CHINESE GROCERY’S AGE OF EMPIRES TWO GIANT GROUPINGS ARE CARVING UP THE MARKET CHINESE GROCERY’S AGE OF EMPIRES Chinese retail is evolving into two rival empires, each dominated by competing e-commerce giants. One realm is centered on Alibaba, which owns two of China’s largest e-commerce platforms, Taobao and TMall, as well as an electronic payments system, AliPay. The other is an alliance between JD, a leading online retailer, and Tencent, an internet and digital-technology conglomerate that owns WeChat, China’s most popular social-media app. These two empires already own the digital lives of Chinese consumers today, where the average Chinese spends over 60% of their mobile app usage on either ecosystem. Now Alibaba and Tencent/JD have set their sights on physical retail, including acquiring stakes in six of China’s top 10 hypermarkets, the country’s biggest electronics retailer, one of the largest department stores and the largest commercial property and entertainment conglomerate. Exhibit 1: Empire of JD/Tencent and Alibaba Experiece Online Physical Online Offline Social retail retail influence influence JD/ Mobike, QQ Vip.com, Little Walmart, Tencent Video, WeChat Pay, WeChat, QQ, Tencent University, Red Book, Yonghui, Dianping, JD logistics, LY.com, Qzone, Tencent Cloud, YHD.com, Wanda, Sogou, QQ Meituan Pengyou.com QQ Gaming, Zhuanzhuan Carrefour Music, WeChat DiDi ChuXing Pay Alibaba Ali Health, Taobao Etao, Taobao, Intime Retail, MGTV, YTO express, Sina Weibo, Group Education, Hema, Tmall, New Huadu, Yicai.com, 36Kr, Cainiao, Alipay, Momo, Amap.com, Suning.com Bailian, SCMP, Alipay Ali LST, Koubei Qyer.com, Xiami, Eleme, Century Mart, AcFun, Youku DiDi ChuXing, Sanjiang, Sun Ali Cloud Art, Hema Source: Oliver Wyman analysis Underlying their growing dominance is Chinese consumers’ enthusiasm for online shopping: In 2006, just 11 percent of the population enjoyed internet access; today, more than 460 million Chinese – one-third of the population – regularly shop online. Exhibit 2: Number of online shoppers in China from 2006 to 2016 IN MM 500 466.7 413.3 361.4 301.9 250 242.0 160.5 194.0 74.0 108.0 33.6 46.4 0 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 Source: CNNIC, Statista 2017 Copyright © 2018 Oliver Wyman 3 Unlike in Europe and North America, food shopping – the largest retail segment – is moving online too, encouraged by densely populated cities that favor rapid, efficient home delivery. As a result, nearly 10 percent of the Chinese population shops for groceries online, compared to just 3 percent in the United States and 6 percent in the United Kingdom, Europe’s highest rate. And room for expansion remains: Already, an estimated 5 percent of Chinese shoppers buy groceries exclusively online, indicating plenty of potential growth if more people stop shopping for food in physical stores. To gain still more customers, the e-commerce giants are introducing new shopping formats – dubbed O2O, or online-to-offline – that blend online shopping’s convenience and wealth of information with the social experience and physical contact with products that people enjoy in traditional, brick-and-mortar stores. An important foundation of the tech giants’ retail innovations is their dominance in mobile payments, of which 97 percent are processed by either Alibaba or Tencent. Mobile payments are already used for 35 percent of grocery purchases, and even when customers shop outside the big e-commerce platforms, they can still be a valuable source of data. Through the payments systems, the empires learn where, when, and what customers are buying, and complement it with the rest of their digital ecosystem to see which websites they like to visit, the apps they use, and whom they follow on social media. Exhibit 3: Development of mobile payment landscape in China MARKET SHARE BY PLAYER MARKET SIZE OF MOBILE PAYMENT IN CHINA 2017H1 IN TN RMB 2% 120 108 100 32% 80 202% 60 65% 40 35 20 16 8 1 AliPay WeChat Pay Others 0 2013 2014 2015 2016 2017F Source: Mobile payment association, Yiguan, Union Pay, Oliver Wyman analysis China’s traditional supermarkets and convenience stores can’t compete with this onslaught, and both their like-for-like sales and their margins are declining (see Exhibit 4). But they may survive in some form with help from the online giants themselves. Both Alibaba and JD have developed logistics systems based on centralized, large-scale networks of warehouses, which can replace traditional distribution. For supermarkets, the online giants can thus provide the means to deliver fresh food quick enough to satisfy demanding Chinese home cooks. They have also developed software that helps old-fashioned corner shops more easily access and tap into their logistics system to directly order goods. Copyright © 2018 Oliver Wyman 4 Exhibit 4: Declining performance to traditional big box grocers LFL REVENUE GROWTH RATE EVOLUTION BY PLAYER, 20102016 OPERATING MARGIN BY PLAYER IN % 2012 VS. 2016 IN % 15 2012 2016 10 CRE1 4.42 -4.63 5 Wumart1 3.5 2.03 0 -5 Yonghui 3.0 3.0 -10 San Jiang4 4.2 2.9 2010 2011 2012 2013 2014 2015 2016 1. 2015 number for CRE and Wumart is as of H1 FY2015; CRE figures are based on retail segment result figure as reported in the annual report “Segment Result“, mainly consisting of CR Vanguard, Chinese Arts & Crafts, CRCare, VIVO, Pacific Coffee, etc. | 2. Based on retail segment result figure as reported in the annual report “Segment Result” representing earnings before interest income, finance costs and taxation, to which we’ve added back the annual net gain on disposal of non-core investments and valuation surplus on investment properties | 3. As of 2015 due to data availability | 4. 2011-2014 LFL not available; 2015-2016 comparison on same store revenue growth; includes convenience store etc Source: Corporate annual reports, Investor presentations, Analyst reports, Oliver Wyman analysis Both empires are building their O2O power through three plays, each of which blends their online capabilities with offline stores in new ways. Exhibit 5: Future of retail in China: Major plays by the empires 1 2 3 Experiments with new Strategic partnership with Reinvention of traditional “mom and retail formats traditional big box retailers pop” shops Start to open own O2O retail Strategically invest in Capture the B2B opportunity to have fewer formats to showcase what offline giants to facilitate layers, higher efficiency, and more transparency “future” looks like their transformation and within RTM, and disrupt traditional distributors/ realize synergy wholesalers Taobao.com, YHD.com, JD, Tmall.com Brands Stay in the center of retail ecosystem and interact with every stakeholder e-Commerce platform Ali/ Already became the JD’s retail 3 largest players in empire Ali LST, JD China grocery market Xintonglu Alibaba Group, JD, Tencent Consumers Lianhua, Hema, Quik, Walmart, (multiple layers of) 7 Fresh, JD Bailian, RT-Mart, Distributors/ Convenience Yonghui, wholesalers store, Tmall Carrefour 2 1 Xiaodian Retailers Source: Oliver Wyman analysis Copyright © 2018 Oliver Wyman 5 EXPERIMENTS WITH NEW 1RETAIL FORMATS The first play is the development of new formats that blend digital and physical features to create imaginative new solutions. Many large supermarkets worldwide now offer online services, where customers can order via a website and have food delivered. But these mainly work as parallel services to traditional shopping in physical supermarkets. Exhibit 6: Overview of new retail format development Alibaba Group JD/Tencent Other players On its own By affiliated retailers On its own By affiliated retailers • Hema • Haiwuhui • 7 Fresh • Super Species • Fresh Ideas • F2 (New Huadu) (JD) (Yonghui) (Bu Bu Gao) Fast & • RT-Fresh • Zhangyu • Hyper-mart • Sp@ce Fresh • RISO (Meituan) (Bubugao) (Tian Hong) Fresh (Hema) supermarket • Lianhua Jingxuan (Lianhua & Bailian) • Bingo Box • Auchan Minute JD unmanned store • Bingo Box (Auchan) • Xingbianli • Suning Biu (Suning) Unmanned retail Source: Analyst reports, Company annual report, Oliver Wyman analysis At Alibaba’s Hema stores, customers don’t have to go to checkout counters; they can pay by smartphone. Many don’t take their purchases with them; the store sends a delivery van. And some don’t even want all their food at home; supermarket staff members cook some of it for eating in the store. Exhibit 7: Key features of new “O2O” stores – Hema example ASSORTMENT AND STORE INSTORE CHECK PRODUCT SETUP EXPERIENCE OUT DISPLAY 1. WELL PACKED HIGH 2. BASKETS ON THE 3. INSTORE DINING 4. HEMA APP TO CHECK QUALITY FRESH FLYING RAIL OUT AND ALIPAY TO PAY PRODUCTS • Get assured that products • Items picked from the • Buy high quality sea food • Get all purchase histories are kept fresh and good store and put on a flying with low price through App quality even with rail to get it delivered to • Enjoy in-store dining • Facilitate next purchase your home within 30 mins packaging together with grocery online if customers want • Gradually get used to it • Feel comfortable and shopping to buy same products once customers build convinced that the future trust with Hema online order enjoy the same product quality as in oine stores Source: Oliver Wyman analysis Copyright © 2018 Oliver Wyman 6 Hema stores aim to give shoppers the best of both worlds: the chance to see food before purchase combined with online shopping’s detailed product information, quick payment, and home delivery: To ensure customers get their food fresh, it arrives at their homes within 30 minutes. JD is experimenting with unmanned stores, uses mirrors, cameras, and smart shopping carts to see which products customers are looking at and taking from shelves. Then the store can provide them with information – and check what they’re walking out with. More generally, this kind of model will often feature in-house apps, digital price tags, self- service checkouts, and automated shopping carts.