FDI IN RETAIL
A hot shop gone cold?
The debate on FDI in retail has been riddled with so many negatives, a potential good idea may have no more takers
By Shaili Chopra
Illustrations: Sudeep Chaudhuri
THE GOVERNMENT’s decision to reform the retail sector by allowing foreign direct investment (FDI) in the sector has exposed the faultlines in the country’s consensus-building and decision-making abilities in the backdrop of coalition politics. Although on the face of it, India’s retail opportunity puts forth a strong business case, the way it has been handled and brought to debate in Parliament raises a big question mark on whether it will indeed change the game for the country. Will there be a long wait before the Indian consumer gets an international experience? For the companies, will the cost of delayed reform outweigh the bottomline benefits of India’s billion consumers? Players once ecstatic about entering the Indian market are already realising that the initial promise of an emerging India has been short-lived. Political yoyoing and a global economic slowdown have made the world’s top class retailer go less gaga about India.
India’s multi-brand organised retail sector is less than 10 years old, but in less than a decade, i.e., within 2020, it will be a $1.3 trillion industry. With the current market size estimated at $500 billion, this translates into an additional $800 billion in the next eight years, according to a latest report from industry chamber FICCI. The fortune carries promise, but there are many immediate challenges facing both the government and the retailers looking to enter India.
The claims that FDI could transform India’s job market and consumer landscape may be overrated, but at the same time, it remains a significant reform that could begin the process of building the base for a consumer-driven economy and even fix our labour laws. The notion that large stores are the proverbial big fish that will eat away the small ones is flawed. In fact, there is reason to believe that existing retailers and established small stores may have reacted much ahead and reworked their strategy, and now can put up a good fight to new entrants.
With the kind of constraints facing the newcomers, the battle between big and small may be starting with the latter at an advantage. Most of the kirana stores have already innovated and today cater quite successfully to their neighbourhood clientele. This is also a reason why the political debate around the issue has shifted, as organised retail versus unorganised retail has shown no evidence of hurting various stakeholders just yet. If anything, it is now about how the ultimate votebank, the farmer, may be the eventual beneficiary in this game.
In 2005, when India first mooted the idea of allowing foreign retail giants into the country, it triggered off a political storm between UPA-1 and coalition partners, the Left parties and Opposition BJP. Walmart spent many man-hours lobbying for an India entry by using diplomatic channels, including that of then US Ambassador to India, David Mulford, to push the case with Commerce Minister Kamal Nath and Prime Minister Manmohan Singh. But Sonia Gandhi was making her own notes, and she shot off a letter to the PM questioning how the entry of foreign companies, such as Walmart, could help the nation. Left parties had cashed in on this and called Walmart’s tie-up with Bharti “a backdoor entry” to the Indian market.
But, with the UPA-2 desperate to show some results and the PM willing to “go down fighting” while standing his ground against an incoherent Opposition, the dynamics of the debate have changed completely. Manmohan Singh has managed to convince the Congress president that retail will be good for the aam admi. Addressing a rally on 4 November at the Ramlila Maidan in New Delhi, Sonia Gandhi said: “We need new investment in the country, of which FDI is a big component. This will benefit not only the common man, but also the youth.”
Speaking in the same rally, Rahul Gandhi too pushed the case for FDI. “Cold storage and food processing units will come close to the farmers,” said the Gandhi scion, accentuating the benefits that FDI in retail will accrue to farmers. “Farmers are the backbone of the country and we will make them stand up and be counted.” On his part, the PM has always been vocal for the reform; his argument is that in a growing economy, there is enough space for both big and small to grow. “Growth of organised retailers would benefit farmers and create millions of good quality jobs,” he had said in September.
IS FEDERAL POLITICS FRACTURING THE REFORM?
UNDER THE new FDI rules, states can opt out of allowing in foreign retail giants. Barring a few big states, most are inclined to keep the Walmart-equivalents out, at least for now. This has been the political compromise for the reform to go through where states can make their own decisions on allowing large shopping formats inside their borders. While Maharashtra Chief Minister Prithviraj Chavan has said on record that FDI “will promote transparency, accountability and remove supply chain hurdles”, Gujarat CM Narendra Modi has highlighted how small businessmen will be forced to down their shutters.
Even in those states that welcome them, big players will be permitted only in cities of at least 1 million people. “This will have new retail entrants very worried,” says Vikram Bakshi, Managing Director of McDonald’s India (North & East). But giving states an open choice may have been the only politically palatable option before the Congress-led government, as many states are BJP governed. Union Telecom Minister Kapil Sibal rationalises: “Individual states in India are the size of other countries in the world, so there are enough opportunities for the investor and market. Of course, he (the retailer) would like to have a pan-India approach. I am sure that once other states realise the benefits of FDI, they will also come on board.”
Bakshi calls this a realistic approach and expects other states to follow once they see some green shoots of success. Former Unilever president in London, Manvinder Singh Banga prefers the selective adoption of FDI in retail as opposed to none at all. “Doing it everywhere and not somewhere will lead us to getting it done nowhere,” says Banga.
Himanshu Pal, Director-Retail Insights at Kantar Retail in London, brings in a financial reason why it may be in states’ interest to eventually bring in organised retail. “States may lose taxes because consumers in UP or Noida may hop into neighbouring Delhi to do all their bulky shopping a bit like it used to be for fuel, when customers crossed borders to gain from tax arbitrage,” he says. Foreign retailers were hoping that by now, the much-awaited Goods and Services Tax (GST), which allows for uniformity in state-to-state taxation, would have been implemented to allow for smoother investments across states, but that too has been pushed back due to a lack of political consensus.
India is now jostling with other global emerging markets to attract retail investments. The back and forth on policy has already shooed away many players. Will opening retail mean that top multi-brand giants like Tesco, Carrefour, Costco, Best Buy, Target and others will mushroom here? The answer would have to be no. There are far too many uncertainties — both business and political — for new multi-brand retailers to feel comfortable coming in. Bakshi envisages retailers who have a partner or a cash-and-carry business already running in the country, are more likely to step in. “These companies will use their existing framework to build a scale and move forward,” he says.
Walmart, for instance, has already got an arm that sells bulk produce to shops. The company has shared plans to open retail outlets in India in the next 12-18 months, making it the first multi-national to acknowledge the reform. But this is not true across other retailers. French giant Carrefour, also present in India through a small wholesale arm, is shutting its business across many other emerging markets. It has wrapped up its operations in Indonesia and divested its business in Colombia and Malaysia.
High rentals mean hypermarkets are reducing the size of their stores even before starting. In Hyderabad, Hypercity is halving its store from 1,40,000 sq ft to 70,000 sq ft
“The global slowdown has brought down the risk appetite of large companies, some of who may not be willing to risk investing in India any more. Already struggling in their own markets, they are willing to cut down expansion across the emerging world,” observes Pal.
This forces the question if India’s 1.2 billion population is indeed the hook for these retailers? Given the riders that have come with FDI and the lack of a pan-India participation, the net market available to them is actually only a few million people. What we are more likely to see is a larger presence of single-brand retailers, such as Ikea, which has expressed intent to open about 25 stores over the next few years, British footwear maker Pavers, apparel firm Brooks Brothers, jewellery stores by Damiani, Starbucks, Top Man and others. These will be present in India through partners or fully-owned subsidiaries.
THE FDI debate rests on the three key issues of supply chain infrastructure, real estate and accessibility. The supply chain argument is based on the premise that India lacks big warehouses, cold storage facilities and a well-equipped logistics network.
According to some industry estimates, 35-40 percent of fruits and vegetables and nearly 10 percent of foodgrains in India are wasted annually due to lack of storage facilities. Ajay Banga, CEO of Mastercard and chairman of the US-India Business Council (USIBC), believes retail is the answer for introducing best practices in India. “When 40 percent of India’s harvest is prone to spoilage due to an inefficient farm-to-market supply chain, it is clearly in India’s self-interest to bolster infrastructure all along the farm-to-fork supply chain, as well as improve efficiencies at every opportunity,” he says. “Inviting organised retail into this sector will accomplish both goals: it will attract investment and improve efficiency. The benefit will accrue to the farmers and consumers alike. As India succeeds in implementing this reform, a renewed enthusiasm for India as an investment destination will be generated across all sectors.”
Not everyone is as sure though. Vineet Agarwal of Transport Corporation of India feels the benefits of opening up the retail sector will take some time before they realistically percolate down to the consumer. “FDI in retail will have its impact on consumers essentially 7-10 years after implementation, as it would take time for the back-end infrastructure investment to deliver its full potential,” he elaborates. “In the short term, companies will try to buy market share by taking in losses.” According to Arvind Singhal, whose firm Technopak has advised many retail early birds, India doesn’t yet have a uniform policy that focusses on improving the producer–consumer distribution system efficiency, which requires “removal of restrictions such as agricultural produce market committees (APMC), octroi, entry tax and other barriers to movement of perishable goods”. A critical link in establishing such supply chains is availability of uninterrupted power for states to run successful storage facilities.
Real estate has been the single-most restricting factor for companies to turn in profits. Most of India’s homegrown large retailers too are struggling. Setting up outside city limits hasn’t yet helped in attracting enough customers, and most big stores are inside centrally-located malls, shooting up the price of leasing and cutting down the space for a real retail spread and experience. Anshuman Magazine, head of commercial real estate services firm CB Richard Ellis, India, doesn’t see the high realty costs cooling off for potential newcomers. “Rates are high because quality retail real estate is in short supply across the country. Hence, developers with good projects can demand a premium on their assets.”
A KPMG report cited a considerable increase in rentals over the past five years in major Indian cities. If retailers pay such high rentals, can they truly offer great prices to customers? So even before they have arrived on the scene, existing hypermarkets are reducing the size of their stores. In Hyderabad, Hypercity is reportedly halving the floor size of its store from 1,40,000 sq ft to 70,000 sq ft.
JOB CREATION OR KILLING JOBS?
FOR EVERY job created in the organised retail sector, the apprehension is that many existing jobs will be lost. BJP’s Arun Jaitley believes retail reform will make India “a land of salesboys” and that about 20 percent of our total workforce will be adversely affected as they depend on unorganised retail. “MNCs are known to source internationally from cheaper markets, directly affecting local manufacturing,” he says.
Ajay Banga puts this in context of the greater common good that will come off this reform. “With retails opening, investment will flow into India’s farm-to-market supply chain. Farmers will have greater access to an ever-expanding marketplace. Incomes will rise. For the consumer, there will be more choice and better quality. This ‘wealth-creation cycle’ will fuel a growing Indian economy. Indeed, India’s retail opening will be transformational,” predicts Banga.
As standardisation kicks in, middlemen and traders may lose business now, but in the long run, that will be good for the sector because of the higher money-making opportunity it will offer farmers who may get access to direct contracts with companies. It is further argued that whenever a new industry takes structure, millions of ancillary jobs are created. When BPOs came about, transport, maintenance and catering companies thrived. With retail, logistics, food manufacturers, technology companies, infrastructure, security firms and real estate will all benefit and create jobs.
A Technopak study dated October 2012 concludes that employment in corporatised retail does not grow at the cost of existing retail shops. It forecasts that in the next decade, while corporatised retail will add another 2.7 million jobs, independent retail will create 9 million more jobs. So, for now, there is no argument that the existing system will collapse overnight. Retail expansion is a slow process as witnessed in other countries. States are talking of eliminating the middlemen, arguments for which are articulated later.
There is also a fair amount of extrapolation on whether entry of foreign supermarkets will put the kiranawala out of business. There is no historical reference to this argument. Himanshu Pal of Kanter Research uses the example of China to back his argument. Both India and China are diverse markets, where different regions need different approaches towards consumers. This is where foreign retailers may struggle to offer what existing local shopkeepers can, which is the ability to customise products and services. Stores in West Bengal, Assam and Bihar may have different needs from the stores in south India and foreign giants could take up to years to understand these nuances and may find it hard to leverage their scale to source in such a selective manner.
The business picture would suggest there is room for all kinds of retailers to grow together. The Technopak report puts the revenue potential of all the international retailers in India by 2012 at $80 billion at best, 50 percent lower, when compared with an expected revenue of non-foreign Indian retail of $162 billion. “For every single sector everywhere in the world, there has been consolidation in favour of larger, fewer players over time. The conditions in India are very different and will remain conducive for small-shops to continue to grow (in absolute numbers) for several decades,” says Arvind Singhal.
Besides, there are other reasons why foreign retailers can’t just replace existing stores. One, the supermarkets need very large space, something that can only be made available outside of cities. The neighbourhood store can spring up in every street corner.
Large-format stores also do not pitch themselves for home delivery and individual consumer experiences. They base their strategy for consumers en masse and target those who need to buy in bulk. The mom-and-pop stores remain the livewire of daily needs and often deliver even just a loaf of bread due to an individual relationship with the customers. They even allow loyal customers to run a credit book, something a Walmart or Tesco is unlikely to do.
Moreover, large-format stores are no longer new to India since Birla-run More, Biyani-run Big Bazaar and others have now been here for five years. There is no reason to believe that ‘foreign’ stores of this size will sound the death knell when these homegrown giants could not. Top retailers make maximum revenues from their home markets and not from their international businesses.
At times, the pricing in hypermarkets is so attractive that even small-shop owners can buy stuff in bulk and later sell it for a margin. Because large stores source in bulk, they are able to negotiate a better rate card. Though it is probably true that small store owners will have to shore up their businesses to stave off some competition from hypermarkets. As India’s road and suburban infrastructure will mean that all Walmart-like stores will not be situated outside city limits, organised express formats will force local stores to innovate and improve service without putting them out of business.
Rajiv Kumar, Secretary General, FICCI, has widely written in support of the entry of FDI with its modern inventory management practices. “New storage and vending technologies and advanced organisational skills will go a long way in the modernisation of this sector,” he says. “With greater investment and new technologies, the sector can act as a growth driver rather than a drag.”
DOES IT HURT THE FARMER?
THERE IS fear that FDI could hurt the Indian farmer by subjugating them with complex contracts. But this isn’t necessarily a “foreign” problem. Fragmented agri tracts that produce in small quantities are the reason why farmers use mandis and middlemen to sell their produce. Politicians across states and parties have expressed the need for liberating farmers from the clutches of middlemen. Earlier this week, at the International Conference on Wholesale Markets organised by Punjab Chief Minister Parkash Singh Badal (a state opposed to FDI) emphasised the need for inter-state marketing of fruits and vegetables. He said this system provided better price to small producers by eliminating middlemen and reducing the transport cost.
FDI doesn’t promise to be a quick fix to India’s deep-rooted agricultural problems. In a country where 760 million people depend on agriculture, there are problems of credit, power, land size and other issues that the government hasn’t successfully fixed for years. Foreign retailers cannot transform this overnight; it isn’t their job to do so. State governments need to prove their own efforts rather than making the farmer the pivot loser of the FDI policy.
Global trade union group UNI claimed in a report in March that firms like Walmart are “so large that it has the power to dictate the terms of suppliers’ contracts, including turn-around time, quality, quantity and price”. It’s the role of state agriculture departments to keep the checks and balances under watch, empower farmers so they can negotiate a good price and have all ingredients in place for a better quality produce.
How is Big Bazaar okay and Walmart not? Why are states open to Indian retail giants like Bharti’s Easy Day and More, but have a problem with others?
How is Big Bazaar okay and Walmart not? Why are states open to Indian retail giants like Bharti’s Easy Day, More, but have a problem with others? Big Retail will face resistance as it will bring in quality checks and add standardisation to the supply chain. The FDI policy is prudent and carries detailed sourcing riders for foreign retailers to secure the interest of farmers and small enterprises. States have the chance now to ensure it is implemented.
Decades ago, when players like Nestle, Unilever and others entered India’s food processing and FMCG sector, they brought in technology for storage and transportation of produced goods. Today, their supply chain networks are tight and widespread. Nestle, for example, has a strong and direct relationship with milk farmers across the country. Bharti’s pilot project in Sahnewal in Ludhiana has been an example of quality sourcing. PepsiCo India has tripled its potato procurement from more than 10,000 farmers in West Bengal over the past two years.
PUTTING THE MONEY ON THE TABLE
FDI IN retail can lure global players with deep pockets in what promises to be a really long-term investment for India. Credit has been an important facilitator for retail business but given that almost all retail companies are yet to make profits after years of investments, there is a need for investors who will be here until organised retail’s growth potential is fully harnessed. The credit flow to this sector is currently low. Bankers have been handicapped by non-availability of an established protocol for measuring and evaluating risks in modern retail. NABARD, in a 2011 report, points out that reliance is more on the information provided by the promoter and, as such, they are exposed to higher levels of risks, including credit risk.
Private equity investments have been a case of once bitten, twice shy. Subhiksha, even with investments from Azim Premji and ICICI, or Vishal Retail and Lilliput, are all examples of failed retail businesses. None of these has survived the perils of prolonged investments, money spent, and probably even suffered from raw business models. There is consolidation in well-established retail companies too. Earlier this year, the Aditya Birla Group bought out Kishore Biyani’s debt-laden Pantaloon Retail. FDI will provide access to funds for any player looking for a long-term retail story.
CLUMSY GOVT BITES THE BULLET
ALL IS not ugly about the retail reform taking shape.
Although a lumpish approach and far too much flipflop
over the past 18 months has diminished India’s
importance among global investors, the new conviction in
the PM backed by the return of P Chidambaram as the finance
minister has got the UPA some accolades. Many believe the
policy paralysis might finally be over. Former Unilever president
Manvinder Singh Banga says he is all for compromise
and moving forward. “I do not believe in big bang reform;
it’s impossible in a democracy. A good example is the US
where they are finding it tough to cut a deal between two
parties, while here in India, we are managing well despite
15-odd parties at play,” he says.
India Inc too has been putting pressure for the reforms. In a joint statement written late last year, HDFC Chairman Deepak Parekh and Ashok Ganguly, a member of several corporate boards, warned that a slowing economy seems to pale in comparison to the larger crisis at hand: “…that of a Parliament that is completely unable to function in the way these sacred institutions were set up to be… Opposing investment in modern retail for the sake of it is only defending vested interests to the detriment of the vast majority.”
And so the government’s desperation to get new reforms off the ground is also reflective of the fact that India’s economy is hurting. The days of pumping iron about a 9 percent growth story are over. Now the government should be happy if it is able to deliver 6-7 percent GDP growth. The world has been smarting from the economic downturn for a few years now, and India, instead of turning itself into an attractive investment destination, whiled away the opportunity to move global money here. Not being proactive towards measures has pushed us lower in the pecking order of prime markets around the world. As CII President Adi Godrej says: “FDI in retail will not only end a long standing uncertainty in policy-making but also boost investor confidence.”
So even if it may be desperation emerging out of the shadows of scams and ambiguous tax law changes, the FDI in retail debate has clearly brought a much-needed economic policy measure centrestage. The ultimate result could offer a clear signal to investors about the direction the India story may be heading towards in the near future.