The Walmart-Flipkart deal could change the Indian e-commerce scenario. 

Walmart May Exit India If Rules Become More Complicated, Says Morgan Stanley

India’s restrictions on online retailers backed by foreign investors could increase the cost of doing business and spike losses for Jeff Bezos’ and Walmart Inc.-owned Flikpart, according to Morgan Stanley.

And even as the ink has barely dried from Walmart’s $16-billion acquisition of Flipkart, Morgan Stanley’s report had a word of caution. While Walmart is not considering walking away at this stage, the report said if the Indian e-commerce market gets more complicated in the next several years, an exit is not completely out of question for Walmart.

“There is a precedent for an exit as Amazon retreated from China in late 2017 after seeing that the model no longer worked for them,” the report said. It may be an easier decision for Walmart to make down the road and one that investors could be willing to accept, it said.

The Narendra Modi government, under pressure from small retailers, tightened foreign direct investment rules for e-commerce. That barred Amazon and Walmart from holding inventory as they are not allowed to own stake in online merchants selling on their platforms. The new rules also clamped down on exclusive tie-ups, deep discounts and selling private labels. Thousands of products have vanished from the two platforms that account for nearly 70 percent of India’s online retail market.

Also read: Amazon Pantry: FDI In E-Commerce Rules Derail Amazon’s Grocery Push

Morgan Stanley estimates Flipkart’s losses may go up 20-25 percent, according to its report titled ‘Assessing Flipkart Risk To Walmart earnings per share—BloombergQuint has reviewed a copy. Already Walmart expects Flipkart to report a loss of at least Rs 5,300 crore in the ongoing financial year after it revised earnings per share estimate for the financial year ended March 2019 last October.

Walmart has a lot riding on the Indian market as over the past year it scaled back in the U.K. and Brazil and is said to be funnelling the bulk of international investment into two regions—India and China.

Morgan Stanley estimates that new guidelines could cause a 1.3 percent hit to Walmart’s earnings before interest and tax and 1.5 percent to its earnings per share.

It’s hard to ignore Flipkart by Walmart investors now, given that the market’s initial reaction to Walmart’s purchase of Flipkart was negative, according to Morgan Stanley. “Now that Flipkart’s losses will likely rise, it once again becomes a bigger part of the WMT (Walmart) investment narrative.”

Smartphones To Take Hit

Smartphones and electronics drive nearly 50 percent of the revenue for online retailers, and also gives Flipkart a lead over Amazon. Due to changes in the supply chains and existing exclusive deals, Flipkart’s top line faces pressure in the near term, the report said. Besides, Morgan Stanley expects the new rules to increase operational cost by 3-11 percent.

All’s not lost though. Flipkart and Amazon could bring in more sellers to their platforms, reduce the number of business-to-business transactions they conduct and negotiate new contracts between sellers and brands and independent wholesale entities, it said. “Exclusivity could be lost and minority stakes could be sold at a reduced value but this could be viewed as a one-time cost of compliance,” it said, adding that the two online retailers could also reduce commissions and maintain high cashbacks to keep attractive pricing intact.

Also read: E-Commerce FDI Policy: Bored Game