CIRCUIT BREAKER. What’s not clicking in e-commerce

After growing at a triple-digit rate, attracting billions of dollars in global capital and spawning many fledgling unicorns, the Indian e-commerce sector seems to be getting set for a reboot. Three key trends that have unfolded in the past year are forcing players to reinvent themselves.

The line-up of global private equity and hedge fund investors queuing up to write out cheques for e-commerce startups is thinning out. Private equity deals in domestic e-commerce, which were booming until 2014, began to flatline from the second half of 2015. Consulting firm Grant Thornton now reports that private equity infusions into these startups actually fell by 13 per cent in the first half of 2016 — the first blip on the radar since this sector became the flavour three years ago.

Later rounds of funding too are becoming increasingly difficult to come by for unprofitable ventures. Grant Thornton reports that 2016 witnessed just two $100-million plus private equity deals in this space in the first six months, against five the previous year. This is a far cry from mid-2014 when industry leader Flipkart raised $1 billion in a single deal with a clutch of PE investors, and casually talked of a $100-billion valuation within a decade.

Investors who enthusiastically pumped money into sector biggies in earlier rounds of fund-raising, have been busy marking down their investments lately. Flipkart, for instance, has seen global investors such as Morgan Stanley, Fidelity and T Rowe Price peg down the firm’s valuation in a series of regulatory filings, from over $15 billion in mid-2015 fund-raisings, to $8.5 billion-$10 billion recently.

Firms have been quick to dismiss such write-downs as ‘notional’. But given that at least some of the investors who were betting on the sector in the last couple of years were relying on the greater fool theory (belief that investors in future rounds will bail out those in older ones), this is bound to staunch the indiscriminate flow of capital to the sector.

As investors turn less willing to sink money into cash-burning firms, players will also have to abandon the mad chase for size and market share and focus on conventional metrics such as cash flows and profit margins.

This may mean pruning staff, tightening free return policies and looking for new ways to raise additional revenue — whether from the sellers or buyers on their platforms. It is this new cost-consciousness that is leading to fewer campus hires and revoked offer letters that have been making news lately.

Much of the rosy glow around Indian e-commerce stemmed from the sector’s perceived ability to sustain scorching growth rates, come what may. Between 2009 and 2014, despite the economic downturn and parsimonious consumers, Indian e-tailers managed to grow their transaction values from $0.3 billion to $4.5 billion, an astounding 72 per cent growth, states a report by RedSeer Consulting. With only a minuscule sliver of India’s population still shopping online, the number was expected to soar to $30 billion by 2018 and $100 billion by 2022. It was this prospect of triple-digit growth that drew global investors like a magnet.

But after sticking to the script until mid-2015, e-commerce firms have struggled to maintain their momentum. Industry watchers estimate that far from rising, e-tailers have seen their sales graph slope down in recent months, with industry registering a 19 per cent decline in transaction volumes in the first quarter of 2016. A deep-pocketed Amazon making significant inroads into Indian e-tail and smaller vertical players ( focusing on a single category of products) who are proving better at retaining customers, are also challenging home-grown horizontal (supermarket) e-tailers.

With growth rates slowing, the valuations that investors are willing to pay to buy into this opportunity have shrunk dramatically too. Investors who were quite willing to value Indian e-commerce bigwigs at 3 or 4 times their gross merchandise volume (GMV is the total value of goods or services transacted on the platform per year), now question why they should enjoy a multiple to their GMV, while global firms don’t.

As investors switch gears from GMV and move on to old-world metrics like cash flows and profitability, players have no choice but to follow suit. In the last couple of months, both Flipkart and Snapdeal have announced that they will be moving away from targeting (or disclosing) GMV numbers to other metrics such as number of customers, customer experience and high-value shoppers. Amazon’s recent prime offering also seems to be aimed at shoring up the bottomline.

Even as the sector was grappling with this churn, Indian regulators decided to gatecrash the party. Clarifying the hazy Foreign Direct Investment (FDI) rules for the sector, the Centre, in March this year, stipulated specific conditions for e-commerce firms to be eligible for 100 per cent FDI.

One, they must operate on a pure marketplace model and must not hold any inventory of their own. Two, they must not have over 25 per cent of their sales from a single vendor. Three, they must not directly or indirectly influence the price of goods/services on their platform.

Now these rules have put all the leading players in a quandary. All players claim to have moved to a marketplace model already as they don’t manufacture any of their goods. They, however, continue to control the supply chain, by running wholly-owned fulfilment centres. Players have also paid heed to the ‘25 per cent from a seller’ rule, by signing up three or four large sellers on their platform to diversify their wares.

But it still isn’t clear if this will rule out exclusive product tie-ups such as Flipkart’s with Motorola or Amazon’s with Xaomi that have notched up blockbuster sales for these sites in the past.

But it is the rule which bars e-tailers from ‘influencing’ the price which is the hardest to digest, as this will effectively bar them from offering the mouthwatering discounts that drew customers to online shopping in the first place. While the ‘no-discount’ policy may hurt the e-commerce platforms in the form of lower sales (and thus lower GMV), it may do their long-term profitability good, as they will no longer have to subsidise third-party products, sacrificing their profits in the process.

Both players and investors cannot but be happy at this regulatory intervention! But what of you — the unfortunate shopper? Well, you can no longer hope to bag the latest smartphone at a throwaway price by playing fastest-finger-first with other online shoppers on a Big Billion Day.

But as the leading e-commerce platforms scramble to delight their customers all over again, you may get a far better range of products, more intelligent product reviews, better response from customer support teams and even assurance that what you see on the site is what you will get. As these platforms go all out to better ‘mine’ their databases through machine learning, artificial intelligence and the works, however, do brace for a manifold rise in the spam in your mailbox.

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