India’s Tier II and Tier III Cities: Are They Right for Your Business?

To a foreigner, the terms Tier II and Tier III might suggest that these cities will become Tier I cities in the near future. However, this is not necessarily the case – Indian cities are classified purely on the basis of their population size.

Accordingly, foreign companies that are interested in locating in a Tier II or Tier III city should carefully consider their options: lower tier cities offer comparatively cheap labor and affordable real estate, but setting up in these cities also comes with challenges.

What are Tier II and Tier III cities?
According to the government, cities with a population in the range of 50,000 to 100,000 are classified as Tier II cities, while those with a population of 20,000 to 50,000 are classified as Tier III cities. In a populous country like India, cities of this size are common and does not correlate with any potential for economic development.
Some Tier II and Tier III cities, however, have shown potential to become a business destination. Generally, these cities have several industrial clusters, are situated in business-friendly states, and are well-connectedto other major economic hubs.

The most significant edge these cities have over larger cities, is their economical real estate, labor, and service costs. Indeed, some even have developed or are developing infrastructure to support large-scale economic activity.

When should businesses consider a Tier II and Tier III city?
If a company has sufficient time, money, and resources to grow their business independently, it may be worth setting up in a lower tier city to obtain cheap real estate and labor. This means the company needs to be prepared to invest in setting up basic infrastructure and logistics, train local labor in fundamental tasks, and learning to function outside a well-developed business ecosystem.

If a company has presence in a Tier I city, it could consider moving some of its operations to a nearby Tier II or Tier III city to cut operational costs. A business could explore moving staff engaged in backend and related functions to a nearby emerging city. Similarly, manufacturing activities could be moved to smaller cities, while management functions could continue to operate out of the Tier I city.

If there is an existing industry cluster that is relevant to the company’s business portfolio, a company may find Tier I capacity at Tier II or Tier III costs. Many of the smaller cities have carved a niche for certain specific industrial activities. It is important for the foreign business to ensure that its business activity aligns with the local industrial ecosystem. 
 
This article was first published on India Briefing.

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