Wait, the most profitable grocery retailer in the world is Indian?

DMart’s general approach is not very different from its international peers. High volume, low prices. Wide product mix with loss leaders and higher margin items. No-frills stores. Deep knowledge of what products and brands each store needs the most to increase inventory turnover and lower costs. Economies of scale everywhere.

But brute size alone does not explain DMart’s superior profitability, as the previous comparison with its much larger local and international peers obviously shows. Looking at the differences between Reliance Retail -the largest grocery retailer as well as the one with the deepest pockets in India- might be useful to understand the nuances of DMart’s model.

Reliance Retail’s revenues are six times those of DMart ($38b to $6.4b). Reliance Retail has more than 17,000 stores spread all over India while Dmart has only 371 stores and is not even present at all in many of the largest states and cities. However, Reliance Retail’s operating margin hovers around 5%, and its market value is only 2.5 times that of DMart despite being much much larger. What is the key to these differences? Well, DMart stores are much bigger, with an average 40,000 sqft, while Reliance stores are only 10,000 sqft on average. Moreover, DMart stores tend to be in clusters, while Reliance ones are much more spread out. So DMart can be much more efficient with inventories and real estate. It optimizes economies of scale at the store (or cluster) level, rather than at the company level (what Reliance Retail does). And then, there are the other little details. DMart pays suppliers faster than the other competitors, which it trades for bigger discounts. It builds the store shelves all the way to the ceiling, to multiply storage space. It has no problem in lowering or turning off the air conditioning, as long as that is only mildly uncomfortable to shoppers. It reduces the aisle width to the minimum conceivable, again to maximise space use. As Navil Noronha, DMart’s CEO, puts it, “the wins in retail come from relentlessly pursuing small incremental improvements. If you are too smart, (retail) will bore you.” (Source: Forbes)

DMart is a beautiful example of strategic clarity, of saying no to certain popular and to some extent faddish choices. Rapid penetration in a large and fast-growing market like India? No. Contrary to most of the domestic main players, DMart expands slowly and adjacently so the model is not compromised by increasing inefficiency. Big investments in online channels? No. DMart steadfastly refuses to follow digital commerce mantras of quick (same day, free and under 30 minutes) deliveries, instead having the gall (!) to offer mostly next-day ones and usually charge for them. Intensive use of private labels to increase margins? No again. DMart has largely resisted doing this to date.

DMart seems to have an old-fashioned retail business model, but an extremely effective one. At the same time, India is currently lovestruck by quick commerce and its get-anything-under-ten-minutes model. If q-commerce keeps growing at current rates, will it hurt DMart? Will it hurt Reliance Retail even more? Or will q-commerce fade away while these old-fashioned guys keep whistling along?

My observation is that q-commerce is trying to do online what DMart has already mastered offline, which is neighborhood economies of scale. What is the largest volume of operations that you can have while still being within a few minutes’ radius of your customers? Proximity to the customers brings convenience and convenience plus product mix brings volume (e.g., customers buying in bulk or very frequently a wide variety of items). Volume brings low prices which in turn bring more volume. Rinse and repeat. So q-commerce would be DMart but with the added task to deliver the items to the customer’s home, thus sustaining a significant additional cost.

This last mile delivery cost is what should give us pause about q-commerce companies like Blinkit or Zepto posing a serious threat to DMart. To level with DMart, q-commerce companies should be able to pass a good part of that cost to the customer in the name of added convenience (you want to avoid traffic and get it at home? Pay extra for it!). Instead, could it be that q-commerce booming growth is mostly driven by the deep discounts and free delivery enabled by fresh VC money in the name of customer acquisition? And that when q-commerce begins turning its eye toward profitability (all of them are currently losing money or barely breaking even) rather than growth above all and raises prices or fees, customers will switch back to the lower-priced store model? As Noronha pithily puts it: “The biggest advantage we have is that customers come to the stores and take the items home themselves. Home deliveries are the fastest way to the graveyard.”

Which is to say, it is extremely difficult to surpass DMart’s efficiency and value with an alternative model. Moreover, Dmart still has a lot of room to grow further and gain additional company-level economies of scale. Its current market share in India’s grocery retail market stands at only 0.5%. In fact, the largest retailer, Reliance Retail, controls only 1.2% of an incredibly disorganized market (meaning the vast majority of groceries are sold in unbranded mom-and-pop stores). So as India moves away from disorganized markets, both companies have plenty of room to reinforce their advantage, although less so for Reliance, as their smaller stores limit their efficiency.

So in a world with exciting innovations like q-commerce and bottomless pockets like Reliance’s, a company from Powai with less than 400 stores and a 7.4% operating margin might be the one with the strongest advantage.