Retail 101
This article originally appeared in centreright.in. CRI content has now been subsumed in swarajyamag.com. The views expressed here are personal and do not necessarily reflect those of the editors of swarajyamag.com

Predictably enough the debate over FDI in retail (FIR) has devolved into a Right Vs. Left, Reformist Vs. Socialist, etc. dog fight.

The arguments presented are inane at best.  Devoid of facts and lacking basic understanding of how a supply chain works and how it feeds a retail network.

Lets make one more thing clear.  Opposition to FDI in Retail does not automatically suggest opposition to FDI in other sectors.

Permit me a small history lesson which would help explain how retail works and why Walmart and others will not bring the Retail utopia to India’s doorstep:

When Sam Walton started Walmart he was well into his 40s.  Having operated two very successful multi-brand retail stores he saw a great opportunity in building a brand to go up against retail behemoths like K-mart, Woolworth (now defunct) and Sears.

America’s post war infrastructure boom was giving birth to the largest, most sophisticated highway network.  Americans were leveraging this road network to move deeper into the suburbs and away from cramped city centers.

More importantly, several factors such as technology, easier availability of credit, cheap gas and a rising aspirational consumerism was giving rising to a gluttonous middle class consumer.

With the keen eye of a master merchant, Sam Walton saw these (concurrently) emerging forces and pulled the trigger

His genius lay in locating his spacious, well lit stores on the outskirts of smaller towns with easy access to federally funded Highway networks. (He started in Arkansas, a state which even today would rival some third world countries in its lack of sophistication.  Arkansas’ highways, for instance, are only slightly better than those found in parts of India.)

By locating his stores such, he was able to save on real estate cost. Moreover, a larger floor space allowed him to carry a wider variety of items, so that buyers could spend the time and gas to make one trip to his store and fulfill all their household needs – from detergent to gardening supplies.

What does a Supply Chain (SC) entail:

1.       Coordinated Multimodal transport – Road, Rail, Air, Water

2.       Cold chain (Temperature controlled trucks, refrigerated warehouses, cold storage vaults, etc.)

3.       Command and Control centers

4.       Warehouses

5.       Supply chain visibility software

6.       Trained personnel to run the systems

7.       Reliable power supply to feed this infrastructure

Few of these key drivers are available in India.  Sam Walton would not have launched Walmart if he was in India today.

To analyze FIR we must juxtapose the aforementioned fundamentals against India’s reality:

1.       Walmart will invest in infrastructure

a.       Walmart has never invested in a single highway or power plant or airport.  Not in America and not in China

b.      Walmart or any other big box retailer, will NOT invest in India’s infrastructure.  They will leverage existing infrastructure and find a way to be profitable within the shortest possible ROI horizon.

c.       Walmart’s margins are at 4%.  India’s dilapidated infrastructure will require a massive investment in infrastructure to bring it to world class SC standards

d.      Walmart will not make a profit for decades if it invests the billions needed to build such an infrastructure

e.      Instead Walmart will resort to ‘jugaad’ i.e. squeeze stores into highly dense localities further taxing India’s existing (inefficient and overburdened) distribution networks

2.       Walmart will generate jobs for farmers by improving procurement practice

a.       Over 30% of India’s agricultural produce is wasted due to lack of a cold chain and high speed highway network

b.      This shortcoming is unlikely to be solved by Walmart’s entry.  Walmart will NOT build roads or expensive power infrastructure to sustain a cold chain

c.       Refrigerated trucks are one of the most expensive elements in a supply chain

  i.      The jagged nature of power supply in most parts of India (except Gujarat) precludes use of refrigerated warehouses

   ii.      Which in turn brings into question bulk purchase of fresh vegetables, meat, fish and other produce with a very limited shelf life

 iii.      Possible solution: Source produce from farmers closer to Point of Sale (POS)

 iv.      Which in turn limits the number of farmers who could benefit from introduction of Walmart

3.       Walmart will create jobs in the retail sector

a.       Organized retail will not result in net gain of jobs

b.      Organized retail will cannibalize jobs from mom-and-pop operations

c.       Organized retail may result in net loss in jobs with small store owners having to seek employment with their stores facing almost certain closure

4.       Organized retail will reduce prices

a.       A typical retail location has the following cost drivers

i.      Rent

 ii.      Cost of goods

 iii.      Transportation

iv.      Labor

v.      Power/Utilities/overhead

b.      With the financial wherewithal to buy in bulk (as mentioned earlier this may not apply to fresh produce due to supply chain issues), organized retail will reduce procurement prices but may or may not pass on savings to consumers

 i.      i.e. Walmart will keep the difference as profit – Both Indian farmers and consumers will end up losing

 ii.      Moreover most of the goods are likely to be sourced from China

5.       In a nutshell, Chinese manufacturers will supply the goods, Indians will borrow and consume and Foreigners will keep the profits.

Alternative Strategy:

Hindsight is 20/20.  India can benefit tremendously from mistakes made by Western countries.  Instead of blindly aping America, India needs to leverage

a)      emerging technologies,

b)      new insights in urban planning and

c)       impending resource constraints to birth a new development paradigm beyond just the Retail sector.

For instance, by imposing a nationwide walk-to-work philosophy (being introduced by NaMo in the GIFT city), India can create dense urban clusters which are environmentally sustainable, reduce cost by offering higher delivery density and in general circumvent the need for big box retailers which are energy hogs and a relic of the 20th century.

India is virgin territory.  Hope our leaders recognize the opportunity this represents and offers the world a better, ecofriendly business model beyond an updated version of the East India Company.

Key Economic Drivers

Big box retail needs key economic drivers in place to run a successful operation and make a profit. 

When a big box Retail store (lets use Walmart as an example) decides to enter a market (geographically speaking) it has to consider several factors:

1.       Market size

 2.       Economies of scale

 3.       Marketing costs

 4.       Supply chain infrastructure

 5.       Delivery density

 6.       Reliable sourcing

 7.       Market sophistication

Lacking the infrastructure, these drivers do not come into play.  Having a large consumer class alone is not enough.

1.       Market size

 a.       A large market helps achieve economies of scale, which in turn allow bulk buying, lowering purchase price on goods

 2.       Delivery Density

 a.       In addition to market size, big box (multi brand) retailers need delivery density

  i.      A large group of buyers concentrated in a manageable geographical area

  ii.      This density further lowers cost by not only lowering delivery cost but also Marketing cost

 3.       Marketing cost

 a.       Even small-foot print retailers cannot expand randomly

 b.      For instance, smaller fast food chains like Hardees and Backyard Burgers have a regional foot print concentrated in the south and south east.  (Neither of these chains can suddenly start opening locations in California.  The logistics of supplying these stores and marketing within an isolated area would make the operation cost prohibitive.)

 c.       For example: If a retail chain (like IKEA) places one store in Atlanta and one in Houston the cost of radio marketing would be wasted.

   i.      Instead if two stores are built at two ends of Atlanta, the saturation strategy allows for much lower marketing costs per dollar of revenue

 4.       Economies of scale

 a.       Most big box retailers have very thin margins (Grocery stores for instance make less than 4%)

 b.      Economies of scale become an imperative to maintain these margins

 c.       Though India’s market provides enough consumers, sourcing on a large scale is severely constrained due to a lack of modern supply chain infrastructure

 5.       Supply chain infrastructure

 a.       A reliable source of branded products are key to any modern day retail store

 b.      These products cannot be sourced reliably without a strong and predictable supply chain

 c.       An unpredictable supply chain raises cost

  i.      In case of fresh produce an unpredictable supply chain has a direct impact on the bottomline

 Even a cursory analysis of Indian markets reveals that we’re nowhere near the sophistication needed to absorb traditional big box retailers.

Instead what is likely to happen is this:

1.       Increase in prices for commercial real estate

 2.       Growth of smaller locations owned and operated by international players which will compete directly with kirana stores

 3.       Destroy Kirana stores with no net addition to the job market or lowering costs to the consumer

 So how will a Walmart play the Indian market:

 1.       Place stores in dense localities right next to traditional stores

 a.       Which destroys these stores and takes away their biggest USP – convenience

 2.       Use deep pockets to make ‘Loss leaders’ as the core strategy to put local merchants out of business

 3.       Make the minimal investment in much needed infrastructure

India should instead, invite major infrastructure players such as Schlumberger, Caterpillar, etc. to help build infrastructure and introduce modern manufacturing and farming practices to the Indian economy.

This is already happening in Gujarat.  Perhaps Gujarat stands on the cusp of creating its own desi Walmarts. 

Move over Sam Walton, Satish Patel is here.