Why Alibaba Wants Chinese Shoppers to Buy American

December 29, 2015, 11:30 AM UTC
Illustration by Charis Tsevis

The e-commerce giant could use a boost from U.S. brands—and vice versa. Will the relationship pay off for both sides?

“Sniff, swirl, then swish.” An Italian-born sommelier guides a crowd of tasters through generous pours of velvety Robert Mondavi reds. Some of the well-dressed guests listen intently. Others clutch their glasses as they wander among lush gardens or settle at upright wine-barrel tables to nibble on cheese and charcuterie.

It’s a scene straight from a Napa Valley tourism brochure—but it’s taking place 6,200 miles away from that cradle of Cabernets. Beyond the gardens lies the industrial sprawl of Hangzhou, China; a thick cloud of urban smog hangs just a few feet above the party. And the California-style tasting area is a pop-up, built on the campus of e-commerce giant Alibaba (BABA) as part of a campaign by Mondavi to tap Alibaba’s enormous customer base.

The guests are almost all Chinese and young, and some sniff and sip the wine warily, the way Americans might approach slivovitz or soju. Even basic instructions from the sommelier about how to hold a wineglass draw appreciative ahs. It’s a scene of cross-cultural courtship—and a glimpse of a broader effort with high stakes for Alibaba and American companies alike.

Alibaba is the hottest e-commerce company of the past five years, a fusion of eBay (EBAY) and Amazon (AMZN) whose 386 million active users accounted for $394 billion in sales in fiscal 2015—six times the sales volume of its biggest Chinese competitor. The company created a huge marketplace and a sophisticated distribution network just in time to serve a generation of Chinese consumers attaining middle-class prosperity. “We are seeing Chinese consumers adopt new retail formats and online shopping faster than any of their global counterparts,” says Jasmine Xu, president of e-commerce for Procter & Gamble Greater China. Those trends fueled a rise so impressive that even the mighty Amazon became an Alibaba partner, and the company’s IPO was one of the business highlights of 2014.

Today, however, Alibaba looks mortal. Its growth has slowed, hampered by China’s ebbing economy and by competition from a growing crop of rivals like JD.com. Its stock has fallen 26% from its post-IPO highs, from $115 to the mid $80s. To reignite its growth, chairman and founder Jack Ma and CEO Daniel Zhang plan to lean on U.S. companies—brands that hold enormous appeal in China. “This is an incredibly important strategy for the future of Alibaba,” Ma says.

To woo these iconic companies—among them P&G (PG), Estée Lauder (EL), and Macy’s (M)—Alibaba is pitching itself as a shortcut to the world’s most populous market. Alibaba is helping foreign companies with marketing, data analytics, and shipping. And more recently it has sweetened the pot with a newer service, Tmall Global, that lets U.S. brands sidestep many of the taxes, regulatory hurdles, and logistics hassles that trip up foreign companies in China. All this comes from the company that turned the obscure Singles Day holiday into a lucrative shopping phenomenon. Alibaba’s $14.3 billion in Singles Day sales in 2015 were double the U.S. e-commerce total from Thanksgiving, Black Friday, and Cyber Monday combined.

Alibaba Starts 11.11 Shopping Festival In Hangzhou CEO Daniel Zhang, creator of Tmall, poses with Tmall’s mascot at an event promoting Singles Day.China Foto Press — Getty Images

If all goes as Ma and Zhang hope, Alibaba and American companies could reap enormous rewards. Alibaba earns money by charging fees of 2% to 5% on transactions on its sites, and in fiscal 2015 it took in $12 billion in revenue. Bob Peck, analyst at investment firm SunTrust Robinson Humphrey, estimates that U.S. and European goods could generate $30 billion to $40 billion in annual sales on Alibaba by 2017. That could add as much as $2 billion a year to Alibaba’s top line. And while many of the goods sold by international brands are, ironically, made in China, an Alibaba bump of that size could still generate a double-digit percentage increase in U.S. exports to China, which totaled about $120 billion in 2014.

That’s the best-case scenario. As Zhang admits, “What sells in the U.S. doesn’t necessarily sell in China.” For Alibaba there’s the risk that U.S. brands will use it to “showroom” goods—and then abandon it for other sales channels, says Ben Cavender, an analyst with China Market Research Group. Still, it’s a relationship with tremendous potential, and Fortune recently took a closer look at its rapid evolution.

Alibaba’s flagship website, Taobao, which launched in 2003, is essentially China’s eBay. It’s an eclectic virtual bazaar dominated by small businesses and individuals selling to one another, where shoppers can find oddball collectibles from mom-and-pop retailers, jeweled iPhone cases, and live scorpions. In its early years Taobao also became a market for counterfeits of foreign brands—a problem that persists today, though Alibaba has taken steps to curb it.

Alibaba’s other site, Tmall, went live in 2008 with a business model sharply distinct from Taobao’s. Tmall is Zhang’s brainchild. He positioned it as a marketplace for higher-quality clothing, food, and electronics, with a focus on luxury brands. This is where visitors browse and buy everything from Olay face creams to Burberry coats. It’s also the site on which Alibaba has staked its growth. Taobao is still the bigger platform, generating $69 billion in gross sales for the quarter ended Sept. 30, compared with $43 billion for Tmall. But Tmall’s gross sales grew 56% year over year that quarter, four times as fast as Taobao’s.

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Tmall owes its growth to China’s rapidly expanding, brand-conscious middle class. Currently there are 109 million Chinese people with a net worth between $50,000 and $500,000, according to Credit Suisse, which estimates that those ranks could surpass 500 million by 2022. It’s a demographic that’s very comfortable with e-commerce: 40% of Chinese consumers buy groceries online, for example, compared with only 10% of Americans.

What many aspirational Chinese want most is goods from abroad. Foreign brands often carry a better reputation than their Chinese equivalents; recent crises involving toxic chemicals in Chinese-made food and cosmetics have fueled that sentiment. Min Su, a fortysomething professional driver in Hangzhou, underscores the point. “I’m addicted to buying beauty products on Tmall,” she says. But she trusts only brands like Kiehl’s and Lancôme, saying they’re safe to put on her skin. “I don’t buy in stores,” she says; she doesn’t trust them either.

The Launching Ceremony Of 2015 Tmall 11.11 Global Shopping Festival In Hangzhou Daniel Zhang confers with Alibaba founder Jack Ma.China Foto Press — Getty Images

Tmall offers U.S. companies a portal to consumers like Min. But selling on the site is only half the battle. “It’s incredibly difficult to set up operations [in China], even if you are a large brand,” says Cavender, the analyst. Like all foreign companies, Tmall partners must establish a Chinese-licensed business unit and a Chinese bank account. Paperwork to obtain licenses and permits must be filed in person, often with multiple agencies. Even opening a bank account can take months. Consequently, big U.S. companies that had already invested in China infrastructure—Nike (NKE), P&G, Gap (GPS), and, yes, Amazon are prominent examples—have taken advantage of Tmall. But for others the bureaucracy remains daunting.

Zhang attacked this problem by creating Tmall Global, which debuted in 2014. It’s a “cross-border” marketplace that creates a huge, helpful regulatory loophole. Foreign companies that sell only through Tmall Global don’t need to set up Chinese subsidiaries or bank accounts; in practice, they can start selling to Chinese consumers in a matter of days. Alibaba’s payment spin-off, Ant Financial, handles transaction processing with the brands’ home-country banks. Alibaba takes care of shipping and inventory through Cainiao, its network of logistics partners, a service for which Tmall customers pay extra.

Perhaps most appealing: Companies that import through Tmall Global can pay lower taxes. Alibaba has worked with China’s government to create “bonded” warehouses in four cities. Goods shipped through these points aren’t subject to standard import duties. Some aren’t taxed at all; others are taxed at discounted rates of 10%, and only after shoppers purchase them. This compares with the 30% to 40% wholesale tax rates standard for such brands, says Cavender. It’s a deal the Chinese government was willing to offer, Alibaba officials say, because it meant consumers would spend more money at home.

Packages are piled up in a small shop's Cainiao service Workers prepare goods for shipment at a warehouse run by Cainiao, Alibaba’s shipping network.Zhang Peng — LightRocket/Getty Images

In his stark office in Hangzhou, Zhang describes Tmall Global as the missing link between American companies and “digital China.” Zhang, 43, is a Jack Ma protégé and finance guy who joined Alibaba in 2007 after a career that included a stint at PricewaterhouseCoopers. He speaks so softly you have to lean in to hear him, and his simple navy suit hangs baggily on his slender frame. His message, though, is confident. “You have nothing to lose,” he says, addressing an imagined American executive. “Tmall Global gives these companies the ability to learn the Chinese market and understand the Chinese consumer without a massive investment.”

So far that pitch has proved alluring. Costco (COST) has used Tmall Global to make an impressive China debut. Department store stalwart Macy’s tried and failed earlier this decade to establish its own e-commerce presence in China; now it has a “storefront” on Tmall Global. And some companies that already sell widely in China, including P&G, are using Tmall Global because it lets them bring new products to market faster. The big question is whether the brands now dipping a toe in these waters will commit further and dive in.

On Alibaba’s headquarters campus, young employees cluster, laughing and messaging on mobile phones. Many ride Alibaba-branded tandem bikes from one building to another. Silicon Valley–style perks, such as lactation rooms and Ping-Pong tables, dot every floor. Still, a visitor sees plenty of reminders that she’s in Hangzhou, not Menlo Park. Rows and rows of bamboo plants punctuate the massive office floors; there’s one placed on each desk for good luck, and the tall reeds make open desks look like forest clearings. For all the campus’s high-tech trappings, most of its toilets are essentially just holes in the floor, and each bathroom includes a bucket where employees dump their tea leaves.

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Tucked among these buildings, employees are building up Alibaba’s infrastructure for foreign brands. In 2014, when Costco decided to start selling food in China, it shipped several tons of nuts via freighter to a bonded warehouse in Ningbo. It didn’t have to handle any logistics beyond that, thanks to Cainiao. Alibaba’s shipping network isn’t always China’s fastest: JD.com, for example, boasts same-day delivery in 40 cities, compared with only six cities for Alibaba. But its reach is tremendous. According to Cainiao executive Wan Lin, it ships to every district in China and can ship overnight to 200 cities. Cainiao will quintuple the warehouse space it leases, to 54 million square feet, over the next year—setting aside a space bigger than New York City’s Central Park, largely to accommodate foreign goods.

Alibaba also helps companies figure out which products might fare best in China. For Tmall Global, the company helped Macy’s focus its selection on accessories, shoes, towels, and sheets—the kind of “touch the skin” categories where China’s shoppers covet foreign brands. In the food world, Alibaba’s cultural translation is particularly vital. To most Chinese, for example, lobster may as well have come from Mars. Alvin Liu, general manager of Tmall Global, says the site has helped U.S. fishermen develop instructional videos to teach consumers how to cook the crustacean. Campbell’s quickly learned that its soups were prized—not as freestanding dishes, but as sauces for other meals. The company hired a Chinese chef to create recipes for Tmall; one explains how to make a traditional sweet-and-sour sauce out of a tomato-based soup.

Bernie Chou, the general manager for Robert Mondavi in China, says many Chinese shoppers hesitated to buy a full-size, 750-milliliter bottle of wine that they might not like or finish. Mondavi, a division of U.S. conglomerate Constellation Brands, responded with 187-milliliter bottles, each a quarter the size of a normal bottle, so that drinkers could try Chardonnay, Cabernet Sauvignon, and Merlot without a big investment.

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Alibaba puts plenty of promotional muscle behind its U.S. partners. It can tap its huge well of purchasing data to target their marketing, reasoning that someone who buys, say, Alaskan black cod is more likely to splurge on other American delicacies. If a consumer has bought diapers from any manufacturer, Tmall will pitch the person offers for P&G’s diapers, wipes, and other baby products.

The American origin of these brands, meanwhile, is emphasized at every turn. Tmall web pages for their products often feature the phrase “Made in USA” in a massive font, in red type. Last spring the Washington Apple Commission held a promotion on Tmall Global. It generated only about $100,000 in sales, but Rebecca Lyons, a marketing manager for the association, was impressed by its reach: 18.4 million Chinese consumers clicked on the promotion, and the apples’ American cachet was a big draw. Thanks to that publicity, Washington apples have now penetrated Sam’s Club and other retailers in China. Those sold on Tmall have an additional benefit: a QR code that lets purchasers use their smartphones to verify the fruit’s origin.

While U.S. brands are generally upbeat about the exposure they’re getting from Alibaba, almost everyone involved is mum about how much they’re actually selling. Alibaba declines to disclose total sales for international products, and Zhang acknowledges that goods from the U.S. still represent a small percentage of sales volume. Of the 10 American companies Fortune spoke with, all declined to reveal their sales totals from Tmall and Tmall Global. “It’s still early days for our business in China,” said a Campbell’s spokesperson in a typical response. P&G, which sells everything from Pampers to Gillette razors through Tmall, was more openly bullish but not much more specific. It says its China e-commerce business, which includes but is not limited to Tmall, is now the company’s largest online retail operation, surpassing those in the U.S. and Europe. P&G declined to reveal e-commerce’s share of its $7 billion in annual China revenue but said its value had grown 100-fold during the past four years.

Heavily publicized promotions generate a lot of the buzz and dollars for foreign brands on Alibaba. During one six-day Tmall promotion in September, Estée Lauder registered $1.3 million in sales; during a two-day sale in April it sold $600,000 worth of La Mer face cream. Retail experts note that items often sell at steep discounts during such promotions. But it all might be worth it if it helps brands get a foothold on Singles Day.

Chinese shoppers read about an Alibaba promotion at an Estée Lauder store.Courtesy of Alibaba

That, too, is a creation of Daniel Zhang, who latched on to a day celebrated ironically by romantically unattached Chinese college students and turned it into a behemoth e-shopping event. “You better believe U.S. retailers will jump on any event that drives this level of commerce,” says Gil Luria, retail analyst and managing director at Wedbush Securities. New sellers at the 2015 blowout included Apple, Estée Lauder, Robert Mondavi, and Macy’s. To accommodate an anticipated surge in American sales, Cainiao chartered 200 transport planes—traditional commercial plane “belly cargo” wasn’t going to be enough to ship everything, Wan Lin explains.

In the first eight minutes of the big day, Nov. 11, Alibaba sold $1 billion; by day’s end the total was $14.3 billion. (JD.com and other Chinese e-commerce sites also held Singles Day sales, though at nowhere near the same scale.) How did international brands do? On that topic, Alibaba is boosterish but fuzzy. Alibaba would not break out dollar values but says that 33% of its Singles Day shoppers, 30 million in all, made at least one purchase from international brands or merchants. Costco was the top international seller, Alibaba said. The bulk retailer enticed Chinese consumers to buy underwear, kitchen supplies, and a host of food items—including 245 tons of mixed nuts, about $4.1 million worth by Fortune’s back-of-the-envelope calculations. (Costco did not reply to multiple requests for comment.)

Evidence of success? It’s far too early to tell. Still, Bob Peck, the SunTrust analyst, thinks Singles Day 2015 delivered on its international promise. Based on Alibaba’s 30-million-customer count and his analysis of Tmall spending patterns, Peck estimates that international brands sold $2 billion worth of goods on Singles Day, with about half of that going to American brands. That would mean international sales accounted for 14% of revenue that day—in line with the share Peck thinks they’ll eventually post year-round. P&G says that it saw record sales on Singles Day 2015, surpassing 2014’s total in a matter of three hours. And even the soft-spoken Zhang is willing to take a cautious verbal victory lap: “This day demonstrates the power of domestic China consumption,” he tells Fortune.

A version of this article appears in the January 1, 2016 issue of Fortune with the headline “Alibaba’s New Favorite Label: ‘Made in the USA’.”