Portfolio: India Value Fund Advisors and Meru Cabs

There are about 40,000 black and yellow taxis on the streets of Mumbai. Old and poorly maintained, they make for a rickety ride - if you're lucky enough to get one. In a city of 18 million, that works out as one taxi for every 450 people. Add to that tampered meters and drivers who charge exorbitant rates to hapless commuters, and it is clear why the team at India Value Fund Advisors (IVFA) saw the merits of creating a quality taxi service.

"Demand was never a problem. It was purely an execution game - how can we have a large fleet and provide consistent quality service across all cabs to our customers?" explains Vishal Nevatia, managing partner at IVFA.

However, in 2007 there were no companies in the radio taxi business.The closest thing was V-Link, a corporate travel provider with 1,500 cars and a license to launch a fleet of air-conditioned, GPS-linked, electronic metered taxis. V-Link's owner, Neeraj Gupta, had bid for the state government's tender to operate a fleet of 10,000 taxis a year ago and won. But that was the beginning of many challenges ahead.

"The biggest hindrance that the government put in the tender document was that it was not going to issue new taxi permits. We would have to lease the permits from the existing black and yellow individual operators," says Gupta.

He appointed a team to talk to the permit holders and offered lucrative returns for 20 year leases. Over the next two years, they managed to get 2,000 permits.

As part of the tender terms, the license holder needed to operate at least 500 taxis, all fitted with GPS systems and connected to a call center for booking and co-ordination. It involved capital expenditure that Gupta alone could not meet at the time, so he approached IVFA. The firm invested INR500 million ($8.6 million) for a majority stake in the company in February 2007 and started work on building the brand.

Symbol of stability

The new taxi service was named Meru, after a mythical sacred mountain that is a symbol of stability. "We concluded that the most important thing is reliability. People should be able to ‘rely on us', and that became the tagline of Meru," says Nevatia.

The team studied metered taxi services around the world, such as Comfort Cab in Singapore and fleets in Dubai and Indonesia and put together an operations model. Meru would buy the car and then rent it to the driver for a daily subscription fee of around INR1,000. Whatever money the driver made beyond that would be his. He would pay for fuel while the company looked after car maintenance.

However, since there was no precedent for this business in India, the initial lot of 400-500 drivers was retained on salary to convince them that this was a good business through which they could generate income. The drivers got to see the operations and calculate how much money could be made, and after nine months they were moved to the daily rental subscription model.

Each cab is a unique asset and so each driver needed to be trained to provide a minimum level of service and quality. Meru carried out checks of drivers' records and put them through a five-day training course covering defensive driving, safety and how to deal with emergency situations. It was a difficult operational challenge and state government norms didn't help. In order to get a license, a driver must be able to read and write in the local Marathi language and have been resident in Mumbai for at least 10 years.

The next step was selecting the technology platform on which the service runs. The entire system was designed from scratch with software written specifically for Meru. All the cars are connected by GPS so the booking team at the 24-hour company call centers knows the location of each vehicle, when it will be available for a customer, and how long it will take to reach them. IT amounted to almost 20% of the total investment in each car.

After setting the service standard, IVFA had to ensure Meru was able to provide service at a price point that is prescribed by the government and still make money.

"The pricing is regulated and there is no difference between Meru and competitors," says Nevatia. "We can price it lower but if we do so, it will be economically unviable. Anyway, as a philosophy across all our businesses, we prefer to compete on quality instead of being price warriors."

Meru Cab launched in 2007 with 45 cars in Mumbai and by 2008 it had spread to Delhi, Hyderabad and Bangalore. The fleet now has around 5,000 taxis and plans to grow by 25% this year. This rapid scaling up because the network has to reach a certain size in order to provide an efficient service. If taxis are available only in limited parts of a city, the service will not gain popularity. The fixed costs of setting up a back-office and maintenance also take longer to recover with a small fleet size.

By 2011, Meru had grown into a well-known brand, with loyal customers. However, the venture had yet to make a profit.

Driver subscriptions account for 95% of the revenue, which is about INR1,000 per day from each driver or around INR30,000 on a fixed basis every month. Of this, about INR13,500 is used to repay the loan taken out to buy the cab, and then a further INR9,000 is spent on maintenance and administration. Add in overheads of INR7,000 and the company is left with INR500 from each car.

In addition, the cab company faces margin squeeze as state-capped fares vary from city to city and have not kept pace with increasing fuel costs.

Nevatia says the fare-setting process is not yet transparent, with no clear formula to calculate the fare. "One has to go back to the government every time the fare needs to be revised. We have been working with state governments to publish a transparent formula and expect it to be in place shortly" he adds.

Path to profitability

When current CEO Siddhartha Pahwa joined the company in November 2011, it was burning cash. "The challenge we were facing was that we had a good quality service and brand but the profitability was reduced and as a result we were struggling to see how to grow the business in the cities we operated in and launch in new cities with a good profitable model," he says.

The management team began to see a lack of alignment between the company and its drivers. The cost of maintenance was rising as poor roads and drivers' lack of concern for the car's condition took a toll on the vehicles. As a result, operating costs were going up and profitability was impacted.

Drawing on his 15 years of experience in supply chain, operations and finance management, Pahwa came up with a plan to enhance revenue per car.

First, the Meru team made a case to the government why fares should be increased. They gave examples of cities like Singapore and Dubai, where the cost of operating taxi services is almost the same as the cost of operating a taxi service in India, because car and fuel costs, and the cost of living index, is about the same. But the fares in India are significantly lower compared to these cities. A year later they managed to get an average 30% increase in fares.

Second, the company optimized the use of cars to increase the number of paid trips made by each vehicle. Previously, while the driver sat in the car for 12-14 hours every day, only about 4-5 hours were spent driving a passenger. The rest of the time was spent idling or moving empty to pick up a passenger.

Meru made use of its technology and four years of data to anticipate a car finishing a journey and started giving drivers their next assignments 5-10 minutes in advance, rather than waiting for a transaction to complete and then looking for the next pickup. The value of the business done by each car within the same time frame rose by about 35%.

Another strategy is to move from the current asset-heavy business model to an asset-light one, where Meru will transfer ownership of its cars to the drivers after a certain period of time. During this period, drivers are responsible for vehicle maintenance pay a reduced subscription fee to the company.

"This creates a better alignment of interest between us and the driver, and the maintenance of the car is significantly improved. The driver will start taking care of the asset better than before," Pahwa explains. The quasi-owner scheme was introduced in April 2012 and currently covers about 20% of Meru's 5,000 cabs.

To reduce maintenance costs for company-owned cars, repairs were carried out at multi-brand garages rather than authorized dealerships. And instead of sourcing parts from the manufacturer, the company bought from the original equipment suppliers at a much lower price. For example, by buying tires from Chinese manufacturers, Meru was able to reduce tire costs by 15-20%.

The company also refined processes and leveraged technology. It started to promote the use of its webpage for cab booking over spending time on a phone call. An HTML 5 application was launched so people could book on the go via their mobile phones. As a result, call center staffing requirements fell.

The other part of the automation process concerned interaction with the driver - telling him where to go, queries to be resolved and suchlike. Meru put RFID tags in all its cars so departure and arrival times for trips could be automatically recorded and credit notes issued to a driver's bank account. Similarly, if the driver was not paying the subscription on time, there would be a way of locking his business credit.

With these measures the management team managed to reduce the headcount from 720 to 580, and make the business competitive and operationally more efficient. Meru broke even by July 2012 and is now a cash positive organization. "That's when the senior management team started asking what do we have to do to grow the business by 20%?" says Pahwa.

Expansion plans

As part of this growth strategy, Meru had to differentiate its services from those being offered by new competitors. On the technology front, the company started to offer payment by credit card and e-receipts instead of a printed paper one. Customers could also maintain their accounts on the Meru website, marking regular, favorite locations for easier booking.

Meru also launched a SMS-based trip tracker service, whereby a passenger can give an additional phone number to the company which would be kept updated of the taxi's location via text once the trip started. Within 60 days of launch, the service was used on more than 200,000 trips. The safety of women is a significant concern in India and the trip tracker helped deal with such anxieties.

To de-link growth from capital investment, Meru adopted a model last year that does not require capital to be invested in terms of a car. Under the Meru Plus driver-cum-owner model, drivers can buy their own cars and use Meru's brand and technology, while paying a reduced subscription fee. Suppliers keep 80% of the revenue and the balance is shared with Meru.

The company has tied up with banks and non-banking financial companies to get lower car prices and lower interest rates for drivers under this scheme.

Meru is generating healthy return on capital in all cities except Mumbai, according to Nevatia. "We expect Mumbai to deliver target return on capital within the next 12 months" he says.

Meru now has its eye on geographical expansion. There are plans to launch operations in Jaipur, Chandigarh, Pune, Ahmedabad, Chennai, Kolkata and Lucknow over the next two years - and it may not stop there. "We are also evaluating opportunities in Southeast Asian countries or neighbors such as Sri Lanka, Bangladesh, and Nepal," says Pahwa.

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• Topics
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