Editor’s note: Frédéric Massé, EMEA Government Relations vice president at SAP, recently interviewed Erik Simanis, managing director of Market Creation Strategies at The Samuel Curtis Johnson Graduate School of Management’s Center for Sustainable Global Enterprise at Cornell University. The interview, which also will be avilable on the center's website, has been republished here with permission.
Frédéric Massé : What is your evaluation of inclusive business today?
Erik Simanis: The field has evolved significantly over the 15 years since the bottom of the pyramid (BoP) concept was first put forward.[i] The initial vision — one that saw global corporations reducing poverty and profiting handsomely by developing products for the poor —triggered a wave of cross-sector interest and action. For the most part, however, focus migrated to the poverty-alleviation side of the equation. “Inclusive business practices” were championed, and new buzzwords like “mutual value,” “co-creation,” “empowerment,” “impact assessment,” and “public-private partnerships” took center stage. A number of pioneering corporations — from Hewlett Packard, Johnson & Johnson, Dow, DuPont, Procter & Gamble, and SC Johnson — jumped into ambitious projects to solve social ills, with the expectation that profits would naturally follow. After all, according to the pundits, there were billions of these poor consumers facing pressing needs, and there was little to no competition standing in the way. It was a classic blue ocean opportunity.
But the reality of these markets turned out to be quite different. While many initial BoP pilot projects offered compelling (albeit anecdotal) evidence of positive community impact, rarely could they show a realistic path to profitability — particularly within the investment time-frames expected by corporations. Consequently, a number of corporations are turning away from BoP investments. And those that do move forward typically do so as corporate social responsibility or philanthropic projects without the expectation of competitive returns.
This waning of corporate interest in BoP as a business opportunity, however, has been offset by a surge of interest from the non-profit and governmental sectors, where “market-based” development models — models that integrate a sales component in order to recover a portion of the costs involved in providing services to the poor — are seen as a way to complement and better leverage donor funds. But what classifies as a successful market-based development project is a far cry from what’s required to make a corporate BoP venture investment worthy. While the growth in non-profit social enterprise is itself a positive outcome, the BoP concept is in danger of losing what made it unique —the marriage of corporate profitability with social impact.
FM: What went wrong?
ES: I believe BoP scholars and managers (myself included) became so preoccupied with the social mission that we lost sight of business fundamentals and the realities of working within corporations. Again, most of the focus went to tackling the poverty-alleviation and the global development side of the equation. To date, business recommendations have been very broad and generic, like “partner with non-profits” and “co-create with consumers.” And as far as the business model was concerned, the field essentially took for granted CK Prahalad’s initial theory that these markets were best served through low-margin, high volume strategies.
But if that were all that stood between corporations and the proverbial fortune at the BoP, the problem would have been long solved. The reality is that there has been a dearth of rigorous research into key drivers of business unit profitability and into solving the extremely challenging economics of these markets — such as high operating costs, poor economies of scale, constrained consumer reach, intensive customer acquisition and retention requirements, and slow demand growth. As I’ve written elsewhere, the low-margin, high-volume model rarely works in practice, as it requires two enabling conditions that invariably aren’t present: one, the company has to be able to leverage its existing business infrastructure and downstream channels used to serve wealthier customers; and two, the product has to be one that consumers already know how to buy and use.[ii] When companies face having to create a new sales channel and/or commercialize a product that requires considerable consumer learning and behavior change, a high contribution per transaction is required for profitability. Driving down variable costs and pushing up price points requires a suite of strategies, including bundling products, using refillable format packaging, aggregating customers in groups, and layering in “knowledge-based” services that carry low variable costs[iii].
Until we re-dedicate ourselves to solving the profit challenge and reversing the corporate disconnect that’s arisen between the BoP concept and core business operations, BoP ventures will remain sidelined in CSR departments where they will be starved of growth capital. Because generating profits is the engine that drives the corporate system – without competitive profits, there is no business, regardless of how much social impact stands to be created. Arguing against this reality is simply failing managers whose annual performance and long-term career success are determined by their contributions to delivered profit.
FM: What do you mean by corporate disconnect?
ES: By “disconnect” I ultimately mean that there is a failure of communication. The way the field talks about and urges companies to practice BoP strategies fail to align with the mindsets, core routines, and — most importantly — the responsibilities and obligations of managers inside large corporations. It is a misalignment that happens at multiple levels — from the top management team responsible for articulating the strategic intent for resourcing BoP investments, through middle managers tasked with operationalizing BoP strategies and making a concrete business case, and down to field-level project teams in charge of pilot execution and demonstrating proof of concept[iv].
We as a field need to respect and embrace the institutional context of the corporation. Just as non-profits and governments cannot and should not operate as profit-seeking corporations, corporations cannot be expected to “do BoP” the way a non-profit or governmental organization would. NGOs who are working with donor’s grant money can optimize programs to address complex socio-cultural issues faced by the poor — such as empowerment, gender equality, food security, and malnutrition. Corporations, who are accountable to shareholders yet dependent on the patronage of consumers to fund operations and generate required returns, have to be singularly focused on delivering ever-greater value to customers in the most efficient way possible. If they fall behind on either of those parameters (customer perceived value or operational efficiency), the business will simply fall to competition, or be forced to disinvest and seek out opportunities that do satisfy investment targets.[v]
So if corporations are to make BoP part of their core operations (i.e., the profit and loss side of the company), BoP has to be first and foremost about selling products to the poor as a means of generating returns that are competitive with alternative uses of capital. Development impacts have to become a byproduct or positive externality of activities that drive profitability in the most efficient and rapid way possible. A key implication of this is that corporations’ primary means of creating positive social impact is through the functionality of their products. Certainly, corporations selling into BoP markets will contribute to local economic growth, employment, and other development parameters. But the scale and scope of that impact will be necessarily small compared to the number of consumers reached by their products (you can’t hire more people than you sell to!). That fact may come across as underwhelming to the field, particularly in light of the revolutionary changes and social impacts that pundits envisioned. But it’s the kind of impact that is doable and sustainable. Over time, the incremental impact of thousands of profitable corporate ventures will bring about radical change in the lives of the poor.
FM: Is there reason for optimism?
ES: While my analysis may sound pessimistic, I am in fact very bullish about the future of BoP in corporations. For one, we already have a stellar example of a new industry built on serving low-income consumers that “mainstreamed” once it cracked the profitability challenge — that industry is microfinance. As many already know, microfinance institutions lend to very poor consumers who lack collateral. Much attention has gone into evaluating the development impacts of microfinance; little, however, has been written about how elements of the business model — such as gross margins that reach 60-70 percent, and the use of a group customer to aggregate demand and increase the customer load per salesperson — allow the business to profitably serve remote and costly-to-serve consumers. The competitive returns enabled by this model have allowed the industry to attract billions of dollars of capital. Microfinance companies in Mexico and India have even floated successful IPOs.
Second, through my project work and consulting at The Samuel Curtis Johnson Graduate School of Management’s Center for Sustainable Global Enterprise at Cornell University I am seeing a new wave of corporate interest in this “business fundamentals” approach to BoP. We recently completed a three-and-a-half-year partnership with SC Johnson in Ghana to test a new channel targeting the rural poor for mosquito-control products that could help prevent malaria. We’ve also worked with consumer-products giant Unilever — manufacturer of global brands that include Wheel detergent, Pepsodent toothpaste, Knorr soup, and Lifebuoy soap — to profitably reach low-income consumers in Africa and South Asia. Those projects have all been continually guided by rigorous financial modeling with a clear line of sight on key cost and revenue drivers, and the penetration rates, price points, and gross margins required for operational profitability. In Latin America, we are coaching managers of Arcor — one of the largest food companies in the region — under a recently-launched market creation program aimed at BoP communities. Additionally, the global cement company Lafarge has signed on to be part of the first cohort of managers in our Market Creation Accelerator — a field-based program that facilitates “deep dives” into BoP business models.
Lastly, through my research I am encountering a new breed of corporate BoP projects by companies such as BASF, Lafarge, and Barclays. These projects — ones driven and owned at the country-office level — have a short-term sales orientation aligned with the typical country office’s more constrained investment timeline (typically 2 years and less) and limited resources for new product development. But by generating quick, low-risk wins, these types of ventures — which often are simply framed as business development, rather than “BoP” — are helping to rebuild internal confidence that low-income consumers are a viable market. It also gives those managers a deeper, more granular understanding of the business challenges and opportunities they present. In essence, these ventures are building a critical organizational and capabilities foundation. With that foundation in place, I fully expect to see these and other companies eventually tackle the longer-term, higher investment opportunities that can generate the kinds of returns and scale of social impact that we have seen possible with microfinance.
A modified version of this interview was first published in French by Terra Nova, an independent, progressive think tank in Europe.
[i] C. K. Prahalad and Stuart Hart, “The Fortune at the Bottom of the Pyramid,” Strategy+Business, Issue 26, First Quarter 2002.
[ii] Erik Simanis, “Needs, Needs Everywhere But Not a Market to Tap,” in T. London and S.L. Hart (Eds.), Next Generation Business Strategies for the Base of the Pyramid: New Approaches for Building Mutual Value. Upper Saddle River, NJ: FT Press (2010).
[iii] Erik Simanis, “Reality Check at the Bottom of the Pyramid,” Harvard Business Review, June 2012.
[iv] Erik Simanis and Mark Milstein, “Back to Business Fundamentals: Making ‘Bottom of the Pyramid’ Relevant to Core Business,” Field Action Science Reports, Issue 4, 2012.
[v] Erik Simanis, “Bringing Bottom of the Pyramid into Business Focus.” In R. Genevey, R. Pachauri, and R. Tubiana (Eds.), A Planet for Life, New Delhi: TERI Press (2013).