THE MEXICAN RETAIL SECTOR: A LOOK AHEAD.

UNCLAS MEXICO 001665

SIPDIS

SIPDIS

STATE FOR WHA/MEX, WHA/EPSC
STATE PASS USAID FOR ROBERT KAHN
TREASURY FOR IA MEXICO DESK - JASPER HOEK
COMMERCE FOR ITA/MAC/NAFTA ANDREW RUDMAN

E.O. 12958: N/A
TAGS: ECON EIND EINV ETRD
SUBJECT: THE MEXICAN RETAIL SECTOR: A LOOK AHEAD.


1. (SBU) SUMMARY: The Mexican retail sector is expected to
grow aggressively in 2006-2007, driven by rising demand for
low-cost goods coupled with expansion into previously
underserved areas. Econoff met with industry representatives
and government officials who confirmed their widespread
expectation of continued growth. However, American firms
such as WalMex (Wal-Mart's Mexican operation) and Costco
likely will face increased challenges including new possible
government regulation, nationalistic licensing policies, and
increasingly competitive Mexican chains armed with a more
sophisticated distribution system. A greater presence by
Chinese suppliers may also pressure prices and profit margins
downward. END SUMMARY.

THE TIP OF THE ICEBERG
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2. (SBU) According to unpublished data from the National
Institute of Statistics (INEGI),the Mexican retail sector
grew by 3.6% in 2005, and by a 3.0% annualized rate in
January, 2006. Overall employment in the sector increased
from 774,600 in January, 2001 to 869,290 in January, 2006,
nearly 11%. One researcher for INEGI informed Econoff that
the amount of overall retail tax revenue collected outside of
Mexico City has risen from 37% in 2001 to 45% in 2005,
suggesting significant expansion of commercial retail
activity in smaller communities. Indeed, most industry
participants agreed that the informal (unregistered) retail
market still accounted for approximately 50% of the total
retail activity in Mexico, and is especially prevalent in
rural areas, suggesting that continued growth in these
locations is likely.

COSTCO STAYS THE COURSE
--------------


3. (SBU) Mauricio Talayero, Director of Administration and
Finance for Costco Mexico, told Econoff that warehouse-style
retailer Costco is planning to open two additional warehouses
in 2006 by following the expansion plan devised in 1993. The
plan terminates in 2015, when Costco is expected to have 68
stores, compared to 28 in 2005. While maintaining their core
strategy of targeting high-income shoppers, Mr. Talayero
described a future corporate emphasis on direct
business-to-business sales. An example of this strategy is a
planned warehouse in Uruapan, a relatively small metropolitan
area (population 225,900) in the relatively rural state of
Michoacan with a much lower median income level than
traditional Costco target areas. However, Uruapan contains
numerous small businesses, most of which currently depend on
small, family owned suppliers. Talayero also stated that
even though Costco has a competitive advantage selling
primarily U.S. goods (generally believed in Mexico to be of
higher quality),the Mexican supermarket company Soriana has
recently entered the market niche by launching several
warehouses directly marketing to Costco customers.

BIG WHEELS KEEP ON ROLLIN'
--------------


4. (SBU) Francisco Suarez, Vice-President of Institutional
Relations, confirmed to Econoff that WalMex will open 120
outlets in 2006; 80 Wal-Marts and 40 Bodega Aurreras (a
discount warehouse). While also searching for less developed
areas, WalMex is (along with Costco) hoping to capitalize on
the untapped purchasing power of Mexican small business with
specific business-to-business programs such as "Mi Tiendita,"
and "Mi Cafeteria." Suarez also recognized Soriana as the
most competitive rival, due to a reputation as the "Mexican
hometown store," as well as their strong distribution system.
However, he pointed out an internal study which showed that
Mexico's retail sector was only 40-50% saturated, offering
great opportunity. WalMex, stated Suarez, "was ready to take
care of business."

THE ONLY REAL THREAT
--------------


5. (SBU) While demonstrating growing sales totals that
surpass the combined competition (up 3.9% in February 2006
compared with February 2005),according to Suarez, WalMex's
growth could be restricted by government policies which limit
competition in the sector, traditionally one of the freest
areas of the Mexican economy. Suarez also privately admitted
that the proposed "Commercial Practice Initiative,"
temporarily defeated in the Chamber of Deputies (due in part
to a huge lobbying effort by WalMex),will likely resurface
in 2007 in a more nationalistic context. The initiative has
two main facets; limitation of store construction to sites
"consistent with Mexican interests" and approved by a federal
regulatory board, and a prohibition against selling products
below cost (a common technique utilized by WalMex to capture
market share). Both elements were described by Suarez as the
only real threat confronting WalMex, as he stated that "our
top priority at WalMex is ensuring competition everywhere."

AND IN THE OTHER CORNER...
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6. (SBU) Arturo Monroy, Director General of the National
Association of Retailers (ANAM) told Econoff that his
organization, which is lobbying heavily for the initiative,
represents 111 retail chains (all Mexican) locked in
competition with "autoservicios" (WalMex, Costco). Monroy
could not predict the likelihood of the initiative being
passed in 2007 (due to the uncertainty of the election in
2006),but it is one of the highest priorities for ANAM.
Monroy described the future for his clients; synchronized
distribution centers and networks, state of the art
technological platforms, and more effective marketing of
their natural competitive advantage, their "Mexicanness."
Admitting that the competition from WalMex had resulted in
the reorganization of his clients as well as discounted
prices and smaller profit margins, Monroy also voiced concern
about the flood of Chinese products (many of whom escape
import taxes) and their deleterious effect upon Mexican
suppliers. Similar to WalMex and Costco, many of ANAM's
clients are focused on expanding into medium sized markets
with lower income levels.

PROMOTING "MEXICAN" RETAIL EXPANSION
--------------


7. (SBU) Recognizing potential rewards, such as lower
unemployment and prices, state and municipal governments
throughout Mexico are aggressively promoting the opening of
retail supercenters targeted to medium sized population
centers. The Secretary of Economic Development for the state
of Mexico, Laila Chemor Sanchez, and her advisor for retail
development, Hector Garcia described for Econoff state
programs designed to encourage economic growth in previously
underserved communities. According to both, retail
development is easier and faster to achieve than industrial
development, and is therefore a top priority. Garcia also
informed econoff that a vast majority of over 400 business
license petitions issued in 2005 from the state of Mexico
were from the retail sector. Privately, Mr. Garcia
acknowledged a confidential but clear directive from the
Governor to "encourage and promote" Mexican chains over
foreign firms, if other factors were equal (which is often
not the case). Garcia admitted to Econoff that this policy
was highly divisive, and would probably be a controversial
subject within the government in the immediate future. It
can be reasonably assumed that this policy is not unique to
the State of Mexico.

A "PYRAMID" OF LOCAL DEVELOPMENT
--------------


8. (SBU) It has been 17 months since San Juan de
Teotihuacan, a city of 50,000 inhabitants (with another
50,000 living in nearby communities) located adjacent to the
famous archeological site of Teotihuacan, made international
headlines by hosting the opening of a Bodega Aurrera. This
medium sized city, until 2004 lacking any retail store over
20,000 square feet in size, now possesses a "hypermarket" of
over 80,000 square feet. San Juan de Teotihucan therefore
can illustrate the potential effects of the type of retail
expansion likely to become commonplace in Mexico. Econoff
met with the general manager of Bodega as well as the mayor,
both of whom confirmed that WalMex had already hired over 200
full-time employees, while planning to hire an additional 50
in 2006. The general manager, Raul Butron, added that sales
growth had so far exceeded all expectations. The mayor,
Adrian Galicia, later told Econoff privately that local
retail prices had fallen 15% and the level of visitors from
area communities had risen 25%, helping other businesses.
Mr. Galicia was pleased because he expected the construction
of a second warehouse, owned by Mexican retailer SuperPrecio,
to begin within the year. Econoff inquired about possible
negative effects of the Bodega, to which Galicia replied that
the infrastructure (primarily the road network) was
insufficient to handle the huge increase in traffic.
However, he also added that a new project was being planned
to address this issue.

COMMENT
--------------


9. (SBU) The retail leader in Mexico is still clearly
WalMex, although Mexican firms such as Soriana, Comercial
Mexicana, and Chedraui are increasingly competitive. WalMex
also will likely face a threat of Mexican nationalism in the
form of new regulation, unprecedented in the retail sector,
as well as official and unofficial government policies
favoring domestic chains. Privately, executives from both
camps expect several dynamic years of intense competition in
2006-2007, with intense battles fought in the Chamber of
Deputies, state and municipal licensing boards, and via
advertising campaigns directed at new customers in presently
underserved areas. Strong expansion of the retail sector
(possibly reaching 5% in 2006) will likely continue in the
near future, principally targeted to medium-sized,
medium-level income areas.


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GARZA