It was supposed to be an East vs West clash between Alibaba and Amazon on Indian soil. Seems like Walmart did not get that memo. For the US retail giant is all set to acquire a significant stake in Flipkart, which will result in a direct clash with its old rival Amazon in India, the only big ecommerce market that is still up for grabs.
A so-called counter-offer from Amazon notwithstanding, the Walmart deal is what will go through if a few issues like valuation for secondary stock sale are ironed out. The deal on offer, according to sources, will value Flipkart, pre-money, at $18 billion—a dramatic shift in fortunes for a company that in 2016 was faced with repeated valuation markdowns from its investors.
There was speculation that Flipkart might carve out the fashion arm—Myntra and Jabong—and give Walmart stake only in the core marketplace, but that does not seem to be the case now. “Fashion is the most valuable segment of Flipkart Group right now. Why would Walmart not want that?” said a person aware of the details of the discussions. The plan for Walmart is to ensure a path to majority ownership of the 10-year-old ecommerce marketplace. The due diligence is done, according to reports, and many of the early investors of Flipkart are on board (many of the early investors will partly or fully exit). The valuation of some of Softbank’s stake for the secondary sale is still to be finalised, according to the source.
But the deal and deal contours are not the story here; for that we will wait for the deal to get finalised. The story here is on why this deal is happening and why it makes great sense for both Walmart and Flipkart, beyond the fact that the names rhyme!
- Walmart’s Amazon problem Walmart’s total revenue for the last fiscal was over $500 billion, while Amazon’s net sales were $177.9 billion. Walmart showed net income of over $20 billion, while Amazon’s net income was $3 billion. Yet, Amazon today is among the top five companies in the world in terms of market capitalization at over $680 billion market cap. In fact, for a brief time this year the Seattle-based ecommerce giant was the second most valuable company in the world, behind Apple. Analysts have also begun predicting that Amazon could beat Apple to become the first company in the world with a $1 trillion market capitalization. Walmart’s market cap on the other hand is at just over $250 billion, not small change at all, but smaller than Amazon’s.The reason for the stock markets in the US putting greater value in Amazon than Walmart is because the former is seen as the company with a more robust future and growth potential. Ecommerce accounted for 13 percent of total retail sales in the US in 2017 and 49 percent of growth, and Amazon is responsible for most of the growth. Overall ecommerce in the US grew at 16 percent last year. According to ecommerce business intelligence firm Internet Retailer, Amazon accounted for over 70 percent of the $62.47 billion growth in US online retail in 2017 and almost 35 percent of the $127 billion rise in the overall retail market.
Walmart has spent the last few years playing catch-up in ecommerce. It spent $3.3 billion in late 2016 to acquire Jet.com, a direct competitor of Amazon. Last fiscal, Walmart had ecommerce sales of $11.5 billion, a growth of 44 percent. However, in the last quarter, ecommerce sales grew at only 23 percent, much slower than Amazon.
“In the US, Walmart is the only formidable competitor left for Amazon. Walmart has been growing its ecommerce operations a lot and Amazon has been increasing its footprint with physical stores. It’s natural for that battle to spill into international turf as well,” says Kartik Hosanagar, Professor at The Wharton School of the University of Pennsylvania.
Despite the potential for growth in online retail within US, Amazon has already made big strides in international markets. This is because the expectation is that emerging markets of today will become growth drivers of the future. China’s Alibaba, for instance, is valued at over $520 billion, and most US tech and ecommerce companies either missed the China bus or were kicked out.
India is the only big ecommerce market still up for grabs. India’s online retail market grew at 23 percent in 2017. While India’s overall retail market is over $670 billion in size, online sales is just at $20 billion. The headroom for growth is immense, with 60 percent growth expected this year.
Amazon is already in a strong position in India with a market share of around 35 percent, compared to Flipkart Group’s 45 percent. If Amazon extends this lead in India or builds an unassailable position, the company will be able to extend its overall lead over Walmart dramatically.
- Walmart’s India problem The Bentonville, Arkansas-based retail giant has been in India for over a decade, but hasn’t managed to grab any share of the retail market. This is primarily because of the country’s FDI rules in multi-brand retail. In 2011, India allowed 51 percent FDI in multi-brand retail, but allows 100 percent FDI in the wholesale segment. Walmart had a partnership with Bharti Enterprises, but that never scaled up and the partnership ended in 2013. Walmart still operates 21 Best Price wholesale stores in India, but has no presence in retail.K Ganesh, serial entrepreneur and startup investor, says:
“Walmart has consistently missed the bus. They are an iconic brand, have the cash and the market cap, but have let others dominate the market, especially in markets other than the US. Unless they do something drastic they will lose India too. They should have done something like this (an investment into Flipkart) at least four years ago, but it is better late than never. It is a desperate situation for them.”
Satish Meena, Forecast Analyst at Forrester Research, says Walmart now realises that an offline-only play might not happen in India. “They have been trying to enter the India market for 10 years now and have realised that it is difficult for any government to allow Walmart in India. Their experience with offline partners in India wasn’t great. That’s why they are looking at a controlling stake in Flipkart. Their experience as minority partner hasn’t been good,” he says.
As mentioned earlier, India is the last large ecommerce market that is still in its early stages of growth. Walmart needs to carve a space for itself here before it is too late. What better way to do that than by getting a pie of the online retail market leader?
- Exit for Flipkart investors Flipkart has become the too-big-to-fail company for the Indian startup ecosystem. It has raised over $6 billion from investors like Tiger Global, Accel Partners, SoftBank, Tencent, eBay, and Microsoft. When SoftBank invested in Flipkart, Tiger got a $424 million exit while Accel got over $110 million. But investors will expect a blockbuster exit from the company.“A strategic investor always has a different equation than a pure financial investor. A strategic investor eventually wants control and a buyout. Tiger, SoftBank, and others will look at IRR. Walmart will not look at just IRR. For financial investors this is the only decent chance to sell their stakes and get returns. With Walmart as an investor, the risk is lower and the value will go up. Flipkart will be in stronger position,” Ganesh says.
This is an important point as availability of funds is no longer of great concern for Flipkart, considering it has deep-pocketed investors in SoftBank, Tencent and Microsoft among others. But a strategic investor ensures that financial investors see an end.
Going offline There is a clear need for Flipkart to start having an offline presence. For Walmart too, while a strong online presence in India would be a good start it will want to start building up an offline retail play.Manish Saigal, Managing Director at advisory firm Alvarez & Marsal, says Indian e-tailers need to have an offline presence to some extent. Amazon has already started building this—through partnerships under Project Udaan it has stores in semi-urban markets, it has its own dark stores for its hyperlocal grocery delivery platform Amazon Now, and it has a stake in Shoppers Stop.
From Flipkart’s perspective, not having an offline presence and not having sourcing linkages in fresh is a handicap. In mobile and fashion etc Walmart can’t help Flipkart. Where Walmart will help is in daily household items. In this, you will need offline formats to capture the market. I also believe it is not easy to crack offline for online guys. The business model is very different and in offline you are competing with Dmart, Future Group, and others. Here Walmart’s expertise will help,” Manish says.
- Jetting knowledge to India There is this misconception that Walmart has no expertise in ecommerce. That is far from true. As mentioned earlier the company saw a 44 percent growth in ecommerce sales in 2017, with $11.5 billion in ecommerce sales in the US markets.The Jet.com acquisition has helped the company gain some valuable ecommerce knowledge and tech. A CNBC article states that Walmart would soon launch Jet.com’s smart cart technology on its main site. If customers pack more items in one box, use a debit card to make the payment or choose a no-returns option, then they get lower prices under the smart box feature. This has worked well for Jet.com. The same article goes on to say how Walmart will use its unrivalled network of stores to make faster online grocery deliveries.
Walmart also has a long list of private label brands. Flipkart could figure out a way to retail these products on its site. The Bengaluru-based e-tailer is also betting big on private label and Walmart’s expertise in this area could be an asset.
- Mirroring JD.com partnership To see what Walmart can possibly do with Flipkart we need to just hop over to China and examine how the company’s partnership with JD.com is evolving.Walmart took a 5 percent stake in JD in 2016, after selling off its joint venture with a small online retailer Yihaodian. It has increased its stake in JD quite rapidly since and now owns a little over 12 percent in the Chine ecommerce major.
Walmart has opened a store on JD.com and sells thousands of products that sell well in the 400 brick-and-mortar Walmart stores across China. The company uses this offline network to fulfil online orders. There is also a store that sells only imported Walmart products. It also launched a store for Asda, Walmart’s British subsidiary, on JD.
Tencent, an investor in Flipkart, is also an investor in JD.com. Walmart is using Tencent’s WeChat Pay in parts of China.
Earlier this month Walmart launched its first integrated offline-online small format, Walmart Supermarket, in Shenzhen, China. According to reports, customers in the store will be able to access about 90 percent of Walmart’s inventory on JD.com. The stores offer a scan-and-go checkout process. This uses a WeChat programme that allows customers to scan barcodes as they shop along with a tech-enabled stocking system. This allows fast deliveries—less than 30 minutes for a delivery within two kilometres.
Like Paytm Mall was able to replicate Alibaba’s QR-enabled stores in India quickly, Flipkart can also launch smart stores in India with Walmart’s knowhow, alongside offline stores.
- Sam’s Club an answer to Amazon Prime? Amazon’s membership programme, Prime, has been a headache for Flipkart. While Amazon has not shared exact numbers, it claims its Prime member base now is in the millions. A person with knowledge of Flipkart’s strategy says the company’s management knows that they need to find an answer to Prime and soon.Walmart has had a membership programme, Sam’s Club, for decades now. In the US, Sam’s Club has two membership tiers, one priced at $100 and the other at $45—quite similar to Amazon Prime membership fees in the US.
However, Sam’s Club has been an offline-based membership model and is only now partly transitioning online. However, in China, JD.com has already launched an online store for Sam’s Club. This could be the solution to Flipkart’s Prime problem.
The big question is will this be enough for the two companies to fend off Amazon. If there is one area where Walmart really pales in comparison with Amazon it is in new tech like Amazon’s voice assistant, Alexa. Its smart grocery store experiment in the US is another example. Sure, such technology is not yet adopted by all those online but this is where technology is headed. If one company has shown that it can keep innovating it is Amazon—one of the reasons why it has such high market capitalisation.
Amazon’s spend on R&D, at $23 billion last year, shows how important innovation is for the company. Amazon spent the most on R&D last year, ahead of Google, Intel, Microsoft and Apple. To put that in context, Amazon’s R&D spend last year was larger than India’s current ecommerce market.
This is what the Walmart-Flipkart combine is up against.