Asia accounts for 60% of the world’s population but almost 1.7 billion or 40% of that population lives on USD 2 or less a day with the majority residing in rural areas. Globally most companies have focused on the top 10% of the population which controls 87% of global wealth; however, an increasing number of start-ups are now targeting the rural population which has seen a steady increase in its spending power. Rural markets are outpacing their urban counterparts in some of the emerging economies as the latter are weighed down by credit markets constraints, sluggish industrial output and weak economic growth.
Rural markets: the Promised Land
China and India are prime examples of demand in the countryside beginning to outstrip demand in the cities. From 2009 to 2012, India’s rural population spent USD 69 billion, ~25% more than their urban counterparts. Nielsen estimates that consumption in rural areas is growing at 1.5 times the rate in urban areas, and today’s USD 12 billion consumer goods market in rural India is expected to expand to USD 100 billion by 2025.
In China, e-commerce companies are leading the charge into the rural markets. Alibaba derived 10% of its USD 9.3 billion Single’s Day revenue from rural consumers in 2014. It has established a test site at Suicheng county in Zhejiang province and based on the experience has laid out expansive plans for growing its rural presence. Based on press releases, Alibaba plans to open as many as 1,000 county-level operations centers and 10,000 village-level service centers across China over the next 3-5 years. Competitors like JD.com are also eyeing the rural pie and in December 2014, JD established its first rural service center in Renshou County, Sichuan province and has announced plans to further scale up its rural presence considerably.
Avoiding the Honey Trap
Swayed by the promises of huge untapped consumer potential and increasing spending power, many start-ups and companies have entered the rural space only to be faced by daunting challenges – these include an undeveloped transportation infrastructure, unreliable telecommunications and electricity services, inadequate distribution networks, and geographically dispersed consumers. Most of these early entrants have failed to successfully scale up their business models and achieve profitability targets on account of high operating costs.
We have studied some of the Indian companies who led the way with the ‘kiosk model’ to penetrate the rural market and presented the key learnings. Most of these companies had targeted setting up kiosks across rural India to provide rural services and sell physical products to consumers. The companies we studied include Comat Technologies (investors include Omidyar Network, Unitus Equity Fund, Enam and Avigo Capital), Drishtee (investors include IFC and Acumen Fund), I-Serv (promoted by 3i Infotech and ICICI Bank), Sahaj (promoted by SREI) and Desta Global.
High margin is critical: Constructing rural kiosks involves an average unit capex of USD 2500-3000 with fixed monthly recurring expenses of USD 750-800. Our study shows that the high cost of rural operations can only be sustained by businesses generating supernormal margins and it comes as no surprise that credit-based models (microfinance), with >25% Net Margins and >20% RoE, have emerged as the only successful rural business model in India till date.
Customer concentration risk: Over reliance on the Government as a single customer can be detrimental to the business due to overdue receivables resulting in an unnatural stretching of the cash cycle. State/provincial governments are often fickle-minded and can change regulations for political gains (e.g. the MFI Crisis in India) which can render the business model unsustainable for start-ups.
Distribution is the biggest hurdle: No rural services business has made a successful pivot into large scale distribution of physical products as entrepreneurs generally do not have any experience of building distribution chains, especially in rural areas. Companies have tried to introduce product categories including FMCG, solar products, agri products, with limited success.
Direct competition from large MNCs: Unilever and ITC have made strong forays into the rural market in India setting up their own distribution networks to push their product portfolios. These MNCs bring best-in-class distribution experience, global talent and very deep pockets as competition.
Unrealistic valuation premiums: The rural sector is plagued by unrealistically high valuations due to the ‘large untapped opportunity’. However, reported ‘agent’ enrolment numbers are often inflated and agent productivity is questionable and does not necessarily convert into revenue and profits.
The global financial markets too do not ascribe a valuation premium to rural business as compared to their urban counterparts. Listed below are some of the companies under the JP Morgan Lower-Income Financial Institutions (“LIFI”) index and their average trading multiples are similar to their urban counterparts.
(All figures are in USD millions). Source: Bloomberg, Company Annual Reports
Key success factors for cracking the rural puzzle
Accenture Consulting and Harvard Business Review had done an extensive study on the rural markets in 2014. We have shared some of their learnings below along with our own insights:
Building last mile distribution: Distribution costs in rural areas can be prohibitive and identifying and partnering with the right distribution agent is key. Presently, government postal services is often the only last-mile option but with increasing rural incomes select courier companies are also increasing their rural presence across Asia
Focus on high-potential clusters: Rural markets are geographically scattered with unevenly distributed pockets of population. Successful rural entrants have planned their expansion by identifying clusters of population with large market potential thereby streamlining the high cost of operations required for total population coverage
Engaging influencers: Word of mouth plays a stronger role in building brands in rural areas than in urban areas. Gaining the trust of local community leaders, teachers, health care professionals can increase product awareness and adoption
Retaining customers (After-sales service): A key differentiator between initial product adoption vs. long term success is strong after-sales service and a reliable customer satisfaction infrastructure which ensures that value conscious rural customers continue to remain engaged with companies and their brands
Evangelists in ASEAN
As ASEAN continues to build its credibility in the technology start-up market, there is a growing breed of entrepreneurs who are using technology to solve challenges in rural markets at home. We list some of these promising start-ups and their business models:
Ruma (Indonesia): Ruma has built a network of over 20,000 rural shopkeepers who act as agents to sell the company’s services and goods. Ruma established its network by selling prepaid mobile phone airtime, electricity, and other value-added services using mobile phones and related technologies and is now looking to become a leader in rural e-commerce in Indonesia. It will be key to see how they crack rural distribution in Indonesia and transition to handling physical goods. The company has been funded by Grameen Foundation, Kiva.org, Omidyar Network, Unitus Impact and Golden Gate Ventures
8villages (Singapore / Indonesia): 8villages started as a marketplace for Indonesian farmers but has since pivoted into a mobile social network for smallholder farmers allowing agribusinesses to communicate with farmers in rural areas. There are around 1,000 users with 62 community group types and the company earns revenue from subscription fees from users (IDR 2000 per group per week) and from providing services to agricultural businesses. Scaling up the user base and increasing sources of revenue by introducing new services will be critical to their success. It has been funded by IMJ Fenox
Bagosphere (Philippines / Singapore): Based out of Bago City in Philippines, the Company aims at training rural youth and finding them jobs in the USD 13 billion Business Process Outsourcing (BPO) industry. It promotes a "study now, pay later" program that also covers equipment and transportation costs. According to the company, nearly 90% of its graduates land jobs at call centers within two months and earn four times what typical unskilled jobs pay. Bagosphere has done well to establish its business model but competition has increased from domestic start-ups like Kalibrr who are using technology to disrupt the market. Bagosphere is supported by Kickstart Ventures, Co.Lab Xchange Incubator, SWGI, Impact Investment Exchange (Asia) and the Bago City local government
MobiVi (Vietnam): Established in 2008, MobiVi runs the ‘iCare Benfits’ platform providing B2B and B2B2C technology to rural and factory workers in Vietnam. MobiVi partners with multinational companies to help workers with low-cost instalment finance to purchase necessary life-enhancing products such as mobile phones and basic appliances. The platform facilitates daily transactions across 5,000 agents using its web POS (point of sale) to process transactions for telecoms, utilities, cable and internet, and game companies. Personal finance companies like PPF and ACS have dabbled in small consumer loans with high credit losses. MobiVi has attempted to mitigate this risk by tying up with the employers of customers – however, the business model will only be stress tested when the credit cycle turns or the Vietnamese economy experiences another round of turbulence. Its investors include Unitus Impact, Experian, Kusto Tiger and SMBC.
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Taipan Partners is a boutique advisory firm specialising in integrated business solutions providing M&A advisory & research, talent management and business incubation services to high-growth, emerging and multi-national corporates, financial services firms and disruptive innovation startups with a focus on Asia.