Walmart gambles $16 billion on India’s e-commerce startup Flipkart, biggest deal in retailer’s history

Walmart confirmed a $16 billion investment for a 77% majority stake in India’s e-commerce startup Flipkart. The deal has been closely watched for the past few months, with Walmart execs seen talking with Flipkart management, and Amazon also showing an interest in Flipkart.

The deal marks the largest acquisition in Walmart’s history in terms of purchase price, dwarfing the Jet.com deal of $3 billion and the $9 billion it paid for Asda in 1999. Walmart is financing the deal with some debt and available cash from other international businesses, such as $10 billion it’s collecting from selling a majority stake of Asda to Sainsbury’s.

Retail insiders like the partnership between Walmart and Flipkart, noting it gives the retail giant an opening in one of the fastest growing e-commerce markets in the world. But Wall Street investors are not so bullish on the move as the deal will likely reduce earnings for the next two years or more.

“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 e-commerce in the market,” Walmart CEO Doug McMillon told analysts during a call Wednesday (May 9). “As a company, we are transforming globally to meet and exceed the needs of customers, and we look forward to working with Flipkart to grow in this critical market. We are also excited to be doing this with Tencent, Tiger Global and Microsoft, which will be key strategic and technology partners. We are confident this group will provide Flipkart with enhanced strategic and competitive advantage. Our investment will benefit India, providing quality, affordable goods for customers, while creating new skilled jobs and fresh opportunities for small suppliers, farmers and women entrepreneurs.”

The deal, while high on long-term opportunity, is expected to reduce earnings this year between 25 and 30 cents per share. The negative impact to earnings next year widens to 60 cents per share, and the company said losses are expected to continue from the deal for a few more years as it works to turn around the company’s $1.5 million annual operating loss.

Shares of Walmart (NYSE: WMT) slid 3.87% to $82.40 in the morning session For the past 52 weeks, shares have traded between $73.13 and $109.98. More than 20 million shares of Walmart changed hands in the morning session, twice the normal daily volume.

DEAL RATIONALE
In the investor call, McMillon and his management team tried to put the deal into context for what Walmart’s needs are long term. He spoke highly of the Flipkart management team including founder Binny Bansal, who is staying on to run Flipkart. McMillon said the worst thing Walmart could do is over-manage or force changes. He has confidence in Flipkart leadership, who he sees as “innovators and problem solvers” who built not only an e-commerce platform but also an ecosystem that includes a mobile payment system, a higher-margin fashion business and final-mile infrastructure that makes deliveries in 800 cities to more than 500,000 daily customers.

McMillon said that since 2007, Bansal and his team have become a homegrown winner and helped to transform India’s burgeoning e-commerce business. Flipkart is still losing money annually but has grown to $7.5 billion in annual sales, up 50% year-over-year, despite a competitive landscape with the likes of Amazon and Snapdeal. McMillon said Flipkart grew its customer base to roughly 54 million last year, with much potential given there are 1.3 billion consumers in India. He said Walmart evaluated the deal and its immediate dilution on earnings but saw too much long-term potential to ignore for the sake of short-term earnings.

“This investment is of immense importance for India and will help fuel our ambition to deepen our connection with buyers and sellers and to create the next wave of retail in India,” Bansal said. “While e-commerce is still a relatively small part of retail in India, we see great potential to grow. Walmart is the ideal partner for the next phase of our journey, and we look forward to working together in the years ahead to bring our strengths and learnings in retail and e-commerce to the fore.”

Judith McKenna, CEO of Walmart International, said during the call Flipkart will operate as a segment under her division. Walmart may take Flipkart public at some point, having seen Walmex, its Mexican and Central American business arm, find success under that strategy. She said Walmart also is in talks with additional investors who might come in on the deal and slightly dilute their 77% stake. However, Walmart officials said they will maintain a majority stake.

BENEFITS FROM PARTNERSHIP
McMillon said there should be some significant lessons to learn for Walmart with the deal. He said partnering with Microsoft, Tencent and Tiger Global, the minority owners who have tech expertise, will be a benefit. He said Flipkart also has tech expertise the company expects to leverage over time. When asked if Marc Lore, the head of Walmart eCommerce, will work with the Flipkart transition, McMillon said Walmart wants Lore to focus on growing the U.S. e-commerce business, but there will be some engagement.

Walmart has long sought to expand its reach into India but government hurdles that kept foreign national companies from operating brick-and-mortar stores were an issue. Walmart dissolved its partnership with Bharti in 2013 after working together for six years.

While the investment focus continued in China and the U.S., India took a backseat, but Walmart kept one eye on India, according to IGD analysts. Walmart announced last year it would grow its cash and carry business from 21 to 50 stores over the next three to five years, focusing on the cities in the north.

Last year India began relaxing rules for 100% foreign direct investment in food products manufactured locally and IGD said Walmart was interested in this business. While Flipkart is general merchandise and apparel, Walmart said Wednesday its expertise in grocery around the world could fit and offers potential expansion to food. McKenna said leveraging a higher margin apparel business is one way the retailer could try and scale a less profitable grocery business.

ANALYST REACTION
Retail consultant Jan Kniffen said there are only three real players in the world of e-commerce — Amazon, Alibaba and Walmart — and they will divide up the global pie. He said it makes sense for Walmart to partner with a local market leader like Flipkart in India, who already has a 50% market share. Kniffen said no one can stop Alibaba or Amazon but those players that can get in on the ground floor with a lion’s share have a chance to compete long-term.

Stephens Inc. analyst Ben Bienvenue remains overweight on Walmart following the deal saying while the financial impact is more significant than expected, the value of the asset warrants the investment.

“In our opinion, as Walmart shows it is serious about competing in the global e-commerce marketplace, we remain overweight on the stock but our price target of $108 is under review,” Bienvenue noted.

Carol Spieckerman, CEO of Spieckerman Retail, has said Flipkart holds growth potential for Walmart.

“Some global markets are better scaled through digital and that certainly describes India,” she said. “Just as Walmart’s acquisition of Jet.com girds its digital presence in the U.S., partnering with Flipkart is an efficient way to make a meaningful move in India.”

Annibal Sodero, professor of supply chain at the University of Arkansas, said as Walmart U.S. sales are flattening, it’s best growth opportunities are outside the United States. He said growing through acquisition is the best way for Walmart to expand its international footprint, and a deal for Flipkart makes sense following that strategy. He said the deal won’t be without challenges. The geographic barriers are huge and the business model is vastly different. But that doesn’t mean it won’t work. He said Jet.com is vastly different and that deal has been solid.

“Wal-Mart is not going to find a perfect glove to fit their hand so they have made strategic plays when they can do so,” Sodero said. “One thing for certain is that Walmart is going to have to invest in acquisitions to grow e-commerce share against the likes of Amazon and Alibaba.”