Retail FDI: A Tough Road In The Medium-Term

The much-awaited news on retail FDI has finally come in and while it has led to some cheering among investors, it has also led to a larger amount of uncertainty, conflicts and complexities among other parties. On Friday, September 14, 2012, the government allowed foreign companies to invest 51 per cent in multi-brand retail provided:

• Such stores are planned to operate in cities with a population of over 1 million.
• The minimum investment amounts to USD 100 million.
• Of the investment, 50 per cent is utilised in setting up back-end operations within a period of three years of the commencement of the overall investment.
• Companies adhere to 30 per cent of their sourcing from small and medium enterprises.

Though the government has passed this regulation, it has left it for the state governments to decide whether they should allow such stores to operate in their states after much opposition from several states. So even if Pantaloons, Provogue, Trent and the like may see tremendous capital appreciation in the near term, a clear picture on how their existence pans out will only be defined in the medium term, based on the steps they take to tackle execution-related complications.

The Investment Scenario

In accordance with the guidelines for foreign direct investment (FDI) in retail, foreign investors will have to seek no objection certificates (NOCs) from individual states if they wish to operate within the boundaries of the respective state. The NOC would have to be obtained by these investors before they approach the Foreign Investment Promotion Board (FIPB), the nodal body for the clearance of foreign investments. When these proposals are being considered by the FIPB, the board may even invite representatives from the respective state to attend the meeting. Furthermore, in the case of a change in decision by a state that had earlier denied permission and/or the company’s willingness to invest there, the company will have to furnish a fresh NOC from the state.

The aforementioned flow of investment decision making has been a result of large amounts of political noise surrounding this issue. Clamorous statements and vehement criticism has been making its way since the wee hours of the idea being considered for implementation. Not considering the various little crumbs of this opposition to avoid a rather political outlook towards the subject, the situation now stands at only nine states and two union territories agreeing to allow foreign investments in retail.

The Road Ahead

Top retailers in India include Bharti Retail, Future Group, Spencer’s Retail, Reliance, Shoppers Stop, Videocon’s Next Retail and the Gitanjali Group, among others. The changing political scenario creates a lot of uncertainty amidst which retailers would have to sit back and formulate a state-specific strategy that would enable them to take advantage of this allowed investment. Retailers would have to look at restructuring their operations to go in sync with pro-retail FDI states. The final notification giving detailed guidelines is expected to take a month and retailers would have to invariably wait for it before taking any steps towards alliances.

According to media reports, Videocon has decided to split operations in two, with one company to operate in FDI-friendly states with a foreign collaboration and the other for other states. While splitting operations in accordance to states remains as an option, the other way to look at it is splitting it horizontally into front-end and back-end, wherein foreign investment can be brought about in the hassle-free and relatively sturdy back-end.

While problems with restructuring and state-wise differentials exist, luxury brands have been finding it difficult in going in terms with the fact that 30 per cent of the sourcing has to be done locally. Since this sourcing has to be done from SMEs/village and cottage industries, artisans and craftsmen, with the company’s total investment in plant and machinery not exceeding USD 1 million, luxury brands are looking at some easing on who the goods can be sourced from so that it’s lesser of an entry barrier for them to enter. The government did consider and work on the problem of how luxury brands worldwide have distinct brand-owning entities and investors but that doesn’t solve the problem they face in entirety.

The political scenario will pose a big challenge for companies to deal with in terms of restructuring and managing operations but overall, this move definitely provides retailers with a large window of opportunity. The prospective development in the sector is clearly a boon but the path towards it would have to be tactfully dealt with.

Returns For 17 September 2012