UberChina-Didi fight drives merger talk

China is a big market. But is it big enough for two majorride-hailing companies?

The battle between Uber Technologies’ China affiliateand Chinese homegrown champion Didi Chuxing Technology has been so bruising that some investors in the companies increasingly say the answer is no. Indeed, some say the archenemies could ultimately have to join forces.

That might seem outlandish, given both companies are beefing up cashpositions to fuel an all-out war.Uber has raised nearly $13 billion, including$3.5 billion from the investment arm of Saudi Arabiaearlier this month—part of which will flow to UberChina. TheChinese affiliate has itself raised some $1.2 billion, with local investors including search engineBaiduand car makerGuangzhou Automobile.

Didi, meanwhile, justclosed off a $4.5 billion fundraising round, including$600 million from China’s top life insurerand$1 billion fromApple. Didi is also raising $2.5 billion of debt fromChina Merchants Bank.

That flood of capital is what concerns some investors and observers, who say it is being burned up as Uber and Didi compete, often by throwing in subsidies to attract riders and drivers.

“The first Gulf War cost about $60 billion,” saysAllen Zhu,managing director at GSR Ventures, which invested in three rounds of Didi funding. The figure isn’t adjusted for inflation. “Between Didi and Uber, they’veraised about $20 billion. It’s very much like a war. But they can’t fight on like this. It’s got to stop before reaching $30 billion.” He and several other Didi, UberChina and Uber global investors I spoke to say a merger might be possible if the companies could agree on valuations and share structures.

That’s no small hurdle. Uber Chief ExecutiveTravis Kalanickis famously competitive. He has called China Uber’s top global priority and said the company planned to spend $1 billion in 2015 to expand in the country. The result: six of Uber’s top 10 cities by traffic are in China.

A spokeswomanfor Didi says it has absolutely no plan to merge. UberChina declined to comment on whether it might seek a merger with Didi.

Didi and UberChina both say they are getting closer to profitability. Didi says it is now profitable in more than 200 of the 400 cities where it operates, andexpects to reach overall profitability “very soon.”UberChina says it is spending 80% less per ride in China than it did a year ago and is “on the right track” to profitability.

Yet it is hard to see where their battle ends.As long as UberChina wants toexpand into new cities and challenge Didi’s dominance and as long asDidi wants to maintain its market share, the companies likely will have to keep burning cash.

Didi and UberChina disagree on their market-share figures. Severalthird-party research notes say Didi has over 85% of the ride-sharing market in China, measured by order volume and user coverage. (That doesn’t count the taxi-hailing market, where Didi has nearly 100% and UberChina doesn’t compete.) UberChina, which operates in 60 cities, says it has over one-third ofthemarket. According to Beijing-based research firm Analysys International, which tracks 150 million active smartphone users, Didi had 43.1 million active users in May while UberChina had 10.1 million.

Didi is valued by investors at above $25 billion, more than three times the $8 billion valuation of UberChina, although still far less than the nearly $68 billion valuation of San Francisco-based Uber.

Both Didi and Uber also face competition from free-spending YidaoYongche, China’s No. 3 ride-sharing company, which is backed by a Chinese company called LeEco. Since LeEco, which markets online content as well as cellphones and other gadgets, invested $700 million in Yidao last October, the upstart has been wooing users with promotions such as matching every 1,000 yuan, or about $152, a customer deposits in her Yidao account. According to Analysys International’s data, Yidao had 3.9 million active users in May.

In a market like this, there is little customer loyalty. Lilian Li, a freelance writer in Beijing, has been using Yidao lately because its rides cost about one-third to one-half less than what Didi and Uber would cost. She says she wouldn’t hesitate to use another one of those services if it were cheaper.

One venture capitalist whose fund is invested in Didi says the economics of network effects that helped create a virtual monopoly of internet products such asFacebookandWeChatdon’t apply to ride-hailing. New users join Facebook or WeChat because their friends are there, costing the social networks almost nothing for user acquisition, he says. Didi and Uber need toinvest constantly in gaining and keeping customers who have little reason to be loyal.

An investor in Uber, the parent, likens the dueling fundraising to an arms race. While the companies are lucky to have investors with deep pockets, a union between Didi and UberChina might be inevitable, especially given the broader trend toward consolidation in China’s internet industry, says the investor.

Unlike Uber, Didiis no stranger to consolidation. It is the result of a merger inFebruary 2015 between rivals Didi Dache and Kuaidi Dache, which came about because the two companies were locked in fierce price wars that their investors were reluctant to keep funding.

Combining Didi and UberChina would fit with the consolidation momentum in the industry, saysKai-Fu Lee,CEO of venture-capital firm China’s Innovation Works, which isn’t invested in either Didi or Uber. He adds that two reasons could stop a merger from happening: First, if Didi believes it can crush UberChina, it won’t want to pay a premium to buy it. Second, Uber has raised a lot of capital and Mr. Kalanick is known as a fighter, so Uber might not want to concede defeat.

Indeed, two Didi investors I spoke to said they would prefer Didi to keep battling in the hopes that it will simply quashUberChina, so their shares won’t be diluted.

At aconference co-hosted by The Wall Street Journal in Hong Kong this month,Liu Zhen, head of strategy forUberChina, acknowledged the talk of a tie-up. “I would have to say that I heard the [merger] noise a lot and get asked a lot about this,” she said. But she added that UberChina is in a great position to continue its rapidgrowth.Asked when Uber might surpass Didi in China, she replied: “I hope next year.”

(THE WALL STREET JOURNAL)