Going Globally Competitive: Aditya Birla Group Way It was mid-2005, exactly a decade after Kumar Mangalam Birla took over as Chairman of the Aditya Birla Group, that the Business Today, a leading business magazine of India noted, “At 38, Kumar Mangalam Birla has already done more than what most others get to do in a lifetime. He’s transformed a hidebound conglomerate into a modern commodities giant that’s globally competitive. Today, it racks up Rs 33,000 crore in revenues and boasts of a market cap of nearly Rs 30,000 crore.
In that time, he has also pulled off a string of acquisitions at home and abroad, professionalised a group that long placed loyalty over competence, and more importantly geared it to compete in a global marketplace. The Aditya Birla Group today operates on a global scale, with manufacturing operations in nine countries and product sales in over 100. It’s a world leader in viscose staple fibre, the world’s ninth largest producer of cement, the fifth largest producer of carbon black, Asia’s largest integrated Aluminium producer, and also its fastest growing copper company. When, after the untimely death of Aditya Birla in 1995, Kumar Mangalam Birla took over as the Chairman of Aditya Birla Group, the Aditya Birla Group had a worldwide turnover of Rs. 8500 crore , and diversified lines of business. It was around the same time that the foreign institutional investors had begun hammering Aditya Birla Group scrips, mainly for two reasons. One, over- diversified companies were out of favour in the new focused reform era. And two, Aditya Birla Group companies had diluted their equity – with GDR and domestic issues – far too often for Fll comfort. To mend fences, Kumar responded quickly by withdrawing in January 1997 the $125 million GDR issue that Grasim had planned as early as May 1996. He also aborted all unnecessary and unrelated diversifications. The Flls were impressed though they reserved their final verdict. 2But clearly it was the time for Kumar to reflect and have definite vision about the future. The group’s success in the past was based essentially on three factors: one, the ability to spot opportunities; two, take calculated isks and back them up with money and technology; and three, sticking to certain basic industries – VSF, Aluminium, cement, carbon black – and building dominant market shares in them. The group’s cash reserves, strong business lines, low production costs, dominant leadership positions, high technology, diversified product ranges and decentralized management had made the Aditya Birla Group virtually immune to a serious long-term downturn. But what was needed was growth. While Tata Group was already bigger, Ambani Group was fast zooming past. A strategic analysis brought out that Aditya Birla Group was too diversified, with interests in textiles, cement, tea, sponge iron, Aluminium, fertilizers, shipping, carbon black, refining, chemicals and a clutch of small businesses. ?About 25 per cent of revenues came from textiles, a highly regulated and hugely fragmented sector, Margins as low as 8-10 per cent. ?In cement, two separate listed companies; lack of synergies, jacked up costs. ?The group had no obvious competencies in refining and had made a half-hearted foray into it. ?Birla could not grow the fertilizer business; high regulatory controls curbed expansion plans. The high cross-holdings and the unplanned diversification within the group. Consolidation for Growth: Armed with this analysis, Kumar decided to focus on two key variables: market leadership and size. In keeping with his vision of continuing in business where he was among the top three players, Birla began to gradually reduce the group’s dependence on fibre-based business where his share of the market was low. Instead, he began to shift attention to non-ferrous metals. There were few competitors and his company, Hindalco, already had a big presence in Aluminium.
He ramped up capacity in Aluminium and expanded his portfolio by investing in copper from 1998. Till then, apart from Hindustan Copper, there were no other players in the market. The new growth game plan was to address some of that concern. Much of it was in line with Birla’s portfolio strategy – something that he devised with the help of the Boston Consulting Group. Consider how. From 1996 till 2004, Birla had consciously shifted the focus of his overall portfolio from predominantly fibre-based businesses to one that is now driven by non-ferrous metals.
The share of textiles has since dropped from a quarter of the group’s turnover to below 5 per cent in 2004. On the other hand, the share of metals and cement has increased to 62 per cent. Birla has also reduced the number of businesses and made small investments in new age businesses like software (PSI Data), business process outsourcing (Transworks) and branded garments (Madura Garments). And he has chosen to consolidate each of his businesses. Having cleaned up the portfolio, Birla has now narrowed down his big bets to just two sectors: metals (Copper and Aluminium) and Cement.
The intent: to become globally competitive in all the three. The route: gain cost leadership. But just how will Birla get there? As things stand, much of his big investments in both copper and cement are over – and Birla believes he has secured his position in both businesses. So, he is now putting all his eggs in one basket: Aluminium. 3Aluminium So why is Birla so excited about the opportunity in Aluminium? And will it give him a tenable place in the global metals business? The confluence of four key issues has prompted Birla to pin his hopes on Aluminium.
One, in the last few years, the leading Aluminium companies in the world – like Alcan (capacity: 3. 5 million tonnes) and Alcoa (capacity: 4. 1 million tonnes) – have begun a furious consolidation spree. They have bought out smaller players across Europe and the US. The 10 top players control more than 50 per cent of the market. In the process, greater scale has helped bring down the cost of production. Now, the price movements in the Aluminium business are dictated by the London Metals Exchange (LME), which acts as the benchmark. So far, Hindalco is able to keep its costs down, and make hefty profits.
In 2003-2004 it released nearly Rs 1,500 crore of free cash flow. For any commodity, and Aluminium is no exception, long-term viability hinges on the ability to produce it cheaply through the ups and downs of the commodity cycle. Currently, Hindalco’s cost of production is among the top quartile of the world’s best producers. But with a capacity of just 400,000 tonnes, it has remained a bit player. Even the 10th largest Aluminium company produces 50 per cent more than Hindalco. As other companies start expanding, Hindalco’s lack of scale will soon become a major handicap ecause it would have a direct bearing on its ability to keep costs low. Says Bhattacharya, Hindalco Managing Director “Staying in the business with the same capacity is like running on the treadmill. You just stay where you are. ” Fortunately for Hindalco, despite its late-mover status, it still has a window of opportunity to scale up and enter the global league. The 30-million tonne Aluminium market is growing at 4. 5 per cent every year. What is more, Asia is where the action is and the demand is red hot. China, Middle-East and South East Asia are soaking up capacity, creating a shortage of 2 million tonnes.
And apart from a handful of smelters in India and China, there are no new capacities being built. Guangdong Fenglu Aluminium Company and Aluminium Corporation of China are just as big as Hindalco in size. These smelters cater to the fast growing domestic demand and, on the face of it, appear to be efficient, especially since prevailing commodity prices are high. But once demand tapers off – and that won’t happen in a hurry since the upturn in the Aluminium cycle is just starting – it will boil down to the issue of global competitiveness. That is where Hindalco will enjoy a clear advantage.
India has huge reserves of good quality bauxite ore, the fifth largest deposit in the world. Having smelters near the mine pithead will save substantial costs for an Indian producer, which will have a direct impact on profitability, especially in a downturn. A Chinese producer, on the other hand, has to import the ore and thus bear an additional transportation cost, denting their competitiveness. Hindalco may be able to ward off the Chinese. But in the long run it will have to contend with formidable competition in its own backyard: from Sterlite.
Its owner, Anil Agarwal, is a first generation entrepreneur who earned his spurs in the telecom cables business before diversifying into non-ferrous metals. Agarwal started off investing in copper, almost at the same time as Birla built his copper smelter in Dahej. In 1997, Sterlite bought over the Chennai-based Madras Aluminium, which gave him a small foothold in the Aluminium business. Then, Agarwal’s ambitions soared, as he attempted a hostile bid for Indal, which parent Alcan fended off successfully. In 2002, Agarwal snatched away the Rs 900-crore state-owned Balco – bidding far higher than Hindalco.
Realising the need to scale up, Agarwal is now going hell-for-leather to expand capacity. At Korba district in Orissa, Sterlite is putting up a brand new smelter using Chinese technology, which is 30 per cent cheaper than the commonly used Pechiney’s technology. Sterlite will source bauxite from its Langigarh mines in Orissa, though it has still not got possession of the mines from the state government. But once the expansion does go on stream by March 2006 Sterlite’s Aluminium capacity could well match Hindalco’s – and at a competitive price. That’s when Hindalco’s numero uno position in the industry will be threatened.
Besides, Hindalco’s own competitiveness is being eroded due to a set of factors. When Hindalco first set up the Renukoot plant, power was easily available from the nearby Rian dam. Bauxite also came from the nearby mines. As Hindalco expanded, it put up captive power plants to keep the costs low. But ore in nearby mines were exhausted. Now, the company has to transport ore from newer mines, in some cases, 200 kilometres away. It even buys some high quality ore from Gujarat. As a result, Hindalco’s cost of sourcing bauxite is now higher than the state-owned Nalco, which has a factory located at the bauxite mine pithead in Orissa.
However, Hindalco’s costs are still lower due to the lower power cost. Still its competitive edge will get dented as the mines go further away. So how do Debu Bhattacharya Hindalco MD and his team maintain the competitiveness of the business? One option is to locate a new plant at the pithead, where power is also easily available. The new capacity – an additional 3. 5 lakh tonne – would then help offset the higher costs at Renukoot. Says Bhattacharya: “We can reduce costs only to an extent. Beyond that, there is a crying need to increase scale. “
The Rs 16,000 crore investment plan for Aluminium will flow into two projects – the Utkal Alumina Project and the Aditya Aluminium Project – both based in Orissa. The eastern state has by far the biggest reserve of quality bauxite comparable to the best in the world. (Which explains why global mining giants like the $15-billion BHP Billiton have chosen Orissa as a destination. ) The two projects are somewhat different from each other. Aluminium is made by a two-stage process from bauxite. Bauxite is found mixed with red mud, 3-4 metres below the surface.
First, an intermediate, alumina is extracted from this bauxite ore. Three tonnes of bauxite is needed to extract one tonne of alumina. Thereafter, the alumina is reduced into aluminium metal by an electrolytic process in a smelter. The second stage requires a lot of power – which can account for up to 40 per cent of the total costs. So, companies could choose to make alumina or aluminium depending on the cost of power. For example, the United Arab Emirates has emerged as a good location to put up a smelter since power costs are far cheaper. As things stand, there exists a robust market for both aluminium and alumina.
In the Utkal project, where the Birlas have a 55 per cent stake along with Alcan, the plan is to have a 1. 5-million tonne alumina plant. This project has been on the anvil for six years, but never took off because the government could not rehabilitate the people living on the mines. Now, the problems seem to have been sorted out and the Birlas should be awarded the mining lease shortly. With the Aditya Aluminium project, a wholly-owned subsidiary of Hindalco, the group will now have a 1-million tonne alumina capacity and a smelter for 350,000 tonnes (the biggest size available in 2005).
That will catapult Hindalco into the Top 10 Aluminium metal makers in the world. In 2004, the effective import duty for Aluminium was pegged at 10 per cent. But to ensure that Hindalco’s new projects remain competitive even if duties fall further, Bhattacharya says the plans have had to clear stiff internal hurdles for a host of financial parameters like the return on capital employed, the return on equity and interest cover on debt. And that too, assuming zero import duty on the metal.