---
title: "Three Years In: What Has New Retail Really Changed?"
description: "Amidst macroeconomic uncertainty in 2018, new retail has been a focal point, but internet giants' participation has not yet altered the highly fragmented structure of China's retail industry. The real impact lies in the digital transformation of the retail ecosystem, with data-driven systems for customer flow, merchandise, and supply chain set to reshape the competitive landscape for brands, distributors, and retailers."
author: "贺晓青，司玉洁"
publisher: "New Distribution"
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published: "2019-03-13"
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# Three Years In: What Has New Retail Really Changed?

> Amidst macroeconomic uncertainty in 2018, new retail has been a focal point, but internet giants' participation has not yet altered the highly fragmented structure of China's retail industry. The real impact lies in the digital transformation of the retail ecosystem, with data-driven systems for customer flow, merchandise, and supply chain set to reshape the competitive landscape for brands, distributors, and retailers.

Click to read the original article for details.
> Source: Kearney Management Consulting (ID: atkearneychina)

Amidst uncertainties in the international market and domestic macroeconomy, the Chinese market in 2018 also experienced rapid changes in many aspects.

For example, beyond the concept of "consumption upgrading" that had been consensus over the past decade, discussions on "consumption downgrading" and "consumption stratification" emerged; the capital winter arrived, the internet entrepreneurship environment changed, and many new economy concepts (such as shared bikes, unmanned shelves, ICOs, etc.) experienced dramatic rises and falls from peak to collapse; in addition, star tech stocks also fluctuated violently (Figures 1.1-1.3), reflecting market anxiety and unease.

In this turbulent year, "new retail" was undoubtedly one of the market's focal points. From late 2017 to early 2018, innovative models under various new retail concepts surged, and internet giants' acquisition and transformation of traditional retailers also caused huge shocks in the industry.

Since 2018, what substantive changes has new retail brought to the business world? Under the changing macro environment, what is the prospect of new retail?

It is worth noting that current media discussions on new retail mostly start from the perspective of retailers, with numerous articles analyzing the ambitions of e-commerce giants and the choices of traditional retail enterprises.

However, retail is the front end of a complex business system. Beyond retailers, a large number of brand owners, distributors at all levels, and various commercial service enterprises are also caught up in the new retail wave. This article will also broaden its perspective to explore the challenges and opportunities that new retail transformation brings to all parties in the value chain.

**01**
**The Landscape of Retail: The participation of internet giants has not yet changed the highly fragmented basic structure of China's retail industry, and the possibility of operational participation in the foreseeable future is also limited.**

In our communications with a large number of brand owners, we found that many large brand owners have complex feelings about the new retail transformation, with the biggest concern being the degree of integration in China's retail industry.

Horizontally, as internet giants aggressively enter supermarket chains and even traditional channel small stores, brand owners worry that Alibaba and JingDong-Tencent (JD and Tencent) will become retail oligarchs, causing an imbalance in the industrial value chain.

Vertically, business models advocating disintermediation, such as B2B, attempt to challenge the entrenched distributor system. Brands that have spent over a decade building channel advantages worry that new models may impact their foundation.

For a long time, China's retail industry has been highly fragmented. Not to mention millions of traditional small stores, even in modern channel supermarkets and hypermarkets, the top six chain groups only account for 15% of the market share (RT-Mart, Walmart, China Resources Vanguard, Lianhua, Yonghui, Carrefour, see Figure 2); this is vastly different from the US where the top three supermarkets hold over 40% and the UK where the top three hold nearly 60%.

This highly fragmented landscape sets the basic rules of the game between brand owners and retailers. However, from late 2017 to early 2018, Alibaba and Tencent's equity participation in major chain groups seemed likely to break this basic pattern.

According to our statistics, considering both online and offline formats, Alibaba, Tencent, and JD.com, through self-building, controlling stakes, or equity participation, control or influence 20-30% of China's food and beverage retail market.

If Alibaba and JingDong-Tencent become the de facto integrators of China's retail market, this will cause profound changes in the entire industrial value chain. But is this their true strategic intent?

Judging from the current situation, **Alibaba and JingDong-Tencent's ambition to integrate retail, as they themselves say, is to be the "water, electricity, and coal" of retail—at the level of underlying infrastructure, with the core being data connectivity.**

The pace of internet giants' operational participation in physical retail is still exploratory and experimental. In the next 3-5 years, they cannot change the highly fragmented basic structure of China's retail industry.

> **1. First, Alibaba and Tencent excel in high-margin asset-light operations. Their organizational management and profit models cannot bear deep operational involvement in traditional retail formats. More importantly, capital always seeks high returns and low risk.**

In terms of profit levels, in the four quarters from October 2017 to September 2018, Alibaba's operating margin was 18.7%, Tencent's was 27.0%; while the best-performing physical retailer in China, Sun Art Retail, was only 3.9%, and Yonghui was 1.9%.

The profit models of the two are completely different, and whether the new retail transformation of traditional retail, which is still in its early stages, has prospects for significant profit improvement is highly uncertain. Internet giants have no incentive to give up high for low, or to invest large amounts of capital into this uncertainty.

In terms of organizational management, Alibaba and Tencent each have only 40,000-50,000 employees; while Sun Art Retail has as many as 140,000 employees, and Yonghui has 70,000. Participating in the management of supermarket stores involving hundreds of thousands of employees is not an interesting task for internet giants.

On their expansion path, it is sufficient to participate in the way they are good at—data and technology—without the need for deep operational involvement. The way of data participation will be analyzed in depth in the next chapter, "The New Retail Ecosystem."

> **2. The fragmented landscape of China's retail industry is shaped by the diversity and complexity of regional markets, and there is a certain objective inevitability; although the power of technological innovation is strong, achieving cross-regional, or even industry-chain-wide integration (such as disintermediated B2B, fresh food supermarket private labels), is not achievable in the short to medium term.**

Here, we take two widely watched new retail formats as examples to further illustrate the point. One is the fresh food supermarket, a model of new retail, representing C-end innovation; the other is the B2B distribution, fiercely contested by Alibaba and JD.com, representing B-end innovation.

**Fresh Food Supermarkets (e.g., Alibaba's Hema Fresh, Yonghui's Super Species, JD's 7Fresh)**

The consumer experience brought by fresh food supermarkets like Hema Fresh is indeed disruptive, quickly gaining a group of high-value consumers in high-tier cities who value convenience, experience, and quality.

From the operational figures released by Hema Fresh in September 2018, the success of this model is undeniable. However, I believe this new species has its applicable conditions. It has good prospects in first-tier and strong second-tier cities, but will face challenges in scaling in weak second-tier and below cities.

When the fresh food supermarket concept was first proposed, various players announced aggressive expansion targets: Hema claimed to open 2,000 stores by 2020, Super Species 2,000, and later entrant 7Fresh also claimed 1,000 stores.

However, from current data, these targets are overly idealistic—as of August 2018, Hema had opened 66 stores, Super Species 54, and second-tier players like 7Fresh and Xiaoxiang Fresh had a total of over 10 stores; and these stores are mainly concentrated in first-tier cities and strong second-tier cities like Fuzhou and Hangzhou. The penetration of the fresh food supermarket model into lower-tier cities will face two key challenges:

First, differences in consumption levels. The Hema model places high importance on experience, and fulfilling promises like 30-minute delivery for its online sales, which account for over 60% of total sales, requires high operating costs.

Therefore, store assortments must focus on high-priced, high-margin products to support high operating costs with high product margins. Considering that the store's radiation range is limited to 3 kilometers, stores must be located in communities or business districts with higher payment ability and willingness. This is certainly not a problem in Shanghai.

But once the market needs to go down, given the income levels in China's second- and third-tier cities, the number of suitable store locations is actually limited. The rise of Pinduoduo in 2018 also reflects, from one side, the huge regional imbalance under the macro narrative of consumption upgrading.

Differences in regional consumption capacity and awareness determine that it is almost impossible to achieve nationwide disruption with a single model.

Second, the difficulty of fresh food supply chain management. The sustainability of the fresh food format lies in supply chain management capability; and the longer the chain, the greater the management difficulty. Opening a store in Wuxi or Wuhan incurs higher supply chain costs than in Shanghai.

Therefore, when facing lower-tier markets, fresh food supermarkets face fewer high-quality locations and higher supply chain costs, making large-scale expansion challenging.

New retail transformation must be adapted to local conditions, and cannot be separated from combining with existing local retail forces during expansion into lower-tier markets. We expect that the digital transformation of nearly 400 RT-Mart stores with the "Hema approach" will be the focus of Alibaba's next wave of initiatives.

But from the overall market perspective, RT-Mart accounts for less than 5% of China's supermarket retail. For Alibaba, whether it is Hema Fresh or the transformation of RT-Mart, these are model projects to demonstrate the power of digital systems.

If the RT-Mart transformation succeeds, it can further expand mid-end fresh food coverage to second- and third-tier cities. Alibaba and JingDong-Tencent can penetrate other retailers through system output. Unless the profit margins of traditional supermarkets are greatly improved through transformation to a level attractive enough for Alibaba and JingDong-Tencent, it is difficult to drive further large-scale acquisitions and operational integration.

**B2B Distribution (e.g., Alibaba's Lingshoutong, JD's Xintonglu, Zhanghe Tianxia, Zhongshang Huimin)**

B2B distribution platforms are one of the important tracks where Alibaba and JD compete offline; such systems target 6 million traditional small stores nationwide, aiming to transform the traditional distributor system, remove multi-level distribution, and directly connect small stores with brand owners through the platform.

This concept indeed directly addresses the efficiency pain point of China's retail system; but compared to the rise of C-end e-commerce in the past few years, the transformation of the B-end is much more complex and difficult. Currently, this track still has a long way to go before reaching the endgame.

In fact, this theoretically ideal model, when placed in a complex real business environment, involves the game of interests of all parties in the entire retail value chain, and thus faces huge challenges.

> Downstream terminal small stores: Currently, B2B platforms have formed a certain user base at the terminal, with the total penetration rate of various platforms reaching 20-30%. However, the vast majority of these small store users are attracted by low-price subsidies and have extremely low user stickiness.
>
> Many small store owners have 4-5 B2B platform apps on their phones and use whichever has low-price hot products. Similarly burning subsidies, unlike C-end applications like ride-hailing and food delivery that eventually burn subsidies to cultivate user habits, B-end users (i.e., small store owners) are more profit-driven, and low price is almost their only reason for choosing a platform to order.
>
> Surveys of small store owners show that on key service dimensions (such as product variety, delivery speed, returns and exchanges), B2B platforms perform worse than traditional distributors and secondary wholesalers. The platform's service level is limited, both due to the platform's own ground operation capabilities and constrained by the cooperation of brand owners and large distributors.
>
> Midstream distributors and sub-distributors: Although B2B platforms all claim to "disintermediate," in fact, platforms cannot do without distributors. According to interviews with industry insiders, the current sources of goods for major B2B platforms are: more than half from first-tier distributors of various brands, 30-40% from lower-level sub-distributors and wholesale markets, and only about 10% from official cooperation with brands.
>
> The reasons are, on the one hand, brand owners are very cautious about platform cooperation; on the other hand, distributors have service capabilities that platforms cannot match. The ground staff of leading B2B platforms cover an average of 200-300 small stores per person, roughly equivalent to the coverage density of sales personnel of first-tier FMCG distributors; however, platform personnel are responsible for hundreds or thousands of SKUs, while distributor personnel focus on only a dozen or so SKUs of their own brand, so the level of service detail is not comparable.
>
> In addition, platforms currently cannot handle store returns and exchanges. Therefore, in practice, platform personnel generally focus on store expansion, and daily product maintenance still needs to be handed over to distributor teams.
>
> Therefore, current major B2B platforms can only reduce second- and third-tier sub-distributors as much as possible, but must cooperate with first-tier distributors of major brands. However, since the platform has already raised the banner of "disintermediation," how to turn around and mobilize powerful and complex first-tier distributors to cooperate with them—I have not yet seen the best case.
>
> Perhaps for this reason, when local distributor support is not available, some B2B platforms can only purchase beverages from wholesale markets in neighboring provinces, transport them across provinces, and then subsidize them at low prices to sell to small stores.
>
> Upstream brand owners: The relationship between brand owners and B2B platforms is the most subtle and complex. On the surface, disintermediation, expanding distribution networks, and reducing sales costs all align with brand owners' needs; however, brand owners are more worried about being eventually held hostage by monopolistic distribution platforms.
>
> For those FMCG companies that have spent over a decade building distributor networks, this is a dilemma—if they embrace B2B platforms, they may impact their existing distributor system, handing over the most critical business lifeline of channels to Alibaba or JD, risking "destroying their own Great Wall"; if they resist B2B platforms, competitors may ride the wave of platform expansion to quickly expand their networks and enjoy platform subsidies, potentially "overtaking on the curve."
>
> Under this contradictory mentality, we can see on one hand Mengniu and Master Kong signing strategic cooperation with Lingshoutong, and on the other hand Red Bull cutting off supply to block Lingshoutong. To maximize the balance of interests among brand owners, distributors, and platforms, first-tier brand owners tend to prefer "matchmaking" rather than "buyout" models, and "virtual warehouse" rather than "physical warehouse" cooperation, where the platform only controls information flow, while the physical flow of goods remains in the hands of brand owners and first-tier distributors.
>
> Moreover, my investigation shows that currently very few first-tier brand owners put core SKUs and core business regions on platforms for cooperation, but mostly as supplementary incremental business, such as lower-tier cities not yet covered or with excessively high sales costs.
>
In the B2B field, JD once proposed the ambitious "Million Convenience Store Plan," but since the second half of 2018, negative news has emerged one after another, also reflecting the complexity and difficulty of this track.

On the surface, the huge distributor network in China's FMCG industry represents complexity and inefficiency, with massive room for optimization; but in actual operation, this system has complex internal operating mechanisms and multi-party interest games, coupled with regional differences, and it is by no means possible to reshape the model through "subsidies + ground promotion." Internet companies wanting to integrate channels in the 2B field face greater difficulty than in 2C.

**02**
**The Retail Ecosystem: Although visible integration seems to have entered a stable period, the operating ecosystem and underlying logic of retail have undergone profound changes.**

In the previous section, we discussed that in China's complex and diverse market environment, Alibaba, JD, and Tencent find it difficult to achieve horizontal and vertical market integration at the operational level, and the highly fragmented basic structure of China's retail industry will not be shaken.

However, the significance of the new retail transformation is profound. Its core impact is not on the visible level of format innovation or investment and M&A, but on the enlightenment of digital operating models and the shaping of a data-based retail ecosystem.

Over the past year, we have provided extensive consulting services on new retail transformation to various clients in the retail ecosystem. From information collected in project practice, Alibaba and Tencent's ambition to become the "water, electricity, and coal" of retail has begun to show results.

Major brand owners have engaged in deep cooperation with Alibaba and Tencent at the data level—precision marketing for thousands of people has become standard, and brand owners bring their own professional data teams to cooperate with Alibaba to deeply explore the value of full-chain consumer information; reverse R&D and smart stores have also moved from experimental concepts to implementation and large-scale promotion.

Organizational restructuring centered on maximizing data value and integrating consumer experience has also been put on the agenda by many companies. In addition to brand owners, traditional commercial service enterprises, such as CRM service providers, market research firms, and even e-commerce operation service providers (TPs), are also under tremendous pressure from the consumer data revolution and are actively promoting business transformation to meet the commercial service needs of the new retail era.

From the height of the retail ecosystem, internet companies represented by Alibaba, JD, and Tencent will become indispensable infrastructure providers in this ecosystem, offering digital service systems.

We believe these systems will include at least three major parts: customer flow optimization systems, intelligent merchandise systems, and digital supply chain systems. In the future, retailers and brand owners will depend on these systems as much as office workers rely on Office software. Internet giants can then monetize through various asset-light derivative services without directly participating in retail operations. The following details our vision for the three major digital retail systems (see Figure 3):

> **Customer Flow Optimization System**
> In the future, internet platforms may become the traffic distribution centers for physical retail stores, including both online and offline traffic.
> In terms of online traffic, we expect that the "online ordering, offline delivery" three-kilometer living circle model will become the norm, and internet platforms can connect a huge number of offline stores.
> The connection method does not have to be Alibaba/Hema-style self-operation or Tencent/Yonghui-style equity investment; it can be system integration like Meituan with restaurant merchants, which can even include a long tail of retail terminals including traditional small stores. Consumer online orders can be distributed to various physical stores through this system.
> In terms of offline traffic, internet giants can use their highly penetrated payment and communication applications to push information about nearby physical stores to consumers based on their real-time location. In this process, internet platforms as traffic hubs can charge retailers traffic fees or advertising fees.

> **Intelligent Merchandise System**
> In the future, consumers ordering through online platforms (although goods may be delivered by nearby physical stores), smart stores, or using mobile payment when shopping offline, means their omni-channel shopping behavior can be tracked and recorded; leading internet companies can thus build a huge and comprehensive "consumer behavior database."
> Of course, mobile payment only records consumption amounts, online platforms can record product information, and smart stores will record product and even store behavior, as well as other consumer data (such as size, skin type, etc.).
> Alibaba's current Data Bank can be seen as a prototype of a database containing various dimensions of consumers, but currently the Data Bank only integrates online behavior data. This database is of significant value to both retailers and brand owners.
> For retailers, this database can recommend suitable products based on the preferences of consumers around the store, assist stores in category planning, and the current Hema Fresh is a model of this approach.
> For brand owners, on one hand, this system can provide consumer preference data to support product R&D; on the other hand, this system can optimally recommend products to stores, becoming a bridge connecting brand owners and consumers.
> This will profoundly affect the competitiveness model of FMCG companies—those small and beautiful brands that once struggled without strong distributor networks can reach more stores and consumers through platforms in the future; while for those companies that once built empires on huge distribution networks, existing channel resources are no longer an unbreakable moat, and products and brands become more important than ever.
> Under this system, the data power of platforms like Alibaba and JingDong-Tencent will expand from online to omni-channel, becoming even more powerful. How to fully utilize this system while protecting their own data independence is an important strategic issue for large brand owners.

> **Digital Supply Chain System**
> The previous analysis showed that B2B distribution models like Alibaba's Lingshoutong and JD's Xintonglu are unlikely to subvert the existing FMCG distribution system in the short to medium term. However, internet companies are undoubtedly using the promotion of B2B platforms to initiate a digital revolution within the consumer goods supply chain ecosystem.
> In the medium term, B2B platforms do not intend to, nor can they, replace first-tier distributors and their logistics networks, but rather connect these scattered forces into a unified network. Under this unified network, real-time online supplier information and real-time online inventory data can be achieved in the future, thereby assisting brand owners in achieving more accurate demand forecasting and more optimized logistics resource coordination.
> Once this vision is fully realized, the value will be unprecedented. Even just real-time online inventory data is a business pain point that many first-tier FMCG companies have struggled to completely solve for years. In addition, under this network, platform companies can derive supply chain finance businesses with immeasurable prospects.

**03**
**Retail in 2023: Five Basic Judgments**

In summary, we believe that this wave of new retail is far from subverting the highly fragmented basic structure of China's retail market, but it has opened the curtain on the digital reshaping of retail and its upstream ecosystem.

In the next five years, digital innovation will become more profound, moving from the front end of business such as marketing to back-end areas like R&D and supply chain. What will the retail market look like in five years? We have five basic judgments:

> **1. Mobile payment is highly prevalent, and consumer omni-channel behavior is visualized.**
> Currently, the consumer data that internet platforms master and apply is mainly concentrated on online behavior data, including e-commerce websites and various information and entertainment applications.
> With the high prevalence of mobile payment, consumers' offline behavior can theoretically also be tracked and connected with online behavior information through unified identity. In addition, smart retail hardware in smart stores can even collect soft behavior data beyond transactions, such as in-store traffic paths and shelf dwell time.
> This means that consumer behavior across all channels can be tracked and analyzed, and this will constitute the basic energy of the digital retail ecosystem, and is also the core resource for internet giants like Alibaba and Tencent to become the "water, electricity, and coal" of retail.
> Of course, the vision of fully connecting such behavior data faces risks in privacy protection, data security, and other aspects, and whether it can be fully implemented faces regulatory uncertainty; however, even partial implementation will have a revolutionary impact on the retail ecosystem.

> **2. The "three-kilometer living circle" becomes the mainstream model for food and beverage e-commerce.**
> Food and beverage is the largest category in China's retail market, but e-commerce penetration is only 5-10%, far lower than clothing, home appliances, and 3C, making food and beverage a fortress that e-commerce companies are currently attacking with full force.
> However, the food and beverage category has natural barriers to e-commerce—low average order value, low margins, and high logistics costs. Under the traditional e-commerce model, per-item margins cannot cover logistics costs.
> In this new retail revolution, the model significance of Hema Fresh lies in exploring the "online ordering, nearby store delivery" model to solve the logistics problem of the food and beverage category and create a convenient "three-kilometer living circle."
> Currently, Taoxianda connected to RT-Mart, JD Daojia connected to Yonghui and Walmart, and JD's logistics system's JD Zhongzhan are all applications of this "three-kilometer living circle" approach.
> Under the "three-kilometer living circle" model, for food and beverage companies, the supply chain systems of e-commerce channels and offline stores will merge, which will in turn affect the organizational structure design of enterprises.

> **3. Small and beautiful brands targeting niche groups expand their living space by relying on platforms.**
> On one hand, the powerful consumer behavior database provides input for consumer segmentation and precise preference analysis, promoting reverse customization based on consumer needs.
> More importantly, internet platforms become a bridge connecting products and consumers, intelligently matching products to retail terminals near specific niche groups. Small and beautiful brands no longer need to be constrained by the pain point of being unable to expand channels, and can reach specific groups more efficiently and precisely.

> **4. The distributor system will not be replaced, but will embrace digitalization on a large scale.**
> Digital supply chain is one of the themes of internet companies like Alibaba and JD in physical retail expansion, and various B2B platforms are one of the means to implement it.
> In the future, platforms will connect digitalized retail terminals (including millions of traditional small stores with online ordering and mobile payment) and distributors, achieving real-time online inventory and logistics information, and improving the efficiency of physical channels. In addition, platforms can derive value-added services such as supply chain finance.
> In this round of digitalization, FMCG distributors will inevitably experience survival of the fittest.

> **5. Internet platforms become retail infrastructure providers, but will not widely participate in physical store operations.**
> In the physical retail field, the strategic intent of Alibaba, JD, and Tencent lies in digital ecosystem expansion, not operational participation. Early equity investments are mainly to establish successful models, and future expansion will mainly be through infrastructure output.
> Alibaba, JD, and Tencent have different core capabilities, so they will adopt different output methods—Alibaba will become the largest retail data center and data system provider; JD will output hardware facilities and become an important supply chain system service provider; Tencent will monetize social traffic through retail scenarios, with low possibility of directly participating in retail operations.

In 2019, this new retail revolution has entered its third year. Although the macro environment has changed, this revolution centered on consumer data application will continue to roll forward.

For the vast number of brand owners, new retail is not only a change in channel form, but more importantly, it affects the competitiveness model of the consumer goods industry—products and brands become more important than ever. "Consumer-centric" is no longer just a slogan, but needs to be implemented in refined operations in all business areas.

**-END-**


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