Moody's: Chinese internet companies to reap benefits of online-to-offline investments

Moody's Investors Service says that investments by rated Chinese internet companies in online-to-offline (O2O) platforms these past two years will gain traction and boost their revenues in the next 12-24 months, and challenges, while apparent, are also manageable.

"We expect the companies to sell advertisements and collect commissions from the growing number of offline merchants and service providers keen to access the internet companies' large consumer bases through O2O partnerships," says Lina Choi, a Moody's Vice President and Senior Analyst.

"At the same time, while the investment appetites of the internet companies -- which include Alibaba Group Holding Limited (A1 stable), Tencent Holdings Limited (A2 stable) and Baidu Inc. (A3 positive) -- will stay high, their financial and credit profiles will remain stable," says Choi.

Choi was speaking on the release of a new Moody's report on technology services in China, titled "Technology Services -- China: Online-to-Offline Platforms Create New Revenue Sources".

"Specifically, the high capital and operational investments needed to maintain large user bases, broaden service coverage, and market new products will pressure the three rated companies' margins in 2015 and 2016," adds Choi. "But, given their strong cash generation and solid cash holdings, their financial and credit profiles will remain appropriate for their ratings."

However, Moody's also notes that the three are not yet generating meaningful revenues from their O2O platforms because the platforms are still at an early stage of development.

And once these platforms begin generating more meaningful revenue, it will be difficult to isolate the O2O contribution to total revenues, as O2O offerings will make existing revenue growth more sustainable.

Currently, Alibaba has the most comprehensive setup to benefit from O2O growth and Moody's expects "Koubei" -- its key O2O portal -- to develop into an important revenue driver. Alibaba can provide a seamless way for consumers to access and pay for offline products and services, which should attract more consumers and O2O partners.

Tencent relies more on partners to ensure consumer experience and service quality. It has set up its O2O platform by taking minority stakes in leading companies in key service categories, allowing it to establish partnerships in a short time. But it must rely on those partners to provide a smooth experience and good service quality for consumers.

Baidu is investing heavily in O2O with the value of goods and services sold through its O2O platform having more than doubled during the past year. But it will have to further enrich its products and services offerings, such as strengthening the popularity of its payment mechanism, to fully exploit the revenue growth potential from O2O.

Moody's notes that the three companies' year-over-year revenue growth for the six months ended June 2015 remained quite different, owing to their different sizes and business models: 28% for Alibaba, 20% for Tencent and 36.5% for Baidu.

We expect their growth rates will remain near these levels through 2017, driven in part by payments that the companies should begin receiving from the growing number of merchants and service providers accessing consumers through the internet companies' platforms, and particularly through their mobile-friendly platforms.