Decoding the Vaping Supply Chain: Brands Take the Hit, OEM Factories Call the Shots

The electronic cigarette industry is currently very hot. With top venture capital firms like IDG, Source Code, and Zhen Fund entering the market, and big names like Cai Yuedong, founder of Tongdao Dashi, and Luo Yonghao from Smartisan Technology also joining the fray...

Many investment institutions and internet tycoons have set their sights on this cake. On September 29, another electronic cigarette brand, NUT, announced it had completed tens of millions in angel round financing led by Chuangxiang Investment.

According to the Daily Economic News, over the past year, hundreds of electronic cigarette companies have emerged in the industry. In Shenzhen alone, they contribute 90% of the global electronic cigarette market's production capacity. With so many brands flooding in, OEM factories are clearly in short supply—many brand owners even have to rack their brains to "please" the OEM factories just to "compete" for limited production capacity.

Indeed, building a supply chain requires money, talent, and strong integration capabilities across the entire industry. Whether new brands can manage production and R&D while also managing branding and channels is a huge test.

According to Chen Min, CEO of the electronic cigarette brand Hiwu, if you choose to build your own factory, the efficiency and cost will clearly lack competitiveness. So, why not develop by standing on the shoulders of others?

Since the barriers to entry for electronic cigarettes are not high, it has not been difficult for factories that previously made LED products or mobile phone components in Shenzhen and Dongguan to switch to electronic cigarettes. However, with so many brands entering the market, the supply-demand imbalance has made OEM factories increasingly powerful.

It is reported that at this stage, OEM factories can even choose brands and clients. Many OEM factories refuse to cooperate with unknown brands and even impose various requirements on brand owners regarding payment terms, such as requiring full payment or a deposit before starting production.

"First, they need to trust your brand and company, and they need to believe that the product you want to choose or the product plan you have is reliable. Moreover, it should not only be feasible for them but also enhance their capabilities. Therefore, when selecting factories, you will find that these factories only choose certain brands because they see growth potential in them and are willing to support you and work with you," Chen Min explained.

This dominant position has allowed many OEM factories to profit significantly. Consequently, many mobile supply chain companies are eager to "cross over" into the electronic cigarette industry. For instance, in the mid-2019 report, a company announced it had obtained supply qualifications for the well-known electronic cigarette brand JUUL, meaning Changying Precision successfully entered the electronic cigarette industry as an OEM.

Chen Min believes that, under the current circumstances, one cannot rely solely on OEM factories; brand owners still need to establish their own supply chain libraries and R&D teams. "Whether it’s product design, structural plans, or material selection for atomizers, we must take the lead in these aspects."

"Who wouldn’t want their own supply chain? This way, they wouldn’t be constrained by others in terms of production capacity, and the product update cycle could be shortened. However, with OEM factories being so powerful, whether the timing is right to enter the market is another question. Having financial strength and talent reserves is the most important; without them, one can only be led by the nose by these OEM factories," a practitioner lamented to reporters.

Of course, there are simple ways to make electronic cigarettes as an OEM. For example, one can pick a mold from many factories' product libraries, change the color, or modify the surface treatment, which is currently the fastest way for OEM factories to produce electronic cigarettes.

However, as the industry develops, especially with the national standards and legislative regulations for electronic cigarettes approaching, the industry will eventually face regulation. This means compliance costs will rise, and the impact of OEM factories on brand reputation will gradually become apparent, such as issues with quality control, limited production capacity, long product iteration cycles, and serious leakage problems. If brands do not have significant control over these key aspects, over time, it will restrict the brand.

Liu Bingyun, chairman of Saima Capital, stated that due to excessive capital entering the market, electronic cigarettes will inevitably enter a bubble phase. Currently, the industry still lacks a certain core competitiveness, and there are no particularly high technical barriers. Apart from a few, there are no particularly large brands emerging. Most companies are still at the manufacturing and processing stage, and those wanting to build a brand must have technology.

It is undeniable that the rapid development of electronic cigarettes has been significantly driven by capital, but the driving force of technology is also not to be underestimated. Chen Min cited the U.S. market as an example: before the invention of nicotine salts, although 60% of smokers had tried electronic cigarettes, the conversion rate was only 6%. However, after the invention of nicotine salt technology, the overall conversion rate increased fivefold, indicating that technology plays a crucial role.

Reporters from the Daily Economic News noticed that many well-known electronic cigarette brands in the market are now playing the "technology card." For example, RELX electronic cigarettes have established the world's largest dedicated electronic cigarette factory in collaboration with Microwell, forming a quality supply chain team of over 150 people; Hiwu electronic cigarettes have established a laboratory in Silicon Valley, specifically for R&D on e-liquids and next-generation nicotine technologies.

Chen Min, who was once the general manager of the Communications Intelligent Applications Division and an executive at Hong Kong's first listed company, "Superman Intelligent," believes that the current stage of electronic cigarette development is similar to that of the early smartphone industry.

Indeed, ten years ago, when the smartphone industry was just emerging, there were many domestic mobile phone brands: Bodao, Xiangxin, Panda... The current state of the electronic cigarette industry mirrors that of the smartphone industry back then.

Chen Min stated that the current supply chain barriers are relatively low, and everyone can access basic products to sell. However, in the end, only a few will survive. Only by continuously investing in products and technology can brands establish influence among consumers and have a chance to last.

"It is essential to have core patents to create real barriers. Products that are eliminated may not only be due to national regulations or market normalization but also due to insufficient strength leading to market exit," Chen Min said.