India’s largest M&A deal and its Impact

Published : May 28, 2018 09:45 am | By: M D Sridharan

The Flipkart-Walmart deal is not simply a case of a US giant acquiring an Indian firm. It is neither a huge business transaction. It is virtually the beginning of a new era and which one cannot be sure whether it will be better for India. It appears to be the beginning of serious consolidation in the Indian eCommerce market. The Indian eCommerce market has been virtually turned out to be to a battle between two US giants and in the process millions of Indian retailers are bound to be affected.

Flipkart, the Indian e-commerce player has been rated one of the most valued internet start-ups in the world.   In a span of just little over a decade, since it began its operations launch in 2007, Flipkart has created history with its incredible journey. Started by two IIT-Delhi graduates - Sachin Bansal and Binny Bansal - the online business model spawned a brand new generation of entrepreneurs in the country. The stunning success of Flipkart, kindled the spirit of start-ups in the country and in the process attracted an unprecedented inflow of capital from foreign investors.

Recently, when the US retail giant Walmart picked up 77 per cent stake in Flipkart for $16 billion (Rs 1.12 lakh crore), it was considered to be the largest  E-Commerce deal ever struck anywhere in the world . The deal values the 11-year-old Flipkart at approximately $21 billion (Rs 1.47 lakh crore). It is a remarkable achievement that Flipkart to have successfully built a pan-India reach for millions of different products that too in a span of just eleven years. It is this reach and operating excellence that Walmart is buying. Indeed, it was a watershed moment for Indian start-ups and the ability of Indian entrepreneurs to out compete global tech companies. Besides, the deal also pits Walmart head-to-head against rival Amazon in one of the world's fastest growing markets. 

"India is one of the most attractive retail markets in the world, given its size and growth rate, and our investment is an opportunity to partner with the company that is leading transformation of eCommerce in the market," said Doug McMillon, Walmart’s President and Chief Executive Officer (CEO).

 After months of negotiations since 2016, finally the deal came through.  The deal entails Walmart ploughing $2 billion into the company as primary capital. The rest of the stake for Walmart will come from buying out existing investors like Japan’s SoftBank, Tiger Global (an investment fund based in New York) and South African media and internet group Naspers, among others, at a valuation of $19-20 billion, sources close to the matter said. Online search engine major Google's parent, Alphabet, is likely to pump another $1-2 billion, separately, later in the year.  Walmart is likely to bring along Alphabet, the parent company of search giant Google, as a strategic partner and investor into Flipkart. Google is expected to purchase up to 5% in Flipkart.

The direct entry of Walmart has kindled lot of excitement over the Indian online space. Further, Walmart has planned to take Flipkart public in a four-year time frame as part of the deal, the Indian online market was abuzz with frantic activities. Walmart plans to keep Flipkart as a separate brand and have an independent operating structure.  Besides, running the hugely successful online shopping site, the group also runs the fashion portals Myntra and Jabong, and a digital payments platform, PhonePe.

Further, Walmart plans to ramp up in-house payments business (PhonePe), apparels business (Myntra and Jabong) and logistics operations (E-Kart) in the coming months which will give it a significant competitive advantage over other players. Currently, Walmart has 21 cash and carry stores and has planned to open 5 new stores in FY19E. Company will continue to run these stores independently in the near term and it is expected to consider omni-channel operations in the coming years.

 

Why is Wal-Mart keen on India?

Flipkart has 54mn existing customers and shipped approximately 261mn units in FY17 and in the process clocked a Gross Merchandise Value of US$7.5bn, up 50% yoy.   With the eCommerce in India expected to $200 billion (Rs 13.4 lakh crore) by 2026, from $38.5 billion (Rs 2.6 lakh crore) as of 2017, according to the India Brand Equity Foundation, a research body under the commerce ministry. The growth will be further boosted by the ever increasing internet and smartphone penetration. India's total internet user base will be 829 million by 2021, or just under 60 per cent of the total population. India’s  total online spending, including domestic and cross-border purchases, is expected to increase by 31 per cent year-on-year to Rs 8.76 lakh crore ($135.8 billion) by 2018-end.

The acquisition of Flipkart will automatically help Walmart to benefit from large Indian ecommerce opportunity. Walmart is uniquely positioned to leverage Flipkart’s integrated ecosystem and its supply chain arm through eKart coupled with its network in the offline world. Walmart expects India to become one of the five largest e-commerce markets globally.

Though the fact remains that Walmart is highly impressed with Flipkart’s product portfolio ranging from an e-commerce marketplace, to fashion retail, logistics and payments services and justifies the “high” price for the deal, dissenting voices over the price of the deal have emerged.

Many US analysts feel that $16 billion to buy a 77% stake in Flipkart was far high. The US company’s investors were not impressed at all. Many investors consider that a large part of its Flipkart investment is already a write-off.

Flipkart and eCommerce in India

Rewinding the history of India’s e-commerce sector, many thought it will not flourish as in the West as most of the Indian consumers are highly conservative. Indeed, when the when e-commerce entered India at the start of 2000s, there were not many players and takers too. Many entrepreneurs who jumped in to the fray also burnt their fingers and closed shop. Then, who would have thought that the Bnasals would create history after a decade. That really sums up the courage and conviction of the Bansals and they successfully continued their journey and to become the biggest ecommerce player in a period of little over a decade.

It is no mean achievement for Flipkart to register a gross merchandise value of $7.5 billion worth of goods to trade through its site involving thousands of sellers and millions of buyers. With such incredible growth, it no secret that Walmart has found in Flipkart an ideal company that can help it take on Amazon in the second-most populous country in the world. Indeed it is a win-win for both Flipkart and Walmart. But, the question is that how does the Indian consumer stand to gain out of the deal? How it will impact the overall Indian market?

Though, on one side the volume of transactions increased phenomenally over the years and revenues grew over 30 per cent, the deep discounts offered by Flipkart were not sustainable for the company. As result, Flipkart could not make profits and registered losses despite staying in business for well over a decade. For the financial year ending March 2017, Flipkart registered losses to the tune of Rs 8,770 crore despite revenues growing close to 30 per cent.


The impact on the Indian eTail Market    

  Back in the US, the world’s largest brick-and-mortar retailer tactfully juggles between the online-offline strategies to full advantage. Walmart used to raise prices for certain items online, in an effort to improve profitability and draw more customers into its stores. Walmart  believed that the customers lwould potentially do more shopping than they would online. But in India, such tactics will not work out to its advantage. It will be interesting is to see how  Walmart adjusts to an e-tail business.  Walmart, embraced e-commerce to survive the onslaught of e-tail firms and it makes an absolute business sense for Walmart to have found in Flipkart an ideal company that can help it take on Amazon in the second-most populous country in the world.

Though, Flipkart created a brand of its own and flourished beyond expectations,  Flipkart’s operating losses is a serious issue of concern for Walmart. In fiscal year 2020 (FY20), the first full year of Flipkart’s operations under its new owner, the company has estimated an earnings impact of up to $0.45 per share. In absolute terms, this works out to $1.35 billion (Rs9,111 crore and It will turn out to be a high cash burn for the company.

Many experts point out that the figure will be far higher than what Walmart originally thought. On the other side, there are experts who feel that $16 billion is not too high to have a strong presence in a market that’s expected to reach $1.3 trillion in size in the next five years. Further, with Amazon breathing down its neck as well, the need for cash infusions by Walmart needs to infuse more cash to build a foundation in India and become a larger play in the country’s offline retail market.

Indian Context

The success of Walmart in India would depend on how it is able to effectively implement a world-class supply chain in India, given all the challenges in the Indian context.

Even before Walmart made an entry into the country, ITC, the Indian conglomerate, emerged as a retail powerhouse by bringing in volumes of retail trade across the length and breadth of the country. ITC introduced eChoupal the webbased initiative of ITC’s IBD and offered the best the quality of its commodities like wheat, coffee, soya, packaged basmati rice or processed fruits or even frozen and cooked shrimp and reduce their costs,

Besides improving the quality of the commodities, the company stayed connected with the farmers and also provided them all information about products and services they need to enhance farm productivity improve farm-gate price realization and cut transaction costs. The main attraction of eChoupal is that it connects large and small producer and users and eliminates the need of middlemen. eChoupal also facilitates the supply of high quality farm inputs as well as purchases of produce at the farmer’s doorstep. e-choupal is a virtual market that brings together vendors and customers.

According to Supply Chain Digest, Walmart stocks products made in more than 70 countries and at any given time, operate more than 11,000 stores in 27 countries around the world, and manage an average of $32 billion in inventory.  As early as the 1980s, Walmart had begun working directly with manufacturers to cut costs and more efficiently manage the supply chain.  Its supply chain initiative, Vendor Managed Inventory (VMI), made manufacturers responsible for managing their products at the retail giant’s warehouses, resulting in nearly 100 per cent order fulfilment. Interestingly last year, Amazon received an approval from the government of India to start a venture to sell locally produced and packaged food items through offline and online channels. 

According to reports, Amazon’s fully owned subsidiary Amazon India Retail Pvt Ltd is currently selling food items online in Pune on a pilot basis. Walmart is expected to use a good part of its investment to build infrastructure including food parks, cold chain and collection centres.

Flipkart deal unhealthy: CAIT

While Walmart’s acquisition of Flipkart enables Walmart to firmly gain a strong foothold in the Indian retail industry, it is certainly a bad news for millions of unorganised retailers in India. It is estimated that unorganised retailers   constitute about 90% of the $650-billion retail sector in India.

According to a report released by Forrester Research, India’s online retail market is still in its nascent stage, clocking $ 27 billion in sales in 2017-18 — minuscule in comparison with the $ 1.11 trillion in online sales netted by China

However, Walmart has said that as it scales in India, it would support small businesses through direct procurement as well as by increased opportunities for exports through global sourcing and e-commerce.   In the process, the US giant will partner with kirana shop owners and to help them modernise their retail practices.

Back in India not many are enthused by the deal as they feel that India's largest e-commerce firm has fallen into a foreign hand.  A closer look will reveal that it was inevitable for the Indian owners of  Flipkart to stand up to competition from Amazon. In over four years, Amazon India, which offers over 160 million products on its platform, has turned into a formidable e-tail player, garnering a 44 per cent customer share and a growth rate 50 per cent higher than the competition. Bansals, were forced to shell out more for the operational costs that keep building up year after year. While the value of Flipkart’s gross merchandise sold rose 50% in FY18, losses have also mounted significantly.  In FY17, when losses had been curtailed a bit, growth had slowed.

Many local traders have vehemently opposed the move. They argue that the deep discounts offered by online giants will imperil their livelihoods. The Confederation of All India Traders (CAIT) claimed that the deal would encourage predatory pricing and malpractices in the e-commerce sector and demanded that the deal should not be allowed till India finalises a policy for the e-commerce sector.

CAIT said that in the absence of a policy or a rule for e-commerce, such deals will run contrary to the interests of India’s retail trade. It also pointed out that the eCommerce business is already gripped with predatory pricing, loss of funding. In such a scenario, the deal would further create an uneven level-playing field, giving rise to unhealthy competition where traders — both online and offline — would not be able to compete. The traders’ body demanded that the government make it mandatory that such deals take place only when 75% of the sellers on an e-platform give their assent since they would be the worst sufferers.

Besides, CAIT, groups of small traders feel that their livelihood will be affected by and large by the deal. Many traders strongly feel that the practice of offering deep discounts by the e-commerce sites like Flipkart is a folly. 

Further, traders feel that the U.S. giant  is using the deal as a back-door entry into India's bricks and mortar retail market, and that it could squeeze out small corner shops that dominate Indian retail. Traders feel they are most concerned about predatory pricing and steep discounting by e-commerce firms with deep pockets thanks to foreign funding that could edge out smaller rivals.

Despite touted to be the biggest eCommerce deal to have taken place anywhere in the world, the Flipkart-Walmart deal will  essentially turn out to be a battle between two US giants - Amazon Vs Walmart in India.  It is only a question of time these two giants find ways of taking their current e-tail rivalry in India to the brick-and-mortar space too, much to the chagrin of millions of small retailers that dot the Indian marketplace.

 

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