The business of conducting a commercial transaction electronically over the internet is the concept behind e-commerce and it has achieved maximum exposure and growth in India over the past five years. Covering a range of different types of businesses, from consumer based retail sites through auction or music or sports sites to business exchanges through trading goods and services between corporations, it is currently one of the most important phases of the internet to surface. These past few years in India has seen a steady rise in e-commerce (e-retail, e-travel and e-classifieds) due to momentous escalation in the number of internet users, explosion of internet enabled devices, increasing disposable incomes, and growing adequacy of online payments.
This tremendous evolution of the e-commerce industry confirms that Indians are gradually eager to buy goods and services online, and this has led to a robust impetus of foreign investment in the country. Foreign venture capitalists and private equity firms have displayed their faith in the e-commerce industry in India and this is the reason why India is enroute to becoming the world’s fastest growing e-commerce market. Morgan Stanley expects the size of the Indian internet market to rise from $11 billion in 2013 to $137 billion by 2020 and market capitalisation of these internet businesses could touch $160-200 billion from the $4 billion at present.
Despite the progress, the e-commerce market is not without difficulties. The current government policies on foreign direct investment ("FDI") in e-retail in India are restrictive in nature. India‘s FDI policy permits FDI up to 100% in e-commerce activities, but this is dependent on a very crucial condition– the policy applies only to companies engaged in business-to-business ("B2B") e-commerce, and not to those in retail trading or business-to-consumer ("B2C") e-commerce. In B2B e-retail, trading is between business entities such as manufacturers and wholesalers or between wholesalers and retailers. India permits 100% FDI in B2B e-commerce under the automatic route. In B2C e-retail, trading is directly between the online entities and the consumers. The FDI policy provides that retail trading, in any form, by means of e-commerce, would not be allowed for companies with FDI and engaged in the activity of single brand retail trading or multi-brand retail trading. Therefore, it is clear that the extant FDI policy prohibits FDI in B2C e-commerce. Due to such limitations on retail, global players like Ikea or Walmart are prohibited from entering into the country and setting up their business.
The restriction on the B2C prototype has led online business entities with foreign investment to adapt the regular business model in to various different structures for ease of commerce and in line with the existing policies. In India, there are about five distinguishable business models for e-commerce. They are as follows:
a. Marketplace
b. Inventory owned retail
c. TV shopping extended to e-commerce
d. Store in store model through their offline network of franchises
e. Vertical Play
The model that works best for e-commerce in India and is the most sustainable in the long run is the marketplace model because it efficiently deals with the regulations around FDI in retail in India and the rest around capital efficiency. The marketplace model creates a platform for business transactions between buyers and sellers. The online company runs a website which provides the marketplace and in return for the services provided, the company earns commission from the sellers. Ebay.in and Amazon.in are the biggest examples of successful marketplace models in India. The other model which has worked for retail e-commerce in India is the inventory owned retail model because this model offers has a lot of benefits as it means greater bargaining power with suppliers, higher gross margins and most importantly, the company (which is the seller) becomes the single interface to the consumer. Flipkart has made the most out of this business structure in India, and although very costly, this model has helped Flipkart develop trust and service credibility amongst its users.
The marketplace model is compliant with the FDI norms as the online business entities with foreign investment providing the marketplace do not participate in any retail transactions or direct sale themselves. The inventory owned retail model as seen through the Flipkart model has seen its fair share of ups and downs. Fundamentally, if a company which engages in an inventory-based B2C e-commerce model raises funds from global/foreign investors, it is acquiring foreign investment. This is in direct violation of the FDI norms in India as a B2C entity cannot have FDI and thus, for the sake of operations has to be converted in to a B2B model. The Enforcement Directorate ("ED") investigates violation of FDI regulations in retail-based e-commerce and has the power to impose a fine up to three times the actual investment allegedly made in violation of FDI laws in India. From a comparative study of the two structures discussed above, it seems that a hybrid model is the best way forward where the online company is a retailer itself and it provides each process of the service chain as a service to its marketplace sellers. But, this is where the catch is, as the Ministry of Commerce and Industry through its Department of Industrial Policy and Promotion ("DIPP") has disallowed B2C e-retail and allowed 51% FDI only to retailers with brick-and-mortar retailers. Thus, to urge a dialogue detailing the merits and de-merits of allowing FDI the retail sector, the DIPP has floated a discussion paper to stakeholders in January 2014.
Proponents of FDI in retail argue that e-commerce is here to stay and the way about. E-commerce has opened up new opportunities for businesses and will benefit infrastructure, consumers and traders. Allowing FDI in e-commerce will reduce the need for middlemen, lower transaction costs, reduce over-head charges, and reduce inventory and labour expenses. The Micro, Small and Medium Enterprises ("MSMEs") sector has got an impetus by trading online and selling their products mail order and the spread of e-commerce will help them reach out to a wider demographic. These characteristics clubbed with the fact that e-commerce has the capacity to contribute to India’s GDP by a substantial figure, is converting even hard-nosed cynics of the B2C e-model in to ardent believers. But opponents of FDI in retail contend that allowing the entry of inventory-based e-retailers, whether foreign or domestic with FDI, will threaten the traditional modes of doing business and shrivel Indian entrepreneurship and the MSMes sector. It is believed that the Indian manufacturing sector will be affected by the out-sourcing of goods and products from abroad at cheaper rates and this is turn will affect employment and development of the skilful Indian employable population.
Since, e-retail is still in its nascent stage and the stance of the government over FDI in this matter is still unclear, it remains to be seen whether allowing FDI in B2C e-retail will allow back-door entry to investors in multi-brand retail or even entry to investors in B2C e-retail at all. There are innumerable questions to be answered and opinions to be discussed, but the future is clearly the internet and anything on the internet, has the potential to become powerful and successful.
-Anupam Prasad, Partner (anupam.prasad@rdalegal.in)
-Anindita Ganguly, Associate (anindita.ganguly@rdalegal.in)
1 - “India set to become world’s fastest e-commerce market”, Malini Bhupta, Business Standard, 6 February, 2015
2 - Under paragraph 6.2.16.2 of the consolidated FDI policy circular of 2014 (effective from 17 April, 2014), FDI up to 100% is permitted in e-commerce activities, subject to the provisions of Paragraph 6.2.16.2.1, which are set out as- “E-commerce activities refer to the activity of buying and selling by a company through the e-commerce platform. Such companies would engage only in Business to Business (B2B) e-commerce and not in retail trading, inter-alia implying that existing restrictions on FDI in domestic trading would be applicable to e-commerce as well.”
4 - The ED is a part of Ministry of Finance and is responsible for enforcement of the Foreign Exchange Management Act, 1999 and certain provisions under the Prevention of Money Laundering Act, 2002.
5 - For details please visit: http://dipp.nic.in/English/Discuss_paper/Discussion_paper_ecommerce_07012014.pdf (as visited on June 21, 2014).
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