The Hindu Business Line : Wholesale gains from FDI in retailing

THE retail boom in China and some of the South-East Asian economies throws up some startling similarities and some stark differences and, of course, a few lessons for India.

A decade ago, China was a different story — very little organised retail, virtually no malls and a not-too-significant middle-class, with the average Chinese not exposed to foreign brands. Today, China's retail industry is worth upwards of $580 billion with more than 14 global mega retailers setting up shop in the last ten years.

According to Euromonitor, retail sales in China, which was nearly $554 billion in 2003, will continue to grow rapidly to $900 billion by 2009.

In India, retail sales reached an estimated $285 billion in 2003 and are estimated to grow in excess of 8 per cent over the rest of this decade.

Modern retail chains in the country, most of which sprang up in the past five years, account for just 2 per cent of retail sales, compared with 55 per cent in Malaysia, 40 per cent in Thailand and 10 per cent in China.

Pricing is key

Differences between urban and rural consumers are significant in both China and India.

Most foreign entrants wrongly assume that anything Western will sell. The initial fascination for Western brands wears off once the discerning consumer finds local products of the same quality at affordable prices.

Getting the price right is essential. Initial trials, despite high prices, are a common phenomenon.

However, the average consumer is extremely value conscious and seldom accepts dollar-denominated prices, which are often the benchmarks set by global entrants.

For instance, a well-known Scandinavian furniture retailer in China priced a table at RMB 299 and ended up selling a mere 300 pieces a month. But when the product was repriced to RMB 69, the pieces sold jumped to 10,000.

The company stated that, thanks to the new pricing, it had not experienced such volumes before. Accurate pricing matters as much in China as in India — getting it right depends on a thorough knowledge of the market.

Markets within a market

India, with its distinctive regions, and diverse religions, languages and cultures, is as diverse as many sub-markets within a market and, hence, is akin to an agglomeration of small markets such as Thailand, Korea, Malaysia, Taiwan, and so on.

Retail formats that have worked in South India have not received the same response in the other regions. It has been no different in China.

The acceptance of Westernisation in East China is much more than in the Central and Western parts. Hence, aggregate comparisons for China and India vis-à-vis their smaller regional neighbours may be unfair. Regional analysis for China and India may throw up a very different picture. For example, growth in Eastern China may well be comparable to that in Thailand, the Philippines or even Indonesia.

In China, the consumer market is growing fastest in cities with population ranging from half to three million. Companies that focus on the large, high-profile coastal cities seem to be missing out, just as those in India that are focussing on the principal urban centres.

Foreign retailers entering India and China are faced with not single but multiple cultures, resulting in a never-before-kind of cultural stretch. The potential implications for such retailers are many:

Retailers should actively consider the degree of cultural stretch they will potentially face in countries such as China and India.

Companies should take serious account of the risks inherent in extending such cultural spread when making entry decisions into new markets.

Retailers should assess the adequacy of their recruitment, training and management policies in dealing with cultural differences.

Retailers entering Latin America, for instance, may have faced fewer regulatory hurdles but the most challenging time dealing with cultural expectations vis-à-vis their own corporate cultures.

Not understanding local consumers, different labour laws and work ethics, unfamiliar local competition and their style of operations are some of the key challenges a retailer entering a new market faces.

Why joint venture?

Till recently, joint ventures were a necessity to enter China's retail sector. Such a policy is likely to be announced in India, too, though more than a decade later. While a tie-up with a local partner would mean sharing proprietary operating techniques and having to share returns, it also serves as one of the key risk-mitigation strategies as far as understanding the local environment, consumers, regulations, and so on, is concerned.

China's run-up

Foreign players have been entering China ever since the sector was first opened up to foreign investment in 1992.

Unfortunately, Chinese consumers then lacked the spending power to support such ventures, and retailers such as Parkson of Malaysia, which opened its first store in the capital, Beijing, in 1994, were forced to move downmarket — from high-end goods to more affordable household wares. This switch of strategy lifted Parkson's fortunes, and the firm has since expanded into Shanghai, Wuhan, Chongqing and Chengdu.

Since then, better-known foreign players have entered the Chinese market.

The largest foreign player and fifth-largest retailer in China is Carrefour, which in August 2004 opened its 51st mainland outlet. Wal-Mart now has over 40 stores in 17 Chinese cities (including 30 supermarkets, three Sam's Clubs and two community stores), and has started building a second store in Beijing.

By end-2003 Germany's Metro had 20 stores spread across China. Makro Commercial of the Netherlands has focussed in north China, with outlets in Beijing, Tianjin and the capital of Hebei province, Shijiazhuang.

In July 2004, Tesco, the largest UK-based retail chain, acquired a 50 per cent stake in the 25-store Hymall chain from its Taiwanese owners.

China opened up its retail sector completely in December 2004. Under the new regulations, overseas entities are now allowed to set up a Foreign Invested Commercial Enterprise (FICE) which may act as a commission agent, wholesaler, retailer or engage in franchising activities on a wholly-owned basis in China.

Existing Foreign Invested Enterprises (FIEs), such as manufacturing and service units, can also apply to expand their scope to include these activities. Since this announcement, over 120 retailers and 50 wholesale FICEs have been granted approval. The average timeframe for such approvals is 2-4 months, with retail approvals typically taking longer than wholesale. However, there are still problems at the central and the state levels that need to sorted out.

India mulling

India has been under pressure from other countries to liberalise its retail trade during negotiations under the General Agreement on Trade in Services (GATS). Over the last year, various formats have been discussed and debated. However, unlike China, India has not accepted the request for opening up the sector in its offers for negotiations on services, submitted to the WTO in December 2004. However, the review process has started with the Planning Commission recently submitting a strong case for permitting FDI in retail.

Potential impact

Domestic industry generally perceive opening up of the economy to FDI as a threat. But often small, local players find new opportunities, and the larger ones get bigger and stronger.

For instance, FDI in telecom did hit urban STD booth operators, but most of them have now been converted to kiosks selling mobile connections and SIM cards.

The multinational fast-food chains have not displaced the roadside dhaba. Foreign apparel brands have not put Mumbai's Linking Road or New Delhi's South Extension garment stores out of business.

Small traders, with their acute business sense and inherent survival instinct, will reinvent themselves and metamorphose into more efficient businesses or find new hitherto untapped niches for themselves.

Other than employment creation, better wages, wastage reduction, disintermediation, and so on, foreign retailers will provide small businesses and franchises opportunities like never before. Malls will offer a larger variety of retailers, rather than the same clutch of tenants seen today.

Having recognised the importance and economic benefits of organised retail, the industry biggies are going all out to make mark in the sector. The Tatas, the Reliances and the ITCs, to name a few, can threaten small traders as much as a global retailer.

The need for FDI in sectors such as infrastructure, real estate, telecom and manufacturing are well-recognised. The retail sector is one of the largest and requires massive investments as well. Retail straddles a value chain encompassing virtually the entire population.

Consumers will be the biggest beneficiaries of streamlined low-cost large-scale operations, which will bring down product costs — the telecom revolution is a case in point.

New brands, technologies, concepts, players and investments bring with them an intangible aspect of growth and progress — aspiration. This is the biggest fillip to growth. As we aspire for more, the more progress we make.

(The authors are Executive Director and Associate Director, respectively, KPMG.)

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