Flipkart tries to out-muscle its competition with another $600m injection

Just when you thought the crazy bout of money raising in e-commerce was temporarily over, Flipkart has apparently done it again. Is there a method to this madness?
Written by Rajiv Rao, Contributing Writer

It is almost surreal to think that around five years ago, Flipkart, which started off as a humble, online book-selling business out of Bangalore, was funded a modest $1 million from Accel Partners in its first ever round of money raising.

Binny and Sachin Bansal, the unrelated founders of Flipkart.

Today, it is a juggernaut intent on forcefully shouldering aside anyone who dares compete with it by doing what it does best — raising money. A few days ago, it attracted $600 million just a handful of months after it received a staggering $1 billion from a pool of investors, bringing its total kitty to $2.3 billion to date, thereby according it at a pre-money valuation of $10 billion.

That's not bad for a company whose various registered entities that make up the sum total of Flipkart posted a combined loss of $120 million on revenue of $507 million, according to Mint newspaper. (Flipkart has a complex ownership structure that is guaranteed to make you dizzy, which Mint analysed in detail in the same article. This is primarily because of a law still in place that prevents majority foreign ownership of retail enterprises in the country.)

These statistics would be guaranteed to give former Columbia Business School professors Graham and Dodd, who wrote the legendary investment bible Security Analysis with its dogged focus on cash flows in 1934, sleepless nights if they were alive today. After all, many in India believe that the game of investing in internet stocks today, as it was in the year 2000 before the internet bubble burst somewhat spectacularly, is to try to go big as quickly as possible, become a public company, cash out, and spend the rest of your life on a beach, daiquiri firmly in hand.

Therefore, bleeding money is not an immediate concern. Well-known Indian investor and habitual sceptic Mahesh Murthy has often called investing in big, money-bleeding internet enterprises — Flipkart is one of his favourite punching bags — an activity that aligns itself with the "Greater Fool" theory, grounded in the certainty that somewhere down the line, a greater fool than you will come along and pay you more for your stake, thus liberating you from the burden of holding a turkey.

Amazon declared a $2 billion investment right after Flipkart's $1 billion coup in August this year.

This scepticism is natural, considering the insane 1:100 sales-to-capitalisation ratios that these companies often field, leading to complaints that the companies are grossly overvalued. When compared to their offline cousins, money pumping into internet properties today do seem absurd. As Indian investment analysis site moneycontrol.com points out, Flipkart dwarfs offline retail behemoth Future Group, an empire that took India's "Sam Walton" Kishore Biyani tens of years of blood, sweat, and tears to build. Flipkart, which has six warehouses, no stores, and a loss of $120 million, is worth 10 times more than Biyani's Future Retail, which has 319 stores and is profitable. Even Kunal Bahl, CEO of Flipkart arch-rival Snapdeal — no slouch when it comes to posting losses and raising big amounts — insinuated a few months ago that Flipkart was overvalued.

On the other hand, this is an accusation that has often dogged the real global leviathan in internet retailing, Amazon (which, incidentally, trading punches with Flipkart in India, plonked down $2 billion in investments a day after the $1 billion Flipkart funding announcement in August). Amazon, it seems to the general world, can never make money. Never has and never will. And yet its stock price is doing pretty OK, despite this glum observation, and the company is easily leagues ahead of any competitor. So, you may ask, if Amazon can do it, why not Flipkart?

In this excellent analysis titled "Why Amazon has no profits and why it works", Ben Evans at West Coast VC firm Andreessen Horowitz methodically takes apart Amazon's business model, and while it's too detailed to properly get into, he points out through an analysis of free as well as operating cash flows that Amazon actually makes a ton of money. It just chooses to plough it back into the business.

At just 1 percent of the US retail market, Jeff Bezos has acres and acres of offline retail market share that he would love to disrupt, go after, and gobble up, and the only way to do that is by venturing into newer territory every day, every year. But all new lines of business also simply soak up tons of cash, especially thanks to increased capex costs as a result of mountains of new servers and other such things. Hence, no profits.

amazon cash flow perc revs
Image: Ben Evans, Andreessen Horowitz
amazon cash flow
Image: Ben Evans, Andreessen Horowitz

In other words, if Flipkart can establish India dominance as Amazon has done in North America and elsewhere, it will undoubtedly start making money at some point. After all, the smartphone revolution has only just begun in the country. Currently at a puny $2.3 billion, the online retail market is set to explode to $30 in just five years, with the potential to disrupt a largely unorganised retail landscape that, outside of grocery stores, is currently worth at least $150 billion. And as far as offline retailers are concerned, most of them are finding it difficult to turn a profit because of exorbitant real estate costs.

Which is why going for broke by raising as much money as possible in the short run doesn't seem like such a bad idea if you have a nascent market that is waiting to be exploited with no real competition in sight. Going public, which is the raison d'etre behind these warm-up exercises in money raising, is the only reason investor money keeps pouring in. What happens in terms of transparency, financial reporting, and managing earnings expectations — something that will kick in once Flipkart’s scrip gets listed — is simply too far away to worry about now.

It may seem that coaxing billions of dollars out of people so you can quickly become the biggest game in town is perhaps the least artful way to become an entrepreneur. But if it generates as much cash as Amazon does — admittedly a big "if" — it may just be the smartest game in town.

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