Investing in India - 5 Minute WrapUp by Equitymaster

Can Flipkart be the next Infosys? 

A  A  A
In this issue:
» High FII holdings in Indian equities is a cause of concern
» Retail investors are better off not timing the markets
» Jim Rogers not bullish on India yet!
» Employment in the last 8 years grew by an impressive 34%
» ...and more!

Yesterday was a landmark day in the Indian business history. In one of the biggest deals of its kind, the online retailer Flipkart raised US$ 1 bn in a single round of funding. Incorporated just around 7 years back, the company has come a long way. It is now valued at US$ 7 bn, between two-three times the value of goods sold on its site. In a period of two months, the company's valuations have doubled. And with recent funding, some believe it is already too big to fail.

The management seems confident to become a US$ 100 bn internet company in next five years. To give you a perspective, the total Indian e-commerce business is estimated at around US$3 billion at the moment.

While Flipkart seems to be well positioned, the big question is: Will it be able to sustain its growth? And that is the question one should be asking before placing it in the league of companies like Infosys. After all, the premium valuations that the company is receiving are a bet on future growth. And the answers to that are not very encouraging. Consider this. Amazon despite being in the similar business, did not seem to make money for around two decades. This was when online shopping trends, infrastructural set up and regulatory landscape was relatively favorable for the company. Flipkart, though valued at US$ 7 bn, still remains a loss making entity. With current subscribers at 22 m, the management has stated that profitability is not the metric it is focusing on; at least until subscribers base grows around five fold. And reaching there will be quite a challenge. It will involve investing in warehouses, distribution networks or mobile technology platforms. And that too with a revenue model that involves cash on delivery, with return provisions. Until then, the firm will be using stakeholder's money to fund operating losses.

As such, Flipkart seems to be a success story written too early. While it does have the advantage of fastest growing market, the same comes with a challenge of tough competition. The next day announcement by Amazon to invest additional US$ 2 bn in India is a stern reminder of the same. With no significant competitive advantage, no assurance of customer loyalty, huge competition from experienced players like Amazon, Snapdeal, eBay etc, no significant entry barriers for players with deep pockets and expected price wars, scaling up from here will come with its own set of challenges. In fact, we will not be surprised if the market matures before the company tastes profits. And post that, for such firms, one can not ignore the huge risks to earnings. The recent penalty imposed on eBay by Google is a case in point. The same is expected to have cost the firm US$ 200 m in revenues, with a major impact on the earnings.

As a lot of shopping sites plan to get listed, investors must start questioning the business models of these online retailing firms. However, such challenges are not getting due importance it seems. Infact, with management's stake at 15%, the Flipkart founders are being compared with founders of Infosys. Both made a start without having the advantage of the initial capital and meaningful entrepreneurship took them ahead. Both had first mover advantage and entered at the right time in the market. However, the comparison ends here. Both the companies have different business models. And while that of Infosys is something to marvel at, with no profits to show, Flipkart is yet to prove itself. Further, what makes Infosys stand apart is the management ethics and sound corporate Governance. It is too early to judge Flipkart on that metric. In short, with lofty valuations and profits far from visible, while firms like Flipkart can be consumers' delight, they might be a potential trap for investors.

Do you think Flipkart deserves the lofty valuations that it is fetching currently? Let us know in the Equitymaster Club or share your comments below.

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01:30  Chart of the day
Quantitative easing had led to huge liquidity flow in emerging markets particularly India. Post election verdict the flow of foreign money has increased all the more. So much so that it forms nearly 2/3rds of all investments made in Indian equities. Such influence of foreign money in Indian stock markets is a sign of worry. For one, this money could easily be deemed as hot money. And it can flow out of India on slightest political uncertainty. This puts the Rupee at risk. And also causes undue volatility in stock markets. Secondly, if speculative foreign money continues to flow in search of higher returns into India, valuations could reach a bubble territory. One may witness a disconnect between fundamentals and stock prices.

As can be seen in today's chart, FIIs have about 49% institutional holding in Indian equities. Insurance companies stand second with about 20% share. However, what we need is increasing participation by insurance companies in the institutional category. Retail participation also needs to increase. Since insurance money is long term in nature, it can reduce volatility in markets. Secondly, increasing participation by retail investors will help them benefit from the India growth story. However, the latter can rise only if there is an increase in transparency and tighter regulatory controls.

Influence of FIIs in Indian stock markets is a sign of worry

Even as markets are making one high after another, retail investors seem in no mood to wait and watch. At least this is what the data suggests. If a leading daily is to be believed, investors have pulled out a total of Rs 600 bn from various mutual fund schemes in June. This move comes close on the heels of a staggering Rs 1,500 bn inflow during the preceding two months. So, what explains the sudden outflow immediately after putting in what seems like a huge sum? Well, the buoyancy in the markets we believe. With the indices rallying substantially and individual stocks even more so, investors seem to be in a hurry to encash the gains.

However, this is not the right attitude to have as far as we are concerned. Study after study has shown that the best possible way to make money in stocks is to invest from a long term perspective and not give in to near term greed or fear. Therefore investors will be better off if they heed this advice and let the magic of compounding do its work. Another mistake according to us is that of trying to time the markets. However, no one's been able to do this successfully over a long period of time. What matters at the end of the day is not timing the market but the total time spent in the market.

Jim Rogers is a man who we hold in high regard. His knowledge, experience, track record and reputation for straight talk make him stand out from the crowd. In an interview with Business Standard, he spoke about his views on India and the global markets. He does not believe that any country in the world can be considered truly safe for investors. Thus he remains cautious on the current geopolitical situation.

What does he think about India? Well, unlike many of his global colleagues, he has not turned bullish on India just yet! Instead he says that he is still waiting for the new government to implement some hard hitting reforms. According to Mr. Rogers, India must overcome a lot of internal issues before it can become an economic powerhouse. He has red flagged inflation, the government's debt burden, currency convertibility and the ease of doing business as well as India's poor bureaucracy. We could not have agreed more. These are crucial issues that must be addressed if India has to reach its true economic potential. The previous government did not listen to sane voices like Mr. Rogers. We hope our new government does not make the same mistake.

India Inc may be firing on all cylinders to put in place additional capacities to boost growth. However, for industries heavily dependent on natural resources, being flush with cash alone may not help. For these industries getting access to critical resources is a much bigger factor in planning expansions. The power sector has already borne the brunt of scarcity in coal. It now seems that the steel industry, dependant on iron ore, is set to be the next victim of poor mining policies in India.

The recent closure of mines in Odisha and delays in opening up of mines in Karnataka and Goa has resulted in acute shortage of iron ore. As per Mint, iron ore production in India fell by 34% in past 5 years. It came down from 218 million tonnes (mt) in FY10 to as low as 144mt in FY14. And unless India sustains exploration activity, new iron ore resources will not be found. As per major steel manufacturers, the country's effective iron ore will be expended by 2032-33. But even before that, we need continuous improvement in efficiency of iron ore mining and better allocation of captive mines. Without that, this may be yet another sector that may hold back India's infrastructure dreams.

When it comes to employment, India could have something to cheer about. As reported in an article in the Economic Times, employment in the last 8 years grew by an impressive 34% to 12.7 crore. In other words, it has grown at an annual rate of around 4% when the population has been growing at 2%. Of course, there are caveats and certain sectors have not been included such as agriculture, public administration, defence and compulsory social security services activities. The other data released is the number of establishments which are up by 41.7% over the same period. However, the employment per establishment has declined and this could probably be due to some of them doing away with labour intensive activities.

Even if the employment growth data looks healthy, India will have to make sure that it is able to sustain the same going forward. Indeed, one of the factors in the country's favour is that there will be a vast young population that has the potential to contribute to GDP. But that will only be possible if there are sufficient employment opportunities to absorb these people. Further, the government will also need to ensure that the people graduating from institutions have the right skill sets that align with the job requirements in the country. If these basic parameters are not met, then India's demographic dividend could turn out to be a big burden for the government.

In the meanwhile, the Indian stock markets slipped deeper into the red in the post noon trading session. At the time of writing, BSE-Sensex was trading lower by 95 points (-0.4%). Majority of the sectoral indices were trading in red with consumer durables and banking stocks being the major losers. oil and gas and metal were among the few stocks trading positive. Most of the Asian indices were trading in negative led by Taiwan and Japan. However, China and Singapore markets were trading positive. European markets opened the day on a weak note.

04:55  Today's investing mantra
"Behind every stock is a company. Find out what it's doing.." - Peter Lynch
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11 Responses to "Can Flipkart be the next Infosys?"
Aug 1, 2014
Nice informative article. I would also like to know whether flipkart can be compared to Facebook kind of companies. I think Facebook is surviving on a bubble for quite some time. Flipkart at least has something solid to show in terms of sale of real goods. It may still die out because of competition and/or lack of innovative business ideas. Like 
Sankara Rao
Aug 1, 2014
The analysis on 5min.wrap up is very insightful with proper justifications. I certainly doubt the valuations of the company as there is no quality service rendered in Indian business. Like 
Jul 31, 2014
Analysis about Flipkart is quite insightful and it is very timely to dispel the myths that are just about to cross the thresholds to get victimized Like 
Jul 31, 2014
I will put money in American market, because they are cheater number one in the world. Like 
Jul 31, 2014
Camera maker NIKON has stated that Flipcart is not authorized to sell its products. CANON is likely to follow suit.
What goes up too fast comes down with the same velocity. So lets hold on to our guns.

Sundaravaradan S
Jul 31, 2014

I suggest that we need to rate the Progress of INDIA's growth, in ALL important KEY aspects, at least once a week.
(Inflation, Infrastructure, Deficit, GDP , Ease of Doing Business, etc.) Equity Master can give %-age rating, graphically, each week/Fortnight/Month)

kailash thakur
Jul 31, 2014
mr jim roger,s views on indian economy must be brought
to the knowledge of indian prime minister,finance minister,foreign minister,commerce minister,elite,intellectuals,political analysts,economists,thinkers so as to modify our economic policies in such a manner so as to save our economy from any devastation.we must plan & live within ourselves.we must rely upon oursenves rather than unusual faith on foreigner investors as bliss.
kaiash thakur,bhagalpur,bihar
H K Prakash
Jul 31, 2014
Repeat of 2000 IT boom/ crash? Smart promoters cashing in while the NiagraM effect is there on the stock/ debt market?
Amazon is not the only competitor, there are snapdeal, ebay india and any other who cares to enter like Birlas. Easy to enter, no high technology involved = commodity pricing. Flipkart will be lucky if it just pays for kharcha out of earnings even 5 years down the line
Sharad Narvekar
Jul 31, 2014
I must thank u profusely for this informative article focusing on fundamental issues rather than superficial info.thrown at ignorant common man by electronic media -S Y Narvekar Like 
Jul 31, 2014
It is this kind of articles, that would create greed in the minds of investors and burn them, in whole, not just fingers.

FLIPKART, it seems is preparing for an IPO. And I hope, this do not become like Rpower IPO, which was priced very optimistically.

And mind you, just one FLIP from AMAZON and there will be only KART (This is just my personal feeling).

Please do not use this kind of childish headings, hence forth. You are only degrading your brand, I feel.

If you still want to, I have a heading, "Can JUSTDIAL" be another "GOOGLE" ? Cheers! Give it a shot.

May GOD bless us.
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