The following article “India's the most attractive retail market” appeared in a recent edition of the Economic Times. It provides an interesting overview on the next biggest investment opportunity in India.

With the likes of Wal-Mart, Tesco and Carrefour making a beeline to enter India, Brand Equity speaks to AT Kearney’s global head of retail practice Josh Chernoff and vice-president, Pavan Gandhok on what could possibly be their impact on the market.

So why is India suddenly on the radar screen of most global retailers?

India is among the five most attractive markets for retailers. India’s GDP is expected to post a CAGR of 3.7% between 2000 and 2015. India has favourable demographics and these factors provide a favourable backdrop for the retailers.

The retail industry is growing at 10% over the past five years, and we believe that organised retail in India can reach 8-10% of the total retail pie by 2008. From a FDI perspective, the retail regulations have indeed been eased, and for international retailers the answer to the question of when to enter is clear: the time is now.

So which are the most exciting areas for global retailers?

Food represents the largest opportunity, and comprises 45% of the consumer spend. Supermarkets are the most important format, but hypermarkets are expected to dominate soon. Only 11% of the apparel market is sold through modern retail outlets, but changes are brewing.

For example, chain stores are growing at an incredible 22% and are expected to overtake the other store formats in sales in the near future. The branded apparel market represents the largest source of growth. The men’s branded apparel market is growing at a rate of 21.8% and branded women’s apparel segment represents 35% of the total branded apparel market and is growing at an incredible 23% annually.

And who will be the first ones to enter the country?

Wal-Mart, Carrefour, Tesco and Casino have been eagerly pacing the sidelines and will be quick to enter. They are actively seeking local partners. Foreign retailers operating via franchises like Marks & Spencer and Benetton will most likely switch to a hybrid model.

Are the domestic retailers going to get wiped off?

It would be remiss to not consider the domestic retailer reaction to such ambitious growth plans. Leading domestic retailers are becoming more firmly entrenched, increasing their scale of operations and stabilising their logistics and technology initiatives. Local retailers will not quietly relinquish market share. Also India’s current landscape is crowded with over 12 mn mom-and-pop stores, which together comprise the majority of the retail industry. This group is not likely to remain quiet as it sees its business erode.

But what advantages do domestic retailers have?

In order of importance: Knowledge of domestic retail market and supply market, low overhead costs, support from local community and understanding of domestic politics and economics. India is not a homogeneous market, and domestic businesses will have a better understanding of what will work, and in which areas. And in India local market knowledge will differentiate the winners from the losers.

Also, two out of three retailers fail to meet their initial financial targets when they enter developing countries. Increasingly, local competition is becoming a key threat as they consolidate or create alliances: the Bailan group in China; Comercial Mexicana alliance in Mexico; the Six Sevens and 7th Continent alliance in Russia.

How important is it for Wal-Mart and Tesco to expand?

In short: Very important. Saturated home markets, fierce competition and restrictive legislation in western markets have relentlessly pushed major western food retailers into globalisation mode focusing increasingly on emerging markets. Going into emerging markets is an essential element of top retailers’ growth strategies.

Today, the top five global retailers (in revenue) have on average 33% of their revenues outside their home markets compared to 15% of the next 10 retailers. But, the rules of the game among global players are indeed changing: Carrefour is withdrawing from several markets, but Tesco is becoming the ‘new Carrefour’, now the fastest growing retailer outside its home market.

Wal-Mart is also expanding aggressively. The most attractive region to explore remains Eastern Europe with markets like Russia and Ukraine. India and China remain the key markets to address. Then there is South America and Mediterranean. Africa’s attractiveness remains limited.

And what are the challenges global retailers are going to face in India?

Infrastructure is inadequate — for example 40% of perishables grown in India rot while being transported due to a lack of refrigerated distribution networks. But large retailers recognise the importance of creating a market for itself. In China, the infrastructure or the distribution network was poor relative to the US or Europe, and yet once they came in they created their own private distribution network and invested in developing the infrastructure.

On entry of global retailers what’s going to be the impact on the domestic market?

The impact is usually significant in terms of supply-chain management and technology. For example, in addition to its economies of scale and strong logistics capabilities, Wal-Mart exploits and adapts its knowledge of technology, procurement as it expands in new territories. Supply chain costs for a Wal-Mart or Tesco is typically around 10% of the turnover.

The initial investment is huge and is in areas like developing transportation systems, warehousing, information systems and they often work with local partners so that they can share the asset or cost. The capital investment is around 2% of the turnover, and in the grand scheme of things, for a $300 bn Wal-Mart that is adding 50 mn sq ft of retail space this year, the cost of adding 2/3 new distribution centers in an emerging economy is minuscule.

Though local retailers generally enjoy higher margins, they won’t be able to keep global retailers at bay for long. International companies have the experience, buying power, IT systems and cash flow to tolerate lower profits in the first few years of market entry.

Apparently, globally format lifecycles are getting shorter. What about it?

Format life cycle is getting shorter and successful retailers are thus entering with several formats. For example, successful global retailers often enter with one of the following combinations: hypermarket and discount; hypermarket and supermarket; or supermarket and discount.

The mix varies by retailer and region. International retailers Carrefour and Tesco favour a hypermarket and supermarket mix in Eastern Europe. In Asia, Carrefour primarily mixes hypermarkets and discount stores. In Latin America, Carrefour and Casino both sell through hypermarkets, supermarkets and discount stores. Hedging your bets with dual formats isn’t enough to limit risk; changing circumstances may mandate the consideration of additional formats. The key, therefore, is in timing the switch from one format to another.

What are the prospects for hard-discounters — India seems to have plenty of them?

Hard discounters clearly have a promising future. In China, price is a main factor in purchase decisions and discount stores are poised to take the lead. In Korea, Malaysia and Thailand hard-discounters are poised to take a lead. In Eastern Europe, hard-discounters are the only retailers posting positive growth in like-for-like sales. The low cost per square metre also seems to predispose discounters to success in these markets.

How have you seen Indian retail industry developing through your own eyes?

I have been coming to India almost every year now and for me the biggest change has been the kind of interaction between customers and brands. There is much more awareness and availability of global brands in India. Last December I noticed a large number of Dollar Stores in Delhi. Dollar Stores are among the fastest growing formats in US, and in India the concept is a bit different, but what was interesting is the experimentation with formats. A lot of experimentation is going on and my guess is that only one-third of them will be successful, but the remaining two-thirds will provide a learning platform and stimulate growth.