Zomato’s listing was a watershed moment in the Indian stock market as it is the first large listed pure-play internet company. The stock has almost doubled from its IPO price. Post Zomato’s success, there are many large internet companies looking to list on the bourses. The likes of Nykaa have already completed their IPOs. Others like Delhivery have filed their papers for an IPO. However, with these businesses being loss-making, the market is divided. Some market participants are comparing the popularity of these IPOs with the internet boom and bust of 2000 when the stocks fell significantly. They argue that these companies have no profits to latch on to when the stocks start falling. However, the bullish side believes that like in the US and China, these companies can become the biggest value creators over time.

Interest in these stocks is, to a large extent, driven by the success of tech companies in the US and China. Tech-heavy Nasdaq has gone up more than five-fold in the last 10 years. Almost 28 per cent of S&P 500 by value is comprised of tech stocks; as a proportion this is just below the earlier highs reached in 1999. These returns are led by the five FAANG stocks [Facebook, Amazon, Apple, Netflix and Alphabet (Google)]. These five stocks have a combined market cap in excess of $7 trillion and constitute almost 20 per cent of S&P 500. Hence, a lot of investors are looking at the Indian digital companies and trying to compare them with the US and Chinese companies.
India would be a different market and the development of these companies may follow a different path, but value creation will definitely happen.

Underpenetrated Market, High Internet Usage…

India is one of the largest markets in the world for ecommerce companies with almost 80 crore internet users. But it is also estimated that just about 20 per cent of the internet users are online shoppers. Hence, the market has huge potential. But by value, the penetration levels are low. Other than mobiles and electronics, where the penetration could be around 40 per cent, in all other segments, online formed less than 10 per cent of the overall market in 2020. FMCG and grocery are the lowest at sub-1 per cent. Even in food delivery, the penetration is sub-10 per cent of the overall restaurant consumption.

In comparison with the US and China, the penetration levels are just a small fraction of these markets. This is what makes people believe that the market potential is significant and, hence, these companies can keep growing at a fast pace for multiple years.

Other than ecommerce, fintech has been another area that has attracted a lot of investor interest. We may see some of the fintech players listing in the near term. This is an area where the opportunities are humongous given the sheer under-penetration of financial products in India. Data points such as penetration of credit cards and insurance, and people participating in the stock markets are all at sub-5 per cent. Comparing some of this data with that of developed economies, we again find that India is just a fraction of those markets in terms of penetration (credit card penetration in China is more than 50 per cent and in the US, it is more than 300 per cent).

Another aspect to consider in tandem is that India could be one of the most technologically advanced markets in payments given that Reserve Bank of India (RBI) and government actions which should provide fintech businesses a strong pipeline for customer acquisition. One of the reasons why the US has been able to produce trillion- or multi-trillion-dollar companies is the global nature of their businesses that makes the whole world a market for these companies.

Till now, software has been the only area where India has been able to successfully become the market for the world. However, another area where India is uniquely positioned and, like software, can become significant for the world is Edtech. India has one of the largest English-speaking populations that is well-educated and can work at a fraction of the cost of the large global economies. We are seeing some companies such as Byju’s trying to create global scale in this business.

Other areas where we could see digital companies growing could be gaming (Nazara is already listed), ticketing, etc.

With internet penetration increasing along with Covid helping the transition to the digital world, the next 10 years may well be about companies that are trying to digitise businesses and customer experience. The size is already visible in global economies with a few trillion-dollar companies in the US. The largest delivery company has a size of around $200 billion, in China.

…But Making Money May Not Be Simple

The potential is clearly visible but there are multiple peculiarities in this space.

• Most of the companies in this space are currently loss-making and the current valuations for many of them assume that expenses are for future growth and margins are already visible. Once these companies reach critical mass, the profitability can start and grow disproportionately. In addition, most of these companies are trying to create an ecosystem where they can straddle various types of businesses. Paytm, for instance, is a large payment company, but has multiple other categories such as ecommerce. Amazon is into multiple lines of businesses ranging from e-retail to payments, music, content and others. Hence, the size of these companies can be multi-fold of single-line businesses.
• It’s very difficult to value these companies currently given their fast growth rate and losses. Hence, the stocks prices can be very volatile. Despite the fact that post the fall of 2000 we saw some real internet giants evolving in the US and software companies creating scale in India, Nasdaq took more than a decade to recoup losses of 1999-2001 with multiple mortalities. Similarly in India, a lot of Indian software companies saw negative share price returns for multiple years. This demonstrates that fast growth brings a problem of overvaluation, losses and mortality.
• Given that a lot of these businesses have “winner takes all’’ characteristics, if one is not invested in the right company, then the chances of losses expand. There is only one Google, one Microsoft, one Amazon and one Facebook. However, there have been multiple failures and there are many who are trying to make the cut. The market remains in a continuous disruption mode before a winner emerges.

Overall, digital is the future and India is bound to see some behemoths emerge, but it may not be the best strategy for retail investors to participate directly unless they have deep insights into the businesses and a very long duration.

The author is Head of Research, Motilal Oswal Asset Management Company