Business

Formal Business through Informal Means: Targeting the BoP

The McKinsey Quarterly is carrying an interesting article on doing business in emerging markets, particularly the BoP. Titled, A grassroots approach to emerging-market consumers, the article sees the challenge primarily as a principal-agent problem:

A company (the principal) is in a weaker position than the community (the agent) when it comes to gaining local information, shaping people’s views, and dealing with bad behavior—by defaulters, for example—that could disrupt service for customers and company alike.

The article then presents a few examples of companies that have managed to overcome this challenge in the Philippines:

1. Manila Water uses collective billing to ensure timely payment of bills.
2. Globe Telecom delivers small-value bundles through over-the-air (OTA) reloading.
3. Cemex (Mexico) organizes low-income consumer groups to monitor each other and collectively pay off debts.
4. Hindustan Lever (India) employs rural women to operate as entrepreneurial distributors of consumer products in villages of fewer than 1,000 people.

These cases show the way if large formal businesses are to turn the BoP from a potential to a real market. On the supply side the article identifies three models for addressing traditional problems:

1. Collective accountability (Manila Water, Cemex)
2. Scalable, embedded distribution (Globe)
3. Livelihood partnership (e.g. HLL)

It is interesting to note that two of the four cases mentioned use collective accountability - a model pioneered in microfinance, and one for which Yunus deserves more credit than for poverty alleviation.

However, they also point to one fundamental challenge for companies in addressing this informal segment of society - their inability to find other models that work. Yet, perhaps these problems have already been addressed by their competition - informal business.

Communities are frequently in a better position than companies are to resolve issues that make it uneconomic to serve low-income groups.

By being embedded in their communities, moneylenders and informal businesses have long prevented default by raising the prospects of repeated transactions (repeated games reduce the chance of cheating in the prisoner’s dilemma). This also allows local players to monitor agents and increases their local knowledge, reducing the principal-agent gap.

As has been shown, company’s in India do thrive even in the absence of legal mechanisms and protections by using extra-legal systems to substitute for them. Business’ greatest challenge, then, is that it must overcome its own dominant logic that presumes the need for such systems.

© 2006 The Discomfort Zone.