Livecast #9: Albus Yu of China Growth Capital on China DTCs

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Transcript compiled by Karrie Huang.

Rui: Albus, tell us more about China Growth Capital and also yourself. What does the fund do? What’s the size? What’s your strategy?

Albus: Thanks, Rui. Hi, I’m Albus and I work for China Growth Capital.

We are early-stage venture capital funds. We’re based in Beijing. We manage US daughter and also RMB funds with total assets under management of about 1.4 billion dollars. We do three sectors. Mostly one is a consumer that includes the consumer internet and consumer brands and services.

And we also do enterprise software, SAS, and also some investment in high-tech sectors, including medical tech and autonomous driving, et cetera. I mostly focus on the consumer side. Have been doing investments in consumer internet e-commerce marketplaces and also focusing on consumer brands in the past two to three years or so.

Rui:  So we talked about this because you guys used to be really big in FinTech.

And now it’s really shifted into, like you said, this deep tech stuff, as well as consumer brands, and you had mentioned that you guys had stopped really investing in consumer internet and e-commerce marketplaces.

What’s the reason for that?

Albus: Yes. Actually, we do spend a lot of time in capital investing, consumer internet, and also e-commerce platforms and we actually ended up with some good portfolio too, but in China, we see that maybe since five years ago there is no opportunity for a new platform to emerge quickly anymore. For example, we have a portfolio cos MissFresh in China it’s real-time grocery delivery services in China and it is one of the biggest players. And they started a company in about 2014.

We think that might be the last time window for you to start an online platform business. Because at back at that time, they have to acquire users at a very low cost and at very high efficiency and they can have a viable kind of business model in terms of user acquisition costs and also we can know the user’s lifetime value. They actually did that via WeChat viral kind of marketing. But after that, we haven’t seen any internet products or platform services that grow as fast as before. That’s because the traffic we’re getting so expensive and people are spending 90% of the time on the major internet platforms you know like Taobao like WeChat had all the big names and for a young internet startup, you just didn’t have the momentum or the time window, or the opportunity to acquire user at a lower cost and grow fast anymore.

However, those internet services and e-commerce platforms are already very viable and very efficient. And that’s a lot of younger customer brands. They are starting to grow their business on those platforms.

You can get your word out through our marketing, reach, potentially hundreds of millions or even 1 billion customers. And also you can sell your product Taobao Tmall or JD, or even Douyin right now very efficiently.  We have those marketing channels and also sales channels ready to go. That infrastructure has already been built five years ago. Right now we just need a better product and then brands. And that’s why those new consumer brands in China are very efficient. And they’re getting out of attention now. 

Rui: Got it. So the infrastructure building was from 2010 to 2015 or so, and then now it’s much more economical.

It’s a much better business to build brands on top of that. That makes a lot of sense for the brands that you’re investing in though. I just remember very clearly you had mentioned some metrics, right?

So maybe you could talk about what that growth looks like these days?

Albus: It’s amazing. Because in the past couple of years, when we started with, we had no idea how we should do a DTC brand in China. And right now the approaches are just so competitive and everybody is so efficient right now. But to give you an example, say, if you start a new skincare brand in China.

You start off online, try to sell your product to customers, through social media, through e-commerce websites.  If we want to be competitive in the market you have to reach maybe 5 million US dollars in monthly sales within your first six months of launching the brand.

So that’s actually a crazy rate like from zero to doing 5 million a month and you have to do that within six weeks. 

Rui: Six months 

Albus: USD that would translate to about 30 million in RMB. 

Rui: So you had used the words DTC to describe some of these brands that you’re investing in, which stands for direct to consumer which is a business model that was really popular here in the US a couple of years ago. But a lot of enthusiasm has died down because none of these brands got super big.

What are some of the differences that you think exist between what we saw here in the US versus the DTC brands that are growing in China right now? Why is it a better opportunity 

Albus: First of all in the US most of the brands here launch their business online and they tend to sell to their customers through their own websites or even app.

And that’s because in the US the e-commerce market is not as highly concentrated as in China. Amazon, in the US, is the biggest player in e-commerce. But it only has about 30% of the market, maybe. And whereas, in China Taobao dominates about 70% and the rest, JD has 10 to 20, and Pinduoduo and Douyin right now growing very fast.

People use like WeChat, for over a billion people as a very dominant kind of IM or messaging services too. So in China brands, they don’t build their own websites or try to reach or, and retain a customer on their own services.

They try to reach out customers on those big platforms they sell to people, through Taobao, Tmall or JD, Wechat or Douyin. And they do their customer outreach and acquisition in some different ways compared to the US because in China people when they do shopping they don’t go to the brand’s official website. We don’t have that customer habit in China.

We don’t go to to shop for Nike. We go to Taobao and search for Nike, and that’s where Nike China will build their product and services. And so we have some operational differences compared to the US DTC brands. 

Rui: Amazon percent of e-commerce right now vary a little bit between 40 and 50%. It is still substantially lower than Alibaba‘s share in e-commerce in China. That’s all on the marketing and front-end side. Could you talk a little bit also about the supply and manufacturing side?

Albus: I think one of the biggest advantages of those brands starting off in China is that we do have a very strong foundation. Chinese factories and manufacturers actually have that experience and know-how, and then the ability to produce global standard stuffs and at a low cost. But in the past, the consumption market was just overseas. And right now the Chinese people are getting richer and they want to buy better products. Startups can actually find very high-quality, very efficient manufacturers very easily. That has really saved them a lot of time.

Let me give you an example that we have a small portfolio working on beverages and the founder actually wanted to change a little bit on the shape of the bottle.

He said that he just had the idea, talked to his supplier and he got a model in his hand maybe within six days and the next week, they can already producing hundreds of thousands of these bottles in the factory per day, and that’s only next week.

Rui: What percentage of the portfolio would you say right now is consumer brands? 

Albus: I think in our fund’s portfolio wise, I think purely brand businesses there are about, I would say now about a dozen. 

Rui: About a dozen. Okay. So that’s pretty significant. So out of these, a dozen or so portfolio companies, which one is your favorite and why? 

Albus: Out of the customer brands that we have invested in, one of the portfolios that I really liked is the brand called Maia Active. You can think of it as Lululemon in China. It designs and manufactures women’s yoga pants and athletic clothing for young women in China.

It’s very typical for such a global brand to have a very centralized and global product design and a marketing strategy.

So none of these products is tailor-made for the China market. Maia Active is product design-wise. It has some small features to your chains there that really fits the China young girls’ mentality and needs.

Rui: They started off as an online brand first and then they moved into offline, right? 

Albus: Yes.

Rui: Starting off as an online brand and then moving offline seems to be really common these days. Is that something you recommend for every single brand that you invest in and why is that a good strategy?

Albus: It’s definitely a very common strategy that we see right now. We call that omnichannel. Customers have to see you everywhere and you have to be online on social media.

First of all, online that we used to say that it’s a limitless kind of shelf because the traffic are endless. So there’s always going to be some younger bands going to compete with you. But what is different in offline in that?

It is, first of all, it is more costly to do and also it’s harder to be replaced offline. You have your distributors, you have your staff, that’s going to be harder and more costly for your competitor to compete with you because it’s all about location, your presence.

Rui: You said earlier that you invested in a beverage company, right?

Albus: Actually a couple already. We have a brand, a local brand called OatOat, Chinese oat manufacturers of big high-quality oatmeal in China too. And now, sells online and also in thousands of the CVS stores in China right now.

And also we have another brand, it’s a sparkling fruit beverage. It’s a very Chinese drink and operates in the market of Wang Lao Ji (王老吉), and it sells in restaurants. So when you’re having hot pots or spicy food that you want something refreshing, and it helps you to digest.

Rui: Why is it that the investment required isn’t actually as much as we might expect for an offline store?

Albus: At this moment, I think those offline stores are the most popular sector right now.

We have heard brands only have about 10 stores, maybe, and their valuation is above 1 billion RMB already. And that’s about 150 million dollars in valuation already. So per store wise, they’re more valuable than a Starbucks store. I think competition is definitely the key behind those investments or high growth rates because once a business model is proven like your stores, what you need economy works have proven that you are a good offline business model and you can make money actually. So investors are now just giving a ton of money for you to just copy and paste, to expand. And because if you don’t do that, your competitors are going to get the next best location, have the most customers.

Rui: But after they do the stores, they’re still not all selling offline, they’re still selling online because most of these businesses have also a substantial online ordering through an online presence that they’re trying to cultivate.

Albus: In China, one of the differences is that the delivery cost is pretty low. If you want to get your stuff delivered, for example in the US is to get your one cup of coffee, delivered by somebody, I have to tip a lot. But in China, definitely Luckin Coffee, Ficha Coffee, Starbucks right now, you get your coffee delivered for a small fraction of the price, as a delivery cost.

So those companies are really, we call it O2O, or online OMO, we have a new word is online merges with offline. Those brands are always omnichannel like they’re online, offline. They are everywhere.

Rui: What is the percentage of the product you are looking at that have their own R&D or are most of them going to ODMs and who can do a lot of the design as well as the manufacturing?

Albus: I would say like right now, most of the new brands are still very in operation and sales-focused or sales and marketing-focused. They do outsource a lot of manufacturing, supply chain, and even product design-wise.

I think those startups are good at like design customer experiences. But they’re not like experts in supply chain manufacturing, raw material-wise. Actually, we’re looking for companies or teams with stronger background in supply chain or manufacturing, or even some innovations in material. Something with more on theme innovations because the competition is really driving those brands to compete at a higher level.

Rui: What is the potential for some of these businesses to expand internationally outside of China? Are they actually going to be competitive outside of the domestic market?

Albus: Yes. That’s also another hot topic, in China right now, those new brands are actually going global. I definitely think it’s possible. Actually, we’re selling a lot of the stuff overseas already. We have seen, like Shein we mentioned, we have like Most of its sellers are in China and we have other export e-commerce services.

But very different from them, in that in the past, we used to think that Chinese people know how to manufacture stuff, but don’t know how to build a brand, right? But that has changed for actually some very simple reason. One of those is those global brands, they have had their office in China for the past 30 or so years. And they have built a group of very experienced brand managers, from Procter Gamble, Nike, Apple, those brands. These people are smart. They have worked with the top-tier global brands, and now they want to build their own and they have the knowledge, the know-how to do that. And also a lot of people like you and like me were educated overseas. We have seen high-quality brands and wanted to build them in China. So those Chinese brands can very confidently go to the US, Europe, or anywhere in the world and say that it’s a global brand.

Those Chinese brands are going to expand globally. That has not been the major focus for those new brands, for right now, because most of them are still young. But I think when they reach a certain stage, say we have already, they already have 1 billion RMB in sales already they have to think globally. You have seen like in Genki Forest and some, even some clothing brands, they have gone to the US. And I think that might be the next big story for the next 5 to 10 years for those brands.

Rui: I personally know a lot of people working on this and actually just Chuhai (出海) or going abroad from inside of China is a very hot topic right now. Any questions from the audience?

Guest: What’s the expectation from the investors, the LPs, I guess, the expansion scale-up and also the exceed timeframe and the multiple, because that might be rather different with purely online businesses?

Albus: Great question. I think the public market or the exit outlook is still good for those new brands because we have seen IPOs of Pop Mart, the Perfect Diary, and also in the local China public markets every year we still have a lot of consumer brands that are getting listed, but those are still mostly traditional brands.

For those new brands, we can exit maybe 10 times, 20 times, or higher returns, but definitely, there are nods like internet businesses. We don’t have the opportunity to like Kuaishou so you can get a thousand times of return on investment, but we’re still okay with, getting maybe 100 times, 50 times, 20 times. And that’s still, considering, your exit timeframe, is still definitely acceptable.

And also the risk might be lower, Kuaishou is very hard to build when we have only one of them in the past 10 years, maybe. So all exit cases haven’t been figured yet. That’s how it is right now. 

Rui: So lower returns, but lower risk, hopefully.  

Guest: I’m just wondering any characteristics that you look for to spot the one which you think will survive.

Albus: I would say one of the key things is that they have to create a new product or offering, or, experience that you cannot be only one time or two times better than the current offerings. A customer product is definitely hard to do 10 times better, but you can be like five times better and we’re redoing to account for that.

We’re definitely looking for very creative products that can attract consumers online and efficiently, and that’s something that the market hasn’t seen before. And I think when it grows, I think we really look for operational efficiency, you know how fast you’re checking your customers and how well you’re converting them.

And what’s the ROI, on your marketing dollars and that determines how fast you can grow and how efficiently you can become relevant in the market. And we grow much bigger and you have to think about building their brands in an emotional wise. And also they have to invest in their manufacturing or supply chain.

Guest: Quick question for companies who are growing their brand in China. And when they think about international expansion, when do you think is the right time, if they are one of your portfolio companies to take their brand outside of China, and do you advise them to start it on a regional basis before they venture off the same to Europe or the United States?

Albus: I think with what we see right now, if you, if you start as a brand in China locally first, and if you want to expand internationally I would say a good time it would be that when you have a stable growing and strong presence in domestic market before you can think globally. Usually, we see that brands reach annual sales of about maybe 1 billion RMB so over a hundred million dollars in sales and they were starting to think global expansion. 

I think that’s a good time for them. And the team has the money to spare and also extra people, they can do the international businesses and when they start off usually we see that they tend to focus on a certain region first and they tend to choose some select channels to start off.

First, that might be, they tend to just start purely online and they try to test the water in this way and try to build an operational strategy. And you can really know how foreign customers are reacting to their products, brands, and services.

And they can adjust very quickly too. And then after they have a good understanding of the local market, and have an efficient kind of operational strategy, they invest more and tend to do bigger things overseas.

Rui: Thanks so much, Albus.

Albus: Alright. Bye, everybody.