Bengaluru/New Delhi: What’s the next big thing in India’s Internet marketplace after online retailers Flipkart and Snapdeal? Investors are betting that it could well be an on-demand taxi hailing service.

Companies such as Ola, TaxiForSure, Uber and Meru are experiencing a boom in demand for their cab services in a country where the transport infrastructure is still creaky and safe public and private commuting options are few.

A shift in consumer habits towards convenience and on-demand services, and, most crucially, low prices, have fuelled the boom.

“These days, the first thing a college graduate wants is the latest gadget rather than a car. Such shifts in consumer habits including the growing preference for convenience and use of smartphones for buying goods and services are helping the industry grow exponentially," said Anand Subramanian, director, marketing communications, Ola.

Ola and Uber, in particular, have grown explosively over the past year by offering car rides at prices lower than the fares charged by auto rickshaws, the Indian version of Thailand’s Tuk Tuks. How long can such prices be sustained for is anyone’s guess, but for now these companies continue to spend massive amounts of capital on marketing, discounts, recruiting thousands of new drivers and expanding into new markets.

Earlier, cabs were mostly used for airport rides. That has changed now because of the unrivalled ease of access offered by mobile apps. All the large companies, including Ola and Meru, get a majority of their business from mobile apps, while Uber is entirely app-based.

“Most of our business now comes from current bookings," Meru chief executive officer (CEO) Siddhartha Pahwa said. “We get 65% of our bookings from the mobile, and this number will increase to 80% or so over the coming year."

Similar to online marketplaces Flipkart, Snapdeal and Amazon, all of which host products owned by third-party sellers, Uber and its rivals—Ola and TaxiForSure—have no ownership of the cars their customers use.

These firms don’t even employ drivers; they simply connect customers with drivers, using technology, and charge a commission varying from 13-20% on each ride. This so-called aggregator model has prevailed over that of owning cars. Even Meru, which started out in 2006 by owning cars and employing drivers, now generates more than 60% of its business by connecting customers to independent cabs.

Two other models exist: cabs for long-duration travel and rentals.

Savaari, backed by Inventus Capital Partners and Intel Capital, offers cabs for long-duration travel, avoiding direct competition with the likes of Ola and Meru. The firm does about 7,000 trips in a day, with an average ticket size of 3,500-4,000, co-founder Gaurav Aggarwal said.

ZoomCar India and Carzonrent follow variations of the rental model and both have received funding from investors.

The most attractive and fastest-growing part of the market is on-demand city travel dominated by Ola—which, early in March, bought TaxiForSure—Meru and Uber. This market is worth as much as $13 billion, of which less than 10% belongs to the so-called organized sector, according to estimates by industry executives.

“The size of the opportunity is massive. All of us travel every day, so considering the repeat usage factor and the shortage of alternatives, cab services space is one of the largest opportunities in e-commerce," said Rutvik Doshi, director at Inventus India Advisors. “There are two niches within cab services that will co-exist: point-to-point transport that is dominated by Ola and Uber and car rentals which will have several players including Savaari, Carzonrent, Avis and others."

Ola may get a valuation of more than $2 billion in its next round of fund-raising, three people familiar with the matter said. If Ola fetches a valuation of more than $2 billion, it will become the third most valuable venture-backed Internet firm in India. Flipkart, the country’s largest e-commerce marketplace, is worth $11.5 billion, while smaller rival Snapdeal is worth more than $2 billion.

“Though there are different business models in the industry, the use of technology to aggregate and offer technology solutions will continue to be the key differentiators and enablers," said Raja Lahiri, a partner at Grant Thornton India Llp. “There are too many fragmented players in the market and, given Ola and Uber are more scalable business models, they will get further investor interest."

Cash intensive

Ola, promoted by ANI Technologies Pvt. Ltd, TaxiForSure, Savaari, bookmycab and ZoomCar India have together raised roughly $365 million from investors so far, according to data by Tracxn, which sells data on private companies to investors. More than $320 million of this has been received—and used up—by Ola and TaxiForSure.

Investors will pump in much more money this year to support the spending spree of the cab aggregators. Ola is raising about 760 crore this month from existing investors that include Tiger Global Management, SoftBank Group, venture capital firms Matrix Partners and Sequoia Capital, and Hong Kong-based hedge fund Steadview Capital, documents filed with Indian regulators show.

The firm is in talks to raise another round of funds from at least one new investor, the three people cited above said.

Meru raised $50 million last week from its existing investor, India Value Fund Advisors, a private equity firm, and the Mumbai-based company has already entered talks to raise $100 million more from new investors.

All the three companies—Ola, Uber and Meru—are rapidly expanding to new cities.

Meru, which will have a presence in 23 cities by the end of March, plans to expand to at least one new city every month in the business year starting 1 April.

Ola plans to be in as many as 200 cities by the end of March 2016 from 85 cities currently.

“We will continue to go deeper in existing cities and expand into new cities. The biggest challenge is the availability of quality supply. We are solving this by creating a conducive ecosystem for drivers through training and skill development, access to easy financing, deep discounts from car manufacturers and more, which will help drivers grow as entrepreneurs," Ola’s Subramanian said.

Uber, too, will enter new markets next fiscal. The San Francisco-based firm entered India in August 2013 by launching its premium UberBlack service in Bengaluru.

Since then, it has expanded to 11 cities, including Delhi, Mumbai, Chennai and Pune. The company has also launched two cheaper services that significantly increased the app’s usage.

“We’re already seeing a lot of interest in cities where Uber isn’t yet present," said Bhavik Rathod, general manager at Uber Bangalore. “Through app downloads, users in Indian cities have indicated their interest in Uber, and we will be launching in new cities next year. We’ve localized in India by launching UberX and UberGo, our low-cost services, and these offerings will be the way to go in new cities."

India is Uber’s second largest market by the number of cities after the US.

Regulatory challenges

While cab services are becoming increasingly popular with customers, Uber, Ola and others face significant regulatory hurdles.

The Delhi transport regulator banned Uber and other app-based taxi service providers in December after a cab-driver working with the company allegedly raped a 25-year-old woman in the national capital.

Investors in cab services feared the worst as it looked like some other states could follow Delhi in banning the aggregators.

Though all the taxi service providers have restarted operations in Delhi, the threat of regulatory action persists.

Before the ban in Delhi, Uber was forced to change its payment model entirely after the Reserve Bank of India (RBI) disallowed automatic payment through credit cards. Uber, which until then accepted payments only through credit cards, launched a payment wallet in collaboration with Paytm in November.

Then the Union government said Uber and other cab aggregators were liable to pay service tax when it defined the term aggregator in the recent budget.

Now all cab aggregators, which didn’t pay service tax until recently, potentially face a large tax burden. Apart from India, Uber has also clashed with authorities in other countries, including South Korea, Germany and Thailand.

Following the ban in Delhi, all cab aggregators have improved safety measures.

They have become stricter on driver verification, tied up with external agencies to screen the backgrounds of drivers, added SOS or panic buttons on their mobile apps, and given users the option of sharing cab details with friends while on rides.

“We have a continuous dialogue with the government and it is supportive of cab aggregators. We will continue to work closely with the regulators to improve safety. The recent definition of cab aggregators in the budget also provides a lot of regulatory clarity for us," Uber’s Rathod said.

Consolidation ahead

The prevailing way of doing business in e-commerce in India is to burn cash on marketing and discounts to acquire customers; generating profits doesn’t matter. This prevailing strategy in cab services, as well as the larger e-commerce business, seems to be working—for now.

Late last year, TaxiForSure, which was earlier run in a much more cash-efficient manner than Ola or Uber, was forced to slash prices and start spending heavily on funding discounts following price cuts by its rivals. In hindsight, it was a tad too late.

After Ola received $210 million from SoftBank in October, TaxiForSure investors got spooked by the size of the fund-raising and by the profile and reputation of the Japanese investor, which owns more than 30% of the world’s most valuable e-commerce company, China’s Alibaba Group.

TaxiForSure struggled to raise money and was forced to sell out to Ola in a cash-and-stock deal worth $200 million earlier this month. It showed that after the e-commerce funding boom of last year, investors are starting to think twice before throwing huge amounts of capital at cash-intensive and loss-making business models.

“After Ola raised the round from SoftBank they acquired substantial firepower to increase their aggression in acquiring customers. Before that round the dynamics in the space were totally different. No one thought a cab aggregator could raise so much money," said an investor in TFS, who spoke on the condition of anonymity as he wasn’t allowed to speak on the subject of the Ola-TFS merger

“Ola was already much bigger than TFS but after the SoftBank round they became more than twice as big as TFS in a matter of months. It was clear that if we merged TFS with Ola the combined entity would be a clear winner."

More consolidation is likely in the coming fiscal.

According to analysts and investors, three firms are likely to dominate the market—Ola, Uber and Meru.

The others such as Mega Cabs and Easy Cabs have all missed the bus, or cab as it were, and are struggling to survive.

Some of these companies, which didn’t have the technology know-how to adapt to the on-demand opportunity, are seen as potentially cheap acquisition targets.

“A further consolidation will definitely happen because, apart from a handful of companies, most cab operators don’t have the technology or management to compete in this market. We are evaluating companies that can add value to our offerings, but we will only buy if anyone is able to show they can match up to our (service) quality standards," Meru CEO Pahwa said.