Never Mind Online. Come Offline

[Photograph of Crystal Mall - Rajkot by Sandip Dave under Creative Commons]

If you think me anti-establishment, so be it. That isn’t going to stop me from presenting a hypothesis. Which is that in India, the pot of gold does not reside in a mobile app or a website. The potential to make real money lies offline.

If offline retailers can get this into their heads without getting spooked, they stand to make a few tonnes of cash as opposed to virtual valuation dollars.

It is only now that venture capitalists (VCs) are realizing the Holy Grail lies offline. World over, start-ups are working to leverage the power-of-presence offline retailers have. Which is also why, Indian VCs are committing a billion dollars to hyper-local logistics and offline-enabling platforms.

Think Grofers, Peppertap and their brethren. I think of them more or less as clones of Instacart, which is perhaps the biggest threat to Amazon’s hegemony in the US. These start-ups aim to bring offline businesses to your smartphone. If they muscle their way in, macaroons from the local patisserie are just a swipe away, and so are profits to the brand outlet in your neighbourhood.

That begs the question: Where am I coming from?

The funded-to-the-gills online retailers will hit a glass ceiling. They have blown-up (or invested if you want to be kind) money on deals and discounts to change consumer behaviour to get them to shop online.

Allow me to illustrate that with some loose math.

• Flipkart sold 150 million units in the eight years that it has been in existence.
• Assuming it sold four pieces on average per customer, 35 million people transacted on the platform.
• I suspect it spent a billion dollars (directly or indirectly) getting these folks to transact.
• Now comes the rub—it paid to get these people online. But they are not locked into Flipkart—and it has to keep spending to get them back.
• Allegedly valued at $15 billion on a classical valuation model implies that Flipkart must return $15 billion in net profits over the next X years. What that X is, is anybody’s guess.

Flipkart is just an illustration. I think it a great business and am a loyal customer. Substitute it with Snapdeal, Amazon, Shopclues, Myntra, Jabong—or any of the other mega-funded online retailers. They face the same set of challenges: Low customer retention, thin margins, and the threat of retaliation from a combination of offline and hyper local players.

In fact, a Kotak Institutional Equities report dated August 4 warns of the "Great Indian Online Myth". It says, investors may be chasing the same set of customers as there are only 40 million active e-commerce customers, while in my estimate the online firms have spent over $6 billion building this small but not-so-loyal base.

So why are VCs excited about online retailers?  Because they are betting only a few of them will eventually command a disproportionate chunk of the online market and be immensely valuable. As opposed to this, in the offline world, value is fragmented across thousands of retailers and chains.

That said, fact is, most online retailers actually don’t make money. The ones who do are usually marketplaces (or marketplaces-cum-comparison engines) that connect consumers to sellers and small businesses.

The reason these marketplaces can charge a fee (rent) is because they help consumers make better decisions. They provide reviews, information about sellers, and the added comfort of having someone to redress their complaints. They “broker” the transaction by providing a layer of trust and provide closure to the purchase. As these platforms grow—bring more buyers and sellers to the platform—they become shopping destinations.

However, these marketplaces can’t charge more than a token fee, unless they have a unique proposition—like Alipay in China which bundles payments, escrow and other benefits for its sellers.

[An aside here: The latest VC fad is that wallets will drive loyalty and if that’s true, I wonder if the Flipkarts and Amazons will rue they did not set up payments platforms in India when they had the chance!]

These marketplaces aren’t immune either. Challengers, or vertical specialists as they are called, are evolving. These specialists play a larger role in the consumer’s “discovery” process, where the actual value lies. Examples abound in social commerce and verticals for furniture, eyewear, etc.

To get back to Flipkart and its ilk, they aren’t actually making anything. They have created a new habit. Millions of Indians are now buying and selling online. In a sense, they have cleared the roadblocks and built the highways. Their worry is that players in the wallets space like PayTM are now exploiting these highways with rounds of fresh funding.

The early online retailers could suffer the pioneer’s curse and the leaner ones, who can survive on the lowest “rent” will go on to become giants. Margins will remain wafer-thin for a long time. Not just that. In most markets e-tailing has hit a plateau after years of heady 100 percent plus growth rates. Even in China it is expected to settle at 20 percent in the next couple of years in spite of e-tailers continuously pumping money on customer acquisition.

That explains why Chinese online players are realizing what it means to have an offline presence. Alibaba just announced an investment in one of China’s largest offline retail chains, Suning, which operates over 1,600 stores in 300 cities, and aims to offer a suite of online-offline services.

Lessons from China can be extrapolated into India. Here, organized retail is highly under-penetrated and serves only eight percent of the market. That is the gap e-commerce players have been exploiting. A large chunk of their sales come from Tier 2 and Tier 3 markets where consumers never had the choices they now have on their mobile phones. These devices reach under-served markets and consumers who don’t have access to modern retail. In the urban markets, they’ve been wooing customers with deals and discounts. But discounts can go only so far.

In India, the Tatas just announced they want to become a $350 billion giant by going online. Shoppers Stop, Future Group and other big offline players will sooner or later enter this battle. As foreign direct investment (FDI) in retail opens up, foreign brands and retailers will set up businesses with a cross-channel DNA. Offline retailers continue to dominate. All is not lost for offline.

Now, if I were a smart retailer, I wouldn’t look at those in the online world as competitors, but observe how they are changing the market:

• They are pushing consumers to open up their wallets for larger purchases and more often. With deals-as-drugs, they have created new categories to consume. People are replacing appliances and filling wardrobes faster than ever.

• They are driving commoditization as well by bribing consumers to buy without them actually touching or feeling. Here, e-commerce players push products that earn them the highest margins. These are usually weak brands. If they persist, they drive down differentiation and the weak get culled.

• Ecommerce is pushing mom and pop brands and multi-brand outlets (MBOs) in smaller markets to either innovate or get out of business. This makes it easier for bigger brands to move in because franchisees may become simpler to build up. You can view e-commerce as a tool that actually helped open up new markets.

The costs pure play e-commerce players incur are unsustainable. Inventory carriage, warehousing, delivery and return costs, cash on delivery (COD) charges, expensive talent, and finally the lack of loyalty will drive them down a path where unless they achieve abominable scale, they will never make any money.

Not to forget, some e-commerce players have a death wish. Once a large player starts slowing, the only weapon they throw to hurt each other are discounts. Eventually, their margins and hyper-competitive behaviour will force them to consolidate. But every merger and acquisition (M&A) will slow them down as well and some will lose focus. Every large e-commerce player has made between five and 10 acquisitions last year. The jury is now out on how effectively have they leveraged them. Most M&As destroy value. Why should online in India be any different?

To make matters worse, India has legacy retail costs. Most small entrepreneurs do not value the opportunity cost of their assets. So their imputed inventory holding cost is zero. They also don’t impute their own labour and time. It is tougher to compete with offline in India than anywhere else in the world. If you find a way to empower your franchisee outlet with the right tools and hyper-local partners (more on this below), he can carry the war straight to Flipkart’s doorstep.

So how do you play the game in this new scheme of things?

1. Play to your strengths

If you are an offline brand or retailer, you can control the customer’s experience, build loyalty, offer service, have trained people, and drive an emotional connect. It is difficult to do all of this on a 4-inch phone screen.

But there’s no harm in getting on the phone for reasons I articulated earlier. Those who bridge the offline and online worlds will be the winners. You need to find a way to bring the offline store a bit closer to the consumer sitting at home. That’s what the internet was designed to do—to bring the world closer virtually—not just offer deals and discounts. 

Your advantage is your people. Offline players need to take a fresh look at their assets. People are not a cost centre. They are the ammunition in this battle. They are the ones who will convert consumer touch points into unflinching loyalty and trials into repeat purchases. Cut the rest of your costs ruthlessly. Outsource functions and activities, except the core business of managing merchandise and serving customers.

Train people to develop these relationships. Indian consumers still want to experience your brands and shop at your stores. They want advice and to be served well. But once they come in, find a way to follow them back home through the smartphone in their pocket.

2. There is no outside and inside

Fighting online is not just about getting an order through your mobile app. That doesn’t close the loop for the customers. Your strengths are your presence, your trained employees, repair and warranty policies, ability to buy-back, call people for previews and launches, answer calls with information, showcase a brand, drive people with intent into a store—and then close the transaction there. All of these needs must run off one technology backbone. It should integrate consumer’s experience inside and outside the store via a single platform that allows a transaction to be tracked across all channels and all interactions. An integrated cross-channel approach can redefine your customer engagement and loyalty.

Online players haven’t built up personality in pursuit of transactions. But you can. Croma or the Mobile Store can be the trusted advisor to help you buy electronics that suit you. It can be the place where you “like” to go, where you feel welcome. Flipkart can never do that.  

Every brand wants to get closer to their customer. And you have the customer right where everyone wants them, in your store, in front of your salesman. The store should find a way to become an extension of the customer’s need. Find a way to service them at home, from the nearest outlet or the nearest depot. Commit to delivery times and stick to them. Give people comfort an online player cannot.

I had a broken iPhone one evening and landed up at the Croma store next door at 8:30 pm. The chap at the Apple counter sold me a new phone, handled the entire data transfer and made sure everything worked by the time I left the store. I did pay more than I would have paid online. But I found the security comforting. Once you serve customers in an emergency, they will prefer you above all else.

And finally you can be likeable, human and personable

3. Brands are partners. Push them to play with you.

I thought it madness. Latest collections from sought-after brands being sold online at huge discounts. And why? The fear of missing out drove these crazy decisions. International brands allowed themselves to be sold at a pittance. Levis jeans for instance at Rs 999 and Rebook shoes going virtually free in a sports bag.

But slowly, things that had tipped in one direction are being pulled back. You don’t see the latest collections at deep discounts, and online has become a means to liquidate excess inventory—some brands are also creating exclusive low-price online collections.

Brands are realizing that the legacy they carefully built over years is getting lost in the clutter of an online marketplace.

Brands will realise that to be successful online, they will have to invest in creating deeper and better experiences offline. That is why they are co-ordinating efforts with mall-owners to get people back into malls. They are holding off their latest collections from online and finding ways to invite people to their store—and it’s working. Slowly, but surely. 

4. Drive footfalls, online and offline

Couponing, a business that skipped a generation in India is now big online. The bigger opportunity is to use couponing to get customers into offline stores. Today geo-enabled, event and context-based couponing can actually alter consumer behaviour and become huge drivers of offline discovery.

Imagine tempting you when you come out from a movie or out of a taxi at lunchtime, to be redirected to the nearest place to grab a meal. The next generation of couponing will be context-aware and location based. You will be able to find customers who have come to watch a movie at the PVR in the mall next door and you will be able to target them and drive them into your store. Be ready to adapt to this new marketing paradigm and create clever meaningful offers. 

5. Become an omnichannel “experience”

 You can leapfrog technology. You can make a customer experience a product through a virtual reality room in your store. You can make your store experts available on voice or video so they enter the consumer’s product search process earlier.

Most consumers need help in setting up devices and home appliances. You can shoot videos with technicians on common issues. If you bundle your offerings with an element of service, how can any online retailer compete? If you can craft offerings for post purchase, you can truly create omnichannel experiences.

The war is not over. It has just begun. Even 20 years later, Amazon is a fraction of Walmart’s revenues. Indians are still enjoying the novelty of walking into an air-conditioned mall and touching and feeling brands. Offline players have novelty working for them.

But they’d miss the plot if they give up too early. Online retail is a tiny fraction of India’s retail today (0.7% in 2014) and will remain that way for a long time. Estimates peg it at between five and seven percent of the retail market by 2020. This means the market is under-served. Sharp retailers will see this as an opportunity to craft their propositions and stay away from e-commerce-led commoditization.

Finally, a few words for online players.

I have been brutal here only because the media seems to celebrate big rounds of funding and have written obits for offline players. But like I said earlier, there is much pure play online retailers can learn from their offline counterparts. They need to find a way to replicate experiences, view consumers as people, not page views and find ways to create paths for people based on their preferences.

Every touch point in the offline world is agonized over. But online retailers seem happy to make knee-jerk changes to their interfaces. If you are losing customers, the fault lies within. Every visitor is a potential customer. Treat them the way a good offline store would. And don’t forget that you are the engine oil, not the engine. Unless you are selling a private label, your role is to smoothen the way for the customer to acquire a brand he or she wants.

And this may sound heretical. Go offline. You need to. Hypothetically, Flipkart acquiring Shoppers Stop may be a vastly superior decision than doing more of those Billion Order Days. That could be the moat you need to build against Amazon, because before you can say IPO, Amazon will come back with a Zillion Orders Day. 

Note: If you look at the current state of the profit and loss statements of most offline retailers, you will write them off in this battle. The reality is that several are badly run operations, and have hurt themselves more than online has hurt them. Lack of investment in manpower, in innovation and in systems is what has brought them here. But if you see how some of Arvind’s brands and retailers like Lifestyle Max are run, you can imagine it’s not a 0-1 win for online. 

On the online side, of course, we won’t know which are the well-run businesses for several years. Their health will be hidden in the hoopla and noise around gross merchandise volume (GMV) growth, valuations, funding and acquisitions. The real winners will be known only when the rising waters start receding.

Update: August 24, 2015 This article was updated to include data from a Kotak Institutional Equities report which states that there are only 40 million active e-commerce customers in India.