UPDATE 1-Tesco plans cautious India entry after arm-twisting by politicians

Thu Dec 19, 2013 8:23am EST

* Tesco's immediate growth plans not very aggressive

* Sourcing regulation keeps initial investment low-key

* Government applied 'phenomenal pressure'-Tesco source

By Nandita Bose

MUMBAI, Dec 19 (Reuters) - It took months of arm-twisting and assurances from New Delhi to persuade British retailer Tesco Plc to take the plunge and become the first foreign player to set up a chain of supermarkets in India.

Earlier this year, world No.1, Wal-Mart Stores Inc, walked away from India and few expected any of its rivals to step in before elections due by next May, which could bring to power a government that reverses the opening up of a $500 billion market long dominated by millions of mom-and-pop shops.

But on Tuesday, Tesco announced that it had applied to buy a 50 percent stake in Tata Group's Trent Hypermarket Ltd to open stores in the western state of Maharashtra and neighbouring Karnataka,

The decision marked a victory for the ruling Congress party in securing its first foreign investment victory after staking its political survival on reforming the supermarket sector.

"We were under phenomenal pressure from the Indian government to apply and frankly phenomenal pressure is an understatement," said a senior Tesco official, who spoke on condition of anonymity. "The pressure was intense on a government-to-government level."

A Tesco spokesperson did not comment on the reasons behind the company's decision to enter India now.

"We've always said we'd like to get more involved in this exciting market and having learnt a great deal through our agreement with Tata, we have taken the decision to make an application to develop a multi-brand retail business in India."

Tesco is in the middle of a big investment drive to reinvigorate its sales in the UK and despite closing loss-making businesses in Japan and the United States, its move to enter India shows the retailer's continued ambitions to expand abroad.

Tesco, the world's third-largest retailer, and Wal-Mart lobbied the Indian government for years to allow global brands into the country.

The door finally opened at the end of 2012 when the government, desperate to attract foreign investment as economic growth fell to its slowest pace in a decade, overrode stiff opposition from coalition allies and opposition parties.

But the government's plans were dealt a heavy blow in October when Wal-Mart called off its Indian wholesale joint venture and postponed its entry plans, blaming unfriendly regulations and political uncertainty.

Sources at Tesco and Trent said they took a calculated risk by making their application before the elections, but it was a cautious one, deciding to invest only $100 million for now.

"Instead of waiting for another year we said 'let's go for it now'," said an official at Trent, who cannot be named as he is not authorised to speak to the media.

"We have been made to understand...that an approved investment plan will not be reversed as it will send a very wrong message to the international investor community."

Company sources said there had been numerous meetings with the government throughout the year, and talks intensified in recent weeks.

Two government sources said trade minister Anand Sharma met Tesco chairman Richard Broadbent at the Davos World Economic Forum in January and assured him there of "hand-holding" by the government if the company invested in India.

Sharma also had several meetings with Tesco chief executive Philip Clarke, who sought dilutions to the entry requirements.

WAY AROUND REGULATIONS

Along with Wal-Mart and Carrefour, Tesco until recently maintained that India's retail regulations, especially one that mandates 30 percent local sourcing from small and medium-sized enterprises, will be difficult to comply with.

But the small scale of Trent's hypermarket business will help Tesco adhere to the regulations for now, sources said.

"We have decided to tweak our current business model to comply with this," said the Tesco official. "Make no mistake, it's going to be tough and the challenge will keep increasing as we grow, and so, as you see, our immediate growth plans for India are not very aggressive."

Since 2008, Tesco has had a franchise agreement with Trent Hypermarkets, which runs the Star Bazaar chain of stores and provides sourcing and technical help to its partner.

Star Bazaar runs 16 stores in the country and if Tesco's investment is approved, they will open only 3-4 stores a year under the partnership, a very slow expansion plan designed to meet the sourcing regulations, find a model that works and fix the loss-making hypermarket chain, retail consultants said.

"It's a showpiece investment which will only make the government happy because now they can say 'look, someone's come'," said Harminder Sahani, managing director of Wazir Advisors. "It is too small to make any significant difference to the country or the retail sector."

Tesco's investment in India is widely expected to be cleared without much political opposition, thanks to its decision to keep a low profile before, consultants said.

Wal-Mart, by contrast, had blazed the Indian retail trail, earning the ire of political parties and trade unions. An investigation into whether it broke India's foreign investment rules and an internal bribery probe also delayed its plans.

"Wal-Mart decided to be aggressive, but Tesco decided to be discreet and its worked well for them," said Devangshu Dutta who heads retail consultancy Third Eyesight. "But whether they will be able to make use of the first-mover advantage and eventually lead the race remains to be seen."