Xiaomi CEO Lei Jun: How Xiaomi Turned the Tables

Recently over 30 council members of the Yabuli China Entrepreneurs Forum (CEF) paid a visit to Xiaomi headquarter. The president of the forum, Chen Dongsheng, chaired this CEO seminar of ours entitled “Internet + Manufacturing Upgrades in China”. At the seminar, Xiaomi CEO Lei Jun shared with everyone Xiaomi’s business model, values, difficulties encountered during the past, and how Xiaomi successfully turned the tables this year. The following is a selected excerpt of his speech.

People often have very different understandings of Xiaomi. This is mainly due to Xiaomi being different and employing an unprecedented business model, thus rendering it easily misunderstood oftentimes. For example, the early stages of Xiaomi’s development was very successful. Everybody thought that Xiaomi’s business model is the way to go and that the Internet is powerful. However, when Xiaomi encountered difficulties, everyone thought the opposite and didn’t think Xiaomi’s model was reliable. In fact, the whole concept of “Internet Thinking” was derived from the spirit of the Internet’s establishment at the start—connectivity at any time. But this doesn’t apply to the Internet only; the essence of the Internet is to be transparent and efficient at all times. If we were to treat the Internet as the number 0, and the industry as 1, then mathematically speaking, without the industry, we would never have a leg to stand on regardless of how many zeroes we might.

When our results made a turnaround in the second quarter in July, we drafted a summary at our executive strategy seminar, where we discussed these four major issues below on our PowerPoint.

1.How was Xiaomi able to go from zero to hero in China in just two and a half years’ time?

Let’s recall for a moment back in 2010, a small startup company took 30 million yuan, and broke into the most competitive industry in the world—cellphone manufacturing. And just exactly how competitive was this industry at the time? Throughout the global market of mobile phones, there were only two major players—Apple and Samsung. Are there any other markets out there you can think of, that consisted of only two players? When we broke into the Chinese market, there were about 300 of us who were competing against each other; And now only 20 remains. And of these 20, I believe the top 10 are basically guaranteed to survive while the remainders will have to duke it out. As such, this is truly the most competitive market in the world. In such a highly competitive market, a startup company beginning from scratch took only two and a half years to establish itself as first. Even today, I’m still in disbelief about this. But a miracle did occur.

Starting up Xiaomi was something I did after I sold Excellence Group and Kingsoft became listed. At the time, I have retired for about 3 to 4 years already. And so, what exactly did I want to do with Xiaomi you ask? Well, I wanted to find a solution to certain practical problems for China. The issue was that domestic products weren’t performing very well; prices were blazingly high, thus resulted in many folks going overseas to buy, buy, and buy more.

2. What sort of difficulties did Xiaomi encounter in the past two years?

Over the past two years, the public and outside opinions seem to unanimously agree that Xiaomi won’t be able to go on any longer. And so the question became, what exactly happened to us? If you can’t comprehend your own shortcomings, it becomes very easy for you to make the wrong decisions, especially when it comes to corporate decisions. When I was chatting with some entrepreneurs, I mentioned something called “Defend and Retaliate”—a phrase made famous by the infamous book, the Art of War. When problems arise, many often try and retaliate by dishing out something unexpected. But this is incorrect. Problems are usually a result of something going wrong on a fundamental level. Thus, it’s more important to defend than to retaliate by surprise. In fact, we are often our own biggest enemies. You can only begin to devise a new plan after you’ve defended and strengthened the basics, especially when it comes to large-scale enterprises. A company like Xiaomi with a total revenue of over 100 billion yuan and more than ten thousand employees, strengthening the fundamentals is the approach of utmost priority.

Throughout the first quarter of this year, our shipments amounted to 13.62 million units. During the last few quarters, our figures weren’t ideal as well. Our shipment figures dropped out of the top five. There were ample negative news reports about Xiaomi. Early this year, there was even an online comment saying that “No mobile phone company was able to make a successful comeback after a decline in sales. Xiaomi’s future is looking bleak.” After mobile phone sales have declined, why is difficult to turn things around? Because this is an industry with a highly integrated global supply chain. And at the top of the chain, there is a high degree of monopoly and rapid technological iteration. Thus, success becomes highly dependent on having a myriad of partners to work with. If you are not a favorite among those in the industry, the support you get will decline constantly until you sink deeper and deeper into an abyss.

And thus, what sort of difficulties did we encounter? The first was the vicious competition that we suffered throughout the online market. When Xiaomi’s valuation came out to be $ 45 billion USD, everyone felt that they were capable of achieving the same results with their businesses as long as they had enough money to burn. So throughout the past two years, the amount of money some folks threw away in the mobile phone market was astronomical.

Next came the wave of hardware upgrades from counties and towns that we missed because we were too fixated on our online retail. The entire Xiaomi business model is about having a high quality and being cost-effective. And being cost-effective is similar to having an efficiency revolution. Raising the efficiency to Xiaomi’s standards under the market conditions at the time, could only be done through e-commerce improvement. That’s why in the past few years, we focused all our energies on e-commerce. But that was where we made our biggest mistake. E-commerce accounts for only 10% of the aggregate retail sales; even today, 90% of people purchase goods offline at retail stores. In other words, even if you were to own 100% of the whole online retail scene, you really only own 10% of the market altogether. The biggest challenges that Xiaomi faced throughout the past few years, is figuring out how to upgrade our strategies, and how to stand out among the rest. That’s why we were stumped on how we would run our offline retail stores more efficiently.

The general pricing of mobile phones across the industry is usually 2-2.5 times the cost, meaning you’d need to spend a whole lot more on offline retail. Originally, we were able to run our online shop with a gross profit of close to zero. But now, pricing our products at our offline retail stores is a big problem. Because if I wanted to run a store both online and offline at the same time, I’d have to spend double on the latter, causing a huge difference in pricing on the same products. Thus in the past two years, we’ve been working on a strategic breakthrough on finding a solution to this. It’s either we become an acceptable mobile company running a great online store, or we think of ways to raise the efficiency of the entire Chinese retail industry altogether. But to do that, we would have to have great convictions like WalMart and Costco when they were first founded, in order to change the business format in China.

Last but not least, the management challenges brought along by a high-speed growth expansion. Think about it. When a company grows from a dozen folks to more than ten thousand, there’s bound to be leaks everywhere that you’d have to plug. I tell everyone I meet that the business that we’re doing is similar to selling seafood; if you’re not quick to get them off your hands, they’ll go bad in less than half a day. Zhou Shouzi, our CFO at Xiaomi said that once, a mobile phone company CEO told him that the business that we’re engaged in, is an “ice business”, meaning that once the sun’s up, everything would be melted and gone. It’s true. Our business is very complex. It involves a massive cash flow, inventory and very long cycles: Orders need to be placed 4 months in advance, and inventory turnover rates are high. Under circumstances like this, if a leak is missed, everything’s downhill from there.

And that sums up the three challenges we’ve faced. And of them all, I’d say the second is of utmost importance: Can we achieve a breakthrough in our business model?

3. How did Xiaomi turn the tables today?

So, how did we solve the three problems mentioned earlier? To be honest, the only thing we did during our company gathering last year was just this—makeup classes. I think it’s impractical and vague for us to celebrate about being first before. We are really not on par with those who are truly at the top in the industry. Thus, we have to step down from our high horses for a second and start from scratch again; find out what we’re lacking, learn from the leaders in the industry, and be humble. All we asked for was makeup classes, and nothing else. Discussions about sales did not come up for even a second on our agenda. We focused on our makeup classes, and stressed the importance of fundamentals. And with that, victory was but only a few steps away. All we had to do was get the basics down.

1）Makeup Lessons

So, how do these makeup lessons work? Well first, we compared organizational structures. Every industry has its own rules and regulations. The leading companies throughout the industry have found the best solutions through countless optimizations. Thus, we must respect the rules of the industry and learn from our peers.

On management, the most important thing is to truly comprehend the complexity of the mobile industry: the need to integrate production, supply and sales altogether. What we did was, we established a special planning and coordinating team for our production, supply and online sales departments. We established this cooperative team from 0 to over than 100 members in just one year. Like that, the strategic coordination of this massive integration of all three department was made possible by these members.

After we became capable in various aspects, I proposed a three-pronged approach this year. We got 300 problems ahead of us, but we can’t solve them all at once. We can only rely on innovation, quality and delivery, this three-pronged approach to find a solution to our problems. For the mobile business, the quality is equivalent to its lifeline. We became the first in China with quality. We defeated knockoffs with quality too. But this year, our problem isn’t knockoffs anymore. It’s the most badass companies at the top of the corporates in China. Therefore the question is, how are we going to shut them out completely with quality?

Earlier this year, I led the quality control committee personally. After a series of discussions on specific topics, we drafted a detailed quality control outline and set up a special quality supervision office. Our goal was to crush the market with quality.

Of course, when I mentioned this at the start of the year, the worst was already behind us. And immediately following the second quarter, our efforts paid off. We shipped out 23.16 million units in the second quarter, gained a growth rate of 70% and returned among the top five in the world. Our great performance returned faster than we anticipated. And I think this was a natural result of our efforts over the past year and a half. We managed to create yet another miracle and turned the tables. I think the important thing was grasping one’s own advantages and disadvantages. Once we had that figured out, we dealt with our shortcomings, stopped being fixated on KPI and sales performances, and just focused on strengthening the basics to ensure a healthy operation of the company.

I think a key reason behind our comeback was innovation. Because if we didn’t innovate at all, we’d get nowhere. What kind of innovations did we make precisely? Before I get to that, let me share with you some achievement of Xiaomi’s first. Earlier this year, Boston Consulting Group released a report listing out the world’s top 50 innovators. There were two Chinese companies listed, and Xiaomi ranked 35^th. The rankings on the world’s most innovative companies published by Fast Company showed six Chinese companies, with Xiaomi ranking 13^th.

2）Technological Innovation

What is technological innovation? Take for example, last year we released a full display mobile phone–Xiaomi MIX, and stunned the world. This screen took up 91.3% of the entire ceramic body of the phone. We named this brand new design the “Full Display”. Now the whole industry is following suit with this brand new “full display” design such as Samsung’s Galaxy S8, and the iPhone 8 that’s due for release in September. We stood at the pinnacle of the world, leading the trends of technology entirely.

And now let’s talk about what we’ve done with the camera. When Xiaomi 6 came out, it was widely praised for its dual camera focus and ability to take better photos of people. We found a notary office to assist us in performing a blind test on comparing the Xioami 6 and two other flagship cellphones side by side, and we found that more than 63% of the folks liked Xiaomi better. In fact, we did not just work on the screen alone. Even on hardware component selection such as computer chips, we assembled the best team across the industry by talent scouting constantly, and threw in our hearts and souls to achieve a multitude of technological innovations.

Up to now, Xiaomi has received over 4806 patents, of which half are international ones. Last year we applied for 7071 patents and was authorized 2895 of them. While supporting the constantly emerging waves of technological innovation, the patent reserves have in fact laid a solid groundwork for our future expansion into the European and American markets.

3）Innovative Business Models

To understand the essence behind business model innovation, it’s important to ask, “What kind of company is Xiaomi exactly?” Many people have asked me this question before, and not once was I ever able to answer them clearly in one sentence. But alas, I finally understand. It’s precisely because we are a brand new species in the corporate ecosystem, there was no way for me to define the company in one sentence. I was recently able to sum things up however: Xiaomi is a mobile phone company; a mobile Internet company; and a new type of retail company. We have contributed loads to the field of mobile Internet. Our total revenue this year broke billions too. And many still don’t realize the other value that Xiaomi possesses—We have evolved from an e-commerce platform into a brand new retail platform.

Take a look at this picture. It’ll give you a much better understanding of all of Xiaomi’s strategies. Since Xiaomi’s cellphones sold well, it led to additional sales being made online. And when more people begin to buy from Xiaomi because of how well it’s doing, Xiaomi’s built-in shop app will bring along with it yet even more cellphone sales. To put it simply, it’s a virtuous cycle of the product promoting the online platform and vice versa. It’s a positive interactive cycle between the two.

The next major strategic breakthrough we made was establishing our offline retail stores—Xiaomi Home. Xiaomi Home is a highly efficient offline retail store, rivaling its online counterpart. The average sales value per square meter is about 27 million yuan, an efficiency ranked second in the world currently. I think Xiaomi’s greatest innovation during the past two years, is that it can run an offline retail store with the same cost as running one online!

Buying a cellphone is a low-frequency action, meaning you don’t buy cellphones constantly. Yet manufacturers spend loads on advertisements, trying to persuade consumers to buy a new one every two years, and then run the same gig two years later again. Thus, how can we solve this problem? The answer lies in creating an advertising campaign in combination with your products. We came up with a hardware and eco-friendly system where we optimized our product combinations, and gained the loyalty of our customers with just a few hundred products.

Our philosophy is different from other companies. My goal is to provide the best quality products at the lowest price possible. This has been my dream and ambition since I established Xiaomi seven years ago.

What are the cons of this business model? It is way too complicated. You must understand the hardware, software, IOT, retail, etc. It’s an “all-round model” where the requirements for the whole team is very high and excruciatingly hard to execute. How many companies in the world serves as an online platform, sells hardware products, and develops the Internet in numerous aspects? Very few. Xiaomi’s business model is already difficult enough, it’s still got other world-class competitors in every other aspect. What’s harder is, Xiaomi had to find a way to win.

This is a summarized map of the Xiaomi business model. We call it a cyclone map. Because you can see clearly from the map the interlocking Xiaomi business in every way, helping each other develop in a virtuous cycle.

We gathered a group of cellphone enthusiasts and established the Xiaomi community when we first started off. Then we designed the MIUI operating system. Next came cellphones and e-commerce. And after the e-commerce gained success, we went after cloud services and large data computing with great determination and then focused on making TV and routers immediately after. In fact, television was something we were prepared to do at the very beginning except we were too strict on ourselves with product requirements and was a few months late to its release. And the whole idea of working on routers is because they are the core of smart home designs. We targeted the business of smart home design and went after network e-commerce, entertainment systems, ecological chains, Xiaomi home, Internet finance and another online platform named Youpin Store. Youpin is a online store where publicly voted goods are finely designed and sold in order to achieve quality living. Its size is quite massive already too. We have a requirement for Youpin where the number of goods must be at 20,000 SKU (Stock Keeping Unit), 2000 SKU for Xiaomi Mall, and 200 SKU for Xiaomi house.

4. What is at the core of Xiaomi’s competitive spirit?

There are a few things that I repeat constantly internally: First, fandom. The culture of fandom is about becoming friends with our consumers. And this isn’t something easy per se. In fact, the thing that’s on a lot of people’s minds is always how they could sell at a higher price to their customers. But this way, you make more enemies than friends all the time! If all that’s on your mind is how you can get your consumers to drop cash into your own pockets, that’s really called stealing. Thus, making friends with our customers is one of the most basic fundamental skills we train at every business level. The second is to touch people’s hearts with great products at a reasonable price. Third, the triathlon: hardware + new retail + the Internet. And finally, the integration of industry + investment. Optimize our product combination by using the eco-chain.

Xiaomi’s department of eco-chain, along with the company’s own investment department, jointly invested in a total of more than 200 companies. The investment total may include a coverage far beyond everyone’s imagination. The way I see it, if you know there are things you can drop, drop it altogether. Because our business is complex enough. Thus, it’s better if we stay focused and be simple.

The evolution of our eco-chain business can be described as going from being just a ship to becoming a whole fleet. At the start of 2014, Liu De, a co-founder of Xiaomi established the department with a dozen other individuals and began developing a series of eco-friendly products. Now Mi Band is the first across the world. The same can be said with our air purifiers, self-balancing scooters, portable batteries, and floor sweeping robots.

The company received more than 145 industrial design awards altogether, including Xiaomi cellphones, TVs, TV boxes, and speakers. I believe that a great product must not only function well, but also look good in terms of its design. Among the eight of us co-founders, Liu De is the only one who graduated from the Art Center College of Design and previously served as the director of the Department of Industrial Design at the Beijing University of Science and Technology. When I established Xiaomi, I thought that Chinese products really need a changeover in terms of their designs. Back then, everyone thought that quality was all about the function. This is true, but visual impact is just as important in terms of quality as well. one visit to our Xiaomi House would suffice in understanding that Chinese manufacturing designs today are all top notch. Every day, we attract tens of thousands of foreigners to our stores in search of satisfying products.

We opened our first offline retail store last year in February. And up until August this year, we have expanded to a total of 156 branches. So far, every branch has seen a high level of success and raked in a very high average revenue per square meter, a feat second only to Apple and ranking second in the entire world. We improved our efficiency through our business philosophy of becoming friends with our customers and how we could provide them with a better shopping experience.

If you were to drop by our retail store on the weekends, it’d be packed beyond expectation. Everyone thought that the retail industry isn’t going to fare well. But the truth is, it’s just the traditional retail industry that’s not performing very well. If you’re looking to succeed in the field of retail, the key is to achieve an efficiency rivaling e-commerce, and integrate this efficiency with the advantages of the presentation and experience you’d normally get from traditional retail stores.

For now, our goal is to open up to 1000 branches in three years and reach an operating income of 70 billion yuan in five years. So far, the average area of one of our branches goes up to 200 square meters per shop with an average revenue between 65 and 70 million yuan.

How did we achieve such an astonishing performance in just over a year? I think the answer lies in the values that we hold dear at Xiaomi. Once again, it’s about treating your customers as friends first. Once you can do that, you’d begin to think about the price and service you’d like to offer to them differently. The second is to have a suitable product portfolio. And finally, you must be strict about being high quality and cost-effective. When you’ve achieved this successfully and made a deep impression on your customers, they begin to feel differently about shopping at your store. They’d start to understand that when you shop at Xiaomi, it’s similar to shopping at the supermarket. You just pick up a basket and start taking things off the shelves one after another.

Thus, the idea resting at the core of Xiaomi’s business model is really to gain the trust of the customers. My idea was to make a great product that’s cheap at the same time, so that customers won’t have to overthink and look at the prices when they shop. That’s how you can achieve a high sales efficiency. If customers complain to you constantly about certain items having a gross margin that is too high or too low, then you’re no different from ordinary shopping malls. But you wouldn’t have to nitpick here at Xiaomi; everything is of value for money. And if Xiaomi can achieve this, then its business model is undoubtedly the best! In fact, Costco in the United States was able to achieve just this. A lot of friends of ours don’t even bother looking at the price tags when they shop at Costco. We thought about what it really meant for consumers to not even bother with the price when they shop. I think that that would be the highest level of success in business. If you’re ever able to reach the stage where it becomes unnecessary for customers to even think about checking the price when they shop at your store, you’ve attained the ultimate form of trust and success.

This article originally appeared in Lei Jun’s personal blog and was translated by Pandaily.

Click here to read the original Chinese article.