After months of speculation, Walmart on 9th May 2018 finally announced that it will be buying a 77% stake in India’s leading e-commerce company Flipkart for $ 16bn thus valuing the latter at $20 bn. Media reports seem to indicate that Amazon did put in a strong counter bid and atleast one major investor, Softbank, was interested in pursuing Amazon. However other investors and the promoters seemed to be more inclined towards Walmart for a multiple of reasons including regulatory risks and operational control. Now that the deal is done let us look at the major players/stakeholders involved and try to understand who gets to benefit from the deal.
Flipkart over the years has built market leadership in the e-commerce space in India. The company has been a strong innovator at the forefront of shifting buying behavior from traditional channels to online channels. The company has generated scintillating growth aided by funding from marquee investors such as Softbank, Tiger Global and Tencent to name a few. However this growth has come at the cost of massive burn translating into bleeding bottom lines. In addition to this Flipkart has been fiercely competing with Amazon for market share thus forcing it to sustain discounts to retain share and thus further adding to the burn. Amazon in a short period of time has given Flipkart a run for its money and every time Flipkart has announced a fund raise, Amazon has responded to it by announcing increasing capital commitments and has indicated that it is willing to further invest aggressively to attain market leadership in India. In such a scenario where Flipkart had to contend with a strong rival with deep pockets, Flipkart would have had to continue to burn and therefore would have to be in the market for a funding round more frequently than it would probably like. This potentially could have distracted the company and at some point investors would start questioning the feasibility of the model. An IPO would also not have been a lucrative choice to raise capital as its high burn would have put off more sanguine public investors. Considering this, merging into Walmart provides Flipkart with a strong parent whose management has a long term strategic view rather than a short to mid term financial view of the transaction.
For the Flipkart founders, this is an incredible deal. While they have in the past mentioned aspirations of building a $ 100 bn company and made vociferous statements about their “Indianness”, somewhere down the road they seem to have come to the conclusion that being an independent company would not help them withstand the onslaught of Amazon. By exiting now they are probably selling at peak valuations and while there is always a possibility of a further upside, the downside risks are much higher for them. ( Media reports indicate one promoter is exiting completely while the other is exiting partially – I think the former is wiser! )
For Flipkart investors too this is a good deal as it provides them an exit at probably peak valuations. Flipkart’s path to profitability is long drawn process and they would need to have been extremely patient to wait for a IPO to make an exit.
For Walmart this is a tricky deal and one that indicates that they may have been too desperate. Walmart has made investments in e-commerce firms earlier with limited success. The deal is also fraught with multiple risks for Walmart. Politically many groups in India opposed to foreign direct investment in retail would view this as a backdoor entry. If these groups whip up enough hysteria then Walmart may be bogged down in managing this rather than focusing on running and integrating the business. Secondly investor reaction to this deal has been adverse. Walmart’s share price fell ~4% post the announcement of the deal indicating investor skepticism. Walmart will have to consolidate Flipkart into its books and this will result into a huge negative impact on its profitability. Walmart has also been exiting in developed markets and seems to be investing these proceeds in emerging markets with the hope that these will pay off in the longer run. However it remains to be seen if investors will be willing to be patient with these moves. What will most likely happen is that Walmart will continue to face investor heat for the burn in this deal and in response to that may force Flipkart to reduce burn. If it does so it risks losing leadership as Amazon may continue to spend aggressively. It will also be a tectonic shift for Flipkart employees who have been used to revenue maximization rather than profit maximization which in turn may allow Amazon to make further inroads.
For Amazon this is probably a good outcome in spite of losing out in the bidding process. If Amazon had won the bid it would still have to get regulatory clearances and probably have a long drawn integration process between the two companies. By losing the bid, Amazon can focus on growing organically – a model that has worked well for it in India. Amazon also now has a rival in India that will be more rational and one that it has had experience in competing with. As long as Flipkart was controlled by investors that gave it a licence to burn, Amazon had to also respond with burn to maintain market share. With Walmart in the driver’s seat, sooner or later profitability pressures faced by Walmart would lead to a reduced burn mandate for Flipkart which in turn allows Amazon to either curb its own burn levels or spend more to capture higher market share. Amazon has also had considerable success in previous battles with Walmart and will certainly prefer competing with a Flipkart owned by Walmart rather than Flipkart driven by a Softbank-Tiger Global combine. All in all Amazon has more patient investors as opposed to Walmart, understands the online space better than Walmart, probably has better technological edge and does not have any potential political risks that could distract it thus giving a considerable advantage over Walmart.
To summarize all of Flipkarts business model risks are now transferred to Walmart in addition to political and execution risks for $ 20 bn which only benefits the promoters and investors who will laugh their way to the bank. The deal also provides Amazon a potentially weaker competitor in the mid to long-term and increases its chances to dominate the Indian online retail space.
