The World is Watching!
The world is watching with keen interest on India’s booming and fast growing E-Commerce economy; currently estimated at about $15 Billion and rapidly growing at 30- 50% YOY; expected to touch $70 Billion by 2020. In terms of investor confidence; the country attracted $2 Billion (2014) in terms of Private Equity, Venture Funding & Angel Investors with a couple of IPO’s thrown in; over 800 companies were funded. Several seed stage companies received VC funding to the tune of $1M.
At the same stage; there are thousands of internet start-ups including yours trying to achieve scale and grow your business; and keep growing with or without funding. Or you might be a large automobile brand and your boss has set you the herculean task of setting up your digital business – in terms of online brand or online sales. Whatever be the case; the key point for start-ups are to have a clear idea on being profitable from day 1; or as much profitable as possible.
As a startup you would say “I have already spent $5000 or Rs. 3 lacs on setting up my site; getting first few hires, building a few products to sell, a bit of digital marketing etc. and now my consumers are coming in; so I am in negative Rs. 3 lacs so what profits are you talking about?”
Firstly; let us try to understand what you do and where do plan to go. For example take your company’s site is www.example.com – You sell home decor products like table lamps, coasters, wall clocks etc. For this discussion we are assuming a market place model (Same as Amazon & Flipkart) i.e. Example will contact various Home Decorative Suppliers and list their products on their site by simply taking their product images i.e. zero inventory. And whenever there is an online order you will contact the supplier and fulfil the transaction
How much margin is a good margin?
Usually a successful e-com company is generally considered to be with thousands of visitors and many orders every day. Sure you want to be that also; but how do you get off the ground today? There is a host of Digital Marketing initiatives you can do to get those thousand visitors which convert to a few orders per day. However what should be your initial product margin strategy? Here are the options:-
- Low Margin: If your margins are low then you will make less profit. However lowest margin = least price = maximum sale. This logic holds good if you are selling commodity product like mobile phones e.g. you are selling a Samsung Galaxy II (Established brand, defined need, buyer searching for your specific product). However most of us will not be selling mobile phones but a niche product or service. There will be lesser demand for e.g. for your home decor product like Tea Light. Hence you might as well increase your margin because the product is niche hence you should be able to generate demand albeit to a smaller market. However maybe also you are selling a “Branded Tea Light” widely available at multiple e-com stores so you can still keep lower margins to beat the competition. What is low margin? Anything upto 10%. Hence if you buy a phone for Rs. 10,000 and add a 5% margin which is Rs. 500 its still a good income as the demand for phones is huge
- Medium Margin: This is a margin amount between 10 to 25%. For this discussion we are assuming margin on cost. (Meaning Cost= Rs. 100. Hence for 25% Margin on Cost the sale price is Rs. 125. Note your CA (Accountant) will tell you margin is to be done on Sale price i.e. 25/125= 20%)
- A mid margin strategy is best for you to grow your business as:-
- Your products or collection of products and your overall site or your services are unique enough (and you have clearly studied the competition and know this) – hence a medium margin is good because you are competitively priced hence doing justice to your company as well as the consumer. You will create good demand
- You are slowly covering up your initial investment of Rs. 3 lacs or $5000 and slowly building up your sales and growing the company
- By seeing some demand in the market you are immediately able to gauge what products are selling, which are being viewed, which are being bought
- If you have decent funding you can consider a zero margin strategy for the first six months; garner business and then increase your margin up to 20-25%
- High margin can be anywhere between 50% to 100% on Cost. This can be employed only if you offer some extremely exclusive products which are also expensive e.g. Rare Deep Sea Russian Caviar!
Product Strategy & Range
Ensure that your product strategy is clear and the range supports the product strategy. E.g. If you have Home Decor as a prime category; you will accordingly set its sub categories. In each sub category you will ensure you have enough products to ensure consumer has adequate choice before making a decision on your product or a product at a another website. It is also important if you have Home Decor than you have to ensure other top categories are related to home decor. Remember you cannot be a flipkart or amazon which sells every conceivable product. Find your niche and build from there. Of course there are thousands of other things in product strategy which we will cover in a separate piece
Back to your CA – Which accounting model do you follow?
A marketplace model (explained earlier where you are listing products from other suppliers) means that your site is a sort of “broker” between the supplier and the consumer buyer. Hence accordingly you buy at 100, sell at Rs. 120. Plus you will add 14% Service tax on the Rs. 120 as you are providing a service of connecting buyer and seller. However the Indian Govt. has raised a huge hue and cry on this practice as foul play; as some very large sites’ suppliers are their sister concerns. However the biggies have legal armies to speak with the govt. which you don’t. Hence it is best to avoid the Service Tax Route and follow the Trader/ Reseller Model
Trader/ Reseller Model
Here you are following hundreds of years of Business Practice in India; which is Trader/ Reseller model. In this you buy product from Supplier at Rs. 100. Add 20% margin to arrive at sale price Rs. 120. Now consider this: You have bought something from someone and sold it to a consumer; hence you act as Trader/ Reseller. Hence you need to apply VAT (Value Added Tax)… Hence for e.g. if it is a Home Decor usually it is 5% VAT; hence end user price becomes Rs. 120 + 5% = Rs. 126. This is the total consumer price which I recommend you display to the consumer rather than showing Rs. 120 and then consumer discovers additional VAT; and might get disappointed and cancel her decision to buy. The Invoice you will generate will be titled “Retail Invoice” and will need to mention your VAT Number (For Mumbai Sites it is MVAT… Maharashtra VAT), and CST Number. Also you will need to specify a descriptive paragraph as required by the VAT Department of the Govt (Sales Tax Dept). On a lighter note; don’t write the disclaimer “Goods once sold cannot be taken back” J; your neighbourhood store can do that but you cannot; as in case of defective goods or goods broken during shipment you can always provide a replacement; but some products are single piece/ irreplaceable or not in stock with supplier. Plus you are a startup; not a shop established before our independence!
Please note these are our views but please speak to your CA or your Accounting Expert friend as to following VAT Trader or ST Services model
On a similar note should you add shipping cost as separate? This is debatable but I would always recommend free shipping. i.e. Shipping is built into the costing. Shipping cost is dependent on the Supplier address and consumer address in the country. Hence e.g. if Shipping within Mumbai to Mumbai is Rs. 50 and Class A Metros is Rs. 100 (e.g. Mumbai to Bangalore) and a third scenario of Mumbai to e.g. Coonoor… where goods go from Mumbai to Bangalore and from there to Coonoor… cost is Rs. 150. Hence take a shipping cost of Rs. 100 for this particular product (With a specific weight and size). Shipping cost will vary for every product. We have built shipping cost calculators and we can develop the same for you. Also sites like magento allow for shipping cost calculator to be added hence you can add actual cost. If you plan to Ship worldwide then you can upload the International Country Wise Shipping rate card into your website. This Rate Card will be shared by the Logistic Provider. I have seen Blue Dart (part of DHL) offering International Shipping. For Domestic shipping I would recommend companies like Delhivery, GoJavas and other similar ones
Payment Gateway Cost
Payment Gateways are available from various companies like payumoney, bill desk and others. They charge 3% on the transaction cost.. i.e. the final total invoice value. However 70% of Indian buyers opt for COD – Cash on Delivery. In this case the Cash Collection fee is done by the Logistic Partner and he has a cash collection fee which may be 3%. So for our discussion let us assume that you pay 3% to Payment Gateway for Prepaid Order or 3% to Logistic Partner for Cash Collection for COD order. Hence remember it will be either of the two; not both
Company overhead is a real killer to e-commerce in India. How to add company overhead you can ask your CA; but if you just want to take an assumption take 20%. Company overhead will cover expenses like your office rent, operating cost, staff salary etc.
Now lets take a review of Costing Items. Assume you are selling a home decor item “Blue Lamp Shade” from Supplier Arty Lamps. The costing items are shown below
|A||Cost from Supplier (For Blue Lamp Shade)||1,000|
|B||Supplier VAT (The VAT the Supplier charges you)||50||5%|
|C||Total Cost (Supplier Invoice to You)||1,050|
|C||Margin (Apply on Supplier cost, exclude supplier VAT)||300||30%|
|D||Cost with Margin||1,350|
|F||Total So far||1,450|
|H||VAT payable by consumer||73||5%|
|I||Total So far||1,523|
|J||Payment Gateway Fee / COD Collection Fee||46||3%|
|K||Total So far||1,568|
|L||Hence online display price to consumer (Round off of above)||1,570|
|M||Margin on Cost||36%|
Notables on above table:-
- Margin on cost is 36% based on cost 1000 and sale price 1568 (50% Mark-up). However this is not actual margin; your CA will explain better on how the margins can be calculated. Actual margins will be lower. Hence your cost is being marked up by 50% approx for your sale price; this is a stark reality of E-commerce business. Going above the 30% is risky; you might get out priced in the market
- Note: If an item costs 1000 from supplier; in Physical Retail it will be sold at 2000 (2X) or more to cover the high overheads
- If you add company overhead typically 20% then the sale price will be increased by Rs. 300; taking consumer price to Rs. 1,800. This is an 80% mark-up on cost; hence would recommend not to add company overhead in these early days
Margin on Sale
This will be more acceptable to your CA/ accounting norms. This is margin amount/ sale price
- As per earlier table VAT is being paid by you to supplier and by consumer to you. In this; India accounting norms require you to pay only the VAT difference to the Govt. Hence this marginally improves your margin! J
- In this case margin calculation is simple: Margin % = Margin Amount / Sale Price
- In our case we have taken VAT also in the sale price; this might be excluded by your CA
- So now the calculations are as below
|Margin on Sale (As advised by your CA)||19%|
Hence your margin is actually only 19%. Note the above does not calculate the other costs like Logistics, Payment Gateway etc. Which will further lower your margin; hence ask your CA. However since you are an E-Com business or being put in charge of a new E-Com / Digital Initiative of a large enterprise; you need to deliver quick growth hence above numbers should be acceptable to management/ investor; if not; you better convince them!
How to improve margins
So now so far we have only followed some steps to determine how to get your margins; but this is all the basics. Your goals will be obviously to improve margins! Margins can be improved by
- Trying a maximum reduction in cost items
- Increasing the margin amount you are adding (in earlier case 30%)
- Doing other innovative things
Lets explore these:-
- Reduce cost items: In the above cost items the VAT and Payment Gateway/ COD Collection fees cannot be reduced
- Reducing Logistic cost is difficult if you are tied up with a specialist e-commerce logistic partner who are VC funded and offer the lowest courier rates compared to traditional courier companies
- Doing other innovative things can be something like negotiating hard with your Suppliers on the transfer price they give you (Based on your picture of huge business in the future). You need to emphasize that this is online business where the end user online price should be lower than retail store price because online cost structure is lower hence the consumer will expect a lower price than retail. Some suppliers expect the online price to be same as retail store price but explain the logic that online needs to be cheaper. Ask them why they use email and not the postal service! Also they generally need to drop their products to the retail stores; whereas you might be picking it up from their place (through logistic partner) hence negotiate with them that hence their transfer price to you has to be lower than the store transfer price
- Packaging: Packaging is generally taken care of by Supplier but some might not package adequately as if they are supplying in past to physical retail then it does not need lot of protection; whereas online products definitely need robust packaging for national travel. Hence who will do this packaging? If your suppliers’ packaging is not adequate you need to do this yourself and hence adequately develop expertise on sourcing cheap and reliable packaging
- Package Presentation: My friend who recently bought an iPhone unwrapped the packaging and saw the iPhone box and various cutouts for headphone, charger was so superb & precise that he did not feel like removing the phone! Hence it is important that the packaging your suppliers do is not only robust but also looks nice! On a similar note gift wrapping option is always a good option to give on your site
- Free Delivery: As a startup it is essential you offer free delivery. Its not actually free but you have built it in your internal cost structure. Note that International Shipping if you plan can be paid for on case to case basis as extra; or you can integrate both the International Shipping Vendor Rates & the Domestic Shipping Vendor rates in your site – we have deep insights on how this can be implemented by your developer
- Sell to stock: This whole article is on marketplace model with zero inventories (i.e. you only place single piece order on supplier whenever the consumer buys your product) this also means that Supplier will give you a higher price for a single piece. But consider this: If friendship’s day is coming up and you want to run an online campaign on your friendship band ribbons; then you can consider buying 1000 units at a cheaper price and run a strong campaign to back this inventory. Also you can have a next day delivery for in stock items. The risk is of course leftover stock post the campaign. But this you can deal with later e.g. sell the remaining ribbons to a physical retailer (but after a year…. before next friendship day!)
- Cross sell/ upsell: Once you have at least 500-1000 past customers (out of which we assume at least 30% are repeat buyers); you can figure out campaigns to target them via email which is practically a free campaign. There will be high likelihood of a repeat buy; but it is your duty to reach out to them
- Display Price: Remember that all large online stores especially the big stores offer deep discounting by putting a very high MRP (Maximum Retail Price/ Store Price) or by selling to stock. Sell to stock you cannot afford (except for very cheap items); but you can increase the Basic MRP (Or List price) and then offer deeper discounts
- Subscription Buying: If you sell a product with a monthly cost e.g. selling a Fashion Magazine online; then there are obvious strategies like higher discount for a 2 year v/s a 1 year subscription. Try to develop corollaries of the same around your products
- Combo Pack: If you sell an external hard disk; you can also sell a cover for the same in a combo. Hence HDD for 5000 and cover for 500; total for 5500. But the combo pack can be for 5200. This doesn’t reduce you margin a bit because your real big margin is on the HDD; and what margin you make on the Rs. 500 cover does not matter anyway
Product pricing is a critical piece of e-commerce success or failure. Given all that we have already covered we go back to the basic question: How much do we load our supplier cost for our margin i.e. if supplier cost is 1000? Do we add 10% margin (Rs. 100) or 50% margin (Rs. 500) or something in between? The more the margin; the higher the price for consumer. If you add lower margin you will need to get more sales. If you add high margin even lower number of unit shipment sales will make you decent company margin. But what should you do? As a startup who’s first success criteria is higher sales; it is best you go for a low margin strategy and see how much can you spend on Digital Marketing to get in the maximum amount of sales initially
What pricing products to focus on to sell?
Suppose you have a product for Rs. 500 and another for Rs. 5000; your Digital Marketing campaigns should focus on which products? (Assuming you have 1000 products in both these price bands). We would always recommend focus on the lower pricing products. However this is also depend on the target audience. If you feel that your Rs. 5000 products are unique in the market and you expect a richer consumer audience; then by all means focus on the Rs. 5000 products
Listing on other E-Commerce Market Places
There is a big phenomenon on the internet of e-commerce aggregators. E.g.www.sweetcouch.com Hence for e.g. if you sell decorative tea lights. A consumer on sweetcouch search types “decorative tea lights. Consumer gets hundreds of tea lights; and some of them might be from your site (provided you did the right meta title, meta description and product description for all your products). She might buy a tea light from your site. Hence sweetcouch did not require for a tie up with your site. Hence as long as these sites are safe you should allow them to aggregate products from various sites including yours
Listing on Large Multi-Product Marketplaces & Specialist Product Category Marketplaces
The other method would be to list on multi-product large sites e.g. Amazon, Snapdeal, Flipkart, PayTM etc. or go in for specialized sites e.g. popular Jewellery sites if you have a large jewellery portfolio. These companies including the jewellery site have 100 or 1000 times your marketing budget; each of these are of USD 500M to USD 15 Billion valuation. Hence it would be great to ride on their marketing budget and list your products on their site. Listing on other large sites is a “Success Guarantee” we can give you! We have done it in the past and it has paid us dividends. Don’t take a moral stand like “why should I list my products on competitor sites; who will come to my site then?”; because as a startup you need startup revenue (not startup funding); and once the revenue comes the funding follows. All these sites have a detailed product upload process where you need to fill their excel template and upload your products. Once your excel is ready for one marketplace’s excel template; than you only need to modify your excel in line with the template of other online marketplaces
Dealing with your Investors
Your investors may be anybody; yourself, family, angels or VC’s. Any of them (apart from yourself and your co-founder investors) have a right to question how you are spending their money. If your investor is already investing in other e-commerce companies; than it should be easy: During her quarterly reviews investor will immediately tell you whether you are on the right track or not as she will compare with other investments. However understand the other investments and why they have succeeded or failed. If at this point you have not succeeded; your business may be different from theirs hence you need to put forth these points professionally to your investor. If your investor is not familiar with E-com and has invested purely on your vision/ passion; her scepticism is likely to come out earlier. Hence for such investors you need to present data (e.g. newspaper articles) on the current bright outlook and phenomena future outlook for e-commerce in your country. Many of these investors will be shocked at your low margin (high volume target) approach; but then it is your job to convince them on your business model and the success you can deliver. Note that if you have a low margin approach, have great products, have spent a decent amount on digital marketing, consulted with a lot of experts before beginning your digital campaigns etc. And if you still have not achieved success; you need to go back to the drawing board and see if your products/ business plan itself need to be re-looked at. There are many startups who have struggled for 2-3 years before achieving phenomenal success; but then these companies have learnt from their mistakes; understood market realities and re-adjusted their approach; and at the same time never gave up.
Improving Margins for Service Companies
This entire article focused on margins for e-commerce companies. Some of the inputs can be applied for services e-com companies also e.g. Airline booking portal. However Service companies can also apply several approaches for improving their margins. Some of them are:-
- Understanding the industry: Hence if you are an online air travel portal you obviously need to have deep understanding of the entire Aviation sector in your country. If you are providing a tiffin service in your city (to begin with); you need to have deep understanding of eating habits of office goers
- Uniqueness of idea: The service industry is highly competitive; there are for e.g. lesser number of service companies compared to product companies in the online space. Hence a niche product company (e.g. Men’s Jewellery) can grow if its sufficiently unique compared to for e.g. an online cab booking portal. The stakes are very high in the service industry
- Connections in the market: If you or one of your Co-Founders has strong connections in the market it helps if there are lot of regulatory issues or social issues e.g. the issues faced by the Online Cab Industry in India which are being opposed by existing cab operators
- Profits: Profits are generally good if the volume is high; hence generally service companies need to grow fast by default
Products v/s Services
If you are still on the periphery (just out of college or contemplating quitting your job to make a startup) then this guide by Alok “Rodinhood” Kejriwal will guide you on what should you do – products v/s services. Alok is one of India’s start-up mentors
This other article of ours guides you on E-commerce payment options in India – all possible payment options you can have for your site
E-Commerce is not for the faint hearted. There will be tremendous professional and personal sacrifices; hence be ready before you start-up. The same applies for Professionals entrusted with starting a e-com venture for a large enterprise. Also be ready for exponential un-learn; re-learn and out of box thinking capability.
This article was originally published here.