MGMT495 Uber in China Case Study

9-317-064 N O V E M B E R 3 0 , 2 0 1 6

HBS Professor William C. Kirby, Research Associate Yuanzhuo Wang, and Doctoral Students Shuang L. Frost and Adam K. Frost (Harvard University) prepared this case. This case was developed from published sources. Funding for the development of this case was provided by Harvard Business School and not by the company. HBS cases are developed solely as the basis for class discussion. Cases are not intended to serve as endorsements, sources of primary data, or illustrations of effective or ineffective management. Copyright © 2016 President and Fellows of Harvard College. To order copies or request permission to reproduce materials, call 1-800-545-7685, write Harvard Business School Publishing, Boston, MA 02163, or go to www.hbsp.harvard.edu. This publication may not be digitized, photocopied, or otherwise reproduced, posted, or transmitted, without the permission of Harvard Business School.

W I L L I A M C . K I R B Y

Y U A N Z H U O W A N G

S H U A N G L . F R O S T

A D A M K . F R O S T

Uber in China: Driving in the Gray Zone (B)

“Fast forward to today and Uber China—in just two years—has exceeded even my wildest dreams. We’ve grown super fast and are now doing more than 150 million trips a month. This is no small feat given that most U.S technology companies struggle to crack the code there. That’s why I’m so proud of what our amazing China team has accomplished.”

— Travis Kalanick, announcing Uber China’s merger with Didi Chuxing, August 2016

On August 1, 2016, Uber shocked the global ridesharing industry when it announced that it would sell its operations in China to its competitor, Didi Chuxing.1 As part of the deal, Uber would receive a 20% stake in Didi, while Didi would invest $1 billion in Uber.2 In the announcement, Travis Kalanick complimented Uber's "amazing China team" and declared that he had "no doubt that Uber China and Didi Chuxing will be stronger together”.3

For two years Uber had fought an intense, costly battle for China’s ridesharing market. Although Uber had made China central to its future growth strategy, the company faced unanticipated competition from agile, well-financed, and well-connected domestic Chinese competitors.

During this time, Uber also had to respond to an ever-shifting regulatory landscape. It was only on July 28, 2016, that China’s State Council released the first national level guidelines for regulating online ridesharing services and “recommendations” for improving the existing taxi industry. While the new regulations granted legal status to ridesharing services like Uber and Didi Chuxing, local governments were also given the discretionary power to ban ride-sharing subsidies and implement government- guided pricing as necessary.4

Given the competition from domestic rivals and the uncertainties of government regulation, was the decision to exit China the right one for Uber? What does this latest reconfiguration of the market mean for China's burgeoning ridesharing industry? What lessons could other tech companies learn from Uber’s experiences in China?

For the exclusive use of Y. Wu, 2023.

This document is authorized for use only by Yanna Wu in Uber in China; Driving in the Gray Zone taught by MICHAEL MILLER, University of Illinois at Chicago from Nov 2022 to Apr 2023.

317-064 Uber in China: Driving in the Gray Zone (B)

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The Making of China’s Ridesharing Regulations

Like elsewhere in the world, ridesharing companies in China had difficult relationships with regulatory authorities. In Beijing, the central government struggled to strike a balance between creating regulations that would address the concerns of public, local taxi companies, and taxi drivers and maintaining support for burgeoning entrepreneurship in the country’s online economy.

After much debate, the finalized “Provisional Measures on the Administration of Online Ridesharing Services” was released by the Ministry of Transportation on July 28, 2016 and was set to take effect on November 1, 2016.5 (See Exhibit 1 for excerpts from the “Provisional Measures”). Highlighting the complexity of the regulatory environment in China, before the regulation could be enacted, it had to be signed off by seven separate ministries and agencies, each one touching some aspect of the ridesharing industry’s operating environment.a At the same time, the State Council issued the “Recommendations for Deepening Reform and Promoting Orderly Development of the Taxi Industry”, which aimed to provide guidance for the future direction of China’s taxi industry. 6 (See Exhibit 2 for excerpts from the “Recommendations”)

Though the new regulations were thought to be more lenient than the earlier draft version, they did leave many concerns for the ridesharing industry. The good news for ridesharing companies and their drivers was that they could now obtain legal status by applying for “License for Online Ridesharing Service" and “Transport Certificate for Online Ridesharing Service” from local governments. 7 Contracts between ridesharing companies and drivers were also allowed to vary based on the work time of drivers.

However, there were also new limitations. Ridesharing companies would be required to pay taxes and buy insurance for all passengers.8 Vehicles used by drivers would be required to have GPS tracking and security alarms installed, and would be retired after accumulating 600,000 kilometers or 8 years of service.9 Drivers would need to register with local authorities and be subject to criminal background checks. All ridesharing companies in China would need to store data in Mainland China for at least two years and would be prohibited from transmitting this data outside of China unless permitted by other laws or regulations.10

The “Provisional Measures” also left many things open to the interpretation of local governments, which included the authority to regulate prices. While the market was specified as the main mechanism in determining pricing, local governments were allowed to step in and direct prices when they deemed necessary.11 Subsidies to undercut market prices would be banned.12

Meanwhile, the “Recommendations” released by the State Council called for more reform and innovation in the existing taxi industry, including better use of internet technology to facilitate online booking and the gradual elimination of franchising fees. It also called for the encouragement of private carpooling as a way to reduce traffic congestions. The "Recommendations" also hinted at the desirability of having taxi companies with online-booking services to merge with online ridesharing companies to promote “integrated development”.13

a These included the Ministry of Transportation, Ministry of Industry and Information Technology, Ministry of Public Security, Ministry of Commerce, General Administration of Industry and Commerce, General Administration of Quality Supervision, Inspection and Quarantine, and the State Council Internet Information Office

For the exclusive use of Y. Wu, 2023.

This document is authorized for use only by Yanna Wu in Uber in China; Driving in the Gray Zone taught by MICHAEL MILLER, University of Illinois at Chicago from Nov 2022 to Apr 2023.

Uber in China: Driving in the Gray Zone (B) 317-064

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While both Uber China and Didi Chuxing welcomed the new national regulations, exactly how they would impact the industry would remain unclear until local governments adopted more specific policies in different cities.

The Merger between Uber China and Didi Chuxing

“Uber and Didi Chuxing are investing billions of dollars in China and both companies have yet to turn a profit there. Getting to profitability is the only way to build a sustainable business that can best serve Chinese riders, drivers and cities over the long term.”

— Travis Kalanick, announcing Uber China’s merger with Didi Chuxing, August 2016

While a central part of Uber’s growth strategy in China was to expand into more than 100 new cities in 2016, the subsidy wars it waged against Didi Chuxing ultimately failed to grow its China presence. Estimates of Uber's overall market share in the ridesharing market ranged from 11% to 30%. By the time of the merger, Uber had a presence in 60 cities in China, operating roughly 40 million rides per week. In contrast, its rival Didi Chuxing was operating almost 100 million rides per week across 400 cities.14

The cost of the subsidies also prevented both companies from turning a profit. The successes both companies experienced in raising funds throughout 2016 also meant that both had enough capital to sustain the costly subsidy war for an undesirable amount of time.15 The enactment of new ridesharing regulations which prevented firms from undercutting market prices further limited Uber’s maneuverability by taking away one of its main tools for growing market shares.

Faced with the inability to grow its market share, the sale of Uber’s China operations to Didi Chuxing seemed then a viable avenue for maintaining a limited presence in China. For the sale Uber received a 20% economic interest and ~5.9% voting stake in Didi worth approximately $7 billion in addition to a $1 billion investment from Didi.16 Uber CEO Kalanick was granted a seat on Didi’s board, with the same privilege accorded to Didi CEO Cheng Wei at Uber. The deal raised Uber's valuation to $68 billion.17 As a part of the deal, Didi Chuxing would assume control over Uber China's business operations and data, while allowing Uber China to continue to operate on its own platform during the transitional period in order to prevent service disruptions.

Letting go of the Chinese market would also help Uber stem the more than $1 billion annual loss the company was making in China.b In the past Uber had claimed that its operations in some parts of the U.S. and other developed markets were already profitable. Cutting huge losses from China would help Uber remove a major obstacle on its way to an IPO. It would also help free up resources for opening new markets and fighting off competition in other parts of the world. Just two weeks after the merger with Didi, Uber announced its plans to enter the self-driving car market as well as hopes to produce a line of diver-less semi-trucks through its acquisition of San Francisco based truck- manufacturer Otto.18

Post-Merger Prospects and Uncertainties

Even after Uber China and Didi Chuxing came together to announce the successful negotiation of their merger, drama surrounding the two was just beginning. On September 2, 2016, China’s Ministry

b According to the Financial Times and other sources, Uber lost more than $1 billion in China in 2015 and its losses in 2016 approached $1.3 billion in the first half of the year alone.

For the exclusive use of Y. Wu, 2023.

This document is authorized for use only by Yanna Wu in Uber in China; Driving in the Gray Zone taught by MICHAEL MILLER, University of Illinois at Chicago from Nov 2022 to Apr 2023.

317-064 Uber in China: Driving in the Gray Zone (B)

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of Commerce (MOFCOM) condemned Uber and Didi for not filing intent of the planned merger with the regulatory authorities and launched a monopoly investigation. This move did not come as a complete surprise since the new Didi Chuxing would control over 90% of the ridesharing market in China. Moreover, anti-monopoly lawsuits had previously been filed by Didi’s competitors when the company merged with Kuaidi on Valentine’s Day 2015.c

The outcomes of the investigation remained uncertain since MOFCOM had generally adopted a hands-off approach in governing the mergers and acquisitions of internet companies in the past. Historically, out of the 1,700 anti-monopoly cases MOFCOM had investigated, only two were rejected and 27 were allowed to go ahead with additional conditions.19

New local regulations that had been enacted since the release of the national guidelines for the ridesharing industry had also not been kind to the new Didi Chuxing. The megacities of Beijing, Shanghai, and Shenzhen each imposed new restrictions on ridesharing service providers, limiting driver eligibility to individuals holding local residency permits and requiring their cars to meet size restrictions.20 Allowing only local residency permit holders to drive would severely limit Didi's driver pool. For example, Didi claimed that only 2.4% of its drivers in Shanghai held Shanghai residency permits.21 Limiting the minimum wheelbase width of cars could also cut 80% of Didi’s cars in Shanghai.22

Didi released public statements which criticized the new policies and stated that the company would lobby the governments to change them. During an entrepreneurship conference in Shenzhen in October 2016, Tencent Chairman and Didi ally Pony Ma appealed directly to Premier Li Keqiang to help roll back some of the recent local regulations on ridesharing.23 Li reportedly replied that he will ask the relevant cities to do more research into the policies. If not addressed, the prospects of further regulatory tightening and the continuing MOFCOM investigation would cast shadows over Didi Chuxing‘s plans for an IPO.

In addition to regulatory troubles, the post-merger operations for Uber China had also not gone smoothly. Two months into the merger, Uber China Vice President (and de facto CEO) Liu Zhen resigned, prompting fears of mass internal discontent. 24 There also appeared to be potentially organized attempts to disrupt Uber's platform in the transition period as "ghost cars” that never showed up to pick up passengers began appearing on the app.25 There were also reports of false charges and fake trips that began and ended before a car ever arrived.

Meanwhile, it was reported that since the merger fare rates had risen in several cities possibly due to investor and regulatory pressures to reduce subsidies. Drivers began reporting decreases in demand and began to worry about their future livelihoods. Despite these reports Didi Chuxing released statements saying that it would not eliminate subsidies overnight.26 It was also not immediately clear whether, when, and how local governments would start to enforce the no subsidies provision in the national regulations.

Despite these setbacks, Didi Chuxing was able to address many other challenges. On the security front, Didi formed a partnership with Qihoo 360 to use ride tracking and facial recognition technology to verify the identities of drivers.27 Didi also planned to add features to its platform that would allow riders to share itineraries and request help during rides. These measures would help Didi comply with some of the passenger safety provisions in the latest national regulations.

c Didi-Kuaidi rebranded to Didi Chuxing in September 2015

For the exclusive use of Y. Wu, 2023.

This document is authorized for use only by Yanna Wu in Uber in China; Driving in the Gray Zone taught by MICHAEL MILLER, University of Illinois at Chicago from Nov 2022 to Apr 2023.

Uber in China: Driving in the Gray Zone (B) 317-064

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Didi also worked to improve its relationship with local governments. For example, in the central city of Wuhan, Didi claimed that it had helped employ over 7,000 steelworkers who had either left the Wuhan Iron and Steel Corp (WISCO) voluntarily due to pay cuts or were laid off altogether due to the company’s need to cut production capacity. 28 In fact, a report commissioned by Didi showed that the company had created some 3.9 million jobs across 17 provinces that had been ordered by the central government to cut industrial capacity. Of these, one million were filled by workers leaving troubled industries.29 Doubtlessly, Didi hoped these numbers would help endear the company to both local and national authorities trying to limit unemployment and social discontent caused by the restructuring of the economy.

Lessons Learned?

“Uber is a great company. They have the best strategy in China among all the Silicon Valley companies. They are more agile than Google. They aren’t like this in other parts of the world, but in China they’ve learned to show goodwill. They are not like a usual foreign company in China, but more like a startup, full of passion, feeling like they are fighting for themselves.”

— Cheng Wei, CEO of Didi Chuxing, from interview with Bloomberg Businessweek30

Though Uber’s saga in China may be over (pending regulatory approval of the merger), the growing number of China's mobile device savvy middle class consumers will doubtlessly attract more ambitious companies to enter. What did Uber do right and wrong? Did it “lose" in China? Can foreign tech companies learn to adapt to China's unique regulatory conditions or is the vast Chinese online market only meant to be conquered by better attuned and better connected native firms? How can Didi Chuxing successfully navigate the ever changing ridesharing industry landscape and regulatory environment in China while trying to turn a profit? What should Uber and Didi do if the merger is blocked by regulatory authorities? What does the future hold for Uber outside of China and the ride- sharing industry around the world as a whole?

For the exclusive use of Y. Wu, 2023.

This document is authorized for use only by Yanna Wu in Uber in China; Driving in the Gray Zone taught by MICHAEL MILLER, University of Illinois at Chicago from Nov 2022 to Apr 2023.

317-064 Uber in China: Driving in the Gray Zone (B)

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Exhibit 1 Excerpts from the Ministry of Transportation’s “Provisional Measures on the

Administration of Online Ridesharing Services” (网络预约出租汽车经营服务管理暂行办法)

Chinese Text English Text 第一章 总 则

第三条 坚持优先发展城市公共交通、适度发

展出租汽车，按照高品质服务、差异化经营

的原则，有序发展网约车。网约车运价实行

市场调节价，城市人民政府认为有必要实行

政府指导价的除外。

第四条 国务院交通运输主管部门负责指导全

国网约车管理工作。

各省、自治区人民政府交通运输主管部

门在本级人民政府领导下，负责指导本行政

区域内网约车管理工作。

直辖市、设区的市级或者县级交通运输

主管部门或人民政府指定的其他出租汽车行

政主管部门（以下称出租汽车行政主管部

门）在本级人民政府领导下，负责具体实施

网约车管理。

Section I General Provisions Article 3 Cities shall prioritize the development of public transportation, moderate the development of taxis, and following the principals of high quality service and differentiated operations, orderly develop online ridesharing services. The pricing of ridesharing services shall be set by the market except when city governments deem necessary to implement government guided prices. Article 4 Organs responsible for overseeing transportation at the State Council shall be responsible for guiding the management of online ridesharing services nationwide. Organs responsible for overseeing transportation in each province and autonomous region shall be responsible for guiding the management of online ridesharing services in their respective jurisdictions under the supervision of the governments of the same level. Organs responsible for overseeing transportation in centrally administered cities and prefecture level cities with districts or counties or other organs authorized by the government to regulate taxis shall be responsible for the detailed implementation of the management of online ridesharing services under the supervision of the governments of the same level.

第二章 网约车平台公司

第五条 申请从事网约车经营的，应当具备线

上线下服务能力，符合下列条件：

（一）具有企业法人资格；

（二）具备开展网约车经营的互联网平

台和与拟开展业务相适应的信息数据交互及

处理能力，具备供交通、通信、公安、税

务、网信等相关监管部门依法调取查询相关

网络数据信息的条件，网络服务平台数据库

接入出租汽车行政主管部门监管平台，服务

器设置在中国内地，有符合规定的网络安全

管理制度和安全保护技术措施；

（三）使用电子支付的，应当与银行、

非银行支付机构签订提供支付结算服务的协

议；

（四）有健全的经营管理制度、安全生

产管理制度和服务质量保障制度；

（五）在服务所在地有相应服务机构及

服务能力；

（六）法律法规规定的其他条件。

外商投资网约车经营的，除符合上述条

件外，还应当符合外商投资相关法律法规的

规定。

第七条 出租汽车行政主管部门应当自受理之

日起 20 日内作出许可或者不予许可的决定。

20 日内不能作出决定的，经实施机关负责人

批准，可以延长 10 日，并应当将延长期限的

理由告知申请人。

第八条 出租汽车行政主管部门对于网约车经

营申请作出行政许可决定的，应当明确经营

范围、经营区域、经营期限等，并发放《网

络预约出租汽车经营许可证》。

Section II Online Ridesharing Platform Companies Article 5 Those applying to offer online ridesharing services should have capabilities to offer both online and offline services and must meet the following criteria:

1) Qualify as a corporate legal person 2) Have internet platform capable of offering online ridesharing

services and corresponding data exchange and processing capabilities; have capabilities to allow relevant regulatory authorities including those in transportation, communication, public security, tax, and internet information to search data according to law; have internet service platform data storage linked into taxi regulatory authorities’ regulatory platforms; have server located in Mainland China; have rules regarding internet security meeting standards and technology or mechanisms that guarantee safety

3) Those using electronic pay should have agreements with bank and non-bank payment organizations

4) Have sound enterprise management system, production safety management system, and service quality control system

5) Have corresponding organizational presence and capabilities in localities that are being provided the services

6) Other qualifications specified by law

Those service providers receiving foreign investment must also meet relevant regulations regarding foreign investments in addition to criteria specified above.

Article 7 Authorities in charge of regulating taxis should make a decision on whether to approve or deny an application within 20 days of receiving the application. If a decision cannot be made within 20 days, after seeking permission from the person responsible for the implementing organ, the deadline can be extended for 10 days, and the length and reason for the delay should be reported to the applicant.

Article 8 In approving an application, authorities in charge of regulating taxis should specify the permitted business scope and geographical areas of operations and should issue a “License for Online Ridesharing Service"

For the exclusive use of Y. Wu, 2023.

This document is authorized for use only by Yanna Wu in Uber in China; Driving in the Gray Zone taught by MICHAEL MILLER, University of Illinois at Chicago from Nov 2022 to Apr 2023.

Uber in China: Driving in the Gray Zone (B) 317-064

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第三章 网约车车辆和驾驶员

第十二条 拟从事网约车经营的车辆，应当符

合以下条件：

（一）7 座及以下乘用车；

（二）安装具有行驶记录功能的车辆卫

星定位装置、应急报警装置；

（三）车辆技术性能符合运营安全相关

标准要求。

车辆的具体标准和营运&#x8981

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