Who moved my ‘Cheese’’Profit Margin? Interesting sad story of E-commerce so far in India.
30-40% discounts, Free Home Delivery, Exchange within 30 days, Ease of use.
So far story looks good… but…only for customers…..while customers are enjoying gold rush in E-commerce. Companies who are providing these services are struggling to make profits (although their revenues might be going up by 100% YoY).
It is predicted that in current situations (thanks to India’s poor logistics and infrastructure) no e-commerce company will be profitable for next unknown years.
Lots of reason has been observed for this debacle and lots of explanations have been given too.
I would like to give my own understanding of this situation and if there is any hope of survival.
What is possibly going wrong-?
No company seems to have any strategy(except few) – looking at more than 300 online stores it seems that they do not seems to believe in any strategy, they are following up simple process of opening up a store and waiting for customers to come magically.
Without a strategy it’s nearly impossible to turn any online business profitable.
They believe in magic of ‘Store’ – Most of the people believe creating an online store is big battle won which is far far away from reality? Creating an online store is just 5-10 percent of the whole user-experience, rest of the things are fulfillment of the promise that you have made on your store, that’s where everybody including big names like Flip-kart are struggling after they reach certain number of transactions a day.
Reason for this mentality comes from your ability to easily create and afford an online store.Today you can be up and running with your online store within 2-3 weeks with no upfront costs.
Go to ‘Magneto Go’, Integrate Payment gateway, upload your products and you start waiting for customers to come (of course they do not come until you lose money).
Higher Customer Acquisition cost – Look at this example
Company A wants to show their banner ad for Rs. 250 on some high traffic website.
Company B wants is ready to pay Rs. 300 on same high traffic website.
Company c wants is ready to pay Rs. 350 on same high traffic website.
Company D wants is ready to pay Rs. 400 on same high traffic website.
And so on.
With average customer acquisition cost of more than Rs. 650 its becomes nearly impossible to be profitable.
Also if there are products lying in your warehouse (along with dead inventory from previous year) pressure on selling these items is even more, which in turn force companies to spend huge amount of money on marketing/advertising, thus further increasing cost of customer acquisition.
Unpredictable Indian Market: Even after spending around Rs. 650, Behaviour of Indian consumer is far from predictable.
You make customers come to your site by offering huge discount (and lose money) but next time customer might not come to you as your competitors are giving me better deals.
So the correlation between spending Customer Acquisition Cost and Life time customer value is not verified in Indian context.
Price war will only benefits consumer: Few companies who tried to fight this war by selling their products at cheap rates are now struggling to get customers, because they have positioned yourself as good deal website, if prices are not lower than MOP (market operating prices) they go to other websites.
It’s easier to compare prices online: Unlike in real world cost of comparing rates of any item is just few clicks away, Sites like junglee.com even solve that problem by listing all of prospective vendors under one roof.
Big chunk of the online retail revenue comes from tier 2 cities of India where you will not find big brands, and this market segment is very very price conscious , they make every efforts to get the best deal (I personally do a lot of research on price before I buy online).
Inventory led online retail is suffering from bad business model
Most of Indian players are inventory based and they roughly make 25-30% gross margin on the products they sell (mobile & electronics on low end side) with apparels and clothing on high-end margin side).
With 13-14 % of your cost being spent at Marketing and Advertising.
6-7 % cost on storing these goods
1-2% on technology
13+6+3+1 = 23% – 25% = 2%
With only 2% of profit margin this becomes a very risky proposition if you are not able to sell your inventory within the time frame (unsold inventory)
What that means is that no matter what profit you make in volume, due to unsold inventory you will be in losses every year.
Note: Thanks to Sandeep Agarwal from VC circle for providing some figures.
Free shipping and COD: biggest challenge in very competitive landscape is that if your competitors are doing something, your own customer base (although this is a myth) expects the same facilities from you.
Free Shipping and COD are one of the biggest enemy of Profit margin, with cost as high as Rs. 70-80 per package, it looks very dangerous if your return rates are not in control, due to this despite all the investment in last few years, E-commerce companies (including Flipkart) are in need of cash.
Low Internet penetration: With more than 121 million internet users, overall E-commerce penetration is still low (although this might change, but this has not shown very optimistic growth).
On the other hand mobile penetration is at healthy growth rates but I have my doubts that people will order over phone (Homeshop18 is exception)
Online is not the only competition: Online players are not selling antique items, I go to malls and get same items over there, sometime even cheaper so you have to keep that competition in mind as well.
What’s the way out.
Although I am no e-commerce expert on advising anybody how to make profits (when everybody is struggling) but I did have a practical taste of it with our current company and have my own 2 cents to share.
Verticalization: Few companies like LensKart, Bestylish are trying vertical retails space (I have no idea if these will be profitable sooner than horizontal one, but Idea looks appealing.
If you have vertical insight about the specific products (shoes) you can improve your Operations efficiency, Get rid of large dead inventory by better predicting sales thus improving your bottom line.
Focus on fulfilment: As I pointed earlier whole game of customer delight after competitive price (I personally think price is number 1 reason) is fulfilment. Amazon’s is the prime example of that, although India overall has problem with good logistics and infrastructure but fulfilment should have highest priority in any e-commerce company.
Around 95 % of all the customer queries are about product delivery.
Fulfilment can also be your positioning statement; I have seen a company hiring MBAs to deliver your goods (I don’t know if that is sustainable).
The biggest advantage of Good Fulfilment strategy is Repeat customers, if user is happy with overall experience of receiving goods on time. Next time he might not mind coming to your website even though there are cheaper alternative (remember your prices are also competitive).
Now if you even spend Rs. 650 to acquire a customer and you make him/her shop 5-6 times on your website then you have cracked that code.
Remember every new customer is a cost while every repeat customer start becoming your income thus your profit one day.
Mix of Drop box and your own inventory – I believe experiment with mix of Drop-shipping and your own inventory model might help you to squeeze some profit out of it but this require patience as the biggest disadvantage of Drop-shipping is totally reliance on outside vendor who might not give your customer the delights that you want (packaging, timely delivery, right products)
On positive side, there is no dead inventory, does not block any of your capital, no warehousing space is needed and the kind of products you can serve is limitless.
To be successful in mix of these models requires a different mind-set of identifying, coaching and creating database of good supplier. Integration and synchronization is the key to successfully implementing this.
Selling only High Margin products – I also believe fashion vertical will be profitable sooner than any other products range due to these reasons.
- Very High Margin – with around 40-50% gross margin fashion vertical can quickly becomes profitable, launching your own brands is even better.
- It’s very difficult to compare two designs- unlike Samsung Galaxy III, it’s very difficult to compare fashion items. If we hooked to a design and can’t compare it then we will buy it.
- Fashion is more of an impulse buying- You might decide to buy something but when you see something interesting on the website you might buy this instead or both.
- No Storage night mares- unlike breakable goods, fashion’s items are not very fragile but yes Fire is a big issue.
- India’s younger population- With India’s large younger population, fashion is definitely going to get boost, companies like www.myntra.com showing triple digit growth every quarter even predicting profitability by 2013.
But of course fashion vertical has its own problems, biggest one coming up with new designs on regular basis and higher rate of return (sometime between 30-40%) and creating your fashion credibility and authority (which takes time).