Billion Dollar Baby
Source: Media reports
In a comic sequence in Vishal Bharadwaj’s recently released movie Haider, actor Shahid Kapur, who plays the titular role, illustrates the meaning of the old Yiddish word chutzpah with an example. Haider narrates the story of a man who robs a bank and has the gall to go up to the cashier and ask her to open an account for him to deposit the stolen loot. “That, my friends, is chutzpah,” he says. Throughout the movie, Kapur’s character uses the word (albeit pronounced wrongly to closely resemble a Hindi swear word) to express his displeasure against the imposition of AFSPA in the valley and vent his frustration at his inability to find his father. Chutzpah soon became an internet sensation, best used by customers all over social media to describe the debacle that was Flipkart’s The Big Billion Day Sale. Angry consumers complained of site crashes, deals going out of stock seconds after the sale went live, orders disappearing from shopping carts and cancellation of orders after payment. “In its hurry to be one-up on Amazon, I think Flipkart bit off more than it could chew and this has hurt its brand very badly,” says Harminder Sahni, managing director of retail consultancy firm Wazir Advisors. Flipkart declined to participate in the story.
The sale soon snowballed into a big PR nightmare, forcing the Bansals to send an apology to the company’s customers. “We did not live up to the promises we made and for that we are really and truly sorry,” the Bansals said in their email. “We realise that this breaks the trust our customers have put in us. We are truly sorry for this and will ensure that this never happens again.” While Flipkart had deployed over 5,000 servers and entrusted 10,000 field staff with the responsibility of ensuring that deliveries were made on time, things didn’t go quite as planned and the company acknowledged that it was not adequately prepared for the scale of the event. “To brand it as the mother of all sales when it actually was a clearance sale, now that is chutzpah,” says a disgruntled consumer who tried to buy a TV during the sale. The real question, then, is whether it was just the Big Billion sale that was an act of chutzpah, or is that the way the Bansals are shaping up Flipkart?
The Big Bang
In the English language, chutzpah is often used to describe the audacity, brashness and supreme self-confidence that allows a person to take risks without the fear of failing, much like the way the Bansals function. How else do you explain the Big Billion Sale hoardings that were put up near the international airport and along the highway in Bengaluru as part of what the company called the ‘Welcome Mr Bezos’ campaign on the eve of Amazon founder Jeff Bezos’ visit to India recently? The Bansals are well known for pushing the boundaries for employees as well.
“Flipkart is a very highly performance-driven organisation, where you always over-commit and over-deliver. Its ambitions were always large. There were no baby steps and no concept of establishing proof of concept; it was more like all or nothing. Inside Flipkart, the message was always better done than perfect. It was okay to try and fail instead of spending too much time deliberating,” a former employee says.
With both the founders being techies at heart, Flipkart’s DNA at the time when it was launched was that of a technology organisation. “It was very clear that engineers were seen as the heart of the organisation. In fact, employees of all the support functions always used to complain about how the engineers always had well-stocked fridges while they had to make do with whatever was available,” says the former employee.
As Flipkart scaled, a lot more people from the retail business joined the company, helping the Bansals get a better grip on that side of the business. Though the Bansals have clearly indicated of late that they look up to Jack Ma and Alibaba as their role model, it is clear that their previous employer — Amazon — did shape their thinking early on. In fact, in one of their interviews in 2011, they had gone on record to say that they wanted to become the Amazon of India. “In their early days, it was clear that they idolised Jeff Bezos and were hoping to implement a lot of what they had done at Amazon, with a slight tweak to suit Indian conditions,” says the former Flipkart employee.
Flipkart, which currently has about 14,000 employees on its rolls, is also looking to increase its headcount to 25,000 by the end of the year. Its engineering team alone will have 1,200 people on its rolls by the end of 2014. It is looking to increase the number of sellers on its platform, which, at 4,500, is much lower than the 10,000 sellers Amazon India and 50,000 merchants that Snapdeal have on their respective platforms. Flipkart is looking to increase that number by 12,000 by the end of 2014. Though the company moved to a marketplace model last year, nearly 70-80% of its goods are sold by its former subsidiary WS Retail.
During its recent Big Billion Day sales, the discounts were almost borne entirely by Flipkart where sellers were reimbursed for the shortfall. Amazon and Snapdeal also follow a similar practice. But despite the fast and furious scale in revenues, Flipkart is said to be losing an estimated $10 million each month due to the discounts being doled out to its customers. Their deep pocketed investors, have funded many of these discounts. The stakes have only gotten higher with each round, leading to increasing concerns about whether this capital-fuelled growth is sustainable and, more importantly, if this is the most efficient way to build a business. For instance, after pumping in about $1 billion, Reliance Retail finally managed to garner revenues of #14,496 crore and made cash profits for the first time only in FY14, nearly seven years after being in business. At the end of FY14, the company had 1,691 stores across 146 cities, spread over nearly 12 million sq ft. “If, without a physical network of stores, Flipkart needs to pump in just as much money to generate revenues on the same level as an offline retailer, then where is the benefit of technology following through,” asks a venture capitalist. With the company’s latest financials not in the public domain, it is unclear just how much of its investment has gone in creating assets and how much has gone to fund its cash burn.
"It’s important to know that capital is not always going to be cheaply available. liquidity can vanish as easily as it was once available"Venky Harinarayan, Angel investor and founder, Junglee Paper Value
In its latest round of funding, Flipkart raised a jaw-dropping $1 billion from its existing group of investors — Tiger Global, Naspers, Singapore’s GIC and Accel Partners — who were also one of its earliest investors. It was the biggest amount raised by an Indian start-up, second only to Uber’s $1.2 billion round of funding in June 2014. While Uber was valued at $18 billion, Flipkart’s valuation is estimated to be around $5 billion-7 billion. Since its launch in 2007, the company has raised $1.78 billion in funding from various investors (see: Billion dollar baby). “The Bansals are like the pied pipers of the e-commerce space. Every time they play their flutes, investors bring out their cheque books,” says a venture cap investor requesting anonymity.
The company’s rise to a multi-billion dollar valuation has been rapid, a little too quick for comfort, in fact, as some would say. For instance, when Flipkart raised $210 million from Russian billionaire Yuri Milner’s fund DST in May 2014 — post its Myntra merger — the firm’s valuation was pegged at $2.6 billion; in the space of less than two months, valuation had more than doubled. The company had raised $150 million in August 2012, at a time when it was valued at $1.04 billion. By 2013, it had raised $360 million, translating into a valuation of $1.6 billion. But investors are not too worried. “Neither do we focus on what others are saying about valuation, nor do we think about valuations in the near term,” says Sameer Gandhi, partner, Accel Partners US. “Flipkart is an investment for the long term, because we think the company will be the market leader for the next generation of commerce in India, which is set to be one of the largest economies in the world,” he says.
So far, the cheques have been flying in thick and fast. “Flipkart has primarily become an investor-driven company. If I were a hedge fund investor, my focus would be on the valuation and how to bump that up, not on profits. That’s why there is so much buzz about valuation,” says a VC investor who did not wish to be named.
In the past, Accel Partners and Tiger Global have been beneficiaries of high-profile IPOs and dizzy valuations. As early investors in Facebook, they saw its valuation increase from $10 billion in 2010 to $104 billion in 2012 when it listed. “Investors are a peculiar bunch of people. They are paranoid about missing a deal and the possibility of making an extraordinary return. In this case, the moment Tiger made the second round of funding, the others followed, with the logic being that maybe Tiger spotted something that they might have missed,” says an investor who chose to stay out of the bidding war.
For Flipkart, the next round is likely to be an IPO, because no strategic investor would be willing to pay that high a price for an entry into India. Amazon is cementing its position in the local market with much less and hopes its planned $2 billion investment will help it move ahead faster in this race with Flipkart.
While a US market listing seems to be on the cards for Flipkart in a couple of years, investors would likely weigh any potential investment in Flipkart against Amazon and the recently listed Alibaba. And though Amazon has rarely stayed in the black in its 20-year history, it has more than made up for that with its track record of making great pay-offs on its investments — be it Amazon Prime, Kindle, video streaming and its cloud service AWS. Which is also why investors have been so patient with Amazon — they are fairly certain that when the company invests, its decision results in increased cashflows in future. One of Amazon’s key strengths has been its ability to invest in growth without raising any money. Over 2001-2014, the company raised $623 million as debt while repurchasing shares of $1.28 billion, making its net external financing negative $685 million. Over the past 10 years, Amazon has generated free cash flows of $14.38 billion after all its investments. It has a market capitalisation of $133 billion and its revenue in 2013 was $74 billion and profit was $375 million.
While a lot of bets are being placed on the Indian market evolving like the Chinese market, the reality may not be as rosy. “While the Indian market is expected to mirror the potential of the US and Chinese markets, the reality is quite different. In the US, you have customers who are willing to pay a premium for good products and in China, regulatory support makes it difficult for foreign players to make a dent in the domestic market, helping Chinese entrepreneurs build winner-takes-all kind of businesses. In India, it is difficult to do business and make money as increasing competition means that such price wars will continue,” says Wazir’s Sahni.
At $3 billion, online retail forms a mere 0.4% of the organised retail market and is projected to reach $32 billion by 2020. In China, the marketplace model makes up 90% of the e-commerce market, whereas in the US, it makes up around 25%. In India, marketplace models are tough to execute due to several reasons — most vendors are not very comfortable with the digital platform and that, coupled with large gaps in the logistics infrastructure, has led to poor service levels. “With the rapid growth of the marketplace, there have been complaints about inconsistencies in delivery, customer service and quality,” says Pragya Singh, associate vice-president, retail, Technopak. According to Technopak, the percentage of cancellations in India across players is 10-15%, compared with mature markets in the West, which have cancellation rates of 2-4%. While some of these are thanks to customer cancellations, a large chunk is also from the vendors’ side, thanks to non-availability of products due to poor inventory management and inadequate IT infrastructure. Now, leading players such as Flipkart, Amazon and Snapdeal are trying to mitigate that by adopting a managed marketplace model by which they control the last-mile delivery, thereby ensuring a better customer experience but increases overall costs.
"Rapid growth of the marketplace has resulted in complaints about inconsistencies in delivery, customer service and quality"Pragya Singh, Associate vice-president, retail, Technopak Boom Or Bust?
Organised players have an 8% share of the overall retail market in India and their share is projected to reach 14% by the end of 2020. At $3 billion, online retailing forms a mere 0.4% of this market and is projected to reach $32 billion, or 3%, of the total retail market by 2020. A key reason for this is that online retail penetration in India is just one-fourth of the total 245 million internet users in India. The total number of net users is set to rise to 550 million by 2020, so even if penetration does not rise proportionately, the sheer number of people logging on to the internet will drive growth for e-commerce players. India has been one of the fastest growing markets for Amazon ever since it went live in June 2013. “We have never seen this kind of growth in any of the markets we have been in and Amazon India has reached the billion-dollar mark in record time,” says Amit Agarwal, VP and country manager, Amazon India. In a bid to win the e-commerce war, Amazon has announced that it will invest $2 billion over time to expand its presence in India. “We wanted to make this kind of investment to reiterate to our vendors and customers that our flywheel is working fast. We continue to see a lot of potential in the Indian market.”
While e-commerce is the next step in the evolution of retail, it remains to be seen how efficiently online players can build their business. When organised retail made its debut in India, there was a big hue and cry about how it would displace the unorganised players. Several years down the line, unorganised players still make up more than 90% of the market. The reason why organised players didn’t make as big a dent in the market as expected was because most of them were not running efficient businesses. Similarly, while there is a definite value proposition that comes with the e-commerce business — convenience, a wide range of products — these businesses are unable to charge for this value addition thanks to intense price wars. Companies like Flipkart are working on borrowed time and have to prove themselves in a hurry if they want to keep raking in investor moolah. After all, throwing good money after bad is not a sustainable strategy in the long term.
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