Why Ecommerce acquisitions makes no sense in early / nascent stage

Few (Series B / Series C) funded ecommerce companies in India have started making/announcing acquisitions of smaller players. Recently when I posted about the 2012 Predictions & Trends, I made an comment that in an early ecommerce market, acquisitions of competition or startups really makes no sense. Trying to put few thoughts on that here.

A typical such small ecommerce startup that gets acquired by larger & known ecommerce player is structured as follows -

  • About 2-4 founding team members; 5 to 10 employees; up to 25 or so if the venture has received any institutional stage funding
  • Focused on one vertical – sports; electronics; kids; jewellery – Catalog of 1000 to 10000 product SKUs
  • Order Acquisition Channels – Direct Traffic, SEO, SEM, Social, Affiliates, Email Marketing, Display Advertising.
  • Team Structure: Founders, Product Development & Management Team, Online Marketing, Category Managers, Logistics & Operations Managers, Customer Support
  • Social Media presence – Fans on Facebook; Followers on Twitter
  • Business Partners – Vendors for Procurement, Logistics, Payment Gateway, Customer Support
  • Product, Platform & Technology
  • Warehouses & In-house logistics for Series A funded players
  • Gross Orders – between 50 to 100 per day; few Series A funded players may have from 200 to 500 per day.

What happens when a considerably large & deeply funded ecommerce player (say LargeEcom.com) acquires a small startup (SmallEcom.com) with assets as mentioned above -

  • Category Focus:
    SmallEcom.com will be either a horizontal player or vertical focused player. If horizontal, then most of the products will be already present in acquiring company. If vertical then it might be a small ecommerce startup with about 500 to 5000 SKUs, the acquisition further does not make any sense. The acquiring LargeEcom.com could have directly poached category managers or could have developed that category in-house just by hiring few more category managers!
  • Order Acquisition Channels:
    Any online ecommerce venture’s assets are how they are acquiring new customers. The biggest challenge is not acquiring SmallEcom.com, but making the most of these channels. Post acquisition, these channels are ‘unfortunately useless’ to the acquiring company – LargeEcom.com. Here is why -
    – Direct Traffic
    If website of SmallEcom.com needs to be shut, the direct traffic will be redirected to LargeEcom.com post acquisition, doing that quickly reduces the value to its existing users. If website is shut – value of all other channels die on its own, explained below.

    - Natural Search or SEO
    SmallEcom.com’s URLs in Google Index no matter how well optimized will lose rankings when the traffic is diverted to another domain. All time and money invested in search optimization over months / years is diminished immediately.

    - Paid Advertising: SEM & Display >
    Search Campaigns are optimized over a period of time to reach lower the cost per clicks. Though the same can copied from SmallEcom.com in to account of LargeEcom.com’s adwords account, the same CPCs will not be maintained. Well, otherwise the acquiring company LargeEcom.com’s has its own online marketing team, it will be a max one week job to create new campaigns for the catalog of SmallEcom.com.

    - Social >
    Post acquisition, SmallEcom.com’s Facebook Fans & Twitter followers cannot be moved to LargeEcom.com’s brand page or twitter handle. Again – value of the time and money spend behind this channel is reduced to zero on day 1 itself.

    - Affiliates >
    There are few affiliate marketing companies in India, they work with all ecommerce companies. Most likely LargeEcom.com would have better negotiated rates (cost of acquisition) with the same affiliate partners thats SmallEcom.com has partnered with.

    - Email >
    There might be few duplicate email addresses, but is this a reason for LargeEcom.com to acquire a ecommerce startup with a small number of email addresses knowing that email marketing has diminishing returns over a period of time.

The conclusion is – to retain the value of the startup’s order acquisition channels, the venture needs to be up and running. The big question for large acquiring company – should be it done at a cost of duplicating every resource available – two marketing teams, two product teams, two tech teams, two customer support teams or two operations teams?

The answer is No in both the cases – that is why acquiring a ecommerce startup is senseless; and most of them happening in India now can be termed as Acqui-hires, hired for talent.

  • Founding Team:
    The founders are retained, most likely to quit post the expiry of retention period. Once entrepreneur is always a entrepreneur by heart.
  • Team Structure:
    Post acquisition, most roles will be dual and overlapping in both organizations. Unfortunately many cannot be accommodated since the larger entity cannot have – say two Online Marketing Heads or two Operations Head. Only in the case when the acquiring company has open positions, high chances that the team members are accommodated, else asked to quit.
  • Business Partners:
    Vendors for Procurement – will be added to LargeEcom.com if it was acquiring a vertical ecommerce player and was not present in the same category. Most likely, this will not be more than 100 new vendors; again which could have been easily acquired just by hiring 2-3 new category managers (so why acquire?). If horizontal player was acquired – there would a overlap in vendors too.
  • Logistics & Payment Gateway:
    LargeEcom.com would already enjoy better pricing for both with its partners, needless to say they both work with similar service providers for logistics. Acquiring a startup will not increase footprint in terms of pin-codes served.
  • Customer Support:
    In a small startup, customer support is usually handled by a very small team; often by founders. If acquisition is across city – a Delhi based startup is acquired by Bangalore based one, clearly means that the team is either axed or goes on job hunting mode as they would not be open to relocation. This also holds true for other teams as well.
  • Product, Platform & Technology:
    The smaller startup that gets acquired will probably be running a ready-to-integrate ecommerce platform. Surprisingly, even the larger acquiring company might be as well running on some ready to use ecommerce platform and struggling to hold it up. There is absolutely no question of seamless integration here, ask your engineering folks! Either ways, since the acquisition is not for technology, the product and platform improvements on the smaller startup’s ecommerce platform will be lost as well.
  • Warehouse & In-house Logistics:
    Few funded startups today have started with own warehouse & in-house logistics. Post acquisition, the lease on such warehouses expire (for two reasons – acquiring ecom startup already has own warehouse in that location with excess space + managing two warehouses in same city at a distance from each other means doubling operational costs). In-house logistics employees are either temps or contract workforce or on rolls of another company.
  • Gross Orders:
    The SmallEcom.com site that was just acquired was doing about 50 to 200 daily gross orders; The LargeEcom.com site who acquired it will usually claim to do between 10,000 to 25,000 daily transactions. On order to order basis – acquiring an loss making ecommerce startup that will does 0.5% to 1% transactions will add any value to large entity? No.

So why are these acquisitions happening?

  • New Vertical?
    No. It is not right to acquire a company for say $1 Mn or even 1 Crore to add new category to your product portfolio. Hire two category managers and have the new vertical rolling in 3 months.
  • Acqui-hires?
    No. They happen if it was a case of known proven talent who build a super kewl product / technology platform but did not hit a right idea or execute it well. Examples – Oink (by Milk), or Gowalla and so on.
  • Revenues?
    No. A large loss making ecommerce entity acquiring another loss making small ecommerce startup – two negatives don’t add up to positives.
  • Assets? No.
    Clearly no assets are doubled post the acquisition. Nothing on revenue, product, process or technology.

May be signs of desperation. May be lets try out something new. May be even VC / PE signaling – ‘Hey, we guys are growing inorganically, new category, new vertical and so on – we will require more investment capital in next rounds, care to participate?’. They may participate or may not – but is this a right strategy to present or package to existing investors where the net value of acquisition post 12 months (or even on day of acquisition) is zero.

However, some acquisitions do make sense – Homeshop18 acquiring Coinjoos or Flipkart acquiring Mime360. (Sorry – I don’t name bad acquisitions). Venturing into new vertical at times makes sense for acquisition – for verticals like huge catalog driven businesses – Books & Digital Music. It takes months together to build a team and build this massive catalog and then start business operations; acquisition makes more sense than building it grounds up; but not for any other category.

So Amazon.com acquires? Why can’t we?

Amazon acquires cause it should acquire and own large ecommerce companies to maintain its undisputed lead. It is a listed company, needs to focus on growing is topline revenues and at the massive size that Amazon.com is – it has capacity to absorb losses and yet show some superb green numbers in balance sheet.

My guess is Amazon keeps all acquired ecommerce properties (Zappos, Woot, Diapers, Soap, Audible, etc, etc) live and independent post acquisition not alone for the culture of startups – but for reasons explained above. They need to maintain order acquisition channels for these acquired companies active and generate revenues.

While in India, a Series B / Series C funded ecommerce venture cannot run dual operations or two loss making entities.

Concluding Notes:

I am not against acquisitions & exits, they are must for startup ecosystem. And they should be in plenty to keep the ecosystem building. But don’t agree with such acquisitions made by Series B / Series C funded ecommerce companies which end up adding no value to the company. They hurt in long run, when multiple investors get involved – burn their hands and then completely give up on the sector or market itself.

Otherwise I will stick to what I wrote earlier on predications for investments made in both horizontal & vertical ecommerce in India.

[Guest article contributed by PJ. Reproduced from his blog.]