Rocket Internet: it’s all about risk mitigation

Rocket Internet's business and operating models are perfectly aligned: both aim at mitigating the risks of starting a venture in a new market.

Ever heard of these internet retail giants with awkward names: Zalando, Zalora, Jabong, Linio, Lamoda or Lazada? All of these businesses were built by the German “clone factory” Rocket Internet. Founded barely 8 years ago, Rocket Internet has built 25% of the European unicorns and many fast-growing businesses in over 110 countries – some in less than 100 days. How did Rocket Internet build many successful businesses so quickly?

Rocket’s business: removing business model risks

Rocket Internet globalizes proven business models. Typically, Rocket identifies US startups attracting Screenshot 2015-12-07 17.54.45significant funding in the e-commerce, marketplaces, financial technologies or travel sectors, and replicates them in emerging markets or Europe with the goal of becoming market leaders. Unlike a VC or incubator, Rocket builds the companies itself and retains equity ownership. This business model provides Rocket with two competitive advantages. First, Rocket enjoys a “first-mover” advantage in the markets where it launches a new venture. Second, Rocket mitigates the business model risk by copying startups which have proven successful in the US.

Rocket’s operating model: mitigating market and execution risks

Rocket Internet designed an operating model which supports its ambition to clone businesses rapidly on a massive scale. The operating model creates a competitive advantage by providing as much control as possible over the two other risks of entrepreneurship: market and execution.

  1. Rocket tries to mitigate market risks by sharing information across ventures, and quickly opening and closing businesses. Rocket leverages its central team in Berlin to gather insights from ventures in various markets about customer behaviors and preferences, in order to anticipate what kind of business model might work in a given market. In addition, Rocket typically gives 100-days to entrepreneurs to achieve traction in a given market, before they make the decision to shut the business down or grow it. This pressure not only ensures that businesses are built fast, but also allows for rapid testing of the business model’s reception in a given market.
  2. Rocket has mastered the risks of execution. Several unique features of its operating model allow Rocket Internet to be operationally more successful than its competitors.
    • The first of these is funding. Thanks to the previous success of Rocket Internet’s founders, most ventures can tap into very deep pockets when starting operations. Massive marketing budgets, large teams, the absence of concerns about cash, all contribute to help the ventures gain market share faster than new entrants.
    • Additionally, Rocket Internet provides standardized processes to support its ventures around the world: website templates, marketing activities, reporting models, IT, and logistics are all supported by expert teams in Berlin. The central team leverages the global network of companies to share knowledge of best practices across many markets – an invaluable source of learnings for the founders. In a way, Rocket Internet ensures that its new ventures start already “deep-down” the learning curve, without making the costly mistakes that would normally take them there. In that spirit, Rocket Internet even has developed a dedicated team of managers (“GVDs”) who go across ventures to solve particular issues (e.g., last-mile delivery), based on their learning at other ventures. F
    • Finally, Rocket’s operating model allows for top talent recruiting. While non-funded early-stage startups struggle to attract top talent, Rocket Internet offers competitive compensation, a strong brand name on a resume, and the opportunity to learn how to build a best-in-class business … with one catch: founders have almost no equity. This leaves both sides winning: top talents join as founders to learn the ropes of entrepreneurship in a “non-risky” environment before striking it out on their own, and Rocket reaps the financial upside of their hard work.

In conclusion, Rocket Internet is in the business of mitigating risks. Both its business and operating models focus on mitigating risks, complementing each other in such a way that business model, market and execution risks are very limited in a new venture. This complementarity has allowed Rocket Internet to produce market leading ventures at an unprecedented speed and scale. Rocket might have mitigated many risks, but one still looms: since the copied business models do not always generate profits in the US, will Rocket’s leading ventures turn a profit? Can the copy outperform the original?

 

 

 

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3 thoughts on “Rocket Internet: it’s all about risk mitigation

  1. Rocket Internet is indeed an interesting case study, JM!
    On the business model, I find it interesting that you see Rocket as being in the “risk mitigating business”. I agree that it tries to copy proven business models and be a first mover at scale with those models in developing countries. I also believe that Rocket also has a pretty fast decision making process on where to launch, how to execute and when to exit businesses. I disagree however that Rocket is good at mitigating risks. My perspective is based especially on what I experienced in 2012 and may be somewhat outdated, but I will share my few concerns on this.
    First, it’s a problem of culture. The Samwer brothers were successful in the 2000s by copying two proven business models (eBay and Groupon) in Europe really fast and selling it back to their respective SF companies. That focus on high growth at all costs paid up then, which made them double down on this (and have somewhat of a bias against planning), but it also brought a few issues down the line – they were responsible for scaling up Groupon China which did not go well and the value of their companies started to be somewhat questioned by SF companies. When they started Rocket, this focus continued. This allowed them to scale their operations incredibly, but also brought some problems especially when they started their SEA expansion – the companies that they were copying stopped buying back their companies, hard to recruit good top management at that pace, big employee churn rates due to the collateral effects of their management style. While some of these are normal pains of a growing company, and some of them are mitigated by what you identified (and I agree!) as their top advantage (i.e. funding), I think that this culture somewhat prevents them from creating sustainable businesses.
    Second, there is an issue of talent. While taking the risk out of starting a company is enticing for people who want to become entrepreneurs, the lack of upside increases the probability of them leaving, especially if you have the above mentioned culture. Besides that, while Rocket is great at attracting talent from consulting and investment banking backgrounds, it is highly debatable whether those are the best people for the job.
    Third, it’s a financial problem. Today, no Rocket Internet company is profitable (while Zalando was started by Rocket, it is a separate company), and they have an average EBITDA margin around -30%. One may say that that is normal in startups of the like, but most of this startups are 4+ years old and not all of them have been consistently improving margins (while most have). Besides that, it also puts into question how good the execution skills are if after this time and with very little competition in some markets (i.e. South East Asia and Africa) why it is taking them so long to get a sustainable business model.
    Fourth, there is a “future” problem. As mentioned above, so far Rocket has no competition in most of its markets. So one may wonder how Rocket is going to perform if Amazon or other well funded local startups decide to enter those markets (especially if we look at India and where today perhaps the biggest market players are Flipkart, Amazon, Snapdeal … and then Jabong). While Rocket is great at reducing cycle times and being first to market, one may wonder if it is worth to focus on that at the expense of operations and building a solid company foundation in markets with little competition.
    To sum up, I believe Rocket is very good at getting funding, picking proven business models and bringing them fast to markets in which it has no competition. Whether that is enough to create sustainable businesses, we will figure out in the next few years.

  2. Great read JM! Rocket Internet is an interesting beast as you lay it out nicely. From one side, it’s a force behind some very fast growing businesses (HelloFresh in Europe is one that comes to mind), setting up hungry entrepreneurs with a big mandate, required funding and some support. On the other hand, their stock price has halved from the peak of Dec 2014 as a result of a series of weaker investments in SE Asia and questions about profitability of the ‘unicorns’ (which, of course, is not unique to Rocket). I have heard a number of personal stories about their ruthless approach to their ‘entrepreneurs’ who experience high levels of pressure from the company, don’t always receive the expected support from HQ and as you mention, don’t even always get to participate in the upside. This in turn, arguably constrains their success rate: short term focus might ‘kill’ solid ideas that don’t perform in first 100 days, and ‘tough’ business model is likely to put off truly talented entrepreneurs who should be able to find ‘better’ sources of capital elsewhere. Their unique approach has certainly brought a lot of wealth to the founders and has created value in the process. I do, however, question if risk mitigation is really at the core of what they do and whether their operating model really supports their strategy. Speed is critical when you’re in the business of copying existing business but so is execution. I’d argue that a more focused, committed and patient approach is likely to create similar, if not better results for company, its investors, customers and especially employees .

  3. Very interesting article, JM. I absolutely agree with you that the Rocket Internet business model is focused on risk mitigation. They are trying to “manufacture” start-ups by coping US start-ups. The big questions is, whether this is possible in the long-term? Is this operating model sustainable or was Rocket Internet just lucky so far? There are certainly some success stories, most notably probably Zalando, which went public last year. But there are at least as many examples for ventures that didn’t work out (e.g. the Instacart copy ShopWings greatly failed, since RI just copied Instacart without understanding the significantly more competitive German grocery market).
    Investors also seem to have some doubt about this business model. Since its IPO a year ago, RI lost more than 20% of its market cap. Zalando’s IPO valued Zalando higher than major German companies like Deutsche Lufthansa, but Zalando raised significantly less money than anticipated.

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