What does Walmart really get out of Flipkart?
Photo Credit: Reuters

For Walmart Inc., which entered India a decade ago in partnership with telecom operator Bharti Airtel’s parent, India has been a tough call. No pun intended.

Indian foreign direct investment (FDI) regulations at the time forced it to form a joint venture to float a retail business. It tried to ring-fence its business with a handle on the firm in which it was not allowed to own a stake. After years of lobbying to open multi-brand retailing, the previous Congress-led government allowed 51% FDI in the sector.

But this was too little, too late. Its partnership with Sunil Mittal-led Bharti Group came unstuck five years ago and it was placed under scanner over both violations of FDI norms as well as bribery charges in the country.

Since then, it has been lying low in India and continuing with its wholesale cash-and-carry stores that essentially serve small retailers. The company had planned to open 50 such stores by 2018-19 but has so far launched only 21.

But with the deal to acquire a controlling stake in online retailer Flipkart, the caged leviathan has broken its shackles. For starters, it becomes the second-biggest seller of goods and services in India at one go, behind Reliance Retail Ltd.

“With Flipkart, Walmart will get a consumer-facing retail business,” according to a research note by Sanchit Vir Gogia of Greyhound Research, which estimates the size of the Indian retail market at $650 billion

“It is a well-known fact that Walmart runs this business very efficiently. It doesn’t make sense for them to leave such a cash cow where there is hardly any competition and upside is so huge. With this, they can not only continue to serve large kirana-driven traditional market but will also be able to serve the growing B2C consumer market. So best of both the worlds,” Gogia says.

Walmart also believes Indian e-commerce is poised to grow ‘4X faster that total retail over the next five years’, according to its investment presentation released today.

It would have taken years for Walmart to build its physical infrastructure in India, let alone achieve the scale that it gets from Flipkart’s purchase.

“India is one of the most attractive retail markets in the world, given its size and growth rate, and our investment is an opportunity to partner with the company that is leading transformation of eCommerce in the market,” said Doug McMillon, Walmart’s president and chief executive officer.

This is something the company is trying to do globally as well.

Over the last two years Walmart has been shaving off its brick-and-mortar retail assets globally to focus more on e-commerce.

Last week, it announced that it had sold its UK retail business to Sainsbury in a $10 billion deal. In April 2017, Walmart’s subsidiary in Mexico sold its clothing chain Suburbia to El Puerto De Liverpool for about $1 billion. It also sold it Brazilian business, where Walmart has been making losses for a long time.

Simultaneously, the company began picking up e-commerce properties. In September 2016, the firm bought US-based e-commerce company Jet.com for $2.4 billion.

In its annual report earlier this year, Walmart CFO Brett Biggs said the company has shifted its spending from opening new stores to remodels, e-commerce, supply chain and technology.

“We are transforming the company. We're changing how we work. We're changing the speed at how we work. We're changing how we take decisions but all within the DNA of Walmart. But we have really unique assets. And when you think about the store base we have around the world, the e-commerce business that we have, online grocery, the different ways that we can approach the customer, we're in a really good position and have unique assets,” Biggs told analysts at a UBS conference in March.

Walmart has had its setbacks, too. It had to virtually give up its Chinese dreams as it restructured its operations by selling its e-commerce business in the country to JD.com, the second-largest online retailer after Alibaba. This brought Walmart a 5% stake in JD in the hypercompetitive Chinese market.

That left India as a big test case for its emerging markets strategy. With Flipkart it can assuage investors on how it is prepared to take bold steps in fast-growing markets.

Local synergies and challenges

Walmart can tie up its strong supply chain links for sourcing with Flipkart while also readying the local e-commerce firm to make a second attempt in the grocery market. Indeed, food accounts for around half of its sales via its wholesale business in India. Flipkart, which had tried but failed to build a grocery venture with Nearby, gets another chance to take on vertical leader BigBasket and SoftBank-backed Grofers.

Given that Amazon continues to experiment for scaling up its Amazon Now and Amazon Pantry service, Walmart can leverage its expertise and supply-chain linkage to make a fast go-to-market strategy for Flipkart’s re-entry into grocery.

Walmart would also be keen on leveraging its global sourcing prowess to drive sales on Flipkart.

This is where it may face a familiar challenge and intense scrutiny: getting around sourcing norms for online marketplaces.

Local FDI norms make it mandatory for e-commerce firms to source at most 25% of their sales from a related-party vendor. Flipkart created companies with local investors and employees front-ending as shareholders to form in-house vendors. But Walmart may face a déjà vu moment as it has previously faced investigations for circumventing similar norms with Bharti Group, where it held convertible securities in a firm that ran the consumer-facing stores.

Even now a good chunk of sales on Flipkart comes from such entities. So, navigating the legal status of such entities as a company regulated by the US Securities and Exchange Commission will not be easy for Walmart.

Absorbing the red mark

Walmart has also raised a red flag on the potential blood it would have to shed with Flipkart. In an investor note today it estimates earnings per share (EPS) for the year ending February 2019 to be scaled down by $0.25-0.30, including interest expense for the deal.

This means Walmart has penciled in Flipkart’s losses worth around $750-900 million for the half year that it could be under Walmart.

It has further estimated that its EPS for 2019-20 (year ending February 2020) would be affected to the tune of $0.4-0.45. This translates into around $1.2 billion of operating losses from Flipkart.

Walmart investors weren’t amused, as the company’s share price tanked nearly 5% in early trade on the New York Stock Exchange on Wednesday. That’s roughly $10 billion of value being shaved off from the closing price a day before the Flipkart deal.

Amazon, already Walmart’s key rival in the US and now in India too, added a little over a billion dollar in market value as Walmart shares tumbled.

These might be early days to judge who will win in India. But it is unlikely to be an easy click and purchase deal for Walmart.

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