The Indian spirits sector has undoubted growth potential, on the back of a growing economy, expanding middle class and rising disposable income but international companies face many obstacles as they seek to exploit the opportunities on offer. Euromonitor International assesses which companies are best placed.

The Indian spirits market offers significant growth potential, on the back of a growing economy, an expanding middle class and rising disposable incomes, but the growth will be hard won, particularly in light of the country's complex regulatory environment.

Euromonitor International predicts that rum and brandy are expected to grow strongly between 2006 and 2011 up 34% and 25% or 6.5m and 3.6m cases respectively. Gin and vodka are expected to grow by over 1.7m litres each and blended and single malt Scotches will grow by 280,000 and 4,000 cases respectively.

However, the regulatory framework for the alcoholic drinks market is highly complex. States administer duties and excise and retailing regulations, so a plethora of tax rates, rules and regulations exists for each state. Another barrier to growth is that in some states, such as Gujarat, the sale or production of alcoholic drinks is prohibited altogether. Such complexity and high costs means black market sales are large.

The complexity facing spirits companies can be seen in the variety of different distribution methods. There are three types of markets in those states that permit the sale of liquor: open, auction and government-controlled.

In open markets, such as Mahasashtra, companies are permitted to appoint their own distributors. In auction markets, like Punjab, governments auction off the wholesale and retail shops at the beginning of each financial year. The state fixes the reserve price and the auction winners establish their own retail network and sourcing from manufacturers. In government-controlled states, wholesale distribution is implemented by the particular state body, with consumer prices decided upon by the state.

Sales in the off-trade, which accounted for nearly 80% of spirits volumes sold in 2006, are generally restricted to specialist retailers although some states such as Delhi and Rajasthan allow sales in supermarkets. Across India, on-trade channels are crippled by the red tape that has to be endured before permission is obtained to open such an establishment. Licence fees are also very high.

In addition, advertising alcohol is expressly banned in India. No broadcaster is permitted to show advertisements which promote, either directly or indirectly, the sale or consumption of tobacco products, wine, liquor or other intoxicants. Companies get around this by sponsorship and producing branded promotional materials or launching soft drink variants of alcohol brands.

If the myriad of restrictions and regulations were not difficult enough, any company doing business in India has to deal with the country's weak infrastructure. Not only is road development not keeping pace with rising vehicle numbers, many of the existing highways are in a poor state of repair and the majority are no wider than two lanes.

This means companies with the widest geographic spread are best able to cope and exploit India's growth potential, and the prime example is UB Group's spirits division United Spirits. In 2006, the company had around 70 distilleries in India, although many of them were contract distilleries. Although it plans to rationalise its contract distilleries, the company has an unrivalled spread of production and bottling facilities.

While Radico Khaitan, the country's next biggest distiller, has four offices for the various zones and six regional offices spread across the country, with the exception of its plant in Andhra Pradesh, its facilities are all located in North India, a region from which it has traditionally derived the bulk of its volume. For the rest of the country, Radico Khaitan uses third party bottlers. In 2006, North India accounted for only around 25% of the country's spirits volumes. While Radico Khaitan's plant in Andhra Pradesh gives it some access to the country's biggest spirit region, South India (36% of India's volume sales), it has difficulty exploiting opportunities in other southern regions.

Pernod Ricard is the only international company to have a major presence in India, and was the third biggest spirits producer by volume in 2005. Unlike other companies including Diageo, Pernod Ricard did not withdraw from the Indian Made Foreign Liquor (IMFL) sector in the early part of the century. Owning its own manufacturing and distribution network has allowed it to become the third biggest spirits company in India. Pernod has four regional offices and 14 manufacturing locations in India. The company's strengths are in the north and west and weakest in the south.

Bacardi also has its own presence in the country through a joint venture with Gemini Distilleries. Bacardi's operations in the country are small, especially since it sold its Whytehall IMFL operations in 2004 to its minority partner Radico Khaitan. Since then, Bacardi has focused on selling its international brands in the country and has a limited presence there with only one manufacturing facility, near Mysore.

Of the other international companies, only Fortune Brands has a production facility in India, following its acquisition of Allied Domecq's bottling operations in Rajasthan, but like Bacardi its presence is relatively weak. Other international spirits companies have purely an import operation in India and rely on third party distributors. These include Diageo, Brown-Forman and William Grant. Edrington Group is looking for a new distributor, following the termination of its agreement with Radico Khaitan this year.

Diageo's joint venture with Radico Khaitan to produce and market premium IMFL products should give it a good route to market and bring in new consumers for its premium international brands, by recruiting Indian consumers with IMFL brands and persuading them to trade up. Diageo's decision to revive its presence in IMFL may be an example other companies would do well to follow.

Despite significant hurdles, the long-term growth prospects still represent a real opportunity and although domestic manufacturer United Spirits has a significant advantage, it is not a market international companies can afford to ignore.