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Apr, 01 2007

Franchising looks up

The Govt's initiation on FDI in the retail sector

The government’s decision to allow up to 51 per cent foreign direct investment (FDI) in single brand retail stores in the initial phase is an initiation towards the total opening of the retailing sector to foreign investors, and a step towards the compounding growth of the organised retail sector.

The government has already said that there would be no restriction on the number of stores that each player could open in India. This means that multi brands will be able to bring in all their brands and set up as many stores, provided each brand is launched under a separate company.

The govt has also announced 100 per cent FDI in the automatic route for processing and warehousing of coffee. This paves the way for the entry of Starbucks and other top players into the coffee café segment.

Also in the process is the permitting of FDI in food retailing, like dairy, marine, poultry, fruits and vegetables. India requires to enhance its share in the global market in this sector. This would involve massive investments in food processing and agri-business, backed by an efficient supply chain that would include cold storage, packaging and transportation. The FDI on food retaining has already been okayed by the empowered group of ministers on food processing. This suggests allowing foreign investments in retailing, granting status to the food processing sector, accessing priority sector lending and reforming the existing taxation laws.

Once such a system is in place global retail chains would enter the country and provide efficient and cost effective services to the consumers. An initiation in this direction was made by Nanz, the US-based Marsh supermarket and Nanz AG of Germany. The experiment failed after eight years of its presence in the country due to the absence of an efficient supply chain since Nanz was outsourcing its packaging, and promotion of their own brands of food products.

Though high risk is involved in the retail sector considering that it is likely to affect the independent small retail formats, the permitting of 51 per cent would not lead to a sudden and larger inflow of foreign investment. The reason is understandable. Companies that were interested in investing in India are already here through the franchising route.

The major change that this new reform package would bring about is the freedom to foreign companies to come on their own through a joint venture with an Indian company and hold control with 51 per cent investment as against 49 to their Indian partner. Though the government is hopeful of the creation of one lakh more jobs in the retailing sector it is yet to be seen how the foreign investors would take to the new development. In all probability, companies may not rush in as those interested are already here through franchising.

To throw open the retailing sector completely would mean the creation of a reliable supply chain which would source its products from Indian companies and farmers at a reasonable price. This would not only benefit the farmers and the producers but also the end consumers, including the mom and pop stores which would be able to purchase directly from these chains, bypassing the wholesalers and distributers. A ready international example of this sort of system is the Walmart chain of stores that has developed an effective supply base at a minimum sale price.

What also needs to be kept in mind is the fact that the retail sector is already in the process of organising itself with or without the assistance of foreign investment or suppliers. According to figures available, the organised retailing sector has jumped from 1 per cent in 1999 to 3 per cent today with projection for 8 per cent by the end of the decade.

Quite recently even large industrial houses have approved of the franchising route to expansion using the model as an organised format for growth. With the announcement of Reliance Industries ready to pour in over Rs 3,000 crore the retailing sector is certainly in for a transformation.

The argument that the opening of FDI in the retail sector would threaten the mom and pop shops carries little weight as these shops are at little risk in terms of survival since they will continue to operate in small towns and specific neighbourhoods where the reach of the large chains would be limited. Also, these shops can source their goods from large chains as well since the products would be available at a much lesser price than what they would get from the distribution chain.

Large international retail chains would be sourcing their products directly from the manufacturers and farmers providing them the best price, and eliminating the middlemen, and bringing along with them the best practices in organised retailing to the country.

Whether foreign companies enter India through direct investment or the master franchising route, the opening of the FDI sector will not in any way affect the development of franchising in the country. The franchising concept translates into a way of expanding a business which has already established itself. An international franchisor seeking to enter the Indian market without wanting to make a large monetary investment, will still have the master franchising route to opt for.

Whereas opening of FDI in retail will allow global companies to invest directly into the country’s businesses, franchising already allows the franchisor to enter the country by appointing a master franchisee who is well-versed with the local market and who invests in the business. The only investment an international franchisor would have to make, in such a case, is the support to the set up. While investment through 51 per cent FDI is not totally risk-free for the international company, the franchising route does offer security in terms of investment, stability and profit generation.

Since MNCs will be able to set up as many stores, but under one brand under the new regulation, the opportunity for expansion of these companies in the country through franchising increases, ultimately benefiting the Indian investor.

Already foreign majors are in the process of setting up their frontline companies in India. Starbucks Coffee Company, the American coffee retailing giant and a major global player, is in the process of tying up with an Indian partner. Once the company is in the country, the next step would be expansion, which, in all probabilities would be through franchising.

A point to be noted here is that a majority of international companies prefer to enter a country through the master franchising route simply because it is a 95 per cent risk-free method of business growth.

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