the store case writtern by marshall fisher

8/4/2019 The Store Case Writtern by Marshall Fisher

1/13

1

Yihaodian - The No. 1 Store

On July 11, 2009, the Chinese Internet retailer Yihaodian celebrated its firstbirthday. It had been exactly one year since the July 11, 2008 date when their websitefirst went live and they began to fulfill customer orders from their Shanghaidistribution center (DC).

And what a celebration it was! Yihaodian cofounders Gang Yu (Chairman) andJunling Liu (CEO) were interviewed on Boss Town, one of China s most popular TVprograms and the impact so dramatic that Yihaodian's servers actually crashed duringthe program due to suddenly multiplied traffic. When they reached the end of July,they found that sales in July had doubled from June.

Now the celebrating was over and it was time to get back to business and toresolving three important issues facing Yihaodian: 1) formulating the right strategyfor expanding geographically beyond their current Shanghai base 2) whether tocontinue to use outsourced package carriers or to create their own delivery fleet thatwould allow them to make deliveries directly to a customers home and 3) whethertheir product assortment should be broad or narrow and focused.

Gang Yu and Junling Liu

After receiving his doctorate from Wharton Schools Decision Sciences

Department (renamed in 2002 to be the Operations and Information ManagementDepartment) in 1990, Gang Yu joined the faculty of University of Texas at Austin.He taught for fifteen years at the McCombs School of Business there and rose throughthe ranks from Assistant Professor to eventually become a Chaired Professor. As anacademic researcher, he published over 80 journal articles, four books, issued threepatents, and won the prestigious Franz Edelman Management Science AchievementAward in 2002.

During his tenure at the University of Texas, he founded CALEBTechnologies Corp. and served as Chairman/CEO. CALEB developed a complexsoftware system that would allow an airline to recover from disruption caused by

delayed flights. This system supported decisions on revising crew schedules,cancelling flights and rescheduling other flight and was adopted by almost all themajor airlines in the US including American Airlines, Delta Air Lines, Continental,Northwest, Southwest, AirTran, and JetBlue. Accenture acquired CALEB in 2002.

Gang then spent a sabbatical year during 2002-2003 in China teachingexecutive MBAs at Tsinghua University, Peking University, Shanghai JiaotongUniversity, CEIBS, HKUST. In 2004 he was recruited by Amazon to be VicePresident of Worldwide Supply Chain in charge of procurement, distribution,inventory, and distribution center capacity. His team built the next generation

Professor Marshall Fisher of the Wharton School prepared this case. 3 November 2010


2/13

2

Amazon supply chain system, significantly lowering inventory while improvingservice levels. He also participated in the acquisition of the Joyo, a Chinese Internetretailer that became Amazon.cn. His role was mainly to evaluate and recommendreorganization of Joyos top management.

Gang was recruited by Dell in 2006 to serve as its VP of WorldwideProcurement responsible for its $18 Billion annual procurement spend in Asia as wellas inbound logistics from OEM/ODMs to Dells factories.

Junling Liu was born and raised in China, but lived and worked in Australia,Singapore, Hong Kong, and the United States, including earning a Masters degree inInternational Business from Flinders University in Australia.

Junling had extensive experience in the Information Technology andTelecommunications industries, including serving as Managing Director of AvayaChina and then President of Dell China, where he had responsibility for Dells over $2

billion annual sales in China and Hong Kong. Numerous awards including beingnamed one of Chinas Top 10 IT Figures in 2005 and Computer World s Top 10Figures in 2006 had recognized his career accomplishments.

A lunch meeting leads to a new direction

As colleagues at Dell, Gang and Junling had monthly lunch meetings toupdate each other on business status. In late February 2007, Junling invited Gang to

have lunch at a Hubei (Gangs hometown) restaurant. During lunch, Junling broughtup the idea of entrepreneurship. Gangs past entrepreneurship experience brought himcherished memories and the prospect of partnering with Junling intrigued him. Theybelieved that they could do big things if they worked together. They explored variousideas, including creating a pad-like low-cost computer that can access Internet butwith very limited local functions and creating a platform to sell home improvementproducts. Finally, they focused on the e-commerce space. They were struck thatrelative to other countries, Internet use in China was current low relative to othercountries (Exhibit 1), but had been growing quickly and was projected to grow evenmore quickly in the future (Exhibits 2 and 3).

This represented a great potential for e-commerce, especially B2C. In theC2C space, there was already Taobao with an over 85% market share and in the B2B

space, Alibaba dominated. But B2C was on the rise with many players, but no onedominated the market. Also, the obstacles that had been blocking growth of e-commerce in China, including payment and logistics, were diminishing. Credit cardswere already a popular means of payment. Rapid highway constructions and theimproved last-mile delivery in the big cities make logistics a lesser issue. Gang alsoremembered the acquisition of Joyo and believed that a B2C e-commerce venturewould have a great chance to succeed. Finally, supply chain management is arguablythe most critical factor for the success of B2C e-commerce and Gangs 20 years ofexperience in this field and his Amazons experience would certainly enable them tostart with a high standard.


3/13

3

Creating a business plan

Before they made the decision to quit Dell and launch the business, theyassembled a small team to conduct market research and the two started to draft abusiness plan. They rented a 100 square foot office with a single shared table. They

sat face to face for four months writing a business plan, with numerous rounds ofdebates on the business model, corporate culture, core values, and financing.

One question they faced is what products to offer. Should they have a narrow,vertical product line or a broad, comprehensive one that would enable one-stop-shopping for customers? And in either case, were fast-moving consumer goods(FMCG) good products with which to start?

To answer these questions they conducted market research and analyzedexisting top Chinese e-commerce companies. They also visited many stores, includingsupermarkets, department stores, and flea market for home improvement materials.

They found that many e-commerce companies started with a narrow, verticalproduct line. For example, Joyo and Dangdang both started with books and Redbabystarted with mother/baby products. But after a few years, all of these companies faceda barrier when they attempted to expand the categories of products they offered. Theyall launched a tremendous marketing effort over a lengthy period in an attempt tochange their customers' perception that they only offered products in their originalcategories. And despite the high cost, these efforts were not always successful. Forexample, Redbaby (www.redbaby.com.cn) was still regarded as a website that onlysold mother/baby products despite having expanded its offering to eight differentproduct categories.

Certainly, the simplicity and other benefits of starting with a single productcategory were appealing. However, category and selection expansion is inevitable fore-commerce companies due to the advantages of e-commerce -- unlimited shelf spaceand easy scalability. Thus they decided to choose a tough road -- a broad range ofcategories from the very beginning. They called themselves an online supermarketand centered their product categories around the concept of 'The Home.' One appealof The Home concept is its expandability; it can be as broad as what's offered from ahypermarket or as small as that from a convenience store, so it removed the categoryexpansion bottleneck they would have otherwise faced.

However, starting with a large selection spanning many different productcategories (food/drinks, cosmetics, kitchenware, mother/baby, home appliances) hadits challenges, especially from supply chain point of view. Major difficulties camefrom sourcing, supplier management, inventory control, product quality management,and front-end/back-end systems. However, overcoming these difficulties would createa barrier to potential competitors entering, thus affording a first-mover advantage.

Including the FMCG category from the start had important advantages - largetraffic and high customer stickiness. Because FMCG products meet customers' dailyrepeated needs, they need to visit the site frequently, thus. Thus, enabling The Store to

quickly build a loyal customer base.
http://www.redbaby.com.cn/http://www.redbaby.com.cn/


4/13

4

Consumers demand one-stop shopping for FMCG products, and have highquality requirements, so customer trust is an important factor. C2C e-commercebusiness models such as Taobao do not fulfill these two requirements and thus dopoorly on FMCG, leaving room for B2C to dominate this space. For example, theaverage basket size for Yihaodian customers turned out to be 16.7 items, while that

for Taobao was less than 3. This implies that a customer needs to buy from 5-6 sellerson Taobao to get all the items he/she can get from Yihaodian in one purchase.

Yihaodian is born

The founders considered over 200 candidate names before choosing Yihaodian.The name translates to English as The No. 1 Store or simply The Store, and is thusreflective of the ambition Gang and Junling had for their new company.

When the complete business plan was finalized, the founders were extremelyexcited with the market potential and their business model. The two families got

together to celebrate. They resigned from Dell to officially launch the business.

The business plan was over 40 pages long and included a checklist of 36 itemsto be implemented for their front-end/back-end systems. When they examined thischecklist they were pleased to discover that over 95% of these items had beenaccomplished.

However, while The Store existing as a business entity, there was much workto be done before the website would go live and they would begin delivering orders.They needed to raise capital, find a distribution center to serve their initial Shanghaimarket and build the software system that would control all of their operations,

including order taking, scheduling deliveries and managing inventory.

Raising capital

Junling and Gang invested the initial seed capital, which was used was to hirean initial IT team to build the website and backend systems. They needed morecapital to lease a distribution center in Shanghai and to build a product team that tomanage the various product lines they planned to carry. When they presented theirideas to venture capitalists, the response was cool; no VC in China was willing toinvest in a company that had only an unproven concept. Many VCs claimed that themost important factor for making their investment decision was the founding team,but they informed Junling and Gang that their track record as professional managersshowed they were capable of growing an existing business but would have a highchance of failing when building a company from scratch. Gang pointed out his priorsuccessful entrepreneurship experience in the US, but the response was that businessin China is completely different from that in the US.

Having failed to obtain VC funding, Junling and Gang sought angel investors.Thanks to the Executive MBA teaching experience Gang had had in 2002-2003, hequickly identified a few potential investors who might be interested in helping them.They contacted three of them and gave one-hour pitch to each. Due to the prior trust

that had been created, the investment decisions were quickly made and money waswired to the companys account within a month.


5/13

5

Establishing the first site in Shanghai

They then searched for the site of their first distribution center, which wouldserve the Shanghai market. Since rental rates are high in Shanghai, they sought sites

on the outskirts of Shanghai, but within a one-hour drive from the center of Shanghaito allow the potential for same-day delivery. They made a table for comparisonpurposes with rows as the potential sites and columns as rental unit price,expandability, property quality, travel-time to Shanghai, labor availability, and otherfactors. After several rounds of negotiations and internal discussions they chose onethat met their then current and future needs. However, after they signed the contractand started to prepare to move in, the owner withdrew from his commitment,apparently because he had received a better quote from another renter. Junling andGang eventually found a Shanghai distribution center location, and along the waythey learned a valuable lesson. They decided in the future to work only with morereputable international logistics companies such as Prologis and ARMB.

Building the software support system

The first employee Junling and Gang hired was The Stores Chief TechnologyOfficer Jason. Jason had previously been the CTO of 51job.com, a Nasdaq listedonline HR company. Jason was quite excited with The Store concept, but his wife wascool about the prospect of his leaving amore secure job. So Junling and Gang got the

three families together for dinner to convince Jason s wife of the merits of theirventure. Jason officially joined the company in late January, 2008. During the longChinese Spring Festival, Gang and Jason spent countless hours discussing systemspecifications and finalizing the front-end/back-end system functional requirements.

The function requirements specified the following properties for the system.

IntegrationAll modules would share the same data; results obtained from one module should becommunicated to all other modules and change behaviors of those modulesaccordingly. Different users have different access rights to different modules.

Real timeThe system would be event driven and fully transparent, allowing the status of all ofresources, customer orders, inventory, and payment flow to be monitored in real time.

AutomatedDecisions are as automated as possible. For example, procurement decisions areautomatically made; when inventory drops below a defined safety stock, a purchaseorder is automatically issued and sent to the supplier. When the order is filled by thesupplier, the system tracks the delivery time, receiving and shelving information, andprocesses payment.


6/13

6

OptimizedAll processes and resource usages should be optimized. For example, the WarehouseManagement System (WMS) optimizes where products are shelved in the distributioncenter and the route followed in picking orders, and the Transportation Management

System (TMS) the routes followed in delivering orders.

Advanced Customer Relationship Management (CRM)The CRM system records customer entry, search, and purchase behaviors. Datamining is then used to construct a customer behavior model, which is used in makingcustomized referrals.

Facing decisions in July 2009

With the Shanghai distribution center in place and their enterprise software

system completed, The Stores website went live on July 11, 2008 and they begandelivering customer orders. Initial traffic was low, but grew steadily as theydiscovered literally dozens of marketing tools for attracting customers.

The one-year anniversary celebration in July 2009 was a great success andfeatured an entire month of celebration with various promotional events, many of

which were sponsored by The Stores suppliers. The Store gave out 100 millionloyalty points to reward their supportive customers, offered deep discounts for their30 most popular brands and hosted events on popular Chinese websites like Tianyaand Sina. Renowned Chinese business tycoons sent their congratulations and these

were shown on The Stores website. And of course there was the server crashingappearance of Gang and Junling on Chinese television.

Now they needed to resolve three important issues. The first was how to expandgeographically. Of course there was the decision of which cities to expand to, but theyalso needed to decide whether to use a centralized or decentralized model inmanaging multiple distribution centers. In the decentralized model, each distributioncenter serving a major city market would maintain an independent sub-website andcontrol its own product selection, pricing, marketing, and inventory. In the centralizedmodel would have a common website and all decisions about product selection,pricing, marketing and inventory would be made centrally by The Store Corporation.

The second decision was whether to continue to use outsourced package carriersor to create their own delivery fleet that would allow them to make deliveries directlyto a customers home. Finally, the wondered whether their product assortment shouldbe broad or focused more narrowly on products where they had a competitiveadvantage.

Geographic expansion

The acceptance of The Store customers made Junling and Gang consider a morerapid geographical expansion than they had originally planned. As they considered in

which cities they should open additional distribution centers, they collected the dataon Internet usage shown in Exhibit 4. Candidate cities for an additional DC were


7/13

7

Beijing, Chengdu, Guangzhou Wuhan, and Xian. Exhibit 5 shows the location ofthese cities as well as Shanghai, the location of their current DC. Beijing andGuangzhou were strategically located cities with the largest population. Moreover,Beijing can easily cover another big city, Tianjin. Guangzhou can cover importantprovinces including Guangdong, Guangxi, and Fujian. Having been the test bed for

Deng Xiaoping's socialist capitalism, Guangdong also had the highest online purchasepopulation.

The decision of whether to use a centralized or decentralized model inmanaging multiple distribution centers was of great concern. Both business modelsexisted in the e-commerce industry; representative for the centralized model is Joyo,and that for the distributed model is Redbaby. Joyo almost entirely copied Amazon'sbusiness model and controlled all decisions from its headquarter. Joyo does not havelocal branch offices except distribution centers. Meanwhile, Redbaby had branchoffices in 12 different cities each of which makes its own decisions includingsourcing, marketing, inventory. Each business model has its own pros and cons as

illustrated by the following table.

Pros Cons

Centralized

model

- Organizational structure is simplewithout local branch offices exceptdistribution centers.

- Financial structure is simple withtaxes paid by the headquarters.

- Centralized sourcing is easier andwith more bargaining chips due tolarger volume. Better suppliermanagement.

- Lower overall inventory due to riskpooling effect.

- Difficult in addressinglocal needs.

- Worse availability.

- High inventory transfercost.

Decentralized

model

- Easier for local inventorymanagement

- Can address local customer needs

- More inventory

- High procurement and

operations cost

Should The Store have their own delivery fleet?

In the beginning, delivering products from their DC to customer homes was aconstant struggle for The Store. Unlike in the US where a few delivery companiessuch as UPS, Fedex, and DHL are household names, in China, the delivery business isvery fragmented with thousands of local delivery companies, many of which are

mom and pop operations. No delivery company could cover all of China and very

few had sophisticated TMS (transportation management systems).


8/13

8

When The Store started in Shanghai, they chose three delivery companies aspartners and distributed orders to them based on customer location, payment method(for example, only one company could use a POS system), and product type in theorders. They also used three other companies to deliver outside of Shanghai. Theyestablished Key Performance Indicators (KPIs) to measure the performance of these

delivery companies and conducted weekly meetings to review performance withthem. The delivery companies had never used systematic KPIs to gauge theirperformance and thus it took a few months for them to get used to this process.

The initial delivery performance was horrible with massive customercomplaints, late deliveries, missing orders, missing items, and damaged products. Forexample, the initial on-time delivery was only 90% and customer returns reached over3%. In an effort to improve performance, The Store sent their customer service staffto provide training to the delivery companies, and they shared with them theircustomers complaints. They also had numerous meetings with the owners/presidentsof the delivery companies. After over a half-year of effort, they started to see

significant improvement. For instance, on-time delivery reached 98% and customerreturned orders dropped to below 1%.

Although the performance of the delivery companies started to meetexpectations, scalability became a critical issue. Orders had increased by a factor of27 over the last year and the delivery companies were struggling to keep up with thisrapid growth. The Store could in part cope with this by adding more deliverycompanies, but this added to complexity.

They also realized that in e-commerce the last-mile delivery was the onlyhuman touch point with customers and thus could be important in enhancing thecustomer experience.

They were thus forced to consider whether the time had come to considercreating their own delivery fleet. While the investment and complexity of creating

their own UPS or Fed Ex was daunting, especially for a company barely a year old,they felt they needed to at least consider this option.

Should the product line be broad or focused on selections where The Store had a

have competitive advantage?

The diagrams in Exhibits 6 and 7 describe the Stores business model and orderfulfillment model. At the beginning, their assortment was influenced by the highlysuccessful Germany discount grocery retailer Aldi. Aldi had the narrowest assortment

in the grocery industry, comprised of just the bare essentials, yet Aldi was also oneof the most successful grocery retailers.

Thus at launch, The Store carried only 3000 SKUs versus a typical supermarket

which carried 20,000 25,000 SKUs. And of course hypermarkets had an evenbroader assortment, comprised of both food and non-food products like homeappliances and consumer electronics. Not surprisingly, the most common feedback

from customers was the lack of products they wanted to buy.


9/13

9

As they reflected on successful e-commerce retailers such as Amazon, theyrealized that the Aldi model might fit offline retailers where the physical size of thestore is a hard limitation. But the important characteristics of e-commerce are almostunlimited shelf space, 7x24 services and the ability to offer both physical and virtualproducts, such as services.

This left them wondering by how much they should expand their productassortment (for example, should they move outside of food and start selling productslike TVs and computers) and what process they should follow in adding and deletingSKUs from their assortment.


10/13

10

Exhibit 1 Percentage Internet use in selected countries

Source: 2009 APRIA comparation report

Exhibit 2 Projected B2C usage in China

Source: Zero2IPO research 2010.06


11/13

11

Exhibit 3 E-commerce in the U.S. and China: 2005-2008

Source: 2009 iResearch &JP Morgan

Exhibit 4 Percentage of population using the Internet for provinces with the

highest usage

Source: gongchang.com data research center


12/13

12

Exhibit 5 Potential locations for additional warehouses

Source: Google Maps


13/13

13

Exhibit 6 The Store business model

Exhibit 7 Inventory Management

the store case writtern by marshall fisher

Documents