Tesco to go Desi

Tesco Brand

Edited by Vani Rao

Tesco starts potentially bumpy journey on the Indian Retail road

Tesco's Store
Source Shutterstock

British supermarket chain Tesco PLC has sealed a joint venture (JV) agreement with Trent Ltd, a unit of India’s conglomerate Tata Group, which will see it invest $140 million and become the first foreign supermarket to enter the country’s $500-billion retail sector. Tesco became the first global retailer to apply for multi-brand retailing after the government allowed 51% Foreign Direct Investment (FDI) in the segment in September 2012. The Foreign Investment Promotion Board had cleared Tesco’s proposal on December 30, 2013.

Under the agreement, Tesco Overseas Investments Ltd, a subsidiary of Tesco, will purchase a part of the equity shares currently held by Trent in Trent Hypermarket Ltd (THL) for about Rs.150 crore and will separately subscribe to additional THL equity shares for about Rs.700 crore, Trent said in a statement to the Bombay Stock Exchange (BSE).

Since 2008, Tesco has had a wholesale supply and franchise/technical service agreement to supply merchandise and provide technical knowhow and support to THL in India.

Tesco wants to initially focus on Karnataka and Maharashtra, where it already has 16 stores with partner THL under different banners. For back-end infrastructure also, the company might focus on these two regions. The £64.8-billion grocery and merchandise retailer has said the JV will operate in India through a chain of stores under various banners, including Star Bazaar, Star Daily, Star Market — their tag line being ‘A Tata and Tesco Enterprise’.

Opening up the Gates

The Government of India allowed 100% FDI in multi-brand retail in September 2012, but with a set of conditions that global retailers were opposed to. Major foreign players such as Wal-Mart Stores Inc. (NYSE:WMT), Tesco, and Carrefour S.A. were severely against some of the particular regulations related to mandatory investment in back-end infrastructure, compulsory 30% local procurement norms and restrictions on cities in the FDI policy.  Under pressure, the government had to relax the policy in August last year. In October, the policy suffered another setback with the US retail juggernaut Wal-Mart breaking of its six-year partnership with India’s Bharti Group.

Tesco2-26mar2014However, until now, no foreign companies have moved to enter the market, deterred by New Delhi’s complex requirements for foreign-owned stores, including a rule that such shops source at least 33% of their wares from small and medium-sized enterprises (SMEs) in India. Although both Wal-Mart and Carrefour have already established their wholesale retail businesses, France’s Auchan has a franchise agreement with an Indian company. These businesses do not require the strict norms to be followed for multi-brand retail.

Previously, it was compulsory for foreign supermarkets to source 30% of their products from small Indian firms. The government now allows foreign firms five years to reach that target, giving them the option of importing goods from overseas initially. Foreign retailers will also be allowed to set up shop in cities with a population of fewer than one million, a move that the government had previously banned.

Tesco’s entry might not open the floodgates just as yet since foreign retailers still have difficulties with the government’s sourcing norms and scouting for Indian partners. Most other global retailers in India are still looking for partners. Moreover, there are just a few global retail chains that can make the huge investment required.

Single To Multi

In a year marked by economic downturn, the estimated $500-billion retail sector in India saw growth slowing down to 10-11% last year  from high double-digit growth earlier, according to Boston Consulting Group, Asia Pacific Leader (Consumer and Retail Practice) Abheek Singhi.

Besides IKEA, the single-brand segment also saw the likes of French sports goods retailer Decathlon, fashion brand Promod, crockery maker Le Creuset, Fossil Inc. (NASDAQ:FOSL), and Hennes & Mauritz bringing in FDI worth about Rs1,470 crore. So far, IKEA’s has been the largest investment in the single-brand segment ever since the government allowed 100% FDI in this sector last year.

However, in the multi-brand segment, it was a different story. Both foreign and domestic retail firms including Wal-Mart, Carrefour, Bharti, The Aditya Birla Group, Tata Group, Reliance wanted the government to change the FDI norms. These firms wanted sourcing rules similar to that of single-brand retailers, who are allowed to “preferably” source from SMEs, and allow to put only 50% of the first tranche of their investment in back-end infrastructure.

Wal-Mart had, in fact, told the government that it could not meet the sourcing norms in the multi-brand segment that requires 33% procurement from SMEs, stating that it can procure only about 20%. Heeding to the request of foreign retailers, the government eased norms for FDI in multi-brand segment, diluting the contentious sourcing clause and allowing global multi-brand retailers to source 30% of their products from SMEs only at the time of starting their business.

The foreign chains were also given the green signal to set up stores in cities with a population of less than 10 lakh to accommodate the demands of Wal-Mart and Tesco. The investment requirement on back-end infrastructure by a foreign retailer was also kept at 50% of the first tranche of investment only. The mandatory requirement is that foreign retailers have to bring in a minimum capital of $100 million for setting up shops in India.

Growing Opposition to Foreign Retailers

Tesco’s announcement comes at a time when the world’s largest democracy is in its full electoral swing with its nine-phase general elections starting on April 7, 2014. The Bharatiya Janata Party (BJP), which has emerged the forerunner in opinion polls in a run-up the elections, has vehemently opposed the FDI in multi-brand retail. What’s more, the BJP, which draws much of its political clout from the wealthy trading community, has threatened to reverse the currently ruling Indian Congress Party’s policy of permitting FDI in supermarkets if it is voted to power in New Delhi after the parliamentary elections next year.

Other parties, too, have resisted FDI in supermarket chains based on a perception that it would hurt small traders and neighbourhood grocery stores where most Indian households shop. Analysts say that some foreign retailers are waiting until the results of the general elections are known in May 2014 before deciding on their investment, by which time the BJP is expected to take over the government mantle. As the parties jockey for the top position, the government’s plan to attract FDI into India’s retail sector has become a political football.

States of the Nation

One of the big stumbling blocks for would-be foreign investors is the stipulation that the final decision on whether or not to allow FDI should rest with individual state governments, rather than the Government of India. This has created a patchwork of pro- and anti-FDI states across India, and raised the prospect of a newly elected state government reversing the pro-FDI stance of its predecessor. The threat of such policy U-turns could prove a nightmare for foreign investors; and these fears were realized in two states in January this year.

The newly elected state governments in Delhi and Rajasthan withdrew the permission granted by their predecessors to foreign retailers looking to set up supermarket chains. As a result, only 10 of India’s 28 states currently permit FDI, and many political watchers are predicting that other states could follow Delhi and Rajasthan’s lead.

Two Steps Forward, One Step Backward

It is almost two years since the Government of India opened up the country’s vast and lucrative retail sector to foreign players. However, a stubborn sense of investment risk has limited the market’s appeal.

The fractured and changing picture – with some states allowing FDI and others opposing the same – has kept many foreign retailers at bay. Although seen as an unpopular stance by voters and the domestic retail lobby, the bright side of foreign supermarkets opening their stores in India would be accompanied by a much-needed cash injection into the economy. Moreover, with the country’s economic growth staggering, the new government may find it very hard to turn its back on such substantial investment.

However, this will be of little reassurance for foreign would-be investors, for whom India’s tempting retail market remains almost as out of reach as ever.

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