India Technology | February 12, 2016
February 12, 2016 MORGAN STANLEY INDIA COMPANY PRIVATE LIMITED+ Parag Gupta India Technology [email protected] +91 22 6118-2230 Utkarsh Khandelwal Asia Insight: India Internet Primer – [email protected] +91 22 6118-2226 Gaurav Rateria Champions of Online Retail [email protected] +91 22 6118-2237
GMV growth is surprising on the upside because of faster online India Technology adoption. Globally, grocery/food delivery companies have generated Asia Pacific large returns and general merchandise/fashion companies have built dominance. We compare this with the Indian landscape to identify IndustryView In-Line emerging leaders in these categories. eCommerce gross merchandise value (GMV) beating expectations: Exhibit 1: Internet and online shopper penetration in 2020 Venture capital/private equity (VC/PE) activity remained strong in 2015, with India receiving US$6.6bn in such investments, 50% higher than in 2014. This is a key driver of growth, as is the case globally, and is probably leading to GMV beating expectations. eCommerce GMV in India in 2014 was 12% higher than our estimate. We now increase our 2020 estimate from US$102bn to US$119bn. This takes our estimate of the total Indian internet market size from US$137bn to US$159bn (now including online food aggregation business). We estimate the potential market capitalization of the Indian internet market (excluding foreign and government companies) at US$180-225bn in 2020, against US$3bn today, which makes the story compelling for global investors. Source: Morgan Stanley Research estimates Three pillars of growth: 1) internet penetration – India is adding three new internet users every second and is already the second-largest internet market Exhibit 2: Indian internet market size in 2020 globally in terms of user numbers. We expect internet penetration to increase from 32% in 2015 to 59% in 2020, translating to a near doubling of the internet user base; 2) increasing online shopper numbers – from just 12% of internet users in 2015 (50mn), we expect this to increase to 40% in 2020 (320mn). As it has been for global companies such as GrubHub and Zalando, this is usually the most important fundamental factor behind GMV growth; and 3) increase in per capita income – per capita incomes are likely to double by 2025, and this should drive higher aspirations of the Indian consumer. Grocery and food delivery top the list of value creators globally: Three of the top five wealth creators within the list of global companies discussed in Source: Morgan Stanley Research estimates this report belong to these two categories; Instacart tops the list. In India, we estimate the fastest GMV CAGR in these two categories, at 134%, 2014-20. We expect electronics and fashion to remain the most dominant categories, as in Morgan Stanley does and seeks to do business with China and the US. We expect online penetration in these two categories to companies covered in Morgan Stanley Research. As a result, increase from 3-5% in 2014 to 25-30% in 2020, resulting in an online market investors should be aware that the firm may have a conflict of interest that could affect the objectivity of Morgan of US$88bn (74% of the Indian eCommerce market then). We believe these Stanley Research. Investors should consider Morgan categories should generate the largest/fastest wealth creators in the Indian Stanley Research as only a single factor in making their internet arena, and this report explores them in detail. investment decision. For analyst certification and other important disclosures, refer to the Disclosure Section, located at the end of this Key risks: A global macroeconomic slowdown could affect the flow of VC/PE report. money into India adversely, thereby slowing GMV growth and lowering += Analysts employed by non-U.S. affiliates are not registered w ith FINRA, may not be associated persons of the member and may not be subject to NASD/NYSE valuations. Regulatory intervention is another key concern. restrictions on communications w ith a subject company, public appearances and trading securities held by a research analyst account.
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Global Internet Team
India Australia
Parag Gupta Andrew McLeod +91 22 6118-2230 +61 2 9770-1569 [email protected] [email protected]
Utkarsh Khandelwal +91 22 6118-2226 [email protected]
Gaurav Rateria +91 22 6118-2237 [email protected]
China and Hong Kong Europe
Robert Lin Edward Hill-Wood +852 2848-5835 +44 20-7425-9224 [email protected] [email protected]
Amanda Chen Andrea Ferraz [email protected] [email protected]
Claire Cao Anisha Singhal [email protected] [email protected]
Japan Korea
Tetsuro Tsusaka Sam Min +81 3-6836-8412 +82 2399-4936 [email protected] [email protected]
Mia Nagasaka +81 3-6836-8406 Latin America [email protected] Michel Morin +1 212-761-0328 [email protected]
North America
Brian Nowak +1 212-761-3365 [email protected]
Dean Prissman +1 212-296-5271 [email protected]
Michael Costantini [email protected]
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Contents
Key Charts
Summary
Mapping the Global Online Retail Space for Key Categories and Companies
Venture Capital Activity Remains Robust
Millennials Will Drive Internet Penetration and the Online Shift
Electronics – The Traffic Acquirer
Fashion/Apparel – The Profitable Category
Grocery and Food Delivery - The Next Big Thing
Furniture and Home Furnishing – A Niche Category
Appendix 1: Global Valuation Comparables
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Key Charts
Exhibit 3: Internet penetration and the number of online shoppers in India will take over five years to reach the levels in China in 2014
Source: Internet & Mobile Association of India (IAMAI), China Internet Netw ork Information Centre (CNNIC), CEIC, O VUM, International Data Corp (IDC), Morgan Stanley Research
Exhibit 4: Large opportunity within the overall consumption pie
Source: Euromonitor, iResearch, India Brand Equity Foundation ( IBEF), KPMG, Economic Times, Morgan Stanley Research; India online sales in 2020 are Morgan Stanley Research estimates
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Exhibit 5: eCommerce as a percentage of GDP: The effect on the Indian economy is likely to be high, just as it has been in China in the past five years
Source: IMF, IDC, Euromonitor, Morgan Stanley Research. GDP estimates as per IMF; eCommerce estimates are Morgan Stanley Research estimates
Exhibit 6: India: Online penetration has significant room to improve. In most categories, global comparables are already where we see India by 2020
Source: Euromonitor, Morgan Stanley Research, e=Morgan Stanley Research estimates. For apparel/fashion and electronics, the global comparable is China data for 2013; for furniture/home décor and health/personal care it is China in 2014; for food/grocery and food ordering/takeaw ay it is the UK in 2014
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Exhibit 7: Top global value creators outside India within the four key categories of eCommerce explored in this report. Grocery and food delivery companies feature high on the list.
Source: W all Street Journal (W SJ), Bloomberg, Crunchbase, e27, company data, Morgan Stanley Research. To calculate CAGR of returns, the numerator is market capitalization for listed companies (as of 9-Feb-2016) or latest available valuation for private companies as disclosed in the media sources quoted above. The denominator is the earliest available valuation in a private round as per the media sources quoted above or market cap since listing. *Unlisted companies.
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Exhibit 8: Some of the key global private companies that have raised more than US$1bn funds cumulatively so far (US$ bn)
Source: W SJ, Crunchbase, Morgan Stanley Research
Exhibit 9: India: Higher VC/PE funding activity in 2015 than ever before (US$mn)
Source: Economic Times, Inc42.com, VC Circle, Crunchbase, Morgan Stanley Research
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Exhibit 10: Listed internet stocks (excluding social media, search, and gaming) in China and the US had a mixed 2015 with respect to stock returns. However, on a combined basis, investors made a 17% return from these stocks (market cap in US$bn)
Source: Thomson Reuters
Exhibit 11: Capital efficiency (GMV to total capital raised)
Source: Company data, Economic Times, Inc42.com, Morgan Stanley Research
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Summary
In our 2-Feb-2015 note, The Next India: Internet - Opening Up New Opportunities, we concluded that the total size of the Indian internet market is likely to grow from US$11bn in 2013 to US$137bn in 2020. This growth will be built on rising internet penetration, the aspirations of the Indian consumer, and increasing per capita incomes. The lack of a well-developed offline retail infrastructure, unlike in markets such as the US, also creates a situation in which consumers, more so in smaller cities and towns, will naturally shop online because of the wider assortment of products just a few clicks away.
As Amazon India's CEO put it (on 5-June-2015), "Based on our global experience, consumers care about selection, low prices, fast and reliable deliveries. Sellers care about sales, profits, and fair and transparent comprehensive platforms. We will continue to focus on three key aspects – selection of products; enjoyable, reliable and trustworthy online shopping experience; and building quick and convenient delivery mechanisms."
We believe growing ambitions among young entrepreneurs in India are leading to the development of a strong ecosystem resulting in a rich and engaging consumer experience. The internet and the internet of things are now becoming pervasive in the way people search, shop, eat, pay, communicate, and consume media. And, as these new trends spread across a larger population, they will have an indelible effect on day-to-day lives.
In this report, we explore the online retail segment in detail and examine the categories that have created wealth in the global arena. We then apply this to understand how these categories are likely to grow in India and which companies are emerging as leaders in each of them.
Internet users growing rapidly as smartphone adoption improves
India overtook the US in 2014 to become the second-largest internet market in the world after China, and had 402mn users as at the end of 2015. As per our estimates, India is now adding almost 100mn new users annually, which works out to three per second. The Internet & Mobile Association of India (IAMAI) expects over 300mn users to access the internet from a mobile phone by Dec-2015. Globally, about 50% of the mobile phone population is accessing the internet from their phones, according to Statista.com. In India, however, fewer than one-third of mobile subscribers are using the internet on their phones. However, we believe India will become a large mobile-only country, with over 90% of internet users accessing via a mobile device by 2020.
The increase in internet users mirrors the run rate of new smartphone shipments. In China, smartphone adoption began to accelerate in 2009, with smartphones' share growing from <10% of total mobile phone shipments that year to >80% in 2014. We note that this inflection point occurred in India in 2012, and the share of smartphones in total shipments has increased from 7% then to 38% currently, with International Data Corp (IDC) expecting India to maintain double-digit growth in the smartphone market over the next few years. Market research firm Counterpoint mentioned in a 3-Feb-2016 Economic Times article that India has surpassed the US to become the second-largest smartphone market in terms of unique smartphone users. Falling handset/smartphone prices over the past few years are fuelling this demand. According to IDC, half of smartphones shipped in India are in the sub-US$100 segment, while in China this figure is about 20%.
Having said that, internet penetration is still low compared with in China and the developed world. In 2015, internet penetration in India was 32%, against 52% in China and 84% in the US. We increase our estimate of the number of internet users in India from 602mn to 790mn by 2020. This translates to an internet penetration rate of 59%, which is close to where China is likely to be in 2018, per our assessment. eCommerce will be the largest segment in the Indian internet market
As we explained in our 2-Feb-2015 Next India report, eCommerce is likely to emerge as the largest segment in the internet market by 2020, trumping travel, which was the largest in 2013. Hence, in this report we take a deep dive into the eCommerce market to get a better understanding of growth drivers, growth categories, key
9 India Technology | February 12, 2016 companies, and likely trajectory.
One interesting observation is that growth is beating our expectations – we had estimated 2014 GMV at US$6.3bn, but it was 12% higher. For 2015, we estimate GMV will surpass US$16bn, up 135% YoY. We believe growth is being primarily driven by a higher number of online shoppers (fuelled by rising internet penetration) as companies are providing a better assortment of products at attractive prices, thereby stimulating demand across a larger population. We believe these trends will get stronger over time, as evidenced by our February 2015 AlphaWise survey, which showed an increase in online buying activity as users gained more experience using the internet (see India Internet and eCommerce: Decoding What India Does on the Internet). On the back of these trends, we are increasing our estimate of the size of India's eCommerce market to US$119bn in 2020 versus US$102bn previously. Indeed, we estimate the CAGR in this segment over 2014-20 at 60%, making it the fastest-growing eCommerce market globally. Also, online penetration in the total retail market will likely hit 11% by 2020 as against 1.3% in 2014.
Although there are no listed stocks in the Indian eCommerce space currently, it is pertinent for investors to remain engaged as India is catapulting past growth curves experienced by some US and Chinese eCommerce companies. The strong undercurrents arise from learning from global companies' experiences, robust VC/PE activity, and faster adoption of online channels as millennials take control. We expect significant wealth creation opportunities for investors in the Indian internet space. There are only three listed names today, with a total market capitalization of US$3bn – and none in the eCommerce segment. However, investors can have an indirect interest in the Indian eCommerce market through Amazon, Naspers (holding in Flipkart), Alibaba (holdings in Snapdeal and Paytm), Softbank (hol dings in Snapdeal and Grofers) and Rocket Internet (holdings in Foodpanda, Jabong and FabFurnish) . We estimate the total market capitalization opportunity in 2020 (excluding government and foreign companies) at US$180-225bn, and eCommerce alone could contribute almost 70% of that value creation. We believe this is a large opportunity for global investors and hence it is critical for them to acquaint themselves with the emerging companies to stay ahead of the curve. Further, some of these Indian internet companies could be at the tip of cutting-edge technological advancements, with strong talent and governance standards positioning them well in the global arena.
We see four promising categories within eCommerce: Electronics (for traffic acquisition), fashion (profitability), grocery & food delivery (wealth creation), and furniture/home furnishings (niche category).
Electronics and fashion have emerged as large categories in China. Online penetration in these categories increased from less than 6% in 2010 to 30% in 2013 in China. In India, online penetration was 3-5% in these two categories in 2014; however, we expect the growth trajectory to mirror that of China. Online penetration in 2020 should go to 25-30% for these categories, in our view, resulting in an online market of US$88.5bn combined (75% of the total eCommerce market then).
Although electronics as a category works on thin commissions (2-7%, we estimate), it helps in driving traffic to websites, which can then be leveraged across more profitable categories such as fashion/apparel and furniture. An analysis of JD.com's performance shows that gross margins (take rates/commissions) were 3.5% in 2011 when the proportion of electronics in its total GMV was 80%. This gradually improved to 5% by 2014 when the proportion of electronics declined to 54%. During this period, operating margins improved from -4% to near break-even in 2014 as the company also achieved scale, thus taking down fulfillment expenses. Since this category cannot stand on its own, given weak unit economics, it is usually the traffic acquirer and hence a key category for general merchandise companies. Some of the world's largest and greatest wealth creators have built themselves on this category. Amazon, Alibaba, JD.com, Tokopedia, and Vipshop are some of the global examples. In India some of the key general merchandise companies are Flipkart, Snapdeal, Amazon India, Paytm and Shopclues.
Fashion/apparel is the category that makes money and hence is a critical category for general merchandise and vertical specific companies. For Alibaba, this category is 30%-plus of its total GMV, thus exemplifying its importance. In India, online penetration in apparel/fashion was 4.5% in 2014, and online sales in this category grew 218% YoY. Penetration remains significantly lower than in China where it was around 30% in 2013. We expect online sales of apparel/fashion to touch US$37.8bn by 2020, translating to a 55% CAGR (2014-20), with 10 India Technology | February 12, 2016 online penetration of 30.3%. From a profitability standpoint, vertical leaders, such as ASOS and Zalando in Europe, generate 45-50% gross margins, while operating margins for Zalando, for example, have trended from - 11% in 2011 to 4% in 2014 as better scale helped absorb fulfillment and marketing costs. Most of the key fashion start-ups globally, such as Zalando, GFG, VANCL, and ASOS, have generated wealth for their investors, and in India some of the emerging names are Myntra (part of Flipkart), Jabong, Yepme, Voonik, and Limeroad.
With respect to grocery, our global internet team expects a big increase in online adoption in 2016. As per our 4-Jan-2016 AlphaWise survey (see AlphaWise eCommerce Survey: Here Comes Online Grocery), the team expects the largest increase in online shopper adoption for the grocery category in 2016, rising to 34% (from 21%) globally and to 26% (from 8%) in the US. In Europe, online grocery is already mainstream in the UK (6% market share) and France (>5%) and is still growing strongly, compared with overall grocery markets which are growing at less than 2% annually. We expect a similar pattern in India where the internet will make grocery shopping more convenient. Online penetration was 0.03% in 2014, but we expect this to increase to 2.9% in 2020, partly led by the large general merchandise players also entering this category. From a profitability standpoint, Ocado (the UK's largest online retailer) generated a 32% gross margin in 1H15 and a contribution margin of 10.6%. BigBasket, India's largest online grocery retailer, generated a gross margin of 19.5% and a contribution margin of -4%. It aims to grow gross margins to 25-26% and contribution margins to 10%.
Food takeout/delivery is another promising space within the overall consumption theme. Food takeout had only a 3% share in India in 2014 as against 15-20% in the UK/China. Online penetration within the takeout segment was only 2% in India while it was 20-30% in China/UK/Canada. Hence, we believe the online food aggregation business can grow from almost nothing in 2014 to US$4.4bn in 2020, implying a 134% CAGR. Take rates for global examples such as GrubHub are 13-15%, and adjusted operating margins have been around 30%. Also, Just East reported 2014 EBITDA margins of 40% in the UK and Canada, but consolidated EBITDA margins were lower, at 21%, because of launches in new geographies.
Globally, food delivery and grocery start-ups have been great wealth creators for investors, with three of the top five wealth creators from these categories and Instacart topping the list. Several start-ups, such as BigBasket, ZopNow, Grofers, Peppertap, Zomato Order, and Swiggy, have emerged in India over the past few quarters.
Furniture and home furnishing is a niche category with high margins. We see some of the large general merchandise companies making a push into this category amid a largely unorganized and fragmented offline market, smaller vertically focused companies, and a large addressable market. Profitability in this category is attractive, with Wayfair in the US targeting gross margins of 25-27% and operating margins of 8-10% in the long term. Interestingly, there are few category-specific companies in this category globally. Houzz and Home24 have been the key wealth generators globally. In India, the key niche companies include Pepperfry and Urban Ladder.
Challenges and risks
Although low online penetration presents significant opportunities, there are bound to be some obstacles along the way. Regulations are likely to remain centre stage, especially with respect to foreign direct investment (FDI) in multibrand retail. Some of the large eCommerce companies have adopted the marketplace model to be in sync with these regulations. However, in Dec-2015, the Department of Industrial Policy and Promotion (DIPP) stated that any violation of FDI rules needs to be taken up under the Foreign Exchange Management Act (FEMA). Implementation of new taxes (such as the value-added tax proposed by the states of Karnataka, Uttar Pradesh, Kerala, and Delhi) can further complicate matters and increase the compliance burden of companies. The eCommerce tax introduced by the state of Jharkhand, if followed by other states, could also present significant challenges.
Competition from international companies with deep pockets and considerable business experience will put pressure on homegrown entrepreneurs. Most successful Indian start-ups have been able to attract global VC/PE funds so far, but any slowdown because of global economic conditions could significantly affect the growth and valuations of these companies.
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Mapping the Global Online Retail Space for Key Categories and Companies
Amazon started off in 1995 by selling books online and eventually moved into categories such as music, electronics, kitchen, apparel, and health and personal care. We believe the evolution of eCommerce in India is following the same path. Flipkart started selling books online in 2007, launched music and mobiles in 2010, and has gradually built up the selection of products across other key categories, such as fashion/apparel, and now furniture and grocery.
Based on data from Statista and eMarketer, the share of computers and consumer electronics in the US eCommerce market in 2014 was 22%, while the share of apparel and accessories was 17%. Together these two categories accounted for 38% of the US online retail market. The largest categories for Alibaba (Tmall and Taobao) are apparel & footwear (33-34% of 2014 GMV), electronics & home appliances (15-19% of GMV) and home furnishings (10-11% of GMV). At a total GMV size of US$274bn in 2013, we believe a near 60% exposure to these three categories would be very large. In India, we estimate electronics (including consumer electronics and consumer appliances) and fashion (apparel, accessories) accounted for 80-85% of the online retail market in 2014 and that by 2020 these two categories will remain dominant and account for about 70%. Hence, we believe the general merchandise and fashion/apparel companies usually attract the most demand in the early years of the online shift.
Online penetration of grocery is low, at 2% in the US and <1% in Europe (in 2014). In India it is even lower, at 0.1%, but given that total retail spending on grocery in 2015 was US$320bn in India, the opportunity looks large.
Exhibit 12: Amazon's category expansion in the US
Source: Company data
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Exhibit 13: Alibaba: GMV breakdown, by category (2014)
Source: Company data, Morgan Stanley Estimates
Exhibit 14: Most downloaded retail apps in India for iOS and Android (12 months to January 31, 2016)
Source: Sensor Tow er, Morgan Stanley Research
Exhibit 15: Key global eCommerce companies, 2016
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Category US China India Europe Others General Amazon Alibaba Flipkart Cnova Rakuten (Japan) Merchandise ebay JD.com Snapdeal Tokopedia (Indonesia) Jet Vipshop Amazon Coupang (South Korea) Etsy Dangdang Paytm Lazada (SE Asia) Groupon PChome Online Inc. Shopclues Mercadolibre (Latin America) Koudai B2W Companhia Digital (Latin America) Linio (Latin America) Jumia (Nigeria) Fashion Justfab Vancl.com Myntra (Flipkart) Zalando GFG (Emerging markets) Meilishuo Jabong Asos Craftsvilla Yoox Yepme Boohoo Voonik Farfetch Limeroad Furniture Wayfair Pepperfry Home24 Houzz Urban Ladder Westwing FabFurnish Homelane Livspace Grocery Instacart Alibaba BigBasket Ocado Redmart (Singapore) Blue Apron Yihaodian Localbanya (Walmart) FreshDirect Fields China Zopnow Peapod Grofers Amazon Fresh Peppertap Google Express Food delivery Grubhub Ele.me Zomato Delivery Hero DoorDash Meituan-Dianping Foodpanda Just Eat Postmates Baidu Wamai Swiggy Deliveroo Yelp (East24) Taodiandian/Koube Tinyowl Foodpanda i.com (Alibaba) Spoonjoy e-takeaway Holachef Hellocurry Ola Café
Source: Morgan Stanley Research
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Exhibit 16: Global private internet companies that have each raised more than US$1bn. Taxi services, eCommerce and food are the key categories
Source: W SJ, Techcrunch, Morgan Stanley Research. Data as of Jan-2016. O verall Indian internet market to be US$159bn by 2020
Exhibit 17: India's total internet market could reach US$159bn by 2020, implying a 45% CAGR, 2014-20
Source: Euromonitor, Company data, Morgan Stanley Research estimates (e).
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Venture Capital/Private Equity Activity Remains Robust
VC/PE activity was up in 2015, with total fundraising of U$6.6bn in India versus US$4.4bn in 2014. This indicates that interest levels in the Indian internet industry remain high and investors are generally positive on available opportunities, entrepreneurial strength, and the execution capabilities of teams. While eCommerce still received the maximum dollars, aggregating US$2.26bn (US$3bn in 2014), its share of total inflows halved, from 68% in 2014 to 34% in 2015. Significant shifts were witnessed for payments, travel & taxis, and logistics; the cumulative share for these categories of total fundraising increased from 12% in 2014 to 44% in 2015.
There were more fundraisings in 2015 but at a smaller size (225 rounds with an average size of US$30mn ) than in 2014, for which we counted 71 rounds at an average size of US$60mn. This may show that the market is broadening and that more early-stage start-ups are also attracting funding.
However, there have been signs of a potential slowdown in funding activity. We believe this is a global phenomenon and not specific to India. Having said that, in January 2016, there was US$329mn of new fundraising in India (up 135% QoQ and 33% YoY), and this activity could continue through the year if execution remains strong, thus dispelling risks of a potential slowdown. Also, listed internet stocks in China, the US, and Europe (excluding social media, search and gaming), on the whole, delivered a 17% return in 2015, with US stocks up 43% and Chinese stocks down 8%. As a result, we believe investors may continue to look for wealth-creation opportunities across geographies (including India).
In 2015, there was heightened fundraising activity in the fields of logistics, payment solutions, and taxi/auto aggregators. In 2014, the bulk of activity was in eCommerce and classifieds. We were anticipating this, as the development of this ecosystem is critical to the success of the overall internet market.
'SPOF' (an acronym we introduced for the four large internet companies in India in terms of market cap based on the last funding round – S for Snapdeal, P for Paytm, O for Ola Cabs and F for Flipkart) raised large rounds in 2015 as well (US$3bn, similar to in 2014), though their dominance came off substantially, accounting for 45% of fundraising, as against 69% in 2014. This was predominantly a result of lower funds raised by Flipkart and Snapdeal, which had already raised large sums in 2014. Ola and Paytm took over the mantle in 2015, raising US$1.8bn versus US$0.25bn in 2014. ANT Financial (the financial arm of Alibaba) was the investor in Paytm, marking its entry into the Indian internet space.
Some new companies and business models emerged in 2015. Budget hotel aggregators, such as OYO Rooms and Zo Rooms, raised about US$180mn. Hyperlocal logistics companies, such as Grofers and Peppertap, raised about US$200mn. On-demand home services companies, such as UrbanClap, Housejoy and Zimmber, raised roughly US$80mn.
Despite the high levels of deal activity in the Indian internet space, we also saw some consolidation and shutdowns/rationalization. Some prominent examples of consolidation were Carwaale/Cartrade (auto classifieds), Commonfloor/Quikr (real estate classifieds), Taxiforsure/Ola Cabs (taxi aggregators), and Freecharge/Snapdeal (online recharges). Some companies, such as TinyOwl (food delivery) and LocalBanya (online grocery), shut down part or all of their operations. While some of these actions could have been a result of an inability to raise new funds, we believe these are healthy developments, as they should help investors identify the dominant companies as the landscape evolves.
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Exhibit 18: eCommerce, travel/taxis and payments received the majority of funding in 2015 (US$mn)
Source: Economic Times, VC Circle, Inc42.com, Crunchbase, company data, Morgan Stanley Research
Exhibit 19: General merchandise steals the show within eCommerce (Jan-2014 to Dec-2015)
Source: Economic Times, VC Circle, Inc42.com, Crunchbase, company data, Morgan Stanley Research
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Exhibit 20: Concentration of funds within general merchandise was lower in 2015 than in 2014 (US$mn)
Source: Economic Times, VC Circle, Inc42.com, Crunchbase, company data, Morgan Stanley Research
Exhibit 21: Activity in classifieds has been more broad-based (Jan-2014 to Dec-2015)
Source: Economic Times, VC Circle, Inc42.com, Crunchbase, company data, Morgan Stanley Research
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Exhibit 22: Real estate had a significant drop in new funds in 2015; local search start-ups were a new trend; financial product comparison companies and auto classifieds had more activity (US$mn)
Source: Economic Times, VC Circle, Inc42.com, Crunchbase, company data, Morgan Stanley Research
Exhibit 23: SPOF and Quikr are the top five recipients of VC/PE money (from inception through Dec-2015) within the unlisted space (US$mn)
Source: Economic Times, VC Circle, Inc42.com, Crunchbase, company data, Morgan Stanley Research
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Exhibit 24: Within SPOF, Ola and Paytm were key fundraisers in 2015; 2014 was a big year for Flipkart and Snapdeal in terms of new funds raised (US$ mn)
Source: Economic Times, VC Circle, Inc42.com, Crunchbase, company data, Morgan Stanley Research
Exhibit 25: Segments in which VC/PE companies have invested
Source: Economic Times, VC Circle, Inc42.com, Crunchbase, company data, Morgan Stanley Research
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Millennials Set to Drive Internet Penetration and the Online Shift
Internet user numbers are rising rapidly in India on the back of faster smartphone adoption – from 17% internet penetration in 2013, it rose to 24% in 2014 and 31% at the end of 2015, we estimate. Despite the rapid progress, internet penetration was still low relative to the 49% in China, 63% in Russia and 80%+ in the developed markets of Japan, US, Germany, and UK as of 2014.
Smartphone shipments are now 38% of total phone shipments in India, and that is almost entirely going to new internet users. We expect smartphone shipments to increase to 240mn by 2020, and internet user numbers to reach 790mn, translating to an internet penetration of 57%. With India bearing the largest population of millennials globally (over 200mn), adoption of technology will be natural and an imperative. This should disrupt shopping habits, spurring eCommerce GMV to grow from US$7.1bn in 2014 to US$119bn in 2020.
Total online retail sales in 2014 in India were US$7.1bn, we estimate, up 146% YoY. Online penetration in the overall retail market increased from 0.6% in 2013 to 1.3% in 2014, signifying the potential of online retail in the country. According to KPMG, the total retail market in India is likely to grow to US$1tn by 2020, and we estimate total online sales could grow to US$119bn, implying online penetration of 11%. Interestingly, online penetration in total retail sales in China in 2014 was 12%.
This should make India the fastest-growing eCommerce market globally through 2020, and the key factors contributing to this growth, in our view, will be: 1. Growth in internet penetration. Although this is a very recent phenomenon in India, it is catching up quickly. From an internet base of 150mn at the end of 2012, it touched 402mn by the end of 2015, almost tripling penetration levels. As per our global technology analysts, 20% penetration is a very strong inflection point in the technology world, and India crossed the 20% mark sometime in 2014. The share of smartphones in total phone shipments has risen from 7% in 2012 to 38% currently. Based on these strong undercurrents, we have increased our estimate of total internet user numbers in India by 2020 from 602mn to 790mn, translating to an internet penetration rate of 57%, slowly closing the gap with China, which we expect to be at 64% then. 2. Online shopping to get wider before it gets deeper. Total online shopper numbers in India (using Flipkart's registered customers as a proxy) as a percentage of internet users remained low, at 12% in 2015. Based on our AlphaWise Survey (Decoding What India Does on the Internet, dated February 4, 2015), we note that adoption of online shopping jumps the longer users are on the internet – from 10% for less than two years of use to >40% for a user of five-plus years. We could begin to see this inflection point in 2017 as internet users who were added in 2012 and beyond would have been on the internet for five years or more by then. As a corollary, Alibaba's active buyers as a percentage of total internet users in China has doubled from 28% to 54% in the past few years, cementing its dominance. We expect online shopper penetration to reach 20% levels by 2017, which could be a turning point for eCommerce in India. 3. Increase in per capita income growth and an emerging middle class. Per capita income in India as per the World Bank was US$1,570 in 2014. Although overall per capita income could more than double by 2025, we believe this masks the real picture. As per Euromonitor, 53% of households in India in 2015 had per capita incomes in excess of US$5,000. Based on this, online spend as a percentage of per capita income was only 5% as against China, where online spend 21 India Technology | February 12, 2016
of US$1,175 in 2014 was 15% of per capita income for middle class families and above. This suggests that there is ample scope for growth in India and that the emerging middle class should lead overall consumption.
Exhibit 26: India's internet penetration is low…
Source: CNNIC, IDC, Forrester, IAMAI, Morgan Stanley Research. Data as of 2014.
Exhibit 27: …naturally leading to low eCommerce penetration
Source: IDC, Forrester, Euromonitor, Morgan Stanley Research. Data as of 2014.
22 India Technology | February 12, 2016
Exhibit 28: India has the largest number of millennials, at 208.5mn. This is 16.5% of its total population (2014).
Source: Euromonitor, Morgan Stanley Research. Millennials defined as individuals aged 25-34.
Exhibit 29: Rural users now constitute 33% of total internet users in India versus 8% in 2009
Source: IAMAI, Morgan Stanley Research; E=Morgan Stanley Research estimates.
23 India Technology | February 12, 2016
Exhibit 30: Share of smartphones in total phone shipments in India has increased
Source: IDC, Morgan Stanley Research
Exhibit 31: Alibaba vs. Flipkart: Active buyers/registered customers as percentage of total internet users
Source: Company data , Economic Times, Morgan Stanley Research. Note: 2015 data for Alibaba is as of September 2015.
24 India Technology | February 12, 2016
Exhibit 32: Online buyer penetration in India to Exhibit 33: India eCommerce as a percentage of reach 40% by 2020, which is where China was in retail reaches a level in 2020 similar to that of 2012 (%) China in 2014
Source: IDC, CNNIC, IAMAI, Morgan Stanley Research, e=Morgan Source: CNNIC, Euromonitor, CEIC, Morgan Stanley Research. Stanley Research estimates e=Morgan Stanley Research estimates
Exhibit 34: Online spending per online shopper will continue to rise (US$)
Source: CNNIC, Euromonitor, CEIC, Morgan Stanley Research; e=Morgan Stanley Research estimates
25 India Technology | February 12, 2016
Exhibit 35: eCommerce market growth, 2014-18e
Source: Forrester, Morgan Stanley Research; e= Morgan Stanley Research estimates K ey categories and companies
In the Indian eCommerce space, electronics and fashion/apparel accounted for 86% of GMV in 2014. We believe the concentration in these categories is natural in the evolution of eCommerce, and over the next few years we should see other categories begin to gain more traction. We believe electronics and fashion/apparel will remain the largest categories in 2020, as well, given that online penetration in 2014 was low, at about 3-5% in these categories. By 2020, we expect online penetration in these two categories to grow to 25-30%, which is where China was in 2012/13. As a result, these two categories would then account for 74% of eCommerce GMV.
Food and grocery is an important category, as it accounted for >50% of the retail market in 2014. Online penetration in 2014 was only 0.03%; however, we expect this to reach 3% by 2020. As a result, food and grocery would be the fastest-growing category (141% CAGR) and account for 12.5% of GMV then.
Snapdeal has talked about addressing the entire consumption pie and not just the total retail market. This means that the total addressable market (TAM) may not just be the total retail market of around US$1trn but could be US$1.75trn, which would be almost 60% of GDP then. In their view, the online opportunity could be substantial if 10% of this overall consumption pie moves online by 2020. As a result, we include the food ordering/takeaway market in our analysis this time. The total market for this category was US$1.6bn in 2014, and it is growing 50% annually. Online food aggregation in 2014 was a very small market, at less than US$30mn, translating to online penetration of 1.7%. However, we expect strong growth in this category (a 134% CAGR, 2014-20), and we estimate online penetration of 25% by 2020, resulting in an online food aggregation market of US$4.4bn.
The eCommerce market was dominated by the three large general merchandise companies in 2015, with a combined market share of 83%. Flipkart (including Myntra) maintained its #1 position with a 45% market share, followed by Snapdeal (ex-Freecharge) at 26% and Amazon India at 12%. Indeed, we now need to include Paytm, which had a 7% share in 2014 and maintained that in 2015. It will be interesting to see how these market shares play out in 2016, as Snapdeal, Amazon and Paytm have all raised their competitve intensity to close the gap with Flipkart. As Amazon India's head, Amit Agarwal, put it (on 5-June-2015), "We believe growth is at an inflection point and there is a tremendous opportunity. There is room for multiple formats, and players." Vijay Shekhar Sharma of Paytm laid out his growth roadmap (on 12-August-2015) with the following, "It is going to be a three-step journey for us. First being the focus on pay, then on spend and then on save. So when you pay, then it is a payment platform, and when you spend, it is a shopping platform and then when you save, you are doing the financial services product. So right now the focus is on the first two lines of business and in a few years down 26 India Technology | February 12, 2016 the line, we will focus on the third line of services as well."
Exhibit 36: India: Breakdown of eCommerce market (2014)
Source: Euromonitor, Morgan Stanley Research
Exhibit 37: Key categories of Indian eCommerce and online penetration (US$bn, %)
Source: Euromonitor, Morgan Stanley Research; e=Morgan Stanley Research estimates
27 India Technology | February 12, 2016
Exhibit 38: Electronics: India to reach a Exhibit 39: Fashion: India to reach a penetration penetration rate in 2020 where China was in rate in 2020 where China was in 2013 2012
Source: Euromonitor, Morgan Stanley Research. e=Morgan Stanley Source: Euromonitor, Morgan Stanley Research. e=Morgan Stanley Research estimates Research estimates
Exhibit 40: Top 4 companies participating in India's eCommerce space accounted for 90% of GMV in 2015
Source: Economic Times, company data, Inc42.com, Morgan Stanley Research
28 India Technology | February 12, 2016
Exhibit 41: GMV of the top three eCommerce companies is already more than that of the top 5/10 offline retailers in 2015 (US$ bn)
Source: Company data, Euromonitor, Morgan Stanley Research Exhibit 42: Key metrics of large Indian general merchandise players
Source: Company data, Economic Times, VC Circle, Inc42.com, Morgan Stanley Research. #: Not available, NA: Not applicable, *: For the overall Paytm platform; other metrics are only for their eCommerce business (marketplace); Note: Latest available metrics as disclosed by companies over past six months.
29 India Technology | February 12, 2016
Electronics – The Traffic Acquirer
Electronics is likely to emerge as the largest category in Indian online retail. Online sales of mobiles, tablets, televisions, consumer electronics, accessories, etc, were US$1.5bn in 2013 and grew by 125%, to US$3.4bn, in 2014; online penetration in the category moved from 1.6% to 3.3%. By 2020, we expect online penetration in this category to increase to 25%, with online sales of US$50.7bn. In China, online penetration in this category was 30% in 2013 (B2C+C2C).
Although electronics as a category comes with thin margins, we believe it is critical to start the flow of user traffic, which can then percolate to other more profitable categories as the online experience matures. General merchandise companies, such as JD.com, have pioneered in this category and have generated significant returns for their investors.
There is little doubt that electronics is likely to remain the dominant category online, while fashion/apparel will be the fastest growing and most profitable. One of the key reasons for electronics being the first to grow is because it is a structured category – from a customer's perspective, the only moving variables are price and delivery time, not 'touch and feel', product details/specifications, and quality of product. Online retailers have tried to use this category to bring users onto the online platform by providing significant discounts, and we expect this to continue as the total online shopper population remains small compared with overall internet user numbers in India and the ratio in China.
Electronics dominates GMVs for the top horizontal companies in India. Snapdeal expects electronics to constitute 50% of its GMV in 2015, which would translate to category growth of 99% YoY. In the October 2015 online festive sale, Flipkart sold merchandise worth US$300mn (vs. US$120mn in the previous year), out of which mobiles contributed US$200mn. In its one-day electronics sale, Snapdeal sold goods with a GMV of US$100mn. For Amazon India, Day 3 was its biggest day ever in the mobile phone category – 3x the growth over the previous biggest day. The top-selling electronic items in India in 2015 were smartphones/tablets, flash drives/SD cards, accessories, and networking equipment.
Interestingly, JD.com's GMV in 2011 was heavily exposed to electronics, with 80% of it coming from this category alone. But this came down to a little over 50% in 2014. We expect a similar shift in Indian online retail as well – electronics accounted for 52% of online retail sales in 2013, then 48% in 2014. We do expect the category to continue to grow at a 57% CAGR through 2014-20, as penetration is still more than five years behind that in China.
The other key trend to note is that demand is not just coming from tier-one cities, but it is also incrementally coming from tier-two and below cities as internet penetration improves with the proliferation of smartphones and mobile devices. Shopclues gets almost 65% of its GMV from tier-two and three cities, while the average for the industry is about 35-45%. To tap into this growing demand base, some internet companies are exploring the O2O (online to offline) model. Flipkart, for example, is working on an assisted eCommerce model that will be available, at first, only for mobile phones. The company has joined hands with Spice Hotspot where consumers can touch and feel the product, and then the order can be placed on the Flipkart app by an employee of Spice. Furthermore, delivery of the product can be taken at home or in the same store. This move is akin to Amazon's strategy in the US, where it opened its first physical book store in Seattle in November 2015.
Finally, the marketplace model is becoming more rooted in India. It helps scale up faster with more sellers onboarding the platform and customers getting access to a variety of products. This is obviously resulting in the range and complexity of technology being upgraded aggressively. Flipkart is now taking rapid strides in increasing its marketplace exposure. Snapdeal has seen the number of sellers on its platform increase from 100,000 in 2014 to 250,000 in 2015, and it plans to take it to 1mn in another three years. Given the success of 30 India Technology | February 12, 2016
Alibaba in China, some Indian companies will try to implement a similar strategy in India, we believe.
Exhibit 43: Electronics online penetration: India still has a long way to go to catch up with China (2014)
Source: Euromonitor, Morgan Stanley Research. Note: *2013 data for China including C2C.
Exhibit 44: Electronics was a dominant category in the October 2015 online festive sale
Source: Company data, Economic Times, Morgan Stanley Research. * For one-day electronics sale.
31 India Technology | February 12, 2016
Exhibit 45: JD.com: Proportion of electronics in overall GMV/revenue has fallen; gross margins have improved
Source: Company data
Exhibit 46: Google Trends: Top general merchandise companies in India
Source: Google Trends C ategory helps drive traffic, not profitability
Smartphones and electronics are thin-margin categories, though accessories may help in improving that somewhat. Hence, the critical role played by the category is to drive user traffic. eCommerce companies have 32 India Technology | February 12, 2016 mentioned that take rates in the electronics category vary between 2% and 7%, which seems to corroborate well with gross margins made by JD.com in the years when the bulk of its GMV was electronics. However, as the proportion of general merchandise increased, JD's gross margins improved by about 150bps through 2014.
Scale of the business also helps in improving profitability. JD.com's operating margins (ex. stock-based compensation) improved from -4% in 2011 to break-even in 2015 because of an improvement in gross margins (as explained above) and lower fulfillment expenses.
Kunal Bahl of Snapdeal put it simply (on 23-Feb-2015), "Alibaba turned profitable in the eleventh year after its inception and now generates over US$5bn in EBITDA. Given our business model is similar to Alibaba's and has the same operating leverage as their business, we believe once our investments in technology and logistics infrastructure reach a satisfactory equilibrium, we should become the most profitable eCommerce company in India."
Exhibit 47: JD.com: Fulfillment expense (ex-SBC) as percentage of GMV has declined from 4.5% in 2011 to 3% currently. This helped achieve operating profit break-even.
Source: Company data, Morgan Stanley Research; e = Morgan Stanley Research estimates
33 India Technology | February 12, 2016
Exhibit 48: JD.com has increased warehousing capacity significantly. Warehousing capacity of Flipkart, Snapdeal and Amazon India combined today is less than what JD's was in 2011 ('000 sq metres)
Source: Company data, Morgan Stanley Research; e = Morgan Stanley Research estimates. Note: India top 3 is Flipkart, Snapdeal, and Amazon India. W hat makes money?
Most of the large general merchandise companies in each country/region have delivered strong returns, barring companies in LatAm where economic conditions and currency volatility may have played a larger role in recent months. In terms of annual wealth contribution, Amazon, Alibaba, and JD.com have generated significant returns for their investors.
Softbank was an early investor in Alibaba and Tokopedia, and Tiger was an early investor in JD.com. In India, Softbank has invested in Snapdeal while Tiger has invested in Flipkart and Shopclues.
34 India Technology | February 12, 2016
Exhibit 49: Compounded returns provided by global general merchandise internet companies (ex-India)
Source: W all Street Journal (W SJ), Bloomberg, Crunchbase, e27, company data, Morgan Stanley Research. To calculate CAGR of returns, the numerator is market capitalization for listed companies (as of 9-Feb-2016) or latest available valuation for private companies as disclosed in the media sources quoted above. The denominator is earliest available valuation in a private round as per the media sources quoted above or market cap since listing. *Unlisted companies.
Exhibit 50: Contribution to annual wealth creation among global general merchandise internet companies (ex-India)
Source: W all Street Journal (W SJ), Crunchbase, Your Story, Bloomberg, Morgan Stanley Research. Calculated by taking difference of current market cap (as of 9-Feb-2016)/valuation in latest funding round as per media sources quoted above less valuation at the earliest available date as per the media sources quoted above divided by the number of years.
35 India Technology | February 12, 2016
Exhibit 51: Investments made by global investors in global and Indian start-ups
Source: W SJ, Crunchbase, Your Story, Bloomberg, Morgan Stanley Research. Highlights in green represent early-stage investments.
Exhibit 52: Globally, eCommerce companies trade at 0.4-2x EV/GMV (CY2015/FY2016)
Source: Bloomberg, Company data, Morgan Stanley Research. GMV and EBITDA is for C2015/F2016 and EV/GMV is based on 2015 GMV. All estimates are Morgan Stanley Research estimates
36 India Technology | February 12, 2016
Fashion/Apparel – The Profitable Category
"Fashion makes money" is what Sachin Bansal of Flipkart said i n a forum in October 2014. Fashion is likely to be the second-largest category online after electronics, but from a profitability standpoint it could be the single largest opportunity for all eCommerce companies, in our view. Take rates are high, working capital is usually negative, velocity of orders could be strong, and companies can create a niche of their own through private labels.
Online penetration of apparel/fashion in India was 4.5% in 2014, and sales in this category grew 218% YoY. Penetration remains significantly lower than in China, where it was about 30% in 2013. We expect online sales of apparel/fashion to reach US$37.8bn by 2020, translating to a CAGR of 55% (2014-20) and online penetration of 30.3%. In addition to this, the online luxury market, too, could open up; this is almost absent currently. This could be another opportunity for companies, as the TAM is US$15bn.
Fashion/apparel is a key online retail category, accounting for >30% of GMV on Taobao and Tmall. For some of the Indian companies, such as Snapdeal, the category accounts for 65% of orders and about 35% of GMV. For Flipkart, this category accounts for 25% of GMV, while Amazon India made a big splash around its entry into fashion in October 2014.
We believe assortment (relevance of the brand), positioning of the brand and delivery experience are critical strategies to be successful in this category. Myntra and Jabong are the names associated with high-street fashion in India, similar to ASOS and Zalando in Europe. Yepme is for fast fashion while Voonik and Limeroad are for social fashion. In India, the top five fashion brands command 10-20% of sales, while, in the US, that may be as high as 60-70%, according to Shopclues. The last 50% of fashion/apparel sales is highly fragmented in India, spotlighting a very large unorganized market that could benefit from online aggregation.
If one were to analyze search behavior around some of these websites, Google Trends helps identify some interesting developments: a) Jabong has seen some deceleration in interest levels since November 2014. We have also seen price discounting abating to some extent. b) Interestingly, Myntra, too, has had a significant drop-off since March 2015. However, the company had switched to an app-only strategy, as a result of which Google searches would have gone down as the site could not be accessed through a PC or mobile website. c) Yepme's business model is somewhat similar to that of Boohoo in Europe. Boohoo designs, sources, markets and sells own-brand clothing, shoes, and accessories to 14-35 year old consumers in the UK and globally. Similarly, Yepme is currently involved in men's and women's clothing, footwear, and accessories and plans to enter the fields of innerwear, ethnic wear, and sportswear at some point. d) Craftsvilla has recently had a surge in search activity after it raised US$34mn from Sequoia, Lightspeed and others. The start-up is a handicraft marketplace to connect local artisans and designers with customers.
Flipkart (including Myntra) had the largest market share, at 35% in India's 2014 online fashion market. Snapdeal was the second largest, with a 25% share, followed by Paytm's 12%. We estimate Amazon's share in the online fashion market was small, at 4% in 2014, but we expect this to improve given its big push into the category from October 2014 onwards.
Snapdeal entered India's US$15bn luxury fashion and apparel market in February 2015 by acquiring a site 37 India Technology | February 12, 2016 called Exclusively.com that sells luxury and lifestyle products. Exclusively.com brings in a select range of high- end products by more than 100 designers and brands across the world and this will be expanded 2-3x over the next few months, according to the company. Snapdeal expects US$100mn GMV from Exclusively.com in 2015 and US$1bn annually within three years. In China, Secoo is the largest upscale lifestyle retailer. Its customer base can be categorised into: a) traditional core luxury customers who are 30 to 55 years old with an average order size of >Rmb10k and one to two orders per year; and b) 20 to 30 year olds with average order size of Rmb2-3k and one order per month, on average. It gets 60-65% of its GMV from bags and watches and expects GMV of >US$1bn in 2016.
Exhibit 53: Online penetration in fashion/apparel (2014)
Source: Euromonitor, Morgan Stanley Research. Note: *2013 data for China including C2C.
Exhibit 54: Google Trends: Top fashion/apparel e-tailers in India
Source: Google Trends
38 India Technology | February 12, 2016
Exhibit 55: Market share of e-tailers in fashion/apparel (2014)
Source: Company data, Economic Times, Inc42.com, VC Circle, Morgan Stanley Research
Exhibit 56: Key metrics across Indian fashion e-tailers
Source: Company data, Economic Times, VC Circle, Inc42.com, Morgan Stanley Research. #: Not available, NA: Not applicable; Note: Latest available metrics as disclosed by companies over past six months.
39 India Technology | February 12, 2016
Exhibit 57: Mobile traffic for major fashion and general merchandise players
Source: Company data, media releases, Morgan Stanley Research. Data as of 2015.
We believe GMV growth can be categorized as follows:
1) Increase in active customers;
2) Increase in order velocity per active customer; and
3) Increase in basket size resulting in higher value per order.
We saw, in the case of Zalando, that two-thirds of the increase in GMV/revenue from 2011 to 2014 was on account of the increase in the number of active customers. Almost 80% of the increase in the number of orders in the year were on account of a larger number of customers actively shopping on the site. In our view, this bodes extremely well for Indian online fashion companies, as the percentage of online shoppers to total internet users is just 12% in India, versus 63% in China in 2015. We expect this percentage to rise to 40% in India by 2020 and as a result, we expect a significant jump in the online buying population, which should lead to higher GMV for the fashion companies.
Exhibit 58: Number of orders in 2014 (in mn) Exhibit 59: Average basket size in 2014 (US$)
Source: Company data, Economic Times, Morgan Stanley Research Source: Company data, Economic Times, Morgan Stanley Research
40 India Technology | February 12, 2016
G ross margins can be significantly high
The beauty about this category is that it is large, fast-growing, and very profitable. Gross margins of global fashion companies, such as Asos, Zalando and Yoox, range between 35% and 50%. In contrast, for electronics, for example, margins are less than 7%. A higher mix of private labels can boost take rates as they come with 60% gross margins. Private labels account for about 10-20% of GMV for Myntra and Jabong. But it is important to keep in mind that both Myntra and Jabong are under pressure currently because of discounting to gain traffic share. In 9M2015, Jabong reported a -10% gross margin and -51.4% adjusted EBITDA margin.
Zalando's EBITDA margins were -11% in 2011 because of high fulfillment and marketing costs. Despite some contraction in gross margins in 2013, the EBITDA margin improved because of lower fulfillment and marketing costs. The company reported positive EBITDA of 4% in 2014 aided by higher gross margin and further rationalization in fulfillment and marketing costs.
Exhibit 60: Gross margins at global fashion companies
Source: Company data, Morgan Stanley Research; e = Morgan Stanley Research estimates
41 India Technology | February 12, 2016
Exhibit 61: Zalando: Improvement in EBITDA margins has come through rationalization of marketing costs followed by fulfillment costs (% of sales)
Source: Company data, Morgan Stanley Research. e = Morgan Stanley Research estimates W hat makes money?
Most of the key fashion start-ups seem to have delivered value to their investors. We believe the low online penetration in India and the potential for high margins (as evidenced by the global companies) suggests that this can be a large and profitable category in India over the next five years.
Sequoia has been an active investor in this space – it has invested in Meilishuo and Jumei globally, while in India it was an early investor in Craftsvilla and has also invested in Freecultr, Fashionandyou and Voonik. Tiger was an early investor in VANCL globally and has invested in Zovi, Limeroad, Roposo and Myntra in India.
42 India Technology | February 12, 2016
Exhibit 62: Compounded returns provided by global fashion internet companies (ex-India)
Source: W all Street Journal (W SJ), Bloomberg, Crunchbase, e27, Company data, Morgan Stanley Research. To calculate CAGR of returns, the numerator is market capitalization for listed companies (as of 9-Feb-2016) or latest available valuation for private companies as disclosed in the media sources quoted above. The denominator is earliest available valuation in a private round as per the media sources quoted above or market cap since listing. *Unlisted companies.
Exhibit 63: Contribution to annual wealth creation among global fashion internet companies (ex-India)
Source: W all Street Journal (W SJ), Crunchbase, Your Story, Bloomberg, Morgan Stanley Research. Calculated by taking difference of current market cap (as of 9-Feb-2016)/valuation in latest funding round as per media sources quoted above less valuation at the earliest available date as per the media sources quoted above divided by the number of years.
43 India Technology | February 12, 2016
Exhibit 64: Investments made by global investors in global and Indian start-ups
Source: W SJ, Crunchbase, Your Story, Bloomberg, Morgan Stanley Research. Highlights in green represent early stage investments.
Exhibit 65: Asos: EV/S multiples are higher than those of the general merchandise companies because of better profitability
Source: Bloomberg, Company data, Morgan Stanley Research. E = Morgan Stanley Research estimates
44 India Technology | February 12, 2016
Grocery and Food Delivery – The Next Big Thing
Food and groceries globally is expected to generate US$100bn of GMV online in 2015, as per IGD (Institute of Grocery Distribution) forecasts. Our global internet team believes that grocery represents the next big opportunity for eCommerce globally, given that penetration levels remain low, at 2%. Similarly, in our view, the global food delivery market GMV was over US$150bn in 2015, with an online penetration of 20%.
In India, grocery and fresh produce was the largest component of total retail spending, at ~50% in 2014. Online penetration was just about 0.03%, suggesting the infancy of this category and its potential opportunity. The food delivery business was US$2bn, with an online penetration rate of 1.7%. We estimate the grocery and food delivery market will reach an online penetration rate of 4% by 2020, touching GMV of US$19bn, making it the largest category after electronics and apparel.
Globally, food delivery and grocery start-ups have been great wealth creators for investors with three of the top five wealth creators from these categories and Instacart topping the list. Several start-ups have emerged in India over the past few quarters; hence, it may take some time for the dominant players to emerge.
Price, convenience and assortment are the three key drivers for the online shift in both grocery and food delivery. In the case of groceries, emerging markets lack adequate brick-and-mortar infrastructure, making online purchasing of a routine activity a lot more convenient. With respect to food takeout/delivery, lifestyle/cuisine changes, rising income levels, and convenience are some of the key drivers for the online shift. The US is the largest market for food delivery, followed by the UK and other European countries, such as Italy, Spain and France. India is still behind, since the market started to be organized and aggregated only very recently, and consumers are still adapting to the new way of ordering food.
The key issue with these categories is that there are very low entry barriers. Most new entrants believe that the opportunity is huge and that they understand customer requirements better than incumbents. However, we believe these are among the toughest categories to be in for the following reasons:
1. Customer preferences change quite rapidly, so there has to be a compelling value proposition at all times to improve customer retention rates. Also, scaling up the business may be a challenge, which is critical for achieving favorable unit economics and generating significant network effects.
2. Logistics is the key moat around the business, as timely delivery is probably the single most important variable that can set a company apart from the others. In the case of food delivery, managing decentralized originating sources, timing the production flow of restaurants and providing the food within a scheduled delivery time are key elements of success. And, of course, the perishable nature of the products makes it critical for companies to have strong processes, infrastructure and data-analytic capabilities.
45 India Technology | February 12, 2016
Exhibit 66: Globally, purchase intent points to grocery as the next large eCommerce market opportunity
Source: AlphaW ise, Forrester (Category Grow th Rate), Morgan Stanley Research. Data from our 20-Jan-2015 global AlphaW ise survey.
Exhibit 67: Takeaway as % of food market is as high as 21% in China. Online penetration in the takeaway market is as high as 32% in Canada. The story has just begun in India...
Source: Company data, Euromonitor, Techcrunch, Forbes, Industry Sources, Morgan Stanley Research. Data as of 2013, except for India, w hich is 2014, and UK and China w hich is 2015. Groceries: As per IGD estimates, the UK grocery market is expected to grow at a 2% CAGR over 2015-20. During the same period, online sales are likely to compound at 14% as online penetration increases from 5% to 10%. We estimate that online grocery sales in India can grow from US$0.08bn in 2014 to US$15bn in 2020, 46 India Technology | February 12, 2016 implying a 141% CAGR, which will far outstrip growth in the overall grocery TAM of 10%.
The grocery space in India has seen a minor shake-out over the past 12 months. BigBasket is the leader in the inventory-led grocery model, while ZopNow has pivoted to a marketplace model (partnering with hypermarkets to source products including fashion, books, and other lifestyle products) and LocalBanya has temporarily suspended operations. Some offline players (e.g., Reliance Fresh and Godrej Nature's Basket) have launched omnichannel initiatives, though the scale may not be large at the moment. Within the general merchandise players, Amazon India launched its platform ("Kirana Now"), Flipkart launched its grocery app ("Nearby"), Paytm launched in Bangalore (as "Zip"), and Snapdeal tied up with Godrej Nature's Basket along with making an investment in PepperTap. The hyperlocal logistics companies, such as Grofers, PepperTap and Jugnoo, could be the Instacarts of India, which are on-demand, asset-light companies that thrive on quick delivery cycles (usually a few hours from the time of order).
One of the primary enablers for the growth of online groceries is the fact that Indian cities are a lot denser than those in developed markets. As a result, delivery costs and delivery timelines can be taken down with higher volumes. Further, a greater selection of products can improve the overall buying experience – organized offline retailers may stock 3-5k SKUs, while BigBasket could have >10k SKUs. Furthermore, technology can be leveraged to predict consumer trends, improve inventory turn ratios (BigBasket turns inventory 40x per year versus 7-8x for an offline player) and convert the business into an asset-light one with negative working capital requirements. If one were to compare some key operational metrics between Ocado (UK) and BigBasket, the outcome is interesting – BigBasket had 97.3% on-time delivery in 2014 versus 95.6% for Ocado in 2015; with respect to order accuracy, BigBasket was at 99.1% in 2014 versus 99.3% for Ocado.
Despite the convenience of shopping for groceries online, we believe consumer habits will take some time to change, especially with several vendors and kirana stores available close-by. Scalability of the business is a time- consuming process for the online players, as is evident from the fact that BigBasket is only in 12 cities now and intends to be in 25 by end-March 2016.
Exhibit 68: Funds raised by grocery players in India (US$mn)
Source: Economic Times, Inc42.com, VC Circle, company data, Morgan Stanley Research. Data as of Jan-2016.
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Exhibit 69: Google Trends: Top grocery e-tailers in India
Source: Google Trends
Exhibit 70: Ocado vs BigBasket
Source: Company data, Economic Times, Inc42.com, Morgan Stanley Research
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Exhibit 71: Ocado vs BigBasket: Orders/day Exhibit 72: Ocado vs BigBasket: SKUs
Source: Company data, Economic Times, Inc42.com, Morgan Source: Company data, Economic Times, Inc42.com, Morgan Stanley Research Stanley Research
Exhibit 73: Key metrics for leading grocery start-ups in India
Source: Company data, Economic Times, VC Circle, Inc42.com, Morgan Stanley Research. #: Not available, NA: Not applicable. Note: Latest available metrics as disclosed by companies over past six months. Food takeout/delivery: The on-demand food delivery/aggregation market, too, looks promising, given the low penetration of both food takeout and online penetration in the category in India. As per Euromonitor, the total market for full service restaurants and takeaway in India was US$59bn in 2014, of which takeaway share was only 3%. Compare this to China – the total market size was US$453bn in 2015, and the takeaway market was 21%. Takeaway is big in the UK, as well, with 19% share. Hence, if we assume 20% share going forward, the total takeaway market in India can increase to over US$18bn. Looking at online penetration within that, India was at 2% in 2014, while China was at 22%, UK and Canada the highest, at 32%. We believe online penetration is bound to increase as it is in other areas, and if we assume 25% penetration, online food aggregation can become more than a US$4bn market by 2020 from almost nothing in 2014.
Globally, companies such as GrubHub, Just Eat and Delivery Hero are delivering three meals per second. The velocity is very low in India, as the on-demand business really started picking up in early 2015. We believe the top five online food takeout/delivery companies in India processed ~70,000 orders daily in 2015, 6x the level of the year before. 2015 saw the entry of Zomato in the online ordering business through its Zomato Order offering, while existing players (e.g., Foodpanda, TinyOwl and Swiggy) saw increased traction. Having said that, we believe we have just scratched the surface. Grubhub in the US processes over 228,000 orders daily, growing this metric at a 34% CAGR, 2012-15. Just Eat of the UK has seen a 52% CAGR in its daily orders during the same period, showcasing the massive growth even in developed markets. Foodpanda globally saw a 630% CAGR in
49 India Technology | February 12, 2016 its daily orders, while Delivery Hero witnessed 150% growth over 2013-15. A January 5, 2016 Forbes article indicated that Baidu, too, has seen prolific growth in this segment through its subsidiary 'Baidu Wamai'. It expects GMV to grow from US$1.2bn in 2015 to US$3.8bn in 2016. And Alibaba has invested in Ele.me, which has one of the largest restaurant tie-ups, at 300,000. Zomato Order currently has tie-ups with 12,000 restaurants, highlighting the headroom for growth in the years to come (Exhibit 79). There is a debate globally as to whether the marketplaces should take control of the logistics (as GrubHub is starting to do) or not (as Just Eat does). The marketplace business model, by its very nature, is high-margin and scalable once market dominance is reached. Delivery (1P) adds the obvious cost of transportation and makes the model less flexible and difficult to expand, as it requires a large enough fleet during peak hours. But by offering delivery services, a company can expand its network to even those restaurants that don’t deliver, thereby increasing the TAM. Another variant being applied by some companies is to have third-party (3P) delivery companies provide exclusive services to the marketplace, thereby benefiting from both variability of delivery cost and still maintaining control of the delivery experience.
Exhibit 74: Funds raised by food takeout/delivery players in India (in US$mn)
Source: Company data, Economic Times, VC Circle, Inc42.com, Morgan Stanley Research. Data as of Jan-2016.
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Exhibit 75: Google Trends: Top online food delivery companies in India
Source: Google Trends
Exhibit 76: Key metrics for top food takeout/delivery start-ups in India
Source: Company data, Economic Times, VC Circle, Inc42.com, Morgan Stanley Research. #: Not available, NA: Not applicable. Note: Latest available metrics as disclosed by companies over the past six months. *Applies to Zomato's overall business, w hich includes classifieds.
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Exhibit 77: Orders/day comparison across global Exhibit 78: Avg order value comparison across food takeaway/delivery companies global food takeaway/delivery companies (US$)
Source: Company data, Economic Times, Techcrunch, e27, Source: Company data, Economic Times, Techcrunch, e27, Inc42.com, Morgan Stanley Research. *For global operations of Inc42.com, Morgan Stanley Research. *For global operations of Foodpanda. Foodpanda.
Exhibit 79: Restaurant tie-ups comparison across global food takeaway/delivery companies
Source: Company data, Techcrunch, e27, Economic Times, Inc42.com, Morgan Stanley Research P rofitability
Grocery: Gross margins for Ocado were 31.9% in 1H15, while contribution margins were 10.6%. For a category such as groceries, with high infrastructure requirements and issues related to the perishability of products, we believe such margins are healthy. BigBasket currently makes a gross margin of 19.5% and a contribution margin of -4%. Management believes target contribution margins can be 10%+ and this can be achieved primarily through: 1. Share of private label products can rise from 35% currently to 38-40%. These products will not only rival those of large consumer product companies but will also drive better quality and customer loyalty. 2. Gross margins can move up to 25-26% as a result of a higher proportion of fresh, better sourcing, buying directly from CPG companies, and a higher mix of private label products. 3. Discounting is likely to shift from the books of BigBasket to those of the large CPG companies , spurred by higher volume discounts. Also, BigBasket can start earning marketing income by allowing its platform to be used for test launches, pilots, etc. We understand Ocado and 52 India Technology | February 12, 2016
Yihaodian (now owned by Walmart) earn such revenues. 4. Rising volumes should better absorb fulfillment and marketing costs.
Exhibit 80: Ocado: How do margins stack up as % of sales? (1H15)
Source: Company data, Morgan Stanley Research
Exhibit 81: BigBasket: Movement in margins
% of GMV Current - 2015 LT Target Gross Margin 19.5% 25-26% Trucking and delivery 7-7.5% 5.5% Customer fulfillment centre 6.0% 4.5% Other opex 1-2% 1-2% Marketing 5.0% 1.0% Discounting 3.5% 2-2.5% Contribution margin -4% +10%
Source: Company data, Morgan Stanley Research
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Exhibit 82: EBITDA margin comparison between Ocado and BigBasket
Source: Company data, Morgan Stanley Research
Food takeout/delivery: The category is a high-margin business at high volumes. GrubHub's EBITDA margin (excluding SBC) was 31% in 2014, while Just Eat's was 21%. It is important to note that Just Eat delivered a 40% EBITDA margin in both the UK and Denmark, but its consolidated EBITDA margin was only 21% because of the launch of operations in new geographies. A closer look at some of the key drivers for GrubHub suggests that: Increase in the number of orders has been a key contributor to revenue growth over the past three years. Average order values have grown marginally, and take rates have remained in a narrow band of 13-15%. Number of orders was driven by more customers ordering online rather than an increase in order frequency by existing customers. Higher volumes have led to better absorption of operating expenses. Sales & marketing and general & administrative expenses saw the maximum reduction, leading to a 20ppt improvement in margins (Exhibit 84).
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Exhibit 83: Margins in the food delivery business are healthy and can ramp up quickly (adjusted EBITDA margin as % of revenue)
Source: Company data, Morgan Stanley Research; e = Morgan Stanley Research estimates
Exhibit 84: GrubHub: Higher order volumes lead to high margins because of better absorption of operating expenses, especially marketing and general expenses
Source: Company data, Morgan Stanley Research; e = Morgan Stanley Research estimates. EBITDA margin includes the impact of SBC expense.
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W hat makes money?
Competition from new start-ups is clearly an issue for this large and still evolving category. This is most evident in the case of GrubHub, covered by our US mid-cap internet analyst, Dean Prissman, who believes the entry of DoorDash and Postmates is having an impact on the way investors view the competitive landscape in the US online food delivery market. We believe the same issue applies to Ocado, as well, where the entry of Amazon Fresh may alter the market dynamics. (Ocado is covered by Francois Halconruy). Apart from these two, other grocery and food delivery start-ups have delivered strong returns for investors so far.
Sequoia was an early investor in Instacart and has invested in Peppertap and Grofers in India. Bessemer was an early investor in Blue Apron and has been an early investor in BigBasket (Exhibit 87).
Exhibit 85: Compounded returns provided by global food delivery/grocery internet companies (ex-India)
Source: W all Street Journal (W SJ), Bloomberg, Crunchbase, e27, company data, Morgan Stanley Research. To calculate CAGR of returns, the numerator is market capitalization for listed companies (as of 9-Feb-2016) or latest available valuation for private companies as disclosed in the media sources quoted above. The denominator is earliest available valuation in a private round as per the media sources quoted above or market cap since listing. *Unlisted companies.
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Exhibit 86: Contribution to annual wealth creation amongst global food delivery/grocery internet players (ex-India)
Source: W all Street Journal (W SJ), Crunchbase, Your Story, Bloomberg, Morgan Stanley Research. Calculated by taking difference of current market cap (as of 9-Feb-2016)/valuation in latest funding round as per media sources quoted above less valuation at the earliest available date as per the media sources quoted above divided by the number of years.
Exhibit 87: Investments in global and Indian grocery start-ups
Source: W SJ, Crunchbase, Your Story, e27, Morgan Stanley Research. Highlights in green represent early stage investments.
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Exhibit 88: Investments in global and Indian food delivery start-ups
Source: W SJ, Crunchbase, Your Story, e27, Morgan Stanley Research. Highlights in green represent early stage investments.
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Furniture and Home Furnishing – A Niche Category
Home furnishing is the third-largest category for Alibaba, accounting for 10-11% of its GMV. In India, online penetration remains low, at 0.5% in this category, with a TAM of US$25bn. Hence, the existence of a large opportunity, weak offline retail and high margins make for an interesting play for the online competitors. Logistics and managing the supply chain are the key pain points in this category.
Furniture and home furnishing is slowly becoming the next big category for the large horizontal eCommerce companies since it is a highly fragmented business with small offline players. W e expect to see an increase in the competitive intensity given the existence of some vertically focused players, which are relatively small in size.
Having said that, there have not been many success stories globally in this category that have created wealth for investors. Houzz has done well, but it is less of an online retailer and more of a marketplace for designers, stores and artisans.
In a conversation last year with Ambareesh Murthy of Pepperfry, we learnt that the inflection point for eCommerce usually follows this path:
- First phase driven by standard products, and this is usually captured by horizontal eCommerce companies
- Second phase is fashion/apparel and footwear
- Third phase is home and furniture
It seems things are moving in this direction. In a March 2015 interview, Ankit Nagori, a senior vice president at Flipkart, told The Tribune: "The home category market is expanding rapidly and will be the next big thing in Indian eCommerce. Home décor, furnishing and kitchen appliances are poised to become the fastest-growing categories in 2015 with a 40-50% MoM growth." Flipkart is expecting this category to account for 10-15% of its GMV by the end of 2015 from almost nothing in the previous year. Snapdeal also has big plans for this segment – it expects eight-fold growth, with GMV moving to ~US$150mn in 2015. Within the niche players, Pepperfry, FabFurnish and Urban Ladder are the prominent ones, though several smaller start-ups continue to spring up in this category. Snapdeal's key selling items are beds, sofas, shelves, dining tables, and sofabeds.
Interestingly, of all the prominent companies in this category, only Urban Ladder follows a pure inventory model while the others are predominantly a marketplace. As per Urban Ladder, a marketplace is susceptible to competition from the horizontals and is also exposed to a supplier base that is unorganized and of low quality. In our view, for an inventory model to be successful, it has to be very efficient in terms of inventory turn ratio.
While furniture is usually a slow-moving item, we believe home furnishing complements that and helps in improving repeat rates. In addition, selling home solutions and other add-ons can greatly boost gross margins. To be successful in a niche category such as furniture/home décor, we believe data analytics can play an important role to understand consumer interest and shopping behavior. Companies need to have strong processes to ensure quality control on their vendor base, complete oversight on inventory, quality packaging, on-time delivery and order fulfillment. The majority of Snapdeal's furniture sales take place in Tier I cities, but Tier II cities have been picking up in recent months.
59 India Technology | February 12, 2016
Exhibit 89: Google Trends: Top furniture and home furnishing start-ups in India
Source: Google Trends
Exhibit 90: GMV run rates expected in 2015 by some of the key companies in the category (US$mn)
Source: Company data, Morgan Stanley Research
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Exhibit 91: Niche players carry more products than the horizontals. This may be a differentiating factor as customers mature and become more sophisticated (# of products)
Source: Company data, Morgan Stanley Research. Note: Latest available metrics as disclosed by companies over past six months.
Exhibit 92: Key metrics for leading online furniture start-ups in India
Source: Company data, Economic Times, VC Circle, Inc42.com, Morgan Stanley Research. #: Not available, NA: Not applicable. Note: Latest available metrics as disclosed by companies over past six months.
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Exhibit 93: Fundraising by furniture start-ups in India (since their inception)
Source: Company data, Economic Times, VC Circle, Inc42.com, Morgan Stanley Research P rofitability
After electronics and fashion/apparel, furniture is the largest segment for the general merchandise companies, and it has the best margins. Wayfair reported a gross margin of 23.8% in 3Q15 and expects this to improve to 25-27% in the long term. Its target EBITDA margin for the long term is 8-10%, from a marginally negative level currently. Gross margins for Urban Ladder are currently 12-15%, but marketing and other costs are very high as scale is small. It expects gross margin to improve to 25-28% over time, supported by better sourcing synergies, while net margins can be 7-8% as a result of better scale.
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Exhibit 94: Wayfair target margin (% of net revenue)
Source: Company data W hat makes money?
With fewer companies in this category, it is difficult to find a pattern to indicate which models work and which do not. Comparing Wayfair's market cap today versus that available in the private round suggests no wealth creation, highlighting the difficulty of this category. The Indian furniture start-ups are still small in size and with increased competition from the general merchandise players, it is still too early to draw conclusions as to how this category will deliver.
Sequoia was an early investor in Houzz, and it has invested in Urban Ladder and Homelane in India (Exhibit 97).
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Exhibit 95: Compounded returns by global furniture/home furnishing internet companies (ex-India)
Source: W all Street Journal (W SJ), Bloomberg, Crunchbase, e27, Company data, Morgan Stanley Research. To calculate CAGR of returns, the numerator is market capitalization for listed companies (as of 9-Feb-2016) or latest available valuation for private companies as disclosed in the media sources quoted above. The denominator is earliest available valuation in a private round as per the media sources quoted above or market cap since listing. *Unlisted companies.
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Exhibit 96: Contribution to annual wealth creation amongst global furniture/home furnishing internet players (ex-India)
Source: W all Street Journal (W SJ), Crunchbase, Your Story, Bloomberg, Morgan Stanley Research. Calculated by taking difference of current market cap (as of 9-Feb-2016)/valuation in latest funding round as per media sources quoted above less valuation at the earliest available date as per the media sources quoted above divided by the number of years.
Exhibit 97: Investments in global and Indian furniture start-ups
Source: W SJ, Crunchbase, Your Story, e27, Morgan Stanley Research. Highlights in green represent early stage investments.
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Appendix 1: Global Valuation Comparables
Exhibit 98: Global Valuation Comparables
Source: Company data, Morgan Stanley Research, e=Morgan Stanley Research estimates. *W ayfair estimates based on consensus estimates from Bloomberg. nm = not meaningful. Data as of 9-Feb-2016.
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69 India Technology | February 12, 2016
INDUSTRY COVERAGE: India Technology
COMPANY (TICKER) RATING (AS OF) PRICE* (02/10/2016)
Gaurav Rateria Cyient Ltd (CYIE.NS) U (02/21/2015) Rs392.95 Genpact Limited (G.N) E (04/08/2014) US$25.04 Hexaware Technologies Limited (HEXT.NS) O (03/09/2015) Rs243.40 Mindtree Ltd. (MINT.NS) E (08/18/2014) Rs1,484.55 MphasiS Limited (MBFL.NS) E (10/22/2015) Rs430.35
Parag Gupta HCL Technologies (HCLT.NS) O (08/01/2014) Rs827.40 Info Edge (India) Ltd. (INED.NS) E (08/18/2014) Rs766.65 Infosys Limited (INFY.NS) O (01/14/2011) Rs1,108.55 Just Dial (JUST.NS) U (10/30/2015) Rs516.05 MakeMyTrip Limited (MMYT.O) O (08/13/2014) US$15.34 Tata Consultancy Services (TCS.NS) E (07/18/2014) Rs2,268.80 Tech Mahindra Limited (TEML.NS) U (05/27/2015) Rs440.40 Wipro Ltd. (WIPR.NS) E (02/10/2016) Rs531.20
Stock Ratings are subject to change. Please see latest research for each company. * Historical prices are not split adjusted.
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