Operational Viability of Farm Service Providers & Input Aggregators

Globally, while the recurring subscription-based revenue model is the mainstream revenue for pre-farm service providers, Indian entities providing stand-alone pre-farm services, offering a mixed hardware-software services model have found it challenging to levy fee for recurring services on a SaaS basis with smallholder farmers. The limited success has been with larger acreage horticulture farms, but the service providers focused on horticulture farms are quite limited. A large part of the services remains focused on row crops, and a smallholding farmer’s limitation in that segment to afford fee-based services has remained a challenge.

In a corporate subscription model, the service providers have predominantly gained from insurance companies to monitor crop quality and assess risks. However, competition among multiple service providers has narrowed the fee income from the insurance sector. Since Indian farmers do not rotate crops too often, the value of the data is felt to be less critical for every successive crop season, disrupting the subscription from insurance companies in consecutive years.

Other corporate subscribers from the seed industry, crop protection, and crop nutrient sector have also explored these services. However, since they were offered pro-bono by most of these companies to secure farmer access through them, the revenue realization from corporate customers has been relatively low. In the last five years, input providers in the seed, crop protection, and crop nutrient segments have also initiated their data science-driven services to their farmers on a pilot scale, giving competition to third-party service providers. For example, Bayer has created their digital package from Climate Corp in India as a pilot in row crops. Some of the seed companies (such as Seed Works and Corteva) have adopted digital solutions that are custom developed.

However, we have not seen their farm input services providing any positive revenues beyond the direct cost they have incurred in sourcing the farm input merchandise, as they delivered these products at a discount to their procurement price to penetrate highly competitive markets.

Input Aggregators

This segment is not unique to India, with the initial focus of corporate enterprises engaged in providing total crop input products such as pesticides, seeds, nutrients, and irrigation equipment by placing brands of other manufacturers in their retail outlets. Corporate retail networks from large agri input providers (Coromandel, DCM Shriram, Mahindra, et al.) prevail currently in many states. Initially, all these retail networks focused on the physical visit of the farmers to nearby stores to procure a range of products beyond the brands owned by the company.

Tata Chemicals was the first to create Tata Kisan Sansars in the mid-nineties in the northern states, with distribution outlets in key agro zones of North India. They stored many third-party products in addition to their own products, providing total agri solutions with extension services to member farmers. DCM Shriram, Coromandel, and Mahindra have a comprehensive distribution system in some states with a dominant presence for their own and third-party brands. The crop input products are widely delivered by brands across the country, mainly through an extensive network of micro dealers located across the country. Over a hundred thousand farm input dealers across the country provide access to farm input products to smallholder farmers. Micro dealers of farm input products generally have multiple brands in each segment. Large companies have heavily invested in their retail network and information systems over the years to ensure customer retention.

We estimate the current distribution of farm input products through an extensive corporate-owned retail network to be US$ 1.2Bn factoring in all the formats and assortments in the distribution network. In the last five years, several early-stage companies have taken retail distribution with online order booking and physical delivery through mobile portals for farmers, where they can log in and place orders. Some enterprises have embedded rudimentary farm advisory to attract farmers to their application platforms. These asset-light companies have enrolled farmers by placing third-party products.

A few have avoided warehousing products and have relied on local retailers or distributors to ship the products. Most of them have low bargaining power for a deeper price discount with popular brands until they penetrate the market with adequate volume. Almost all of them have discounted the price to the farmer to attract more farmers to their portal, thereby selling popular brands at a price lower than the procurement price. Several portals have attracted fewer known brands to market their products, as new products find the online avenue attractive to place their products.

Operating Model and Viability of Input Aggregators

India’s total agri input market is about US$ 20Bn, not factoring high-value custom nutrients that have region-specific applications. Additionally, there is an informal input sector with products in the seed systems and organic input products that are semi-regional products delivered by micro-enterprises. Currently, online distribution of input products by early-stage companies (not factoring distribution by large corporate houses) at the level of US$ 200Mn is about one percent of the overall agri input products retailed. Higher penetration of online products will be constrained by a narrow margin in subsidy-driven nutrients (constituting three-quarters of the US$ 12Bn market), while the higher market potential exists for enhancing online delivery of crop protection products and seeds. However, with credit driving the crop protection products (generally three months), farmers (or distribution channel partners for online) face liquidity constraints in online payment for crop protection products that will limit their growth.

Several corporate distribution entities have created digital portals to deliver input products to the farmers, coupled with farm advisory services in the last three years. We perceive growth in online distribution driven by almost all corporate brands to accelerate direct sales through their portals. The independent portals will compete and, to a lesser extent, complement the brand portals in the delivery of a basket of products to the farmers.

The critical challenge is negative margins driving independent online portals’ growth due to the low bargaining power of higher trade discounts with major brands. The top four online marketing entities have incurred merchandise procurement costs from the farmers at 95% to 110% of the gross revenue realized from placement to business entities or consumers. Growing online marketing entities have a compulsion to discount the price to attract market for some famous brands resulting in negative gross contribution. The sustainability of this is a challenge due to narrow margins in low-value agri input products constituting the bulk of the input market delivered by the portals. The margins of lifestyle products offered online are far higher than low value agri input products. In the overall market size of US$ 20Bn, eighty percent of the products constitute low-value input products with a net margin of high single-digit to the product makers. The highest revenue accomplished by the No.1 player in this segment has managed to barely recover the procurement price from their sale revenue while incurring all other direct and indirect costs from long-term capital infused and short-term debt funds.

While incurring all other direct and indirect costs from long-term capital infused and short-term debt funds. Some of the smaller players, with revenue of less than US$ 2-3Mn, have posted gross margins due to limited operations and low overheads (Figure 9). However, such enterprises will be forced to incur losses at the gross margin level to attract markets vis-à-vis established players.

Some players have attempted to bring in private labels in crop input products but have seen very few takers as the farmers hesitate to take risks with new products/unbranded products. Realizing the limitation of the online-only distribution system to accomplish growth and gross margin realization, the top independent input provider, has opted to establish an omnichannel presence with physical stores in Western India. Other independent retailers may follow to cope with the competition.

We do not find significant differentiation in tools and analytics adopted by the major players. Similar tools are adopted by the corporate retail distribution houses as well. The revenue from online retail and physical retail outlets of big brands in the country is about five times that of the independent online input retailers. In addition, some corporate retail outlets may hive off their retail entities to scale up to full-scale omnichannel retail outlets, providing higher competition to the upcoming omnichannel initiatives of independent retailers.

Some of the traditional rural agri input retailers are modernizing their farmer connect and supply chain with simple accounting and supply chain tools provided by venture-backed productivity and accounting packages in the SaaS model. In addition, some of the mom & pop retail outlets with current generation ownership in rural India may also improve their operations and customer connect while enjoying low-cost operations and physical presence in proximity to farmers.

Some of the input portals have begun to dispense farmer credit, tractor loans, and gold loan services to augment their revenue. The broad nature of engagement is that of a channel partner, providing a gateway to the credit provider to access the farmers, while a couple of them have raised PE funding to provide loans themselves.

There are number of challenges faced by all the early-stage online input providers :

Lack of Qualified Professionals Providing Farm Advisory

Most input providers have deployed non-agricultural graduates for farm advisory with one or two experts retained to oversee them. The agriculture universities have enormous expertise in their call centers to advise the farmers, and some of the large agri input brands too have extensive extension professionals (agronomists). However, the power of the early-stage companies to provide quality advisory is currently minimal. We have observed farmers downloading multiple apps for input procurement and relying on their traditional sources of farm advisory due to the trust factor.

Delivery of credit products such as farm loans and gold loans are outside the ambit of the general retail channel, and there is potential regulation that may hinder the continuance of such channel distribution. Delivery of regulated financial products through the unregulated delivery channel is already a concern flagged by the national regulators, and this may hamper enlarging the credit delivery opportunity for input providers.

Gross margins are going to be challenging as the entities grow in revenue. We expect gross margins to be accomplished at the level of 7 to 8 percent when online input providers gain market presence with revenue of over half a billion US dollars, which would provide economy of scale in bulk input products (Figure 10).

Source - Sathguru Analysis based on MCA annual financial reports
Note- FY 2020 financial data considered for 8 samples

However, with high overheads and enormous capital employed by the enterprises, net margins are expected to be two to three percent at that revenue level. This is true of major agro-input distributors worldwide who are engaged in the distribution of third-party products. Corporate retailers have far higher margins in their brands while realizing low margins from third-party products. Most corporate retail entities are profit centers or SBUs independently sustaining their operations.

The entry of major retailers such as Reliance, Amazon, and others in agro-input products with a deep investment in the front line and back-end infrastructure will further open acute competition among the independent input providers. Our analysis of the top five players in this segment indicates that enterprises have deployed successive doses of equity to meet the accruing losses while resorting to debt funds to hold current assets such as inventory and receivables. Survival will be limited to those who can raise fresh capital with successive doses to meet the losses and invest in incremental working capital needed to enlarge the operations. Reversal of cash burn is not going to be the near-term possibility. We expect high mortality in the segment, with several input providers not securing later-stage funding to sustain the losses.

The investment in the input provider segment has been primarily made by PE/VC investors with a valuation at multiples of 10 to 20 times to revenue (some exceptionally at 40 times the revenue) (Figure 11). Since all of them have negative EBIT, the valuation is primarily based on the gross merchandise value accomplished by the input providers.

With wafer-thin margin in input products, the valuation is expected to be substantially reduced with incremental competition and narrow growth accomplished by most players compared to expectations. For eighty percent of the players who have secured two to three rounds of funding, the revenue to investment ratio is currently 1:5, and this level of valuation is far beyond valuations prevailing in any organized market for agri products with high growth potential. Moreover, for several players with a basic delivery application of agri input products, having no service differentiation, the driving element is neither digital tech nor disruptive distribution. Therefore, we expect high mortality among the input distributors who will not see their successive funding during 2022-23. Most vulnerable will be twenty-plus entities who have struggled to secure series A funding in the recent months.