Sustainability of Output Aggregators, Integrated & Post Farm Service Business Models

Multiple output aggregators have come into play to aggregate produce at the farmer level and provide bulk or packaged products to business entities, retailers, or directly to consumers. The goal is to promptly address market failure in connecting farmer produce to markets with supply chain efficiency and price transparency. Traditionally, Indian fresh produce was prone to substantial post-harvest loss, estimated in the range of 25% two decades ago caused by lack of warehousing, supply chain imperfections, and fragmented markets. The agriculture produce market in India has always been a vexed issue, with significant State control on produce aggregation and procurement. However, several states have significantly amended the market laws and structures to facilitate private markets outside of the Agriculture Produce Marketing Committee (APMC) over the last decade. While the three laws proposed by the current government to amend some of the continuing challenges, farmers’ preference for the status quo reflects the slow process of change in bringing any modifications to market structures in other states. Each of the three laws proposed to address market imperfections relating to contracts for procurement, procurement by the private sector, and warehousing. However, all three bills have been shelved with prolonged protest by the farmers from the northern states.

Government effort to unify the markets across the country through electronic National Agricultural Market (e-NAM) by enabling inter-state trade in an online trading platform has witnessed plodding progress due to several states not yet aligning their laws to facilitate e-NAM.

The promise of Minimum Support Price (MSP) for food grains and the power of the State to fix the procurement price prevails for food grains in some of the prominent food grain-producing states. However, not more than a quarter of the primary farm produce has been under the procurement mechanism of the states. Corporate procurement in India by large entities (Tata, Cargill, ITC) prevailed for a long time, with companies such as Tata, Cargill, and ITC engaged in large procurement of grains and other farm products directly from farmers over the last decade. Spice processors have long-established direct linkage with farmers to source their spices. Potato processors have engaged farmers direct to grow and supply potatoes by providing seeds and other inputs and procuring the produce from the farmers. Corporate procurement (including procurements by co-ops) has differed for different products, almost 100% for products such as sugarcane, less than 40% for wheat, and less than 20% for fresh horticulture produce. Growing diversification of crops and the diversity of market players have created non-APMC channels over the years, with an enlarged presence of processors and retailers accounting for the core of the procurement.

Some of the logistics/ trucking companies that are having specialized carriers for perishables are stepping in to provide cold storage services and post-harvest warehousing as incidental services to trucking. The trucking operations with specialized cold chain capacity is quite profitable today, and their ability to backward integrate warehousing is synergic, stretching their activity to farm gate as point of procurement.

Where private players operate, they tend to look to the APMC markets to guide their transaction prices outside the mandi. If players in the trade areas continue to use APMC markets to guide the prices they pay, then the APMC continues to influence prices in new trade areas. In this case, although savings in mandi fees may be passed on to the farmer, private players might not provide a meaningful alternative to the APMC mandis. Considering that the non-transparent price discovery mechanism in APMC is supposedly the evil that the new bills sought to redress, this is not a significant break from current practice.

The focus of the tech applications is primarily to source the produce from the farmers and manage logistics through third-party trucking companies and place the products to intermediary or end-users. Several aggregators have not been able to deliver the products in a D2C model to consumers due to a lack of frontline delivery infrastructure. The most prominent market addressed by the large players relates to providing the produce to business entities, processors, and retailers.

On the procurement front, several of the players have one intermediary entity at the grass-root level to procure products from the farmers as they scale up their operations. However, we have found some still relying on the mandi procurement for supply to business enterprises. In most cases, the procurers with new-age tech applications use APMC markets to guide the prices to pay to farmers, often comparing the marginal gain they provide to the farmers over the APMC price.

We see the continued influence of the AMPC markets and the price mechanism, although savings in APMC mandi fee may be passed on to the farmers where direct procurement is made.

The B2B models among agri-tech firms are less challenging, but even they carry a couple of layers of intermediation for the produce to reach from the farm to the markets. These firms themselves have taken the position of intermediaries, implying reintermediation rather than disintermediation of the supply chain.

The result is that the intermediation by the tech firms has not provided any significant economic advantage in the supply chain process. In the absence of the supply chain infrastructure, the opportunity to optimize cost is limited to bridging imperfections in the transportation logistics that can reduce the cost by 100 to 200 basis points (1 to 2 percent). We have not yet observed net gains for farmers due to these linkages, compared to farmers who provide their produce directly to processors or retailers.

Food retailing has grown manifold in India, as reflected in the growth of major retailers such as Reliance and D-Mart. Grocery retailing has also been very profitable, with top-line and bottom-line growth accomplished by Reliance, D-Mart, and others. While the food retailers have established healthy growth and profits, the intermediary feeders of grocery have significant challenges in establishing clear, gross margins as they try to replace micro and small operators in the intermediary sphere, known as Arthias In some states, smart Arthias are upgrading their tech-savviness and revamping their focus to become value-adding intermediaries.

Such Arthias may be a small percentage of numerous Arthias in the country, but just as Kirana shops are upgrading their outreach, several may adopt better tools and provide services competing with regional aggregators. There are also networks of aggregation centers for fruits and vegetables run by the state governments providing direct market access for farmers growing fruits and vegetables. Two clear examples are Uzhavar Sandhai in Tamilnadu and Rythu Bazaar in Andhra Pradesh/Telangana, which provide excellent farmer-to-consumer connect, duly establishing ten to fifteen percent incremental income for the farmers.

These models reflect that efficiency and profitability are linked to the economy of scale; and functional efficiency, relevance, and economic differentiation are in the aggregation process. It is true that when farmers directly supply to the ultimate buyer, be it the processor or the consumer, the net income for the farmer is certainly higher.

However, any other intermediation, irrespective of the digital connectivity and supply chain digitization, provides minimal incremental gain to the farmer as it only results in one intermediary replacing another. Most investment thesis for investment in tech-enablement has articulated an intolerable level of produce wastage in India without any underlying statistics. However, a well-structured recent study by the Indian Council of Agriculture Research shows that the post-harvest losses of various commodities at a significantly low level – 4-6% for cereals, 4.3-6.1% for pulses, 5.8-18% for fruits, and 7-12.4% for vegetables. There is potential to reduce the food loss further in grains, but significant investment is needed for accomplishing such reduction. There is likely potential to improve the food loss in fruits and vegetables, but the focus of the aggregators is less on this segment compared to bulk staples.

It is also more complex to address aggregation in the fruits and vegetables segment as it would call for even higher investment in logistics and engagement with widely distributed farmers. While we observe each of the tech players having their electronic platforms for procurement, the emergence of numerous procurement platforms that are disconnected from each other would continue to nurture fragmentation rather than unification.

Currently, farmers shift from one platform to another depending on what offers them a better opportunity, but it is limited to procurement players active in their region. There are also challenges in the transaction-related dispute settlement mechanism. In Mandi system under APMC, a dispute settlement mechanism prevails. There have been disputes when farmers have supplied directly to large corporate houses that have attracted political attention for settlement in the past. It is unclear how the disputes or conflicts will be engaged between farmers and the large AgTech firms engaged in numerous transactions. The early mortality of a couple of entities involved in aggregation and delivery has left some of the produce suppliers not knowing whom to approach to settle such disputes. In the absence of the dispute mechanism to address these online transaction defaults, the states may be compelled to regulate these transactions unless more transparency in transaction settlement and dispute mechanisms are implemented. More disputes may arise as the larger, well-funded AgTech companies disrupt the power of existing connectivity between local traders and the farmers.

Single service to Integrated Services

Some early-stage companies have claimed unique service value in providing integrated services. The model reflects holistic services by making input products accessible to farmers and procuring their produce to place them in the market. Additional engagement may involve

• Dispensing credit,
• Providing crop advisory,
• Disseminating insurance products, and
• Checking produce quality for compliance to grades and standards.

The highest capital is raised by one of the top three integrated service providers in the recent past, surpassing US$ 160Mn in multiple rounds within 24 months. The last investment was made at a valuation of ten times the pre-money revenue. The gross margins for most integrated players have not been better than the operators in the input or output segment. The gross margins have been at the level of < 4% (difference between the purchase price of produce and sale price), resulting in almost the entire human resource and operating expenses being unabsorbed even at a revenue level of over a US$ 100Mn. With wafer-thin margins in trading, the top three enterprises may accomplish break-even revenue at not less than quarter billion US dollars. However, at this level, the requirement for their working capital will be in the range of US$ 120Mn due to the support provided for the input-output chain. Predominant investment goes to holding inventory and receivables and meeting operational losses.

Currently, the capital deployed to revenue ratio is even higher for integrated service providers than those focused on input or output segments (Figure 13).

Globally, several corporate entities have engaged in total solutions for farmers by providing input products and procuring output products. However, the intensity of such engagement and the inability to deeply invest in the whole chain, covering every aspect of the engagement, has limited corporate engagement to limited participation in the entire chain. Global companies such as Cargill have exited input businesses such as seed and other materials to focus on output processing.

Even among the new-age companies, Indigo, a US-based company that spread its activity to total agri solutions had to confine to their core area of biologicals for crop improvement when they faced challenges to manage the front-end marketing of produce.

Investment intensity and the resources needed to sustain competitive advantage across the whole chain will limit accomplishing excellence in all the facets of the input-output chain. This is true in India where the infrastructure imperfections exasperate the investment needs and limit the stretch of engagement in the whole value chain.

Some of the integrated service providers have realized the low margins in their current operations and have acquired food enterprises or placed private label products in the market. The experimental models are yet to improve their ability to reduce cash losses.

Some integrated service providers initially commenced their services in a limited sphere, such as testing the quality of milk, fruits, or vegetables harvested by the farmers. However, since the farmers were not forthcoming to pay for such services, they have enlarged their presence in procurement to provide tested products to buyers in the B2B segment. Such enlarged activities will require them to mobilize successive doses of capital to meet working capital requirement and scale-up losses (as the services do not currently recover unit costs) with competitively benchmarked premiums to stay (Figure 14).

There are significant concerns arising in AgTech companies dispensing credit. The warning by Reserve Bank of India in January 2022 indicates that borrowers should borrow only from firms that are registered with Reserve Bank of India or regulated by State Governments. It has also mandated digital lending platforms to state the names and addresses of banks or non-banking finance corporations (NBFC) upfront. It will not be long before these activities are regulated, bringing prudential norms, exposure limits, and reporting obligations.

The fintech activity is also subject to risks far beyond the consumer credit extended by fintech companies, supporting lifestyle products financing. The inherent risk in farming impacts loan realization as evidenced in multiple seasons in the past, and the tendency of the Federal/State system to waive farm loans/farm loan interest as a political decision. Micro Finance entities have faced it in the past and have now fallen to regulated functioning. The capital adequacy of those entities contemplating to engage in direct farm/post-farm lending and the ability of others to dispense and monitor the third-party credit will be under the scanner, as the farm credit exposure by AgTech companies enlarge. Though lending is always profitable in India due to perennial credit gap, farm lending is not necessarily an easy pathway in a complex small farm environment where one suicide by the farmer for default triggers political attention, bringing more stringent controls on the lending process itself.

Currently, the engagement of AgTech companies in channeling credit or providing credit is a fraction of one percent of total non-banking credit in the country but the emphasis of several AgTech companies to embrace fintech services may significantly enhance the risk profile of these ventures, while enlarging the dependence on PE/VC funding several-fold in the coming months for scaling up due to lack of any alternate funds.