Fortune Makers, a new book coauthored by Mack Institute Co-director Harbir Singh, analyzes and brings to light the distinctive practices of the business leaders driving China’s economy.
This book is available through the Wharton School Press bookstore.
Read an Exclusive Fortune Makers Excerpt
The strategies of successful companies have long served as templates for budding entrepreneurs in the United States. Executives of American organizations can study how Estée Lauder, General Electric, and Southwest Airlines built competitive ways forward. Chinese prototypes were, however, nonexistent when China began to open its economy in the 1980s.
Chinese executives, even those who built Fortune 500 equivalents, have had to navigate their own way forward by discovering which strategies work and how to benefit from experience rather than learning from the proven models of other firms in their markets. With so little guidance for building enterprises, business leaders in China, unlike their counterparts in the West, have learned by testing more than by emulating. Accordingly, Chinese business leaders have drawn on agility — that is, on the capacity to nimbly change their strategies for growth as they progressively learn how to achieve it. These entrepreneurs by necessity have looked to their own experience, adopting trial-and-error, experience-based learning in the face of political uncertainty and rapid change.
Company strategy is usually seen as a matter of setting the firm’s general direction and then identifying what best creates sustainable value and advantage. Underpinning strategy is a central idea and an enduring vision for the enterprise, providing both an overarching trajectory for the firm and an inspiration for thousands of employees to achieve it. That said, China’s rapidly evolving marketplace has rewarded firms that are able to adapt fluidly. While central ideas could thus remain relatively fixed, company strategies could hardly remain so.
The growth of Alibaba from tiny start-up to New York Stock Exchange darling depended on its strategic agility above all else.
In his classic work Strategy and Structure, business historian Alfred Chandler argued that US corporations in the first half of the twentieth century followed a practice of letting business strategy drive company structure. Chandler found that structural change in the firm’s organization and leadership would generally follow strategic change. However, his famous formulation for the United States has been put to a stress test in China, where rapid-fire changes in strategy have been essential for survival and growth, which in turn have often required fast and recurrent redirections of the strategies themselves.
The growth of Alibaba from tiny start-up to New York Stock Exchange darling depended on its strategic agility above all else. Chief executive Jack Ma repeatedly redirected Alibaba’s strategy in response to his fast-evolving market, and in doing so he successfully toppled the better established but less adaptable business of America’s eBay in China.
Much the same had occurred when a fleet-footed Didi Chuxing Technology Co., China’s leading ride-hailing service, defeated America’s Uber Technologies in China in 2016. Two years earlier, Uber chief executive Travis Kalanick had offered to buy Didi, but the latter declined, CEO Wei Cheng warning that “there will be a day when we will surpass you.” And indeed Didi did. After two years of fierce competition, Didi had attracted 42.1 million active users compared to Uber’s 10.1 million. Throwing in the towel, Uber CEO Kalanick opted to sell Uber China to Didi, taking a 20 percent stake in his Chinese nemesis, a company already valued at $35 billion.
Whether in China or the West, setting company strategy requires that company leaders focus on several questions. First, how are we positioned in our markets? Here the time-proven concepts associated with competitive strategy — including the influence of suppliers, the likelihood of new entrants, and the threat of substitutes — are of primary concern. Second, which of the company’s features, specifically those subject to a manager’s discretion, create superior value? Third, given those external and internal factors, what decisions by a manager can create additional advantage for the enterprise in the market? At the center of all three of these questions is the issue of how best to create and sustain a superior-value proposition — that combination of product features and costs which most appeals to customers.
Company leaders in China, without well-established and clear pathways, time and again have had to decide that their enterprise required a new direction.
Whatever the business strategy, the management principle of strategic fit calls for ensuring a close match between the leadership skill set of its top executives and the specific strategic challenges facing a company. A firm’s strategy thus defines the kind of leadership it requires, and by way of a well-honored practice in the United States, governing boards of firms facing financial challenges are more likely to move their chief financial officer into the corner office; boards of companies tackling marketing challenges are more prone to bring up an executive from sales; and directors of companies looking to enter international waters are more likely to promote a manager with global experience.
That causal arrow has, however, often been flipped in China. Company leaders, without well-established and clear pathways, time and again have had to decide that their enterprise required a new direction as they learned what worked, or did not work, based on their own evolving experience with the market.
Given the uncertain ways ahead in the Chinese market, devising and revising company strategy have proven of great importance for its private company executives. This was evident when we asked the executives to identify the three most important roles for them as chief executive or executive chair during the past five years, and also the areas where they devoted the greatest amount of time. More executives singled out the role of setting business strategy than any other role, and more identified setting strategy as the area of their greatest time commitment. Of special note is the fact that owner and investor relations received little attention, consistent with the scant consideration that business leaders give shareholders in China.
Agility at Alibaba
To appreciate the value of strategic agility, we followed Jack Ma, the founder and chief executive of Alibaba from its beginning in 1999 to its dominance of the Chinese online retail market. We witnessed how his repeated redirections of the firm led it to become one of the largest online retailers, auction sites, and payment portals in the world.
Jack Ma was born as Ma Yun in 1964 in Hangzhou, a provincial capital some 120 miles southwest of Shanghai. Though his parents were musicians, speaking English from an early age became more of a personal passion than mastering scores. Over a period of eight years, he rode his bike for forty minutes to a downtown hotel to engage foreigners in English conversation. In addition, he enrolled in a college to study English and taught English for five years. The new language opened his global horizons. “What I learned from my teachers and books was different from what the foreigners told us,” he said. “Those eight years really changed me. I started to become more globalized than most Chinese.”
When Ma visited the United States in 1995, the Internet’s commercial potential was just being discovered. Jeff Bezos had founded Amazon.com the year before, and Pierre Omidyar was creating eBay. A friend guided Ma online, but when Ma tested the Internet’s reach by searching his home country for a beer maker, any brewery, none popped up even though he knew that hundreds were on the ground. The Internet promised extraordinary access, he realized, yet it offered the barest visibility into one of the largest commercial markets in the world. “This is something interesting,” he said. “If we can take companies in China and make a home page for them, this could be something big.” Its potential was virtually untapped. “I felt like a blind man,” he recalled, “riding on the back of a tiger.”
“I felt like a blind man riding on the back of a tiger.”
Despite zero experience in webpage development, Ma returned to China and raised $20,000 to create a website for consumer access to small-business catalogs, analogous to an online Yellow Pages that he had spotted in the United States. He mainly attracted small regional companies that were starved for visibility, but he also drew the attention of Hangzhou Telecommunication, the local telecom that had started a competing service of its own. Facing a deep-pockets player, Ma opted to merge rather than to contest, but strategic differences emerged, and Ma exited with $800,000 in walk-away money. He joined the payroll of a company under the Ministry of Foreign Trade and Economic Cooperation, but there, too, a mismatch became apparent. “My boss wanted to use the Internet to control small businesses,” he said, “but I wanted to use the Internet to power small businesses. We had a totally different philosophy.”
With the Internet rapidly gaining traction in China, Ma invited seventeen friends in 1999 to his apartment in Hangzhou, to consider a web-based service beyond showcasing beer and catalogs. Brainstorming for days, he and his coterie converged on a platform for small merchants to promote their wares. Ma adopted the name of Alibaba to invoke Ali Baba’s fabled access to the hidden treasures of forty thieves. When he later asked a waitress in a San Francisco coffee shop, his focus group of one, what the name connoted to her, she responded with “Open Sesame!” — exactly the metaphor for what Ma was hoping his plan would achieve.
At first, Ma’s Alibaba.com mostly featured products of smaller enterprises, offering exporters a vehicle through which customers worldwide could order products directly. Though he started small, Ma’s vision for the enterprise was big. In meeting with some of his customers at the opening of a Shanghai office, he ambitiously declared, “We want Alibaba to be one of the top ten websites in the world. We want Alibaba to be a partner to all businesspeople. And we want to build a company that lasts 80 years!”
Ma’s aspirational goals seemed utterly unrealistic. With reserves of only $10 million, Alibaba was burning through cash at the rate of $2 million per month. But he experimented with a fee-based product enabling exporters to connect directly with Western buyers — in effect, making the world their market — and it clicked. By 2002, the company had become profitable and continued to expand as Ma and his lieutenants increasingly tailored their services to what they were hearing from their customers.7 Ma had started with the simple service of listing catalogs of medium-sized and smaller merchants, but soon added services to attract more traffic on his sites. In response to customer mistrust of arm’s-length purchases, he allowed them to inspect shipped goods prior to payment.
The eBay executives saw Taobao as a modest local player with neither the financial clout nor the professionalism to challenge a company that had already achieved so much success in the United States.
When eBay, by then not only an auction site but also a shopping venue, successfully entered the Chinese market three years later through a local partner, EachNet, Ma believed that its rapid growth posed a mortal threat to his still-small online business. In response, in 2003 he created Taobao (“search for treasure”) to link both individual and commercial buyers and sellers via the web — for free. Executives at eBay scoffed at the concept of a costless service. The company’s approach to China was to adapt but not fundamentally alter its US model, and it initially secured good traction by charging sellers a listing fee and then collecting a transaction fee when their items sold. The eBay executives saw Taobao as a modest local player with neither the financial clout nor the professionalism to challenge a company that had already achieved so much success in the United States.
Under Ma’s leadership, Taobao billed neither sellers nor buyers, opting instead to charge sellers for use of an advertising platform. Ma also concluded that the facilitation of web-based transactions constituted the kernel of his strategy, and he accordingly outsourced most else, including logistics, warehousing, inventory management, and even order fulfillment, making Alibaba an “asset-lite” enterprise and allowing executive attention to concentrate on customers. eBay’s executives had been less attentive to those customer demands, and Alibaba increasingly cut into eBay’s market share in the now burgeoning e-commerce market in China.
From his accumulating experience, Jack Ma came to believe that a critical stumbling block for Internet commerce in China was a deep distrust among buyers and sellers who did not know one another in a culture that still placed a premium on personal familiarity. He and his team sought innovative ways to narrow the trust gap, such as hosting e-mail communication between prospective buyers and sellers. But the biggest single strategic redirection was the creation in 2004 of Alipay, an escrow service to facilitate web-based transactions, allowing customers to inspect purchased goods with a money-back guarantee while protecting sellers against defaulting buyers. The model allowed sellers to confidently ship, assured of payment once the buyer had inspected the goods. Alipay proved such an attractive service that eBay suggested a merger.
Ma declined eBay’s offer and instead opened discussion with CEO Jerry Yang of America’s Yahoo. Ma was looking for an infusion of capital to scale up both Alibaba and Taobao, and in the summer of 2005 they met at a conference in Pebble Beach, California. By now, Yahoo had become a global giant though it was still stumbling badly in China. Working with a succession of local partners, including a search-engine player with the intriguing name of Beijing 3721, Yahoo had failed to make substantial inroads in China, and Yang was eager to find a better partner. Yang agreed to invest $1 billion in Alibaba in return for 40 percent of its stock and 35 percent of its voting shares. Alibaba would take over Yahoo China, gain capital for expansion, and acquire instant scale and credibility.
“eBay may be a shark in the ocean, but I am a crocodile in the Yangtze River. If we fight in the river, I win.”
The Yahoo investment allowed Taobao to open access on its site for free to all customers for three years, a direct threat to eBay’s fee-laden model. “We call on eBay,” said Ma provocatively, “to do what’s right for this phase of e-commerce development in China and make your services free for all buyers and sellers” — which eBay of course could not. “Free is not a business model,” an eBay spokesperson responded defensively. “It speaks volumes for the strength of eBay’s business in China that Taobao announced that it is unable to charge for its products for the next three years. We are very proud that eBay has created a sustainable business model in China.” But Taobao and Alibaba vaulted ahead, and it proved eBay’s denouement. After entering the market in 2002, eBay had reached 70 percent of China’s e-commerce market at its peak, but just four years later it was forced to shutter its operations, defeated by an agile competitor. “eBay may be a shark in the ocean,” said Ma, “but I am a crocodile in the Yangtze River,” and “if we fight in the river, I win.” Jack Ma learned that many customers were ready to pay more for extra bells and whistles, and it proved a gold mine. Alibaba began offering a subscription-based premium that allowed sellers to display more detailed product information and certification from an independent credit agency that confirmed the legal registration of the company and its financial condition.
By 2007, 70 percent of Alibaba’s revenues were coming from its premium services. Later, Ma created Taobao Mall — TMall.com — as a platform for branded retailers to sell their products on the web at no cost. In 2015, Alibaba invested $4.6 billion in electronic retailer Suning Commerce Group to gain access to Suning’s vast supply chain and its five thousand physical stores.
While Yahoo’s investment was a much-needed cash infusion for Alibaba, when Yahoo later faltered, it was Alibaba that returned the favor. By 2016, Alibaba’s success had raised the value of Yahoo’s holdings in the company to $28 billion, essentially equivalent to the entire market value of Yahoo itself.
Jack Ma changed Alibaba’s strategy repeatedly as technologies emerged and customers evolved, symptomatic of the nimbleness required by fast-growing Chinese markets. He responded to eBay’s Chinese entry with an online model based on different principles, bridging the distrust inherent between remotely connected buyers and sellers, and brought branded merchants into a web marketplace. In the face of customer challenges that could have destroyed Alibaba if he did not quickly respond, Ma recurrently revised what had been the company’s business model since its founding. In nimbly revising the firm’s value proposition, outmaneuvering proven successes like eBay, he led his company to annual growth rates of more than 45 percent in revenue and 75 percent in earnings. Alibaba’s extraordinary expansion proved compelling to Western investors, and the company raised $25 billion in its US initial public offering in 2014, exceeding Facebook’s $16 billion IPO two years earlier. By 2016, Alibaba employed over 46,000 people and realized income of more than ¥100 billion. Its market capitalization had soared to more than $250 billion in September 2016, placing it among the top ten companies worldwide and giving it a market value more than twice that of eBay and Yahoo combined.
China’s economic growth will slow down in the next couple of years…