How China's Internet Economy Evolved - with Chinaccelerator MD William Bao Bean

The Harbinger recently spoke with William Bao Bean, a General Partner at SOSV and the Managing Director of Chinaccelerator, China’s first startup accelerator based in Shanghai. A prominent practitioner, innovator and thought leader on tech investing in Asia, William founded MOX, SOSV’s mobile-only accelerator, in partnership with GMobi, the largest mobile platform for Southeast Asia and India. William has spent the past two decades in Asia and China and has witnessed the emergence of countless tech trends, including the rise of the original Chinese tech giants. William has played a key role in many of these tech trends such as O2O, entertainment, the sharing economy, and social commerce. This interview discusses these major trends and William's investment experience with Chinaccelerator, focusing on foreign companies entering China as well as Chinese companies going abroad. We hope you enjoy reading!

Transcribed by Jules Qiu; Edited by Caroline Chen.

Link to SoundCloud (here), also available via Apple Podcasts, Google Play, etc.

[Editor's note: this interview has been edited and condensed for clarity]

Adam: Given that you’ve spent the last twenty years in China and Asia, why don't we start with some of your overall views on the major trends you’ve witnessed.

William: We can break down China’s internet development into three phases. The first phase was early companies – Sina, Sohu, NetEase, and to some extent, Baidu and Tencent. The CEOs and leadership teams of these companies are still, for the most part, leading these companies. These companies addressed very basic problems, such as search, commerce, games, and news.

The second phase was a second generation of entrepreneurs filling in the gaps. They solved problems like, if you have health insurance, what kind of services does that health insurance cover? If you need to travel somewhere, how do you travel and how do you book your travel? The second generation grew up in the shadow of the first generation. What happened was, for the most part, the first generation tried to kill these second-generation companies. Either crush them, buy them, or undermine them.

Now we have the third generation. Most of the companies are social because that's what VCs have been funding. But the third generation has learned from the lessons of the second generation in that they need to be differentiated; it's no longer enough to just be the first player in the market, the first or fastest to raise capital, because the big guys - Baidu to some extent, but mostly Tencent, Alibaba, and Xiaomi - these companies are dominating almost every single sector. And for the first time, you're seeing Chinese VCs investing in hardcore tech, and not just the startup with the first-mover advantage or the player with the most users, because differentiation is critical in hardcore tech and there is very strong competition from the BAT + Xiaomi.

Adam: You bring up the different phases of these types of companies, and to take this a step further, because of the different arenas that they compete in, frontier technology once again is critically important. But in the past five years in particular, there has been a rise in mobile O2O (online to offline), especially in entertainment – for example, live video in social commerce, which is something that Chinaccelerator was quite involved in. So when it comes to these hot areas, the so-called "Fengkou (风口)", can you talk a little bit more about, from Chinaccelerator's perspective and your own investing experience, the areas that you focus on and why?

William: I think entrepreneurs and to a great extent, the VCs that fund them, are a lot like sheep. They flock to the “hot” areas. Every year there is usually a hot area. Back in the day when we had video, video was a hot area, which later evolved into video streaming. But there are many video companies - Youku, Tudou, and other ones that are mostly all dead. iQiyi came in later. These video companies battled it out with the understanding that there would be only one or two winners.

With the phase two or the second generation companies, the ones that Baidu, Alibaba, and Tencent started to acquire, there were greater opportunities for VCs to invest because you didn't have to be the number one player, you could be the number two, three, or four because maybe only one company would IPO but the other two or three would be acquired by Baidu, Tencent, or Alibaba.

(Source: www.kapronasia.com)

Now the opportunity has largely passed because just about every single sector has strong players in it. You have heavy operations and light operations. An internet company is light operations. The opportunity has shifted from light operations to heavy operations, from online to offline, because this is an area that is tougher for the big players - Baidu, Tencent, Alibaba - to dominate because they have an internet background. It’s easy for them to do well online with their light operations background, but when you go offline - when you're dealing with delivery logistics, when you’re dealing with cars, for example - it's a different skill set.

What we've seen more of recently is that in order to get into heavy operations areas, the BATs have been developing their capabilities by taking large strategic stakes or outright acquiring leading Chinese startups.

And so, what's the next opportunity? A lot of the VCs are hot on AR/VR. They're also looking at artificial intelligence and machine learning. These are our technologies. They're awesome tools, but in the end a startup needs to solve a specific problem. At Chinaccelerator, we focus on solving problems. We leverage technology to solve those problems.

I will give an example. If you look at the two major areas where companies can use VR/AR to make money, they are entertainment and commerce. There's been a huge focus on VR/AR for entertainment, whereas Chinaccelerator's focus is commerce, and we're using AR and VR as a tool to solve a problem, which is selling stuff. People have been trying to sell stuff for the last two thousand years. And technology has made selling stuff a lot easier, a lot more effective. We started out with text in the old Mad Men days, the advertising days. And then we got pictures, first in black and white and then in color. More recently we got video and television. Now we are using VR and AR as a medium to tell stories in order to sell a product, and amazingly, we’ve proven that it works.

For example, we were sending gift boxes with the VR cardboard - something you can pop your phone into, put on your face, and get an admittedly not great, but an okay VR experience. It was a present, and usually when you receive a present you don't order more of what's in the box. But we've got a thirty-percent follow-on order rate, which means that people who didn't buy the box and didn't necessarily want the box but got it as a gift and didn't know how much the stuff cost - and these were not cheap products - would pop on the VR, experience the story behind the product, and then thirty-percent of them went and bought more than one of the products.

So we sort of calculated MVP (minimum viable product) from this test, and now that company is going to the next level in terms of using a technology to solve a problem.

Adam: Just to clarify, you're not saying that users buy things within the VR experience. Rather, they are more inclined to buy more product because they've had a great experience overall.

William: Say you have a box of biscuits, a box of crackers or cookies. And it's ¥100 a box of cookies - $14 for a box of cookies - that's a very expensive box of cookies. Now people in China are very concerned about where their food comes from, where the cookies come from. But I don't care about how worried you are about poison, $14 for a box of cookies is still a lot of money. One of the great things that you can do with a video or text or pictures is tell where the cookies come from. This is the family in Italy that started the bakery in the small city with local producers who make these cookies. But what you can do with VR is you can be inside the bakery, you can meet the cookie maker, you can go to the lavender fields where the bees collect the pollen to make the honey that flavors the cookies. So you can have a personal relationship with the brand, with the products, with the place where the product comes from, and that's very important to China and Chinese consumers. You can go inside a virtual world and buy a box of cookies, but the most important thing is not so much having a new medium in which to push a button and buy these cookies, but more so a new medium in which to get educated about that particular product.

Adam: I’m a bit curious because when we talk about commerce, it's very linked to payment methods. And everyone knows about WeChat these days or Alipay, we don't need to explain what that is. But given that in China you have this ability to buy stuff so easily on your phone, can you talk about how that might impact the overall commerce - the immersive commerce, the social commerce - space, and could you compare that to the U.S. for example, where you don't really have payments linked on everyone's mobile phones?

(Source: Financial Times)

William: In the U.S., companies like Facebook have lagged behind China for a year-and-a-half to two years now. And it's taken about a year-and-a-half for Facebook to develop many of the features that are currently coming out on [Facebook] Messenger and WhatsApp around payment and commerce.

So here's the difference: in China you can go on any social network and pretty much anything that you see you can click and buy, whereas on Facebook, on [Facebook] Messenger, on WhatsApp, on any of these platforms, they have a different business model, or actually, they do not have a business model. They are not making any money. So Facebook played the long game and now they are making lots of money. But it's all advertising based and if you think about basic economics, advertising drives behavior. And usually people want to drive purchasing behavior so advertising revenue is actually a subset of the actual commerce revenues. Advertising drives game revenue; advertising drives commerce revenue.

Facebook makes money on advertising while in Asia, social media platforms like WeChat and Weibo make money on commerce such that they get a cut of the actual purchase. So if you control the payment platform as well as the user, it's much more powerful than just controlling the advertising. You can potentially have an order of magnitude of greater revenue. So we will see an interesting battle played out in other countries like India, where Facebook and WhatsApp are strong and where Chinese players have backed local commerce companies and local payment companies. So it'll be the Indians backed by the Chinese against U.S. heavyweights like Facebook and Amazon. And that'll be interesting to see how things play out, especially in comparison to China, because the Chinese retail industry is under a huge amount of pressure since people don't carry wallets or buy offline anymore.

Adam: Given that Facebook is entering new markets like India, and with the other Chinese-backed providers which have payments attached to the virtual and social experiences, how do you think Facebook might localize their products or customize in those particular markets in terms of payments?

William: Facebook does not localize. They have an “one size fits all” strategy. Facebook in the U.S. is the same as Facebook in India. They can add features, and they are adding payment methods. But the bottom line is that a product designed for one market does not always work in another market. So far Facebook has been very successful in Southeast Asia and same with WhatsApp, but they are somewhat bounded by the fact that they do not localize. So what you'll see play out is global companies like Facebook and Google increasingly going up against local players backed by Chinese companies like Alibaba and Tencent.

I think it is like the next World War. It's not going to be fought with the tanks and bullets and guns, but between global companies. Instead of having 80 percent of the money made by 20 percent of the companies, it's 99 percent of the money being made by 1 percent of the company.

Adam: Thanks William. Let’s talk more about Chinaccelerator. For both Chinaccelerator and MOX, you have an emphasis on cross border entrepreneurship. Can you speak to that?

William: Sure. Most entrepreneurs are not lucky enough to be born in the U. S. or China. U.S. is the largest market; China is the second largest market. U.S. is the largest developed market and the largest digital market, whereas China is largest mobile first or mobile only market. They're both very competitive and have large home markets. However, there are awesome entrepreneurs making really cool stuff in other countries. Unfortunately, their home markets are not large enough to support a global minded business interesting enough to secure VC funding.

We believe that startups are about solving problems. As early stage startup investors, through SOSV and 7 accelerators, we are vertically focused to better solve problems for those startups. And the problem that we are solving is helping companies go global – maybe not from day 1 but to year 1. They get product market fit, users, revenue and people that love them in one country, and our role is to take them cross border.

So we help start up from all around the world enter China with Chinaccelerator, we help Chinese companies from early stage startups to Sequoia-backed companies with 30 million users in China to come out of China, and with MOX we are focused on Southeast Asia and India helping companies from around the world tap in these markets. This is where the future is. There are a billion users on mobile and the next billion users will be in these markets. We call this the last 4 billion. That's where we see the opportunity over the next 20 years: getting these users who don't make 10 or 15 thousand dollars a year. They're closer to the 5-to-8-thousand range. But the this is where the growth is. They have different needs and requirements than an American user or a Chinese user, and that's the focus for MOX.

(Source: chinaccelerator.com)

Adam: Right, thanks. So you mentioned cross border primarily in terms of abroad-to-China and China-to-abroad. They are both very large trends. So back in the day, a lot of the companies, especially tech giants, try to enter China. Obviously they’ve encountered many difficulties. Google was operating in China before being shut down, and a lot of social networks cannot enter China. Companies like Uber, Groupon, eBay did have some level of success but ultimately acquiesced to local competitors. So can you speak to experiences some of your early stage companies going from abroad entering China?

William: Sure. I mean just to be clear Google didn't get shut down; Google left. And how they're trying to come back it's a little hard. The reason why most international companies fail on China is not because of the government, but because of their poor execution. They tried to take a product that was built for another market and jam it down the throats of Chinese business and consumer users, which doesn't work. Another mistake was to try to remote control the China business from another market. They assumed that if they took a product to Europe or Southeast Asia successfully, they should be able to take it to China. Unfortunately, that doesn't prove out to be the case. China is a different market with different user requirements and infrastructure, and therefore requires a different approach. I think most of the companies learned the lesson. LinkedIn created what’s now the “LinkedIn model,” where there is a local company with local, on-the-ground command-and-control, a different shareholder set, and a different technology and product set. LinkedIn China does not share code with LinkedIn global. This is only moderately successful for LinkedIn because business social networks are perhaps not really appropriate for China. I invested into startups trying to solve the same problem before LinkedIn came to China. They both failed.

We take startups and even corporates – including companies that are already public – from around the world, and create a startup within the startup or the corporate. It has a very lean structure and doesn’t cost a lot of money. We come in with a small team, sometimes even just one person, and build a local team around them. They will try to get the product market fit for a product for China. In other words, we take the special sauce, the unfair advantage that this company might have internationally, and apply it to a specifically Chinese problem. The problem that 99% of the companies around the world are trying to solve is not necessarily a Chinese problem. But first you need to have a Chinese problem, and then an international solution that can be applied to it.

One sector we often focus on is education. Chinese consumers tend to believe that international education is somewhat superior than Chinese education, a prejudice we can play upon. We focus on FinTech (with the exception of P2P), which is bit behind global FinTech. Crypto is included, and global and China crypto are both pretty well developed. We also look at cross border commerce, where international brands might not be as trusting as a Chinese partner, so cross border companies with local roots but an international point of view can have an unfair advantage. We focus on the health industry, including food and nutrition, which has gained increasing attention. 90% of the water in China is polluted, so where's your food coming from? – we can play upon this. It's been it's been a fun, wild ride.

I think the last time we had a company with an app was a year and half ago. Operating in China is a bit different and we're helping international companies leverage local resources and local practices to build a business at the early stage. Once you get that foothold in there, then you know it's time to bring in top local and international VCs to help them get to the next level. The early stage – from 0 to 1 – that's where we come in.

Adam: So we’ve talked about going from abroad to China, and now let's also talk a little more about China going to other markets, because it's increasingly the case that Chinese companies are developing core abilities and innovative business models you don’t see in other countries. So can you talk a bit more about what's happening in that direction?

William: Sure. One thing that a lot of people in the U.S. and Western Europe don’t understand is that China has already gone abroad. The cat's already out of the bag, so to speak. For example, 6 of the top 10 highest grossing apps in Russia are Chinese. In India, either directly or through their investments, 3 to 4 of the top 10 of mobile players are Chinese. Similarly, in Brazil, 3 to 4 out of the top 10 are also Chinese.

A Chinese product might not necessarily solve an American problem. China is largest mobile first mobile only market in the world, so the user requirements and experience users expect are different. These companies are not necessarily going to the U.S. or Western Europe first, but have gone into the other mobile first mobile only markets, where the user requirement is a bit more similar to China. Also there's a lot less competition and the capital that the Chinese startups in the Chinese companies can bring to bear can be put to use. Most companies in China are used to using money as a weapon in terms of marketing. They've driven up mobile advertising prices so much in Eastern Europe and Southeast Asia that the local players can't compete. They cannot afford to buy users. There is an interesting state of affairs where international players dominate in Southeast Asia, South Asia, and increasingly in South America, and there is a knock-out-drag-down war going on in Eastern Europe and Russia right now.

Adam: Yeah, so that's for some of the developing markets or even some of the developed markets well. But for folks in the U.S., you know we don't hear too much about Chinese companies entering and selling their products there. For example, Xiaomi is doing very well in China and in India in particular as a global market, but hasn't quite entered the U. S. just yet. Huawei is trying to enter the U.S. and doing relatively well Europe. Can you tell us a bit more about some of these are more established Chinese technology companies, and how they might enter the US market eventually?

William: There is this saying that you conquer the countryside before you hit the city. I think just like Amazon, Facebook, and Google, which have the developed markets, the Chinese are already dominating the more developing markets of the mobile first mobile only markets, and at some point, they will start bumping into each other. It's going to be very interesting to watch. I think there will be a lot of carnage. The international companies like Amazon, Facebook, and Google are struggling in the emerging markets. Amazon is trying to reenter India right now.

On the other hand, companies like Tencent, Alibaba and Xiaomi have a difficult time in the U. S. markets because it would require a very significant change to the products, the business models, and the market approach. Consumers do not like to be sold at so much in the U.S. They're not willing to take massive discounts in order to give up all the data and spam all their friends. In India you can, and we've been pretty successful doing that in southeast Asian and India. The marketing techniques and products layout that works in China tends to work in Southeast Asia as well. In the U.S., you have to localize, which is not happening right now.

Who's going to do it first? Hardware, obviously. A drone is a drone is a drone. China is very strong in consumer apps, and some of the consumer apps are starting to creep into the U.S., but they're very good at disguising themselves. You don’t recognize that the apps on your phone are Chinese. It’s not just cool karaoke video apps like Musical.ly, but also a lot of the utilities such as Meitu. You will see a lot of those consumer apps come in, but you are not going to know that their Chinese.

Adam: We see this playing out in the real world with different nations mongering for geopolitical influence, but it's also playing on a technology world. It should be a very exciting couple of years in tech. And now let's see how things go. William, thanks so much for joining us and for your time!