When the going gets tough: E-Tailing in India

For many of us, the internet and e-commerce is now an indispensable part of our lives. Till around 2010, however, the Indian e-commerce story was limited to tickets, classifieds and ringtones – and physical retail had been slow to take off. These days, the ticketing and travel segment still accounts for around 80% of the total e-commerce in India, but online physical retail, also known as e-tailing, is finally catching up.

Division of the E-Commerce industry

evolution of e-commerce in India

Click to view: Evolution of E-Commerce in India (comScore report on India Internet)

2011 was the year when e-commerce witnessed a slew of investments by VC & PE firms, which were rushing to get an e-commerce company in their portfolio. E-commerce companies on the other hand were reporting double-digit on a month-on-month revenue growth. With excess funding available, companies invested heavily in back-end infrastructure such as warehousing, in-house logistics team and marketing to acquire customers.

Exhibit-A (VC Circle)

Exhibit-A (VC Circle)

However, the e-tailing in India is still facing several open questions:

  • Is the quality of internet connectivity good enough?
  • Is the supply-chain and logistics reliable enough in India?
  • Comfort of Indian consumers with e-tailing and using online payment as mode of payments?
  • Most importantly, how to achieve profitability?

Eco-system for e-tailing in India

The digital consumer ecosystem comprises several external and internal components.

E-Commerce-EcosystemAccess: How big is the potential market?

There are an estimated 150 million internet users in India, roughly 12.5% of India’s population. That is significantly lower than the world-average of 30%.

This aspect of the ecosystem, however, is improving rapidly in the past few years. The advent of 3G and 4G data networks and increasing proliferation of smartphones have accelerated the internet penetration. The expected number of Internet users by 2015 is 376 million – almost 2.5 times the current number. More importantly, the number of users transacting online will grow from the current 15 million users to 40 million users by 2015.

Assuming an average transaction of INR 500 per person/per year, we can estimate the potential market size of e-tailing in India as USD 4 billion by 2015, roughly four times the current market size.

Demographics: Life beyond Metros

The geographic distribution of Internet users has been skewed towards tier I cities. However, the number of users in tier-I&II cities has been increasing significantly. This augers well for most of the e-commerce companies as around 30-40% of current revenues are coming from tier I/II cities.

However, the average basket size (order value per transaction) for tier I/II cities is still around 70% of that of metros. Moreover, logistics and reverse logistics cost are substantially higher for these cities. Thus, profits are still going to come from the top eight metros.

Advertising: Burning a hole in the pocket

This is one the most important internal components for any e-commerce firm, because of its impact on the bottom-line. Marketing costs include digital marketing on Google and Facebook as well banner-ads on other popular websites (YouTube, CNN-IBN etc.)

While companies continue to spend aggressively on online marketing (Google, Facebook and re-targeting banner ads), the conversion rates (% of users who transact after clicking the ad) are in the range 0%-1%. In order to turn profitable, e-commerce firms have to find a way to improve the conversion possibly through alternative ways of free advertising (Google search, bulk-mail, blogs etc.). Improving the conversion rates is the focus at the moment, and many new start-ups (such as Tooki Taaki) are addressing this concern to help the cash-strapped e-commerce firms.

Exhibit-B

Exhibit-B (The Nilson Report, RBI Bulletin – Retail electronic payment systems)


Payments: The dominance of Cash-on-Delivery

For Indians, the concept of credit-card is still alien. As a result, around 70% of the transactions happen on Cash-on-delivery (COD) basis.

The logistics partner charge an extra INR 40-50 per shipment for handling cash, which is sufficient to wipe-off the entire operating margins. To counter this, firms are increasingly charging an additional INR 50 for COD transactions or giving incentives to customers for using online payment gateway (extra points, free coupons etc.). COD, however, overcomes a major challenge of e-commerce regarding lack of trust and touch and feel and hence will continue to account for a majority of transactions in near future.

Last Mile Delivery: Own v/s Third-party logistics

Globally, top players have almost always outsourced forward logistics, while controlling the back-end supply chain and inventory management. But this model has 2 major challenges in India:

  1. Poor customer-service (delays in shipments, damaged products, handling of reverse logistics)
  2. Lack of good courier partners and increased costs due to monopoly of a few (e.g. Bluedart, First Flight etc.)
forget digital marketing

forget digital marketing

To counter this, several players such as Flipkart, Jabong etc. are building their own end-to-end supply chains. This not only solves above problems to a large extent, but also ensures customer experience while generating enough visibility for the brand on roads.

Thus, few players will follow a two-pronged strategy: developing their own delivery channel for the metros and relying on outsourced parties for tier 2 and 3 cities where they are sub-scale. A majority will still rely on third-party logistics, while they focus on the core-business of merchandising and back-end operational efficiency.

The Way forward

The E-commerce industry is going through a difficult time. The sector will see consolidation over the next few years as companies struggle to make profits and investors work towards reducing their cash-burn. A few big horizontal players (across all product categories) will remain as they can achieve higher basket size and ‘economies of scale’ quickly. Niche vertical players for fashion and lifestyle categories (such as apparel & jewelry products) can still survive as they command higher profit margins.

This sector is not for the faint-hearted. One should also understand that it took Amazon 10 years and billion USD in investments before it turned profitable. India has far more glaring problems such as lack of internet penetration, card-usage and logistics. Hence, one needs to be patient with the Indian e-commerce story. At the same time, firms need to keep an eye on their bottom line if they wish to survive this tough period. The last man standing will reap the benefits.

Rakshit Agarwal is a PGP1 student at IIM Ahmedabad, and a member of the Consult Club. Prior to joining IIM-A, he worked with ITC Limited in the operations team, and managed the P&L of a category in an early stage start-up. He is passionate about tech-entrepreneurship, and holds a Bachelors and a Masters in Electrical Engineering (VLSI) from IIT Madras.