TIGUCHIPADALLI 013 THE HINDU . BUSINESS LINE SUNDAY, JANUARY 20, 2013 PERSPECTIVE Low B(E)P is good for bottomline Companies can lower their break-even point by sharing risks with partners. They also enjoy up the benefit of reduced lay list capex and increased y's specialisation. Son SECRET SAUCE Shyam Pattabiraman W live in an uncertain world and this is especially rue in the world of busi- ness. Rapid change has re- .sulted in shorter product life-cycles, In this scenario, companies that thrive are those that are able to scale up fast, gain- ing first-mover advantage. A key underlying factor that links seal- ability and managing uncertainty is the cost structure - to be m 'break-even point' (BEP). BEP is an often ignored metric in analyst reports, thanks to their obsession with 'terminal value'. BEP, in simple accounting terms, is With low break-even point of 20-30 per cent, Bajaj Auto zooms ahead of its peers in the t o-wheeler industry. fixed costs divided by contribution, where contribution is measured as sales the basic definition of the business provider. Temp-staffing for various roles likes of Micromax, Apple, and so on, minus variable costs. Companies with changes, it opens up a whole new set of is another key strategy that helps low have been able to achieve massive global low BEP have a low fixed cost structure possibilities. BEP. scale and product penetration within a and less earnings volatility compared to What are critical for a FMCG business Needless to say, Apple changed the matter of few years because they do not peers that have higher BEP within same are branding, product ideation/design, consumer products market, by focusing have to do everything in the value chain industry. packaging and distribution - not neces on product design, marketing and retail- themselves. In fact, they believe in 'less is This should typically translate to rela- sarily manufacturing ing, while it outsourced manufacturing more' and depend on multiple external tively lower "beta" (measure of risk) for So Bajaj extensively uses its vendor almost entirely. That's really a bold move partners to help them go to market, both low BEP companies and, therefore, less network for getting a good portion of for a hi-tech company manufacturing ve- on the front-end and back-end. volatility in share prices, which can save manufacturing done outside, for exam- ry sophisticated products, and selling it risk-averse investors from a good ple, the company sources components as . for a huge premium. Obviously, this CHALLENGES AND RISKS amount of heartburn during harsh eco- higher value-added systems and sub-sys- wouldn't be possible without capable Making fixed costs variable could come nomic conditions. tems that can be quickly assembled com- partners and an extremely rigorous qual- along with the need to pay higher cost pared to sourcing parts that need ity check process per unit to the vendor. But, often times, COPING WITH VOLATILITY significant further processing. The common thread connecting com- one realises that the total cost of pur- Let's look at the auto industry as an ex- On the design front, by tying up with panies that have managed to reduce BEP chase is actually less, after taking into ample, where Bajaj Auto has one of the . KTM - a global major in bikes - it is able * within their respective industries seems consideration the total cost of doing lowest BEPs. Bajaj Auto's BEP lies be- . to optimise on R&D spend. By adopting to be a clear identification of what their things in-house. tween 20 per cent and 30 per cent com- platform and parts standardisation core competence actually is. They then This could be because vendors often pared to its peer group average of 50-60 across many of its models, but retaining choose to prioritise and focus on th specialise and have scale advantages of per cent." distinct exterior styling, the company is internally, to sharpen competitive ad- offering similar product/service to other What this means is that, Bajaj can able to showcase different models while vantage, while figuring out ways to get organisations. However, the downside of withstand greater volatility in sales com- achieving cost-efficiencies in the back- other things done externally/with part- this is confidentiality and IP protection. pared to its peers in the two-wheeler . end. ners. Quality is also a key issue that companies industry, without its bottomline becom- How does low BEP help manage un-which outsource, need to have a watch- ing drenched in red. Even if its sales (and REVENUE-SHARING MODEL certainty and help scalability? ful eye on. the contribution) drops by, say, 50 per The telecom industry, by nature, has a Low BEP companies reduce risk and From an analyst standpoint - tracking cent, Bajaj would still be able to show high fixed cost structure, with escalating share it with partners by not carrying all . and reporting of fixed and of fixed and variable costs, profits, unlike some of its peers. Given licence fees for operators. But within the fixed costs related to revenues by them- which is primary to the exercise for BEP the cyclical nature of the auto sector, it is industry, Airtel is one of one of the players that selves. Such companies also enjoy the computation, benchmarking and analy- a big plus to have a low BEP. .'. was an early adopter of low BEP model. benefit of reduced capex and increased * sis, is a point of concern. . A couple of other examples of low BEP It was one of the first companies in the specialisation. Many companies either have a wrong companies relative to their respective in- dustries are Apple and "Indian telecom space to outsource a ma- When business volumes shrink during classification/capturing of cost heads or ware apple and Airtel. jor chunk of its IT and b ck:office oper- a downturn, the parent organisation is do not bother to disclose the split, which How do companies achieve low BEP? ations to IBM, through an intelligent not forced to bear the full brunt and is not mandatory. So analysts need to revenue-sharing model, that immediate- when growth is more than expected, it grapple with lack of information and in BRANDING AND DESIGN ly converted its fixed costs to variable. can save on capex for expansion. As accuracies, which hamper decision- While the rest of the auto industry prides Hiving off and recently listing its tele- Mohnish Pabrai mentions in investor making. itself on its manufacturing and engineer- com tower business, is another move in . parlance, that's like heads I win, tails I + ing prowess, Rajeev Bajaj pictures him- line with low BEP philosophy with re- don't lose much. (The author is a business consultant. Feedback self to be in the FMCG business. When spect to its core business as a service Hyper growth companies, that is, the can be sent to perspective( thehindu.co.in)