Why Costco's online-first approach in China is a smart strategy

Its virtual store allows it to test the waters without making a big investment and by riding the wave of the country's e-commerce boom

Neelima Mahajan

[Photograph by Dressformer under Creative Commons]

Costco Wholesale, the US retail giant, recently entered China. And no, it doesn't have a single store.

Instead of investing heavily in brick-and-mortar stores, Costco has chosen to open a virtual storefront on Alibaba's business-to-consumer (B2C) e-commerce website Tmall, which can be best described as an online mall. And unlike in the US, you needn't be a Costco member to buy from its virtual store.

It's not hard to see why Costco has chosen the e-commerce route. China is the world’s second-largest e-commerce market and data from various research agencies predicts that it could soon become the world's largest e-commerce market.

To put things into perspective, let's take a look at how e-commerce has grown in China. In the year 2000, China had virtually nothing in the name of e-commerce. But according to KPMG’s research, in 2015 the total value of e-commerce transactions in China is estimated to touch $540 billion, or 10% of total retail transactions. Further on, "by 2020, China's e-commerce market is forecasted to be larger than those of the US, Britain, Japan, Germany, and France combined." Combine this with the stupendous growth of mobile internet and connectivity, and efforts made by e-commerce companies to expand into tier-three and tier-four cities, and you'll realize that we haven't even scratched the surface yet.

In a country where the internet has drastically reshaped consumer habits in everything from entertainment to socializing, an increasing number of consumers are getting more comfortable with shifting their shopping online. If a recent survey by GroupM is anything to go by, three-quarters of China’s digital buyers prefer to shop online as opposed to in traditional shops.

Already many offline stores are succumbing to the growing trend of 'showrooming', wherein shoppers come to the stores only to see what the product is like and then go home and buy it online. Some like Chinese electronics retailer Suning have shifted a lot of the action online after seeing offline sales fall. As the pace of life quickens in the big cities, even categories like grocery, traditionally the domain of the local supermarket or grocery store, are finding a strong customer base online.

And thus, Costco's China entry strategy makes complete sense. It allows Costco to ride the wave of China's e-commerce boom. At the same time, it also allows the company to test the waters in a country where several American retailers like Home Depot and Best Buy have burnt their fingers. Costco is able to shave off a lot of the costs that come with traditional retail models. After all, rents for commercial space in big cities like Beijing and Shanghai are shooting through the roof. Add to this, the cost of hiring sales staff and training. Without making a big-ticket investment in offline stores, Costco is mitigating a lot of the risk involved.

Without making a big-ticket investment in offline stores, Costco is mitigating a lot of the risk involved.

And of course, it helps to be on an established platform like Tmall which had a transaction volume of $77 billion in 2013. Tmall, which is the biggest online B2C marketplace in China, already has a steady base of customers and a growing stable of popular international brands like Nike, Reebok, Adidas, Gap, Converse, Nine West, Maybelline and Olay. Even high fashion brands like Burberry, L'Occitane and Estee Lauder are finding it imperative to be on Tmall. Costco indirectly benefits from customers who come to Tmall for the other brands and then 'discover' Costco, which is otherwise unknown in China.

Costco indirectly benefits from customers who come to Tmall for the other brands and then 'discover' Costco

Costco is also avoiding the missteps that some big box Western retailers made in China. In 2012, Home Depot shuttered all its big box stores in China, deciding instead to sell goods on JD.com, China's second-largest B2C e-commerce website. In 2011, electronics retailer Best Buy closed all nine of its Best Buy-branded stores and decided instead to focus on Five Star, a domestic Chinese chain it had acquired. And in December 2014 Best Buy finally sold its Chinese business, 184 stores in all, effectively retreating from the market.

Even brands that rely heavily on brick-and-mortar stores are finding value in China's growing e-commerce sector. Fashion brands like Zara, Uniqlo and Gap operate offline retail stores throughout China but have also built a significant presence online either through their own online sites or a store on a site like Tmall, or even both. Tesla, the iconic electric car company, chose to sell the Model S on Tmall on November 11, 2014, or Singles Day, China's annual online shopping festival. It is rumoured, though, that the move didn't go down very well with CEO Elon Musk. Other car companies like BMW and Buick have Tmall stores. Even competition—Amazon China—thought it wise to set up a virtual storefront on Tmall recently to sell things like clothing and home appliances.

Meanwhile, for Costco the bet seems to have paid off for now: within a few days of opening its online store in October 2014, the company claims to have sold over three tonnes of nuts and one tonne of dried cranberries to Chinese consumers! Furthermore, on Singles Day, Costco ratcheted up sales of a whopping $3.5 million in just 24 hours, leaving the company's management shocked.

An online-first approach is a low-risk and high-return strategy, and if for some reason you fail, you don't lose much

While it is too early to say how Costco’s China story will pan out, one thing is clear. For global brands looking to launch in China, an online-first approach may be a good idea. It is a low-risk and high-return strategy, and if for some reason you fail, you don't lose much. And if offline stores are imperative to the kind of business the brand operates in and it needs to provide the 'brand experience' in a physical location, then it must come in with a very strong online-to-offline (O2O) strategy, linking the online business to the offline stores.

[This article appeared concurrently in Mint]

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About the author

Neelima Mahajan
Neelima Mahajan

Senior Journalist

Beijing

When I landed in Beijing in 2012, I gave myself six months to either survive China or let it overwhelm me. I hadn’t been here before, yet I jumped at the opportunity to head the management publication of a leading Chinese business school with decidedly global ambitions. I was, after all, intrigued by the question: "What makes Chinese companies tick?"

Settling in wasn't easy with challenges ranging from language and food to biting cold winters and Beijing's infamous smog.

Before I knew it, the six months had become three years. While my decade-long experience in India, with publications like Businessworld, The Times of India and Forbes India, familiarized me with how Indian companies behave and view opportunity, my China stint gave me a completely different worldview. If anything, these three years here have challenged my preconceived notions about the Middle Kingdom.

For instance, the popular perception outside of China is that the state is dominant in the business sector here. I found, much to my surprise, that it is not true. If anything, China’s growth miracle owes its success to private enterprises. And Chinese entrepreneurs go through the same trials and travails as their counterparts elsewhere. So what makes them so successful? How is it that Alibaba’s Jack Ma has built a $251 billion enterprise in just 15 years? How did Pony Ma at Tencent lead his company to such a mammoth scale? I can’t say with certainty that I have fully cracked that question yet, but in my observations so far, a couple of things stand out: thinking big, relentless drive, tenacity , a difference in the way they view and crack opportunities, and loads and loads of spunk.

The other popular notion about China is that Chinese companies are simply clones of their Western counterparts. Once again, it is not entirely true. I have visited both the Google headquarters in Silicon Valley and Baidu’s headquarters in Beijing, and I can say with certainty that Baidu is not a copy of Google.

A third notion that I have seen crumble before my eyes is that China is all about cheap, low-quality products. While I don’t deny that there are cheap, fake products proliferating the market, I would urge you to look at the other side: Chinese companies that are leading the game in innovation. Walk into the innovation center of a Lenovo or a Haier, and you’ll know what I am talking about.

I have an avid interest in multinational company strategy as well as the so-called 'emerging giants'. It is fascinating to see how MNCs are navigating their way around this hard-to-ignore country and also how homegrown giants like Lenovo, Huawei, Alibaba, Baidu and Haier are approaching global markets.

I also have a keen interest in management thought. I have interviewed thought leaders like C.K. Prahalad, Michael Porter, Philip Kotler, Clayton Christensen, Henry Mintzberg, Henry Chesbrough, Marshall Goldsmith and Gary Hamel, and Nobel Prize winners John Nash and Amartya Sen.

Before coming to China, I was an International Visiting Scholar at the University of California Berkeley. There, I explored how publications need to evolve with changes in technology and reader habits, and business journalism in Silicon Valley. I was awarded a Bill and Melinda Gates Foundation fellowship as part of the Africa Reporting Project to write about coffee and climate change in Uganda, Africa.

In 2010, I received the Polestar Award for Excellence in IT and Business Journalism. I have researched and edited two books: Leading with Conviction (Jossey-Bass) by Shalom Saada Saar and Michael Hargrove, and Culture of the Sepulchre (Penguin India) by Madanjeet Singh. The second book is closely linked to my family’s personal history in East Africa.

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