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eCommerce Stock Outlook - Nov. 2012 - Zacks Analyst Interviews
The Electronic Commerce, or e-commerce, industry is one of the
most progressive sectors of the economy. The industry is evolving
very rapidly, so data collection and evaluation are particularly
difficult. Consequently, one has to rely largely on surveys by both
government and private agencies.
According to the U.S. Census Bureau, the manufacturing sector is the largest contributor to e-commerce sales (46.4% of their total shipments), followed by merchant wholesalers (24.6% of their total sales). These two segments make up the business-to-business category.
Retailers and service providers generated just 4.4% and 2.3%, respectively of their revenues online, a slightly higher percentage than they were in the prior year. The Bureau categorizes these two segments as business-to-consumer.
This places the business-to-business category at 90% of total ecommerce sales, with the balance coming from the business-to-consumer category. The latest numbers from the Bureau suggest that the fastest-growing segments were manufacturing and retail. [All the above data from the U.S. Census Bureau relate to 2010, as published in May 2012]
Total retail e-commerce was 5.1% of total retail sales in the second quarter of 2012, up slightly from 4.9% in the first quarter, according to the quarterly retail trade survey by the U.S. Census Bureau. Forrester Research estimates that this share will go up to 11% by 2015.
Recent data from comScore (as compiled in the table below) indicates that this segment recovered much faster from the economic downturn and continued to grow at an accelerated rate over the last few years.
Since the industry is in evolution, the drivers are changing. For instance, the initial push came from the time savings and convenience of online transactions. To this were added the benefits of comparison shopping and personal recommendations. As technology required for personalized recommendations developed, became more available and its benefits more evident, most e-tailers started adding the feature until it is now considered a must-have.
Today, the biggest driver of growth in the industry is the adoption of smartphones, tablets and other mobile Internet devices . In fact, trends indicate that consumers prefer mobile browsers when shopping, searching and entertaining themselves, while preferring apps for navigation and acquiring information.
comScore sees global mobile Internet users increasing very rapidly and surpassing desktop Internet users by 2014. A June 2012 study by comScore on behalf of Paypal revealed that mobile ecommerce tripled from 3% in the fourth quarter of 2010 to 9% in the fourth quarter of 2011. The trend is likely to continue since 4 out of 5 smartphone owners used the devices for shopping and related activities in July (September 2012 study by comScore). Men and women in the 25 to 44-year age group are doing most of the shopping on both Android and iOS devices.
While smartphones are extremely convenient when on the move, tablets have several advantages of their own. In fact they are a boon to the ecommerce industry, since the larger screens offer better visibility of online stores and merchandise, thus facilitating purchases. This is the reason that tablets remain the device of choice for making online purchases while smartphones are the preferred devices for store location, coupon redemption and such other "ön-the-go" activities. Given the unique advantages of smartphones and tablets, it appears that they are working in conjunction to boost total online retail sales.
Around 37% of customers in the third quarter were comparison shopping on their mobile devices while in retail stores, something the industry now calls "showrooming." Because of the resultant cost savings and convenience, this trend is likely to continue (comScore, November 2012).
Continued advancements in technology are improving navigation and customer experience on ecommerce sites, which is improving reviews and thus drawing more traffic to the sites.
The digital consumption of books, music, video and games all over the world is extending the reach of these goods and thereby boosting sales. Therefore, previously unconnected electronic goods, such as TVs and game consoles are now being modified to enable connectivity. On the other side of the fence, online versions of books, music, video and games that can be downloaded and consumed on a traditional computer or any other connected device are becoming available.
Since the shift in consumption patterns is resulting in multi-functional electronic gadgets that are no longer optimized for a particular activity, there is a great drive to develop technologies that could improve the quality of each experience.
Free shipping remains a major lure, as seen from the recent e-tailing group survey, where 85% of surveyed consumers said they intended to make use of it this holiday season.
A July 2012 study by Forrester Research points to the most popular products being sold online. The 10 hottest individual product categories are women's apparel, books, computer hardware, computer software, apparel, toys/video games, video DVDs, health and beauty, consumer electronics and music.
Apparel is a huge market and although online sales are currently under 10% of total apparel sales, the category already generates the most dollars. Selling tools, such as zoom, color swatching and configurators are helping the process. Even primarily brick-and-mortar outfits like Macy's ( M ) sees that consumers purchasing through multiple channels (online and offline stores) tend to spend more. This is encouraging traditional retailers to offer an online store to supplement sales. Online sales also show better conversions since searches usually draw consumers with a prior intention to purchase.
The increase in technology purchases over the Internet is driven by not only individual consumers, but also companies and governments. The efficient and timely processing of orders, choice of payment options, subscription-selling and sales under the SaaS model are all facilitators.
The Association of American Publishers says that ebook sales in the U.S. continue at a steady rate and are likely to touch $1.5 billion this year. What is more encouraging is however the growth U.S. players are seeing in international markets (sales up 333% in 2011). Amazon ( AMZN ) and Apple ( AAPL ) are the primary channels facilitating international expansion, although Barnes & Noble ( BKS ), other smaller players and local companies in international markets are also playing a part.
Google's ( GOOG ) Youtube remains the forerunner facilitating online video consumption, with significantly higher unique viewers (UVs) and unique streams. VEVO and AOL Media Network are in second and fourth positions, respectively in both respects. While Yahoo! ( YHOO ) managed to steal the third position in terms of UVs, Hulu took its place with respect to the number of streams. Highest hours of viewership however went to Netflix ( NFLX ), which pushed Youtube and Hulu to numbers two and three, respectively. [Nielsen estimates, September 2012]
The digital consumption of music has grown greatly since Apple announced its first iPod. Amazon and others are also seeing their business grow. Nielsen estimates that in the first three quarters of 2012, U.S. digital album sales increased 15% from the comparable period last year, with shipments on track to set a new record in 2012.
The gaming segment has suffered over the last few quarters, impacted by the economic slowdown that affected consumer spending. However, while this affected total gaming spend, it did not affect the online segment, which gained from the increasing digitization of games, the desire to play across multiple platforms and the availability of free-to-play games to draw customers. As a result, sales through online channels continue to grow at the expense of traditional retail.
Since video, games and music are often social activities, they are increasingly being marketed on social platforms such as Facebook ( FB ) and Pinterest.
Facebook's SocialStore, as it is called uses MarketLive's Intelligent Commerce Platform that enables marketers to display product information, promotions/discounts, shopping carts and check-out options. Both comparative shopping and comparative pricing are possible. The basic advantages of the system that are currently being touted are that it allows easy brand building, creates meaningful commercial relationships and makes use of account-holders' social connections to attract new buyers.
A recent study by the E-tailing Group reveals that of 100 U.S. consumer product merchants with e-commerce websites surveyed, 98 had a Facebook account. Around 90% of these redirected the user to the merchant's own page, 96% had loaded brand-building videos, 56% had product-oriented videos, 44% had store locators and 38% had promotions.
According to comScore, Pinterest is currently the third largest social networking site. While the company is yet to get into the advertising business, its users are already making money and engagement compares favorably with Facebook.
Selling discount coupons is also helping retail. Groupon ( GRPN ) is the leader here, which along with its closest rival LivingSocial offer discount coupons with a very low shelf life from local players looking for sales. The company offers huge discounts to attract buyers and collects a percentage of the sales thus generated. This kind of business is very competitive, since it has very low barriers to entry.
As a result, not just Amazon and Google, but also a host of other much smaller parties have started doing some business in this format. Technology investments are also required in order to serve customer needs effectively. Considering the prospects, we don't see the platform as a major contributor to e-commerce sales in the near term.
comScore estimates that Amazon remains the leading Internet retailer based unique visitors (UVs), followed by eBay ( EBAY ), Apple, Wal-Mart Stores ( WMT ), Target Corp. ( TGT ) and Best Buy ( BBY ), in that order. The top 3 have a much higher penetration on both Android and iOS platforms.
The U.S. Commerce Department expects international travel to the U.S. to continue over the next few years. Visitor volume is currently expected to increase 6-8% a year from 2012 to 2016 leading to a 49% increase in the number of users during the period. Visitors from the Middle East are expected to be the slowest-growing (29%). South America, Asia and Oceania growth rates are expected to be comparable at 83%, 82% and 82%, respectively.
The fastest growth is expected to come from China (232%), South Korea (200%), Brazil (150%), Russian Federation (139%) and India (94%). Travel and tourism is one of the country's strongest industries, contributing a trade surplus in each of the last 20 years.
According to research from eTrack, eMarketer and Alexa.com compiled in September 2012, Internet-based travel booking revenue has grown 73% over the last five years, with 57% of all travel reservations being made online. The bookings and revenue generated by source and category (latest estimates) are represented in the following graphs.
The top travel booking sites are Booking.com, Expedia.com, Hotels.com, Priceline.com, Kayak.com (recently acquired by Priceline), Travelocity.com, Orbitz.com and Hotwire.com. Since Booking.com and now Kayak are part of Priceline ( PCLN ) and both Hotels.com and Hotwire.com part of Expedia ( EXPE ), this narrows down the top companies in the segment to Priceline, Expedia, Orbitz Worldwide ( OWW ) and Travelocity.
According to a report by PricewaterhouseCoopers, the improving economy will result in a 1.8% increase in demand for hotel reservations this year, which along with a 0.5% increase in hotel supply will lead to higher occupancy rates (60.9% expected in 2012 compared to 60.1% in 2011). This will also raise hotel rates by 5.1%.
Smartphones are playing a key role in travel purchases, especially for last minute purchases. eMarketer expects smartphone travel researchers to grow from 23.7% of total online travel researchers in 2011 to 53.9% in 2016. Similarly, smartphone travel purchasers are expected to grow from 12.6% in 2011 to 32.5% in 2016.
Another report by PhocusWright mentioned that when online penetration of the travel market reached 35% in any country, growth rates were likely to slow down to single-digits. The research firm mentioned that only the U.S., U.K. and Scandinavia had reached this level of penetration and most other markets across Europe, Asia and Latin America would continue to show good growth rates.
C. Payment Systems
With practically all market research indicating solid growth in ecommerce sales over the next few years, online players are vying with each other to come out with convenient and secure payment solutions. The FIS Mobile Wallet from Fidelity National Information Services Inc. ( FIS ) is basically a bar code reader that feeds information related to the purchase into the user's smartphone and uses it as a medium to transfer the information to the cloud. Online purchase of merchandise is also possible. The solution provides maximum security, since the transaction is carried out entirely in the cloud through the retailer's and banker's applications and personal information is not shared at the time of purchase.
While QR code payments (as the technology is called) have already been made by half the smartphone users in the U.S. (report compiled by eMarketer), the usage was mainly out of curiosity. It appears that the safety of the system comes at a price, which is the time it takes to complete a transaction. This is the reason that Google is still betting on its digital wallet.
Google's digital wallet allows a customer to make a payment by waving his mobile phone over a POS terminal. While the near field communication (NFC) technology used in the system is already in use in some parts of Europe, the concept is relatively new to the U.S. Other than the convenience of the whole thing, the main attraction being highlighted is the security of the payment channel, since neither the customer nor the retailer would be recording the personal information related to the customer. Adoption of the device, although it is some way off, will have a remarkable effect on the volume and value of mobile transactions, since it should increase the percentage of higher-value sales.
However, the cost of POS terminals is a downside to the system that could easily turn away retail partners. This is an evolving area and much could change over the next few years.
The greatest success however is currently being enjoyed by eBay's Paypal, which has seen some success at traditional retailers such as The Home Depot ( HD ) and Office Depot ( ODP ). One drawback that remains is that although the system is itself secure, there is always a security risk for a buyer not used to dealing with Paypal, since it requires personal information.
According to an Emphatica study, mobile banking has not picked up sufficiently in either the U.S. or Canada, due to security-related concerns. However, an analysis by Deloitte shows that mobile banking could become the most-preferred banking method by 2020. The study estimates that 20-25 million gen Y consumers will become new banking customers by 2015.
A study on banking.com shows that 48% of "Generation Y" (gen Y) consumers are already using online banking services. Moreover, their preference for online banking is so high that around 30% said they would consider switching financial institutions if they did not provide the service. Both online and mobile banking by gen Y largely consists of checking account balances and transferring funds, although they also like to pay bills on the platform.
It is believed that high smartphone penetration, higher income within this group and greater digital sophistication will drive increased demand for mobile banking services. Since mobile banking is expected to be the most cost efficient for banks, investment in technology to improve and expand mobile banking services is likely to increase.
With online transactions expected to boom over the next few years, the topmost concern remains security. While banks will spend significantly on secure payment systems, hackers are expected to have a field day, largely targeting the flood of customers going online. Last year saw a huge increase in security breaches, something that may be expected to continue.
Alternative payment systems will continue to gain popularity. While some of these payment systems, such as eBay's PayPal have been around for a while, other systems, such as Google's digital wallet and the FIS Mobile Wallet are still in the making. Alternative payment systems never really gained momentum in the past because of the low volume of transactions. However, as online transactions continue to increase, many more such systems could suddenly become more available.
We expect mobile security to become a major focus area for technology companies, since this is the stumbling block to payments through the mobile platform (currently just 2% of U.S. online spending). Additionally, hackers continue to multiply and data breaching has become commonplace.
E. Online Advertising
The U.S. online advertising market has seen some very strong growth in the past few years, despite the recession that impacted the entire economy. 2012 numbers will benefit from the national election and the summer Olympics. eMarketer estimates that the market will grow 23.3% in 2012 to $33.8 billion, compared to the 23.0% growth in 2011.
However, growth rates are expected to drop over the next few years: 17.7% in 2013, 13.5% in 2014, 8.9% in 2015 and 7.8% in 2015. Falling growth rates notwithstanding, the share of online ad spending in total ad spending is expected to increase from 20% in 2011 to 31% in 2016. By contrast, TV ad spending is expected to drop slightly from around 38% of total ad spending in 2011 to less than 37% in 2016. Print is expected to decline even more significantly from 22.6% in 2011 to 16.4% in 2016.
The current strength in online advertising is coming primarily from the growing popularity of the display format. Of all the forms of online advertising, display (including video, banner ads, rich media and sponsorships) is expected to see the strongest growth over the next few years. Also, of all the forms of display advertising, video and banner ads are expected to grow the strongest from 2011 to 2016.
Contrary to previous expectations, it now appears that search will remain supreme throughout, although its share will give way slightly to video ad spending which will nearly double. The lower pricing of video and banner ads has made them popular with brand advertisers, so ad inventories are solid. Another factor favoring display ads is the proliferation of smartphones, where the smaller screens make display ads more effective than text ads.
Facebook was the largest player in the display ad segment with a 14% share in 2011. Google was close on its heels with 13.8%. eMarketer estimates that Facebook and Google will remain neck-to-neck this year, with Google pulling ahead in 2013 and widening the gap in 2014. Yahoo, which was in third position with 10.8% share in 2011, is expected to see a steady decline in sales and market position. Microsoft ( MSFT ) and AOL ( AOL ), while growing revenues are expected to maintain market share.
The underlying drivers of growth of the display format are the continued increase in the number of users, greater propensity of users to consume online, a growing inventory of advertisements that serve to lower advertisement prices and the push into display advertising.
Search advertising is expected to remain popular, because results are measurable, and therefore, more predictable than other media. This also makes the market more resilient in recessionary conditions, since advertisers are more confident about the results of their spending.
As evident from the above table, online travel companies are the picks for the sector, particularly Priceline and Expedia. International expansion is a key factor driving growth for these companies and collaborative agreements with local players are helping. The ADR is something to watch here, as lower-value inventories are on the rise.
Of the retail companies, we recommend eBay ( EBAY ), which has an attractive growth rate and has shown solid execution over the last few quarters. Moreover, eBay's turnaround story continues and its many initiatives to drive growth are likely to pay off. Another stock that looks attractive for longer-term investors is Zynga ( ZNGA ), which has a history of beating estimates and is also seeing upward revision in estimates.
Amazon ( AMZN ) is currently in the investment phase and there is a great deal of uncertainty as to how long it will continue in this phase. The uncertainty is leading to repeated downward revisions to estimates, which in turn is pushing down the Zacks Rank. The largest online retailer is by no means a write-off, but short-term investors would gain little from its solid revenue growth and international investments.
We also have reservations about Groupon ( GRPN ), which operates in a highly competitive segment with low barriers to entry.
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