Investing in early stage retail is not as easy as it seems

India is a nation of shopkeepers. In a growing consumption led economy, it would seem very logical for a venture capital fund to look at investing in the retail sector. I hear a lot of VCs talk about how they would like to invest in businesses that are consumer focused and retail in particular. There are many good entrepreneurs selling services and products via retail in India and it is very tempting to believe that if they could only replicate thier initial success across a few stores nationwide, a large enterprise can be created. I believe there are several challenges in the sector, especially in India, that raises questions on whether extraordinary returns are possible in a 5-7 year timeframe for a Venture Capital investor.

Some of the salient challenges for a VC are :

1. Capital Intensity - Rentals in tier 1 towns in the best locations are still relatively expensive compared to most parts of the world. Annual rental deposits, inventory, marketing are all costs that can multiply as you scale. The company may need to raise working capital debt which further burdens the companies cash flows.

3. Lack of Brand Loyalty - The Indian consumer is very value oriented. He or she will shop where there is better value. Brand loyalty is limited.

4. Heterogenous Markets - India is a conglomeration of states with different laws, languages, cultures. To be able to scale across states requires local market knowledge and relationships which can take time to build. There are many cases where a product or service has been successful in one city but it has taken years to crack another location within the country.

5. Inefficient Labor - While labor maybe cost effective, there can be a challenge in finding productive, honest pool of self starters (executives and managers) that can help the company scale across the country.

While I am sure that there could be some unique opportunites that could counter the challenges above, one needs to be cautious about investing in early stage retail ventures if you are expecting rapid growth in a relatively shorter time frame (5-7 years). If an investor has a longer time horizon ( 8-10 years at least), then it may be more attractive.