Alibaba: how marketplaces are changing the face of retail

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On September 19th, the Chinese e-commerce giant Alibaba went public after months of hype. The IPO frenzy hit the New York Stock Exchange with a share price increasing by 38% on the first day of trading, making Alibaba the largest IPO ever with a historical $25b.

Why the hysteria? Simply put, Alibaba is the biggest, most successful e-commerce company ever, with bigger transaction volumes than both eBay and Amazon combined.

The Chinese success story, which covers different online formulas, accounts for 80% of all online commerce in China, bringing the term “dominance” to a whole new level. Just to compare: Amazon takes 16% of all online commerce in the US. Alibaba counts 279 million active customers (Amazon about 244 million), enjoys profit margins of 43% (Amazon struggles to break even) and, with China’s online population expected to grow to 800 million by next year, their number of customers will see tremendous growth.
Alibaba is a giant and everyone seems eager to take a bite of it.

A low cost marketplace brings neutrality and profitability

But given the nature of the business, is it fair to compare Alibaba with Amazon? The key to Alibaba’s financial success, and a massive differentiator from Amazon, is that the company doesn’t actually sell any products. Instead, Alibaba operates marketplaces for third-party sellers who either pay a commission for sales or pay an advertising fee to have their products displayed more prominently on Alibaba’s sites. It’s all sales through Alibaba and not by Alibaba.

Amazon spent over $8.5 billion on its order fulfilment centres in 2013, a cost that Alibaba doesn’t have to bear. Alibaba also has less than 21,000 full-time employees and 4,500 part-time customer representatives, compared to a staggering 117,300 full-timers at Amazon. In short, unlike Amazon, the company doesn’t have to spend more to make more.

On top of this, Alibaba takes a neutral position towards its merchants or, should we say, customers, where Amazon competes with its merchants on its own marketplace.

China is not about online retail, it’s about online marketplaces

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Only a small portion of Chinese online retail takes place directly between consumers and retailers, regardless if it is online pure players or brick-and-mortar multichannel retailers: most business occurs on digital marketplaces.

The success of Chinese market places unravelled

China’s online ecosystem of marketplaces has grown rapidly because it can exploit the inefficiencies and higher costs of China’s existing retail market. The country’s demographics (lots of smaller large cities) have allowed local players to grow and prevented large B2C retailers to appear. This is the main reason why the marketplace business is so dominant online: it brings (local) merchants and (local) customers together across the whole nation without the need for any warehousing or fulfilment centres, taking away massive logistic challenges.

Even though Chinese merchants may find it tempting to move away from using digital marketplaces to pursue growth by operating independently, the threshold to accomplish this is simply too high. To do so, these merchants shouldn’t just focus on products and prices, but go way beyond and dedicate management resources and significant investments to create a strong online brand, offering strong value propositions: superior customer service, fast and reliable delivery, an enhanced shopping experience and better targeted marketing.

This would require a whole new level of capabilities including possible partnerships with experienced players abroad to overcome such a threshold and we don’t expect this to happen anytime soon.

Apparently, bringing your store or brand to the audience instead of the other way around shows a higher return on investment and faster growth. Even strong, global brands like Zara, Burberry, Asos and even Costco have embraced that thought by recently joining Alibaba’s Tmall marketplace: the barrier to enter the Chinese consumer market has never been so low.

Alibaba is expected to expand in Southeast Asia first, then Middle East and Latin America

We expect Alibaba to focus on overseas markets where there are large Chinese-reading populations, such as Malaysia, Singapore and Taiwan. This would prevent them from having to build a brand from scratch, ensuring faster growth at a lower burn rate.

Soon after that, their focus will probably go towards Latin America and the Middle East, as these regions show strong similarities in market and online behaviour (massive mobile usage, underdeveloped online businesses). Besides that, being a platform rather than a retailer itself could prove a strong value proposition, offering a low threshold for many, many merchants who are waiting impatiently to go online and reach a massive audience.
For individual online merchants with limited resources, the biggest advantage of selling through a marketplace is tapping into the huge traffic flow a highly driven marketplace will offer them.

And for Alibaba itself: the business model that has been so successful in China will facilitate new markets entry, waiving investment requirements in warehouses and other expensive assets… almost making it sound like a win-win.

China is no longer a sleeping giant… it’s the traditional retail industry that needs a wakeup call

In general, and for the Middle East region specifically, these expectations indicate that store-based retailers and the manufacturers that supply them, will need to pay attention and pick up their pace. Many have yet to fully embrace multichannel strategies, instead of focusing on the sizable growth opportunities still available in their brick-and-mortar businesses. They will, at some point, have to decide whether to join existing or soon-to-come online marketplaces or establish their own online storefronts and how to enter that new value chain, considering a lack of knowledgeable resources in that region.

It is time for a wake-up call for many brick-and-mortar retailers to make them understand that a great in-store experience will soon no longer suffice to retain the audience that is visiting them today. A multichannel approach offering multiple digital touchpoints will be needed to anchor customers to a brand, increasing brand loyalty and repeat purchase… in-store and online.

Sources

China’s e-tail revolution, March 2013 – McKinsey Global Institute
Alibaba Group Holding Limited (BABA) – Yahoo Finance
10 Reasons why Alibaba is a Worldwide Leader in E-commerce – Forbes
The Alibaba Group Explained – Slideshare.net