As reported by Tim Burroughs, Holdenn Mann and Winnie Lu in AVCJ (found here):

From taxi journeys to pedicures, online-to-offline services are changing consumption channels in Asia’s emerging markets. Some leaders have emerged, but much of the sector is still up for grabs

When Indonesia-based motorcycle taxi firm Go-Jek wanted to recruit more riders, it moved from one recruitment center to a larger one and then a yet larger one. Eventually the company resorted to hiring out sports stadia as its army of riders – local people looking for additional income who connect with customers via a mobile app – ballooned from 300 to over 100,000.

Go-Jek, which takes its name from the ojek motorcycle taxis that are part of urban life in Indonesia, has been in existence for about three years. It was built on a call center model, although by the time NSI Ventures invested in the business in late 2014, the service was about to be re-launched with a location-based application.

“Timing is important because if you launch these things too early – before people have the right connectivity, the right phones – you need to be sufficiently confident that it can scale up,” says Shane Chesson, co-founder of NSI.

As the green-jacketed riders proliferated, the company grew in scope as well as scale. Go-Jek’s core services involved transporting people and packages on the back of a bike. They were soon joined by dedicated grocery and food delivery services.

The company has since branched out into online-to-offline (O2O) local services, whereby the app locates the cleaner, masseuse or beautician closest to the customer’s home and a Go-jek driver ferries them over. Go-Box, meanwhile, targets the same user base but involves transporting larger consignments by truck. Sequoia Capital invested in the business earlier this year as NSI re-upped.

Chesson claims Go-Jek is a rare example of an app-based ride-hailing platform getting traction in new verticals. That the company has been able to achieve this confirms the founders’ initial notion that Indonesia’s ojek resources were being underutilized – from standing on street corners waiting for rush hour, they have become multi-taskers and are better compensated as a result.

But it was also the right business model at the right time. While Go-Jek faces increased competition from the likes of GrabTaxi’s GrabBike, grocery delivery service Happy Fresh and the ubiquitous Food Panda platform, for now it is less intense than in other emerging markets. There is also a practical element: a motorbike is cheaper to run, easier to park, and quicker to mount and dismount than anything on four wheels. This efficiency is essential in traffic-laden cities like Jakarta.

China and beyond

Local nuance is the lifeblood of O2O in the sense that technology uses resources at a city or even community level to address imbalances between demand and supply in the services sector. But follow the wealth creation patterns in Asia’s leading emerging markets and – as has proved to be the case with e-commerce – the areas of activity in China are likely to be replicated in India and Southeast Asia, although there is no perfect imprint.

“These markets will follow China one way or another, but the question is how and when,” says John Lindors, managing partner at DST Global. “The enormous middle class and fixed broadband as well as the proliferation of smart phones have driven a lot of growth in China, but in Southeast Asia and India the middle classes are proportionally smaller and fixed broadband will never be built out to the same extent as in China. These markets will really be driven by smart phone usage.”

The sophistication of communications infrastructure, the nature of competition and local logistical challenges shaped the emergence of Go-Jek in Indonesia. However, if China is a rough blueprint for how O2O services will evolve in Asia, the future will be one of consolidation around three key verticals: transportation, food delivery and local services.

Over the last two years, capital has poured into these verticals, often supporting the subsidies required to get consumers and merchants interested, and build market share. The $3 billion round closed by ride-hailing app operator Didi Kuaidi in September, valuing the business at $16 billion, is said to be the largest ever fundraise by a private internet start-up. As of July, the company – created earlier in the year through the merger of two rivals -was processing three million taxi rides and three million private car rides per day through its platform. However, the arrival of Uber has since shaken up the market.

Companies in the food delivery and local services spaces do not yet command such high valuations but the likes of, Dianping, Meituan, 58 Daojia and Baidu Delivery have received plenty of capital from private investors. Indeed, Dianping and Meituan recently announced a merger and are believed to be working on a $3 billion round at a valuation of $17 billion.

Excitement about the potential of these two verticals is underpinned by the numbers. One investor justifies his decision to back Baidu Delivery as follows: the out-of-home dining market in China is worth RMB5 trillion while the penetration of takeout delivery is below 10% compared to 30% in developed markets; doubling the China figure could create a RMB1 trillion market. Speaking after KKR joined a consortium that invested $300 million in O2O local services platform 58 Daojia, Lane Zhao, a director at the firm, described a market worth $180 billion nationwide, again with relatively low penetration.

The business models that exist around these verticals share two particular characteristics. First, there must be an imbalance between demand and supply in traditional markets that is bridgeable using technology: a consumer demand that is not being met, workers who are underutilized, and an app-based platform that brings them together.

“As the middle class grows in China we are seeing big demand growth. But the home services market is also very fragmented – dominated by over one million small mom and pop shops or small agents that provide very low customer satisfaction and inconsistent service quality,” Zhao observes.

A platform like 58 Daojia is intended to consolidate and standardize: enabling consumers to pay a set fee and choose a quality service provider, either based on past experience or customer reviews. The cleaners, removal men, babysitters and beauticians benefit too: they manage their own time and pay the platform a 25% commission compared to the 60-70% taken by offline establishments that have higher fixed costs to cover.

The second common characteristic is high transaction frequency. Whether a platform is processing taxi rides, food delivery or manicure services, enough people have to be placing enough orders for the commissions to reach a reasonable amount. Or, to put it another way, a platform must attract sufficient users to suggest it could be profitable in the future, and therefore justify the subsidies paid out to build market share today.

“Ride-hailing is a high-frequency transaction platform – you might make 2-3 rides a day – but it is a smaller addressable market than dining which has higher ticket price,” says Vincent Huang, founder of Juntong Capital, an investor in Dianping and Baidu Delivery. “Takeout delivery services, which is becoming increasingly important part of the dining market, could be used 2-3 times a day. Although the ticket size is smaller than for dining out, once you are delivering food to people’s homes you can deliver other products as well. Then average revenue per user goes up.”

Volume vs. value

This raises the question of how broadly an O2O player can leverage the consumers and service providers that use its platform., for example, claims to have 4,000 full-time couriers plus over 200,000 more on a part-time basis through arrangements with third-party providers. Their primary task is to transport food from 300,000 restaurants to the estimated 40 million consumers serves nationwide. But across how many product groups or verticals could they meet consumers’ demands? And what does this mean for the value of the company and the dynamics of the industry as a whole?

According to NSI’s Chesson, Go-Jek enters a new market with its core taxi service, gets riders and users comfortable with the service, and then gradually introduces new product offerings. The ease with which other players can do this depends on the amount of local competition – and by extension the roll-out costs – and the level of sophistication involved in providing a high-quality service.

Singapore-based online grocery marketplace RedMart is a case in point. The company wants to become a regional e-commerce and logistics platform by controlling its entire supply chain, from fulfillment to last-mile delivery. The challenge is scaling the business to meet consumer demand in an operationally complex category.

“It took Amazon seven years to figure out online grocery out and expand beyond Seattle. Now they’ve cracked it they are going into many other markets pretty rapidly,” says Roger Egan, co-founder and CEO of RedMart. “But it takes a while to build out the expertise and capabilities. We’ve spent the last four years doing that so we have a bit of a head start.”

India has also seen a proliferation of technology-enabled delivery services, with the likes of BigBasket, Grofers and Delhivery working their way through rounds of institutional funding. However, there is little sign of these or smaller players in the space looking to extend their reach into other segments.

Gourav Bhattacharya, a vice president with Matrix Partners India, explains this is because the only vertical in which local companies have achieved scale is ride-hailing apps, where Ola is engaged in a fierce battle with Uber. No clear winner or even a sub-set of market leaders has emerged in the grocery segment, with penetration still only extending to a relatively small number of neighborhoods.

“They have enough to do without going into new categories,” Bhattacharya adds. “Where we have seen integration it hasn’t been horizontal, but vertical – food delivery guys are getting into discount coupons for restaurants.”

In China, meanwhile, even among the established players, there is a pressing need to create sustainable business models. Horizontal expansion can contribute to these efforts, but at the same time they may add to the confusion, making it harder to identify potential winners. DST prefers to invest in market leaders where there are barriers to entry or clear competitive advantages. Didi Kuaidi and Ola are both in the firm’s portfolio but it has so far resisted food delivery and local services.

“The market leaders are definitely emerging, but it will take time for things to shake out,” says Lindfors. “The Dianping-Meituan merger creates a very strong player in two key areas where they have significant complementarity – restaurants and the long tail of different services in China.”

The problem is the sheer length of this tail. Dianping has expanded its restaurant listings and group-buying business to encompass other leisure-related areas, including a few forays into O2O local services. Meituan started in group-buying and now also covers hotel booking, where it faces incumbents Ctrip and Qunar (which recently announced a merger); movie ticket booking; and food delivery, competing with, Baidu Delivery and others.

Indeed, the prospects for food delivery are uncertain in a post-subsidies world. The current market leaders gained momentum by serving the student population, but this demographic is unlikely to remain loyal if there is a cheaper option in the market. While Baidu is a relative newcomer to the space, it brings a different target customer base and one of China’s best location-based mapping systems. Baidu Delivery could end up offering a differentiated service to customers that are more willing to pay for it.

A similar debate is taking place among O2O local services providers, although 58 Daojia is one of few that can claim significant scale. The market remains characterized by the presence of smaller players targeting particular niches that cannot hope to match larger rivals in terms of transaction frequency. It remains to be seen whether specialization, and the higher service quality this infers, is enough to sustain them on a stand-alone basis.

“With low frequency business it is hard to survive in the long run on a stand-alone basis because there isn’t enough traffic to justify the marketing cost. If you burn money to attract customers in low frequency business, it is a recipe for disaster,” says Juntong’s Huang.

Helen Wong, a partner at Qiming Venture Partners, admits that her team looked at lower-frequency models but concluded that high-frequency remains the best entry point. Rather, lower frequency services can be plugged into an existing high-frequency model.

She offers Helijia as an example. The company started out as a platform dedicated to connecting consumers with manicurists, but has since broadened its scope of services and generates higher transaction velocity as a result. However, expansion is limited to the beauty and wellness segment, which Wong believes gives Helijia an edge over 58 Daojia. The latter’s strengths are its size and ability to standardize, whereas the former’s focus can deliver customers a more personalized service.

This view is echoed by Choon Chong Tay, managing director at Vertex Ventures China, with the added caveat that achieving substantial scale shouldn’t necessarily be the goal. In Ayibang and QingSong, Vertex has two portfolio companies that focus solely on maid services and household repairs, respectively. The emphasis is on winning consumers’ trust and establishing a reputable brand.

“In the long term companies have to develop loyal customer bases so they aren’t just competing on price,” Tay says. “There has to be a depth of knowledge and technicians who are skilled professionals, so it is hard for firms running large platforms to do it themselves. You need this kind of barrier to entry; it’s not just about getting a lot of users on board.”

Impending shakeout

A number of industry participants have difficulty reconciling this strategy with their general expectation that O2O local services will consolidate around a handful of platforms, much like the other verticals. This tension between scale and sustainability will likely last as long as investors are willing to continue pumping in money – and, in the case of India and Southeast Asia, to what extent the hunger for exposure to ride-hailing apps spreads into other verticals.

While Aashish Bhinde, executive director with Avendus Capital in India, believes there would be ample demand for professional O2O services providers in the laundry segment, he appreciates that building out supply where there currently is none would be a challenge. For the market to take off, companies would have to achieve a reasonable scale so capacity is fully utilized.

However, under the market dynamics present in the country’s ride-hailing space, sustainability has more to do with the level of competition than fundamental economics of the business. “At some point in time, either one company will emerge as a clear winner and become profitable or a couple of companies may co-exist and as their business scales they will stop offering incentives and subsidies,” Bhinde says.

The more time that passes before this shakeout occurs, the greater the risk to which investors are exposed, particularly if they are continuing to support companies at ever higher valuations. It is difficult to tell how soon this day of reckoning might arrive in China, India or Southeast Asia, and so investors must rely on their confidence in management teams and the belief in the underlying fundamentals.

“We are conscious of the fact that different markets have different dynamics and you have to look beyond the hype of hyper-local services and consider the economics of the model,” says NSI’s Chesson. “If you can show that demand stays strong even as subsidies are being reduced; if you are able to deliver value to vendors who are prepared to pay a percentage of gross merchandise volume; then you are creating a lot of value.”

CASE STUDY: Southeast Asia – aCommerce

The still-developing world of online retail provides many niches where a company can start to grow. For Thailand’s aCommerce, the opportunity lay in the realization that many brands are eager to sell their products online, but lack the interest or the resources to set up an online portal themselves.

“Normally for a brand, your main focus is to manufacture or develop great products. And everything that is normally non-core, you actually outsource to other providers,” says Peter Kopitz, group COO of aCommerce. “Even overseas, the majority of the top brands actually outsource their own e-commerce, and they outsource it to similar providers to us.”

Since launching in 2013 with backing from Ardent Labs, aCommerce has set itself up as a provider of e-commerce expertise in Southeast Asia for international as well as domestic brands. The company offers end-to-end service, from setting up an online front-end to warehousing and last-mile delivery, in Thailand, Indonesia, the Philippines and Singapore.

ACommerce also engages with dedicated online retail providers such as Lazada and Tarad, which are capable of handling most of the front and back end themselves, but may find it more convenient to outsource certain functions. Last-mile delivery, which aCommerce provides for Lazada, is a common case, since the company has connections with most of the major third-party logistics providers in the areas where it operates.

Kopitz describes the ability to separate out its services for clients as an asset to help the company scale its operations. “That’s why we have a huge tech team that develops all our internal systems, the WMS [warehouse management system], the fleet management, all that kind of stuff,” he says. “We’re leveraging all the technology that we basically build in house and that makes it extremely scalable.”

This focus on backend support means that aCommerce is not a highly visible component of the online retail ecosystem, but this is also seen as a positive. A company that acts as an ally to the brands and the retailers can not only save the money that it might otherwise have to spend on advertising, but can also maintain a strong network with connections to both sides.

Now aCommerce hopes to use the tools and connections it has built up in the e-commerce space to build its presence in local services. When messaging app Line held a promotion providing online deals for grocery products, it turned to aCommerce for same-day and next-day delivery. The company saw this as a chance to sharpen its logistics skills.

ACommerce is also experimenting with kiosks in Bangkok’s mass transit system. These kiosks, which are currently operating in six stations, serve a variety of purposes. Customers can choose to pick up online orders there instead of waiting for home delivery, and merchants can drop off orders for aCommerce to handle the last-mile delivery. The strategy makes the company more visible, but still serves its primary goal of providing support.

“We see ourselves more as the arms dealer in a war,” says Kopitz. “We’re equipping brands and e-commerce players with all the tools and resources they need to be in this war, without actually fighting at the front.”

CASE STUDY: India – Grofers

India’s grocery delivery space has attracted a significant amount of investor interest, and Grofers is one of the biggest successes so far, receiving $45 million across two funding rounds this year. Now, having made its name in the food space, the company believes it can convince customers to turn to it for more.

Grofers began with pickup and delivery of commonly purchased items from local stores, or kiranas,at which India’s middle class traditionally buys food, flowers, and baked goods. Partner merchants list items on Grofers’ mobile app, and when customers place orders, drivers collect the items and take them to their homes.

The team has steadily added more product categories, such as electronic accessories and books; the challenge was educating consumers that the option was there. “Millions of people shop online, but what they’re buying is mostly electronics and fashion,” says Kshitji Torka, Grofers’ vice president of marketing. “Most of them are not aware of the other categories that we provide, and have no concept of hyper-local delivery.”

The company is working to address the awareness gap with its most recent advertising campaign, organized around the theme “We get it.” This slogan works on two levels: Grofers can deliver the goods that consumers want; and it understands the pressures that its young, career-oriented, tech-savvy target customers face, and wants to make their lives easier.

A more ambitious promotion saw Grofers partner with electronics retailer Reliance Digital and positioning itself as the only source for home delivery of the iPhone 6S on launch day. The company’s delivery teams picked up phones from stores at midnight distributed them to all the customers who had registered in advance, days before they would have arrived through regular e-commerce channels.

“It was effective in three ways. Number one is just the fact that Grofers, which has been around for such a short time, could do something like this, where even the largest e-commerce players were not delivering at that time,” says Torka. “Second, by doing this we built up awareness of the fact that we deliver electronics now. And the third thing was penetration, whether through social media, or through people going to their office to tell their colleagues.”

The publicity boost has helped build traction for hyper-local delivery in general, as well as for Grofers in particular. For example, more vendors are becoming aware that the internet can connect them with a younger customer base and ease their reliance on foot traffic.

Though the numbers are gratifying, Grofers is focused on maintaining a satisfactory customer experience. “Depth is equally if not more important than breadth right now for us,” says Torka. “We already have enough categories to cover 80% of consumers’ needs right now. What we need is to do that at a deep enough level that consumers know they can come to Grofers and find everything that they want within that space.”

CASE STUDY: China – Helijia

Rather than target a mass market vertical like takeout delivery, Chinese start-up Helijia found its own niche within O2O local services. Its mobile app was used exclusively by women wanting to book beauticians for at-home nail-polishing appointments.

In April, the company received $50 million in Series C funding led by Qiming Venture Partners at a valuation of $300 million. Existing investors IDG Capital Partners and China Broadband Capital also participated alongside new backers Maison Capital and GX Capital.

Helijia has since moved aggressively into additional beauty and lifestyle categories – its services now encompass eyelash extensions, facials, hairstyling and makeovers, to name but a few. The most recent initiative has seen personal trainers introduced to the platform as well as attractive professionals who offer to teach music and languages.

This change in strategy means the company can operate on a higher transaction frequency basis. There is more demand for services and therefore a greater opportunity to achieve scale. However, Helijia has been careful to stay within its domain of expertise. “Category expansion is possible when you have a loyal customer base,” says Helen Wong, a partner at Qiming. “Their user base is middle-class women. It’s quite easy to imagine what they might need on the beauty side.”

All service providers on the platform are small beauty enterprises or individual beauticians. Wong draws comparisons between Helijia and Alibaba Group’s C2C e-commerce platform Taobao in that service providers are not restricted by the fixed costs of running a store and their compensation rate is biddable, based on the level of demand. Helijia takes a flat rate commission.

For example, the company launched a promotional campaign on September 23, offering special beauty packages in every category. One premium nail polishing package sold for as much as RMB5,000 ($786) and Helijia generated approximately RMB19 million in total revenue for that one day alone. The company claims that its top manicurist earns upwards of RMB240,000 per month.

Helijia has seen numerous competitors emerge in the O2O services space. At the larger end of the scale is 58 Daojia, a broad-based services platform controlled by US-listed Chinese classifieds site However, Wong believes Helijia’s position is defensible – despite 58 Daojia’s wider marketing reach – because it has taken time to build its brand among female users.

Furthermore, 58 Daojia has adopted a B2C model that is based on standardization. Helijia is able to do more in terms of merchant engagement, for example providing training to the beauticians registered on its platform, which can in turn lead to a higher quality of service for customers. “At the end of the day, it’s about a service – whether people are satisfied with that you are offering and whether they will come back,” Wong adds. “You can charge higher fee for quality services.”