On April 20, 2018, Source Code Capital’s 2018 Annual Code Class Conference themed “Opening Sources, Decoding the Future” convened in Beijing. CEOs from Source Code Capital’s portfolio companies discussed the Industrial Internet, new models for Online-Merge-Offline retail sales, international expansion, entrepreneurial spirit, the pace of founding a business, talent acquisition, management, and other topics.

On the topic of industrial Internet, Lu Yuemei, Source Code Capital, Li Meng, Founder and CEO of XiaoYaoYao, Gao Yang, Founder and CEO of Ruigu Shop, and Zheng Yubin, Founder of Zhangshang Kuaixiao, shared their experiences and understanding of the massive industrial Internet market.

Lu Yuemei said: “S2B (Supply chain platform-to-business) is already an emerging platform and ecosystem concept. It can standardize and replicate traditional services and eventually form an ecosystem. This system is more efficient than the traditional industrial chain from the past.”

Founder Quotes:

• The proportion of leading brands continue to decline, while smaller boutique brands continue to rise.
• Many friends tell me to monopolize the “small B’s,” and reversibly work their way upstream to monopolize the “big B’s,” which is very irrational.
• B2B is a highway, while S2B is a forest.
• Many VCs think that it is difficult to make money in B2B. The reason is that when the highway has more and more cars, it can only compete on price, but would still have to sell goods.
• Only by empowering each other and letting the downstream business do well can our business succeed.
• The gross profit in wholesale is limited. You can help others to save a little, but you’d have to put in a lot more. It is better to help them earn more.
• Helping small B’s manage their own company is what industrial Internet companies should pursue.
• Technological revolution and advancement are the core elements of B2B.
• If you want to take margin, you must play the part in the industry. We must do better than ordinary local wholesalers.
• Our mission is to become the backbone infrastructure of the pharmaceutical industry, to become the industry’s water and electricity.
• If you can open up the brand-to-consumer highway, you will find that the efficiency of the entire industry will greatly improve.

The full transcript of the panel discussion is as follows.

Source Code Capital’s Lu Yuemei: When Source Code Captial was established, our Founder Partner Cao Yi led me into this industrial Internet industry track, and to date, we have spent nearly four years looking at it. Here, I witnessed a process in which younger and inexperienced entrepreneurs gradually matured, and finally we see higher quality companies and more worthwhile investment opportunities. I feel that we have been quite fortunate and avoided some pitfalls. Through constant interaction with CEOs, and through close observation and continuous research in the industrial Internet industry, we have been aware of the industry changes and are able to make the right calls. Just to recap quickly, let me introduce three concepts we have learnt.

First, the industrial Internet. As Cao Yi presented in our “Three Fundamental Drivers” investment map, each vertical is a massive industry, and every industry has two sides. One is 2C (to consumer), and the other is 2B (to business). All of the C’s needs, products and satisfaction, come from the supply of B. The B’s end is further categorized by and organized into many links, including production, logistics, commodity matching, all the way to the end-user, or customer or channel. We define this entire chain as the “industrial Internet.”

In 2014-2015, the concept at the time was called “B2B.” B2B refers to the trading platform between the two links. At that time, it was a relatively simple definition. Everyone is still discussing whether to create self-developed platforms or combined platforms. By the beginning of 2017, the concept of S2B appeared. I personally think that this is a big upgrade as compared to B2B. It is actually a concept about a supply chain platform. It means that I am empowering the last level of B. By integrating resources from different parts around B, and then connecting the B-side to the C-side, we can ultimately provide the customer with better service. In the end, it is the C-side consumers that pay for this. If you can give them the best service and the best products, the final layer of our B-side can remain competitive. This becomes what we mean by S2B. This is a common understanding. Today, the three CEOs who are here are in different industries. They will discuss and we will understand how to see S2B from their perspective.

XiaoYaoYao’s Li Meng: Hello everyone! I am Li Meng, the Founder of XiaoYaoYao. We are a B2B e-commerce and technology service company specializing in healthcare. The pharmaceutical industry is very traditional and has a very strong regulatory threshold. We mainly serve upstream pharmaceutical companies, hundreds of thousands of pharmacies, and millions of clinics downstream. In addition to the B2B transaction itself, we also empower the upstream and downstream through our SaaS system and big data algorithms, so as to reduce costs and improve the efficiency of the entire industry chain.

Ruigu Shop’s Gao Yang: Hello everyone! I am Gao Yang, the Founder of Ruigu Shop, a self-operating e-Commerce platform for MRO industrial products. Our target customer base is 600,000 hardware and industrial retail end-channels across the country, including large-scale equipment procurement for many KA (key account) customers. The industrial product market is relatively complex and is often traded in a very confusing manner in wholesale markets. Through our self-operated warehousing and logistics platform, Ruigu Shop aims to empower all 600,000 offline retailers.

Zhangshang Kuaixiao’s Zheng Yubin: I am the CEO of Zhangshang Kuaixiao. We are the largest B2B platform for FMCG in Southern China. Simply speaking, our goal is to supply small shops, replacing traditional, lengthy and inefficient wholesale channels, and directly connecting brands and stores. We are purely self-operating and we focus our business in the second- and third-tier cities in China. We entered this segment at the end of 2017, especially with thanks to the support of Source Code Capital’s Cao Yi, Wang Xing Shi, and Lu Yue Mei. Our goal is to become the largest self-operating FMGC B2B platform in China by the end of this year, or by the first half of next year.

1. National Infrastructure

Source Code Capital’s Lu Yuemei: Can each of you talk about the understanding of S2B and the goal of S2B?

Zhangshang Kuaixiao’s Zheng Yubin: Before we talk about S2B, let us talk about B2B. B2B is the transformation of the infrastructure in the inventory market. Take the fast-moving consumer goods industry for instance. In the small business fast-food industry in the U.S., there are only 50-60 large-scale supply chain enterprises in the upstream. Currently, China has 6 million stores in the upstream, and only 100,000-300,000 small wholesalers. No single brand can directly connect with too many channels. As such, on the small wholesaler side, the demand for transaction and distribution of goods has formed a long and arduous supply chain, which, from an efficiency standpoint, is not scientific at all.

Therefore, I believe that in the Chinese supermarket industry, there will emerge a large-scale supply chain enterprise in the upstream, it is a very certain opportunity. Yesterday we discussed a problem in the New Consumer forum. We found that the trend of consumer demand fragmentation is quite clear and obvious. The proportion of leading brands continue to decline, and the proportion of small and boutique brands continue to rise. One can imagine that after 5 years, a large proportion of the entire consumer goods market is occupied by small and good quality brands that are very user-specific. The chances for a national brand like Rejoice to remain as dominant may become smaller and smaller in the future. Fewer and fewer brands have the ability to build a nationwide distribution network, or a complete channel matrix independently, so infrastructure like a B2B platform will become more and more important.

At the same time, we are still in awe of the industry. Whenever a category comes out, it forms a new channel. It has its own customers and supply chain owners in the industry chain. Therefore, it is necessary to develop the channel’s value, and clarify the position of the industry chain. Many friends tell me to monopolize the “small B’s,” and reversibly work their way upstream to monopolize the “big B’s,” which is very irrational. At the same time, as a new channel, its development has a cycle. Now we are a fast-moving B2B company that is still in the stage of supplementing channels of the industry. The next step is to become a mainstream channel. Only then can we grow into a strong channel. This cycle might be quite long, and S2B entrepreneurs must be patient.

There are two ways to breakthrough. S2B is actually operating in a limited market (editor’s note: to mean the market size does not grow exponentially, and is somewhat kept constant). This “inventory business” means that any business here will necessarily take away some piece or market share from another business. I have always told my team that there must be two concepts. First, we must break through the boundary of industry service around the core users. For example, in my business, each store has to be most concerned about the quality and stability of the supply and the delivery speed, so we self-operate to get cargo delivery right and be in a position to determine our own contracts. Using this strategy, there is more pressure as the initial costs are higher. However, our scale is also rapidly increasing, so we have to study how to increase the scale and push the fee down until the industry’s cost efficiency boundary is broken. That way, your service is better, the efficiency is still high, and you breakthrough away from the traditional model. So B2B has to have two concepts of boundaries. First, work on your volume so that it is large enough. Then, look at how to connect, and develop the connection of the entire industry chain. There is a sequence. 

Source Code Capital’s Lu Yuemei: I understand that this is a very grounded, comprehensive way of competing in the fast consumer goods race.

2. Fully Empower the “Small B” in the Downstream

Ruigu Shop’s Gao Yang: I studied science, but today’s problem is very much related to liberal arts. S2B and B2B are just words in a language. The essential difference in my eyes is that B2B is a highway and S2B is a forest.

On this so-called highway, B2B connects point-to-point with product sales. Whether it is self-operated or mixed, from receiving the goods in the upstream, to selling in the downstream, the essence is trade. In this process, it is more about whether the information or data is symmetrical, and whether the pricing is transparent. In the process of China’s industrial Internet transformation, whether prices are transparent or not is not enough. Overcapacity is our current situation in China, and prices will become more and more transparent. The upstream will want to ship goods out as soon as possible, because their work is done when the goods are shipped, and information symmetry will be eventually accomplished. Many VCs think that it is difficult to make money in B2B. The reason is that when the highway has more and more cars, it can only compete on price, but would still have to sell goods.

S2B is a forest. The forest must be a natural ecosystem with water, air, and food. The capability to give the downstream B channels is enormous. For example, in the process of B2B, the changes in quantity is often the improvement of efficiency in logistics distribution. This changes the behavior of traditional or provincial-level distribution to the downstream sub-channels to enable twice-a-week deliveries. It enables next-day delivery and same-day deliveries as well. The change is in the distribution frequency. What is the qualitative change? We can help the downstream B-side speed up their inventory turnover, reduce inventory pressure, release the flow of capital among downstream sub-channels, and make it more efficient to do business. This is one of the examples of empowering the “small B.”

Only with the process of empowerment and reform can the future be optimized to develop to C2B and C2M. Only by empowering each other and letting the downstream business do well can our businesses succeed. Not all products are the cheapest, but many customers are still willing to purchase from Ruigu, because we allow them to make money, rather than simply lowering the purchase price.

The gross profit of wholesale is limited. You can save a few points and add a few points out of pocket. It is better to help them earn more points. This is the essence of the overall industrial Internet. In fact, it is not just the change of the category structure, logistics, follow-up services, or operations. In the end, the essence is that we should empower the “small B.” This is what an industrial Internet company should pursue fundamentally.

3. The Technology Dividend is the Secret to Winning

XiaoYaoYao’s Li Meng: From a macro point of view, China has experienced a period of rapid development in the past 40 years of reform and opening up. The economic growth rate has exceeded 8% for a long time. We have not experienced low or negative growth. All walks of life are going quite well. For example, in the field of medicine, there have been more than 10,000 companies which received national drug approvals. In the U.S., three monopolies control 95% of the market, and the largest one had sales of over USD $200 billion last year, ranking as number 11 among the world’s top 500 companies. 30 years ago, the U.S. pharmaceutical market stream is similar to the current situation in China. The industry is relatively scattered. After 30 years of integration and information efficiency transformation, the result is the creation of big giants. However, the difference between China is the U.S., is that while the U.S. experienced 30 years of information transformation, we leapfrogged directly to the Internet, jumping from PC to mobile payments, etc. This is a huge opportunity for B2B.

For us, B2B was originally a simple sale. The first step is to de-intermediate and remove the first, second, and third levels of the original invalid redundancies. For example, if we take the goods from the factory and sell it to the pharmacy, we have to go through one or two levels of wholesale. This can be done on XiaoYaoYao. For example, a village doctor in the village in the Enshi Tujia Autonomous Region can get the same supply as those in the core areas of Beijing. This is the dividends from the Internet.

The second step is to empower the stores. Having Internet tools, algorithms and data forms the core point of evolution from B2B to S2B. We need to help the stores develop facial recognition, membership management, and finance, and help them build a good ecology, to go beyond selling goods to figure out the distribution. When the data is accumulated to a certain extent, the so-called C2M and C2B are likely to emerge through the algorithm. This is a step-by-step evolutionary process, with the core foundation as technological revolution and continuous advancement of technology. 

Source Code Capital’s Lu Yuemei: Mr. Li used a very simple language to describe the driving force of my investment in the Internet. I saw the inefficiencies of the Chinese industry and went to the mature industries in Europe and the U.S., and saw huge potential. In Europe and the U.S., the distribution from the upstream production to the middle, and even to the downstream retail, is very centralized. There may only be three or five companies, and even some of their industries are closed loop from top-to-bottom, supported by one company or one system, including production circulation. This is a great efficiency improvement and the ultimate goal of the industrial Internet concept. But this is impossible to achieve overnight. B2B may be the first stage of development, then there are second stages of version 2.0, 3.0, 4.0… and S2B is the current 2.0 practice. In future, we should be able to use data to meet the needs of our customers, to make customized productions, and to provide customized products and services.

Zhangshang Kuaixiao’s Zheng Yubin: To add, this process may be faster than we think. Not only are our B2B, S2B start-ups working hard, but the giants in all walks of life are also opening up, and many things are gradually becoming a part of the social infrastructure, such as supply chain platforms and urban infrastructure, including large connectors (2C scenarios). If these infrastructures are utilized well, the factory-to-store-to-people process can be linked well together. Perhaps for us, how to get to these resources is something that needs serious consideration.

XiaoYaoYao’s Li Meng: Where is the biggest opportunity for B2B? Some time ago, maternal and children e-Commerce were especially on fire, you had Miatong, Youbeibei, and Jingdong’s and Tmall’s maternity and baby channels. You will find that the entire online maternal and children market accounted for less than 10% of the overall market, as 90% are offline. The most valuable thing in the future is data. It is most valuable to have accurate data that can capture the overall industry. B2B Internet companies are capable and are able to access the industry’s overall data.

Take medicine as an example. Less than 2% of all drugs sold in Beijing are through B2C e-Commerce, and 98% of sales come from offline pharmacies, hospitals, and clinics. By empowering downstream information systems and giving SaaS transformations, transactions can be recorded, and data can be accumulated in the channel. For example, at the beginning of this year, we sensed the outbreak of influenza in advance, because we monitored abnormal sales data for cold medicines, antibiotics, and clinical prescriptions.

Source Code Capital’s Lu Yuemei: To sum, why would our industrial Internet sector continue to be valuable? As Ms. Li said, there is actually data. Moreover, this data network is very large, and there are many points. Mastering these data is a direction of S2B in the short term. It is also a value point and a foothold for us to continue to compete with the C-side giants.

4. Industry Role Positioning

Source Code Capital’s Lu Yuemei: Let’s go back to S2B first, I would like to ask everyone how they execute and roll-out their plans.

Ruigu Shop’s Gao Yang: The process of industrial products S2B should be viewed from the perspective of industrial decision-making. How does S2B work in the forest? The industry role undertaken by B2B is just a product transaction process. However, there will be many changes in the role of the industry evolution, such as needing a group to take responsibility of collecting goods, and a second batch of bulk cargo functions and retail services.

From the perspective of gross profit distribution, many entrepreneurs will talk about the trillion-dollar market, but how many of these can you actually take a piece from? For example, in the RMB trillion-dollar industrial product market, RMB 600 billion is the factory price. As long as you do not open the factory, the RMB 600 billion has nothing to do with you. There will be an increase of RMB 120 billion to 180 billion in channels, and an increase of RMB 300 billion in retail. If you want to take margin, you must play the part in the industry. We must do better than ordinary local wholesalers. In terms of logistics, we must be quicker and sharper to propose a convenient, a faster and more guaranteed service concept. In terms of products, ordinary B2B may find a way to sell the product to you. We think about how to form a product line, and help customers screen products in advance to figure out which are the good products that can help them make money. When the customer chooses, we can guide him or her to choose a product that is more suitable for him or her, and through digital means or CRM, help them analyze whether a certain product is overstocked, etc. We give our customers better service and make them feel that we are not just a company that sells goods, but a big backing that can help them do business better.

XiaoYaoYao’s Li Meng: Our mission is to become the backbone infrastructure of the pharmaceutical industry, to become the industry’s water and electricity. There are no further advanced infrastructure operational companies in the industry. Taking medicines as an example, there is a large first-level wholesaler, which only provides services of handling and financing, which is very preliminary. But whether upstream or downstream, there are many other demand points. 2B customers are different from 2C customers. Purchasing is to serve consumers. Pharmacy owners rely on our network to support their families. They need funds, they need to be trained, they need training, they need to know how to attract sales and expand. These are the true elements of 2B empowerment.

Manufacturers also need to be empowered. Many single products sell over one billion units a year. The pharmaceutical companies do not know the situation of the goods once they are in the channel, and they do not know who they are ultimately sold to. We will run ahead of them, and after the technology, infrastructure, and empowerment elements are developed, the volume will subsequently rise. The industry has left us with many opportunities to do a good job in infrastructure, to help solve problems upstream and downstream, and to empower in multi-dimensional ways. Why are some small wholesales doing well? It is because there are no rivals in the area, and they solve most of their users’ pain points, but this is a relatively inefficient offline personal service.

What we need to do is to standardize the process, and replicate standardized and quality service through time and space with technology, and empower. This is the most important thing for S2B.

Zhangshou Kuaixiao’s Zheng Yubin: I very much agree with Ms. Li’s point of view. Many industries are now primitive. Fast-moving products are naturally consumed by consumers, and the final model of the industry must be B2B2C. In the past, 30% of the cost of the top hair care brand was spent on the channel, and 25% of the cost was spent on consumer marketing. Regardless of channels or marketing, the ultimate goal is to spend money on consumers. If you can open up the brand-to-consumer highway, you will find that the efficiency of the entire industry will greatly improve.

Source Code Capital’s Lu Yuemei: To wrap, let us summarize. S2B is already a preliminary platform and ecosystem concept. Our panelists just discussed how to empower and what areas to empower, including IT, finance, logistics, commodities, products, external traffic, new traffic, and other aspects. We further discussed standardizing and replicating enabling services, and finally forming an ecosystem. We are the core of this system, which is more efficient than the traditional industrial chain of the past. Just as water flows from high places to low plains, the industry will naturally evolve from an inefficient state to an efficient state. I believe that you can do it. Many thanks to these three CEOs and all the friends present.

Thank you all!