Retail in China driven by e-Commerce: McKinsey

The report, China’s e-tail revolution: Online shopping as a catalyst for growth, estimates that e-tail represented nearly 6 per cent of total retail sales in China compared with 5 per cent in the US.

The study also found that e-commerce in China is structurally different from that of other markets with some 90 per cent of Chinese electronic retailing occurring on virtual marketplaces such as Taobao, Tmall and PaiPai. In contrast, in the United States, Europe, and Japan, the dominant model involves brick-and-mortar retailers (such as Best Buy, Carrefour, Darty, Dixons, and Wal-mart) or pure-play online merchants (such as Amazon), which run their own sites and handle the details of commerce.

China has, in effect, leapfrogged post traditional retail commerce.

Although still in the early stages of growth, China’s e-tail ecosystem is profitable, logging margins of around 8 to 10 per cent of earnings before interest, taxes, and amortization—slightly higher than those of average physical retailers.

Impact on consumption
China’s giant online malls are not just replacing purchases that would otherwise have been made offline, they are spurring incremental consumption—particularly in less developed regions, finds McKinsey. China’s e-tail environment is shifting Chinese society from one focused on investment to one that’s more consumption driven.

The firm analysed consumption patterns in 266 Chinese cities, which account for more than 70 per cent of online retail sales, which found that a dollar of online consumption replaces roughly 60 cents of sales in offline stores and generates around 40 cents of incremental consumption.

The impact is even more pronounced in China’s less developed small and midsize cities, while incomes in these urban areas are lower, McKinsey found that online shoppers spend almost as much money online as people in some larger, more prosperous cities, thus spending a larger portion of their disposable income online. This may be because the online malls grant these shoppers access to brands that would not otherwise be available to them.

Further boosting online purchases is the fact that e-tailing has cut consumer prices: depending on the category, they are, on average, six to 16 per cent lower online than in China’s stores. The greatest discounts are found in the apparel, household, recreation and education categories.

What’s next?
By 2020, McKinsey estimates that e-tailing could generate $420 billion to $650 billion in sales and China’s market will equal that of the US, Japan, the UK, Germany and France combined today.

E-tailing will continue to transform the retail sector, predicts the study’s authors. As competition among e-tailers has lowered prices, it has also both increased the size of the consumer market and created efficiencies in the important adjacent markets that support e-commerce—logistics, supply chains, IT services, and digital marketing. This efficiency edge should force brick-and-mortar retailers to modernise and pave the way to a more efficient coordination of supply and demand across the Chinese economy.

A limiting factor however is a growing talent shortage resulting from explosive growth. This, eventually, could raise labour costs and hamper expansion plans unless e-tailers improve their productivity. “The good news is that if the online ecosystem learns from developed markets, e-tailing’s productivity should rise as high as two to four times that of offline retailers,” said the report.

Meanwhile, if China’s store-based retailers are to survive, they will have to decide whether to join existing e-tail marketplaces or establish their own online storefronts and whether to own parts of the value chain (such as distribution and IT) or use third-party suppliers.

For offline and online retailers that wish to pursue independence from China’s online malls, these companies must go beyond current strategies which depend chiefly on products and prices, advised McKinsey. “Instead, to build a strong online brand, e-tailers will need to dedicate management resources and investments to creating an attractive package of value propositions—superior customer service, fast and reliable delivery, a better shopping experience, or more targeted marketing. That will require a new level of capabilities and, perhaps, partnerships with experienced players outside China.”