State University Higher School of Economics School of Management

STATE UNIVERSITY – HIGHER SCHOOL OF ECONOMICS SCHOOL OF MANAGEMENT

Bottom of Pyramid (BoP) markets:

How can the concept of BoP markets be applied to facilitate the eradication of poverty in Russia and CIS countries?

Elena Druzhinina 26/09/2010

Moscow 2010 Contents

Introduction...... 3

The characteristics of the Bottom of Pyramid Markets and the applicability of them on Russia and CIS countries...... 4

1. There is money at the BOP...... 4

2. The access to BOP markets is hard...... 5

3. The BoP markets are brand-cautious...... 6

4. The BoP market is connected...... 7

5. Micro financing is a good way...... 8

Conclusion...... 10

References...... 11 Introduction. Poverty is a problem of the whole world today. But the existence of poverty is not the only problem. It rises a conflict between poverty and prosperity. The more income of different social groups differs, the lower social stability it brings. One indicator of income difference is so-called decile coefficient that shows the relation of incomes of 10% of the “richest” to 10% of the “poorest” in the country. Usually critical value of a coefficient is 10 and the value higher that 10 indicates an unstable situation. The value of the decile coefficient in Russia in 2006 was 16,9. (Gini coef.) Complete elimination of poverty seems unrealistic today. What is real is making such conditions that poverty and prosperity could normally coexist. This implies the idea of rising living conditions of the poor and giving them a chance to improve their lives. But in order to improve their lives, the poor need some kind of rising income. One way of this is a special approach to the poor, and in this paper it is going to be described. Usually elimination of poverty is the work of the government and the Non- governmental organizations (NGOs). But another actor whose work can be effective is business. Working with poor people can be a part of the corporate social responsibility approach. I am going to describe the idea of Bottom of Pyramid (BoP) markets. What is it? If we imagine all people as pyramid, the people with the lowest income are going to be at the bottom. So, “Bottom of Pyramid” defines the poorest social class. The idea of the “Bottom of Pyramid” markets has been discussed among several economists such as Prahalad, Johnson, Hart etc. The main idea says that the poorest are to be taken as a market base. The companies should focus on the new type of products – products for the BoP. The poor are to be treated as customers, not as a aid recipients. “The poor represent a significant latent purchasing power that must be unlocked”, Prahalad says. They start purchasing the products, and this increases their self-esteem. In this work I am going to describe the idea of BoP markets, the ways business can do it, some examples of BoP markets work and the perspectives of the development of BoP markets in Russia and CIS countries. The characteristics of the Bottom of Pyramid Markets and the applicability of them on Russia and CIS countries.

1. There is money at the BOP. The countries representing BOP markets have a huge population. For example, China’s population is 1.2 billion and an average per capita GDP is $1000, so China represents a $1.2 trillion economy. If we convert it into dollar purchasing power parity (PPP), it is already a $5 trillion economy. The same way, in PPP terms, India is about $3 trillion. 9 countries – China, India, Brazil, Mexico, Russia, Indonesia, Tukey, South Africa and Thailand, together they represent a $12.5 trillion economy in PPP terms, and this represents about 90% of the developing world. The problem is that particular people in developing countries can not afford buying the same things than the others can, so their purchasing power can not be compared with the purchasing power in the developed nations. The power of the poor is locked now. Why? The answer is, today many poor tend to live in “high-cost ecosystems”. The poor have to overpay from 5 to 25 times for many services, starting with mobile phone calls and ending with credits. Prahalad says, the poverty penalty exists everywhere, but it differs only by it’s magnitude. For example, in India, the poor pay 600 to 1000 percent interest for credit. The reason of this is that credits for poor are considered to be risky [Prahalad, 2009]. Do low-income people in CIS overpay for the products? When we speak about credits, these principles work. For example, a credit without pledge and warrantor may cost up to 50% interest [Bank of Moscow, 2009]. The banks that offer credits with lower interest rate require income information and credit history. So, the credits with lower rate will be denied to poor people. This makes poor overpay for credits, but they usually can not afford such expensive credits. That is why we can say that there is almost no access for credits for poor in Russia and CIS countries. The situation is changing now in Belarus. In July, 2009 a new decree was signed by president Lukashenko. In the decree it is said that the banks should offer credits up to 3 years with 10% interest for the low-income groups. The right to these credits belongs only to the people whose net income per member of the family for previous 3 months does not exceed threefold average monthly 4-member family budget per capita. The government compensates the bank losses [The “poor” get credits…, 2009]. This raises the purchasing power of the poor in Belarus and people have a chance not to save money to pay for the credit, but buy more.

Проблема: будут подделывать доходы куча народу, брать куч кредитов в разных банках – оч запарно, кто будет этим заниматься??? The same situation is with many other goods. For example, price for mobile phone calls is cheap if you make a lot of calls, but it gets much more expensive if you make few calls. The problem for the poor is that they have to save every minute of calls to pay fewer, in a result they pay more for every call. They would choose different charge rate if they could afford a fee. So, we can see that it is the similar situation in Russia as around the world. The poverty penalty exists, and the reason of it is the same as everywhere – inefficiencies in access to distribution and the role of the local intermediaries [Prahalad, 2009].

2. The access to BOP markets is hard.

Prahalad says that the access to the BOP markets is hard; the companies face problems with distribution, advertising, lack of knowledge between consumers. Access to distribution in rural areas, where many poor live, is sometimes hard because of the absence of television and internet there. Rural areas sometimes even called as “media dark”. Prahalad affirms that wireless connectivity may reduce the problem of the lack of information. He says that the presence of wireless connection will help the poor to have the access to the information of new products, services and opportunities [Prahalad, 2009]. The problem that arises in Russia is difficult access to telecommunications in some regions. For example, in Omsk region only 45% of population can watch at least 4 television channels, and only 2% of rural population can watch at least 2 channels. The wires connecting the clusters are old, and the wireless connection is absent in many areas. Wireless connection is unavailable in many areas because of the geographical factors: long distances between clusters, hard climate, and the taiga around. In this case, the only way could be is adoption of digital radio broadcasting. In urban areas, there is usually no problems like this one [Sibina, 2009]. Overall, 99.4% of population in Russia have an access for television, 90.2% can watch 3 or more channels and only 0.6% do not have an access for television [Television broadcasting coverage, 2008]. By the way, only 19% of Russia’s BOP market is rural because of the intense urbanization during the Soviet period [Hammond, 2008]. But even if the broadcasting can be problematic, word-of-mouse is very popular in Russia and CIS countries. For example, according to comScore researches, Russian people are “the most engaged users of social media in the world” [Fresh Networks, 2009]. Similar situation is in the CIS countries: 50% of the users make their first steps in the Internet through social media, and only after this they discover other kinds of work in the Internet such as e-mailing, searching etc [How to earn money in networking, 2009]. This means that social networking could be a very promising way of advertising. The users do not only message with their friends, but they can make discussion groups etc. This can make goods advertised, but the companies should remember that bad public image of the product will spread among the consumers very quickly. The popularity of word-of-mouth makes network marketing successful. There have been 3 374 900 network distributors in Russia in 2008, and this is about 5% of world number of distributors in this kind of business [Polukhin, 2008]. Actually, the cost of entering network marketing is pretty low, so it could be very useful in BoP markets. Russian people and people from the CIS countries tend to communicate a lot; they direct at people’s relations more than at the result. So, projects such as Avon Ladies must be very successful here, especially if the companies tailor some of their products at the BOP (their price, brand and quality should be acceptable). So, at this point, I would say that the access to BoP markets in Russia is easier in urban areas, but it is very hard in some rural areas where many people have little access to telecommunications. According to The World Bank, the likelihood of poverty in Russia is more in the rural areas: 30% of rural population lives under in poverty, but the percentage of poor urban population is only 15.7%. What’s about urban areas, the percentage of poor people in Moscow is 6.6%, but in the other cities the percentage of the poor is 17% (in 2007) [Russian Economic Society, 2007]. This means that the BoP markets will be more acceptable outside Moscow and other big cities, and especially in rural areas. Developing business connected with BoP will be connected with rural problems such as telecommunication absence. Thereby, until the telecommunications are better developed, word-of-mouth systems could be profitable, they will help to raise sales and network marketing may help poor people raise their income.

3. The BoP markets are brand-cautious. Prahalad affirms that in spite of the dominant assumption that the poor do not bring much attention to the brand, they actually are brand-conscious. They are also very value-conscious. The reason of this is the aspiration to a new quality of life, because a better life is the universal dream, especially at the BoP. What’s about value, BoP consumers always try to buy products of the best quality that they can afford. Actually, these consumers make the managers pay more attention to the costs of development, manufacturing and distribution [Prahalad, 2009]. Brand-consciousness became popular in 1990s all around the world, when brands associated with “cool” life, especially among the poorest people [Klein, 2004]. In Russia and CIS countries they became popular at the same time, after Berlin Wall fall, when people got access to the western goods and brands. Today it is still very popular among low-income people in CIS to have brand goods, even if the number of cheap counterfeit “brand” goods raises. Many small dealers sell counterfeit products using famous logos, and they do not afraid of penalties, because their business brings too much money [Vankaev, 2008]. Such approach brings a message for multinational corporations: they already have famous brands, they are already known for their goods’ value, so they are the ones that need to enter BoP markets today.

4. The BoP market is connected. As it was said before, networking communications are very popular in Russia and CIS. Actually, the network devices are spreading among the poor today, and cell phone using gets popular in many of the developing countries. The growth rates of cell phones using at the BoP ad the current size mean that the market is going to bloom. The cell phones are getting available and the price per hour of calling is getting available, too. PCs are also getting available, and they provide a variety of opportunities such as videoconferencing. This will bring the intensity of connectivity among people of the BoP. With all the technologies such as PCs, access to the Internet, television and cell phones the poor get the access to communicate with each other, with the companies they purchase products in, and they have an opportunity to engage a dialogue with the larger community. After all, BoP consumers are ready to buy new technologies, they are ready for them and if the companies remember this, technologies at the BoP markets can make a big change [Prahalad, 2009]. Speaking about Russia and CIS, it is important to say that the situation here is a bit different. While most of the people have cell phones, PCs are still not affordable to the most [Business press, 2009]. As I have said before, some people in rural areas still don have an access to the television, and in the same areas of course they do not have an access to the Internet. The first step of implementing information technologies to the poor, it is important to provide good radio signal to all the areas first, so that most people could have an access to television and cellular communications. Only then it becomes possible tailor goods to the consumers: the poor may not need rapid PCs with huge memory, but at least they should be affordable. Then, the price of cell phone calls and the Internet should be affordable. This will make communications easier for the BoP, and this will raise the amount of the opportunities for the BoP, it will be easier for them even to start business, and is not it the way out of poverty?

5. Micro financing is a good way. It is said that everyone should have an access to credit. But it is usually hard to get credit from a traditional banking system for the poor. The poor can have an access for credit from the local moneylenders, but the interest is too high, sometimes it is up to 20% per day, so credits like this give no change to get out of poverty. Micro credits for the poor is a good way out. For example, Grameen bank implemented such project in Bangladesh, when they offered lendings for the poor, and they used peer group evaluation to minimize the risks of not returning. Also, they focused on women because of their responsibility and devotion to peer groups. Each project is certified by five peers. The people who lend money visit the villages very often, so they get familiar with families and peers of the women taken credits, they also know the projects that the women are supposed to invest in. When peers recognize that it is their interest to do so, the contracts become enforceable. Today Grameen Bank provides micro credits to more that 3 million people in Bangladesh and the average loan size is $15. Actually, the Bank got 99% of repayment and this was the highest repayment rate in the Indian subcontinent [Prahalad, Hart, 1999]. Will this system work in Russia and CIS? Unfortunately, I’m afraid that not. At first, the cost of starting business is high enough: the tariff of business register, the minimal sum of authorized capital stock, the office rent… And most of the new businesses will face strong competition, so they will have to invest in value of the goods and advertising. The amount of money needed to start business in CIS would not be applicable for “micro” credits. At the second, in CIS the system of peer pressure and peer guarantee may not work. Because of huge political and social changes happened in the 1990s, the social norms were shaken and today peer pressure may not be a sufficient reason to repay the loan. In this case, material guarantees such as income information works the best, and even the system of warrantors is debated. Maybe few years later, when social anomia will disappear and social norms will be asserted, the peer system may be appropriate. Conclusion.

In the conclusion it is important to say about the prospects of establishing the Bottom of Pyramid markets in Russia and CIS countries. In my work I have come to the following conclusions: - The number of the poor is huge in Russia and CIS countries, so there is a huge base for the BoP markets, - The poor overpay for many goods, so it is important to sell products appropriate for their abilities, - Most of the poor in Russia live in rural areas, where many of them do not have an access for communications, - The word-of-mouth is very popular in CIS, so it can work as a good way of advertising and promoting, - Brands mean a lot in Russia and CIS, - The availability of information technologies may help the poor to communicate better and engage a dialogue with a larger community, - Micro credits are very difficult to be implemented today with the current banking system and the system of social norms, but if the banks introduce a new system appropriate to our society, micro credits may become available for the poor.

So, we can see that, as Prahalad said, the implementation of the Bottom of Pyramid markets need a change in marketing and in a whole business approach. A huge variety of companies is needed to make a BoP market successful: the companies that can make radio broadcasting available in rural areas, the companies that can make information technologies affordable for the poor, the multinational corporations with recognizable brands with good products’ value… This may unlock the purchasing power of the poor that is pretty well locked after the 1990s. The higher purchasing power may end up with a higher GDP per capita, and this may become a good indicator of sustainability. But the implementation of the BoP markets is not only the challenge for business. It is a question for the local governments: how to interest business in investing in BoP products? What should be done in the regions with a low amount of money? If all the actors are interested in implementing a new system, only then the first steps forward to a new society, development and sustainability can be done. References.

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