The cultural and economic feasibility of expansion into India

Opening an Internet Cafe in India

The Internet's impact on the everyday lives of literally hundreds of millions of people globally has created entirely new business models regarding how people are communicating with one another, researching areas of personal and professional interest, and ultimately increasing their opportunities to learn. The greater the need to connect with others globally and also learn, the greater the demand for online access services. The many factors that must be taken into account before opening an Internet service cafe in India are the subject of this paper. Specifically focusing on the market size, resources, regulations and risk of opening and operating an Internet cafe in India, this paper discusses the advantages and disadvantages of each. These specific factors are evaluated in the context of creating a new venture which has as its strategic objective the delivery of Internet access to the millions of Indian residents who are increasingly relying on the Internet as a communication and learning medium.

Country

India's economic growth is projected to surpass Japan by 2010 and become the world's third largest economic force, sending a message to all multinational firms that their economy is one that needs to be seriously considered in any global expansion plan. Starting with economic reforms introduced in 1991 relaxed restrictions on foreign investment and greatly contributed to India's 8% annual economic growth rate in every year since 2002. This unprecedented growth continues unabated, despite growing opposition from nationalist groups. The growing pressure from domestic and foreign investors is likely to continue stimulating and leading to continued economic reforms, opening previously closed industry sectors and increasing foreign ownership limits in many other industries. The sweeping reforms in 2005 are credited by some members of the Indian government for increasing foreign direct investment in the retail, domestic aviation, and radio industries, leading to the robust GNP and GDP growth the country has experienced non-stop since 2002. As a result of these reforms that in effect created a more competitive global nation, foreign firms can increase their Indian investments from 40% to a controlling 51% in most industries, Economist (2005). The combination of one of the world's most vibrant and growing economies, India is the worlds' largest democracy with a population of 1 billion or more individuals. As a result of the increasingly liberalization of growth policies by the Indian government and the sheer size of this market, more multinationals are looking at India as part of their strategic growth plans for the next five years, Icon Group International (2000).

Analysis -- Country Evaluation

Market Size

As India's broader communications and telecommunications infrastructure is limited in coverage of the entire nation, the Indian Internet access market continues to post strong growth rates throughout the last seven years. This growth has been propelled by both the country's rapidly expanding population and the influx of economic growth from Foreign Direct Investment (FDI) and resulting significant economic progression. All of these factors have created the financial incentives and funds for expansion and improvement of India's telecommunications network.

The Indian online population has grown significantly over the last seven years as a result. The Indian Internet access market generated total revenues of $2.6 billion in 2005, an increase of 40.4% on 2004, representing a compound annual growth rate (CAGR) of 36.5% for the five-year period spanning 2001-2005. The Chinese market grew with a CAGR of 29.7% for the same period, and the more mature South Korean market exhibited a 13.5% CAGR. The number of Internet users in India has also grown dramatically, with a CAGR of 64.2% leading to 50.4 million users in 2005. To put this into context, it should be noted that approximately one in twenty of India's population has Internet access; where in Western Europe is closer to one in two.

It is anticipated that market growth will slow down in relative terms, yet still showing significant growth by any global standard of comparison. With an anticipated CAGR of 18.3% for the five-year period 2005-2010 expected to drive the market to a value of $6.1 billion by the end of 2010. The number of Internet users is set to increase, with an anticipated CAGR of 23.2% for the five-year period 2005-2010 expected to drive the market to a total of 142.9 million users by the end of 2010. Today the market for Internet access is primarily composed of the nations' affluent segment, yet it is expected that over time the middle class will increasingly spend to gain Internet access in their homes and in Internet cafes. Table 1 provides an analysis of Indian Media Usage by Income Class, showing the heavy concentration of Internet users in the global high income segment.

Table 1: Analysis of Indian Media Usage by Income Class

Daily Newspapers

Radios

Television Sets

Cable Subscribers

Personal Computers

Internet Users

Paved Roads

Number per 1,000 people

Percent of total roads

India

60

83

39

7

17

57.4

Global Low Income

44

84

27

7

16

13.3

Global Middle Income

55

57

43

54

Global High Income

1,000

95.4

Source: World Bank (2004)

Where each of the specific income segments have been defined as shown in Table 2, Distribution of Income in India. The top 8 million of consumers in India are earning in excess of $20,000 a year, and from the background research into this business plan also shows that this highest propensity to use the Internet for both business and personal buying, communication, training, and transactions to obtain the necessary products and services globally, fulfilling the many predictions made by Thomas Friedman in the World Is Flat (2005).

Table 2: Distribution of Income in India

Category

Population (millions)

Household Income (U.S.$ per year)

Global Low Income

Less than $5,000/yr

Global Middle Income

$5K to $20K/yr

Global High Income

8

More than $20,000/yr

Source: Kumar (2004)

Advantages

One of the highest growth Internet user populations in the world that is being driven by Foreign Direct Investment (FDI) and a more liberal approach allowing the privatization of industries. All of these factors are contributing to a rapid growth in the number of Internet users in India. It is forecasted that there will be a Compound Annual Growth Rate (CAGR) of 18.3% for the five-year period 2005-2010 expected to drive the market to a value of $6.1 billion by the end of 2010. Economic growth driven by FDI is making the need to connect to the Internet permeate the Global High Income and Global Middle Income groups.

74% of India's Internet users are from the Global High Income segment, and 22% are from the Global Middle Income segment. This is excellent news for anyone looking to provide Internet services in the India, especially if the company proposing the services is from another nation. Kumar (2004) found that the highest income segment of the Indian population has a high willingness to purchase products and services from global suppliers. This is in marked contrast to the largest and poorest income segments of India, which have a marked distrust of any foreign brands. This lack of trust has contributed to the continued high tariffs on infrastructure providers, which has hampered the growth of certain industries. Yet in the context of creating an Internet access provider business, the highest income Indians will find this a useful service. The aspiring aspects of the highest income segment having this as a service will permeate the global Middle Income segment eventually. The result will be an aspirational approach to consumption on services and foreign-produced and purchased products as the elite income segment of India can readily afford to do.

The Global High Income segment dominates the ownership of personal computers in the country, with an estimate 90% of all systems owned by this segment. While the infrastructure is not yet in place to allow all members of this segment to access the Internet from their homes, many who live in the more industrialized cities including New Delhi, Bangalore, Hyderabad, and others are accessing the Internet from home today. The fact that 9 out of every 10 PCs in the country are owned by the wealthiest citizens is an advantage to creating an Internet Cafe. First and foremost, these PC users will quickly learn the fundamentals of using their systems and look for opportunities to connect with the broader world to explore, learn, shop, and ultimately re-order their personal and professional lives relying on the convenience of the Internet.

Disadvantages

Country-wide, there is still a lack of consistent telecommunications infrastructure which makes the task of creating an Internet Cafe difficult in the more remote cities and villages. To date, the Indian government has not had to invest in the telecommunications infrastructure that is steadily revolutionizing their citizens' use of the Internet. Instead, the investments of Bharti Tele-Ventures, Sify, VSNL, Reliance, MTNL and BSNL are all competing to gain the majority of market share in India for Internet access. This is welcomed by the government, as it has yet to make a significant investment in this area of the nations' infrastructure, yet it is concentrating cost and price competition for businesses. The net result is a growing digital divide in the secondary and tertiary cities of India, overlooked for Internet access, making the prospect of creating an Internet cafe in secondary, and often less expensive cities, more difficult.

The ADSL launch across India has been abnormally slow, and cable modem access is concentrated in the most wired cities and regions of the world, yet paradoxically there has not been a reduction in pricing of services due to government regulations. The nation-wide roll-out of ADSL throughout the most wired and affluent regions of India has been abnormally slow, hampered by the lack of infrastructure needed to complete the last mile cabling and integration across legacy telecommunications networks. This has led to a high growth rate in broadband adoption, specifically in the area of cable modem access, with 69% of all of India's cable access customers being in the Global High Income segment. This figure is calculated from Table 1, where the total number of Cable Subscribers was divided by the number from the Global high income segment to find the 69% figure. Further on, 21% of the cable access customers in the Global Middle Income segment. This translates into a disadvantage for creating an Internet cafe business because the penetration of cable access into the most affluent segment in India is being driven by both the demand for Internet access in this highest income segment and the preponderance of PCs already being owned by members of the Global High Income segment.

Starting in the first part of 2006 there have been taxes and duties in the Indian telecommunicates sector that are among the highest and most prohibitive to FDI in the world. Taxes in India on telecommunications sector on new revenues are hovering around 35%, as compared to 2.5% in many other Asian nations. Despite the influx of FDI ready to wire the entire nation, this tariff issue is slowing down development of the telecommunications sector as a result, which in turn is continuing to make the digital divide grow deeper over time.

Resources

As the purpose of this paper is to evaluate the potential of opening an Internet cafe, which is envisioned to be a retail establishment offering Internet access services, the retail sector of India is used as the basis of this resources discussion. With more than 5 million outlets, the Indian retail sector is marked by its unorganized, largely underdeveloped, and unorganized structure. Of these 5 million outlets, it is estimated that nearly 300,000 of them are Internet cafes (Glaser, 2003). Of these, the majorities are clustered in the larger cities, yet it is common to find at least four or five Internet Cafes even in villages (Glaser, 2003). This sector of the Indian economy is dominated by small, family-owned firms. Modern retail chains, most of which have established themselves in the past five years, account for just 2% of retail sales, compared with 65% in the United States, 40% in Thailand and 10% in China.

As a result of this fragmentation, there is significant growth in the retail sector possible. At Kearney (2006) defines India as the most attractive retail environment in the world in their Global Retail Development Index published yearly by the consultancy. The index ranks global economies on four factors, which include Country Risk, Market attractiveness, Market Saturation, and Time Pressure. While at Kearney sees moderate risk and a relatively high level of costs associated with being in compliance to government regulations, India is consistently one of the top ranked countries due to the low market saturation in the retail sector.

Despite the high level of market opportunity consultancies and industry experts see in the retail sector in India, specifically around services, the inflexible labor laws and often high and unpredictable supply chain costs and performance, the preference for in-country retailers by the majority of lower income segments (Kumar, 2004), all these factors have led to a muted growth of the retail sector in India. Labor laws specifically state that employees must be given full benefits in the event they are let go is quite expensive. The difficulty of foreign retailers and service providers getting a foothold in the market is well-known, and since 2005 there has been much discussion about permitting foreign investment in the retail sector. In early 2006 the government allowed up to 51% FDI in single-brand retailing (such FDI could previously take place only through the franchisee route), but shied away from a comprehensive opening up of the retail sector to foreign competition.

Advantages

A highly balkanized retail marketplace makes market entry easily accomplished. Given the highly fragmented nature of the retailing marketplace, there is the potential for any new business to quickly move into a specific niche product or service area and quickly deliver significant value through differentiated offerings.

Higher levels of FDI ownership will boost services to assist entrepreneurs in getting their own retail and services chains opened. The growth of telecommunication infrastructure, the majority of which is being funded by companies competing to dominate the Indian market, will eventually lead to more global partnerships. This will serve to strengthen the potential of an Internet Cafe offering additional services.

Disadvantages

Low cost of starting an Internet Cafe in a tertiary or secondary city may be at the expense of having a customer base from the Global Middle Income segment. Clearly from the research to complete this analysis the costs associated with starting up an Internet Cafe in secondary cities of the nation are much lower than in the larger, better supported cities who are receiving excellent service from the telecommunications providers. The implications for starting an Internet Cafe under these circumstances forces the question of whether to immediately launch into the larger, more prosperous region or launch into a tertiary market and learn how the company can penetrate the Indian market for Internet cafes in the country.

The risks of hiring the wrong employees are quite high, and as a result, the costs could get out of control of the Internet cafe begins cycling through employees. As in any small business, there will be turnover of employees in the Internet cafes' operations, and occasionally the need to let someone go who may not work out with the philosophies of the business. The Indian government has created a series of mandates for employees who are let go for any reason, and the costs can be significant, (World Bank, 2004). The implications for starting a new business in India and hiring employees are financially significant. The need for thoroughly reviewing candidates and hiring only the best is imperative.

Regulations and Procedures

It is common knowledge in India (Glaser, 2003) that Internet cafes are the most highly regulated industries in the retail and services sector. There are more than 13 different permissions that Internet cafe owners need to gain in order to open their first cafe, and there are escalating costs of government compliance and monitoring. These increased costs of compliance are forcing a shake-out of the Internet cafe industry today as only the largest chains can afford to pay for consultancies and reporting to be in compliance to government regulations. Additional regulations dictated from the Indian governments since September 2000, include 100% Foreign Direct Investment (FDI) in Internet service providers (ISPs) not providing gateways, in infrastructure providers of dark fiber, and in e-mail and voice mail.

In May, 2001 the government allowed up to 74% FDI in ISPs setting up international gateways, paging and end-to-end bandwidth, though only investments up to 49% are allowed automatically. In November 2005 the government raised the FDI cap on basic, cellular and value-added telecommunications services and for global mobile personal satellite communications from 49% to 74%, though only investments up to 49% are allowed on the automatic route. The 74% includes shares held by foreign institutional investors, non-resident Indians, depositary receipts (ADRs and GDRs), foreign-currency convertible bonds and convertible preference shares. Foreign investment in holding companies also counts when calculating the foreign-investment limit. Companies must disclose the holding pattern half-yearly and certify that foreign investment is within the 74% cap. The combination of Internet cafe-specific requirements and FDI requirements are creating a highly regulated and costly environment for smaller, more independent cafes in India. Chains and those cafes owned by larger companies have the financial scalability to manage these constraints and regulations yet the smaller ones do not.

Advantages

Given the high level of regulations for establishing and running an Internet cafe, only the most knowledgeable in Indian laws will survive long-term. This is a potential advantage for any small business owner who chooses to look at the many compliance requirements to differentiate themselves through more efficient management of their business to the expectations of the Indian government. The need for compliance, even to the level of which websites can be viewed from the PCs in the cafe, is also being regulated from the government (World Bank, 2004).

Foreign Direct Investment (FDI) is fueling the continued growth of the telecommunications despite the tariffs and taxes, and as a result the nation is getting wired more efficiently. The paradox of how the FDI implications of investment in telecommunications are countered by the high tariffs on outside investment in this industry. The implications for Internet cafes are lower prices and more availability of higher speed lines.

Disadvantages

The regulations and procedures in this market still do not solve the main problem the majority of Internet cafes have and that is lack of consistently high bandwidth performance. Despite the many regulatory controls and the tightening of content that patrons of Internet cafes have now imposed on them by the Indian government (there was a ruling that a specific portal could no longer be visited due to dissenting political views), there is still no legislation to solve the inconsistent levels of performance and service.

The confusing and often conflicting regulations on Internet access and usage are at a major crossroads today as censorship is being considered on many Internet-related activities. The bottom line is that the Indian government is considering increasingly stricter controls on Internet access both targeting socially objectionable media and politically controversial content. This is going to make the task of managing an Internet cafe more difficult than it has in the past as filters, content screens and active compliance efforts will need to be made in order to have the business consistent to government standards and requirements.

Risks

There are a series of risks including the sovereignty, currency, banking sector, political, and economic structure risks that are inherent in the Indian economic and sociopolitical structure. To begin with sovereign risk, the country is will positioned to meet its external debt obligations in 2007-08, as it remains a cautious borrower on external markets and has amassed large foreign-exchange reserves. Despite this excellent record the country has driven up high levels of domestic public debt. In terms of currency risk, the rupee continues to gain strength against the U.S. dollar since September 2006 as the booming economy has attracted foreign portfolio investment inflows. Nevertheless, the volatility of inward portfolio flows remains a source of apprehension and the stability of the currency markets on a national level is a cause for concern. The banking sector risk is relatively minor as the regulation in this market is very conservative and somewhat limiting, yet is forcing a more realistic valuation of assets being used as the basis of loans. The one banking risk is the overvaluation of services assets and the inflated loads that are resulting from this. Of all areas of risk, political risk is the most visible and the most potentially damaging to any new business with westernized services. The case of the governments' efforts to foster economic growth in rural areas, India's Maoist insurgents continue to pose a threat Maoist rebels or "Naxalites" killed an estimated 55 people in an attack on a police camp in the central Indian state of Chhattisgarh on March 15th. The Maoists' enduring foothold across many parts of India remains a serious concern for the central government, so much so that the prime minister last year called it the "single biggest internal security challenge ever faced by our country." But the Maoist insurgency is not just a law-and-order issue: it also has implications for the energy and minerals sectors, and highlights dilemmas inherent in the central government's current high-profile drive to bring economic development to the rural poor.