MEDIA: Alibaba-Youku Challenge Traditional Media to Speed up Reform

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Bottom line: Beijing needs to accelerate reform of traditional media in the face of rising challenges from players like Alibaba and Baidu, or risk seeing many of these state-run companies fall into irrelevance.

Alibaba challenges traditional media to speed up reform

A wave of mega-mergers sweeping through China’s Internet over the last 2 years saw its biggest deal to date announced late last week, when e-commerce leader Alibaba (NYSE: BABA) offered $4.6 billion for the more than 80 percent of leading online video site Youku Tudou (NYSE: YOKU) it doesn’t already own. The move marked the latest challenge to China’s traditional media industry, which has been monopolized for years by state-run broadcasters and printed publications.

If this latest mega-deal gets completed, a new Youku Tudou with access to Alibaba’s cash and other vast resources will almost certainly accelerate its challenge to traditional media by aggressively rolling out compelling new on-demand products and premium content.
Beijing and local governments should take the deal as a wake-up call to speed up reform of traditional media to make them more competitive. They could even consider the once-unthinkable possibility of letting these slower moving companies get acquired or form equity partnerships with more nimble private sector peers like Alibaba, Tencent (HKEx: 700) and Wanda.

Failure to move more aggressively could ultimately result in the insolvency of these older traditional media. That could leave local governments and other stakeholders with massive headaches, as they try to figure out what to do with companies that employ thousands and require big operating budgets even as they rapidly lose their relevance.

Video Consolidation

Last week’s Youku Toudou deal caps 3 years of consolidation that has seen most of China’s major online video sites get purchased by larger companies. Youku Tudou kicked off the consolidation with its own formation in 2012 through the merger of the country’s 2 largest video sites at that time. A year later, PPS and PPTV were purchased by online search leader Baidu (Nasdaq: BIDU) and retailing giant Suning (Shenzhen: 002024), respectively.

Alibaba and an affiliate entered the fray last year when they collectively purchased nearly 20 percent of Youku Tudou in a deal valued at $1.2 billion. The latest deal would see Alibaba buy up the remainder of Youku Tudou for $26.60 per American Depositary Share (ADS), representing a total price of $3.5 billion minus net cash held by Youku Tudou. (English article; Chinese article) The price represents a lofty premium of 30 percent over Youku Tudou’s last closing price before the deal was announced.

The deal would bring together Youku Tudou’s based of 500 million customers with Alibaba’s burgeoning entertainment empire, which includes its separately-listed Alibaba Pictures (HKEx: 1060) video production arm. Alibaba is also flush with cash, with about $23 billion in its coffers at the end of June, and has shown it is quite willing to spend aggressively to expand its newer business. The deal would speed consolidating of China’s online video sector around the nation’s 3 largest Internet companies, Alibaba, Baidu and Tencent, with LeTV (Shenzhen: 300104) remaining as the only major independent player.

Traditional Media Try Reform

The Internet companies aren’t the only ones trying to adapt to an evolving media landscape centered on interactive products and video. China’s traditional media have also been attempting their own makeover, under pressure from government stakeholders to reverse their recent rapid declines.

Some of the most aggressive reforms have come in Shanghai, China’s commercial hub, where 2 of the city’s largest media groups were merged in 2013. The city’s largest player, TV station operator Shanghai Media Group (SMG), also conducted its own overhaul that saw the merger of its 2 separately listed new and digital media units. SMG has also formed a number of major partnerships with big western studios like DreamWorks Animation (NYSE: DWA) and Warner Bros (NYSE: TWX), and earlier this year announced its own joint venture with Alibaba in financial news.

And yet despite all those moves, Shanghai’s media are still rapidly losing share to younger audiences that prefer to consume news and video over the Internet and are attracted by aggressive promotions offered by companies like LeTV. And despite some local mergers in cities like Shanghai, China’s traditional media still remain a highly fragmented group due to local government reluctance to cede control over outlets that were traditionally part of their apparatus for promoting local agendas.

That kind of provincial mentality, combined with the traditional media’s broader slow-moving nature, could easily result in their slow death if Beijing and local leaders don’t take steps to accelerate consolidation and broader reform. Such acceleration could take many forms that would pave the way for more experimentation and risk taking. A critical first step might be freeing these companies of their local ownership, giving them more flexibility to form partnerships and other tie-ups with a wider range of partners, both public and private, as well as from other provinces.

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