Ordinary Chinese people have fully embraced internet services in their daily lives, to a much greater extent than many parts of the world – from regularly ordering meals or buying groceries online for home delivery, to doing a large portion of their shopping on the internet – all of which is made possible by the country’s logistics companies.

Arguably the backbone of the Chinese economy, logistics companies have long played a key role in facilitating the development of the internet economy, building out sprawling networks to cover the country’s vast geography, but e-commerce giants have also been up to the challenge; for years they have been building out their warehouses and distribution, creating concerns about the prospects of the “traditional” express delivery model.

These concerns, however, are unfounded in our view, as we expect traditional express delivery companies, i.e. those that collect parcels from merchants and deliver straight to customers, to still dominate the landscape, despite e-commerce giants with the “warehouse and delivery” model making inroads.

In addition, traditional express delivery companies are taking a page from e-commerce players and building up their own warehouse and delivery services. Furthermore, industry leaders in this segment should benefit as smaller players are pushed out.

An overview of e-commerce’s role in the express delivery industry

China’s e-commerce has grown at a dizzying rate and the express delivery industry has grown alongside it. A case in point is the growth of the country’s gross merchandise volume (GMV) – a key metric within the e-commerce industry: China’s online shopping GMV grew from Rmb56.1bn in 2007 to Rmb4.7trn in 2016, a CAGR of about 64% which is similar to the growth in parcel volume from the e-commerce sector (+60%).

In addition, e-commerce now makes up more than 70% of parcel volume for the express delivery industry. And to put things in perspective, in 2016, 87% of the parcel volume from e-commerce was delivered via the traditional model with the warehouse and delivery model making up the rest, according to our calculations.

We expect the traditional model to continue to dominate the sector, and see its market share sliding only slightly to 85% over the next three years, while enjoying a 29% CAGR in parcel volume growth from e-commerce.

A primer on the two models

Traditional express delivery model

YTO Express, ZTO Express, STO Express, Yunda Holding (the four are known as the “Tongda Operators”), and S.F. Holding are leaders of the traditional express delivery model. These companies, for example, help collect parcels from merchants on Taobao.com, China’s largest consumer-to-consumer (C2C) platform, and deliver them straight to customers via their own networks.

The scale required for these companies has gone up over the years, which benefits the industry leaders, as those that handle fewer than 10mn parcels a day will suffer losses.  

Traditional model is most suitable for delivering non-standard products with high warehousing costs as their sales are hard to predict. These typically include clothes and groceries.

Warehouse and delivery model

This model is mainly used by companies such as JD.com, Suning.com, and Vipshop to serve their own e-commerce platforms. It allows companies to better manage their inventory, orders and delivery.

An advantage of this model is the much lower rate of complaint – a good indicator of service quality and customer satisfaction – compared with the traditional model.

However, we believe over the next 3–5 years, traditional model express delivery companies will gradually catch up with their warehouse and delivery peers in this regard.

The warehouse and delivery model is most suitable for standard items with relatively low warehousing costs, such as home appliances, consumer electronics, and cosmetics.

Delivery times and costs

Warehouse and delivery model has an edge in delivery times, while major traditional expressway delivery companies on average required 2.2 days in 1H17 (1.8 days for S.F. Holding).

On the other hand, average fulfillment cost of the traditional model was around Rmb8.6/parcel in 2017, compared to around Rmb12.2 for the warehouse and delivery model, according to our calculations. This gap widened from Rmb1–2/parcel over 2012–2015 to the current Rmb3.6/parcel, which shows the traditional model has enjoyed greater cost advantage in recent years. For online purchases with lower value per parcel, customers tend to prefer the traditional express delivery companies.

Traditional model players entering warehouse and delivery, plus other avenues

Traditional express delivery companies are expanding into warehouse and delivery, which is attractive for some smaller merchants as it saves cost and time, and are seeing results. For example according to ZTO Express’ 3Q17 results, revenue from big clients of its warehouse and delivery business made up 10% of its total revenue, and for S.F. Holding, this segment comprised 7% of its total revenue in 2016.

S.F. Holding is also taking the lead in integrating its cold-chain logistics network with its warehouse and delivery services, a potential growth driver for other traditional model players. As of 1H17, S.F. Holding’s cold-chain logistics network covered 180 cities, and it had 236,000-sqm of refrigerated warehouses for food storage and 130,000-sqm of refrigerated warehouses for medical purposes.

Another avenue for growth is in international parcel delivery services. YTO Express acquired a 61.9% stake in On Time Logistics in May 2017 to access the company’s overseas express networks and transportation capacity. As of 1H17, S.F. Holding had expanded its international express delivery business into 51 countries such as the US, Japan and Russia. In 1H17, revenue from its international operations grew 40%.

No small fry

While in 2007, China’s express delivery industry only had one-seventh of the business volume in the US, by 2016 it had ballooned to 2.5x that in the US, illustrating the industry’s fast growth.

We believe traditional express delivery giants will likely continue to dominate the e-commerce logistics market. Leaders of this model should benefit from industry consolidation and in addition, since China’s manufacturing industries are relatively fragmented, the warehouse and delivery model is only suitable for frequently purchased products. E-commerce platforms such as Taobao and Tmall rely heavily on the traditional model and contributed 69% of total e-commerce parcel volume in 2016. Furthermore, traditional model players’ expansion into warehouse and delivery services should provide them with new avenues for growth.