January 2, 2016

A shift in retail

I recently tweeted the following


The current assumption is that the local corner retailer (kirana) which has survived the large retail chains will continue to do well inspite of the online threat. Let’s look at some of the arguments made to support this thesis
Convenience
It is undeniable that the local kirana store offers a lot of convenience and personalized service. My own mother continues to buy grocery from the local guy and he is able to provide personalized service and home delivery at the same price. What can really beat that?

My point – is this a real differentiator for all products? The current mobile carrying generation may really not care as much about it. Now it’s true that rice, oil and other staples will still be bought from the local kirana store, but what about the higher value items – both FMCG and otherwise ?
Will the consumer not use a blend of these two options? Buy the bulky staple from the local guy as it cheaper to do so, but buy the higher value (read higher margin) items online where the price could be lower and selection larger.

What happens to the profitability of the local store which uses the staples as a loss leader to drive sales for the other products?
Credit
That’s true for a large portion of the poor/ unbanked population. But is that also true for the middle class? What happens when newer forms of banking and credit options start proliferating? Does the local kirana store still have an edge?

Personalized relationship
This is a difference no online retailer can meet ..right? Welcome to the world of data analytics. Look at Netflix and Amazon who are now able to look at your purchases and make recommendations. With the improvement in data analytics, mobile and AI, this will only get better

Trend in other markets
There is a consistent trend in several markets towards the following

- Big box stores such as Costco/ Walmart etc which sell high volume staples at very competitive prices which no online retailer can beat (yet)
- Convenience stores such as 711 which are able to provide quick convenience at a much higher price/ margin. These stores usually cater to impulse buying (snacks, coffee etc) and also stock a small assortment of staples for emergency purchases (milk, eggs etc)
- Ongoing pressure on brick and mortar stores to match the pricing of their online counterparts

The retailer’s point of view
Till now we are talking of the landscape from the customer’s point of view. If you turn this around and look at it from the retailers’ point of view, the situation can appear quite bleak.

What happens to the profitability of the physical retailer if the high value/ high margin items continue to migrate online and all that remains are the bulk and low margin items which are more efficiently served by the high volume/ low margins chain stores such as D-mart ?

The retailer still has all the overheads for inventory, real estate and labor costs which are rising, whereas the margins keep shrinking. The end result is a drop in the return on capital. What does this do to the small time and marginal store?
I have tried to raise highlight some of the points one needs to think about when trying to answer this question. I don’t think that the small store/ kirana will disappear completely, but it is quite likely that they will keep shrinking and their share of the economic pie is surely to go down.

In addition this trend will not remain limited to the local grocery stores. One can extend the same logic to any other goods which has some level of standardization and does not require a high level of touch and feel.
The above speculation is based on the current level of technology. Now combine that with ongoing developments in Artificial intelligence/ Machine learning, advances in drone tech to reduce delivery costs and finally 3D manufacturing.

Does it still mean that retail as we know now, will remain the same?
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Stocks discussed in this post are for educational purpose only and not recommendations to buy or sell. Please contact a certified investment adviser for your investment decisions. Please read disclaimer towards the end of blog.

6 comments:

CHILUKURI K R L RAO said...

May be the followign paragraph needs a closer scrutiny

"The retailer still has all the overheads for inventory, real estate and labor costs which are rising, whereas the margins keep shrinking. The end result is a drop in the return on capital. What does this do to the small time and marginal store?"

Regarding inventory - Companies may be placing the stock on the shelves of these small time retailers and collecting money latter. Challengers in the retail space may be more than willing to do this to get brand recognition.

Real Estate - Most of the local retail shops exist from years together and in all probability real estate is owned and hence may not cost anything in rents.

Labor Costs - People working in the small stores are mostly from the family itself (especially in semi urban and rural areas) and hence labor cost may not impact much

Rohit Chauhan said...

I disagree. you are talking of accounting versus economic costs. real estate even if owned is not free. there is an economic cost for it. same goes for labor no matter how small. in case of inventory, there is a limit on how much a company would fund the working capital. look at the accounts for any FMCG company ...they operate a very low recievables.

and unknown brands may provide working capital, but if they don't pull the consumer, then the retailer cannot sell the staples. a retailer will often stock HUL products and earn almost nothing on it to sell the staples and other high margin products.

so all the factors involved in operating a store, has a cost and any rational owner over time will look at the cost benefit.

look at farming as an example. over time, framers have sold out land when they got a good price when a city expanded. inspite of all the sentiments involved, economics over time and on average wins

rgds
rohit

Anonymous said...

The Amazon,OLA,and flipcarts of the world will sooner than later take out the kirana,local taxi operator,and electronic store....the new tech will edge out a large nos of indians out of their economic life....the repurcussion will be that everybody goes out for a job and will work for the same masters of Wall street........it will be good to see if the top politicians launch a App and take out local corporators...wishful thinking...ha.ha.ha.

regards
Anurag

seshu said...

Dear Rohit,

The point on retailer has all the costs whereas the overall business and margins are shrinking is more applicable to the brick and mortar retail chains - called as organised trade in the industry as compared to kirana stores. The chain stores cannot reduce their overheads overnight and stay healthy. With the result, they will be the first casualty in the online vs brick and mortar economics. There is a third kind of retailers who have been growing irrespective of growth in online retail which are called Fast fashion retailers eg : Zara , H&M , primark etc. They have part of the economics of an online retailer while they have physical stores.

Long retail said...

I do not go to small Kirana stores. If i buy a cold drink they charge 1 Rs extra. I avoid them. I go to the K mart or local 7/11. I prefer the local Sahakari Bhandar. They accept sodexo and i get some nice discounts.

But Kirana stores in many areas of the country thrive and they are doing business as usual.

Piyush said...

Hi Rohit,
Whats your view on the current market turmoil. Does it resemble like Jan/March 2008 drop of market.

With the drop in market price, is the value emerging in the market ? Or time is yet to come.

Appreciate your view on market. One more practical question, if you have 50L in cash and want to invest today in market, what will you do :-)