When unit economics are screwed – Effect of discounts on the suppliers of e-commerce marketplaces

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In the traditional sense, profit is the money that a business makes after accounting for all the expenses.

Needless to say, various purchases have become deeply discounted these days, if you do put in a little effort. Groceries can be home delivered with at least 20% discount. Food can be had for free, sometimes you may even get paid to have that lunch. Drives can be taken for free. Stays during vacation are free. The list is nothing but growing.

Consumers have understood the drill. Download the app, create a new account, use a referral code, place the order with for-first-time-user-only promocode, use a wallet for payment and voila! Throw in a bit of wallet loading offers and credit card points on top of it. ‘New user’ is anyways an abused term. Wait for few months without any transaction, a miss-you-promo will be waiting in your inbox.

This post, however, is about how this is playing out at the other side of the marketplace, the service providers or the suppliers.

Buyer == Seller

Imagine Ramesh, a bean bag distributor whose entire cost for a bean bag, including purchasing from manufacturer and handling the supply-chain, is Rs.700. He sells it to the retailer at 800 and the retailer in turn sells it at 1000 to the end customer. Looking at all that is going on in the internet world, Ramesh decides to try his luck being a seller on metookart.com. He lists it at Rs.1000 with a commission of 5%. One day, he finds out that the bean bag is being sold with 25% discount at Rs.750. Wait a minute, So, he himself can actually buy it for 750 while the company will settle his accounts with 950, after adjusting the commissions. All of a sudden, every term he had learnt during his decades-old dhanda becomes meaningless. None of the supply chain metrics will matter. Pay it as a buyer, accept the order as seller and ship it, receive the product again as a buyer. So, should he actually pack it, ship it and receive it? Well, not necessarily. A straight profit of Rs.200 for every transaction. Pretty swell profit for few clicks, right?

Now, let’s extrapolate this to various other services. Cab driver gets ride charges plus incentives while the passenger gets free ride and promocodes time-to-time. Restaurants bill for food while consumer gets free food. Property owners get room bookings while the consumer gets more than 50% discount. Do you really need to have a running business to pull these? Well, some of these marketplaces don’t even care. Still, it helps if you do have one.

Recently, mint ran a great story about fake restaurants on foodpanda . But this is not limited to just foodpanda, fake suppliers exist in other marketplaces as well. A very unscientific survey of mine with about 20 cab drivers across Bangalore and Delhi led me to conclude that 10-15% of their bookings are done by themselves or split by the same passenger for a single ride. Property owners book their own rooms for John Does with discounts upto 70%, while the commission paid is around 20%. Very neat!

Arbitrage opportunities

Looking back at Ramesh’s story, his retailer was procuring bean bags at Rs.800. He now finds the same product at Rs.750, thus increasing his profit margin by 5%. This is not new to us, right? Hello, Fair price shops and food subsidies. Well, somewhat same!. You might ask, what’s the problem in this transaction? Well, the discount provided by metookart was to entice the end consumer who might continue buying at metookart with an assumption that this discount will be recovered over the life-time of the consumer. But, in this transaction, the discount of Rs.250 , which can be considered as a marketing spend went for a toss.

Wrong expectations

At one point of time, cab drivers actually made more than 1.5 lakhs per month. Many engineering and management graduates lost meaning in their lives. Many drivers quit their regular jobs with travel agents and joined the party buying a brand new Etios on loan from loansharks. Travel agents increased their fleet. Our dear media showcased this a dream job by sharing stories of executives who quit regular jobs to drive for Uber. #Facepalm.

The incentives which were at Rs.500 per ride have now come to Rs.50 or 0. The close-to-real-economics world did hurt the latecomers.

Meet Santosh, an Uber driver in Bangalore, who used to drive for company commutes and outstations joined Uber in July seeing his peers earning more than a lakh every month. His dreams of clearing the loan in next 5-6 months remains a dream as the incentives are reduced. Driving for more than 10 hours a day, he makes just enough to pay EMIs after taking care of car’s maintenance, leaving him with less money in hand than he used to save in his previous job.

“Will you continue with Uber even if they stop the incentive”, I enquired.

“No, Sir. I will go back to doing outstations then. Not just me, but without the incentives, It won’t work out for us.”, he said.

Party will end… Eventually

Why should these ecom players provide those discounts in the first place? The assumption is that instead of spending towards ads, online and offline, for brand building, the same money can be distributed to the customers who get a better deal and more likely to stick to the brand. If one player is able to get a large chunk of these ‘loyal’ customers, others go out of business or get acquired or just continue as a smaller competitor. However, when multiple players want to dominate the market and each have access to equally deep pockets, (Interestingly, sometimes even the same pocket!) it will continue till only one will remain in the end. High five, Game theory!

Let’s wait and see how this will pan out for the service providers, once each of these markets consolidate.

Disclaimer : Views expressed here are purely personal and do not reflect my current or past employers.