Xiaohongshu bids to reinvent itself, again

Alibaba and Tencent rarely invest in the same startup. Xiaohongshu, the social media and e-commerce hybrid commonly regarded as China’s Instagram, is one of the few exceptions.

Founded in 2013 by Charlwin Mao and Miranda Qu, Xiaohongshu, also called Little Red Book or Red, gained popularity among China’s young, middle-class, and mostly female consumers hungry for lifestyle and fashion tips. A favorite among investors, the consumption-oriented social media platform accumulated over $400 million in funding. Its most recent round, in June 2018, raised $300 million from the likes of both Alibaba and Tencent, among others, and valued the company at $3 billion.

Despite rapid early-stage growth, the content-driven app has struggled to land on a successful and scalable monetization model while maintaining its community feel. Unsuccessful attempts to commercialize have disappointed analysts and investors, who are losing patience with the company. So far, the app is still primarily a recommendation tool for users to post reviews and conduct research before making their purchases. With users heading to other e-commerce platforms or offline stores for the purchase itself, Xiaohongshu is leaving out the most lucrative link of an online buyer’s journey.

To reclaim public attention, Xiaohongshu unveiled a new strategy at its RED for Future Conference on July 22, even as most other companies cancelled big offline events due to Covid-19. 

Since monetizing consumer interactions through e-commerce has hit a wall, the company is branching into a model that targets brands and other businesses. To that end, Xiaohongshu unrolled a string of features to help brands promote themselves. The new measures include:

• Platform commission reduced to from 20% to 5%, identical to the commission charged by Tmall in the fashion and cosmetics industries. If traffic is coming from Xiaohongshu livestream ads, the sales commission decreases even lower to 3%.
• Online traffic funneling to promote new brands and livestreamers,
• Support plans to connect merchants to consumer reviewers who have large followings.

But will the pivot be enough to turn the company around?

Search for identity

Xiaohongshu is hard to define. It began as a PDF guide to luxury shopping in Hong Kong, and made its mark in the tech world in 2013 as a user-generated content (UGC) community, which encouraged users to post pictures and reviews of luxury goods. The style-obsessed app later adopted a cross-border e-commerce model, operating as both a proprietary e-commerce platform and third-party vendor—models resembling JD and Alibaba’s Tmall respectively. The aim was to become a place where people could find overseas niche products, but the effort failed after facing immense competition from established e-commerce giants like Alibaba, who have far superior supply chains. 

The app then switched to social e-commerce by creating more product categories and introducing Chinese local brands. However, the model didn’t work well either for the reasons mentioned above.

At its event in July, the company stressed its strong position as a lifestyle content community, minimizing its e-commerce element. At the same time, it proposed a transition to B2K2C (business-to-key opinion consumer-to-consumer) model, which would elevate key opinion consumers, or KOCs, as the link between brands and consumers.

Trust issues

One of Xiaohongshu’s main challenges has been balancing its two constituencies: users and advertisers.

The company’s first pivot to serving brands dates back to the beginning of 2019. That year, a series of major moves to commercialize the platform met with strong resistance, first from regular consumers, and then from KOLs. 

In January, the company launched an influencer platform, then followed up with a brand account platform and CPC (cost-per-click) advertising system in March. The accelerated efforts to monetize triggered backlash from users who began questioning the app’s credibility. In April, local headlines reported fake product reviews and scandals involving fraudulent content scandals.

When Xiaohongshu tried to address the customer trust issue by purging suspicious KOL accounts, many disheartened influencers balked at the severe response. In the aftermath of the negative PR crisis, Xiaohongshu was pulled from both Android and Apple’s local App Stores in July and only managed to return three months later.

The current strategy is an evolution of the company’s 2019 plans, amended to resolve the major problems it faced last year. While KOCs are able to market on any social media platform, Xiaohongshu appears more responsive to trending reviews and can promote lesser-known accounts more quickly. The personable and seemingly unbiased appeal of KOC marketers present a possible avenue for the platform to fix its credibility gap from last year’s crisis.

Squaring the circle?

Key opinion customers, the newest buzzword in the influencer world, emerged in 2019 as an alternative to glossier, more professional key opinion leaders (KOLs).

In theory, KOCs are more trustworthy than KOLs. They are real customers who promote the brand without being paid to. So far, users seem to accept this form of marketing better than KOL hype. 

But Elijah Whaley, chief marketing officer at KOL marketing platform Parklu, says Xiaohongshu is taking shortcuts with KOCs that threaten to undermine user trust. Instead of treating KOCs as customers, Whaley said, the app treats them as just another kind of KOL, encouraging brands to pay KOCs for promotions.

KOCs are everyday consumers who typically have a few hundred followers—far less than the thousands or millions of followers who anoint KOLs with celebrity status. Whaley argues that brands need to keep them separate from paid pitchmen to keep their cachet.

• “KOLs are in the business of building influence and monetizing influence,” Whaley writes. “KOLs might or might not truly love the brands they collaborate with, which occasionally brings their authenticity into question. KOC evangelize the brands or products they love because they want to help their family, friends, and colleagues make better purchase decisions…One of the most significant challenges to KOL marketing is scalability due to the fees and high-touch nature of managing campaigns, whereas KOC marketing strategies benefit from scales of economy.”

On the brandwagon

At the same time, the company is jumping on the livestream e-commerce bandwagon. As a latecomer, Xiaohongshu experimented with livestreaming in June last year, but the function was not officially launched until November. Compared with incumbents like Taobao Live, Xiaohongshu is pushing more niche brands or high value products. After a quick browse on the app, I found that most Xiaohongshu livestreamers have dozens, or at most hundreds, of viewers—well below the scale of audiences on Taobao Live.

As e-commerce livestreaming hits its ceiling in driving sales, Xiaohongshu is taking a different approach by stressing its role in branding and marketing, rather than striking massive GMV figures. 

Taobao, which pioneered e-commerce livestreaming, also noticed the change. The top goal of livestreaming is branding, then it’s to bring new and very loyal customers and finally it’s the sales, Yu Feng, head of Taobao content e-commerce department, told local media this June.

Jie Si, head of Xiaohongshu open platform and e-commerce operations, said he expects advertising revenue to become the “pillar” of Xiaohongshu’s business. “E-commerce is only a part of our ecosystem. The primary goal is to service the demand of our customers,” he said. In addition to ad income from CPC advertising and branding, the lifestyle app also generates revenue from commissions from brands, membership fees, and a paid promotion tool called “Chips.”

Red flags remain

Xiaohongshu had over 100 million monthly active users (MAUs) in June, up from 85 million one year ago, according to company data.

However, third-party research firm QuestMobile reports a different outlook—a picture of stagnation. The research shop says that from June 2019 to March 2020, the number of Xiaohongshu’s MAU has contracted by roughly 10%, from 85 million to 77 million.

The 77 million MAU figure shows 15.3% year-on-year growth, but it is a much slower pace compared with the growth at Kuaishou and Bilibili, competitive platforms that are also looking into ad income. Both tech firms saw over 30% year-on-year growth from the windfall of users due to the Covice-19 pandemic.

“In tech, stagnation is a big red flag, contraction is a burial shroud. Very few social networks resurrect from MAU contraction,” Whaley said, who said he was disappointed by Xiaohongshu’s KOL purge last year. “Who cares about commercialization if there is a declining number of people to commercialize to,” he added.

The coronavirus pandemic has caused a considerable drop in advertising spending. Tech firms are benefiting with brands spending more on digital marketing, trying to access users who are spending more time online. But advertisers are flocking to the biggest platforms more than ever, which means a tougher situation for medium-sized vertical platforms.

In the competition for ad revenue, Xiaohongshu faces tough rivals like Baidu, Alibaba, Tencent, and Bytedance (BATB). China’s four most valuable tech companies accounted for a combined 86% of all digital advertising revenue in 2019, according to Totem Media. 

With its 100 million MAU, Xiaohongshu will also have a hard time challenging other content platforms like Tiktok and Kuaishou, which boast 518 million and 443 million MAU in June, respectively.

Steep climb ahead

To reach its next growth phase, Xiaohongshu has several hurdles to cross: regaining trust from users, entering the livestreaming business as a latecomer, and boxing out its rivals for advertising income. The company is putting its faith in its new B2K2C model to get them there. But such a strategy requires time to see results, which for the company is in short supply. Investors are already losing interest.

It’s been over two years since Xiaohongshu’s last funding injection. The company reportedly reached a break-even point in its finances late last year. It is reportedly fundraising for a $6 billion valuation, doubling what it achieved in its last round in 2018. It is a critical time for the company to produce a more convincing monetization model that will induce investors to open their purses.

No doubt Xiaohongshu still owns a key step in the journey of many consumers, particularly in the 18- to 35-year-old female demographic, but the clock is ticking for the company to show whether it can maintain that status, or achieve more.