Emerging markets (EMs) often lag behind developed countries when it comes to technology adoption. But things are changing. Developing-world countries and companies are rapidly becoming Internet trendsetters—especially in online retail and digital payments.

Conventional wisdom suggests that EMs are technology copycats. From the growth of China’s nascent enterprise cloud market to India’s billion-plus cell phone boom, EMs often follow the US and other developed-world technology leaders.

These days, the Internet is leveling the playing field and many EM businesses are benefiting. More developed-market companies are going to start paying closer attention to the innovations coming out of EMs, in our view. And for equity investors, these trends have important implications when searching for opportunities in emerging equity markets.

Emerging E-commerce Is Exploding

Online retail is at the center of the changing landscape. In several EMs, e-commerce penetration is higher than in developed markets despite lower per capita incomes (Display). In fact, in some countries, the lack of a developed retail infrastructure actually proves to be an asset for e-commerce leaders.

Emerging Markets

Emerging Markets

India and South Korea are prime examples. In India, 90% of the retail sector is still unorganized and often unbranded. Offline retailers never established the kind of footprint and consumer behavior that Walmart Stores or Carrefour have in their respective home markets. As a result, online retail penetration in India is already ahead that of Italy and will soon exceed that of Singapore, a country with one of the highest per capita incomes in the world.

Online Payments Surge Ahead

Emerging markets are also blazing a trail in online payments—and are well ahead of developed countries. In the US, for example, mobile payment is still in its infancy, despite a big push by Google and Apple to promote their respective payment platforms. According to a March 2016 survey by the US Federal Reserve, only a fourth of US smartphone owners had used their device to make a payment in the past 12 months.

In contrast, 86% of Chinese smartphone owners have made payments with their devices, according to Nielsen. With nearly 300 million users, Alipay, China’s leading payment platform, processed more than US$500 billion in payments in 2015. Alipay, owned partly by Chinese online retail giant Alibaba, is the most popular payment platform in China (Display) and can be used for anything from airline tickets to late-night street food. As Internet companies like Alibaba and Tencent use their beachheads in online payment to expand into lending, insurance and wealth management, we believe they could even challenge China’s traditional banks in the long run.

Emerging Markets

High-Growth Markets Present Real Risks

Technology innovation in these high-growth markets is fraught with risks, especially for first movers. The story of Flipkart, India’s largest online retailer, is telling.

Flipkart was founded in 2007, six years before Amazon.com entered the market. Amazon.com had learned its lessons from missteps in China, and made a much more aggressive launch in India by investing US$5 billion over three years, building a strong local team and providing same-day delivery to 100 Indian cities. Flipkart’s efforts to fend off the threat faltered, and the company has lost market share while its valuation plummeted. The Indian market is still in flux, and things could change rapidly over the next five years as an estimated 150 million shoppers move online.

Scouting for EM Innovation

Innovation presents challenges and opportunities for EM equity investors. Finding true pioneers requires more than just screening for growth or profitability using standard equity measures. Investors need to develop an intimate understanding of local consumer trends and tastes, while focusing on industry-specific metrics, which are much more useful, in our view.

For example, when searching for consumer Internet companies, gauging customer lifetime value is especially insightful. This metric helps investors assess the earnings contribution from long-term relationships with customers, which in turn is driven by user acquisition costs and retention. Indian e-commerce pioneers score poorly in this regard and have suffered from weaker unit economics.

Barriers to entry are another important qualitative measure of a company’s staying power. In nascent industries, the competitive landscape can rapidly change—and determine success or failure—as demonstrated by the Flipkart story. Yet unlike in India, Chinese Internet giants are well protected from foreign competition by governmental regulations as well as their ownership of unique assets with powerful network effects. For instance, Tencent owns the WeChat mobile app, which has nearly 850 million users.

Predicting winners in high-growth sectors and diverse regions is inherently difficult. By challenging conventional wisdom—and realizing that no two markets are alike—investors can discover EM technology trendsetters that are paving the way to lasting innovation, global leadership and sustainable long-term returns.

The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of all AB portfolio-management teams.

Article by Laurent Saltiel, Naveen Jayasundaram – Alliance Bernstein