US investors simply don’t get why Walmart bought Flipkart: “It makes zero sense”

Not doing too well.
Not doing too well.
Image: Reuters/Brendan McDermid
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Investors in the US aren’t exactly kicked about the world’s biggest e-commerce deal.

On May 09, Bentonville-headquartered Walmart said it will spend $16 billion (Rs1 lakh crore) to buy a 77% stake in Flipkart, India’s largest homegrown e-commerce firm. With this deal, the US retailer has finally got a way into India’s retail market after playing at the fringes for over a decade.

However, Walmart’s investors in the US are hardly the most excited bunch. On the day of the announcement, Walmart’s stock fell as much as 4% on the New York Stock Exchange. The slump was driven by “skepticism about the cost of the deal” as well as the cynicism around whether the deal will really help Walmart gain ground against arch rival Amazon in India, the Wall Street Journal (paywall) reported.

For Flipkart, Walmart has offered to pay at least five times more than its last biggest acquisition.

Here is a quick roundup of what some experts who track Walmart in the US have been saying:

Ben Thompson, a business, technology, and media analyst

I think investors got this deal exactly right: it makes zero sense. I read Walmart’s presentation and listened to the entirety of its call with investors and I remain as puzzled as I was when I heard the deal.

…I struggle to see what exactly the company can add: there was basically zero discussion of how Walmart will make it more likely Flipkart will succeed in its battle with Amazon. Walmart’s executives tried to argue that the benefit would go the other way—Walmart would learn from Flipkart—but wasn’t that the point of acquiring Jet.com?

Frankly, this deal reeks of empire building: Walmart is buying its share of Flipkart because it feels entitled to retail growth globally, but the reality is that Walmart’s investors would be far better served by Walmart investing the cash in its fight against Amazon or, if it feels it is already spending enough, returning the cash to shareholders who can decide on their own how to invest in the market (likely by buying Amazon shares, natch).

…Indeed, as far as I can tell, the only potential benefit to Walmart and its investors is that Walmart’s backing potentially makes Amazon’s fight for India more expensive. Even that, though, is likely to prove to Amazon’s benefit in the long run: Jeff Bezos’ company will almost certainly have a longer leash with investors than will Walmart; if the company wants to truly concern itself with Amazon the money would have been far better spent at home.

John Brick, Morningstar equity analyst

The stock reaction yesterday was due in our view to management’s commentary around the expected 5%-11% decline to earnings over the next two years as a result of Flipkart failing to turn a profit and investments into the business.

…Flipkart is still maintaining its brand identity. Walmart will just supply better logistics, scale, and capital to support their venture. For that reason, we don’t see a change to how Indian customers will perceive the company.

Despite its tenure abroad, international stores (24%) may never reach the level of profitability seen in the US, as it lacks similar scale benefits and sells through a multitude of banners. (Walmart was squeezed out of GermanyBrazilRussia, and South Korea.)

Amazon has a dominant position selling to millennials online, and it may be difficult for Walmart to unseat its rival.

Rupesh Parikh, an analyst at Oppenheimer

This deal adds new risk at a time (when) investors have been looking at Walmart to streamline their business. This has the potential to really derail some of the progress they’ve made…Walmart is walking a fine line between investment and profitability right now. Growing an e-commerce company is really, really expensive, and there’s no guarantee that Walmart, or anyone, can do that very well.

Dan Binder, managing director at Jefferies

…Longer-term investors see value and short-term investors see dilution and near-term share weakness. Admittedly, even long-term investors may have to be very long-term in their view before this business breaks even, but perhaps less so, before value is realised directly in the Walmart stock. This could be achieved through an eventual IPO of Flipkart, which would simultaneously create currency for Flipkart management to stay incentivised and provide Walmart significant returns on its initial investment

…To be clear, Walmart management has only said it supports Flipkart’s ambition to transition into a publicly-listed, majority-owned subsidiary in the future. How far in the future is unclear, but given clear advantages to doing this, we would be surprised if it was more than two to three years.

Walmart’s shares have been downgraded by several rating agencies over the last two days. Standard and Poor’s (S&P) lowered Walmart’s outlook from stable to negative, owing to the rising leverage and risks due to the company spending to expand online and globally. New York-based investment bank Oppenheimer & Co also slashed its rating from outperform to perform.