The hottest and least understood e-commerce model: Community Group Buying
Why are Pinduoduo, Meituan, Didi, Bytedance, Alibaba and Tencent all interested in this?
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Talk to any tech adjacent person in Beijing this year and ask them about what's hot in tech. They'll probably say it's community group buying, followed by livestreaming e-commerce. Billions are being poured into startup investments right now, all of the major tech players have thrown their hats and money into the ring. Rumours circulate that entire business development teams get hired over from their competitors in a month. Subsidies are feeding entire villages. This is all over *looks it up* online grocery purchase in lower-tier Chinese cities?
Fresh groceries have remained the holy grail of e-commerce. A task so daunting that even Amazon hasn't been able to crack it. In China, the retail grocery market is estimated by McKinsey to be worth 5.2 trillion RMB (794bn dollars) in 2019, with only 10% of that currently online. In 2020, it seems like we've finally found a business model where the unit economics works at scale. Theoretically at least.
That's 社区团购 or community group-buying, the least understood business model in online retail right now. In this edition, we'll look at this business model’s innovations, its enabling factors, what will determine the winner’s success and ultimately its challenges.
Online grocery 1.0 in China
The failure of online groceries 1.0 was not so much technical as it was economical. It's always a challenge attracting users in a crowded commerce space, especially when the consumer can get groceries from plenty of offline sources. High Customer Acquisition Cost (CAC) for a new service is a hurdle, but nothing that can't be solved with enough money . Once the customer is onboarded, the issues have only started. Given the time constraints imposed by perishables, startups need to have a robust cold supply chain, quick turnaround in distribution centres and swift last-mile delivery to minimise stock spoilage. All the while balancing this with reasonable product quality control.
Even when the company executes the entire sourcing and delivery process perfectly, the unit economics often doesn't add up. Average Order Value (AOV) for groceries never reached that high (unless one added meat and seafood, but that also begets higher quality control requirements). Maintaining steady margins on products with fluctuating supply is a big sourcing challenge. The last-mile delivery costs for these high frequency, but low AOV deliveries often eat into the margin. Overall, a customer has to order many times before a startup breaks even on them, and it costs money to retain and engage these users. The fixed cost for running a cold supply chain is high, therefore requiring high volumes of orders to break even.
These linked issues have meant that online groceries have remained a niche e-commerce offering today in much of the world. They cater to an affluent customer base who are time-poor but cash-rich. This was also the case in China a few years ago, only the white-collar workers in China's first-tier cities (a concept I covered in the Kuaishou article) would order a few veggies for their dinner on their lunch break. China has the comparative advantage of having a high urban density, and deliveries can be cloistered, which cuts on logistics costs to a certain degree. But the majority of China's population would go to offline shops for their grocery needs, whether that be supermarkets or open-air markets.
Online grocery 2.0 community group-buying
With community group buying, the format works like this:
A self-designated community leader creates and maintains a WeChat group.
Community leader sign-ups individuals from their local region (usually within their regular walking distance), each WeChat group is capped at 500 people.
They maintain a weekly or daily schedule of posting a product selection to the group. The products are links to mini-programs where residents click through to place their orders. Residents do not have to order the same products and will only need to pay when their collective demand exceeds a designated value.
The products are not limited to groceries but also include other life essentials like paper towels.
Once the residents place their orders, the entire collated order is delivered in bulk to collection points the next day for the community leader to pick up.
Community leader unpacks the bulk order and then organises this into the resident's orders. They will either deliver the order, or the residents will come to this pick up themselves.
In case of issues, the community leader is the first point of contact for the residents. They will escalate the problem to the platforms and handle the resolution on behalf of the residents.
For their work, the community leaders get 10% commission from their group orders. Given the hands-on nature of the work, a community leader can typically only manage three WeChat groups well at any one point.
With the addition of community leaders into the supply chain, the unit economics for online groceries are fundamentally changed. Now CAC is lowered since community leaders are responsible for creating their own customer groups. Customer Life Time Value (CLTV) is extended since customers have more hands-on support and social buying promotes frequent purchases. Conversion rates are much higher - can reach 10% in WeChat community group buying rather than typical 2-3% e-commerce conversions. Community leaders and customers take care of the last-mile delivery, shaving off precious additional logistics costs (lowering logistics costs is often the sole driver of profitability in marketplaces). The platform can carry fewer SKUs, buying in large quantities directly from the source rather than through intermediaries and have higher pass-through rate, which means the produce stays fresh and contributes to a positive customer experience.
"The delivery cost per order for the home delivery mode is 7-10 RMB. This part of the cost is relatively rigid, and other fulfilment costs such as storage are about 1-2 RMB. The community group purchase model with a better order density can achieve less delivery cost of than 1.5 RMB per order" - Xingsheng Youxuan (One of the startup unicorn in the race)
The model is a win-win-win proposition for the consumer, community leader and the produce platform itself. The typical community group buying customer is price-conscious, often residing in third or fourth-tier cities, and frequently elderly (a population who find it hard to navigate the complicated purchasing consumer apps). For these consumers, they can access fresher, cheaper and potentially a wider range of goods (especially seafood in more remote regions). For the community leaders, who are typically local shopkeepers or stay-at-home mums, they can earn additional revenue while serving their community. For the produce platforms, they can run a streamlined operation with less spoilage and high volume throughputs. Ultimately, they can operate a profitable business at scale.
Enabling and tipping factors for Community Group Buying (CGB)
The enabling factors for community group-buying is a case study for how adaptive behaviour changes enable adjacent business models adoption. The phenomenon of WeChat buying groups has been slowly building with mini-apps. It took off with Pinduoduo who made collective bidding an everyday activity among group chats. These Wechat buying groups have enabled a group of community-entrepreneurs to have profitable side hustles through knowing how to create and maintain a chat group. The high urban density mentioned above also means these folks can service people within walking distance. The push towards poverty reduction and enabling commerce from far off regions has also meant that retailers have built out extensive cold supply chain capabilities across China, allowing reach in lower-tier cities which weren't accessible before.
The trend of community group buying has been gathering steam in the background. Startup proliferation started back in 2018, with 2019 being the year of consolidation and acquisition. Just as things were getting to a steady state at the beginning of 2020, the big tech players started moving in.
COVID-19 proved out the model and sped up the adoption rate. CGB mini-apps' MAU was 101m in Sept 2020, an increase of 68% YoY. During Covid, an underappreciated fact was that information transmission was primarily community-based. Residents relied on their local compound leaders for the local infection rates news and the relevant precautionary measures. At the same time, people needed to get groceries, and the community unified procurement for everyone using CGB.
Everyone has now seen the benefits of this business model and the opportunity. And what an opportunity, McKinsey estimates that Chinese online groceries market will grow at a CAGR of 30% - 50% for the next two years. This is not a different distribution channel for the tech giants, but rather a way to access specific unreachable customer segments and digitise their purchasing process outright.
Apparently, the rule of thumb in Chinese e-commerce retail is that once a market can generate 10bn RMB ($1.5bn) GMV topline, that's when the big tech players get interested since it indicates scalability.
The big-league tech players like Pinduoduo, Meituan and Didi are making moves and diving headfirst into this space. Alibaba has been a longtime player with their Freshippo range and also recently invested in Nice Tuan, a key startup player in the field. Kuaishou and Bytedance are moving in. Tencent has invested in everyone twice over already. Apart from the size of the market (widely acknowledged to be one of the last large consumer markets), the tech giants also see considerable upsell potential with their other offerings. In short, the war has just begun.
Success determining factors
As the competition increases, I think the following factors will determine the winners in this race:
Knowing the users - The winners in the game will understand the needs of the users deeply and know how this impacts the product SKUs and services offered by the community leader. If they know which of their users are using this as the primary weekly shopping trip rather than a supplementary channel, then having a relevant selection of goods is essential.
Owning the community leaders -Since community leaders are the single source of contact between the customers and the platform. Owning them is crucial to the success of this business. Though 'owning' the community leaders shouldn't merely be starting a bidding war, rather it should be to understand their needs. First and foremost, it requires delivery of high-quality products on time so that they do not have to handle excessive customer complaints, and can then move onto other offerings like metrics dashboard for their mini businesses. Since the community leaders are often shopkeepers, the prize here isn't just their community's purchases, but also their own store’s B2B purchases.
Establishing a secure logistics chain - The consumers will compare the product offerings relative to what they can buy at their local markets. With secure control of their logistics chain, players can offer high quality and regular delivery of goods to users which can earn them trust and repeatable sales with community leaders.
Ability to offer relevant SKUs - Since users are not making spontaneous purchases in community group buying, the CGB has the potential to become the decentralised Costco. The player who understands how to put together a concentrated but high coverage SKU base for the user is the player who can truly fulfil their needs.
IT and customer support expertise - while we've only seen the tech players move in right now, the natural players in this game are the grocery supermarkets who have the produce supply chain already. I expect them to come into the fray soon enough. When they do, having the right IT know-how is crucial since that'll be their deficiency relative to the existing tech players.
We are in the middle of the lastest battle royale in Chinese consumer tech, and it'll be a while until we see how it shakes out. It's a tough battle to win for a few reasons. There are no network effects to this market, success in one region doesn't guarantee success in another since local preferences and sourcing strategies are very different. Fresh produce is a market with a low degree of standardisation and scaling up is a challenge. There’s also the tension between who truly owns the users, it is the platforms or the community leader? And how will that play out in the coming months and years?
As always, you’ll find out when I do.
If you want more on community group brought, there’s a bonus section for paying subscribers.
Last week’s picture reference was to Muddy Waters, who’s name derives from the Chinese saying “Feeling for fish in muddy waters”.
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This smells like a shareholder funded low margin business. Currently platforms are doing uneconomic business to acquire customers but when they will try to make this business economic the customers will be unhappy as they are used to getting good deals using this platform. So real test is how many will stick around once the lucrative discounts and offers are not there any more......or will they switch to alternatives.
I remember in Asia Uber was aggressively competing and their rides were super cheap......eventually they folded the business and sold it off because there is so much money investors are willing to lose.
So shareholder funded charity is not a viable business model.....better invest when you know who the survivor is in this crazy battle for market share instead of profitability.
I found this article very insightful after hearing your analysis of CGB on the Tech Buzz China podcast. My start-up Naborino is adapting the CGB model for North America. We're always interested in English-language analysis of China's CGB market if you have any recommendations.
(Other than your newsletter of course!)