Source: Wall Street Journal
UBS Group believes that the surge of Concept stocks in the Internet sector in the first half of the year was primarily driven by valuation rather than profitability improvement, particularly for Stocks with AI Concept. Mid and small market cap stocks have outperformed the broader market. Investors need to focus in the second half of the year on AI monetization, overseas expansion, and margin reconstruction. The commercialization process of artificial intelligence is accelerating, with three areas showing early visible monetization: cloud services, advertising, and AI agents. Under policy guidance, the commission rates for Internet platforms are expected to converge and shift from commission-based revenue to advertising income.
After experiencing an increase since the beginning of the year, China's Internet industry is at a critical turning point.
According to news from the Chasing Wind Trading Desk, UBS Group stated in a report on June 16 that the KWEB China Internet ETF has risen 18% year-to-date. This is primarily driven by valuation rather than profit improvement, especially among stocks with AI concepts. Small and medium-cap stocks have outperformed the market, with domestic investors demonstrating stronger pricing power and sometimes adopting a different long-term perspective from overseas investors.
UBS Group believes that investors need to focus on AI monetization, overseas expansion, and margin restructuring in the second half of the year, as these factors will profoundly impact the investment value and stock performance of Chinese Internet companies.
DeepSeek's innovation drives industry re-evaluation.
UBS Group stated that in the first half of 2025, the Chinese Internet industry underwent significant re-evaluation. DeepSeek's innovative breakthroughs introduced a structural growth perspective to the industry, combined with the government's supportive stance towards private enterprises and the attractive valuations following significant reductions in previous years, driving the KWEB index up 18%, basically in line with the Hang Seng Index's 22% increase.
UBS Group's analysis shows that this round of increase was mainly driven by valuation expansion rather than fundamental improvement. Stocks with AI concepts, such as Alibaba Cloud and Kuaishou, have performed particularly well, but actual profit expectations have seen limited enhancement.
In terms of growth prospects, different sub-industries show significant divergence. Emotion-driven consumption such as online gaming and music is expected to continue performing well due to a favorable competitive landscape, strong pricing power, and low sensitivity to ticket prices, achieving visible revenue growth amid macro uncertainties. In contrast, advertising growth is expected to slow from 14% to 10%, while e-commerce growth is projected to remain stable at 6.5%.
The commercialization path of AI is becoming clearer.
UBS Group believes that investors need to focus on AI monetization, overseas expansion, and profit margin reshaping in the second half of the year.
Analysts believe that the commercialization process of artificial intelligence is accelerating, with three areas showing early visible monetization including cloud services, advertising, and AI agents.
In terms of cloud services, by the first quarter of 2025, the average proportion of AI revenue among China's major cloud service providers is expected to reach 10-20%, with consensus expectations rising by 6-13 percentage points since the beginning of the year. UBS Group estimates that GenAI-related cloud service demand accounts for about 5% of total cloud demand, with year-on-year growth remaining in triple digits.
The effects of AI applications in the advertising sector have already become evident. Tencent, Kuaishou, and Weibo all reported significant contributions from AI to advertising revenue growth in the first quarter, with an increase in click-through rates. UBS Group's channel research shows that AI-driven improvements in ROI can achieve increases of single digits to over ten percentage points in click-through rates and conversion rates.
Regarding AI agents, vertical agents may present clearer ROIs, with enterprises and professional consumers showing stronger willingness to pay. Content creation, Professional Services, and scientific research represent major use cases. UBS Group estimates the potential market size for enterprise-level AI agents at about 1.6 trillion yuan, vertical agents at about 250 billion yuan, while general consumer AI agents, despite their strategic importance, may see a more gradual monetization process.
Overseas expansion has become a new growth engine.
Chinese Internet giants are actively replicating successful models to expand into overseas markets. In the realm of cross-border e-commerce, PDD Holdings' Temu operates in over 70 countries, and its GMV is expected to reach 55 billion USD in 2024.
UBS Group's analysis shows that Temu has quickly adjusted its strategy: the majority of the fully managed model has been shut down in favor of a semi-managed model, actively expanding into markets outside the United States, focusing on the EU and Latin America, while also testing new fulfillment models like Y2 and X2. Despite several response measures, UBS Group expects Temu's operating losses to expand to 50 billion yuan in 2025.
In terms of overseas expansion for food delivery, Meituan's Keeta is making a strong entry into the Middle Eastern and Brazilian markets.
UBS Group estimates the combined market size of food delivery and instant logistics in the Middle East and Brazil reaches 80 billion USD. Although this is smaller compared to China's 220 billion USD market, the growth rate exceeds 20%, with higher profit margins. Assuming Keeta maintains a long-term 20% market share and a 4% operating profit margin, it could achieve 0.48 billion USD in operating profit.
Ctrip's overseas business now contributes 13-14% of group revenue, with growth exceeding 50%, rapidly gaining traction in the Asian market, and its businesses in Hong Kong and Singapore have already turned profitable.
Reshaping profit margins, shifting from commissions to advertising.
In the face of a more challenging macro environment, e-commerce platforms are shifting from consumer subsidies to supporting merchants and ensuring ecosystem health. This also aligns with the government's request to reduce the burden on merchants; the draft guidelines on platform fees released by the State Administration for Market Regulation in May reflect this trend.
The draft solicitation regarding platform fees published by the State Administration for Market Regulation in May encourages: reducing merchant burdens, focusing on supporting small and medium-sized enterprises; increasing transparency and simplifying fee structures.
UBS Group expects that the commission rates of Internet platforms will tend to standardize, shifting from commissions to advertising revenue.
Ways for platforms to enhance advertising rates include: more efficient use of advertising inventory, such as providing merchants with full-site marketing tools that guarantee ROI; collaborating with other platforms to gain additional traffic; upgrading advertising technology with generative AI to improve overall click-through and conversion rates; offering targeted subsidies to boost advertising conversion rates.
Editor/jayden
