Indian E-Commerce: Amazon is the only real winner from the strategic choices being made by Flipkart
Amazon goes for the jugular. Amazon is not content just to let its rivals gift it the Indian market through their own bad decisions but is going for the jugular by opening up a second front in bricks and mortar retail. Amazon is buying a 5% stake in Shoppers Stop for $28m which will enable Shoppers Stop to increase the number of stores it has by 25% thereby expanding its reach into smaller towns. Currently only 5% of retail sales are made online in China meaning that for at least some time to come it will be an advantage to have an offline presence. This is exactly the strategy that Alibaba is pursuing in China and is looking to improve the poor offline experience by adding in technology and know-how garnered through its growth online.
All of Shopper Stop’s stores will play host to Amazon experience centres in order to educate and inform users with regard to the benefit of e-commerce. Shoppers Stop’s will also have an exclusive flagship store on Amazon’s Indian website which will help Amazon deepen its offering to Indian consumers. This is yet another blow to the local players Flipkart and Snapdeal whose inability to merge looks likely to hand the Indian market to Amazon. Flipkart, Snapdeal and Amazon are network businesses just like Uber, Alibaba, AirBnB, Craigslist and so on and consequently, they are bound by the same rules. 20 months ago we proposed a rule of thumb that states a company that relies on the network must have at least 60% market share or be at least double the size of its nearest rivals to begin really making profit.
Together, Flipkart and Snapdeal would have just about hit this threshold and with flawless execution might just been able to see off the threat from Amazon. However, Snapdeal recently ended merger discussions with Flipkart in a move that could easily hand victory to Amazon. Furthermore, having been soundly beaten in China by Alibaba, Amazon is absolutely determined to win the Indian market and we estimate that it is currently burning at least $400m per quarter to make that happen. The move by Snapdeal demonstrates a fundamental misunderstanding of how Amazon works and what it is likely to do to win the Indian market. Most companies have a strategy that involves trade-offs such as offering high quality or low prices. This is the route that Snapdeal is taking by deciding to streamline and focus on giving sellers the best experience in India. This is not how Amazon functions as there is no either / or in its vocabulary.
Instead Amazon goes for dominance and offers high quality and low prices or in this case the best experience for both sellers and buyers. Even with extra backing from Softbank, we do not think that Flipkart has the depth of management or the financial resources to withstand this ruthless onslaught and we think that it is unlikely to ever make a good return for its shareholders. The outlook for Snapdeal is even worse as it is much smaller with far less to invest. Amazon will now be able to grind its two main rivals down to the point at which they either exit the market or agree to be acquired. Both of these scenarios are likely to result in much lower valuations than were being discussed as part of the merger. Hence, Amazon is the only real winner from the strategic choices being made by Flipkart and Snapdeal. However, in the short-term $400m cash burn per quarter is unlikely to help Amazon’s fundamentals much and so we remain unenthused with an investment in its shares.
We continue to prefer Tencent, Baidu and Microsoft.
Disclaimer - Past performance is no guarantee of future results. Inherent in any investment is the potential for loss. This material is being provided for informational purposes only and nothing herein constitutes investment, legal, accounting or tax advice, or a recommendation to buy, sell or hold a security. This document may contain materials from third parties, which are supplied by companies that are not affiliated with Edison Investment Research. Edison Investment Research has not been involved in the preparation, adoption or editing of such third-party materials and does not explicitly or implicitly endorse or approve such content. No recommendation or advice is being given as to whether any investment is suitable for a particular investor. It should not be assumed that any investments in securities, companies, sectors or markets identified and described were or will be profitable. All information is current as of the date of publication and is subject to change without notice. While based on sources believed reliable, we do not represent this material as accurate or complete. Any views or opinions expressed may not reflect those of the firm as a whole. Edison Investment Research does not engage in investment banking, market making or asset management activities of any securities. The material has not been prepared in accordance with the legal requirements designed to promote the independence or objectivity of investment research.