ATTRACTIVE. Internet. India

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1 Internet ATTRACTIVE DECEMBER 18, 2017 UPDATE BSE-30: 33,602 Hungry for more. FY2017 performance of food delivery platforms reveals that the segment remains a fast-growing one Swiggy saw the steepest growth with revenues increasing by more than 5X yoy. We note that several food-tech models may succeed in led by increase in discretionary spends on restaurants (both dining out and food ordering) and adequate capital availability. Food delivery companies post strong revenue growth in FY2017 FY2017 saw the emergence and growth of several food-tech models Swiggy, a food delivery company with its own delivery fleet saw the steepest growth with revenues increasing by more than 5X yoy; Freshmenu, a food kitchen with some delivery operations posted a 124% revenue increase followed by Foodpanda, a food delivery company at 63%. Zomato s business posted revenue growth of 91%, though this includes contribution from advertising business also. We believe the strong growth for the segment was led by an increasing number of partner restaurants, free delivery to customers as well as discounts. Delivery companies are looking to expand fleets to gain scale Swiggy is now the largest food delivery company in with its own delivery fleet to fulfill orders, unlike its competitor Zomato, which has until now relied on restaurants or third-party fleets to deliver orders, but is now veering towards Swiggy s model. In a single year Swiggy has scaled up its order run-rate by ~3X (March 2017 over March 2016) and has managed to sustain a healthy growth momentum in FY2018 also, primarily by getting an increasing number of restaurants to deliver, and having its own fleet that provided better control over operations and delivery experience. Scale and higher commission rates can boost unit economics Based on an estimated 22 mn orders delivered in FY2017 and average order value (AOV) of 300, we calculate Swiggy s take rate at 20%. We believe there is potential for delivery companies such as Swiggy and Zomato to increase the take rate further, as they become larger and account for an increasing proportion of the restaurant partner s revenues. We note that commission rates for global peers such as GrubHub in the US and Delivery Hero are in the 15-17% range, though they also have the benefit of higher order values. We note Swiggy s commissions are already enough to recoup its delivery costs; further scale-up can reduce operating costs and lead to improved unit economics. Food delivery market is expanding, though competitive intensity may also increase Of an estimated ~10 mn online food delivery orders placed in a month, Swiggy and Zomato account for ~70% share, with other delivery apps, food kitchens (such as Freshmenu) and restaurants accounting for the remainder. We believe competitive intensity in the space may increase as strong growth in food orders spurs more players to invest in their businesses. Besides Zomato and Swiggy, we see two other companies that may compete for a share of the pie: (1) Foodpanda, which may receive fresh investments from its new owner Delivery Hero, and (2) UberEats, which has commenced operations in seven cities, and may look to expand further. Zomato: ramp-up of delivery business may need further investments We believe Zomato s acquisition of Runnr will help its delivery business to scale further, though this may require additional investments by the company in the form of higher logistics costs. The extent of investments would be contingent on: (1) Runnr s ability to manage off-peak food delivery hours better by working for third-party customers, and (2) Zomato s ability to ramp up order densities such that delivery cost comes down to below currently. Kawaljeet Saluja kawaljeet.saluja@kotak.com Mumbai: Garima Mishra garima.mishra@kotak.com Mumbai: Kotak Institutional Equities Research kotak.research@kotak.com Mumbai: For Private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES RATING SYSTEM AND OTHER DISCLOSURES, REFER TO THE END OF THIS MATERIAL.

2 Internet Swiggy emerged as the fastest growing food-tech company in FY2017, with its revenues growing by 560% yoy as it scaled its food delivery business. We estimate Swiggy delivered ~1.8 mn order per month in FY2017 on an average, which had further scaled to ~4 mn orders a month run-rate in July Zomato, a late entrant in the space, is catching up. Per its blog, the company delivered ~3 mn orders in August Exhibit 1: Swiggy posted the fastest revenue growth in FY2017 Revenues of food delivery/food kitchen companies, March fiscal year-ends, (Rs mn) Yoy (%) Zomato () 875 1, Swiggy 201 1, Freshmenu Foodpanda Source: Company, MCA, Kotak Institutional Equities xx Exhibit 2: Swiggy s losses increased in FY2017 on greater investments in the business Brief financials of Swiggy, March fiscal year-ends, (Rs mn) Yoy change (%) Revenues 201 1, Employee benefit expense (543) (922) 70 Advertising and promotion expense (254) (526) 107 Delivery cost (441) (1,355) 207 Other expenses (329) (643) 95 EBITDA (1,366) (2,115) Net profit (1,372) (2,052) Assumed AOV (Rs) Orders delivered in the year (mn) Monthly order run-rate (000) 380 1, Source: MCA, Kotak Institutional Equities Swiggy had disclosed its monthly order trajectory from Jun 2016 January 2017; extrapolating this data for remaining months we estimate total orders delivered at ~22 mn during FY2017. Assuming AOV of 300 (in line with those of Zomato s third-party order delivery transactions), we arrive at a take rate of ~20%. We note that Swiggy is now broadly recouping its delivery cost from commissions earned per order; and believe it is a matter of time when further scale-up of orders can lead to lower variable costs per order and sustainable unit economics. Zomato s disclosed unit economics of its delivery business (orders delivered by restaurant partner) appear better, though we acknowledge that we have not derived these figures from Zomato s reported financials, which include its advertising business as well as operations in other countries. Further, we note these economics can change as Zomato is also employing a fleet of its own, which would lead to a different cost structure. 2 KOTAK INSTITUTIONAL EQUITIES RESEARCH

3 Internet Exhibit 3: Swiggy s commissions are making good its delivery cost Estimated unit economics of Swiggy s food delivery business, March fiscal year-end, 2017 Metric Comments Number of orders delivered in the year (mn) 22 Estimated, based on disclosed order run-rate for June January 2017 AOV (Rs) Implied take rate (%) 20 Gross revenue per order (Rs) Delivery cost incurred per order (Rs) 63 Processing cost per order (Rs) Contribution per order (Rs) (26) Notes: 300 Assumed in-line with Zomato's AOV for orders delivered by third-party logistics partner 61 Based on total revenue reported and estimated 22 mn orders delivered in FY Includes estimated direct employee cost, payment gateway charges, and order cancellation cost (a) We have not included communication and technology cost in the processing cost in the absence of a break-up between fixed and variable cost. Source: Company, MCA, Kotak Institutional Equities estimates Zomato s business model has been different from Swiggy in the past as it relied on restaurant s own delivery personnel or third-party delivery companies to deliver food to customers. However, with the acquisition of Runnr, we believe Zomato will look to deliver orders on its own. A key challenge for Zomato would be to keep its delivery costs low, at least at or below the 55/order it pays to third-party partners as of now. Exhibit 4: Zomato s delivery business indicated better unit economics, but may change going forward Unit economics of Zomato s food delivery business in Delivered by restaurant partner Delivered by third-party logistics partner AOV (Rs) Take rate/ commission - (1) (%) 7 10 Delivery fee - (2) (Rs) 50 Total commission - (1) + (2) (Rs) Gross revenue for Zomato (Rs) Delivery fee paid to partners (Rs) 55 Processing cost (Rs) Contribution per order (Rs) 13 (2) Notes: (a) The above is based on company disclosed data, and is not based on our analysis of reported financials. Source: Company, Kotak Institutional Equities Exhibit 5: Global take rates for Delivery Hero are in the 10-17% range Region-wise take rates of Delivery Hero, December calendar year-ends Gross take rate (including delivery cost, %) 1QCY16 1QCY17 Europe Americas MENA Asia Net take rate (%) Europe Americas MENA Asia Source: Company, Kotak Institutional Equities xx KOTAK INSTITUTIONAL EQUITIES RESEARCH 3

4 Internet Exhibit 6: Freshmenu reported strong growth and improved gross margins Brief financials of Freshmenu, March fiscal year-ends, (Rs mn) Yoy change (%) Revenues Purchases of stock-in-trade (278) (536) 93 Employee benefit expense (213) (331) 55 Advertising and promotion expense (51) (144) 182 Other expenses (129) (159) 23 EBITDA (354) (461) Net profit (338) (423) Assumed AOV (Rs) Orders delivered in the year (mn) Monthly order run-rate (000) Gross margin (%) Source: MCA, Kotak Institutional Equities Exhibit 7: Sharp cost controls resulted in lower losses for Foodpanda Brief financials of Foodpanda (), March fiscal year-ends, (Rs mn) Yoy change (%) Revenues Employee benefit expense (355) (310) (13) Advertising and promotion expense (280) (178) (36) Other expenses (1,125) (553) (51) EBITDA (1,384) (427) Net profit (1,426) (448) Assumed AOV (Rs) Orders delivered in the year (mn) Monthly order run-rate (000) Source: MCA, Kotak Institutional Equities Exhibit 8: Zomato and Swiggy have raised bulk of the funds in the food-tech sector Cumulative funds raised by food-tech companies Funds raised Company (US$ mn) Business model Zomato () 207 Restaurant classifieds, food delivery. Present in 24 countries Swiggy 156 Food delivery Freshmenu 22 Food kitchen + food delivery Chai Point 12 Delivery of tea and snacks Eazydiner 8 Online restaurant booking Growfit 5 Delivery of healthy food and food ingredients Scootsy 4 Delivery of food, gifts, clothes, other essentials Holachef 3 Food kitchen + food delivery Monkeybox 1 Food delivery for kids Petoo 1 Delivery of n food Source: Venture Intelligence, Kotak Institutional Equities 4 KOTAK INSTITUTIONAL EQUITIES RESEARCH

5 Internet Food delivery has increased at a massive pace globally, with GrubHub posting a 50%+ delivery GMV growth over in a relatively mature market like the US. Exhibit 9: GrubHub s online food delivery GMV has increased by 50%+ CAGR over Key operating metrics of GrubHub, December calendar year-ends, CAGR (%) Active diners (mn) Average daily orders (000) Orders delivered in the year (mn) Average number of orders placed per active diner (#) Gross food sales (US$ mn) 569 1,015 1,787 2,354 2, Average order value (US$) Revenues (US$ mn) Implied take rate (%) Source: Company, Kotak Institutional Equities China has reached a different size altogether at 240 mn annual active diners, covering 17-18% of the overall population. Rapid urbanization and proliferation of eateries has contributed to a major adoption of food delivery trend. Meituan Dianping, the Tencent backed company, is the largest delivery portal in China, fulfilling ~18 mn orders a day. Exhibit 10: China delivery market is much larger, aided by a massive user base Key operating metrics of Meituan Dianping Number of orders fulfilled per day by Meituan (mn) 18 Number of annual active users (mn) 240 Average orders placed by a user in a year (#) 27 Source: Bloomberg, Kotak Institutional Equities These global examples indicate that food delivery market in can grow at high rates for the next few years, though companies will need additional capital to scale up. Exhibit 11: Growth in GMV of online food delivery companies could meaningfully outpace the growth in turnover of restaurants Estimated food delivery market size, December calendar year-ends, CAGR (%) Total size of food-service market (US$ bn) Proportion of home delivery/takeaway (%) Size of home delivery/takeaway market (US$ bn) Orders per month (mn) AOV (Rs) Annual online food delivery GMV (Rs bn) As proportion of home delivery/takeaway market (%) Assumed commission (%) Implied revenue of food delivery companies (Rs mn) 6,300 10,080 16,065 25,515 40, Source: Euromonitor, Kotak Institutional Equities estimates Compared with global peers, n food delivery companies face twin pressures of low AOVs and relatively high delivery costs. We believe that: (1) an increase in commission rates over time, and (2) lower delivery costs on higher order densities can eventually lead to favorable economics, even if AOVs remain stagnant. KOTAK INSTITUTIONAL EQUITIES RESEARCH 5

6 Jan-13 Mar-13 May-13 Jul-13 Sep-13 Nov-13 Jan-14 Mar-14 May-14 Jul-14 Sep-14 Nov-14 Jan-15 Mar-15 May-15 Jul-15 Sep-15 Nov-15 Jan-16 Mar-16 May-16 Jul-16 Sep-16 Nov-16 Jan-17 Mar-17 May-17 Jul-17 Sep-17 Nov-17 Internet Exhibit 12: n AOVs are significantly lower than those in the US Comparison of key operating metrics of GrubHub and Swiggy, December calendar year-ends Grubhub 2016 Number of orders delivered (mn) 100 AOV (US$) 30 Operations and support cost per order (US$) 1.7 Swiggy Number of orders delivered (mn) 22 AOV (US$) 5 Operations and support cost per order (US$) 1.3 Notes: (a) For Swiggy, the data is based on FY2017 (March fiscal year-ends). Source: Company, MCA, Kotak Institutional Equities estimates Ecommerce funding propped up by large deals PE/VC funding raised by e-commerce companies has picked up March 2017 onwards, led by investors backing selective larger companies with relatively larger sized investments. Prominent among these are: (1) U$1 bn of funds raised by Flipkart in March 2017 and a further US$2.5 bn raised in August 2017, (2) US$1.4 bn of funds raised by Paytm in May 2017, and (3) relatively large sized rounds raised by Ola and Swiggy. Exhibit 13: Overall funding has picked up in FY2018 led by large funding rounds in select few companies 3-month moving average of internet and e-commerce funding deals (US$ mn) 1,400 3-month moving average of internet and e-commerce funding deals (US$ mn) 2016 average funding 2015 average funding 1,200 1, Source: Venture Intelligence, Kotak Institutional Equities Internet traffic data: trends in website usage and app rankings Data retrieved from Alexa shows that Amazon continues to be a leading desktop e- tail website. We acknowledge that website ranks are only based on desktop metrics, which may not reveal the correct traffic picture given >50% of traffic on most websites is from mobile devices (through the mobile website/app). App ranking data from App Annie shows that there is no e-tailer in the top-10 ranked apps currently. RJio s offerings have boosted consumption of messenger and video content apps, several of which are top-10 ranked apps in. 6 KOTAK INSTITUTIONAL EQUITIES RESEARCH

7 Internet We note that getting a comprehensive traffic-based rank of websites remains a challenge due to growing difficulties in monitoring mobile website traffic. Broadly, Alexa captures only desktop data by the sampling method. Website rankings and other engagement metrics such as bounce rate, daily page views, etc. are also based on desktop traffic only. App Annie is a mobile-app analytics provider, and its app rankings are based on Google Play rankings. Google Play rankings are based on downloads and other attributes such as app quality (users who keep the app after installing it), frequency of interaction with the app, number and quality of ratings, number of backlinks, number of uninstalls, etc. Exhibit 14: Amazon the leading e-tail website, Naukri the dominant recruitment classifieds website Category-wise key website metrics (desktop-only) E-tailers Amazon Flipkart Paytm Ebay Snapdeal Website rank in Bounce rate (%) Daily page-views per visitor Daily time on site (minutes) Local search-classifieds Olx Just Dial Quikr Zomato Sulekha Website rank in Bounce rate (%) Daily page-views per visitor Daily time on site (minutes) Recruitment Naukri Shine.com Indeed.co.in Monster TimesJobs.com Website rank in Bounce rate (%) Daily page-views per visitor Daily time on site (minutes) Real estate Classifieds 99acres.com MagicBricks.com Housing.com Commonfloor.com Proptiger.com Website rank in ,006 1,375 3,153 Bounce rate (%) Daily page-views per visitor Daily time on site (minutes) Top-5 websites Google.co.in Youtube.com Google.com Facebook.com Yahoo.com Website rank in Bounce rate (%) Daily page-views per visitor Daily time on site (minutes) Source: Alexa (Retrieved on Nov 29, 2017), Kotak Institutional Equities xx KOTAK INSTITUTIONAL EQUITIES RESEARCH 7

8 Internet Exhibit 15: Messaging, content and shopping apps continue to lead app rankings n app rankings based on Google Playstore data Rank Application (Google Playstore) 1 WhatsApp Messenger 2 Hike 3 UC Browser 4 Facebook Messenger 5 SHAREit 6 Truecaller 7 Hotstar 8 Facebook Lite 9 Facebook 10 MX Player 11 MyJio 12 Jio TV 13 Ludo King 14 Files Go by Google 15 Tez 16 Instagram 17 Xender 18 Sachin Saga 19 Paytm 20 Jio Music 21 Amazon 22 UC browser Mini 23 Flipkart 24 Vmate 25 IMO Free Video Calls 26 PhonePe 27 Subway Surfers 28 PicsArt Studio 29 AppLock 30 mcent Browser 31 Club Factory-Fair Price 32 Gaana 33 Wynk 34 VivaVideo 35 Ola 36 APUS Browser 37 NewsDog 38 Paytm Mall 39 Voot TV 40 BeautyPlus 41 Facebook Messenger Lite 42 UC News 43 Candy Crush Saga 44 Airtel TV 45 Olx 46 My Airtel 47 MoChat 48 Google Duo 49 BIGO Live 50 BIGO Like Source: Alexa (Retrieved on 15th Dec 2017), Kotak Institutional Equities 8 KOTAK INSTITUTIONAL EQUITIES RESEARCH

9 Internet CEO speak Flipkart CEO Kalyan Krishnamurthy said, Profitability is not the highest priority today. We will again go into a very clear consumer market building mode and expanding the market. We want to bring as many people as possible into the e-commerce fold, as many categories on a regular basis and we will invest towards that. We are very comfortable on the burn that we have today. Burn is not a metric that anybody worries about any more. And with the fund raise, burn is almost irrelevant. (Livemint) Zomato Founder and CEO Deepinder Goyal in a blog post said, Zomato is now a profitable company. Yes, throughout the 24 countries where we operate, and across all our businesses, we are starting to make money, The company's core advertising business in, Southeast Asia and the Middle East, its three key regions, is generating enough cash to cover for the investments the firm is making into the rest of the regions and new businesses, he added. (Moneycontrol) KOTAK INSTITUTIONAL EQUITIES RESEARCH 9

10 Disclosures "I, Kawaljeet Saluja, hereby certify that all of the views expressed in this report accurately reflect my personal views about the subject company or companies and its or their securities. I also certify that no part of my compensation was, is or will be, directly or indirectly, related to the specific recommendations or views expressed in this report." Kotak Institutional Equities Research coverage universe Distribution of ratings/investment banking relationships 70% 60% 50% Percentage of companies covered by Kotak Institutional Equities, within the specified category. Percentage of companies within each category for which Kotak Institutional Equities and or its affiliates has provided investment banking services within the previous 12 months. 40% 30% 20% 10% 0% 35.0% 26.4% 22.8% 15.7% 2.5% 3.6% 1.0% 2.5% BUY ADD REDUCE SELL * The above categories are defined as follows: Buy = We expect this stock to deliver more than 15% returns over the next 12 months; Add = We expect this stock to deliver 5-15% returns over the next 12 months; Reduce = We expect this stock to deliver -5-+5% returns over the next 12 months; Sell = We expect this stock to deliver less than -5% returns over the next 12 months. Our target prices are also on a 12-month horizon basis. These ratings are used illustratively to comply with applicable regulations. As of 30/09/2017 Kotak Institutional Equities Investment Research had investment ratings on 197 equity securities. Source: Kotak Institutional Equities As of September 30, 2017 Ratings and other definitions/identifiers Definitions of rating BUY. We expect this stock to deliver more than 15% returns over the next 12 months. ADD. We expect this stock to deliver 5-15% returns over the next 12 months. REDUCE. We expect this stock to deliver -5-+5% returns over the next 12 months. SELL. We expect this stock to deliver <-5% returns over the next 12 months. Our target prices are also on a 12-month horizon basis. Other definitions Coverage view. The coverage view represents each analyst s overall fundamental outlook on the Sector. The coverage view will consist of one of the following designations: Attractive, Neutral, Cautious. Other ratings/identifiers NR = Not Rated. The investment rating and target price, if any, have been suspended temporarily. Such suspension is in compliance with applicable regulation(s) and/or Kotak Securities policies in circumstances when Kotak Securities or its affiliates is acting in an advisory capacity in a merger or strategic transaction involving this company and in certain other circumstances. CS = Coverage Suspended. Kotak Securities has suspended coverage of this company. NC = Not Covered. Kotak Securities does not cover this company. RS = Rating Suspended. Kotak Securities Research has suspended the investment rating and price target, if any, for this stock, because there is not a sufficient fundamental basis for determining an investment rating or target. The previous investment rating and price target, if any, are no longer in effect for this stock and should not be relied upon. NA = Not Available or Not Applicable. The information is not available for display or is not applicable. NM = Not Meaningful. The information is not meaningful and is therefore excluded. 10 KOTAK INSTITUTIONAL EQUITIES RESEARCH

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