A detailed look into the IPO prospectus of the 4 ways Ant Group makes money: payments, credit, investment and insurance. Even though the IPO was suspended, the prospectus gave us a very good understanding of how the fintech giant’s business model works.
Introduction
A day before the US Presidential Elections, the news dominating the business headlines was that of Ant Group’s IPO. Or rather, its suspension at the request (order?) of Chinese regulators.
The Economist ran a very good article about Ant Group’s business model in 2020 Oct. The newspaper described Ant as a four-legged animal:
The clearest way of understanding its business model is to look at the four sections into which it divides its revenues. The first is payments … [which] are a gateway: how Ant attracts users, understands them and ultimately monitors them. The biggest beneficiary of all this data is Ant’s lending arm, the second part of the company (which Ant, never one to shy away from jargon, calls CreditTech). … The strength of Ant’s platform is what enables its third and fourth business segments: asset management and insurance (InvestmentTech and InsureTech, to use Ant’s nomenclature).
In this week’s post, I delve deeper into the financials behind these 4 segments, as disclosed in its IPO prospectus. In a previous post, I lamented about the absence of finance and technology roles amongst the various lists of Top 20 paying occupations. Hopefully, this will prompt some revision to those lists.
Payments business
According to the prospectus:
A substantial majority of our digital payment service revenues comes from transaction fees we generate from merchants and transaction platforms based on a percentage of transaction volume from commercial transactions in China and, to a lesser extent, from cross-border transactions. To a significantly lesser extent, we generate revenues from personal transactions. In addition, we have begun to generate revenues from merchant services, and we expect revenues from merchant services to grow.
Ant Group IPO Prospectus, 2020 Oct
The scale of Ant Group’s payment business can be best appreciated by comparing it with VISA.
VISA was founded more than 62 years ago, to facilitate funds transfers throughout the world. It now accounts for more than 50% of cards payments globally outside China. In the 12 months to 2019 Sep, VISA processed payment volume to the tune of US$8.8 trillion.
… bigger than VISA
Ant was founded in 16 years ago, in 2004, as a solution to a problem customers and suppliers faced while transacting on Alibaba: trusted payment option. In the 12 months to 2020 Jun 30th, according to the IPO prospectus, Ant Group’s Total Payment Volume (TPV) was RMB 118 trillion, or US$17.3 trillion. This is about double that of VISA.
Thus, in about one-quarter of the time, and by focusing mostly on only a single market, Ant Group was able to grow its payment business to twice the size that of VISA. This scale advantage readily translates to lower price. According to VISA’s 2019 annual report, its FY2019 net revenue was US$23 billion. This means it charges 0.26% of transaction volume on average. Ant Group, on the other hand, made RMB 54.9 billion from digital payments in the 12 months to 2020 Jun 30th, based on RMB 118 trillion TPV. This means it only charges 0.047% of payment volume on average. That is less than a-fifth of VISA’s charge rate.
It is no wonder that Chinese consumers flock to Ant’s Alipay. Low fees coupled with finger-tip convenience: what is there not to like about the first of four ways that Ant Group makes money?
Credit business
According to the Economist article mentioned above,
Initially, it made the loans and then packaged them as securities, sold to other financial institutions. But regulators feared parallels with the securitisation boom that preceded the financial crisis of 2007-09. They required that the originators of securities hold capital much like any bank—a rule that cut into Ant’s margins.
Hence, these days, according to its prospectus:
For the volume enabled for our partner financial institutions through our platform, we do not bear financial product risks such as credit risk on consumer and SMB credit, redemption risk on investment products or underwriting risk for insurance products. Technology service fee rates typically vary by products offered by our partner financial institutions.
Ant Group IPO Prospectus, 2020 Oct
So how much is Ant charging in terms of technology service fees? This is what I found:
| CreditTech | 2017 | 2018 | 2019 | 12M to 2020 Jun 30 |
| Business volume, RMB b | 647 | 1,046 | 2,014 | 2,154 |
| Revenues, RMB m | 16,187 | 22,421 | 41,885 | 52,546 |
| Rev % Business Volume | 2.50% | 2.14% | 2.08% | 2.44% |
… Amazing risk free returns
To get a sense of the business volume, I looked up ICBC annual report. In 2019, the biggest of China’s Big-4 state bank, ICBC, had personal loans of RMB 6,384 billion. Ant only started this business in 2014. In the span of 6 years, it has grown this business to just under 1/3 that of ICBC’s personal loan business. This is not shabby at all.
During the same period, ICBC generated interest income of RMB 258 billion from its personal loans business. This means it charges an interest rate of ~4% on the loan amount. Ant Group, being no more than an underwriter/distributor, charges its bank partners 2.44% of the loan amount. Except for the small amount of loan it retains on its books, Ant needs to put up no regulatory capital for these loans. Should the loans default, all the hit goes to the bottom line of the partner banks.
Generating the great margin for a risk-free business that it does, it is not wonder that credit ranks second amongst the four ways that Ant Group makes money.
Investment business
Similar to its credit business, Ant’s role in the investment business these days is mostly as a distributor. It also retained some interest in the management of assets under its flagship product Yu’e Bao, which it started in 2013. The total AUM of investment products it distributed and managed in the 12 months to 2020 Jun 30th is RMB 4.1 trillion or US$603 billion. In comparison, Vanguard, which has been operating for 45 years, manages US$6.2 trillion worth of assets. Schroders, a UK-based asset manager in operation since 1804, has AUM of US$700 billion as at 2020 Sep 30th.
According to the prospectus:
For InvestmentTech, we charge technology service fees primarily as a percentage of AUM of our partner financial institutions enabled through our platform.
Ant Group IPO Prospectus, 2020 Oct
To find out how much exactly Ant charges, I looked deeper into the prospectus:
| InvestmentTech | 2017 | 2018 | 2019 | 12M to 2020 Jun 30 | |
| AUM, RMB b | 2,227 | 2,709 | 3,398 | 4,099 | |
| Revenues, RMB m | 10,490 | 13,882 | 16,952 | 21,014 | |
| Rev %AUM | 0.47% | 0.51% | 0.50% | 0.51% |
… another risk-free business with great margin
This shows that since Yu’e-Bao became the largest money market fund in 2017, Ant was able to raise its distribution fees to asset managers and about 0.5%. It has also been able to keep it stable since.
The prospectus mentioned Tianhong as the provider of asset management services to customers though it does not guarantee any principal or return to the customers.
To make sense of how this compares with the market, I looked into one of the money market fund managed by E-Fund, a top Chinese mutual fund manager. In its marketing materials, E-Fund discloses that it charges clients 0.33% of AUM for management fees, 0.1% for custodial fees, and 0.25% for distribution fees. In other words, Ant is able to command twice the market rate for fund distribution.
This makes investment funds distribution the third of four ways Ant Group makes money.
Insurance business
Ant Group’s insurance business is very similar to its investment fund business:
For InsureTech, we charge technology service fees primarily as a percentage of the insurance premiums of our partner financial institutions enabled through our platform or, in the case of our mutual aid program, a percentage of the contributions paid by the participants.
Ant Group IPO Prospectus, 2020 Oct
The scale of Ant’s insurance business is still small, reflecting its nascent status. The prospectus cited Cathay Insurance as the underwriter for P&C insurance policies and being responsible for insurance claims.
| InsureTech | 2017 | 2018 | 2019 | 12M to 2020 Jun 30 |
| Premiums, RMB b | 9 | 14 | 38 | 52 |
| Revenues, RMB m | 2,315 | 4,313 | 8,947 | 10,906 |
| Rev %Premiums | 25.7% | 30.8% | 23.5% | 21.0% |
To get a sense of the distribution fees it charges insurers, I reference PICC’s 2020 Interim Report. PICC is one of China’s largest P&C insurers. For the 6 months to 2020 Jun 30th, it paid its distributors fees of about 10.4% of premium income. In other words, Ant was again able to command twice the market rate for insurance product distribution.
Licensed subsidiaries
Other than distributing financial products, Ant Group also have licensed subsidiaries that either underwrites its consumer loans, or manages the money market funds:
Our licensed subsidiaries are important to our effort to innovate financial products and services. For example, we first offered our Huabei, Jiebei and Yu’ebao products through our licensed subsidiaries and then gradually broadened cooperation with third-party partner financial institutions.
Ant Group IPO Prospectus, 2020 Oct
In fact, Ant Group uses these licensed subsidiaries to iron out the business processes of its financial services business before rolling it out to traditional players.
Conclusion: Ant’s eco-system
So these are the four ways Ant Group makes money.
From the picture I gathered from the above is the following:
- Through solving the problem of trusted payment on its e-commerce platform, Ant was able to gain a head-start in its payment system;
- Leveraging off its payment systems scale and low cost, Ant then extends its reach to other areas of finance;
- In credit, it first experimented using its own balance sheet to provide small-ticket loans. Once it sorted out the process flows, it invites traditional players to provide risk capital. For such access, Ant charges a technology services fee that is often at a premium to the market.
- Ant Group then repeated step 3 in the markets for investment and insurance products. It is also doubtlessly exploring other areas of the financial market.
- Its financial services partners are willing to pay the premium access fees because of two reasons. First, there are few alternatives. Second, if Bank A or Fund Manager B bulk at paying for access to more than 1 billion annual active users, there are tens or hundreds of other competitors waiting in line for the privilege. This is the network effect at its basest form.
In some sense, the regulators’ intervention might be a timely, or even somewhat belated, attempt to even the playing field. As shown above, the large network effect that the few payment platform providers are able to muster enables them to collect a large share of the economics of financial transactions. Existing management named the company Ant because they believe “Small is beautiful, small is powerful.” Should the amassing of one-sided economics go on unchecked, Ant Group might really become the powerful institution it envisioned. Though it would no longer be small in the eyes of others.