THE RISE OF E-COMMERCE IN CHINA
Share of e-commerce in China is likely to be the defining measure of business success on the Net.
—Meg Whitman, 2005
Back in 2000, while headlines about eBay and Amazon dominated the business media, it was hard to imagine that China would soon overtake the United States as the world’s e-commerce leader.
But in 2016, China’s online transaction volumes surpassed those of the United States, with more than 450 million online shoppers generating $750 billion for the year.1 And while the market is already huge, the next few years’ growth could be staggering. The revolution that Alibaba pioneered has given way to a genuine boom, led by hungry e-commerce entrepreneurs who have followed in Alibaba’s wake, building innovative business models with no Western equivalent. This momentum seems only to be accelerating. Just consider the following retail projections by eMarketer for 20202:
• China will spend nearly $2.5 trillion online, 3.5 times as much as the United States.
• China’s 575 million online shoppers will account for 60 percent of the world’s online sales.
• These 575 million customers will account for only half of China’s population, which means the room for growth remains huge.
• China’s online sales will continue to grow at 24 percent, the fastest rate in the world.
How did this all happen, and what does it mean for businesses worldwide? And what is it about China’s evolution that has made e-commerce follow a different path than that of the West? Behind these astounding numbers lies a set of historic, economic, social, cultural, and political factors. To fully understand the context, it is helpful to travel beyond the gleaming skyscrapers of China’s modern cities to the villages and rice paddies of rural China.
THE VILLAGES: THE HEART OF CHINESE CULTURE
The gravel under my bicycle tires ground and popped as I rolled down the winding mountain road into the tiny village in the heart of Guizhou Province. I was on a solo bicycle journey, loosely retracing the route of the Red Army’s Long March. It was 2002, the depth of China’s Internet bust years, and Jack Ma and I had agreed that I’d take a year off from Alibaba until he needed someone with my international skill set again. I took advantage of my sabbatical to revisit one of my favorite places—China’s rural interior.
This was my fourth visit to Guizhou, China’s least developed province. It was not a popular vacation spot for China’s city dwellers, but I kept coming back, lured by the rural scenery and traditional life that offered a window on the roots of Chinese culture. Even in 2002, life in Guizhou was much as it had been for thousands of years. Farmers with pointy straw hats waded through water as they used compliant water buffalo to plow the terraced rice paddies.
The cooperation of villagers was apparent at every turn. To irrigate the fields, families with adjoining plots worked together to allow water to flow in a controlled manner from one rice paddy to the next, making sure that each interconnected plot received ample water for the rice to grow and thrive. Unlike the wheat farming of the American West, this was no individualist pursuit. Sorting out the irrigation routes, resolving any disputes, and ensuring social harmony required the coordination of the entire village.
Villages composed of tightly clustered wooden homes sat at the base of the hills, separated only by narrow winding footpaths. The villages offered a strong sense of community but little privacy. It was often hard to know where one family’s property ended and the neighbor’s began. During the day the villagers worked together, helping each other when machinery broke down. At night they drank rice wine together, celebrated festivals, and—no doubt—quietly gossiped with each other about other residents who perhaps were not carrying their weight in the community.
Market days were often announced by the early morning wail of pigs being slaughtered, a sound so loud that I at first thought an airplane was landing. Villagers would fill baskets with their goods, tie them to opposite ends of a bamboo pole, sling the cargo over their shoulders, and walk slowly down the hillsides, the baskets bouncing with their steps.
The markets rotated from village to village depending on the day of the week. Early on market days villagers would stake out a good position along the roadside, setting up their baskets and scales. Meat sellers clustered at one end of the market, with prospective buyers inspecting and weighing live chickens, ducks, fish, snakes, and—yes—even dogs. At another end of the market farmers sold produce and grains, negotiating with buyers over the prices of their bok choy, mushrooms, chili peppers, and cabbage. Buyers often frequented sellers from whom they’d bought for years, and the price they settled on depended on their relationship.
I always enjoyed my time in the villages, even if the hospitality could be a bit smothering. But each time I left a village, people warned me about the folks in the next place I was pedaling to: “You’re safe in our village here. But be careful when you get to the next town. There are some shady characters over there.” I’d toss my saddlebags onto the back of my bike, pedal to the next village, and find myself smothered in hospitality again. When it was time to leave, I got the same warning. Their repetition of this advice made it clear to me that trust within the tight-knit social circles in China did not extend to strangers from other groups.
Did Rice Cultivation Put the Social in China’s Social Commerce?
I didn’t know it then, but my visits to China’s villages would help me answer one question that always bugged me—why is commerce so much more social in China than in the United States? The answers may lie in an unexpected place—a 2014 study about the effect of rice cultivation on culture.
For years studies by cross-cultural psychologists have shown that Westerners tend to be more individualistic in their worldview and East Asians more interdependent and group oriented. While long observed, these differences had never been convincingly explained. Before 2014 the prevailing explanation for this was a theory of modernization—that as countries modernize, people become more individualistic. But this didn’t explain why individuals in wealthy modern societies like Japan and Korea still maintained a strong sense of shared collective identity.
But a 2014 study published in the journal Science laid out a persuasive hypothesis—that a tradition of rice cultivation is a stronger predictor of interdependent thinking than modernization. The researchers offered a “rice theory of culture” that argues that because rice paddies need standing water, farmers in rice regions need to closely cooperate to build elaborate irrigation systems. Wheat farming simply requires rain, making it less important for neighboring farmers to work together. On the other hand, the study explained, “paddy rice makes cooperation more valuable. This encourages rice farmers to cooperate intensely, form tight relationships based on reciprocity and avoid behaviors that create conflict.”3
The researchers had asked study participants to sketch diagrams of their social networks using circles to represent themselves in relation to their friends. To measure the differences in outlooks, the researchers simply measured the sizes of the circles and found that Westerners drew themselves significantly larger in relation to the others in their networks than did their East Asian counterparts. The researchers found that Americans are likely to draw the circle representing themselves about 6 millimeters larger than the circles for others in their network, while Europeans draw themselves 3.5 millimeters larger. In contrast, Japanese draw themselves smaller than the others in their network.
Researchers found cultural differences even within China between rice-farming and wheat-farming regions. In the wheat-farming north, participants were likely to have a more individualistic worldview. In the rice-farming south, participants had a more collectivist view. An important finding is that this difference persisted among city dwellers, who had acquired their cultural traits from ancestors over centuries, suggesting that this tendency toward tight social networks survives modernization.
Could rice cultivation explain this major difference between Chinese and Western culture? To me, it seems as likely as anything I’ve heard so far. During my fifteen years in China, it became clear that group associations were much deeper there than in the United States. I didn’t need to look any further than Alibaba, where my Chinese colleagues were much more excited about and willing to go along with group activities than their Silicon Valley counterparts. Company celebrations might end with all in attendance holding hands and singing songs. At annual meetings my colleagues and their teams would gladly dress up in costumes and do cheers. One annual event for Alibaba employees and their spouses even evolved into a mass wedding celebration, complete with Jack Ma leading an exchange of vows between couples. In the United States, Silicon Valley companies come under criticism for being cultlike. But you’d be hard-pressed to find a Silicon Valley start-up where employees gather at company events to hold hands and sing about rainbows—a not-unusual occurrence at Alibaba and other Chinese tech companies.
Groups in China simply have a much greater sense of shared identity than do groups in the West. This is evident even in the leadership of some tech giants in China. In the United States, tech founders seem to come in pairs. Steve Jobs and Steve Wozniak. Bill Gates and Steve Ballmer. Sergey Brin and Larry Page. But in China, the founders come in groups. Alibaba had eighteen cofounders. Baidu had seven knights. Ctrip had Four Tigers. Even today Alibaba’s corporate control is in the hands of the twenty-seven members of the Alibaba Partnership. This structure has been controversial in the West, drawing criticism for taking control of the company from average investors and putting it in the hands of a large committee. But it makes sense, given the strong group orientation in China.
Why am I discussing China’s cultural roots at such length? Because Western companies that didn’t understand the role of culture in China’s e-commerce landscape have wasted billions of investment dollars. As I will show, this group orientation explains how merchants and buyers do business online, how trust flows through e-commerce in China, why Chinese consumers are more likely to rate and recommend products than their Western counterparts, and why new e-commerce models are upending traditional product development cycles by using online communities to help create products for the brands that serve those shoppers.
But before I get to these revolutionary new models, let me trace the evolution of e-commerce in China.
THE GREAT LEAP BACKWARD: CHINA’S RETAIL IN MAO’S DARK AGES
In the 1930s no shopping street in China was more famous than Nanjing Road. It ran through the heart of Shanghai’s international settlement and stretched about 1.5 miles from the Bund to the racetrack. Visitors from China’s countryside would have walked down the wide boulevard as trams, double-decker buses, rickshaws, cars, and pedestrians all vied for space in the bustling street, which was lined with a unique blend of colonial architecture, Art Deco buildings, and Chinese shophouses adorned with elaborate wooden carvings. And no shopping trip to Nanjing Road would have been complete without a visit to the Dai Sun department store—China’s largest—where shoppers could find a variety of goods unavailable elsewhere in China, including Cuban cigars, Swiss watches, and German fountain pens. To make their city experience complete, shoppers at Dai Sun would line up to ride on China’s first and only escalator.4
But the consumer paradise abruptly came to an end when Mao’s Red Army captured Shanghai and communist soldiers marched down Nanjing Road in May 1949. Just five months later Mao stood in Beijing’s Tiananmen Square to proclaim the founding of the People’s Republic of China. Soon thereafter China’s private businesses were nationalized as “whole people enterprises,” plunging China’s retail into an ice age.
Under Mao, China’s wholesalers and retailers were organized into hierarchical, state-run entities, transforming their function from profit-making enterprises to simple storage facilities that managed the flow of products from state-owned factories to central distribution centers and then to local wholesalers and finally to retailers and end users. The state set prices and issued citizens commodity ration coupons for daily necessities such as food, fuel, and even bicycles. Rations were distributed equally to ensure that everyone in the collective system would receive their fair share. The government creatively rebranded the Dai Sun department store as the “No. 1 Shanghai Department Store,” and its former competitors became known as the “No. 2,” “No. 3,” and “No. 4 Shanghai Department Stores” (if only branding today were so easy). For the next thirty years, while Walmart and the US retail chains were busy consolidating and modernizing retail in the United States, China’s economy and retail infrastructure were locked in a deep freeze.
OPENING AND REFORM: THE CHINESE CONSUMER COMES BACK TO LIFE
Mao’s planned economy failed to provide the paradise it promised, and nearly thirty years later Deng Xiaoping brought about the reforms that gradually thawed China’s economy out of its ice age and returned China to a market economy. Buyers and sellers could once again haggle over prices, and going through state-owned wholesale channels was no longer mandatory. But as China’s economy opened up, the reform of retail was particularly slow, because of the Communist Party’s sensitivity about private property ownership and its desire to preserve stability in the prices and supplies of basic goods.
Thus, even as China opened up, its retail remained stodgy, slumbering, and slow to adopt technology. When I arrived in Beijing as a student in 1994, I had to take a forty-five-minute cab ride across town just to find imported products at the state-run Friendship Store. Long counters separated shoppers from the products for sale. Getting a product from the shelves required catching the attention of a sleepy clerk who would write down your order on a flimsy piece of paper you took to the cashier. Once you paid, the cashier would stamp the paper, and you had to return to the counter to present your stamped receipt to claim your product. The concept of self-service—or even shopping carts—hadn’t quite caught on yet. Want another product in another category? Then repeat the process a second time in the section of the store devoted to that product’s particular category. Want another? Repeat it a third time. By the time I got the Pringles and electric razor I’d come for, I felt as if I’d applied for citizenship.
The introduction of international retail management, expertise, and technology no doubt would have made China’s retail channels more efficient overnight and brought down prices for consumers. But rather than embrace international retailers, China’s leaders decided to play it safe and took baby steps instead. From 1978 to 1991, they forbade foreign investments in retail and wholesale. Starting in 1992, they allowed some foreign investment but largely limited it to special economic zones. Even then, government rules required that Chinese partners had to own 51 percent of all retail businesses, and imported products could not make up more than 30 percent of the items on offer. For the next few years foreign investment in retail operated in a regulatory gray area, with local government policies and national policies often unclear and at odds. Regional chain stores began to grow in the more sophisticated cities but usually were locally operated and lacked modern international retailing techniques.
The turning point came in 2001, when China became a member of the World Trade Organization, which required that retail be fully liberalized. In 2004 China lifted most restrictions on foreign investment in retail. Walmart, the French department store Carrefour, and others began to aggressively expand from their bases in the major cities and into the second-, third-, and fourth-tier cities. But what started as a race between offline retailers took an unexpected twist when the Internet hit China’s shores.
EARLY E-COMMERCE IN CHINA: US MODELS AND OTHER FALSE STARTS
The “Amazons of China”
For those of us in China in 1995, the Netscape IPO that sparked the US tech boom seemed a world away. Except for a few expats and academics who used the Internet to stay connected with overseas colleagues and friends, the Internet was slow to catch on in China. But as the US dot-com boom reached a crescendo in 1999, US investors began to look beyond the United States, and China was suddenly in their crosshairs, even though fewer than ten million Chinese were online.
The highly successful Nasdaq IPO of Yahoo!-style portal China.com in July 1999 was the catalyst that China’s Internet needed, and venture capitalists soon were on planes to China in search of the next big things. They were attracted by the familiar—companies modeled after Amazon, with its business-to-consumer (B2C) model, and eBay, with its consumer-to-consumer (C2C) auction model. They assumed that these business models would soon dominate e-commerce. For investors eager to see Chinese counterparts to the US success stories, there were a number of e-commerce companies following the Amazon and eBay playbooks.
The most commonly replicated approach was Amazon’s B2C model, which embraced the notion of building large central warehouses, stocking a variety of goods across many categories, and using the Internet as a storefront. In China the most visible and prominent of these Amazon clones was 8848, started by a former software retailer, Wang Juntao. Wang started 8848 in March 1999 with the goal of making the company as well known as the origin of its name, Mount Everest and its altitude of 8,848 meters. Wang was quickly dubbed the “father of China’s e-commerce” and graced the covers of business magazines around the country.
Other Amazon clones followed Wang Juntao into B2C. The husband-and-wife duo Li Guoqing and Peggy Yu opened Dangdang.com in November 2009, entering the market, like Amazon did, as an online bookseller. Yu, an MBA grad of New York University, had worked on Wall Street after graduation and observed the rise of Amazon. Her husband, a book publisher in China, became her partner in the start-up, bringing book industry expertise. Together they created China’s largest online bookstore. Not far behind Dangdang was another online bookseller, Joyo.com, which had financial backing from the software maker Kingsoft in late 1999.
Despite lots of media buzz, complete with dot-com essentials such as workers who roller-skated around warehouses (Segways were not invented till 2001), these B2C businesses gained neither traction nor profits. The Amazons of China soon realized that not enough shoppers were online to drive the sales volumes required to justify their asset-heavy business models. Even as the number of netizens grew in China, the overall infrastructure for commerce was too inefficient to allow these businesses to realize sufficient profits. Amazon had been successful in the United States because its business model built on an efficient infrastructure for managing inventory, shipping, logistics, and payment. But in China everything had to be built from scratch, making it simply too expensive to squeeze out any profits. Credit card penetration was negligible, so companies had to rely on cash on delivery, a more expensive option. Logistics were costly because China’s logistics players were fragmented, regional, and didn’t communicate with each other, raising the costs—and time—for getting a product from warehouse to doorstep. Reverse logistics to manage returns were even more complicated. China had no history of a thriving mail-order catalog industry, and delivery there was traditionally one way, providing no easy way for customers to return products. Worse, companies and customers had no technology that would allow them to track the delivery of a product through the fulfillment process.
The mounting costs made the Amazon B2C model unworkable in China. Two years after he was dubbed the father of e-commerce in China, Wang Juntao was forced out of 8848. Internal divisions and disputes between Wang and his board ultimately led to their divorce. Not long thereafter, 8848 shut down.5
The other Amazon clones, Dangdang and Joyo.com, managed to survive the bursting of the Internet bubble and limped through the next few years as more and more Chinese came online. But their businesses never became significant to the overall e-commerce market in China. Amazon bought Joyo for $75 million in 2004, a purchase that returned little value to the investors who had invested more than $52 million in the company just before the sale. Dangdang fared better, managing to go public on the New York Stock Exchange in 2010. Although Dangdang is a success story in its own right, its market share has hovered around 1 percent of China’s total e-commerce market, never quite making the impact that its investors had hoped for and certainly not the impact its counterpart, Amazon, has made in the US market.6
The eBay of China
Although Amazon’s inventory-led model failed to drive China’s e-commerce forward, eBay’s marketplace model did slightly better. EBay’s successful 1998 IPO inspired several eBay clones in China, led by entrepreneurs hoping to replicate eBay’s success. Rising to the top was EachNet, founded in 1999 by Shao Yibo, a mathematics whiz who was one of the first students from mainland China to receive a full scholarship to Harvard. Shao worked at Boston Consulting Group for two years, returned to Harvard for business school, and headed back to China after graduation to join the Internet gold rush. He raised $7 million in angel funds and venture capital and was soon on his way with EachNet.7
Shao quickly learned that China faced unique obstacles to making a success of the auction model, chief among them the lack of trust between buyers and sellers who had no previous relationship. Whereas eBay in the United States had concluded that “people are basically good” in their e-commerce dealings, Shao was finding the China market tougher, lamenting that “in the U.S., if you place a bid, it’s a contract, and by law you need to fulfill that bid if you win the auction. That’s very clear. People would be afraid of getting sued if they did not abide by that contract. In China people don’t care.” He described the attitude of early EachNet users as “‘I place a bid, I don’t want it anymore, tough luck.’”8
To help address the issue of trust, EachNet limited its auctions to Shanghai and set up trading posts where customers could meet sellers in person after connecting online. At the trading posts customers would inspect the goods to their satisfaction and then pay cash. But by 2001 Shao had found these trading posts too expensive to use nationally and shut them down.
It became apparent that eBay’s auction model was not suitable for the China market. EBay’s auction model had succeeded in the United States because it provided a marketplace where one-of-a-kind items could find a price. Whether it was a collectible, like a hard-to-find Pez dispenser, or a used item, like a slightly faded oriental rug, the only way to determine the market price was to put it online and allow people to bid on it. Instead of putting the items on the front lawn for a yard sale that might attract only nearby neighbors, eBay created a nationwide yard sale where sellers had a better chance of finding the specific item they were looking for. And with its auction model, prices would start low and escalate with the bidding until they reached the market price.
Chinese, on the other hand, did not have basements or garages full of consumer goods that had accumulated for years. They had relatively few possessions and an aversion to buying used goods. And forget about collectibles. Outside of a few antiques, the one collectible item that everyone had was the one they were hoping to get rid of—Mao’s Little Red Book and its ideology.
It turned out that a marketplace for new, standardized products had a better chance of success than one designed for used items and collectibles, so EachNet acquired a distributor in its hottest category, mobile phones, and began to focus more on mobile phones and accessories.
But EachNet still faced challenges, especially with payment and logistics, because of the big gaps in China’s commercial infrastructure. To address the payment issue, EachNet encouraged customers to apply for credit cards, which had been allowed only since 1999, but their participation was slow. And credit card usage still didn’t solve the chicken-and-egg problem of settlement risk—a merchant hesitant to send the product before receiving payment, and a buyer hesitant to send money before receiving the product. To resolve this issue EachNet set up its own escrow service to hold customers’ payments and release them only after they confirmed satisfactory delivery of the product. EachNet took a 3 percent commission on each transaction. But the service never took off and was sidelined in favor of developing a direct payment system like PayPal, which had been a key driver of eBay’s growth in the United States.
In 2002 EachNet reached about three million registered users, generating a transaction volume of about $2 million per month—big for the China market but a drop in the bucket for its US counterpart, eBay. But EachNet’s prospects received a sizable boost when Shao’s sister Harvard Business School alum Meg Whitman led eBay to invest $30 million for a 33 percent stake in EachNet. EBay had already become one of the most valuable Internet companies in the world, and Wall Street’s confidence in Whitman and her company’s business model were at an all-time high. EBay’s investment provided Shao with the funds that would allow his business to take a quantum leap. In return eBay got a compelling story to tell Wall Street about eBay’s growth in China at about the time the US company suffered a resounding defeat in Japan at the hands of Softbank and Yahoo. Fifteen months after its initial investment, eBay exercised an option to take full control of EachNet and invested an additional $150 million.
In 2003, back at eBay’s home in San Jose, California, the prospects for EachNet must have seemed bright. And on Wall Street they must have seemed even brighter. In eBay’s reach for global domination, it had never failed to win a market in which it was the market leader. The network effects of a marketplace had simply proved too great for any challengers to overcome. But eBay soon found itself in battle with a competitor it hadn’t anticipated.
Enter Alibaba and the B2B Marketplaces
The rise of my former boss, Jack Ma, and my former employer, Alibaba, has been well documented by now, but it’s worth revisiting just how Alibaba became China’s e-commerce leader and, in particular, how Alibaba’s business model evolved differently from that of eBay, Amazon, and their Chinese counterparts. The Alibaba story helps explain e-commerce in China and illuminates how e-commerce might develop in other emerging markets that share the characteristics of China.
Jack Ma was born in Hangzhou in 1964 and came of age just as China was opening up to the world. He took an interest in English and befriended foreign tourists who visited his hometown; he would walk them around Hangzhou’s famous West Lake at a time when few cities in China were open for tourism. His love of English led him to become an English teacher, and, after twice failing the math portion of his college entrance exams, Jack finally enrolled in a teacher’s college. After graduation he spent five years as an English teacher before striking out on his own to start the Hope translation company in 1994.
The translation business grew in parallel with the export boom on China’s east coast, with small exporters seeking his help in translating their marketing materials into English. Over time he could see that one of the biggest challenges these small exporters faced was finding buyers for their products. The traditional methods of trade shows and printed catalogs were expensive, and catalogs were out of date almost as soon as they were printed.
While on a trip to the United States in 1994, Jack was introduced to the Internet by a friend, and he was struck by an idea—he would build a website to connect Chinese companies and customers overseas. Upon returning to China, he created China Pages, an online English directory of Chinese companies and information that is still regarded as China’s first Internet company. As the company grew, China Pages caught the attention of a local government-backed telecom company, which pressured Jack into a partnership. But he quickly realized that he and his new partners had different visions for the Internet, so he left China Pages to join a government department in Beijing that was helping China’s smaller businesses use the Internet.
In Beijing Jack soon realized that the government officials he worked with wanted to use the Internet to control, rather than empower, China’s small enterprises. He decided to leave Beijing, and in 1999, just as the Internet boom was beginning to reach China, he gathered seventeen friends in his Hangzhou apartment to start Alibaba.com. He hoped that the website would help businesses around the world find new business opportunities and share in the treasures of e-commerce.
While EachNet, Dangdang, Joyo, and 8848 were focused on making it possible for consumers to buy items online, Alibaba was focused purely on building a business-to-business (B2B) marketplace. Alibaba wasn’t alone in the B2B space as Internet start-ups, such as MeetChina.com, and traditional catalog businesses, such as Global Sources, were transitioning to an online business model.
When I joined Alibaba in 2000, most Americans, including me, were not familiar with import-export as a sector for small and medium-sized businesses. I had no idea where the metal springs in our ballpoint pens came from. And those plastic knobs on our backyard sprinkler systems? They somehow just showed up. But along China’s east coast, tens of thousands of manufacturers of all sizes were busy producing the widgets, components, textiles, and general “stuff” that went into the items people used each day.
Back in 2000, the common refrain among Wall Street investors and analysts was that the “holy grail” for any B2B marketplace was to build an end-to-end transaction platform that would allow importers to make wholesale purchases with the click of a button, just as someone could instantly buy a book from Amazon online. “Just think,” went the argument. “If you can capture just a one percent commission on the $6.8 trillion of world trade, a B2B marketplace could grow as large as a hundred Amazons.”
But when Alibaba made a brief attempt to build an end-to-end transaction platform, we quickly learned that this argument had a central flaw. Sure, the Amazon model worked well when the only real variable in the purchase process was price, and everything else—such as delivery and payment terms—was largely constant. But import and export of items in wholesale volumes often have variables more important to businesses and that businesses want to negotiate. Product quantities, payment terms, shipping terms, production timing, and quality control were all important variables that they needed to negotiate. With large orders worth hundreds of thousands of dollars, importers and exporters were in a constant battle to push their risks to the other party. If you were purchasing a thousand champagne glasses for a hotel, price might be the most important variable. But if you were purchasing a thousand champagne glasses with “Welcome to the 2001 U.S. Open” emblazoned on them, timing might be the more important term. After all, if the exporter missed the event deadline, the glasses no longer had value. And what if glasses broke in shipment? Who would bear the risk?
We quickly abandoned the idea ofb building an end-to-end transaction platform for business and realized that the main value we could provide was what Jack Ma had observed about the exporters who were his translation clients—help in finding a business partner. So we adopted a completely open marketplace, where we did not try to lock buyers and sellers into an end-to-end transaction platform. Rather, Alibaba served as an interactive trade show: we would provide a booth for sellers, give them the tools to decorate their booth and display their products in any way they wanted, and leave the rest up to them. Rather than taking a commission from each transaction—which they would have done anything to get around—we would simply charge an annual subscription fee for their online booth and then sell them additional services, such as sponsored keyword listings, prominent display in their product category, and certification as a “Gold Supplier” if they met certain standards.
Our competitors, meanwhile, stubbornly pursued the closed marketplace strategy, hoping to corral the world’s importers and exporters in their enclosure and regularly tax them for a percentage of sales through the platform. Naturally, the entrepreneurial and independent-minded customers resisted this, and our competitors soon either went out of business or disappeared. After a long struggle Alibaba achieved profitability in 2002, emerging as the last marketplace standing in the B2B domain, and—more important—cemented a strong belief in an open marketplace model that would empower sellers with customizable storefronts rather than control sellers in closed end-to-end platforms. This part of Alibaba’s corporate DNA served us well when it came time to battle our biggest competitor yet—eBay.
C2C: An E-Commerce Ecosystem Built by an Army of Ants
Many thought Alibaba’s entry in the consumer e-commerce market in 2003, Taobao.com, was not a smart move. When Jack told a group of outside investors about his vision for Taobao, one stood up in the middle of the meeting, walked out the door, and said on his way out, “Jack, eBay will win.” Even within Alibaba, some in senior management resisted the idea of competing with eBay. After all, Alibaba had just turned the corner. The company had survived China’s SARS (severe acute respiratory syndrome) scare despite four hundred Alibaba staffers having been quarantined. Alibaba’s B2B business had reached profitability and was growing quickly. But just as the company’s future seemed secure, Jack made a “bet the company” kind of decision—to enter the C2C e-commerce market and go head to head with eBay’s EachNet. The eBay-Taobao battle turned out to be a turning point in e-commerce, marking the shift of e-commerce’s center of gravity from the United States to China.
When he started Taobao, Jack Ma explained his reasons for the move: “In the world today there are only two companies that understand how to build and run an online marketplace—eBay and Alibaba. Today, eBay is focused on consumers in China. But sooner or later they are going to start coming after our customers—small businesses. And when they do, our B2B business is going to come under threat.”
On Taobao’s first day it was essentially a clone of eBay. But in the months that followed, it evolved and morphed into an entirely new sort of animal—one that better fit the China market. Western analysts often assume that Taobao must have beaten eBay in China because of government favoritism. But I believe that the main reason Alibaba succeeded was that it adapted to the particular needs of local markets instead of aping the models of eBay and Amazon.
Amazon’s approach in the United States was essentially to move the “Walmart economy” online, creating a large retailer based on a high-volume, low-cost model that relied on massive scale and technology to create cost savings. EBay’s approach was to move the yard sale economy online, creating a market for used goods and collectibles. But Taobao’s was to move the mom-and-pop economy online, where small retailers could open stores to sell new products. This better fit China’s retail environment, which had more in common with the one Montgomery Ward first faced than the one Amazon or eBay had faced in the United States.
Why did this focus on mom-and-pop shops and small entrepreneurs better fit the China market? The large retail chains were too focused on building traditional retail stores to take a serious interest in e-commerce. And the large brands weren’t interested in e-commerce, because it represented a proportion of overall sales too insignificant to justify the cost and investment of trying to build an online operation. So getting e-commerce off the ground required one company (Alibaba) that would take the lead and resolve all the inefficiencies of China’s e-commerce infrastructure on behalf of all of China’s small businesses. Only then would the larger companies notice.
At Alibaba we had learned that small retail entrepreneurs who were signing up for Taobao had something in common with the small manufacturers who were Alibaba’s customers—their initial need was for a storefront from which they could find and attract buyers. They didn’t want to add a middleman who might limit their freedom and skim commissions from their razor-thin margins. If they could get leads about potential buyers online, they could hustle to close a deal with them and find a creative way to fulfill the purchase, just as they did in the offline world.
For example, let’s say a shopper found a sweater she liked but had a few questions about the material, whether it would shrink when washed, and whether she might be able to receive a discount if she bought two additional sweaters for her friends. On Taobao’s platform she could communicate directly with the seller by phone or instant message, negotiate some of the terms, and either head to the vendor’s online boutique or, if they were in the same city, have the vendor send an assistant to the buyer’s neighborhood so she could touch and feel the product before making a final decision. Sure, this was inefficient. But it was worth it for these small vendors who made only a few sales a day. And, most important, it worked because of its similarity to the way Chinese shoppers were already accustomed to doing business.
In addition to providing a marketplace that the Chinese user was more comfortable with, Taobao announced that its services would be free to buyers and sellers for the first three years. EBay publicly derided this policy, responding that “free is not a business model.” But in the context of China, where businesses didn’t yet believe in the power of e-commerce, the policy helped reassure sellers that they didn’t have to take risks to get started with an online shop. “Only after our customers make money using Taobao will we try to take money,” Jack Ma would say. EBay, on the other hand, charged product listing fees and transaction fees that discouraged sellers from giving the platform a try.
EBay’s biggest mistake was migrating EachNet’s platform to eBay’s global technical platform. It had the effect of “de-localizing” the website: it lost the localized look, feel, and functions that Chinese users liked. It also had the effect of slowing down EachNet’s ability to introduce new features, because the home office in San Jose had to approve every decision.
Within a few years of Jack Ma declaring war on eBay in China, Taobao went from a 7 percent market share of the C2C market to an 83 percent market share. In 2006 eBay shut down its China site and effectively withdrew from the market. Although it has enjoyed many successes before and since its experience in China, eBay’s loss of the China market is now a classic case study of how not to approach the China market.
THE TAOBAO APPROACH—WHY IT WORKED IN CHINA
To understand how e-commerce works in China, it’s worth taking a closer look at what made Taobao so different from eBay. Doing so reveals a lot about China’s e-commerce landscape and offers insight into how e-commerce may evolve in other emerging markets that share many of the China market’s characteristics.
Merchant Focus
Amazon and eBay are product-focused websites, and their customer is the shopper. They provide little space for third-party sellers to brand their stores, and they offer merchants a text link or, at most, a simple banner graphic to personalize their store. Customers who want to learn more about a third-party merchant who is selling on Amazon or eBay need to visit other websites.
Taobao took a different approach. Our primary customer was not the shopper; it was the third-party merchant who was selling on our site. We realized that retail in China began with trust between the buyer and seller and that the seller needed tools to build a business in the Taobao marketplace. We recognized that if we could make merchants happy, over time they would make their customers happy.
Customizable Storefronts
To make our merchants happy, we allowed them to create dynamic, exciting, and interactive online storefronts within the Taobao marketplace. Just as Alibaba provided exporters with online trade show “booths,” Taobao gave small retailers in China a place where they could express themselves and differentiate their shops from others’. These merchants didn’t yet have the tools or expertise to build effective websites on their own. So we allowed them to build what was essentially their own website—it just happened to be on Taobao rather than lost in the vast Internet sea. The storefronts we offered were so customizable that these merchants saw no need to build their own websites. Many used their Taobao URL on their business cards, so whenever they promoted their Taobao shop, they brought traffic to our marketplace, essentially doing our advertising for us.
A Look and Feel That Fit China
Designers in the West accept as religious tenet that website usability depends on a clean, crisp, minimalist design that blocks out noise and directs users to buy something online. When they come to China, these same designers usually are shocked to find local websites that favor bright colors, flashy animations, and a more cluttered design.
My theory is that the daily life of a typical web user in Shanghai is so different from that of someone in, say, Sweden that it affects the way Chinese approach an online interface. Shoppers in China are used to the busy shopping environment typified by Nanjing Road. But in rural Sweden, a shopper might spend an hour driving along a quiet country road, enjoying the serenity of farmland punctuated by a few red homes and cows, to get to a store.
Yes, this example is somewhat exaggerated. But research backs up the idea that Chinese Internet users expect more visual stimulation than their Western counterparts. I once attended a talk by Kai-fu Lee, then the head of Google China. He discussed how Google had used laboratory studies to track the eye movements of Internet users in China and compared them with the eye movements of Internet users in the United States. They found that when US Internet users visit Google, their eyes go straight to the search box. But when Chinese Internet users visit Google China, their eyes skip around the website, as if looking for surprises, stimulation, and new experiences.
We observed this phenomenon among Taobao’s users, although in less scientific ways. Shoppers responded positively to flashy promotions that leaped out at them. Largely because Taobao was offering the more exciting website, eBay China shoppers quickly migrated to Taobao, describing it as having more renxinghua, or human feel. To eBay’s Western managers, Taobao probably appeared to be too cute and flashy, no doubt stepping well outside the bounds of eBay’s graphic design standards. But Chinese shoppers were drawn to Taobao’s more colorful and visually stimulating marketplace.
Extensive Ratings
EBay and Amazon pioneered the use of online ratings as a way for shoppers to compare merchants and products. These ratings helped buyers evaluate sellers, and they provided a powerful incentive for sellers to give a high level of service. We learned the importance of online ratings from Amazon and eBay, but Taobao took them to an entirely new level.
We realized that, in a low-trust society like China’s, buyers would need more ratings variables than those offered by US e-commerce sites. After all, China didn’t have credit reports, Better Business Bureaus, or effective small-claims courts to resolve disputes. So we had to create detailed ratings systems to bridge the trust gap and allow buyers to better evaluate the merchants with whom they were doing business.
The rating systems on Taobao have evolved over time and now serve as comprehensive online reputations for the small businesses that sell on the site. Shoppers rate merchants on their service attitude, accuracy of product descriptions, and shipping performance. This system is both lighthearted and user friendly, inviting customers to award points with Red Roses (good), Yellow Roses (so-so), and Black Roses (poor). Taobao encourages buyers to add text comments to explain their rating and even upload photos of products to show how what they received compares with the images posted online.
Buyers can view the rose point totals of a seller as well as the seller’s historical trends to see whether the merchant’s performance is improving or declining. Finally, Taobao uses the points from the roses to provide an additional layer of ratings that displays the seller’s overall trust record according to a scale of hearts, diamonds, blue crowns, and red crowns.
Buyers are held accountable as well. After each successful transaction, sellers have a chance to rate buyers, who also build up “trust records,” starting with red hearts and ascending to diamonds, blue crowns, and red crowns. And because so many Taobao sellers are also buyers, their trust records for each role are displayed separately online for all to see.
Seem confusing? Yes, it does to me, too. But to a web population crazy about online games, this “gamification” of ratings makes participating in ratings more fun while giving buyers and sellers much-needed information about each other.
Unfortunately the participants in the game aren’t all good actors. The importance of having high ratings has also led to the widespread practice of “brushing,” whereby shop owners conspire with third parties who make fake orders online in order to enhance a merchant’s ratings. Instead of shipping a product, merchants send their co-conspirators empty boxes and, in exchange for a service fee, the fake customers will write positive ratings as if they had made an actual purchase. The practice has resulted in a cat-and-mouse game between Taobao and the “brushers” in an attempt to combat the practice.
Despite the problem of brushing, a highly engaged online population supports the ratings system, with an estimated 80 percent of Chinese netizens rating and reviewing products and sellers online. This makes for an extensive and dynamic system that has allowed Taobao to bridge the trust gap between buyer and seller in China, where it is so much wider than in the United States.
Communication Tools
When I first came to China as a student in 1994, before e-commerce had transformed the traditional way of doing business, I noticed immediately how human commerce was. If I wanted a basic bicycle in the United States, I had to drive to Target and pick one off the shelves. But the process in China was entirely different. There, if I mentioned to a friend that I wanted a bicycle, he would refer me to a relative who knew somebody who knew somebody who had a bicycle shop. At the shop I’d be offered a cup of tea and chat with the owner in my limited Chinese. We’d discuss the price, the owner would knock a few percentage points off the price, and then I’d walk out of the store with my new bicycle.
Going through a network of friends provided assurance that I would get a reasonable deal and that the bicycle would be new, not an old, broken bicycle refurbished and packaged in a new box. The personal reference offered the seller a customer who might go on to refer other students to his bicycle shop, now that the seller and I had forged a personal connection. And friends who made the introduction earned some social capital: the seller might reciprocate somewhere down the line.
I had to learn about this social nature of commerce in China through trial and error, but it came naturally to my Chinese colleagues. So it’s not surprising that they felt that integrating live chat tools in Taobao was critically important to replicate this offline approach. We had seen that China’s netizens were crazy about staying in touch with friends, family, and business partners through instant messenger tools such as MSN and QQ. To us, preventing buyers and sellers from communicating with each other—as eBay did—was simply unthinkable.
So we introduced an online chat function called AliWangWang. Users downloaded it to their computers and later to their smartphones, and it allowed them to communicate in real time. Because it was an integral part of the seller’s online storefront, it was like a merchant who welcomes shoppers to the store. First-time visitors to a merchant’s Taobao shop could ask questions and get to know the seller a little better in order to judge his or her professionalism. Sellers could better understand the needs of shoppers and make recommendations that might lead shoppers to put more items in their baskets. And, in Chinese tradition, the buyer usually could get the seller to reduce the price a bit—or even a lot if the seller was buying in volume, by perhaps getting several friends to join in on the purchase.
Our Silicon Valley counterparts pursued an entirely different approach. EBay’s thinking was that if buyers and sellers could communicate in real time, they might take their transaction offline and avoid paying eBay commissions. Besides, the thinking went, the beauty of technology is that it can automate customer service so effectively that human interactions are unnecessary. But allowing shop owners in China to communicate with buyers was about more than customer service. It was about sales and relationship building, which could lead to stronger buyer-seller relationships.
Over time AliWangWang provided additional tools; one allows merchants to have several service people chatting with customers simultaneously as they shop in larger numbers. It was, in effect, like having a live sales staff at a physical retail store, except that sales personnel were working remotely in customer service centers, saving costs for the retailers as sales staff grew to keep up with the growing online demand.
Community
When Jack Ma addressed his Alibaba cofounders, he discussed why his first venture, China Pages, had failed and how Alibaba would be positioned differently. The main difference was that Alibaba would not be just a website or a marketplace but a community, he said.
EBay also understood community, as evidenced by the passion that eBay’s early US merchants exhibited in organizing events and get-togethers that culminated in eBay’s annual, arena-filling eBay Live! events. But what eBay didn’t understand was that the Chinese online community was like the US online community on steroids.
Chinese are passionate about their online communities in a way that Westerners have to see to believe. China’s culture is, as I discussed earlier, more group-oriented, while Westerners tend to be more individualistic. To a typical online community member in China, the community is far more than an online forum and becomes part of their identity.
So when we designed our online communities for Taobao, eBay’s simple online forums and message boards were not enough for China’s customers. We built bright, colorful online channels dedicated to bringing together Taobao members with common interests. We highlighted the success stories and key information or skills that sellers had acquired by using Taobao. We gave Taobao sellers tools for organizing their own meet-ups and clubs. We allowed people to post lengthy blogs dedicated to their businesses.
As the forums grew in popularity, they became more democratized and took on a life of their own. We allowed community members to elect forum moderators who would engage those community members in active discussions. We created a series of awards for which Alibaba members could nominate sellers, and then the whole community would vote on the nominees. We established arbitration panels with elected members who would have final say in disputes between buyers and sellers. And Jack Ma would regularly communicate with community members to explain new policies or solicit feedback. This community of the members, by the members, and for the members filled the role of a virtual government institution, something the offline world lacked in most respects.
For further proof of just how engaged community members were with each other, consider that marriages coming out of the Taobao community were so numerous that we even established a channel to celebrate them. In China you wouldn’t be surprised to hear someone say that she met her husband through Taobao. But you would be hard-pressed to find a woman who met her husband on Amazon.com. That’s how human Taobao is.
THE REST OF THE ECOSYSTEM
Creating a marketplace where buyers could meet sellers was the core service of Taobao, but two other gaps in the e-commerce chain still needed to be addressed—payment and logistics. Slight tweaks to the US model were enough to complete the loop.
Payments
The ubiquity of credit cards in the United States fueled the early growth of both Amazon and eBay. Consumers were used to using credit cards for catalog purchases over the phone, and persuading them to use a credit card online was simply an incremental step.
For Amazon the transition was almost seamless, as early media reports about Amazon quickly made it a trusted brand. EBay faced a slightly more difficult challenge, because shoppers didn’t need to pay eBay—they needed to pay eBay’s merchants. So eBay had to facilitate payments between buyers and its many small sellers. EBay did this fairly easily by acquiring PayPal and encouraging its use. For the most part, buyers trusted eBay’s sellers and needed only a way to send the money to the seller. Because setting up systems for each seller to accept credit card payments was too difficult, PayPal provided the answer by making it easy for eBay’s shoppers to create and fund their PayPal accounts online, whether with credit cards or electronic bank transfers.
In China, on the other hand, credit cards had been made legal only in 1999, and their adoption by consumers was slow to take off. So when Alibaba’s payment system, Alipay, was launched in 2004, persuading customers to visit their banks and fund their Alipay accounts was a significant challenge. Of course, every challenge creates an opportunity. And we realized that if we could make it easy for people to get their bank accounts connected to Alipay, we could establish a deeper relationship with users. This deeper relationship even left open the possibility that Alipay could eventually evolve into a bank.
The good deals on Taobao gave Chinese shoppers the incentive to take the time to fund Alipay. A critical difference between Alipay and PayPal helped set us apart—Alipay was an escrow-based payment system. It would release a buyer’s funds to the seller only after the buyer gave notice that he’d received the goods and they met his expectations. This simple tweak helped make Alipay a much more attractive payment system than PayPal, because buyers and sellers were assured that Alipay would assume the risk if one side of the transaction did not live up to its obligations.
Logistics
Compared with other emerging markets, China’s logistics were good enough to get e-commerce off the ground. History may have helped. From the earliest Chinese empires to the establishment of the People’s Republic, China had nearly always maintained a centralized administration that kept track of who was where in the country. This centralized administration also built a national postal system that, although slow and inefficient, could still deliver packages reliably. In addition, in the years since China had opened up to the world, entrepreneurs had founded courier companies that, although fragmented across the country, could handle the vast majority of deliveries. It wasn’t a great logistics infrastructure, but buyers were willing to wait a few days to get a bargain online or a product they could not find in their hometown.
A SHOPPING MALL IS BORN: TMALL
Scrappy buyers and sellers on Taobao built China’s e-commerce ecosystem at a time when the larger players were more focused on selling through physical retail channels. By 2008 Taobao had become China’s largest shopping destination in terms of transaction volumes, forcing major retailers and brands to notice, especially because their own e-commerce initiatives had largely failed to attract online traffic.
Major brands and distributors did not want to sell on Taobao because they didn’t want their products to appear next to those of small and medium-sized merchants whose reliability might be uneven and whose products might be of questionable authenticity. The risk to their brands was just too great. To serve these sellers, Taobao opened Taobao Mall, which allowed larger and more qualified sellers to set up branded storefronts inside a premium channel within the Taobao marketplace. This differentiated them from the typical small Taobao retailers.
Shoppers on Taobao now were becoming more sophisticated and had growing expectations for the products and sellers they found on the marketplace. Buyers still were filled with uncertainty about the quality and origin of goods offered by Taobao vendors. Although seller ratings helped, shoppers still had nagging questions. Will this really be an authentic Nike shoe? Were these L’Oréal cosmetics properly stored in transit? Is this really a new iPhone?
Taobao Mall gave buyers assurances that they were buying authentic goods from authorized dealers. No longer were they buying from the virtual flea market on the city’s outskirts. Rather, they were shopping at the virtual equivalent of the glossy shopping mall in the center of the city. Sure, the prices were slightly higher. But the shopping experience was better. And it came with the guarantee that Taobao Mall had certified the sellers, taken hefty deposits from them, and would use those deposits to guarantee transactions if the seller attempted to cheat the buyer.
Taobao Mall gained enough sellers to be spun off into its own marketplace, Tmall, and brands from around the world soon flocked to it to sell their goods. Although Tmall is a separate website from Taobao, its listings were integrated in Taobao search results, clearly marked as Tmall listings, and they diverted Taobao shoppers to Tmall. Tmall proved to be the cash cow of Alibaba’s consumer marketplaces. Tmall sellers paid for listings, keyword advertisements, and promotions and agreed to transaction commissions of about 5 percent, depending on the product category.
Alibaba found it much easier to make money from Tmall than from Taobao. Taobao sellers were accustomed to free services and resisted any attempt by Taobao to charge fees. Tmall sellers, on the other hand, were more than happy to pay these fees because the costs of operating a Tmall store were much lower than those for a store in the offline world.
Alibaba gave Tmall several of the key features that had made Taobao so successful. Shoppers could use AliWangWang to chat in real time with salespeople through instant messaging. Storefronts were entirely customizable, so brand owners could truly personalize their Tmall shop, using all the graphics, images, video, and brand identity elements they would use on their own websites. Extensive ratings played a key role, keeping both buyers and sellers accountable. Encouraged to share links to new products they liked, shoppers formed a strong sense of community online. And Alibaba’s preferred partners could handle fulfillment while Alipay processed payments.
One constituency was not thrilled by Tmall—Taobao merchants. Tmall put them in direct competition with the larger brands, which were now selling identical products alongside those offered by the little guys. As Tmall continued to raise the qualifications for Tmall sellers, many small entrepreneurs didn’t make the cut and found themselves sitting on thousands of dollars’ worth of inventory. The tension hit a peak when, after a Tmall rule change, hundreds of Tmall users staged a protest at Alibaba headquarters, forcing the government to intervene and handing Jack Ma and Alibaba a public rebuke for not giving sellers enough time to prepare for the new policy. These protests died down over time as Alibaba made the case that Tmall was creating a safer and more reliable shopping environment by raising the qualifications of sellers.
With the widespread use of Taobao and Tmall, online shopping in China gained mainstream acceptance. The question for China’s shoppers was no longer whether shopping online was safe but rather where they would shop. Because Taobao and Tmall had made the online retail ecosystem much more mature and efficient, B2C models would be able to thrive in China. Logistics had improved greatly. Online payment platforms found widespread adoption. Thus ten years after the first “Amazons of China” appeared, the B2C model made a comeback. But it wasn’t early entrants like Dang-dang or Amazon (which now owned Joyo) that rose to prominence. Rather, it was a company that was born in the unlikeliest of times—during the SARS crisis.
RETURN OF THE AMAZON MODEL AND THE RISE OF JINGDONG
When eBay withdrew from the China market in 2005, Alibaba seemed to have no serious challengers for dominance of the market. But the gradual rise of Jingdong Mall, or JD.com, gave Alibaba its first post-eBay challenge and created a sort of battle of the business models. The Alibaba-Jingdong battle is more than a battle of websites. It has set up a battle between the two online ecosystems, a battle that has important implications for the future of e-commerce not only in China but worldwide, as it will help predict which business model is more likely to succeed in other emerging markets.
Richard Liu, a Chinese entrepreneur born in 1974 to a family of businesspeople in the coastal province of Jiangsu, started Jingdong as a retail company in Beijing in 1998. Liu came to Beijing initially to study social sciences and bought a restaurant as a way to support himself through college. When his staff ran off with his money, he lost the restaurant and was forced to borrow $31,000 from his father, which was deeply embarrassing but taught him an important lesson. “I gradually understood that the restaurant bankruptcy was my fault,” he said, “because I had not established management structures, done oversight, or established financial systems and procedures.”9
Several years later he redeemed himself by setting up Jingdong, a successful consumer electronics shop in Beijing’s Zhongguancun IT district. Within five years he had twelve stores that brought in more than $1.45 million a year. But when SARS hit China in 2003, customers stayed home, and Liu realized the only way to run his business was to sell online. So he opened an online version of his store, 360buy. “I wouldn’t have entered e-commerce if hadn’t it been for SARS,” Liu later remarked.10
Since then Jingdong has expanded aggressively, blazing past its B2C rivals, DangDang and Amazon China. While Jingdong is known for electronics, it has expanded into books, clothing, accessories, and general merchandise. When customers complained about unreliable deliveries by China’s inefficient patchwork of couriers and delivery services, Jingdong rolled out its own nationwide delivery fleet. It has used this to differentiate itself from Taobao/Tmall by selling Jingdong as a place that manages the entire consumer experience. Because it has its own delivery fleet, it can track and manage product deliveries and returns more seamlessly. This of course has come with a cost, and by 2016 Jingdong was employing more than 100,000 people, the vast majority in delivery.
Over the years Jingdong has expanded its offerings to include a marketplace model, allowing outside merchants to plug in to the Jingdong distribution platform and putting Jingdong in head-to-head combat with Alibaba’s Tmall. This has allowed Jingdong to further increase its product variety and support its big investments in its national distribution infrastructure. As cross-border trade has increased, the company has also worked hard to attract international brands to sell on its global platform.
Jingdong’s increasing competition with Alibaba and their different business models has also led to a public spat between Liu and Jack Ma. Ma’s well-known prediction that Jingdong’s asset-heavy business model “[will] end in disaster” only fueled the animosity. Liu has frequently taken to the media to counter that Taobao and Tmall were huge sources of counterfeit goods and only a business model such as Jingdong’s can help weed out fakes.
Whose Business Model Will Prevail?
The biggest question about Jingdong remains its decision to own and operate its logistics and delivery infrastructure. It is what investors either most love or most hate about Jingdong’s business model. Even Amazon has left deliveries and last-mile delivery up to third parties. Alibaba’s approach has been to create a consortium—the Cainiao Network—that connects the existing logistics providers in China. Cainiao has 1,200 employees and handles 33 million packages a day. Jingdong, on the other hand, has 100,000 employees handling 3.4 million packages a day. To reach Alibaba’s delivery-to-employee ratio, Alibaba argues, Jingdong would need 1 million employees.
Which model will win? No one seems sure. Jingdong defenders say that as China’s e-commerce infrastructure becomes increasingly efficient, the full-service model will win—because greater scale can keep a lid on the costs across the entire ecosystem of an inventory-led model. Alibaba defenders argue that managing inventory across multiple categories is simply too difficult a job for any one player to handle. Seasonal trends and changing fashions make it important for specialized category managers to be close to their customers and know when to stock the right inventory. This, they say, is better done by specialized merchants than large, cross-category retailers.
Alibaba’s partisans also argue that a marketplace model made up of diverse smaller sellers creates a greater sense of community, which leads to a more effective system of ratings. This social power of community gives Alibaba an advantage but one that Jingdong was able to counter in part by teaming up with another Chinese Internet goliath—Tencent.
TENCENT—A COMMUNITY ON STEROIDS
In 2004 I attended a small dinner with Jack Ma and a roundtable of Morgan Stanley executives. One turned to Jack and asked, “What Internet company in China, besides Alibaba, do you think we should be looking to invest in?” Jack didn’t hesitate: “Tencent. What they’ve created is really valuable. But people don’t seem to realize it yet.”
I wish I’d taken Jack’s investment advice. When Jack made his recommendation, Tencent’s share price on the Hong Kong Stock Exchange hovered around HK$1 per share. By April 2017 its stock price had increased to HK$230, making the company worth $279 billion, ranking it among the ten most valuable companies in the world.
Tencent is a household name in China but largely unknown outside the country. This owes to the quiet leadership style of its plodding founder, Pony Ma, who has eschewed the media limelight while building one of the world’s largest tech companies.
Indeed Pony’s style could not be more different from Jack Ma’s (no relation). Jack Ma’s extroverted, attention-grabbing style has attracted international media coverage and made him the face of China, Inc. Pony has largely remained enigmatic and notoriously averse to media attention. But the social media empire Pony has built is no less impressive than Alibaba’s e-commerce empire.
Pony was born in 1971 in southern China, where he studied computer science at Shenzhen University. After graduation he worked at a telecom company but left to found Tencent in 1998. His first product to catch on, in early 1999, was a near clone of ICQ, the Israeli instant messaging product for desktops. Even as he named his product OICQ, Pony brushed off criticism that his creation was simply a copy of the Israeli product, claiming “[To] copy is not evil.”11 But, under pressure, he ultimately changed the name to QQ and adopted a penguin as its mascot.
QQ quickly became a hit with young Chinese netizens, who proved to be crazy about connecting with others online, making friends, and expanding their social networks through QQ’s platform. QQ quickly expanded well beyond instant messaging, allowing users to form groups, post photos, and personalize their profiles online. What was once a clone of ICQ soon morphed into a dynamic social network that, one could argue, was a Facebook for China before Facebook existed.
In April 2000 the success of QQ helped Pony attract a $2.2 million investment from IDG, the tech-oriented US publishing company, and Richard Li, son of the Hong Kong tycoon Li Ka-shing. But one year later, when Tencent’s large community failed to produce a model for making money, Li and IDG sold their 47 percent stake to the South African media company Naspers for $32 million. (Naspers’ investment would prove to be one of the greatest investments of all time, rivaled only by Softbank’s investment in Alibaba.)
Tencent had its own struggles in the early 2000s and nearly ran out of money. The company had millions of customers but no clear way to make money from its free services. After some trial and error, the company found it could charge users microfees for sending QQ messages. Tencent next started several value-added services that brought in enough revenue for the company to list on the Hong Kong Stock Exchange in 2004.
When it first went public, investors had questions about how QQ could grow its revenue base. Tencent’s stock gradually rose as it found new ways to make money from its platform, offering users a chance to buy emoticons, ringtones, and storage space. But Tencent found its golden goose when it expanded into online games. It bought the rights to popular games from around the world, adapted them for China, and made money on the sale of virtual weapons and other virtual items, pulling in millions of dollars from transactions that generated one penny at a time. By the end of 2016 the revenues from these game-related value-added services hit $10.2 billion.
As Tencent’s community grew, e-commerce seemed to offer an attractive opportunity, so it established Paipai in direct competition with Taobao. Like Taobao’s users, Paipai’s could create online shops and sell items online. But Paipai’s market share never exceeded 10 percent, and it eventually gave up on the market.
Despite the failure of Paipai, Tencent solidified its place in China as the dominant social networking player when it moved the power of its community from the desktop to the smartphone with the introduction of WeChat, known in Chinese as Weixin, in 2011. As smartphones became the primary method Chinese use to access the web, Tencent’s aggressive move to mobile allowed it to quickly build an ecosystem much more dominant than that of any of its Western counterparts.
WeChat has essentially taken the interconnectedness and tight-knit community of the rice fields and villages to the smartphone, making it an even bigger part of people’s lives in China than the smartphone is in the West. To compare WeChat with Facebook simply doesn’t do it justice. WeChat is much more than an app or a social network. It is an entire ecosystem, putting content, community, and commerce under one roof. Think Facebook plus WhatsApp plus Zynga plus LinkedIn plus just about everything else you might want to use to organize your life. By March 2016, more than 700 million Chinese used WeChat religiously, with three fifths of these users using it more than ten times a day.12
In addition to chatting with friends in their contact list, users can search for nearby WeChat users, browse their public newsfeed “moments,” form new friendships and connections, and—yes—even find dates. Users can browse news, content, and product recommendations from celebrities. Users shop online at WeChat’s brand stores. And they can pay offline merchants with Tenpay by scanning QR codes at point-of-sale terminals or even send money to others using Tenpay’s “Lucky Packet” feature.
WeChat is even replacing the previously all-important custom of exchanging business cards in China. On a recent trip to China I noticed that business meetings ended by connecting on WeChat rather than by exchanging business cards. And for group meetings, it’s not uncommon for attendees to take advantage of WeChat’s “shake” feature to simultaneously connect with others nearby who are shaking their mobile phones, especially convenient when an entire group in a room wants to connect and form a group at the same time.
Perhaps one of the most surprising aspects about WeChat is just how quickly new acquaintances or business associates are willing to connect with each other on the service. People using social networks in China make fewer distinctions between the professional and the personal than Westerners do. This blurring of worlds has made a service like LinkedIn much less important, because friends and colleagues alike are using WeChat contact lists.
WeChat’s dominance in social networking did not go unchallenged, especially by one of Pony Ma’s biggest admirers, Jack Ma. Alarmed that WeChat might pull away Alibaba’s shoppers, Jack introduced his own mobile messaging platform, Laiwang, and declared war on WeChat in 2012. In his drive to gain more adopters for Laiwang, Jack called on each of Alibaba’s employees to recruit one hundred new Laiwang users, reportedly withholding the bonus of anyone who failed to meet the quota. Despite Jack’s exhortations and threats, Laiwang was never able to catch up, and WeChat became the dominant player in social networking and instant messaging.
Undeterred, in 2013 Alibaba began acquiring shares in Sina Weibo, China’s early social networking pioneer, which is regarded as the Twitter of China. In contrast to WeChat, which allows only connections to have access to a user’s private posts, Weibo is a public platform where individuals and celebrities post public blogs and commentary. Over the years government crackdowns on political content have put Weibo at odds with officials, and this has stifled its growth. Although Weibo is still a force in China, it did not allow Alibaba to catch up with Tencent in social networking.
With his company’s position firmly in place, Pony once again turned his attention to e-commerce and entered a partnership with Alibaba’s biggest rival, Jingdong. In 2014, Tencent invested $215 million for an initial 15 percent equity stake in Jingdong and teamed up to redirect WeChat traffic to Jingdong’s platform. The deal gave Tencent yet another way to monetize its user traffic. In exchange, Jingdong got the traffic it needed to maintain its growth and scale. And it set the stage for the battle for the future of China’s e-commerce market.