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Today we are going to learn the Business lessons from Adani's Business strategy. If you like this information, share it with your friends.
On the 16th of May 2022 the legendary business icon Gautam Adani won the race to acquire a major stake in Ambuja Cements and ACC for 10.5 billion dollars and as soon as this deal got finalized the Adani became the second biggest cement manufacturer in India and while every single news channel has told us the basic details of this deal the most important part that they missed out on is the business strategy of the Adani's so in this episode today let's do a deep dive and try to understand, why did the Adani's acquire a stake in Ambuja and ACC? what exactly is their business strategy? and most importantly as investors, what do we need to understand about the changing dynamics of the cement industry of India and the world itself.
Backward Integration
The first and the most obvious reason for Adani's acquisition of Ambuja and ACC is something called backward integration. Now if you're not an MBA student, it might be a little difficult for you to comprehend, so let's try to understand backward integration using the simple analogy of a grocery store. You see guys the supply chain of a grocery store looks something like this, we first have the manufacturer then, we have the distributor is the person who actually buys these products in huge quantities from the manufacturer and then, we have small retail shops who buy products from the distributors in small quantities eventually, the retailer sells it to the customers this is the simple supply chain of retail stores, in reality, we also have wholesalers and local distributors but for our concept, let's use this simplified example.
Example
Now let's say we have a businessman called Mr.Kulkarni. Mr.Kulkarni is a Marathi businessman, who has 10 grocery stores in Pune and one of the most profitable products he sells is a packet of ghee. Now he buys 10,000 packets of ghee per month at 420 rupees each and sells it at an MRP of 520 rupees. Now, this is when he realizes that dude if he gets ghee at 420 rupees the distributor gets it at 360 rupees right, so if Mr.Kulkarni himself became the distributor he could actually get it at 360 rupees and make more profits. So you know what he goes on to acquire his own distributor and becomes a major distributor for all retailers in Pune and now his own Kirana stores become his distribution company's clients and now the same 10,000 packets of ghee that he used to buy at 420 rupees, He buys them from his distribution company at just 400 rupees and sells them at 480 rupees. Whereas two other retail stores his distribution company sells it at a normal price of 420 rupees because of which they would go on to sell it at 520 rupees so, Mr.Kulkarni’s distribution company first makes a 40 rupees profit when he sells it to his retail stores then his retail stores make a profit of 80 rupees per packet when he sells it to the customers and then when he sells it to other retailers he further makes a profit of 60 rupees. So you see what happened a retailer became a distributor and started increasing his profit margins but at the same time, he is also able to sell the product to the customers at a much cheaper rate. Eventually, he is able to compete with other retailers so if there are five local stores while all four stores will sell ghee at 520 rupees Mr.Kulkarni's retail stores will attract a lot more customers why because he's selling his product at 24 cheaper costs. (Explain in the figure)
Similarly, the same ketchup that he used to buy at 90 rupees he sells to his own retail stores at 70 rupees, eventually sends it to the customer for 120 rupees. He sells shrikhand to his retail stores at 160 rupees and sells it to the customer at 200 rupees. So you see what happened Mr.Kulkarni was able to increase his profit margins by becoming the distributor and then he became his own client because of which he is able to control the prices better. And lastly, because his company is both the distributor and the retailer he is able to sell products at a cheap rate and at the same time have a competitive advantage over other Kirana stores in the locality this way tomorrow he can go on to expand his business to 20 30 40 retail stores and he would only keep making more money.
And the next step to this is when Mr.Kulkarni realizes that dude being the distributor already has a supply chain to push 50000 packets of ghee, 300000 packets of milk, 50000 packets of shrikhand, and 10000 packets of paneer. So instead of buying these products from the manufacturer, why doesn't he himself become the manufacturer? so then Mr.Kulkarni would then go on to acquire a dairy company that would produce all the dairy products and push those products to its distribution supply chain all the way up to his retail business and to the customers again he'll get more margins more control and more expansion this is what we call as backward integration.
Wherein a company goes on to acquire critical entities of its own supply chain to become more profitable to have a competitive edge over other rivals and lastly to have better control over the supply chain, eventually expanding the business this is exactly what Mr.Adani is doing with Ambuja and ACC. As we all know the Adani's are known to be builders and they have an enormous business in construction in the infra space wherein, they are building thousands of kilometers of an expressway, thousands of crores worth of ports airports, and power plants and on top of that they also have residential and commercial properties coming up, and all these projects require a ton of cement and a ton of steel. And now that Adani has bought a major stake in Ambuja and ACC just like Mr.Kulkarni's retail stores became his own distribution company's clients, in this case, all Adani companies in the construction or related business will go on to become Ambuja and Acc's clients.
In fact, this is the reason why Mr.Adani said, “On the demand side we continue to execute on a massive number of construction activities that span every one of our infrastructure businesses. I, therefore, expect us to be one of the largest customers of our own cement business.”
So you see just like Mr.Kulkarni was able to have better control and better profits through backward integration, Mr.Adani and his company are expected to have better control over the prices of the cement better supply, and more importantly an edge over their competitors. Were again building ports and buildings it's just that instead of a packet of ghee you have a bag of cement and just like Mr.Kulkarni would make money by selling his dairy products like paneer, milk, and shrikhand. Mr.Adani would use and sell all kinds of cement-like ordinary portland cement, portland pozzolana cement, and portland slag cement for their own projects, eventually to increase their own profits. And this brings me to the second reason and this is something that you can literally find on every single news, article on the internet which says that since the Adani group takes up giant infra projects from the government itself in the next few years as a part of the Pradhan Mantri Avas Yojna we have 100 smart cities, 200 airports, housing for all and all of these will skyrocket the demand for cement, eventually benefiting the cement industry of India. So when the Adani's build such projects the cement orders at Ambuja and Acc will increase eventually Mr.Gautam Adanis's goal of doubling the capacity of these companies is expected to be fulfilled this is the story behind Adani group's acquisition of Ambuja and Acc, now the question over here is if India is such a lucrative and profitable market why did wholesome sell its take to Adani's and leave India all together? because as you see the stock price of Ambuja is steadily appreciated by 200, in the past few years the profits of the company have risen steadily, and it's already the second-largest producer of cement in India. Then why did holism sell as investors? why is it super important for you? well, the first reason for this is that wholesome is a swiss company and Switzerland is one among the nations that have actually signed the Paris agreement, and Switzerland's goal is to actually get to net-zero greenhouse gas emissions by 2050, and if you look at the most emission-intensive industries in the world, you will know that even if the entire cement industry is considered to be one country it would still be the third-largest greenhouse emitter in the world, only behind China and the US secondly. If your emission levels are beyond a certain limit, you will be charged a surcharge on top of the cost of your product in the European Union, and other strict countries that apply the carbon border tax, and when it comes to cement it is one of the most polluting commodities in the world. So the cement industry, in general, is a very risky business to actually have in your portfolio with respect to vision 2050. As a result countries like Switzerland are pushing their companies to go green, because of which they already have one of the highest carbon taxes in the world and wholesome is even ahead of sizzle, and by the way, they are literally building a world-class product as a substitute to cement itself, and one of the best examples of the same is that eco-packed concrete, which reduces carbon emissions by 3200 as compared to conventional concrete.
Similarly, they have eco planet green cement roofing solutions motors and a lot more coming up. So as an investor this is a very very big deal because it's almost like, Volkswagen telling the world that they will produce only hydrogen fuel vehicles and they'll stop producing petrol and diesel cars altogether, that is how big the green and clean industries are expected to become in the next 20 years. Now if you look at wholesome in India you will know that India alone contributed to 26 of their co2 emissions so merely by selling their cement business in India, they will be reducing their carbon emissions portfolio by a large extent in fact this is the reason why you will see that they did not just quit the Indian market, but they also quit Brazil, Northern, Ireland, Sri-Lanka, Malaysia and even Russia so as investors this tells us one thing if the largest cement manufacturer in the world is so bullish that it's quitting the emerging markets to bet on green concrete and green products it's a revolution in the making, and we need to pay attention to this.
And lastly, the one thing that absolutely blew my mind is that if you draw a comparison between Ultratech cement, Ambuja, and Acc you will see that Ultratech has a capacity of 120 million tons per annum, whereas Ambuja Simmons installed capacity is just 31.45 million tons per annum, and Acc has a production capacity of 34.45 million tons per annum. So you see even together these companies have a total production capacity of only 65.9 million tons per annum, which is nearly half of that of Ultratech. So considering the fact that Adani's are known to be market leaders in any category they enter in the Adani Vs Ultratech battle is going to be super interesting to study as students of business, so keep an eye on that.
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