"Reforming Retail: India Allows FDI in Multi-Brand Retail"

by Sheppard Mullin Richter & Hampton LLP
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On September 14, 2012, the Indian government announced that it would relax restrictions on foreign direct investment (FDI) in multi-brand retail. India—a country that traditionally excluded foreign investment—opened its doors to global supermarkets, such as Wal-Mart and Tesco. While the decision still must clear bureaucratic hurdles, American retailers welcome the opportunity to capitalize on one of the world’s largest consumer markets. On November 27, 2012, India’s federal government indicated for the first time that it may be open to a vote in parliament on the issue.

The economic reform allows multi-brand retailers to invest up to 51% in local ventures. In order to gain access, therefore, retailers must partner with Indian entities. Nevertheless, the potential economic payoff of such a venture is substantial. Whereas once big box retailers formerly could sell indirectly only to smaller Indian outlets, they now have the opportunity to do business directly with Indian consumers. Economists estimate that the relaxed foreign investment barriers will create nearly $3 billion in market opportunity for foreign supermarkets in the next five years, and potentially $80 billion by 2021.

Certain big retailers already are availing themselves to India. Wal-Mart—which had been lobbying for such reform for over two years—will release plans for Indian expansion by the end of the year and could open its first stores within 18 months. Industry analysts expect that Wal-Mart will mimic the development it made in Mexico. Wal-Mart de Mexico, or Walmex, opened in 1997, and by 2003 was Mexico’s largest private employer. Though much of Wal-Mart’s expansion in Mexico was a result of independent factors, such as its close proximity to the U.S., analysts believe it remains a model for potential growth in India.

Multi-brand retailers in India still face several limitations. Most important is that the central government granted individual states considerable power. Each Indian state can decide whether or not to adopt the new economic policy; the cabinet’s approval was simply an enabling policy. To date, only ten states have elected to do so. Once established law, multi-brand retailers can only target cities populated by at least 1 million people. Further, foreign retailers must invest a minimum of $100 million, and at least 50 percent of the total FDI must be invested in back-end infrastructure within three years.

More generally, economists suggest that it will take several years and significant resources for retailers to solidify a footprint in India. Growth comes in small increments, as American retailers must assess regional demand and navigate cultural barriers. Other potential challenges, such as lack of real estate in the designated areas and an underreinforced infrastructure, will demand multi-brand retailers’ patience.

The decision to open FDI to foreign retailers has been met with considerable political backlash in India. Certain constituents of the governing party threatened to break their alliance while opposition parties called for nationwide strikes. India’s parliament adjourned for the fourth straight session this week as opposition members stalled proceedings, demanding a vote on FOI in multi-brand retail. The cabinet approved a similar economic plan last year, but reversed course under weight of such opposition. However, India’s economic stagnation and the steady rise in inflation of the rupee became far too great to ignore, forcing the government to follow through in overhauling its economic policies in September.

Fortunately, the domestic economic impact was immediate and positive: the Sensitive Index (Sensex) rose 443 points to a 14-month high on the day of the announcement, and the rupee went up 1.13% against the dollar. Moreover, additional bureaucratic obstacles have been avoided. The government announced that it will make amendments to the Agricultural Produce Marketing Committee (APMC) Act to enable more efficient connectivity between retailers and farmers. Also, the Reserve Bank—which had previously barred FDI—amended its rules to permit FDI in retail.

The potential for economic growth and profit in the emerging Indian market should remain alluring to major retailers. The current government’s commitment to change, highlighted by steps it has already taken to implement that change, stands firm in the face of opposition. Much of the success of the new policy, however, will rest on the individual states’ willingness to follow suit. These states will follow closely whether the entry of foreign competition will benefit the vast majority of Indians. The influx of retailers may negatively affect domestic traders, but Indian consumers should have a greater access to cheap goods, the lower middle class should attain well-paying jobs, and the local producers of goods should be able to bypass middlemen and sell directly to the retailers. Therefore, the mix of opportunity and activism make the retail reform a welcome sight on the global stage and a needed jolt to the economic policy paralysis in India.

 

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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