogang Shen, executive of ICBC Shanghai Branch, ICBC will provide special discount exclusively for SouFun members. Currently, SouFun only provides financial services in Beijing and Shanghai. The main services categories are: (1) loan search engine: search for suitable loan products under certain criteria; (2) customised financial service for agents (Fang Dai Tong 房 贷 通 ): special services targeting agent clients ( 搜 房 帮 ), provides suitable financial products to help agents in streamlining the transaction process. We expect Soufun to see good conversion rate of its existing e-commerce service users to financial services users. We view SouFun card members as a user group with high actual intention of house purchase, most of whom will have demand for loan products. Given that members have already provided basic information to SouFun, we believe Soufun can easily direct those home loan sales leads to banks (on user approvals). In addition, some users can get pre-qualified home loans before joining Soufun s group buy tours. This will create synergy for both e-commerce and financial services businesses of Soufun. SouFun could use its balance sheet for its own financial products in the future. Currently, SouFun mainly cooperates with banks to launch loan products, with banks providing 100% of loan. In the future, it is possible that Soufun would also underwrite some low-risk home loans on its own, after accumulating enough experience in this area. However, this could be few years away. SouFun recently announced to launch its financial services platform SouFun has already signed strategy partnership contracts with ICBC and Ping An Bank SouFun currently only provides financial services in Beijing and Shanghai We are positive on user base of SouFun's financial services SouFun could use its balance sheet for its own financial products in the future Sino Hotspot Series: Internet Finance 22

23 (mn) 02 January 2014 Figure 25: SouFun Loan search engine Search for suitable loan products under certain criteria Figure 26: Advantage of 'Fang Dai Tong ( 房 贷 通 )' Customized loan product Best interest rate Fast loan approval process Source: Company data, 8.soufun.com Source: Company data, Credit Suisse research E-house also announced the launch of a consumption loan product Le Ju Dai ( 乐 居 贷 ) with CITIC bank: E-house members can apply for mortgage loan (total amount up to 90% of valuation of house mortgage) for the purpose of house purchase/renovation, car buying and travel, etc. By providing such service, E-house hopes to better explore the consumption need of its members and better connection of its members and realtors/renovation service providers. Best house assessment price E-house announced the launch of a consumption loan product Le Ju Dai ( 乐 居 贷 ) with CITIC bank Figure 27: Real estate online ad market share breakdown by revenue (3Q13) Sina ehouse 15% Sohu Focus 12% Others 1% Figure 28: Monthly PV of major vertical real estate website 2,500 2,000 1,500 1, SouFun 72% 0 2Q13 1Q13 4Q12 3Q12 2Q12 1Q12 4Q11 3Q11 2Q11 1Q11 4Q10 3Q10 2Q10 1Q10 SouFun Sohu Focus Sina ehouse Source: DCCI Source: DCCI Sino Hotspot Series: Internet Finance 23

24 AliFinance If banks don t change, we ll change the banks. Jack Ma, December, 2008 Figure 29: Alibaba's Internet finance-related business Company Product/Service Activities comps Alibaba Payment May 2011: Alipay received third-party payment license. PayPal Small loan Financial product distribution Fund sales Fund management Insurance Guarantee Credit payment/credit card Source: Company data, Sina Tech, Credit Suisse research Alipay and Yu'E Bao March 2010: Alibaba established Zhejiang Alibaba Small Loan Company. June 2011: Alibaba set up Chongqing Alibaba Small Loan Company. August 2013: Chongqing Ali SME Small Loan Company was established. July 2012: Licai.taobao.com was launched and began to sell insurance products. November 2013: The platform covers insurance and funds. Bank WMPs were in plan but cancelled for compliance reasons. March 2013: Ali SME Financial Service Group was established to incorporate all the financial businesses in Alibaba Group. June 2013: Finance Prod was launched in cooperation by Tianhong and Alipay. November 2013: 17 asset management companies opened their flagship stores on Taobao to offer over 100 funds. October 2013: Alipay s parent company offered to buy 51% of Tianhong. The deal still needs approval from CSRC. October 2013: Zhongan Online Property Insurance Holding was established. It announced the first product in November. Alibaba holds 19.9%. August 2012: Alibaba Hong Kong company founded Shangcheng Financing and Guarantee Company in Chongqing. August 2013: Chongqing Ali SME Financing and Guarantee Company was established. Credit payment was scheduled to launch in 2013 but Ali failed to meet this target. Alibaba s finance business started with Alipay, which received its third-party payment license in May 2011 after waiting for six years. In December 2012, two special money market funds came into being in China, from China Universal Asset Management Company and China Southern Asset Management Company. The products achieved T+0 (it usually takes one or two days to cash out) for the first time in the China market and targeted spare money in investors securities accounts. Tianhong designed a similar product in mid-2012, originally targeting money in custody. According to Tianhong, Tianhong Asset Management has Rmb9.9 bn under management and was ranked as the 50 th largest fund company in China as of end Alipay and Tenpay were two potential partners. Tianhong took a detailed plan to Alipay in December Both parties worked for three months together on development since March. In June 2013, Yu'E Bao was launched. The low-risk and high-liquidity product offers decent returns. Money can easily flow between users Yu'E Bao accounts and Alipay accounts. When it stays in Yu'E Bao, users receive returns of a Tianhong money market fund, which stabilise around 5% annualised. When users want to buy something online using Alipay, the funds will be redeemed and their money immediately flows back into the Alipay account. Global Two new successful products achieved T+0 in the China market and targeted spare money in investors securities accounts Yu'E Bao was launched in June 2013 with the cooperation of Tianhong and Alipay The low-risk and highliquidity product offers decent returns Sino Hotspot Series: Internet Finance 24

25 Figure 30: Yu'E Bao, the first fund product customised for Internet Customer Purchase Fund size Investment per Number (mn) amount (Rmb bn) (Rmb bn) customer (Rmb) 29 May n.a n.a. 13 Jun Yu'E Bao was launched 30 Jun , Sep , Oct n.a. n.a. 14 Nov 29+ n.a ,448.3 Source: Tianhong Asset Management Website According to ifeng.com, total scale of Yu'E Bao reached Rmb180 bn in late Nov-13. To further protect customer funds and ensure deeper cooperation with Tianhong, Alibaba invested in a majority stake in Tianhong in Oct-13. Yu'E Bao s customers, aged 26 on average, are Alipay s users instead of experienced fund investors. Alipay already connects with most banks before Yu'E Bao, but previously people don t tend to keep money in their Alipay account, because they could also use credit card or debit card for Alipay online payment. The launch of Yu'E Bao introduced the asset class of money market funds to a new group of investors and built a convenient bridge over bank deposits and money funds. Alipay also benefited from increased user activities, particularly on mobile. Alipay Wallet was launched as a mobile version in October By November 2013, Alipay Wallet was reported to have a user base of close to 100 mn, and a third of Alipay payments were processed on mobile phones, 800% higher than last year. Alibaba invested a majority stake in Tianhong in Oct-13 Yu'E Bao built a convenient bridge over bank deposits Alipay benefited greatly from its mobile App, Alipay Wallet Financial product distribution on Taobao/Tmall Before Yu'E Bao, Taobao prepared for years for fund distribution. It received a third-party e-commerce platform license for fund sales in October. A financial product sales platform Licai.taobao.com/88.taobao.com was put up in July 2012 and began selling insurance products. The platform didn t draw much attention. Available on this platform are insurance products and mutual funds. The platform also hoped to sell bank wealth management products in Nov-11, but cancelled the plan in the last minute. Its partner China Guangfa Bank cited a compliance problem. In Nov-13, 17 asset management companies opened their flagship stores on Taobao selling over 100 funds. Insurance companies and fund managers prepared Internet-customised products offering high returns and looked forward to big sales in Nov-11. However, according to Tencent Tech Channel, the actual sales recorded were much lower than expected. Efund Management Co Ltd allocated Rmb200 mn to offer buyers 6% annualised return, but after two days of promotion, its sales recorded were about Rmb140 mn less than its lowest expectation. According to a Taobao disclosure, within 15 hours, a product by Guohua Life Insurance promising 7% annualised return was sold at most Rmb401 mn, while the 6% Efund product sold at most Rmb151 mn didn t reach half of its targeted 468 mn. All the other products on 88.taobao.com sold totalled Rmb130 mn. Before Yu'E Bao, Taobao's fund platform didn t draw much attention Sales of insurance and fund products on Nov-11 were below expectation Sino Hotspot Series: Internet Finance 25

26 Figure 31: Yu'E Bao and Taobao wealth management Source: Credit Suisse research In China's asset management industry, as of October 2013, 88 asset management companies issued 1,466 mutual fund products, totalling Rmb2.8 tn. 84 funds of them, or 5.7%, are money market funds, with Rmb57.5 bn under management, or 20.5%. In the third quarter, the total size of money market funds had net growth of Rmb185.1 bn, of which Rmb51.4 bn was sold by Yu'E Bao, representing 27.8%. For fund companies, distribution cost via Internet is lower than bank channels, but it also depends on different charging models. Money market funds only take up a small percentage of the mutual fund market and generate less profit. Fund companies are more interested to see the sales of equity funds. In the third quarter, the total size of money market funds had net growth of Rmb185.1 bn, and 27.8% of which was from Yu'E Bao Figure 32: Money fund distribution Mutual funds Money funds Time number AUM (100 mn) number AUM (100 mn) October September August July June May Source: Asset Management Association of China Alibaba Small Loan Companies Although Alibaba doesn t have a comprehensive banking license, it owns three small loan companies working as loan issuers for Alibaba suppliers: (1) Zhejiang Alibaba Small Loan Company: In March 2010, Alibaba Zhejiang branch established its first small loan company, Zhejiang Alibaba Small Loan Company, with registered capital of Rmb600 mn. The investment was made together with other investors. Alibaba has three small loan companies working as loan issuers for Alibaba suppliers (2) Chongqing Alibaba Small Loan Company: In June 2011, Alibaba s overseas subsidiary set up the second small loan company, Chongqing Alibaba Small Loan Company, with three other investors. (3) Chongqing Ali SME Small Loan Company: In August 2013, the third small loan company under Alibaba, Chongqing Ali SME Small Loan Company, was set up as a wholly owned company of Ali SME Financial Service Group. There are several differences between a bank and a small loan company. The leverage of a small loan company is restricted to 0.5; it can only lend on its own capital or borrow from no more than two banks; it must have at least two shareholders, the biggest one can t hold over 30%; there is a cap on each loan and its business is restricted to local areas. The three small loan company licenses Alibaba received were quite different, thanks to policy The three different small loan company licenses Alibaba received facilitate its small loan business Sino Hotspot Series: Internet Finance 26

27 breakthroughs by local government. The first one allows Alibaba to lend to its suppliers nationwide under a JV structure. The second one allows Alibaba to do Internet lending business under a JV structure. The third one allows the group to be the sole shareholder. Figure 33: Alibaba small loan companies' business process Asset securitization Loan issuance via Alipay account system Securities firms Insurance companies Asset management companies Trust companies Ali small loan companies Credit Loan Receivables loan Customer base Credit model Loan issuance Risk control Commercial banks Source: Company data Figure 34: Alibaba s asset securitization Partner Time Size Shandong Trust Rmb240 mn Rmb120 mn Oriental Securities Asset Management Company present Five products totalled Rmb2.5 bn, another five valued Rmb500 mn each in plan, traded on Shenzhen Stock Exchange Wanjia Gongying Asset Management Company Rmb200 mn under Wanjia Asset Minsheng Tonghui Asset Management Company Rmb mn China Merchants Bank N/A N/A Source: Sina Tech Channel Alibaba has two products for SMEs: credit loans and receivable loans. As of April 2013, the first two small loan companies issued 8,030,800,000 loans totalling Rmb81 bn to 240,300 businesses. The average amount of each loan was Rmb10,126. As of April 2013, 114,800 outstanding loans totalled Rmb1.98 bn, with a customer count of 43,800. The NPL ratio was 1.23%. The two companies have issued loans of over Rmb100 bn to date. Ali SME Financial Service Group At the end of 2012, Alibaba decided to restructure its financial business lines and set up Ali SME Financial Service Group ( The group ). The current group is a transitional arrangement. 40% shares of the group will be given as staff incentive, including no more than 7.3% for Jack Ma, while 60% will be left for strategic investors. The core strategy of the group, as CEO Lucy Peng explained, is to convert unconventional Internet trading data into credit records that could be recognised and commercially used for financial services. These trading data on Taobao and Alibaba are mostly from SMEs or individuals. Thus Ali SME Financial Service Group focuses on SMEs as its core customers. Internet insurance Zhong An Insurance officially opened to business in November The company had several shareholders including Alibaba, Ping An, Tencent and Ctrip. Alibaba has the largest holding of 19.9%, followed by Tencent and Ping An holding 15% each. Currently, the company has about 70 staff, most of whom are working in product and business development teams. Alibaba has two products for SMEs: credit loans and receivable loans Alibaba's financial business lines restructure and set up of "The group" The core strategy of the group is to convert unconventional Internet trading data into credit records Zhong An insurance officially opened to business in November 2013, with Alibaba the largest shareholder Sino Hotspot Series: Internet Finance 27

28 According to Zhong An Insurance, it plans to develop all types of Internet-related property insurance business, not an online distribution channel for existing insurance products. Zhong An released its first product on 25 November 2013, a contract execution insurance policy targeting Taobao sellers. E-commerce delivery insurance and mobile payment fund security insurance will also be served by Zhong An. Zhong An will have competition with other insurance companies, including its shareholder Ping An. Currently, delivery insurance for Taobao shopping is provided by Huatai Insurance Group, Alipay fund security insurance by Ping An, and WeChat fund security insurance by PICC. Zhong An intends to develop all types of internet related property insurance business Zhong An also competes with its shareholder, Ping An Sino Hotspot Series: Internet Finance 28

29 Jingdong (JD) Figure 35: Jingdong's Internet finance-related business Company Product/service Activities comps JD (360buy) Payment October 2012: JD acquired 100% stake in a third-party payment company China bank Payments. Supply chain finance November 2012: Supply chain finance was launched in cooperation with banks and securities firms and its own factoring license. Factoring June 2013: Shanghai Banghui Commercial Factoring Company was set up. Small loan Fund and insurance sales In progress Consumer loan company Financial leasing September 2013: JD's application for a small loan company was cleared. In progress In progress Source: Company data, Sina Tech, Credit Suisse Research JD started its supply chain financing in late In the medium term, JD s finance business will consist of two parts, loans to businesses and individuals, and financial product distribution. JD s large business volume generates significant amount of accounts payable, which it holds for ~45 days, according to the company. The idea of making best use of these funds was the origin of JD s finance business. Finance became one of the main focus of JD group in 2013 in the form of JD Finance Group. Figure 36: JD's lending model Global PayPal JD s finance business will consist of two parts Source: Company data, Credit Suisse research JD secured Rmb15 bn quota of loans from top 15 banks and retailed them to suppliers. The average amount of each loan was Rmb1 mn. JD negotiated borrowing rates with banks, lent to suppliers at higher rates (9% on average, 12% the highest) and earned the spread. These loans were effectively secured by JD s orders and within 45 days. The NPL ratio was very low, thus JD decided to lend to best customers with its own capital. The scale of JD s own lending exceeded Rmb6 bn in ten months. According to Sina Tech Channel, in 2014, JD plans to extend its lending services to individual customers when its own payment system, Chinabank Payments acquired in October 2012, is established. The company claims to have 200 mn customers and over 20,000 suppliers. The focus of JD lending is still facilitating faster development of JD s e- commerce business. JD earns the spread between bank rates and its lending rates JD loans were effectively secured by its orders According to Sina Tech Channel, JD plans to extend its lending services to individual customers via its own payment system, Chinabank Payments Sino Hotspot Series: Internet Finance 29

30 Since Alipay launched Yu'E Bao, JD also started to build its financial product distribution platform. Twenty two Insurance products are available on baoxian.jd.com. JD started to build its financial product distribution platform after Yu'E Bao Figure 37: Potential business structure of JD Finance Group Source: JD s online recruitment Information Sino Hotspot Series: Internet Finance 30

31 Financial institutions: Evolution favours the fittest Banks Banks would be the first to be challenged by Internet finance, given they have been dominating China's finance industry for decades. SME and uncollateralised personal lending, some payment and cash management services, and fee incomes from financial products' distribution are the major areas that would face intense competition from Internet companies. We also see that some low-end depositors are putting money into liquid and convenient online investment products, such as money market funds, potentially threating banks' deposit acquisition. ST impact limited We expect Internet finance players to bring very little P&L impact to banks in the next two years, for the following reasons: Banks are the first to be challenged by internet finance SME / Payment / Product distribution are not major revenue sources for banks Currently, most Internet finance players target very small enterprises for their lending business (typically unit lending size below Rmb0.5 mn), especially those who can hardly get credit facility from banks (banks tend to do SME loans with >Rmb3 mn unit size). These SMEs are not the targeted client segment for banks as of now; hence, we see little impact in that area. Online and mobile payment services are seeing strong growth, but as payment, settlement and clearance tend to account for <5% of banks' total revenue, the impact is also limited. Similarly, agency fee income has even smaller revenue contribution and hence impact small. Internet finance players have weak capital base and brand recognition Further, with the exception of a handful large internet companies, most internet finance players have very weak capital base or brand recognition. Thus, they may record strong business volume growth, given the low base; however, their ability to meaningfully gain financial product market share tends to be weak. This applies to capital-intensive products lending in particular, as the banking regulator is most likely to require certain capital ratio. Products' comprehensiveness is not yet comparable to banks As of now, most internet finance companies are providing certain products that may appear very attractive to customers. However, they cannot provide comprehensive products, compared with banks, especially in the areas of corporate banking. In other words, customers may put some funds to buy interbank financing products but they are most unlikely to completely move their funds from banks to these players. SME/Payment/Product distribution are not major revenue sources for banks Internet finance players have weak capital base and brand recognition Products comprehensiveness is not yet comparable to banks Sino Hotspot Series: Internet Finance 31

32 however, LT impact meaningful That said, we do believe that in the long run, an interbank financing business model can meaningfully change the banking competitive landscape and force banks to restructure their business models. Ultimately, we believe internet finance players are creating competitive pressure due to the following reasons: Internet finance players are creating competitive pressure on banks Internet companies creating new customer behaviour Internet companies are changing many things, including corporate/retail customer behaviour. Banks need to understand how their customers invest, sell, consume and invest in a new Internet era this is a big challenge. Internet companies conduct risk analysis, client acquisition and product promotion based on behavioural analysis; hence, they are cheap and more precise. Also, many Internet finance companies do lending business based on behavioural analysis. For instance, a payment service provider can lend money to an SME based on the respective POS transaction history; a B-to-C online mall operation can meet merchants' financing needs based on their online sales trends, or promote personal lending products based on personal shopping preferences of customers. Such behavioural-based risk analysis is completely different from conventional risk analysis framework, and arguably more reliable and definitely cheaper, given it requires much less manual effort. This also applies to cost management as internet finance players can do the same to client acquisition or product promotion, ultimately providing them huge cost efficiency and advantage versus conventional banking business model. In the long run, banks' conventional advantage of network may turn out to be a cost burden if banks do not actively transform their businesses and mitigate costs. Internet companies have to bear much less regulatory burden Currently, China banks are very tightly regulated, creating certain business opportunities for Internet finance players. In particular, Internet finance companies can provide faster service at lower costs, and can also explore some new business areas such as peer-to-peer lending. For instance, banks are required to have face-to-face meetings for any corporate lending business to avoid mis-selling; however, internet finance lenders can conduct risk analysis and lend money within minutes. An example is payment service. Banks have to use the PBOC inter-bank settlement system to provide cross-bank payment service, which carries a minimum charge; while third-party payment companies can largely avoid such an expense. Internet companies creating new customer behaviour Internet companies conduct risk analysis, client acquisition and product promotion based on behavioural analyses; hence, they are cheap and more precise Internet companies have to bear much less regulatory burden Internet companies have very commercial and flexible corporate culture Culture-wise, internet companies are much more commercial and flexible than commercial banks, making them very nimble and fast-responding to market changes. Ultimately, that also means that their ability to meet customer demands and product R&D capability tends to be better than banks. Minsheng, ICBC and CMB are better positioned, in our view We do not suggest banks to follow everything internet players are doing, as banks have much bigger operating size, bear meaningful regulatory burden and need to ensure their internal IT/management/evaluation systems stay largely stable. That said, we believe that currently most banks do not pay enough attention to the Internet financing trend, as they tend to view Internet financing merely a new way of providing service. They tend to underestimate the long-term impact of clients' behavioural change Internet companies have very commercial and flexible corporate culture Most banks do not pay enough attention to internet financing trend Sino Hotspot Series: Internet Finance 32

33 and their cost burden. They also worry about the potential cannibalisation, especially on the funding side they hesitate to introduce "Yu'E Bao equivalent" products. As of now, we view Minsheng, ICBC and CMB as banks better-positioned to succeed in the current Internet era. Minsheng has announced a strategic partnership with Ali Group, which means the two are likely to share basic information on new customers and issue cobrand credit cards, in our view. ICBC has a very advanced IT system and the strongest profitability among peers, enabling the bank to continuously invest. CMB has premium client base and long-established relationships with most domestic private equity firms, also giving them some advantages. Insurance Online distribution Online insurance distribution is mainly restricted to P&C products, in particular auto insurance. Life insurance s complexity makes it difficult to sell on the Internet, and it still requires a face-to-face sales process, with only simple life insurance policies such as accident insurance being sold online. The direct channel is especially appealing to customers in that the price is attractive, given the distribution/channel fee is saved. In China, typically the direct channel price is 15% lower than the price of the traditional agency channel. Right now, we estimate around 20-30% of the auto insurance sales are done directly with major companies, including PICC, Ping An and China Pacific, which are the market leaders. However, direct sales mainly constitute tele-marketing, with internet sales still being very small and there being no website with sizable traffic. Aggregator model: Destroys profit The most powerful type of online distribution is the aggregator model, which now controls more than 80% of the UK auto insurance market. In 2002, aggregator websites in the UK started to appear. Aggregator websites control customers and allow for easy price comparison among insurers. These websites also send renewal notices to customers. We view Minsheng, ICBC and CMB as banks betterpositioned to succeed in the current Internet era Online insurance distribution is mainly restricted to P&C products Direct channel is especially appealing to customers as the price is attractive The most powerful type of online distribution the aggregator model Figure 38: Direct channel bypassing brokers and partner Figure 39: Aggregator model particularly powerful Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates Pricing has been generally weak after the introduction of aggregator websites in the UK, and only recently improved after very poor result. The rise of such websites made way for smaller insurers, who can obtain high exposure for minimal marketing costs via aggregators. Pricing has been generally weak and results poor after introduction of aggregators in the UK Sino Hotspot Series: Internet Finance 33

34 Hence, we think the aggregator model is in particular very destructive to the insurance industry. We understand that there are some similar websites in China that provide products offered by different insurance companies. However, big insurance companies are reluctant to go on such websites with smaller insurers as the main partners. We also understand that the regulator is well aware of the potential destructive effect of the aggregator model, and hence is very cautious. China insurance companies and regulator are reluctant and cautious of aggregator websites Figure 40: Confused.com UK aggregator Figure 41: Aggregator model killed profitability 30% 25% 20% 15% 10% 5% 0% -5% -10% -15% -20% -25% Private - Comprehensive Private - Non-comp Motor Cycle Commercial Source: Company Source: Company data, Credit Suisse research Figure 42: Profitability lower at aggregator stage Source: Company data, Credit Suisse research Ping An s Internet model Ping An is a large financial conglomerate group and has over 80 mn retail customers from its insurance business. It has banking, trust and securities businesses as well. The company targets to provide full range of financial services to its customers it aims to be a one-stop financial services supermarket. The different businesses have substantial synergies, with 40% bank retail customers from insurance and 50% trust customers from insurance. The Internet distribution channel also fits well into Ping An's overall strategy. Hence, it has recently announced the set-up of online insurance company Zhongan Insurance, together with Tencent and another major Ping An: A large financial conglomerate group providing full range of financial services Ping An recently announced the set-up of Zhongan Insurance, an online insurance company Sino Hotspot Series: Internet Finance 34

35 internet company. It also set up Lufax more than two years ago, which mainly does P2P lending business. Figure 43: Ping An financial conglomerate business model Figure 44: Financial services supermarket Source: Ping An company presentation Lufax Source: Ping An company presentation Established in September 2011, Lufax started officially to carry out P2P lending business in January 2013, and, to some extent, B2B and B2C lending businesses as well. It mainly attracts borrowers online, i.e. around 70%, with 30% from other offline channels, while the lenders are all online. Lufax, as a subsidiary of the Ping An Group, is strong in risk management, given the background and it also collaborates with the group's guarantee company to better manage credit risks. It also operates in a secondary market, allowing for online secondary transaction of products, which adds liquidity, and is quite unique compared with other P2P lending models. Lafux started officially carrying out P2P lending business in January 2013 Lafux is strong in risk management Figure 45: New technology helps acquire customers Figure 46: Focus on serving customers using new technology Source: Company presentation Source: Company presentation Monthly sales stood at around Rmb mn, with 8.5% guaranteed interest for lenders, while the funding cost for borrowers could be as high as >20%. Sino Hotspot Series: Internet Finance 35

36 Revenue mix{%) 02 January 2014 Competition Currently, the internet finance race is between two models (1) Internet companies with strong retail customers doing finance and (2) financial companies building online capacity. Overall, however, it is a big enough market. While other players are more about selling other financial institutions' products, Ping An has strong risk management capability and understands financial products. Brokers Global practice Globally, we have seen the successful business models of online brokers such as E trade and Interactive Brokers in the US. These brokers mainly provide a user-friendly online trading system and low commission rates, and have grown rapidly. However, we highlight that the success has been seen mainly in the retail investor space, while investment banks, such as Goldman Sachs and Morgan Stanley, still dominate the institutional space, which constitutes the majority of the market. Chinese case The Chinese brokerage industry is rather fragmented, with 114 brokers, and is mainly dominated by retail investors with relatively small institutional market share, compared with developed markets. The commission rate in China has been stable for the past two years for the industry at 8 bp, with some smaller brokers struggling to make a profit at this level due to scale. Two models of the Internet finance race, Ping An is stronger in risk management Online brokers are only successful in the retail investor space Chinese brokers mainly dominate in retail investors; commission rate has been stable Figure 47: Commission rate stable in China 0.12% Figure 48: Brokerage business 30-40% of revenue 100% 0.09% 80% 60% 0.06% 40% 0.03% 20% 0.00% FY10 FY11 FY12 1H13 Commission rate Source: Company data, Credit Suisse estimates Source: Company data, Credit Suisse estimates The commission level in China has been under pressure given the price competition and the introduction of pure online customers. For example, we heard comments suggesting that some smaller brokers charge as low as 3 bp commission for a pure online customer in some cases. However, we highlight that more than 90% of the secondary market trade is done via Internet already, with the branch office and outlets now serving more as a servicing centre rather than a trading one. The brokers have also started introducing light outlets, with an intention to cut costs. Note that typically, the set-up cost for these light outlets is very low, and there is often no sophisticated trading system in place just certain employees providing consultation services. Chinese brokers also look to divert focus away from pure price competition and increase client stickiness by providing more value-added services, such as allowing research access, providing advanced products such as margin finance, and stock lending. 0% Citic Haitong Galaxy Equity brokerage Future brokerage Trading Investment banking Assets management Private equity Oversea Interest income Investment income Other Commission level in China has been under pressure More than 90% of secondary market trade is done via the Internet, and brokers have started introducing light outlets Chinese brokers have started increasing client stickiness Sino Hotspot Series: Internet Finance 36

37 In the medium term, we do not think brokers model will be greatly challenged in China with license control in place. However, we do think brokers need to improve their efficiency given the extensive network, i.e. high cost base and the move towards the high-end market, where price competition is not key. Chinese brokers' models will not be greatly challenged, but need improvement The online insurance distribution is mainly restricted to P&C products; in particular, auto insurance, and, to some extent, life insurance such as simple accident insurance policies. Life insurance s complexity makes it difficult to sell on the internet, and it still requires the face-to-face sales process. The direct channel is especially appealing to customers in that the price is attractive, given the distribution/channel fee is saved. In China, typically the direct channel price is 15% lower than the price of the traditional agency channel. Right now, we estimate around 20-30% of auto insurance sales are done directly with major companies including PICC, Ping An and China Pacific, which are the market leaders. Major attraction of direct channel is the lower price to customers Sino Hotspot Series: Internet Finance 37

38 Technology pushing reforms Internet finance is a rather new phenomenon, so there could be a number of new companies, new phenomenon and new business models emerging in next few years, and generating a new group of winners and losers. At the moment, an interesting development in the Internet finance universe is the impact of the interaction of Internet finance, interest rate liberalisation and financial disintermediation on the entire financial system, reflecting in the strong sales growth of Yu'E Bao of Alipay in last few months (Figure 7 on p.2). To start with, in the last few years, with the sharp rise in required reserve ratio (RRR) of bank deposits, and the strong credit demand, overnight interbank credit is becoming tight from late 2011 onwards, and in the last two years a significant gap has been created between overnight SHIBOR and the interest rate banks gave to the current account of a depositor. Therefore, it creates a room for the short-term money market fund to capture market share from bank deposits as they could easily give investors a 4%-plus return through such high interbank rate. Research Analysts Vincent Chan [email protected] Contribution by Hu Shen Please refer to page 55 for relevant disclosures for this section Figure 49: Overnight SHIBOR and savings deposit rate 9 8 % Jan-07 1-Jul-07 1-Jan-08 1-Jul-08 1-Jan-09 1-Jul-09 1-Jan-10 1-Jul-10 1-Jan-11 1-Jul-11 1-Jan-12 1-Jul-12 1-Jan-13 1-Jul-13 Source: CEIC Savings Deposit Overnight SHIBOR Compared with other countries, the overnight SHIBOR is lower than that of Indian rupee and Indonesian rupiah, slightly higher than Malaysian ringgit and Aussie dollar, but much higher than other major currencies. However, China's Internet penetration is much deeper than economies such as India and Indonesia, with a much more active e-commerce market and the fund management industry is more developed as well. Therefore, when Alipay offered the product Yu'E Bao; it effectively combined a spending account in one e- commerce platform with an investment yield much higher than current deposit rates offered by banks (see Figure 55 on p.43). This phenomenon is discussed in a speech by Mr. XIE Ping, Vice Chairman of China Investment Corporation (former senior official in PBOC), about the revolutionary nature of Internet finance. His view being that through the combination of an effective payment settlement account and a reasonably high investment yield, the Yu'E Bao account is challenging traditional banking (See A big e-commerce platform + high yield money market = instant success of Yu'E Bao Sino Hotspot Series: Internet Finance 38

39 Figure 50: Overnight interbank rate across different countries 10 9 % CNY * As of 18 December Source: CEIC USD Looking ahead, we see the following developments: (1) Unless there is a meaningful change in China's monetary management system, there will still be a gap between overnight interbank rate and savings deposit rate, and the attractions of money market products will remain. (2) Companies with large customer database have the ability to provide more functionality to the investment account for example, they can be used for daily consumption activities and will be in a very advantageous position. However, such products face significant settlement challenge, and whether a company can deal with this problem will go a long way in determining their success. (3) The deposit franchise of commercial banks will face serious challenges. How they react will be crucial to their business in a few years down the road. (4) This development could change the roadmap of Chinese regulators on the interest rate liberalisation in China. Under the government's stated plan, interest rate liberalisation should start with long-dated deposits and deposits by larger depositors. However, now in effect, interest rate liberalisation is forced on the banks for small retail depositors on short-term deposits. Whether the regulators will impose control on this development, and how are they going to do it, will go a long way in determining winners and losers, as well as China's long-term financial system risks. The US experience GBP EUR JPY AUD It may be helpful to compare what's happening in China now with that in the US in the 1970s and 1980s, when MMFs played an important role in the process of interest rate marketization. In 1971, the Reserve Fund, the first money market fund in US history, was offered to small depositors. It was a substitute for deposit account and bypassed Regulation Q, which prohibited banks from paying interest to demand deposit accounts. Regulation Q also imposed caps on interest paid to other types of bank accounts at the time. IDR INR HKD SGD TWD MYR Large customer database and the ability to provide more functionality to the investment account is key Roadmap of interest rate liberalization could be affected Money market funds created in the US in 1971 to bypass Regulation Q Sino Hotspot Series: Internet Finance 39

40 In May 1974, Fidelity Daily Income Trust (FDIT) was registered with the SEC and became the first money market fund to support check writing. The innovative product sold more than US$0.5 bn in 1974, representing 20% of the outstanding money market fund shares in that year. Much of them were sold to new investors. MMF which support check writing in 1974 was a big success Figure 51: Development of money market funds in the US 400% 350% Y-Y% 300% 250% 200% 150% 100% 50% 0% -50% Money market fund asset Mutual fund asset Source: Federal Reserve Board Annuals FDIT was very much like the 1974-versioned Yu E Bao. The latter supports online payment, mobile phone refill, credit card payment, bill splitting and money transfer. Coincidently, Yu E Bao also took up around 20% of the total size of Chinese money market funds in its first year. More importantly, it has reminded people of such a big interest rate gap that can easily be captured. More companies are eyeing the market of Rmb16.7 tn household demand deposits now, and some of them like WeChat are well capable of developing similar products, just like more money market funds emerged in the 1970s. The multi-functionality of Yu'E Bao is a key reason of its success Figure 52: Substitution effect of money market funds and current deposits 20% 18% % of disposable personal income 16% 14% 12% 10% 8% 6% 4% 2% 0% Checkable deposits and currency Outstanding money market fund shares Source: Federal Reserve Board Annuals Money market funds developed most rapidly when CPI was very high (11.3% in 1979, 13.5% in 1980 and 10.3% in 1981; 4.8% in 1989 and 5.4% in 1990). Deposits kept converting into money market fund shares. As a result of this alternative and other MMF does well under high inflation Sino Hotspot Series: Internet Finance 40

41 avoidances like NOW (negotiable Order of Withdrawal) account, almost all the interests have been set free in Money market funds continued developing. In 1997 outstanding money market fund shares held by household sector for the first time exceeded household current deposits. In 2007, the money market shares held by household sector hit US$1.3 tn, over eight times of household current deposits. In 2008, all the outstanding shares of money market funds in the US recorded US$3.7 tn, a historical high. During the financial crisis they were also hit by liquidity crisis and regulatory changes are still under discussion. The development of money market funds also depends on the interest rate environment, liquidity risks and policy changes. In July 2011, Paypal closed its money market fund, a product quite similar to Yu E Bao, due to low interest rate and poor performance. So did some other money market funds. MMF bigger than household current deposits in the US in 1997 Low short-term rate environment not favourable to MMF Figure 53: US government long bond yields /1 1963/1 1969/1 1975/1 1981/1 1987/1 1993/1 1999/1 2005/1 2011/1 Source: CEIC The money market mutual fund shares held by household sector were around US$1 tn by 2012, 38% of total outstanding money market mutual fund shares, and 124% of household current deposits. Money market fund taking off US: Government Bond Yield: Long Term (IMF) By October money market fund assets totalled Rmb575 bn in China, 1.9% of the total of household and non-financial enterprises demand deposits. We expect money market funds to take off in China and Internet is going to play an important role in the process. A large proportion of fund investors are already Internet users. According to a 2012 survey by Asset Management Association of China, over 70% of fund investors collected information about mutual funds from the Internet but an ignorable number of purchases happened on the Internet. Also, in the survey, 28% of investors said they were interested in MMF. MMFs only accounted for 1.9% of current deposits in China 70% of Chinese fund investors collect information from internet Sino Hotspot Series: Internet Finance 41

42 Figure 54: Development of mutual funds and money funds in China Mutual funds Money funds Time Number AUM (Rmb bn) Number AUM (Rmb bn) Source: Asset Management Association of China (AMAC) We notice a gap between online shopping and online investment in China. According to China Internet Network Information Centre, 271 mn Chinese, or 45.9% of Chinese netizens, have shopped online. The size of Internet retails is going to reach Rmb1.8 tn by 2013, to exceed Rmb3 tn in 2015, according to estimates by MOFCOM. Figure 55: 2012 net purchase by fund type Fund Net purchase Individual net purchase Institutional net purchase type (Rmb bn) (Rmb bn) (Rmb bn) Stock fund Hybrid Bond fund Money fund QDIII Source: AMAC An organic connection converted Taobao customers into Yu E Bao investors. But soon the asset of Yu E Bao outgrew the spare money people left in Alipay for their next online shopping. People are moving their demand deposits out of banks. Products that are inherently associated with online shopping, offer fund security insurance, and support convenient cash out and transfers, are likely to have an advantage at least this is what we expect. If 10% of current household demand deposits and 1% of enterprise demand deposits can be mobilised by 2014, it means Rmb2.3 tn MMF (money market fund) assets. If 20% of current household demand deposits and 10% of enterprise demand deposits can be mobilised by 2020, assuming no economic growth thus no change in deposit size, their assets could surpass Rmb5 tn, equalling 10.2% of 2012 GDP. It s not very difficult to imagine. In the US history, seven years after the birth of the first checkable MMF, their assets grew from 1.5% in 1974, to something equalling half of household demand deposits. 45.9% of Chinese netizens have shopped online Organic connection between Taobao customers and Yu'E Bao investors We expect MMF to reach Rmb2.3 tn in 2014 and over Rmb5 tn by 2020 Sino Hotspot Series: Internet Finance 42

43 Figure 56: How far can money market fund grow with the help of Internet finance? China Oct' * 2020* Rmb bn Rmb bn Rmb bn US$ bn US$ bn US$ bn US$ bn US$ bn Money Market Fund (MMF) 575 2,454 5, ,054 Household Demand Deposits 16,744 15,141 13,458 Enterprise Demand Deposits 13,610 13,701 12,455 Total Demand Deposits 30,354 28,841 25, US MMF as % of Demand Deposits MMF as % of GDP Demand Deposits as % of GDP * 2014 forecasts: Assume 10% of household demand deposits and 1% of enterprise demand deposits converted to MMF forecasts: Assume 20% of household demand deposits and 10% of enterprise demand deposits converted to MMF. To simplify the analysis, we assume the economy in a static state, i.e. no growth in GDP, MMF, household and enterprise demand deposits (before diversion to MMF. Source: Federal Reserve Board Annual, Asset Management Association of China, Credit Suisse estimates Accelerating interest rate liberalisation Money market funds are not allowed to join interbank lending market. A large portion of their assets are invest in interbank deposits instead, interest rates of which are negotiable and follow SHIBOR as benchmarks. When liquidity is tight on the interbank market, like the year-end, the return of Yu E Bao is higher than the highest five-year term deposit rate. Please refer to Figure 55 below. Figure 57: 7-Day average return of Yu E Bao in one recent month, compared with the current deposit rate 7% Most assets of MMF are invested in interbank deposits 6% 5% 4% 3% 2% 1% 0% 2-Nov 9-Nov 16-Nov 23-Nov 30-Nov 7-Dec 14-Dec 21-Dec Yu'E Bao 7-day average return Current deposit rate 1-year term deposit rate 5-year term deposit rate Source: PBOC and Yu E Bao Shibor ON Rapid development of MMFs may interfere with China s official plan for interest rate liberalisation. China has reiterated its goal of completion of interest rate liberalisation, although the central government never stated an explicit timeline. According to the Chinese government's plan, interest rate liberalisation should start with large and longmaturity deposits. The most recent move is the launch of negotiable certificate deposits (NCD) on interbank market in December. However, MMFs are replacing the short-term and small deposits, and force short-term deposit rates to be priced closer to the market Rapid development of MMFs could distort the official roadmap of China's interest rate liberalisation Sino Hotspot Series: Internet Finance 43

44 level. So in effect, interest rate liberalisation is forced on the banks for small retail depositors on short-term deposits. Banks themselves have long been aware of this trend. They issue high-return wealth management products to absorb deposits. According to a report by China Banking Association, assets of bank wealth management products (WMPs) totalled ~10 tn by 2012, and the average return level of these products remained between 4.0% and 4.5% in recent years. MMFs like Yu E Bao score over bank WMPs in three ways. First, the lower-limit on duration of fixed-term bank WMPs is set to be 30 days, while shares of Internetcustomised MMFs can be redeemed within hours thus have better liquidity. Second, the threshold of bank WMPs is set at Rmb50,000, while Internet-customised MMFs have no real threshold. Finally, Internet distribution is much lower cost, more convenient, and often greatly benefits from viral marketing. Some asset management companies are permitted to offer MMF T+0 redemption service for direct-sales customers starting 2012 (similar to Yu'E Bao). MMFs like Xianjinbao by Southern Asset Management ( and Super Wallet by Guotai AMC ( score over bank WMPs in three ways. First, the lower-limit on duration of fixed-term bank WMPs is set to be 30 days, while MMFs enjoy better liquidity. Second, the threshold of bank WMPs is set at Rmb50,000, while Internet-customised MMFs set no real threshold. Finally, Internet distribution is much lower-cost and more convenient. However, they are still quite different from Yu E Bao, which greatly benefits from its association with a large e-commerce platform and multi-functionality of the account. Interest rate liberalisation is necessary and positive for China, in our view. Meanwhile, long-term and big deposit first is understood as a principle to avoid volatility. We believe until China removes interest rate caps on demand deposits, arbitrage opportunities will exist in the twisted interest rate system, and banks will face small depositors leaving. Overtime banks balance sheets and financing cost should change accordingly. If radical changes first happen to short-term and small deposits, i.e., if household and non-financial enterprise deposits, or 30% of China s total deposits, are repriced very quickly, whether the real economy can afford this is an open question. Banks have already issued higher yield WMPs to absorb deposits Duration and minimum amount of investment is much smaller for MMFs comparing to WMPs Other money market funds also have advantage over bank WMPs The rise of MMFs could be a threat to banks' business and the real economy Figure 58: Private sector interest rates Source: CEIC Sino Hotspot Series: Internet Finance 44

45 Whether the regulators will impose control on this development, and how are they going to do it, will go a long way to determine winners and losers, as well as China's long-term financial system risks. Figure 59: Percentage of household current deposits in China s total deposits Source: PBOC On the other hand, inter-bank deposits are currently not included in 75% loan-deposit ratio, or fall under 20% deposit reserve ratio requirement. However, in reality some of these deposits leak through backdoor arrangements to become loans to enterprises. MMFs can influence the monetary multiplier and may increase money supply in real economy. Regulation on Internet financing More lending activities are happening outside banks. Due to regulatory competition, regulatory void, campaign for innovations and equal access, license requirements and regulations for certain business are compromised. The traditional financial supervisory framework based on license control works less effectively in internet world, which resulted in different regulatory burden. A new effective regulation framework may take some time to form. PBOC pays close attention to the development of internet finance by conducting intensive surveys as early as We believe the key issue here is to strike a subtle balance - to curb financial risk and avoid mass events without suffocating innovation. License control compromised China s finance sector has been under the protection of license control. Institutions need to have licenses to conduct financial business, thus licenses sometimes have market value. Some argue that competition among licensed institutions is fierce. That s true when you compare it with the old days of windfalls, but it is still anything but easy to start a new bank or a security firm. As a result, licensed institutions strictly follow government instructions about what they can and can t do. When exploring financial business, Internet companies have received favourable policy treatment from local governments to different extent, and done their business in a grey area of regulatory framework, thus license requirements for certain financial business are bypassed. Employing new technologies, using different charging methods or being interpreted differently, dubious activities that could be identified as 'not allowed' have been given green lights. Internet companies have a strong try-and-error culture and are not afraid of testing and pushing forward bottom lines when they deal with regulators. MMF can affect the money multiplier as it is not subject to RRR constrain License requirements are compromised with more lending activities moving outside the traditional banking system Market value of licence will decline New technologies could bypass regulatory control Sino Hotspot Series: Internet Finance 45

46 Lack of applicable regulation gave Internet companies more flexibility in product design and cost advantage without reserve requirement in place. Whatever these business models are called, Internet companies are running most functions of banks, if not all. Indeed, you can do the same business and earn the same profit without any license, if you do it in a different way. Internet companies are having more flexibility in product design without specific regulatory control License value declining and deregulation benefits These Internet-related financial product experiments are tolerated by regulators so far. Deregulation and more opening up are one of the themes in China s financial reform. They echo the ideas China s new leadership campaign, like a compacter administrative approval system, reform, innovation and equal access for private capital. Value of various licenses may gradually decline. Development of Internet finance may reshape the market and competitions will be encouraged. These Internet-related financial product experiments are tolerated by regulators so far The essential role of banks in China financial system is the first to be challenged. Banks used to be the largest asset centre, loan issuer and distributor. Now they are turning to internet partners for promotion, customer searching and credit evaluation. For brokers, licensed branches that use to be the most precious assets will slowly lose their value and become a drag. Asset management companies rush to offer customized products to internet companies, in order to reach their next-generation customers. It is common expectation that the first banking license for private capital will be issued before March Although the idea of a pure internet banks sounds interesting, we believe it is not going to happen very soon. It is quite possible that pilot private banks will receive licenses for restricted business types or scope. Society stability is still the top concern of China. We also doubt a pure online broker will be permitted any time soon. At present, investor accounts opened on internet by traditional securities brokers are not allowed to trade stocks. Risks and new regulatory framework Internet finance activities make the sector more vibrant. They also bring new challenges to regulators, for they can take flexible forms, develop fast and hide in regulatory void. To date, small loan companies lending data is included in aggregate social financing reading, but no reliable data is available for P2P lending and crowd funding, and no one is overseeing what s happening. Finance deregulation brought by Internet can be risky to China s financial system. History showed financial disintermediation was always a key factor leading up to financial crisis and financial disintermediation + Internet finance could make the regulatory tasks even more difficult to tackle with. We understand it is not going to come out very easily, but regulators will need to accelerate the pace. To a large extent, the last three major financial crisis we have observed from 1980s onwards have somehow to do with financial liberalization. Efficiency of the financial system and its safety are always in a very delicate balance. In China today, it is the combination of technology (Internet finance) and deregulation which is challenging the status quo, and it may not be easy to manage. A pure Internet bank or broker is not likely anytime soon P2P lending and crowd funding activities are not captured in social financing data Financial dis-intermediation was always a key factor leads to financial crisis Sino Hotspot Series: Internet Finance 46

47 Figure 60: Comparing the last three financial crises East Asia Financial Crisis Japan Economy Bubble Global Financial Crisis Loose Monetary Policy N/A Increase in monetary supply translated into a rise in asset prices and led to an investment boom in real estate sector. Excessive liquidity was lent to creditors who are barely creditworthy and increased investment in real estate. Interest rate High, boost foreign borrowing. Low, added to excessive liquidity. Low, added to excessive liquidity. Exchange rate Financial Market liberalization Insufficient regulations Source: Credit Suisse research Dollar-pegged exchange rate facilitates foreign borrowing, with large amount flowing into nonproductive sectors. Inappropriate sequence of liberalisation allows a burgeoning short-term private capital flowing in, causing credit boom and funds flowing into non-productive assets like real estate. Regulations and supervisions did not keep pace with rapid capital inflows: corporate debt-equity ratio rose to high levels, little time screening the integrity of owners and managers, etc. The great appreciation on yen dampened economic activity, and reduced Japan's growth rate. N/A N/A N/A Policy deregulations to encourage business; policies to boost housing mortgages; policy support for financial innovations. Less oversight over activities and less disclosure of information in financial institutions. Financial innovations also increased the regulatory difficulties. Sino Hotspot Series: Internet Finance 47

48 Regulations Figure 61: Regulations related to interest rates and internet finance Year Regulations Reference 1991 A document by China's Supreme Court regulated that interest rate in informal lending < 最 高 人 民 法 院 关 于 人 民 法 院 审 理 借 贷 案 件 的 should not be higher than four times of bank lending rate, or it is not protected by law. 若 干 意 见 > CSRC cracked down the first case of illegal stock issuance on internet. In January 2013 a Beijing company sold its stocks to 153 people on Taobao.com and raised over 180,000. The company was required to refund to its investors. 国 务 院 办 公 厅 关 于 严 厉 打 击 非 法 发 行 股 票 和 非 法 经 营 证 券 业 务 有 关 问 题 的 通 知 CSRC regulations on fund distribution 证 券 投 资 基 金 销 售 管 理 办 法 : An inter-ministerial coordination institution of financial supervision, led by PBOC and joined by CBRC, CSRC and CIRC, was established. It is the highest-level regulatory body for finance supervision. 国 务 院 关 于 同 意 建 立 金 融 监 管 协 调 部 际 联 席 会 议 制 度 的 批 复 : A PBOC document pointed out that internet finance is a good supplement for existing financial system by providing characteristic services and various products, expanding coverage of financial service especially for SMEs, entrepreneurs and residents. es/goutongjiaoliu/upload/file/2013 年 第 二 季 度 货 币 政 策 执 行 报 告.pdf An internet finance development and supervision research team, led by PBOC and joined by CBRC, CSRC, CIRC, MIIT, MPS and State Council Legal Office, conducted html a survey in Shanghai and Hangzhou and visited Lufax and Alibaba. It was the largest government survey on internet finance ever PBOC deputy governor Liu Shiyu said P2P lending may become a money pool and shadow banking if it extended to offline. He emphasized two bottom lines that are not touchable: illegal deposit taking and illegal fund raising PBOC deputy governor Hu Xiaolian said risk research and evaluation system should be established. Internet finance like P2P, Yu'E Bao and small loan companies makes new requirements for financial supervision, consumer protection and macro control, she said PBOC governor Zhou Xiaochuan published an article and mentioned PBOC should regulate and guide healthy development of internet finance PBOC said it was designing method for right protection in financial consumption. Adequate risk alert and protection should be included in every internet finance business. html 05/ html 16/ html /4151/2013/ / _.html A P2P lending site in Hubei, xgtli.com, was investigated by local police for illegal deposit taking after it collapsed CSRC's interpretation for Baidu's cooperation with China AMC 关 于 华 夏 基 金 与 百 度 合 作 开 展 互 联 网 基 金 销 售 业 务 h/201311/t _ htm Taobao.com receives the first third-party e-commerce platform in fund distribution 证 券 投 资 基 金 销 售 机 构 通 过 第 三 方 电 子 商 务 平 台 开 展 业 务 管 理 暂 行 规 定 mgf/jj/jjxs/201310/t _ htm; h/201311/t _ htm A new function of a money fund under China Universal Asset Management, which supported 24-hour purchase and confirmation, was suspended by CSRC. h/201311/t _ htm The first local law to protect and regulate informal lending passed in Zhejiang G50.html Source: Government announcements and company websites Sino Hotspot Series: Internet Finance 48

49 Appendix Figure 62: Internet finance business of major internet companies and financial institutions Company Product/Service Activities Comps Baidu Payment July 2013: Baifubao received third-party payment service license. PayPal Small loan Credit card/loan search Financial product distribution Bank September 2013: Shanghai Baidu Small Loan Company Limited received approval. November 2013: Jinrong.baidu.com was launched. October 2013: The first product Baizhuan raised Rmb1 bn within hours on 8.baidu.com Potentially apply for a banking license. Alibaba Payment May 2011: Alipay received third-party payment license. PayPal Small loan March 2010: Alibaba established Zhejiang Alibaba Small Loan Company. June 2011: Alibaba set up Chongqing Alibaba Small Loan Company. August 2013: Chongqing Ali SME Small Loan Company was established. Financial product distribution July 2012: Licai.taobao.com was launched and began to sell insurance products. November 2013: The platform covers insurance and funds. Bank WMPs were in plan but cancelled for compliance reasons. March 2013: Ali SME Financial Service Group was established to incorporate all the financial businesses in Alibaba Group. Fund sales June 2013:6 Finance Prod was launched in cooperation by Tianhong and Alipay. November asset management companies opened their flagship stores on Taobao to offer over 100 funds. Fund management October 2013: Alipay s parent company offered to buy 51% of Tianhong. The deal still needs approval from CSRC. Insurance October 2013: Zhongan Online Property Insurance Holding was established. It announced the first product in November. Alibaba holds 19.9%. Guarantee August 2012: Alibaba Hong Kong company founded Shangcheng Financing and Guarantee Company in Chongqing Chongqing Ali SME Financing and Guarantee Company was established. Credit payment/credit card Credit payment was scheduled to launch in 2013 but Ali failed to meet this target. (need to check) Tencent Virtual currency Q coin Global Payment May 2011: Tenpay received third-party payment license. PayPal Insurance Fund distribution Bank August 2013 WeChat Payment was launched. October 2013: Zhongan Online Property Insurance Holding was established. Tencent holds 15%. May 2012: Tenpay received a license for payment and settlement service for fund sales. November 2013: Four asset management companies may start selling money funds on WeChat. September 2013: Tencent was reported to be applying for a banking license. Forex trading and currency exchange Tenpay receives a pilot license for cross-border e-commerce payment business from SAFE Online brokerage November 2013: Sinolink Securities announced 2-year partnership with Tencent, which covers online securities brokerage, online wealth management and offline private wealth management. JD (360buy) Payment October 2012 JD acquired 100% stake in a third-party payment company China bank Payments. Supply chain finance November 2012 Supply chain finance was launched in cooperation with banks and securities firms and its own factoring license. Factoring June 2013: Shanghai Banghui Commercial Factoring Company was set up. Small loan Fund and insurance sales Consumer loan company Financial leasing September 2013: JD's application for a small loan company was cleared. In progress ( In progress ( In progress Charles Schwab PayPal Sino Hotspot Series: Internet Finance 49

50 Figure 63: Internet finance business of major internet companies and financial institutions (continued) Company Product/Service Activities Comps Sina Payment Sina received third-party payment license in July Fund distribution Weibo Wallet. According to Sina management, it hopes to integrate Weibo and Sina payment and promote the concept of social networking payment ( Global Suning Online brokerage Charles Schwab Payment July 2012: Yifubao received third-party payment license. PayPal Fund sales Supply chain finance October 2013: Yifubao received license for fund sales payment. EastMoney Fund distribution Huoqibao sold Rmb9.8 bn in Q China Merchants Bank Online brokerage P2P loan Targeting an online securities brokerage license. ( Firstly launched in September, but soon suspended after 8 financing deals completed. Ping An Insurance October 2013: Zhongan Online Property Insurance Holding was established. Pingan holds 15%. P2P loan September 2011 Lufax started business. Lufax may extend its business soon. China Minsheng Banking SME financing August 2013: Minsheng E-commerce company was set up as an affiliated company of Minsheng Bank, to focus on internet financing business. UnionPay Fund distribution October 2013: A similar product to Yu'E Bao called Tiantianfu was presented in cooperation with Everbright Pramerica. Source: Company data, Credit Suisse research Charles Schwab Zopa, Prosper, Lending Club Zopa, Prosper, Lending Club Sino Hotspot Series: Internet Finance 50

51 Companies Mentioned (Price as of 31-Dec-2013) Baidu Inc (BIDU.OQ, $177.88) China Merchants Bank - H (3968.HK, HK$16.52) China Minsheng Banking Corporation (1988.HK, HK$8.61) China Pacific (2601.HK, HK$30.4) Ctrip.com International (CTRP.OQ, $49.62) East Money Information Co Ltd ( SZ, Rmb15.18) E-commerce China Dangdang Inc. (DANG.N, $9.55) Fidelity National Information Services (FIS.N, $53.68) Goldman Sachs Group, Inc. (GS.N, $177.26) Industrial & Commercial Bank of China (1398.HK, HK$5.24) Lenovo Group Ltd (0992.HK, HK$9.43) Morgan Stanley (MS.N, $31.36) NetEase.com (NTES.OQ, $78.6) PICC P&C (2328.HK, HK$11.5) Ping An (2318.HK, HK$69.45) Prosperity Bancshares, Inc. (PB.N, $63.39) Qihoo 360 Technology Co. Ltd. (QIHU.N, $82.05) Sina Corporation (SINA.OQ, $84.25) SouFun (SFUN.N, $82.41) Tencent Holdings (0700.HK, HK$494.6) Important Global Disclosures Disclosure Appendix I, Vincent Chan, certify,, that (1) the views expressed in this report accurately reflect my personal views about all of the subject companies and securities and (2) no part my compensation was, is or will be directly or indirectly related to the specific recommendations or views expressed in this report. The analyst(s) responsible for preparing this research report received Compensation that is based upon various factors including Credit Suisse's total revenues, a portion of which are generated by Credit Suisse's investment banking activities As of December 10, 2012 Analysts stock rating are defined as follows: Outperform (O) : The stock s total return is expected to outperform the relevant benchmark*over the next 12 months. Neutral (N) : The stock s total return is expected to be in line with the relevant benchmark* over the next 12 months. Underperform (U) : The stock s total return is expected to underperform the relevant benchmark* over the next 12 months. *Relevant benchmark by region: As of 10th December 2012, Japanese ratings are based on a stock s total return relative to the analyst's coverage universe which consists of all companies covered by the analyst within the relevant sector, with Outperforms representing the most attractiv e, Neutrals the less attractive, and Underperforms the least attractive investment opportunities. As of 2nd October 2012, U.S. and Canadian as well as European ra tings are based on a stock s total return relative to the analyst's coverage universe which consists of all companies covered by th e analyst within the relevant sector, with Outperforms representing the most attractive, Neutrals the less attractive, and Underperforms the least attractive investment opportunities. For Latin Ame rican and non-japan Asia stocks, ratings are based on a stock s total return relative to the average total return of the relevant country or regional benchmark; Australia, New Zealand are, and prior to 2nd October 2012 U.S. and Canadian ratings were based on (1) a stock s absolute total return potential to its cur rent share price and (2) the relative attractiveness of a stock s total return potential within an analyst s coverage universe. For Australian and New Zealand stocks, 12 -month rolling yield is incorporated in the absolute total return calculation and a 15% and a 7.5% threshold replace the 10-15% level in the Outperform and Underperform stock rating definitions, respectively. The 15% and 7.5% thresholds replace the % and % levels in the Neutral stock rating definition, respectively. Prior to 10th December 2012, Japanese ratings were based on a stock s total return relative to the average total return of the relevant country or regional benchmark. Restricted (R) : In certain circumstances, Credit Suisse policy and/or applicable law and regulations preclude certain types of communications, including an investment recommendation, during the course of Credit Suisse's engagement in an investment banking transaction and in certain other circumstances. Volatility Indicator [V] : A stock is defined as volatile if the stock price has moved up or down by 20% or more in a month in at least 8 of the past 24 months or the analyst expects significant volatility going forward. Analysts sector weightings are distinct from analysts stock ratings and are based on the analyst s expectations for the fundamentals and/or valuation of the sector* relative to the group s historic fundamentals and/or valuation: Overweight : The analyst s expectation for the sector s fundamentals and/or valuation is favorable over the next 12 months. Market Weight : The analyst s expectation for the sector s fundamentals and/or valuation is neutral over the next 12 months. Underweight : The analyst s expectation for the sector s fundamentals and/or valuation is cautious over the next 12 months. *An analyst s coverage sector consists of all companies covered by the analyst within the relevant sector. An analyst may cov er multiple sectors. Sino Hotspot Series: Internet Finance 51

52 Credit Suisse's distribution of stock ratings (and banking clients) is: Global Ratings Distribution Rating Versus universe (%) Of which banking clients (%) Outperform/Buy* 43% (53% banking clients) Neutral/Hold* 40% (50% banking clients) Underperform/Sell* 15% (43% banking clients) Restricted 3% *For purposes of the NYSE and NASD ratings distribution disclosure requirements, our stock ratings of Outperform, Neutral, and Underperform most closely correspond to Buy, Hold, and Sell, respectively; however, the meanings are not the same, as our stock ratings are determined on a relative basis. (Please refer to definitions above.) An investor's decision to buy or sell a security should be based on investment objectives, current holdin gs, and other individual factors. Credit Suisse s policy is to update research reports as it deems appropriate, based on developments with the subject company, the sector or the market that may have a material impact on the research views or opinions stated herein. Credit Suisse's policy is only to publish investment research that is impartial, independent, clear, fair and not misleading. For more detail please refer to Credit Suisse's Policies for Managing Conflicts of Interest in connection with Investment Research: and analytics/disclaimer/managing_conflicts_disclaimer.html Credit Suisse does not provide any tax advice. Any statement herein regarding any US federal tax is not intended or written to be used, and cannot be used, by any taxpayer for the purposes of avoiding any penalties. Please refer to the firm's disclosure website at for the definitions of abbreviations typically used in the target price method and risk sections. See the Companies Mentioned section for full company names The subject company (3968.HK, 1988.HK, DANG.N, FIS.N, GS.N, 1398.HK, 0992.HK, MS.N, 2328.HK, 2318.HK, QIHU.N, SINA.OQ, SFUN.N, 0700.HK) currently is, or was during the 12-month period preceding the date of distribution of this report, a client of Credit Suisse. Credit Suisse provided investment banking services to the subject company (FIS.N, GS.N, 1398.HK, 0992.HK, MS.N, 2328.HK, 2318.HK, QIHU.N, SFUN.N, 0700.HK) within the past 12 months. Credit Suisse provided non-investment banking services to the subject company (3968.HK, FIS.N, GS.N, 1398.HK, 0992.HK, MS.N, 2318.HK, 0700.HK) within the past 12 months Credit Suisse has managed or co-managed a public offering of securities for the subject company (GS.N, 1398.HK, MS.N, 2318.HK, SFUN.N) within the past 12 months. Credit Suisse has received investment banking related compensation from the subject company (FIS.N, GS.N, 1398.HK, 0992.HK, MS.N, 2328.HK, 2318.HK, QIHU.N, SFUN.N, 0700.HK) within the past 12 months Credit Suisse expects to receive or intends to seek investment banking related compensation from the subject company (BIDU.OQ, DANG.N, FIS.N, GS.N, 1398.HK, 0992.HK, MS.N, NTES.OQ, 2328.HK, 2318.HK, PB.N, QIHU.N, SINA.OQ, SFUN.N, 0700.HK) within the next 3 months. Credit Suisse has received compensation for products and services other than investment banking services from the subject company (3968.HK, FIS.N, GS.N, 1398.HK, 0992.HK, MS.N, 2318.HK, 0700.HK) within the past 12 months As of the date of this report, Credit Suisse makes a market in the following subject companies (BIDU.OQ, CTRP.OQ, DANG.N, FIS.N, GS.N, MS.N, NTES.OQ, PB.N, QIHU.N, SINA.OQ, SFUN.N). As of the end of the preceding month, Credit Suisse beneficially own 1% or more of a class of common equity securities of (3968.HK, 1988.HK, 2601.HK, 1398.HK, 2328.HK, 2318.HK, QIHU.N). Credit Suisse has a material conflict of interest with the subject company (GS.N). As of the date of this report, an analyst involved in the preparation of this report has the following material conflict of interest with the subject company (GS). An analyst or a member of the analyst's household has a long position in the common stock of Goldman Sachs (GS). Credit Suisse has a material conflict of interest with the subject company (SINA.OQ). Credit Suisse is acting as financial advisor to E-House's wholly-owned subsidiary - CRIC Holdings Limited in its merger with SINA Corporation's online real estate business. Important Regional Disclosures Singapore recipients should contact Credit Suisse AG, Singapore Branch for any matters arising from this research report. The analyst(s) involved in the preparation of this report have not visited the material operations of the subject company (BIDU.OQ, 3968.HK, 1988.HK, 2601.HK, CTRP.OQ, DANG.N, FIS.N, GS.N, 1398.HK, 0992.HK, MS.N, NTES.OQ, 2328.HK, 2318.HK, PB.N, QIHU.N, SINA.OQ, SFUN.N, 0700.HK) within the past 12 months Restrictions on certain Canadian securities are indicated by the following abbreviations: NVS--Non-Voting shares; RVS--Restricted Voting Shares; SVS--Subordinate Voting Shares. Sino Hotspot Series: Internet Finance 52

53 Individuals receiving this report from a Canadian investment dealer that is not affiliated with Credit Suisse should be advised that this report may not contain regulatory disclosures the non-affiliated Canadian investment dealer would be required to make if this were its own report. For Credit Suisse Securities (Canada), Inc.'s policies and procedures regarding the dissemination of equity research, please visit Credit Suisse has acted as lead manager or syndicate member in a public offering of securities for the subject company (3968.HK, 2601.HK, FIS.N, GS.N, 1398.HK, 0992.HK, MS.N, 2328.HK, 2318.HK, SFUN.N, 0700.HK) within the past 3 years. As of the date of this report, Credit Suisse acts as a market maker or liquidity provider in the equities securities that are the subject of this report. Principal is not guaranteed in the case of equities because equity prices are variable. Commission is the commission rate or the amount agreed with a customer when setting up an account or at any time after that. Taiwanese Disclosures: This research report is for reference only. Investors should carefully consider their own investment risk. Investment results are the responsibility of the individual investor. Reports may not be reprinted without permission of CS. Reports written by Taiwan based analysts on non-taiwan listed companies are not considered recommendations to buy or sell securities under Taiwan Stock Exchange Operational Regulations Governing Securities Firms Recommending Trades in Securities to Customers. Please find the full reports, including disclosure information, on Credit Suisse's Research and Analytics Website ( For Credit Suisse disclosure information on other companies mentioned in this report, please visit the website at or call +1 (877) Sino Hotspot Series: Internet Finance 53

54 Important Global Disclosures Disclosure Appendix The persons primarily responsible for this research report certify that (1) the views expressed in this report accurately reflect his/her personal views about all of the subject companies and securities and (2) no part of his/her compensation was, is or will be directly or indirectly related to the specific recommendations or views expressed in this report. As of December 10, 2012 Analysts stock rating are defined as follows: Outperform (O) : The stock s total return is expected to outperform the relevant benchmark*over the next 12 months. Neutral (N) : The stock s total return is expected to be in line with the relevant benchmark* over the next 12 months. Underperform (U) : The stock s total return is expected to underperform the relevant benchmark* over the next 12 months. *Relevant benchmark by region: As of 10th December 2012, Japanese ratings are based on a stock s tota l return relative to the analyst's coverage universe which consists of all companies covered by the analyst within the relevant sector, with Outperforms representing the most attractiv e, Neutrals the less attractive, and Underperforms the least attractive investment opportunities. As of 2nd October 2012, U.S. and Canadian as well as European ratings are based on a stock s total return relative to the analyst's coverage universe which consists of all companies covered by the analyst within the relevant sector, with Outperforms representing the most attractive, Neutrals the less attractive, and Underperforms the least attractive investment opportunities. For Latin Ame rican and non-japan Asia stocks, ratings are based on a stock s total return relative to the average total return of the relevant country or regional benchmark; Australia, New Zealand are, and prior to 2nd October 2012 U.S. and Canadian ratings were based on (1) a stock s absolute total return potential to its current share price and (2) the relative attractiveness of a stock s total return potential within an analyst s coverage universe. For Australian and New Zealand stocks, 12 -month rolling yield is incorporated in the absolute total return calculation and a 15% and a 7.5% threshold replace the 10-15% level in the Outperform and Underperform stock rating definitions, respectively. The 15% and 7.5% thresholds replace the % and % levels in the Neutral stock rating definition, respectively. Prior to 10th December 2012, Japanese ratings we re based on a stock s total return relative to the average total return of the relevant country or regional benchmark. Restricted (R) : In certain circumstances, Credit Suisse policy and/or applicable law and regulations preclude certain types of communications, including an investment recommendation, during the course of Credit Suisse's engagement in an investment banking transaction and in certain other circumstances. Volatility Indicator [V] : A stock is defined as volatile if the stock price has moved up or down by 20% or more in a month in at least 8 of the past 24 months or the analyst expects significant volatility going forward. Analysts sector weightings are distinct from analysts stock ratings and are based on the analyst s expectations for the fundamentals and/or valuation of the sector* relative to the group s historic fundamentals and/or valuation: Overweight : The analyst s expectation for the sector s fundamentals and/or valuation is favorable over the next 12 months. Market Weight : The analyst s expectation for the sector s fundamentals and/or valuation is neutral over the next 12 months. Underweight : The analyst s expectation for the sector s fundamentals and/or valuation is cautious over the next 12 months. *An analyst s coverage sector consists of all companies covered by the analyst within the relevant sector. An analyst may cover multiple sectors. Credit Suisse's distribution of stock ratings (and banking clients) is: Global Ratings Distribution Rating Versus universe (%) Of which banking clients (%) Outperform/Buy* 43% (53% banking clients) Neutral/Hold* 40% (50% banking clients) Underperform/Sell* 15% (43% banking clients) Restricted 3% *For purposes of the NYSE and NASD ratings distribution disclosure requirements, our stock ratings of Outperform, Neutral, and Underperform most closely correspond to Buy, Hold, and Sell, respectively; however, the meanings are not the same, as our stock ratings are determined on a relative basis. (Please refer to definitions above.) An investor's decision to buy or sell a security should be based on investment objectives, current holdings, and other individual factor s. Credit Suisse s policy is to update research reports as it deems appropriate, based on developments with the subject company, the sector or the market that may have a material impact on the research views or opinions stated herein. Credit Suisse's policy is only to publish investment research that is impartial, independent, clear, fair and not misleading. For more detail please refer to Credit Suisse's Policies for Managing Conflicts of Interest in connection with Investment Research: and analytics/disclaimer/managing_conflicts_disclaimer.html Credit Suisse does not provide any tax advice. Any statement herein regarding any US federal tax is not intended or written to be used, and cannot be used, by any taxpayer for the purposes of avoiding any penalties. Please refer to the firm's disclosure website at for the definitions of abbreviations typically used in the target price method and risk sections. See the Companies Mentioned section for full company names Sino Hotspot Series: Internet Finance 54

55 Important Regional Disclosures Singapore recipients should contact Credit Suisse AG, Singapore Branch for any matters arising from this research report. The analyst(s) involved in the preparation of this report have not visited the material operations of the subject company ( SZ) within the past 12 months Restrictions on certain Canadian securities are indicated by the following abbreviations: NVS--Non-Voting shares; RVS--Restricted Voting Shares; SVS--Subordinate Voting Shares. Individuals receiving this report from a Canadian investment dealer that is not affiliated with Credit Suisse should be advised that this report may not contain regulatory disclosures the non-affiliated Canadian investment dealer would be required to make if this were its own report. For Credit Suisse Securities (Canada), Inc.'s policies and procedures regarding the dissemination of equity research, please visit As of the date of this report, Credit Suisse acts as a market maker or liquidity provider in the equities securities that are the subject of this report. Principal is not guaranteed in the case of equities because equity prices are variable. Commission is the commission rate or the amount agreed with a customer when setting up an account or at any time after that. Taiwanese Disclosures: This research report is for reference only. Investors should carefully consider their own investment risk. Investment results are the responsibility of the individual investor. Reports may not be reprinted without permission of CS. Reports written by Taiwan based analysts on non-taiwan listed companies are not considered recommendations to buy or sell securities under Taiwan Stock Exchange Operational Regulations Governing Securities Firms Recommending Trades in Securities to Customers. The non-u.s. persons, Vincent Chan, Victor Wang, Dick Wei, Evan Zhou, Frances Feng are not registered/qualified as research analysts with FINRA. They are not associated persons of CSSU and therefore are not subject to NASD Rule 2711 and NYSE Rule 472 restrictions on communications with a subject company, public appearances and trading securities held by a research analyst account. Credit Suisse Founder Securities Limited is a joint venture established in the People's Republic of China between Credit Suisse AG and Founder Securities Co, Ltd. See the Companies Mentioned section for full company names For Credit Suisse disclosure information on other companies mentioned in this report, please visit the website at or call +1 (877) Sino Hotspot Series: Internet Finance 55

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