Over the past two decades, so-called “big box”stores have transformed the retail landscape in emerging markets, but not in the way many local store owners and policymakers had feared. New research partially funded by the Chazen Institute shows that arrival of organized retailing in developing economies has actually helped strengthen the network of mom-and-pop stores that still dominate the industry.
“Because organized retailing has done so well in some emerging markets, there was a feeling that it would be the death knell for unorganized retail,” explains Kinshuk Jerath, an associate professor in the marketing division at Columbia Business School. “But the impact of organized retailing is not uniform across different countries and economies. It really depends on the context, in terms of the retailing infrastructure, financing options for unorganized retailers, and demand-side factors such as how variety-seeking consumers are in their consumption habits and whether they can purchase in bulk and store at home. In some economies, such as Chile, independent small retailers are feeling the heat. However, in other economies such as India, what is actually happening is that the market share of unorganized retailing is growing after the advent of organized retailers.”
Jerath’s recent paper, “A Model of Unorganized and Organized Retailing in Emerging Economies,” coauthored with S. Sajeesh from City University of New York and Z. John Zhang, from Wharton School, University of Pennsylvania, explains why.
The lure of a growing middle class, combined with increasingly liberal foreign direct investment (FDI) policies, has helped pull international giants, such as Walmart and Carrefour, into developing countries. At the same time, homegrown conglomerates such as Big Bazaar and Reliance Fresh in India are on the rise, adding to the fierce competition within the retail space. As expected, this industry shakeup has forced some less competitive unorganized retailers out of the market.
What wasn’t expected, though, was that the surviving local retailers have benefitted from the market efficiencies that the big chains have implemented, such as access to more products and better distribution systems. With lower costs and less competition, the surviving local merchants can charge higher prices and enjoy higher profit margins.
In fact, Jerath’s research shows that unorganized retailers tend to have higher prices after the arrival of big-box competition than their peers in regions in which organized retailers have not staked a claim. “An unorganized retailer should not instinctively compete with the organized retailer with a lower price,” the authors note. “Instead, it can optimally raise its price, recognizing the smaller number of surviving unorganized retailers.”
A Profitable Coexistence
That’s because organized and unorganized retailers serve consumers in very different ways. An important characteristic of family-run stores is that they operate on an extremely small scale, serving households that live within walking distance. As a result, local shopkeepers are intimately familiar with their customers, including what, when and how much they buy of a particular product in any given week. Owners can maintain tight control over their inventory while offering highly personalized service to their customers.
On the other hand, while organized retailers can offer a wider variety of merchandise at lower prices, getting to the store often involves additional costs for the average consumer, including transportation expenses and the additional time needed to make the trip. There are also higher up-front costs to consider. Shopping at a local, unorganized store buyers can buy only as much as they need at the moment, spending, for example, just a few cents on a couple of eggs. Consumers purchase from organized retailers in larger quantities, lowering the per-unit cost but raising the immediate out-of-pocket expenses.
Another potential cost is that when products are bought in bulk instead of on an as-needed basis there’s a higher risk that some of the product will go to waste, raising its per-unit cost. “These demand-side factors influence where consumers decide to shop and hence how both unorganized and organized retailers make their market-entry and pricing decisions,” the authors write.
Policymakers can use the insights gleaned from this research to help balance the growth of unorganized and organized retailing in emerging markets, Jerath says. For example, the findings show that governments could minimize resistance from unorganized retailers to outside merchants by drafting policies that allow gradual foreign direct investment.
That would give the local unorganized retailers time to emulate best practices of the organized retailers and create efficient supply chain infrastructure. “Policymakers can also do careful zoning of organized retailing so people who really want to buy in higher quantities for cheaper prices can, while minimizing the impact on unorganized retailing,” Jerath adds.
The findings also highlight another factor that policymakers need to consider. “Overall, this paints a somewhat dismal picture for consumers — those who purchase from the unorganized retailers pay a higher price and those who purchase from the organized retailer risk wastage” which increases their real costs, the authors note.
Because of these higher consumer costs, it’s not a foregone conclusion that the advance of organized retailing in emerging markets is necessarily good for the overall economy, the authors conclude. “Policymakers need to consider the impact of several countervailing factors carefully,” they caution.