Building profits by serving the poor

The Edge Financial Weekly. Jan 11th, 2010
By Kal Joffres and Quek Sue Yian

Can you build a RM 1 billion company by helping people out of poverty? For Vikram Akula, this question is not hypothetical. Akula’s RM 1.2 billion SKS Microfinance provides micro-loans to rural entrepreneurs in India. It is part of a growing class of enterprises that combine the scalability and cost discipline of business with the pro-poor effects of charity, spanning the agriculture, telecommunications, and financial services sectors.

The base of the economic pyramid is a major opportunity for Malaysian entrepreneurs and established firms in markets such as Indonesia, China, and India. Many of these businesses are being built using a consistent process that involves ‘deep dives’ into the local context to rethink a product or service around its core function and distributing it through local partnerships.

Multinationals from GE to Citibank are sitting up and taking notice. While individual buyers in these markets have limited buying power, they make up some of the world’s largest and fastest-growing markets on the aggregate. Over 4 billion globally people are at the base of the economic pyramid, making less than RM 7,000 a year.

As these consumers come into focus, we are discovering a picture at odds with traditional expectations. Many people at the base of the pyramid pay more than their wealthier counterparts for the same goods. In the dusty Mumbai shantytown of Dharavi, people pay 53 times more for capital and 10 times more for anti-diarrhoea medication. Their purchases go far beyond food and clothing. 85% of households own a television and 75% own a pressure cooker or a mixer.

For established firms, these markets are not just about increasing revenues, but are also a matter of survival. GE worries that developing world entrepreneurs will gradually upgrade and challenge them in their home markets, following in the footsteps of the Japanese automobile industry. Developing world entrepreneurs are in a strong position to follow in those footsteps, backed by investors including US venture capitalists and strategic corporate investors.

Emerging market industries could also disrupt their developed country equivalents. In Kenya, over one million people are transferring e-money through mobile phones and a network of agents. According to C.K. Prahalad, author of The Fortune at the Bottom of the Pyramid, RM 70 million to RM 80 million is transferred every day. The loan portfolio at Akula’s SKS Microfinance is worth RM 2.3 billion. These players are detouring banks.

For successful businesses, the process often starts with a deep dive into the consumer context. When a group of Stanford University students sought to redesign new-born incubators for developing markets, they started with a neonatal unit in Kathmandu and went to homes in rural Nepal. Every year, 20 million premature and low birth weight babies are born in developing countries. Traditional hospital incubators cost $20,000 and require continuous electricity, both beyond the reach of rural hospitals.

The team learned that the vast majority of premature babies were born in rural areas and never made it to hospitals. No amount of scaling down or adapting incubator technology could address this problem. Incubators had to go to mothers’ homes, function without electricity, and be intuitive.

Armed with a solid understanding of the user perspective, the Stanford team moved to a second stage where they fundamentally rethought the incubator by stripping it down to its core function and rebuilding it for extreme affordability. The incubator was reconceived as a baby pouch that emits body-temperature heat for up to four hours. The pouch is “recharged” by submerging a removable tab into boiling water. Their venture capital-backed start-up will offer the incubator for $25, less than 1% of the cost of a traditional incubator.

Products have been reconceived in a variety of ways for low-income markets. P&G is serving Pantene shampoo in single-serve sachets. Citibank made banking more accessible with $25-deposit accounts and voice-activated ATMs. D.light is providing safe light to hundreds of thousands of people by replacing kerosene with solar-powered lamps in partnership with microfinance organizations.

Building partnerships with local players is the third stage of the process. Base of the pyramid markets are an opportunity for entrepreneurs and major firms alike because it is too difficult to go it alone. New entrants threaten existing distribution networks unless they are co-opted or bypassed. Base of the pyramid consumers are brand conscious and communities may be suspicious of outsiders, factors that can be either boon or bane for business. As companies take interest in the base of the pyramid, nonprofits and microfinance enterprises are discovering they are sitting on valuable distribution networks. Akula’s company has built relationships of trust with village heads and beneficiaries, a privileged position that can be used either to favour or guard against new entrants.

Critics argue that profiting from the poor amounts to exploitation. However, people at the base of the pyramid inevitably purchase goods, often at a premium. These markets are served by exploitative intermediaries partly because they have been neglected by players distributing goods fairly and at reasonable prices. Socially responsible business – as much as aid – is a necessary part of the approach to alleviating poverty.

For Malaysian enterprises, this isn’t just an opportunity to help break the poverty cycle. Base of the pyramid businesses generate among the highest returns on capital employed. Local strengths in IT are critical to developing these opportunities. At SKS Microfinance, technology is central in cutting variable costs and creating distribution chain efficiencies. With over half a million borrowers, SKS is one of the world’s most successful microfinance organizations partly because it has digitised record-keeping processes most competitors still do on paper.

For now, Malaysian entrepreneurs may have a leg up on their western counterparts. They are close to base of the pyramid markets, fare well in challenging market environments, and are adept at thinking with limited resources. Success lies in combining these strengths with an understanding of large scale business and a reflex for building long-term partnerships.

And If Malaysian enterprises don’t knock at doors at the base of the pyramid, they may eventually find the base knocking at theirs.