08 Apr 16 Of Unicorn Valuations and Business Models – India is not China!

In the last few years, Indian e-commerce valuations have generated much hype, debate and inspired innumerable start-ups. However, with the collapse of markets in China, and pressure on Internet company valuations; questions about business models, sustainability and returns are finally being asked.

Essentially, valuations are built on the size of the “moat”… or barriers to competition. Warren Buffet, the legendary investor, is one of the most famous proponents of the idea of an economic “moat”, which represents substantial competitive advantage. The moats could be built on brand, distribution, technology, intellectual property, scale… or some combination of such factors. The moat makes it harder for customers to switch and harder for competitors to steal customers.

The world of the Internet is no different. Except that jumping the moat takes just one click! Hence Internet moats are built on “stickiness” –something that keeps people coming back.

Google’s moat is based on brand and user habit, backed by technology and scale. Facebook, Whatsapp and Linkedin are difficult to dislodge because of their huge networks. Why would you go to a network that has fewer of your friends or business contacts? Amazon’s awesome logistics and scale have helped them knock off competitors, and created substantial brand value and customer stickiness. Uber’s base of drivers (in select markets) is so huge that it will deter most competitors. Unless a rival can sign up that many drivers, they will not be able to offer a competitive product.

Customer retention (or stickiness) is much harder online, as offerings can be replicated – and deep, sustainable moats are difficult to build, given rapidly changing technology and competition. Remember Yahoo or ebay?

Another interesting aspect of many Internet winners is their “virality”. Google, Hotmail, Twitter, Facebook, Linkedin, Amazon and the likes didn’t spend huge amounts on advertising, early on. The negligible cost of customer acquisition makes them what they are. If you have to buy your way to scale on the Internet, your investors are unlikely to make any returns.

In the Indian context, how many of our unicorns have really built such moats? Most Indian e-commerce companies have been splurging investor money on subsidizing customers and advertising. Sure they’ve acquired customers – but how many will stick? Most shoppers buy from multiple sites, and the deal is usually more important than the site. So will people stick when the VC funded discounting ends?

In many instances, valuations for Indian unicorns are justified based on scale of opportunity – by projecting a future similar to what has happened in China. But India is not China – in this context, the fundamental difference is one of Internet policing/control/censorship. Google, Facebook, and many global Internet giants are either restricted or censored – and that created the space for Chinese firms. However, the Indian Internet market is totally open. Google, Facebook, Twitter, Whatsapp are dominant in their respective niches.

This is not to say that Indian Internet companies will not become market leaders or giants. Among the many start-ups, there are several truly exciting companies. However, the crazy valuations are built on a will-follow-China template, and this might be a big disappointment.

Arun Jethmalani

Arun is one of the founders of ValueNotes. Apart from trying to build a high-quality research business, he has spent the last 27 years researching, analyzing, and dissecting companies and industries. He has worked with clients of all shapes and sizes, from all parts of the world – in providing them insights that make a difference to their business.
Prior to ValueNotes, he was an equity analyst/advisor, and wrote extensively on investing – including a column titled “Value for Money” which ran for 10 years in the Sunday edition of the Economic Times. To this day, he remains an avid “value” investor.
He has also been published in several other publications, and is a regular speaker at events related to technology, investing, competitive intelligence, business process management, Internet, etc. See: Valuenotes Events
He has been instrumental in developing a community of research and intelligence professionals in India, and is the founder and current chairman of the SCIP (India) Chapter. Arun holds a B Tech from IIT, Bombay and an MS from Duke University, NC, USA. LinkedIn Profile


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