Correctly Understanding the Characteristics of BOP Business and Developing Relevant Strategy

Jianmin Jin, Senior Fellow

April 27, 2012 (Friday)

The global financial crisis which originated in the US and evolved into the European debt crisis continues with no end in sight. As a result, global companies have changed tack and are now more interested in emerging and developing countries than developed countries such as Japan, the US, and Europe, which have small prospects of economic growth. Japanese companies are rushing to develop new markets; rather than the middle class, they are showing great interest in business targeting the Base of the Economic Pyramid (BOP), i.e. the economic stratum composed of low-income earners (less than $3000 in purchasing power parity (PPP) per person per year), in particular.

Why Global Companies have Turned their Attention to BOP Business

The BOP has a population of 4 billion people and is expected to become a market worth more than $5 trillion. In the past, companies around the world were uninterested in developing the BOP market due to its weak purchasing power and lack of market infrastructure. However, some innovative companies (mainly local companies and European and American corporations) were able to analyze income in the BOP in greater depth and create innovative business models, thereby succeeding in practically increasing business profitability and proving that purchasing power can be cultivated within the BOP as well.

Meanwhile, BOP market infrastructure is gradually being built. First, due to developing urbanization, the BOP, which has traditionally been spread throughout farming regions, has begun to gather in and around urban areas, and companies which concentrate on supplying products and services to urban citizens have expanded their distribution networks, thus allowing access to the BOP. Second, ICT has permeated the BOP, creating an environment for market trading. In other words, a virtual distribution revolution has begun. Furthermore, NPOs, NGOs, and development assistance agencies have realized the importance of using the strengths of the private sector and they have now begun to bring in capital and technology from private companies and to provide them with access to their BOP-connected network.

The confirmation of the BOP’s purchasing power and the formation of market infrastructure are the primary reasons for the BOP coming under such scrutiny.

Japanese Companies’ Doubts about BOP Business

However, Japan’s analysis of the income structures and consumer habits of BOP strata around the world is lagging behind and the country has few NGOs and NPOs operating on a global level. As a result, Japan’s recognition of the BOP’s purchasing power and its channels through which to connect to the stratum are both insufficient. Therefore, Japanese companies are under the impression that the BOP market is simply business targeted at the “the poor,” who have only basic survival needs and require nothing more than “low cost, low quality” goods and services, and these companies are very uncertain about the profitability and sustainability of such business. Furthermore, worried that they may be caught up in price competition and their brand value fall, most companies exaggerate the risks and fail to move beyond the theoretical phase.

Most Japanese company executives also tend to notice more business targeted at the middle class concentrated in urban areas, because its purchasing power is more obvious and existing market infrastructure can be put to good use. Consequently, they are very conscious of problems such as whether or not the BOP is really marketable and what kind of business strategy is necessary for entering the market. However, there are now many companies among leading western companies as well as local companies, of course, which have placed BOP business as their core business. A new mindset is needed to help the advancement of BOP business in Japan.

Determining BOP Marketability Using Discretionary Income

In fact, when determining the marketability and purchasing power of the BOP, one should look at things from a dynamic market structure perspective. That is to say, there is great potential for the low-income level of today to become the middle income level of tomorrow in emerging and developing countries with rapid economic growth. According to a survey by the Euromonitor International, it is estimated that the population of low-income strata in developing Asian countries will decrease by half, from 2.5 billion in 2000 to 1.15 billion in 2020, while the middle class will increase from 220 million to 2 billion in the same time frame.

However, in the highly competitive global market, if a company waits until a consumer enters the middle class before trying to gain their business, it is often already too late. In other words, global competition has already entered a stage where companies need strategies for cultivating their own customers. It is necessary for companies to make their products and services—their brand—familiar to the BOP. It is important to increase demand stickiness and lock in customers for one’s own company.

Next, companies must also consider the perspective of discretionary income necessary for “creating markets.” If we categorize low-income levels by greater and lesser discretionary income, we see that the low-income stratum has “purchasing power”, too. In other words, it is necessary to have a different strategy for each income level. According to a survey by the World Economic Forum (WEF), discretionary income of the top level of the global BOP (PPP of $2-8 per person per day; 1.1 billion people) is approximately 32% of income, which is more than sufficient “purchasing power” to allow for product selection.

Harvard Business School’s Professor V.K. Rangank and Professor Michael Chu divide the BOP into the same 3 sub-levels but propose two different BOP strategies. Their criteria for categorizing income levels are different, but their ideas on strategy are the same.

1. Low income ($3-5/PPP)
2. Subsistence ($1-3/PPP)
3. Extreme poverty (<$1/PPP)

Revolutionizing Business Models by Cultivating and Using “Purchasing Power”

However, the expenditures of individuals in the BOP are small: consumers are all micro-consumers, and they are scattered from the outskirts of cities to farming areas. Therefore, the issues to be considered are how to deal with micro-consumers and how to concentrate a scattered market or lower the cost of accessing the market.

I propose the following business model innovation:

1. Devise a way to micronize normal goods and services (e.g. smaller packaging, installment payment plans), or a way to normalize mirco-consumers (e.g. group purchasing).
2. Train buyers to become sellers and/or systematize (formalize).
3. Use ICT to connect the scattered BOP market, realize merit of scale.

An oft-heard example of the micronization of normal goods and services is Unilever’s move to smaller packaging of consumer products and microfinancing, but there are good examples in other fields as well. For example, Bhati Airtel, the largest mobile communication services company in India, reduced their call-time billing units from minutes to seconds, thus increasing demand from the BOP. Further, an example of normalizing the unstable, micro-purchasing power of BOP consumers can be seen in the BOP-targeted loan business of India’s ICIC Bank. Their business model is to lend money to a Self Help Group composed of 10-20 people and have them all take collective responsibility for repaying the loan, rather than providing microfinancing to each individual consumer.

Creating Value Together with the BOP

As seen above in the subcategorization of BOP levels, the lower the level of income, the less discretionary expenditure is available and the greater the risk for a company trying to turn a profit. In order to hedge this risk, companies must form close ties with NGOs, NPOs, and government bodies which are involved in regional development. The reason for this is that non-profit groups such as the World Bank, government departments, and NGOs refrain from publicly intervening in levels with a lot of discretionary income in order to avoid market distortion, but using the power of private companies they have taken an active policy approach to combat poverty in the extreme poverty level (<$1/PPP), of course, and also the subsistence level, which had not been a concern in the past.

Furthermore, when businesses target lower income levels for business and make a profit doing so, the backlash from society is strong. For example, when SKS, a micro-financing company in India, first went public, it was criticized by politicians and society alike as a “business which wrings money from poor people.” Therefore, it would be prudent to refrain from “selling” too much to the extreme poverty level. In fact, non-profit groups, NGOs, and public institutions should prioritize helping citizens in the BOP to escape from poverty. As a result, B2G business such as public procurement may be created. For example, the oft-cited case study of Sumitomo Chemical’s Olyset Net mosquito netting is a BOP business that succeeded in large part due to the procurements by public institutions such as UNDP; one could say it is a BOP-targeted B2G business.

As we have seen above, Japanese companies should carefully examine the income structure of and changes in the BOP and put their strategies into action. Through such practice, they will accumulate market development know-how, BOP business will become more attractive, and a great contribution will have been made to the growth strategy of Japanese companies.