For several months this year, Chinese smartphone app Car8 delivered carwash services to users in Beijing for the low price of 10 yuan ($1.57), a hefty discount on the usual 20 yuan to 30 yuan price.
The cost to Car8 for each carwash was 17 yuan, but the hope was to build a base of loyal customers and then to be able to phase out the discounts.
But in July, Car8 folded—as have scores of similar apps in recent weeks—after it ran out of cash and failed to raise more funds. “You need a huge user base to cover the costs of operating the business,” said Car8 founder Liu Qiang.
The failure of Car8 reflects the shakeout that is hitting one of the hottest segments of China’s booming startup scene. Dubbed online-to-offline, or O2O for short, these businesses offer online booking of services as diverse as manicures, food delivery and taxi rides—similar to what is known as on-demand services in the U.S.
But while the lure of such services in the U.S. is largely convenience, in China, it is bargains. A Subway tuna sandwich and drink on food-delivery app Ele.me, costs nine yuan including delivery, versus 31 yuan at the nearest Subway shop. A karaoke room can be reserved on group-discount site Meituan at just 58 yuan for eight hours of singing, a 90% discount off the original 560 yuan price.
In most cases, when apps connect users to brick-and-mortar services, the merchant gets paid full price, while the app covers the difference, often with venture-capital funds that until recently were pouring into Chinese startups. The huge bargains made O2O apps a feature of life for many Chinese. On an average Friday, Beijing news editor Yu Xi, 25 years old, says she uses phone apps to hail a ride to her office, order dumplings for lunch and coffee during the afternoon, and hunt for deals for dinner and a movie.
In a McKinsey & Co. survey in February, 71% of Chinese online consumers reported that they use O2O apps.
But the recent Chinese stock-market swings and increasing concerns over slow economic growth have made venture capitalists nervous about the high rate at which O2O startups have been burning through cash, and some investors are pulling the plug.
Venture-capital firm Gobi Partners Inc., which has invested in apps across sectors including real estate, auto repair and food delivery, estimates that 30% to 40% of O2O startups have shut down in the past few months. Ken Xu, a partner at the firm, said roughly half the money such startups raise has been used for subsidies to attract consumers.
Lists of dozens of failed O2O startups are circulating in Chinese media. Websites of the companies named carry error messages or notices announcing that services have been suspended.
To be sure, for a number of apps and businesses that still have funding, what is an unprofitable business model now still holds promise well beyond China’s larger cities. Meituan.com, a leading competitor, expects to raise more than $2 billion in its current round of funding, valuing the company at more than $10 billion, said Wang Huiwen, a vice president at the startup.
China’s deep-pocketed Internet companies— Alibaba Group Holding Ltd., Baidu Inc. and Tencent Holdings Ltd.—have all staked claims in the sector and continue to see great potential for growth.