Cao Yi Delivers Speech on “The Four Pillars of Youth — Good Companies in the Second Half of the Industrial Internet” at alma mater Tsinghua University

On January 12, 2020, at the invitation of Tsinghua PBCSF, Cao Yi, Managing Partner and Founder of Source Code Capital, participated in this year’s “Tsinghua PBCSF EMBA & EE 2020 New Year Thoughts” as an alumnus. During this event, he delivered a speech entitled “The Four Pillars of Youth — Good Companies in the Second Half of the Industrial Internet.” He shared the potential and capabilities that a good company should possess in this age in order to attract investors.

What would define a good company in the second half of this new economy? The four pillars of youth: Tao or the Way (Editor’s note: as in the Chinese concept developed by Confucius and Mencius – being wise and just, enlightened), Fa or a method, Shu or tactics and strategy, and finally, Qi, which would be the equivalent of talent. Through entrepreneurship and investment, we can better ourselves and our living standards, make our businesses smarter, and strive to create enduring real value.

– Cao Yi

I am glad to have been given the opportunity to return to Tsinghua today. Fifteen years ago, I was a junior here and I stumbled into the Internet venture capital industry. Fifteen years have passed, I have entered my birth year (as in the Chinese traditional zodiac calendar), and the Internet has entered into its second age, as everyone said. Today I would like to talk to you about it. What does this second age mean? And what are the requirements that define a good company during this time?

The Source of Value Creation

First of all, I want to study the roots of enterprise value creation on an abstract macro level. We have listed a few basic elements, including scientific and technological models, as well as management factors. Those are based on the past decades, but they could potentially be pushed back up to hundreds of years ago. In this era of industrial and information revolution, the core elements are: technology, models, and management. Those are probably the most important assets when it comes to driving value creation.

Technology is particularly important. Technology is the largest source of value creation for a company, but it is also the most variable. If companies can catch this massive oncoming change, they will have the opportunity to stand atop and create great value. An example, in this information revolution era, would be the reduction of computing, storage and transmission costs; the evolution of computing platforms, from PC Internet to mobile Internet. The future may be in the changes in client computing platforms, such as connected cars and AR / VR; or consider the cloud, going from mainframes and minicomputers, to traditional servers, to today’s cloud computing; these are some of the core changes in technology over the past decade, and it is these advancements that have led to great value creation.

Technology, model, management elements operate more on a macro-level. When ultimately reflected on companies, their success factors might be found more on a micro-level. How any company, being miniscule when compared to the mastodon that is this industry, is going through this big change? Which companies can do well, and why can they do it well?

The right time, the right place, the right people. The basic elements of business success

We have summed up those three factors, the right time, the right place, and the right people. This is from traditional Chinese wisdom, which I think is very appropriate.

For companies, the right time refers to the external environment, which includes technology, population, humanities, and so on. The right place, is whether the fundaments of the business model and the nature of its business attributes is an A, A +, A-, B, or even a class C business. To put it more vividly, is your business model like Wan Fu Mo (a famous defensive site in China), guarded by one, and forced by none, or is more like a canyon, or more an open plain? Different business models will face different difficulties, and experience different successes. The third is the right people, which is probably the most important part, and the one I want to emphasize on today. With the right time (external environment) and the right place (business models) factors, some companies will still perform way better than others. Therefore, I think, the core of a company’s success is really built on its people (organizational ability). Of course, some people say that business success equals “strategy multiplied by organizational capabilities.” I personally think that strategy may actually be the manifestation of organizational capabilities.

Several Attributes of a “Good” Business

First of all, I want to briefly talk about the first two factors, the right place and the right time. Place is in the sense of the business model being used, or the business natural attributes. We have looked at thousands of companies ourselves and we came to the following conclusion. The best businesses all shared several common characteristics: Network efficiency, preferably a multilateral one; the ability to scale, even with no obvious network efficiency, possessing scaling capabilities (especially super linear ones), will generally make those business models quite good. Not to mention other facts like the importance of possessing unique technologies, brands, etc. For a good business, those four factors might be the most important ones.

Good attributes will be reflected in the final financial statements. For example, what is the final ROIC (Return on Invested Capital)? In the profit and loss statement, what is the gross profit margin, what is the marginal UE (Unit Economics)? What is the medium and long-term projected growth rate, or what is the market share potential?  Regarding market share, we believe that we must follow a certain set of objectives and rules. For a business, having 50% to 70% of the market share is realistic, and leading companies do not necessarily possess 85% or 90% of the market. It will be explained in the natural attributes category in the end. Why are Facebook, WeChat (social network), Toutiao/Douyin (from Bytedance), Weibo (UGC platforms), Alibaba and Meituan (e-Commerce), and TAL (education), all considered excellent companies? Because they possess at least one or even more of those very solid natural attributes, which are superimposed to reflect positive financial indicators, attractive growth rates, high gross profit, high return on capital, and so on.

Several Characteristics of the “Second Half”

Time, meaning the external environment, has now carried us into the “second half” of the Industrial Internet era. The past 10, 15 years have been a brilliant first half. I, myself, have experienced the ups and downs and the brilliance of the “first half.” Standing at this point in time, it can be said that this first cycle evolved through multiples phases, and that we are now, maybe, finally able to look back at this period’s report card. The core of the “first half” was driven by two underlying forces, which were mobile Internet and cloud computing. They, then, brought the transition from a PC Internet to a mobile Internet. In the PC Internet time, among the winners we have in the 2C field, AT (Alibaba and Tencent) still account for a huge part of the dividend of the “second half,” having seen its market value grow during that time, from tens of billions of dollars, to USD $500-600 billion levels. The Mobile Internet industry also came up with some new companies, such as Meituan, Bytedance, Pinduoduo, Didi, Xiaomi, etc., that definitely stand out. 2B is still in its early stages in China. On the other hand, in the United States, the 2C stage is not as developed as in China, but the 2B stage is more mature, allowing the emergence of new companies with a market value accounting in tens of billions, or even USD $50 billion levels.

In the “second half,” what are the basic characteristics of the macro level, the industry level, the entrepreneur level, and the capital level? The macro level is to evolve from an incremental economy to a consolidating economy (as in more moderate growth). The industrial level has shifted from a pure 2C focus to having a degree of equilibrium between 2C/2B, perhaps with 2B even taking the lead sometimes. Entrepreneurs initially focused more on capturing market dividends (such as China market’s expansion bonus), but are now obliged to pay more attention to their own organizational capabilities. The capital level (as in funding supply say from venture capitalists or private equity) was formerly more concerned with finding high growth models, with higher speeds of expansion (and in return accept a faster depletion of resources or cash burn), but will now pay more attention to looking for business models that offer more moderate but sustainable growth, with slower rates of consumption, and more moderate usage of funding or spending.

The Tao, Fa, Shu, and Qi of Organizational Skills

One of the main reasons as for why a good company can stand out in the “second half” lie within its people and its organization. We have concluded that in this area of “organizational ability,” we must be the ones who have Tao, Fa, Shu, and Qi.

Having “Qi” means that you can use the tools at your disposal well. There are two major categories, one is the core IT technology application capabilities, and the other is the effective use of external advanced service providers. The IT application ability refers to whether the IT system can be used to support the operation of all aspects of the company, from ERP, CRM, HRM, to data center, BI and other system tools. We generally evaluate how a company will also pay attention to the penetration rate of IT products. The effective use of external resources can help avoid redundant resources, or repetitive and unnecessary actions that “reinvent the wheel.”

Take LianJia (aka Beike or HomeLink) as an example. 10 years ago, it was still a company with relatively low income and low profit. It may have had an annual profit of less than RMB 100 million. But, in the last few years, it invested hundreds of millions to build its own IT system. With the support of its ACN network, the productivity of each broker is two or three times higher than in the rest of the industry. This is a typical example of how IT products can support a business. This also applies to Bytedance, with its IT products, such as Feishu (Lark), which not only increased efficiency for the company itself, but the app can now also be “exported” to benefit other companies as an enterprise Saas-like tool.

Having “Shu” means paying special attention to key strategies and building upon key capacities and key competencies. In the past, some may have been more reckless, and not very concerned with methods or strategies, but now every strategy or tactic, whether it is about growth, cost-effectiveness, financing, or augmenting competitiveness, all must be refined, and tweaked repeatedly. For instance, how to make better use of the existing infrastructure in order to get more customers, engage in cost reduction or data-driven operations? These are basic elements that anyone should pay more attention to in this “second half.” Take Bytedance as example, even small things like naming, designing logos, or promotional materials, can all be opportunities for enhancing operations through clever use of data.

The core of “Fa” relies on the fact that the enterprise is a company with methods. It is a company that can continuously generate methods based on rigorous methodology. From the CEO to the middle and senior management, there must be a method awareness, and you need to establish a methodology for everything, not just to meet short-term needs.


Last but not least is “Tao,” which is particularly important in an environment like the one of the “second half.” It is hard to explain as my understanding of it is still rather superficial. Tao is the most fictitious pillar, but I think it is also the most fundamental, especially when considering the long-term. After a company reaches a certain level, let’s say a market value of USD $1 billion or even USD $10 billion, if there is a problem with the Tao, it will eventually fall. Tao encompasses the basic values of each employee from the top to the bottom, like the respect of the customer, like openness and honesty. What is even more important is whether or not the CEOs and the founders can educate themselves. Especially during this “second half,” the founder should stick to his or her duty, keep a clear mind, and focus on discipline; he or she shall try to reduce ego in order to achieve greater things, and should learn to go with the flow while also not being afraid of going against the odds.

From Tao comes Fa, from Fa comes Shu, from Shu comes Qi. In the process of investment and entrepreneurship, we often encounter problems of “Shu” or “Qi,” which are relatively obvious and easy to find and address. The problems generated by “Tao” and “Fa” are usually more hidden but more persistent and last long. “To diagnose a disease, look at the leaf, to treat the disease, seek the root.” If the problem is in the root, it must be faced squarely; if it is not a core issue, then do not pay too much attention to it, it will be more likely a small and ephemeral problem. For example, in order to promote an app, a company may create a web version experience that promotes the app but causes poor customer experience and big data issues. It may be a good Shu (strategy), but this might also be a Tao issue – as in, does this company really value their customer’s experience?

Good companies should always try to stay “young,” be tenacious, courageous, pragmatic and romantic, and focus on the present, not on the past, and move forward with one heart.

Finally, Source Code Capital is also a youth, just like many of you. At the same time, we hope to be able to strive to become a model of the “Four Pillars of Youth,” to be the most entrepreneurial investment institution, to find more people with this mindset, and to rely on the power of technology and capital to promote business change and create enduring real value in the “second half!” Thank you all!