Diversifying revenue base

Suresh Krishnamurthy

THE DOMINATING aspect in the air-conditioner business has been the trend among companies to diversify the revenue base to cope better with a slowdown in any particular segment.

Focussing more on the household segment, growing the services, expanding their portfolio to commercial refrigeration and coolers have been some of the moves by companies after the decline in demand from the industrial sector.

Indeed, air-conditioner makers have been particularly badly hit by the slowdown in industrial investment. With the savings of the government sector practically grinding to a halt and the private sector's following suit, the demand for air-conditioners from corporates has been slackening for some years now. It is in this backdrop that companies have tended to target the household sector to expand the size of the market.

For long a focus on households or even an investment to engineer a better return from this segment proved quite unrewarding. With the pick up in demand from the household sector, this is fast changing and companies feel far more comfortable in investing more in this segment. In fact, the investments made by companies in new manufacturing facilities in sales-tax-free zones such as Daman and Silvassa also needs to be seen in the backdrop of the need to target the price-sensitive household sector.

Another trend that has sustained for fairly long has been the importance attached to the services business. The returns from an investment in the services business are fairly high and companies have for long eyed this segment to bolster profitability. In trying times, the services business can indeed pay rich dividends. The services revenue of Carrier Aircon rose 50 per cent in the year ended March 2000. While the services business of Voltas may not have grown at such a rapid pace, it accounts for a fairly sizeable proportion of its total revenues. And Voltas services the air-conditioners of other brands too. Other companies also have a similar focus towards the services business.

Expanding portfolio

Apart from the services business, companies have also been expanding their product portfolio. Amtrex Appliances derives almost all its revenues from non-ducted systems. For Carrier Aircon the contribution from the ducted systems has failed to rise at the rate the management would desire and the contribution of non-ducted systems remains high. For Blue Star, the contribution from non-ducted systems and especially from the household segment is fairly low.

Amtrex, Voltas and Blue Star are approaching the issue of diversification of revenue base through forays into commercial refrigeration. Till now, the contribution of this business has been quite low to the revenue base of these companies. A Carrier Aircon group company, in which Carrier Corporation holds the majority stake, has also entered the business of commercial refrigeration.

The commercial refrigeration business has considerable potential given the complete lack of penetration of these products in the country. Also, with fresh investments being made in the distribution networks for the food industry, the demand for such products is likely to look up. To an extent, any contribution from this segment is likely to help the company counter the impact of the depressing industrial investment climate.

Resource requirements

The move towards diversifying the revenue base is essentially an attempt to smoothen the volatility in growth rates and to that extent the approach is welcome. However, diversifying the revenue base also has implications for the resource requirements. For example, if Blue Star wants to raise the contribution of revenues from the household segment, the amount of investment that would have to be made in the form of building brands would be high. In fact, for almost all players, the higher outlay for brand building is a fallout of this move to tap the household segment. Penetration of even the leading brands was quite poor even a few years before though things are starting to look up.

Similarly, in the case of Carrier Aircon, which would want to beef up its presence in the market for ducted systems, such an outcome is likely only with larger outlays in marketing spend, targeting the corporate sector. Even in the case of the foray into commercial refrigeration, the resource requirements is only likely to increase as demand picks up. And as volumes rise substantially, how this business is likely to nurtured and grown would assume importance.

Essentially, the resource requirements for diversifying the revenue base have to be met without adversely impacting the existing revenue streams. However, if the efforts at diversification pays off, then the company is placed in a much better position to tackle the competition. Given this backdrop, for shareholders in these companies, there is a need to look closely at the deployment of the cash flow from operations over the next few years to evaluate the impact.