Monday, May 20, 2013

Idli Profitability

In the times of ecommerce layoffs, people have started talking about something called as 'Idli Profitability'. Apparently, it is a take on 'Ramen Profitability' coined by Paul Graham and supposed to be a state where a company is supposed to generate enough money so that it can take care of its basic expenses like employee salaries and sustain the founders. For a layman unaware of the crazy ride that ecommerce in india has become, it may be somewhat puzzling why this is even a question - every business should be do that - able to manage its expenses that is. However, Ecommerce in India is like big investment pot and too tempting for large investors to ignore even if most ecommerce websites even after 3-4 years have not even become 'idli profitable'.

Profitability is a big challenge and here's why :

1) Traffic is seldom created by brand value but often bought by advertisements. This broadly means generating traffic mostly by ads in Google(search, banner) and Facebook(mostly banner). An average  click using an advertisement is roughly 10 Rupees(take a few rupees here and there). 50 clicks generate a sale. Do the math. Typically you end up spending 500 Rs for a sale (say average - 1500 Rupees). So 25% of your revenue will go as ad spend (considering you are able to generate 20% sales without ads). If you are mature ecommerce company, this percentage maybe lower but you may have probably burnt more money on TVads or in getting where you are.

2) If you manage your own inventory, you have to pay logistics - this will be 10%-20%. If you do third party courier companies or manage your own logistics - I guess it doesn't matter much because in one case it is higher operational cost and in the other, it is more capital expenditure but in the end it  a sigificant chunk. If you are a managed marketplace, you probably dont have to worry about
logistics but typically the commission is 15-20%.

Then there are discounts and returns on COD  etc. Even if you ignore them, here is what you end up with:

For every 100 Rs of business,

Inventory model : Money left :=100-40 (conservative estimate of 25 rupees of ads and 15 rupees of logistics) Typically it is difficult to sell an item at double the factory price so lets assume Cost of Goods as 60 Rs (in case of books it is reasonable to sell a 60 Rs book(from publisher) at 100 Rs after 10 percent discount to a customer but in other like electronics it may be a tricky affair). So essentially you are left with Rs 0 to pay for your salaries (100-40-60).

MarketPlace model : Lets assume the comission charges as 15%. This means you end up with 15 Rupees for every 100 Rupees sale. So Money left := 15-25(ads cost). So ou are left with -10 Rs for your salaries.

It is not hard to see why profitablity or even idli profitability is difficult if not impossible in such a scenario. There are obviously going to be exceptions who will reduce these costs either because of brand name or land grab but for majority of ecommerce players, its gonna be a long chase towards profitability.

As a company with an Ecommerce front end, we face the same challenges and we are just about 10 percentage points away from idli profitability - sad but true. However, we have taken some hard decisions and said no to significant percentage of sales by adopting a NO COD and No discounts policy. We dont have a wherewithal to do a lang grab neither do we have a big marketing spend. We are trying to get around these by optimizing our manufacturing process, hoping ad costs go down in the long run and we are able to build a brand slowly. If I had to take a wild guess about who would win the ecommerce race, I would bet my money (theoretically - not that i have any :) ) on courier companies

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