Comment

The retail industry in India is in a corrective phase. Less than a year ago, the industry was riding an expansion wave fuelled by buoyant economic forecast and the availability of liquidity. Today, the operational environment has changed and is posing challenges for retailers, especially in the apparel space, to preserve the balance between availability and visibility of brands with profitability and growth.

Most retailers have initiated activities such as store closures, rental renegotiations and strategic cost management to maintain and improve overall profitability. While such initiatives are likely to help, for apparel retailing in particular, apart from these activities, key strategic initiatives such as optimising the retail business model will be effective in controlling costs, enhancing visibility and availability.

Licensing, franchising, joint ventures (JVs) and owned operations are four basic retail business models. Two key variables that influence the interplay between the brand owner and the operator/partner are ‘who controls the value chain (and to what extent)’ and how much investment and financial risk is committed in the value chain’. While the retail model approach ensures brand visibility, the selection of an appropriate model is of importance to prevent brand erosion.

There are a number of factors, both external and internal, that influence the selection of a retail model. One such external factor is the cost associated with expansion. Brands that require high reach appreciate the importance of sound real estate.

While the slowdown has triggered rental cost reduction, the lack of quality real estate supply, either at a mall or a prominent high street, can influence expansion. A few brand owners in India have attempted to address this concern in the past by entering into strategic JVs with real estate owners and operators.

Another key factor impacting the choice of retail models is regulations. Foreign direct investment (FDI) restrictions are applicable to single and multiple-brand owners, especially international brands. International brands who entered before the 2006 FDI reforms, capitalised on the FDI relaxation and converted their franchising or licensing agreements into JVs. To cite an example, LVMH obtained approval from the Foreign Investment Promotion Board for buying a 51% equity stake in its Indian distributors, LV
Trading and Fun Fashions India, for the Louis Vuitton and Fendi brands.

The brand positioning adopted influences internal factors such as desired scale, extent of return and brand image. Positioning determines the personality of the brand and the segment it appeals to. In case of a value/ semi-premium brand, the use of third-party retail models such as franchising rises as the brand matures. However, for premium brands, throughout the lifecycle, high level of control is exercised with minimal use of third parties.

There is a great deal of dependence on third party models to meet the desired scale and speed for the retail footprint of value/ semi-premium brands. Limited scale for premium brands favours the use of owned or control models. Value/ semi-premium brands adopt a combination of third-party models such as single/ multiple franchisees, area developers or regional franchisees. In case of premium brands, the number and use of such third-party models is very limited.

In India, we see the emergence of the multiple franchisee model that value/ semi-premium brands are moving towards. This enables greater scale, limits dependence on a few players and gives the ability to leverage market knowledge. To date, franchisees have been regarded as third-party vendors.

However, now franchisees are being inducted to an organisation, with a share in the benefits and risks associated with the brand performance through the partnership model. The franchisee’s interest and motivation is expected to enhance the operational performance of the brand.

For international brands planning on entering the Indian market, JVs appear to be an optimal business model. JVs enable them to leverage on the local partner’s knowledge and obtain control over product quality, pricing and brand management. The local player can utilise captive capacity and share the investment and financial risks with the international partner.

Along with traditional pure-play franchisees, a new set of players are emerging. While these players may not have direct experience in retailing, they are eager to manage and operate the retail business model and can access a funding base to manage the same.

Brands can utilise the retail model optimisation solution to address stagnant profitability and rising costs. Based on careful product evaluation, desired geographical presence, and most importantly, the investment appetite and risk payoff, brand owners can collaborate with partners who bring strengths to the relationship and enhance brand value to drive profitability and revenue growth.

The writer is manager, retail & consumer products practice, Ernst & Young. Views are personal.