After years of waiting to get a foot in the door, foreign retailers have been allowed a tiny bite of the fast-growing retail market in India. In late January, the government announced new rules for FDI that allow single brand retailers, such as Louis Vuitton and Starbucks, to set up local joint ventures of which they may own up to 51%. Also, fully owned wholesale cash-and-carry operations can now be set up freely by foreign multinationals – previously they had to obtain approval from the Foreign Investment Board, a discouraging and cumbersome process.
Opening up of the retail market to FDI has been fraught with political challenges, not least because a powerful local lobby is threatened by the prospect. The retail industry is dominated by about 12 million mom-and-pop stores, which employ an estimated 21 million people. After much dithering, a small but politically palatable step was taken.
“Single brand retailers are not going to rock this market,” says Ireena Vittal, a principal at consultancy firm McKinsey. And Nandini Chopra, director, corporate finance, at KPMG, says: “It’s a small window that’s now open.” Branded stores that sell apparel, shoes, handbags and jewellery are likely to be among the first to be there, she adds.
Press reports indicate that Italian coffee brand Costa and jewellery-maker Verigold may set up stores, and US retailer Walmart and Hong Kong-based A S Watson may invest in wholesale operations. In March, Bharti Televentures, India’s largest mobile phone company, said it was in negotiations with Tesco for a $1bn retail venture.
The Indian retail market is valued at $200bn-$250bn, and small stores account for more than 95% of retail sales in the country. “India is one of the world’s last big unorganised retail markets and that poses a big opportunity and challenge for global retailers,” Ms Vittal says.
A retail market survey by KPMG conducted late last year predicted that organised retailing would grow at about 25%-30% each year to reach $23bn by 2010. The fastest-growing retail segments are food and grocery, followed by clothing, furniture and fixtures, according to Deepak Sanwalka, head of consumer markets at KPMG. And that represents a huge opportunity, one that Walmart and Tesco cannot ignore.
Rules with strings
The new rules come with strings attached. To qualify as a single brand retailer, the branding must be at the time of manufacturing and not distribution and, secondly, it must be a brand that is retailed abroad. It is unclear, for instance, if Barnes & Noble or a music retailer such as Virgin would meet the first requirement. “The definition of a mono brand must be made clear and the rules will get built as they are challenged. Just how soon they can be converted into contracts remains to be seen,” says Ms Vittal.
Single brand retailers such as Domino’s, Marks & Spencer and Louis Vuitton, which already have franchise operations in the country, can now consider if they want to own their local businesses. Other retailers that want to set up local businesses, such as Starbucks, have more options from which to choose.
“If ownership is a barrier to entry – and one must remember that all over the world retailers are still largely family-owned businesses – then they now have the comfort of being in control. But the franchise model has worked well for some international brands and the new regulations do nothing to change that,” says Ms Vittal. The decisions about ownership and business model are distinct from each other, and global retailers are likely to take those decisions based on what will help them serve their customers best, she adds.
Although China opened up its market to foreign retailers some years ago, not one of them has set up a 100%-owned business, and there are only two western names among the top retailers there, says KPMG’s Ms Chopra. Some global brand retailers could convert their franchise contracts in India into joint ventures, she reckons, particularly in branded restaurant chains where there is a need to control quality at the front end or if managing a large number of local franchise arrangements proves cumbersome.
India can be a tough market to penetrate. The failure to understand local tastes in food forced US fast-food retailer KFC and breakfast cereal-maker Kelloggs to beat a hasty retreat in the early 1990s. A decade after it entered India, McDonald’s says the market size for western fast food, like burgers and pizzas, is still only one-10th of the size of the market for Indian fast food. The company set up two equally owned local joint ventures, one based in Delhi for the northern and eastern parts of the country, and the other based in Mumbai to cover western and southern India. The company had an early mover advantage and went in with 50% FDI in these ventures, which were set up as part of a restaurant business rather than a retail business.
Amit Jatia’s company, Hardcastle Restaurants, owns and manages McDonald’s restaurants in western India. “The decision to drive the business at the local level has worked well for sure,” he says. The feel for the Indian consumer and understanding of the business environment is what he brings to the 50-50 joint venture, while McDonald’s provides the global business model, training and input on investments in the local supply chain. Running the business locally has meant that products are tailored to suit the local palate and purse: McDonald’s serves a strong vegetarian menu including an aloo tikki burger, conceived from a popular local snack, and its products cost less than $1.
Other multinational brands have followed a variety of distribution models. Nike, Reebok and Adidas have franchises; Domino’s focuses on home delivery to sell its pizzas, while Pizza Hut has set up restaurants; and Dell has no local retail outlets and sells computers solely through direct marketing.
“Now that foreign investors are entering real estate [the sector was opened up last year], we hope to be able to see faster development of commercial space,” says McDonald’s Mr Jatia. Yet, setting up a store is still far too cumbersome, he adds, sometimes requiring up to 40 licences.
New entrants will find a competitive market that has strong Indian retail chains, such as Pantaloon and Shoppers Stop, and branded stores, such as bookstore chain Crossword, which are riding the ongoing boom in shopping malls. Local conglomerate Reliance Industries recently announced a $5bn plan to become a giant Walmart-like retailer. But opportunities to forge partnerships abound.
Crossword CEO R Sriram says that fewer retailers in the US are opening stores in shopping malls and more of them are setting up standalone stores. Hoping to grow the business with an online shop soon, he says joint ventures could provide access to cheaper capital. He is unsure about whether Barnes & Noble (B&N) will qualify under the new rule, but says: “It is not a question of whether but when B&N will be here.”
India’s growing market for consumer goods, which is already in the top 10 globally, could reach $400bn by 2010, making it one of the five largest in the world, according to a McKinsey report, Winning the Indian Customer. Reaching India’s consumers cost effectively is a challenge because of the sheer size of the country and its fragmented distribution and retailing networks.
The mom-and-pop stores will continue to dominate Indian retailing for some years even though modern organised retailing is growing at about 25% each year, the report points out. As companies such as Unilever have demonstrated, the key to distributing products in India is to rely on a third-party network.
The opening up of the cash-and-carry wholesale business is an opportunity for global retailers to set up their distribution operations and prepare the ground for when they can open their stores in the country. German company Metro is already there and Walmart, which sources about $1bn in merchandise from a small office in Bangalore, has applied to the central bank to set up a market research and retail business development office there. Walmart recently moved a senior official from the US city of Bentonville, Arkansas, to Bangalore to lead the effort.
This is just the start of the race for one of the world’s largest untapped consumer markets.