The Outperformers 2018

Doughty Milkman

Chennai-based Hatsun Agro has leveraged technology along with its direct procurement model to become a leading milk supplier in the south

RG Chandramogan remembers 1996 vividly. It was the year Hatsun Agro, the company he built from scratch, went public. “It was a disaster,” he remarks. “We overestimated things. Everybody congratulated us, nobody invested in us.” But a passionate badminton player who runs HAP Badminton Centre of Excellence in Virudhunagar, Tamil Nadu, Chandramogan has a habit of making a comeback in business too. The Tamil Nadu-based company’s market cap today stands at Rs.96.53 billion compared with Rs.186.25 million when it listed. 

India’s largest private sector dairy player, Hatsun handles 30 million litres of milk each day, which it directly procures from about 400,000 farmers. With a portfolio of well-established brands like Arun, Arokya, Hatsun and Ibaco, it is now a Rs.43 billion company (see: Watered-down profit).

Litre by litre

Chandramogan, who started off as an entrepreneur in 1970, used to initially sell ice creams on a pushcart. Ice cream was then reserved for the small-scale sector with investments curtailed to a mere Rs.30 million. With a factory in Chennai he continued the Arun Icecreams business for 23 years before he entered the larger dairy segment. “We came to a saturation point by 1990,” remembers Chandramogan. So in 1991 he decided to start another ice cream factory in the then milk belt, Salem. Lesser logistical distance to the markets and lower real estate costs was an added advantage. The two factories were now taking care of distribution across a wider area with the Chennai factory catering to Chennai, Chengalpattu, Kumbakonam and Tanjore while the Salem unit took care of the rest of Tamil Nadu (south and west), Kerala and Karnataka.

In 1992, the dairy sector was opened for private players and in 1993 Chandramogan was there. “The government formalities, in fact, forced us to get into the sector,” Chandramogan says candidly. “To have a better control over procurement we were procuring milk from the farmers for our ice cream factory. In 1992 when the sector opened up we had an established network of farmers. So we decided to get into the dairy business. The infrastructure was ready and in May of 1993 we began.” 

However milk wasn’t what Hatsun went after first. The company instead ventured into milk shake powder which in Chandramogan’s words ‘shook the balance sheet.’ Thus in 1995 Hatsun entered milk initially marketing it only in Salem and gradually expanding to other markets. Arun Icecreams played a crucial role in setting up the milk business without hiccups. Being the market leader in the ice cream segment in Tamil Nadu, the company already possessed marketing and networking strengths. “Both milk and ice cream are perishable products. We had the expertise in marketing in small towns because of Arun Icecreams. It was Number 1 in the state by then. The dealers network also came in because of Arun,” remembers Chandramogan. The brand name and distribution model gave credibility to the company and word of mouth spread when Hatsun was launched. The distributors of Arun Icecreams recommended Hatsun to their acquaintances dealing in milk. “Compared to Arun Icecreams we had less botheration while establishing Hatsun,” notes Chandramogan.

That being said, he was pitting himself against a formidable player. Aavin, the state-run dairy co-operative, was already established as the market leader in Tamil Nadu and had its own strengths since it was a government agency. Aavin followed a model in which it bought milk from farmers of small villages and brought it to big cities like Chennai. “So we started going to the market with small quantities. We went to small stations and had the first-mover advantage among private players. Fortunately for us, as compared to others, we were able to get volume faster, thanks to Arun Icecreams and the credibility we had built,” Chandramogan says. In about eight years Hatsun had established itself in villages, small towns and cities across Tamil Nadu but not without challenges.

Churning up

In Chandramogan’s words, ice cream is a ‘heavenly good business’ as compared to milk. “After buying you have to chill it within six hours, else it will perish. The easiest way to procure milk is to have a local agent. Give him some advance and he will give advance to the farmer, collect the milk and supply it to the company. This was the easiest model but we wanted to go to the farmer directly. This direct procurement model has long-term advantages, but in the short-term, it is highly disadvantageous as you are not a local person and people are not sure of you. So it took some time to establish our name in the villages. In the first three to four months we had to collect lesser milk and bear rents, salaries, transport costs — all of these in the morning as well evening,” he explains.

The direct procurement strategy did work out for good despite the entire industry showing no faith in Hatsun. Once the company started seeing volume, things started falling in place. Meanwhile credibility also got established. Prior to it, the middlemen were an added layer in the supply chain, courting the farmer by giving him advance money and thus making him comfortable. Hatsun effectively removed this layer ensuring better realisation for farmers and earning their trust through multiple farmer-friendly initiatives. The most significant one was bringing the farmers into the formal banking system by routing all the payments through their bank accounts. This ensured two things for the farmers. First, they no more had to borrow from the loan sharks at mind-boggling interest rates. Second, for the banks they weren’t loan-seeking farmers anymore, but customers who commanded respect.

Hatsun’s procurement base today spans across Tamil Nadu, Karnataka, Andhra Pradesh, Telangana and Maharashtra with 70-75% within the home state. According to a 2017 research report by Ambit Capital, focus on direct milk procurement from farmers and building pouch milk business by focusing on systems and processes helped Hatsun capture 14% share of the milk/curd market in the south. The company has around 10,000 milk banks covering about 13,000 villages. Milk is collected from the farmers at these banks where it is tested for quality. Price of the milk is then determined based on quality and the farmer is paid every 10 days. From the milk banks it reaches Hatsun’s chilling centres every morning and evening where detailed tests are carried out. Then it moves to the dairy where final processing is done.

RS Sodhi, managing director, GCMMF, points out how crucial the relationship between farmers and the company — or as he puts it, milk producer and milk processor — is. While dairy co-operatives gave the farmers a bigger role in the supply chain, he notes that many private companies used to buy milk from contractors earlier. “To get good quality milk and to win the loyalty and trust of milk producer, it is better to connect with him directly. When you eliminate the middlemen, both the parties gain commercially also. So that strategy is very good and this also creates competition since that farmer is now free to supply to anybody. Farmer gets better price and processor gets better quality milk,” Sodhi says.

Hatsun does more to gain the farmer’s loyalty by providing them animal husbandry services, better quality cattle feed and so on. “We take care of the animal’s health through a wide number of vets and artificial inseminators. We also have introduced automatic milk quality testing and instant SMS alerts to the farmers with all details. All this helps us maintain better relationship with farmers,” Chandramogan points out.

Growing the pie

When Hatsun entered the market, Aavin was selling toned milk with 3% fat for a low price. Chandramogan’s idea to counter it with standardised milk having 4.5% fat content raised eyebrows among his team members. That demanded costlier inputs, so he proposed selling it for Rs.1 higher than toned milk. The team was skeptical, but Chandramogan was confident. So he went ahead with the plan. Previously for Arun Icecreams, his strategy was to establish it outside Chennai first and then introduce the established brand in the city. With the threat from Aavin looming large before it, he adopted a similar strategy for Hatsun’s milk brand, Arokya. “From 1970 to 1980, Arun was pitted against well-known competitors like Kwality, Joy and Lazza. But competition was lesser in smaller towns. So we went out of the city, established base and came back in 1983. By 1985 we became market leaders here. We adopted the same strategy for Arokya. It was also the time when TV was starting to become common in Indian households and we were one of the initial advertisers. We were thus able to take the market by storm and today Arokya is the second-largest milk brand next to Aavin here. If Aavin commands a 40% market share in Tamil Nadu, Arokya is right behind it with one-third of the market.”

According to Chandramogan, the company took a leaf out of its direct procurement strategy and implemented it on the marketing side as well. It worked out a model wherein it hired a place, for which it paid the rent and electricity bills, and got a franchisee to run the district divisions. “Here again we were eliminating a layer — they have direct connection with operations. We send the goods and they sell it,” he notes. Hatsun also started regional factories in order to deliver fresh milk faster. According to Chandramogan, Hatsun today has factories at every 150 km. 

One of the most significant aspects about the company is the enthusiasm it has shown in adopting technology. It was the first to introduce instant milk-chilling system in India by partnering with Promethean Power Systems. 

Jiten Ghelani, CEO of Boston-based Promethean points out how Hatsun effectively decentralised the cold chain for efficient procurement. Usually milk is collected from the farmer and transported through tanks without any refrigeration. By the time it reaches the chilling stations several hours would have lapsed and the milk quality would have started degrading. Hatsun therefore wanted to chill the milk at the village. But that was a major challenge due to the erratic nature of electricity “We had developed a solar power system at that time. Hatsun had challenged us to solve the problem of chilling milk at the village. They took a bet on us and said they would fund our development and support us if we could help them, which was a big deal because most customers wouldn’t do that. Most customers would first check if others have already used it and succeeded. But, Hatsun being an early adopter of technology, was willing to do it,” says Ghelani. However, utilising solar power to solve the problem was challenging in many ways. To solve this, Promethean developed an energy storing technology, which could store energy when electricity was available and release it during non-availability. The company has implemented about 700 such units across villages. “In order to have consistency across your overall procurement, a decentralised cold chain is important,” adds Ghelani.

Cash cow

Milk and milk products contribute about 94% of its revenue but Chandramogan is not yet convinced about value-added products (VAP) bringing in more business. “Take the case of cheese — it is hardly Rs.15 billion market and within that branded market is only Rs.3.25 billion where multiple players are already present. On the other hand, Arun Icecreams alone does Rs.5 billion. So what is the value addition I’m getting through VAP?” he asks. 

Anuj Bansal , director, Ambit Capital agrees. “Most of the products which Indians use are not truly value added. 90% of milk is still bought as liquid milk whereas curd, paneer, butter, ghee can be made at home. Even if you purchase these from outside, the differentiation amongst them is not very high even between brands. So pricing power in these products is also limited,” he says. Products like flavoured milk or flavoured yogurt — the value added products in the western world where profit margin is high — offer differentiation and pricing power but are very small markets in India and therefore do not move the needle.  “Unless you have liquid milk business, in India you will never get the scale or superior profit. Compared with some listed companies that are pure-play value-added dairy players, Hatsun’s profitability, on the return ratios as well as profit margin front is higher despite 70% of business coming from liquid milk,” says Bansal.

Hatsun today sells its products in the states of Tamil Nadu, Andhra Pradesh, Telangana, Karnataka and Maharashtra, which cumulatively contribute 42% of India’s GDP. The markets have been chosen considering the comparatively higher affordability, education levels and cluster of population in major cities. About 65% of its revenue today comes from Tamil Nadu. In 2016, Hatsun ventured into cattle feed production under the brand Santosa and set up a manufacturing facility near Palani. With a production capacity of 1,000 tonne per day, it mostly caters to the requirements of its farmer community. 

In total, the company has 18 factories. A venture which started off with Rs.15,000 initial investment and three people today has 10,000 employees and 2,700 vehicles plying 600,000 km cumulatively between distribution and procurement processes. The company has seen revenue and bottomline growth of 20% and 30% CAGR respectively over FY12-17. Although Hatsun exports to 38 countries, the focus is more on developing the local market.

India accounts for 15% of the total milk produced globally. Data from NSSO on household milk consumption suggests that per capita expenditure on liquid milk has increased at 9.5% over the past three decades. That’s good news for Hatsun, which gets 70% of its business from liquid milk. Chandramogan expects to see the revenue share from states other than Tamil Nadu going up in the coming years and he fears no competition. He acknowledges the presence of strong regional players in each state, but quips, “We are creepers, not aggressive go-getters. We are always considered a nuisance by established players who try to put up defences for a year and then give up.” In early 2014, Hatsun acquired Hyderabad-based Jyothi Dairy to strengthen its presence in Andhra Pradesh. If the Ambit report is to be believed, Hatsun could match the existing scale of Amul in the next 15 years despite having started 50 years later. “When Amul started 60 years ago, their interest was removing poverty for farmers. We are working towards not just survival, but prosperity for farmers as well,” Chandramogan signs off.