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Wang Song Of ChinaCache: Unlike In The US, Winner Doesn’t Take All In China.

|Includes: Alibaba Group Holding Limited (BABA)

Recently, Caixin interviewed Mr. Wang Song, ChinaCache's CEO, chairman, and co-founder, as well as the first player in the domestic content delivery network (CDN) industry. As one of the two monopolizing leaders in China's CDN market, Wang Song provided his interpretation of the development of China's CDN market and his analysis of the entry approach of players like BAT by comparing the development of CDN market in China to the developmentin the US.

"In the US, CDN has proven to be a hundred percent winner-take-all market." Wang Song pointed out.However, since the carrier monopolies the underlying broadband network in China, CDN service companies are limited by the bandwidth cost, and cannot form a high-margin industry. According to Wang Song, unlikeChina's Internet industry that has already caught up with or has even overtakenits US counterpart, China's CDN industry is still behind its US counterpartby 7-8 years.

Wang Song remains optimistic regarding the high-profile entry of Internet companies into the market,"The high-profile entry of Aliyun plays a positive role in the integration of industry recognition and market cultivation." However, in his view, services provided by Aliyun and others are mostly standardized ones.Resources cannot be most efficiently allocated until the CDN network provides globally cross-regional, scheduled, and personalized services.

Under these circumstances, Wang Song claims that he has yet to seea trend in China's CDN market that is "winner-take-all".

1. In China's CDN market, the core issue is that the bandwidth cost is too high

Caixin:

How do we understand CDN (content delivery network)service? As a basic service, what features or minimum requirements does it offer?

Wang Song:

We can treat CDN as a cloud distribution service.So far, cloud services have been categorized into cloud computing, cloud storage, and cloud distribution, all of which are indispensible for an Internet company to provide commercial services. Cloud computing is the production; cloud storage is like a warehouses; cloud distribution is the logistics.This is what the Internet industry looks like.

For CDN as a cloud distribution platform, one of the minimum requirements for the platform is to support.The second one is the ability to quickly develop applications on the platform. After the platform is secured, you need to build a house on top of it quickly.

In fact, in the US market, CDN has proven to be a hundred percent winner-take-allindustry. Moreover, CDN should be ancompletely global business instead of a regional one. Of course, there are often exceptions to this conclusion in China. Maybe China's market is indeed larger than the US one. In the US,every CDN company is losing money except Akamai. For a CDN company, the larger its network is, the more commercial advantage it enjoys, because CDN has time multiplexing, customer traffic multiplexing,and most importantly, regional multiplexing.

For example, it is now daytime inBeijing, while in theUSit is nighttime.Usage cost can be reduced byglobal allocation. A giant international customeris now cooperating with us to take advantage of Beijing's nighttimetraffic to support the business on the West Coast in the US, so resources are accessed around the clock. Of course, different businesses have different needs. Some businesses may be very sensitive, so cross-border services may be an issue;while other businesses such as online shopping or gaming are not as sensitive, so they can choose the support of cross-border service.

Caixin:

Since you just mentioned the CDN marketin the US, can you share with us how CDN business in the US has been developed?

Wang Song:

The CDN industry in China is behind its US counterpart by 7-8 years.In the US, the CDN industry has experienced at least three rounds of development. Althougha variety of companies in different industriesgrow very quickly in China, there are not manycompanies providingunderlying services. For example, when there was the first round of the Internet bubble in the US, Akamai's bubble was the largest.Akamai went throughgrowth and decline like a rollercoaster ridein just two years. However, the first round of the Internet bubble simultaneously led to the development of back-end enterprises such as Akamai in the CDN industry, NetApp in the storage industry, as well as a large number of similar companies. So the first round of the Internetdevelopment in the US created many companies that provide underlying services, including the data centers. The second round was for the distribution of video content.Companies like YouTube were developed. As a result,every time there was a new round of internet development peak time in the US, many companies providing underlying services were developed. However, in China, we are the first company in the CDN industry listed in the US. But we are a full decade behind our US counterparts. There is a large gap between China and the US in terms of the overall CDN industry. For example, based on the data we collected, in 2013 half of traffic in the US backbone network is CDN traffic. Now there are many CDN companiesin the US in various forms. Vertical separation is also more prominent in the CDN industry.

Caixin:

How is the development of this industry in China? Why is it that there finally are only ChinaCache and ChinaNet left in China's CDN market? Why are webehind the US by 7-8 years?

Wang Song:

It is very difficult for a CDN company to survivein China.The core issue is the high bandwidthcost. 50-60% of the cost of CDN service is the bandwidth cost.However, for Akamai it is 15%. Why could YouTube be developed in the video industry in the US? Of course one of the factors was Google's support. But their bandwidth cost is much lower than ours.

Caixin:

Right now there is a voice in the China market that the commercial CDN marketdevelopment has alimited future. What do you think of the commercial CDN and the trend of self-builtCDNin China?

Wang Song:

Self-built and commercial CDNsare never mutually exclusive.Based primarily on the company's own businessdevelopment, one needs to choose either aself-built or commercial CDN, whichever is more efficient. For example, for the logistics industry, a company large enough may consider a self-built logistics system, since it is more efficient. For some industries, specialization is getting more prominent with increasing maturity. For example, in the early stage of the auto industry, auto companies had to make everything from start to finish. With the development of that industry, tires, engine, glass, and other parts are delegated to others. Everything has been delegated to the third party except for the core business.

2.BAT(Baidu, Alibaba, and Tencent, collectively known as BAT) serve start-ups and small businesses, while we mainly serve big customers

Caixin:

What do you think of Alibaba's acceleration of its deployment inCDN industry? Aliyun made a high-profile announcement of its CDN price cut. How did you feel when you first hear about this?

Wang Song:

When I just heard about Aliyun's CDN price cut, I did not have much of a reaction. But I started to realize that not everyone's interpretation is the same only after the stock market became very anxious about this matter. Under the circumstances that CDN penetration is still very low, Aliyun's entry into the market and participation in the competitionare great to improve the industry recognition. In addition, the CDN services Aliyun provides can cultivate many small customers, enabling them to forma habit of using CDN. In my opinion,they are helping us in cultivatingbig and medium-sized customersin the long run. When a customer gradually develops its business, it becomes necessary to get higher quality servicefrom a more professional CDN provider of a larger scale.

Aliyun does not enjoy a high investment return rate from its CDN service when comparedto its current main business. First, CDN is not a high-margin industry.At only about 30%, its gross margin is relatively low compared to an easy 60%or even 70% margin for most Internet companies. That means Aliyun enjoys 60 RMB of return if it invests 100 RMB on its main business, but only a 30% return on the CDN industry. From an investment point of view, the return is not worthwhile.

Amazon, on the other hand, runs CDN differently. Amazon enjoys a single-digit margin. ButAmazon is very strict in cost control, thereforehaving an incentive to invest inthe CDN industry.

Caixin:

So you think CDN will never become the core business for BAT's real deployment?

Wang Song:

In fact, Alibaba's cloud platform and Taobao platform have yet to be fully integrated. So they are still inferior to our new platform at this level. But like Taobao, Alibaba has a special application. Sothey will certainly have a much deeper understanding of its supporting services to the e-commerce than we do. They are supposed to be quite unique in terms of applications for the e-commerce. So this part of the distribution is based on the services and customizationthey provide. However, for the whole industry of e-commerce, it is necessary to find out what standard to follow when Alibaba build their own network. If they build their network basedon the traffic peak of each year, the network would be idle most of the year, resulting in waste; if theybuild the network based on the daily usage, it would become an issue duringpeak time. However,they still want to build a great platform, so they choose to establish a network based on the peak and open the surplus capacity for use. But this will also cause a problem. Alibaba's platform has to give priority to their own business. When the traffic peak hits on dates like Nov. 11, which side would it prefer to support?

When an Internet companyprovides CDN services, their clientele will be limited. So far all customers of Aliyun have been small customers. When these customers grow, they will certainly face a problem: both CDN services and data center services require that the service provider acts as a neutral third party. But becausethese three companies areessentially involved in all the industries, everyrelated industry arguably would face a huge risk. This is a very real problem CDN industryis facing now. But BAT's entryinto ​​the CDN industry is good to the industry.Especially, they really can help start-ups to lower the minimum requirement.

Caixin:

In the area of large customers, do you feel any direct competition from BAT? Are you afraid that Internet companies like Aliyun will provide the same services asChinaCache's existing business services?

Wang Song:

I don't feel any direct competition. However, I do feel some potential competition there. Our CDN business mainly serves large companies. But with the development of this industry up to now, the CDN business is becoming increasingly popular.The market is an open blue ocean anda brand new market to all of us. Future emerging Internet companies and small businesses may be the market we compete with BAT for. On the other hand, the accumulation of our understanding of each industry would be helpful.Like in the banking industry, after we serve a state-owned bank well, we can also serve other customers in this industry better later on.

Whoever reduces the cost the most wins the future competition. So one needs to examine all the steps to find costs to reduce.

Alibaba's biggest problem is that all of their nodes are in first-tier cities. For early deployment, they may have to be putat core locations with good network environment.But now the more the nodes are spread across the second and third tier cities, the lower the cost. As in the case of vegetablesbeing sold from Beijing to Shunyi, the local people will definitely think the price is higher than the local price, so Alibaba is still not as sensitive to cost.

If an Internet company really wants to provide commercial CDN service, there is still a long way to go. Regarding this cost control, they also have tofigure out a way touse the idle capacity at nighttime, because their customers are all ofthe same style.

Caixin:

Carriers also talk about deployment in the CDN industry. What do you think?

Wang Song:

Carriersall over the world are trying to enter into this industry. Nowadays, the Internet no longer simply faces a technological challenge:rather, itdemands the ability to quickly update with the new generation. For example, yesterday everyone was using Weibo.Today, everyone uses WeChat.If a carrier wants to build a platform, how can it follow this type ofchange?

Caixin:

Do traditional CDN providers also deploy cloud services, including cloud storage and cloud computing? Do they shoot for underlying business? Do we have any new deployment for the mobile Internet?

Wang Song:

To tell you the truth, CDN's original purpose was to providea large-scale cloud computing service, which of course was at a different level. Early CDNused to bea cloud-computing service at a PAAS level. We also continue to evolve and havelaunched a new line of HPCC platform last year to become fully cloud-based. From the bottom of the platform to storage, all the front-end is a platform that can implement scheduling the entire network in a platform. HPCC platform serves ChinaCache for webpage acceleration, document distribution and download, video streaming, mobile Internet and other core business to reduce resource cost forthe customers and significantly enhance the user experience. More flexible cache modes and more rapid response capabilityenhance the overall performance indicators.

We have invested in the construction of the ChinaCache Shouming Cloud Data Center, the first data center of this sizein China. In fact, today in China there is still not a real Internet switching center. The Industrial Information Ministry added seven switching centers this yearto only allow the three carriers to interconnect and inter switch. In fact, the US has come to the second stage, which is content switching. The prior stage was network switching only. Network switching is only exchangingtraffic. Even for the same content, a hundred switches are required for a hundred users.For content switching, one network switching is enough. No traffic switching is necessary for later access. Today, network switching is yet to be completed in China, let alone the level of content switch. We are establishing a research center with Xi'an Jiaotong University to support the upgrade around the campus. Xi'an Jiaotong University will provide the infrastructure, and we will provide all the technology to carry out the cooperation. So in the next step a switching centerwill be established in Xi'an Jiaotong University for small carriers and content providers in the five northwestern provinces. All major US content providers will try to put their own content in the switching, so that small businesses do not need to be bound with a large network carrier, thereby significantly reducing costs. Our bandwidth cost cannot be reduced, because we do not have a third-party switching center.

As for the mobile Internet, ChinaCachehas released a product called M Plus earlier this year specifically for the mobile Internet. This solution is an integrated solution for the mobile Internet end-users, content providers' B2B2C business model and accelerated access technology to help companies get communication speed higher 60% than normal. It also has a break-through feature of reducing end-user's wireless traffic to provide more space for mobile Internet content provider business promotion and enhance the end user experience.

Caixin:

Will CDN eventually become winner-take-all?

Wang Song:

We shall see. At this stage, this trend has yet to come.