In Depth: Alipay and WeChat Pay’s Smaller Peers Struggle Amid New Crackdown

Small nonbank payment service providers (PSPs) in China have faced challenges in competing with major players Alipay and WeChat Pay, relying on a questionable practice called “code stacking” to sustain profits. Regulatory efforts to curb such activities have spurred these PSPs to adopt new, compliant business models. [para. 1]

The market landscape has become more difficult, leading to a decrease in the number of nonbank PSPs from 270 in 2015 to 179 as recently reported by the central bank. The senior executive of a PSP mentioned that the era of earning through “code stacking” is over, pushing them to grow their customer base instead. [para. 2][para. 3]

“Code stacking,” or “tao ma,” involved underreporting transaction processing fees to banks by misclassifying high-fee transactions as lower-fee ones, thus pocketing the difference. This transaction fee is shared among the PSP, a settlement institution, and the card-issuing bank, with the bank receiving the most significant share. [para. 4][para. 5][para. 6]

While this practice violated regulations, it was prevalent among nonbank PSPs due to their thin profit margins. Changes in policy and stricter oversight have now compelled PSPs to abandon this scheme. [para. 7][para. 8]

Authorities have introduced several regulations over recent years to tighten the supervision of nonbank PSPs. Penalties for violations related to practices like “code stacking” have increased, adding to the compliance costs. [para. 9][para. 10]

One notable recent regulatory update came into effect on May 1, encompassing various operational aspects, including market access and user protection. Additional draft rules released by the central bank in April aim to detail the implementation of these regulations. [para. 11][para. 12]

In 2023, around 50 nonbank PSPs were fined for wrongdoings, including prominent examples such as Lakala Payment Co. Ltd., which had to rectify transactions valued at nearly 1.4 billion yuan in 2022. Similarly, Fujian Guotong Xingyi Network Technology Co. Ltd. returned 756 million yuan due to similar practices. UnionPay was also fined 15.4 million yuan for violations related to payment processing, likely connected to “code stacking.” [para. 13][para. 14][para. 15][para. 16]

To survive, PSPs are seeking new growth avenues. Chongqing Globebill Technology Service Co. Ltd., for instance, formed a joint venture with China National Petroleum Corp. to provide payment services at gas stations. PSPs are also tapping into overseas markets to counteract domestic growth slowdowns. [para. 17][para. 18]

Newland Digital Technology and Lakala reported overseas expansion, with Newland noting an 8.7% revenue increase from overseas operations in 2023. Cross-border payment services, while profitable, pose significant challenges due to high compliance costs and stiff competition. [para. 19][para. 20][para. 21]

Some PSPs are venturing beyond payment services by partnering with software-as-a-service (SaaS) companies to offer customized solutions. However, this area is also fraught with difficulties, as intense competition makes turning a profit challenging. [para. 22][para. 23]

The future for small PSPs appears tough, with market supply and demand likely reaching a new equilibrium, potentially forcing some smaller players to exit the industry. [para. 24]