'Entrepreneurship Entry' in Oxford Companion to the Indian Economy
| March 19, 2007 - 12:46
(The Oxford Companion to Economics in India, Edited by Kaushik Basu, Pages 141 - 145, Oxford University Press, New Delhi, 2007)
1. Definition of “entrepreneur”
It is to Joseph Schumpeter, the Austrian economist at Harvard, that we owe our contemporary use of the word “entrepreneur”. Schumpeter took an old word from the economics dictionary and used it to describe what he believed to be the secret of the capitalist system. Capitalism is dynamic and brings growth, he explained, because the entrepreneur introduces technological or organisational innovations, which bring new or cheaper ways of making things. These innovations create a flow of income, which cannot be explained either by labour or capital. The new process enables the innovating capitalist to produce at a lower cost, which raises his profit until other capitalists learn the same trick. Schumpeter's great insight was that this new profit does not come from inherited or God-given advantages but springs from the will and intelligence of the entrepreneur.
On the heels of the innovator, says Schumpeter, come a swarm of imitators, and soon everyone wants to invest in the new idea. Banks get busy making loans to the imitators, everyone begins to talk of a boom, and there is a rash of capital spending. As with all booms, supply soon gets ahead of demand, and suddenly there is huge excess capacity. Prices are forced down, profits begin to decline, and business becomes a routine. As profits disappear, so does investment, and this leads to a bust. Schumpeter's entrepreneur falls as well, squeezed by the very dynamic that he set in motion. Schumpeter called this process “creative destruction”. The individual that emerges from this vision is a romantic, almost tragic figure. He is not a “normal” businessman, following established practices and norms; nor is he representative of a social class. Yet, he craves for social esteem and respect.
2. Indian entrepreneurship originated in the trading castes
Despite Schumpeter's attempt to differentiate the entrepreneur from the established business class, the word is commonly used to designate somebody who sets up a commercial enterprise to make a profit. By this definition entrepreneurship began in the innovations within merchant families. In India too, innovations, both organisational and technical, began with merchants in their trading practices within the Bania or Vaishya families. D.R. Gadgil, points out in the Origins of the Modern Indian Business Class that India's traditional trading castes in early modern times were predominantly Aggarwals and Guptas in the North, Chettiars in the South, Parsees, Gujarati Jains and Banias, Muslim Khojas and Memons in the West, and Marwaris across the country. In addition, Khatris were a vigorous, urban Hindu community engaged in trading activity in Punjab, Afghanistan, and Central Asia. Of these, Marwaris have been the most successful.
3. Marwari magic
In 1997, fifteen out of the twenty largest industrial houses were from vaishya trading castes; of these eight were Marwaris (Business Today, 22 August 1997). Of the 128 merchant Marwari sub-castes in Rajasthan, which James Tod mentions in hisAnnals and Antiquities of Rajasthan, only five became big and prominent in national commerce. These were the Maheshwaris, Oswals, Aggarwals, Porwals and Khandelwals. For centuries Marwaris were bankers and helped finance the great trade route which passed through northern Rajasthan. During the Mughal days, they were financiers to princes, including the Emperor. Jagat Seth, a Marwari Oswal, who was banker to the Nawabs of Bengal, also befriended Clive in the conspiracy at Plassey, and thus helped change the history of India and Britain.
James Tod noted that in 1832 “nine-tenths of the bankers and commercial men of India are natives of Maroo des, and these chiefly of the Jain faith”. With the coming of the railway, there was a huge migration of Marwari traders into India's remotest villages. The migrants began as petty shopkeepers and graduated to money lending, and financed commercial crops like opium and cotton. Some became hugely successful, creating large firms, such as Tarachand Ghanshyamdas, under whose umbrella the Birlas got started in Calcutta at the beginning of the 20th century. It had branches in Bombay and Calcutta, on the river ports along the Ganges, and throughout the opium and cotton growing areas. The firm took deposits, gave loans, engaged in the wholesale trade of commodities, transferred funds for clients to distant cities, cashed bills of trade, insured shipments, and speculated on commodity futures. These “great firms,” also lent money to the princely families. For example, Bhagoti Ram Poddar, the founder of Tarachand Ghanshyamdas, was banker to royal families of Jaipur, Bikaner and Hyderabad.
The Marwaris achieved their biggest success in Calcutta, where they became brokers and agents to the British. Nathuram Saraf, for example, began as a clerk in Ramdutt Goenka's firm and graduated to become “banian” to British firms. He opened a free hostel for migrants from the Shekhavati area of Rajasthan, and this helped spawn many entrepreneurial careers. The Delhi-Calcutta railway in the 1860s quickened the Marwari migration to Calcutta. By the end of the 19th century, they had become dominant in the jute and cotton trade. In World War I they made spectacular profits, which laid the foundation of many industrial careers after the War.
Why the Marwaris turned out to be so spectacularly successful had a lot to do with their support system, explains Tom Timberg his book, The Marwaris. When a Marwari travelled on business, his wife and children were cared for in a joint family at home. Wherever he went in search of trade, he found shelter and good Rajasthani food in a basa, a sort of collective hostel run on a co-operative basis or as a philanthropy by local Marwari merchants. G.D. Birla's grandfather, Shiv Narian settled in a basa when he first went to Bombay in the 1860s. When the Marwari needed money, he borrowed from another Marwari trader on the understanding that the loan was payable on demand. His sons and nephews were apprenticed to other Marwari traders, where they earned their salary through profit sharing, learned business skills, and accumulated capital to start their own business when they were ready.
Marwaris scored over other bania castes because they had a stronger stomach for risk. Their biggest fortunes were made during the First World War in extremely speculative forward trading. They were also ruthless and did not stop at anything to stop a rival.
4. Industrial entrepreneurship came after the First World War
India's industrial entrepreneurs thus rose from the bazaar. In Bombay and Ahmedabad in western India, where the cotton textile mills came up in the last half of the 19th century, it was the trading communities who became entrepreneurs and industrialists--they were Parsees, Khojas, and Bhatia traders of Bombay and Jain Banias in Ahmedabad. Serious industrialisation, however, only picked up after World War I, as G.D. Birla, Kasturbhai Lalbhai and others, who had made huge trading profits during the war, reinvested them in setting up industries. Rajat Ray tells us in Entrepreneurship and Industry in India 1800-1947 that between 1913 and1938, manufacturing output grew 5.6 per cent a year, well ahead of the world average of 3.3. By 1947, industries share doubled to 7.5 per cent of national output from 3.4 per cent. But it was not enough to broadly transform the agricultural society, as modern industry employed only 2.5 million people out of 350 million.
5. But thwarted after Independence by Nehru's “mixed economy”
After Independence, Jawaharlal Nehru and his planners attempted an industrial revolution through the agency of the state. They did not trust the private individual, so they made the state the entrepreneur. Private industrialists, who had naively proposed a vigorous but enabling role for the state in the “Bombay Plan”, were increasingly thwarted in their ambitions by the controls of the “mixed economy”. They were denied access to global technology; they were told to import substitute and forced to “reinvent the wheel”; they became victims of a Kafkaesque nightmare of red tape based on a case by case review; most damagingly, they were denied the pressures of global competition, which ultimately forces companies to upgrade their skills. Instead the system spawned monopolies and rewarded the corrupt. Indira Gandhi's government in the 1970s became even more rigid and introduced more controls, such as the Monopolies and Restrictive Trade Practices (MRTP). It nationalised banks, discouraged foreign investment, and further diminished competition in the marketplace. As a result, productivity of entrepreneurs plunged even further, as Isher Ahluwalia has pointed out. To top that, they increasingly faced a hostile and pampered organised labour.
Aditya Birla was India's most dynamic entrepreneur during this “dark” period. He succeeded, however, because he took many of his operations out of India. He became the world's largest producer of viscose staple fibre and palm oil; the world's third largest maker of insulators and the sixth largest of carbon black. During his 52 year life, he built 70 factories in six countries, and by 1991 he had achieved sales of Rs 16,500 crores and net profits of Rs.1500 crores, more than half emanating from overseas. He said famously” “We produce staple fibre in Thailand, for which we buy pulp in Canada. This Thai made fibre goes to Indonesia for converting to yarn in our unit there. The yarn is then exported from Indonesia to Belgium, where it is made into carpets, and finally the carpet is exported to Canada.” Although an Indian, India did not figure in his global value added chain because India was hostile to private investment.
Unlike Aditya Birla who succeeded by going out, Dhirubhai Ambani rose by manipulating the License Raj within India. He created from scratch an integrated petrochemicals company, which grew at a scorching pace to become India's largest company and among the world's top five producers of polyester, polypropylene, PTA, polyethylene, the world's largest maker of paraxylene, and the world's largest integrated producer of PET. By 1991, he had 2.4 million shareholders—more than any company in the world—and held his annual general meetings in a football stadium. In the nineties, he set up the world's largest multi-feed refinery. Apart from his skill in manipulating the system to his advantage, his success lay in relentless focus. When other Indian business houses were diversified hopelessly in dozens of business activities, Reliance focused on adding value to a single product's vertical chain—petroleum.
6. Liberation came with the reforms in 1991
Forty years of Nehruvian socialism or state capitalism was not able to destroy India's legendary entrepreneurship even though it distorted its behaviour. With the reforms in 1991, Indian entrepreneurs began to be liberated from industrial licensing, import licensing, MRTP, high taxes and tariffs, and a host of other controls. Initially many did not know how to respond to the new competitive climate. Like hungry children, many responded by setting up ventures with foreigners promiscuously, without a thought to their own capabilities, and expanded capacities unthinkingly. They had a “factory mindset” when the increasingly competitive market demanded customer service and technology. When the recession came in 1997, supply was hopelessly ahead of demand and they were in trouble. The joint ventures began to come apart as foreigners realised that their Indian partners were not up to scratch—they had neither the competence nor the capital. Hence, the “Bombay Club” began to clamour for protection.
Over the next five years, however, the best Indian companies went through a trial by fire, re-invented themselves and emerged globally competitive. The case of Rahul Bajaj illustrates. In 1991, Bajaj was market leader in India, the world's second largest maker of scooters. With massive economies of scale, he was also the world's lowest cost producer. He had a rugged product for Indian roads and twice the dealer and after-sales service network of any of his competitors. He sold everything he produced. Indeed, there was a ten-year waiting list for his scooters, which sold in the black market at a 40 per cent premium. He made more profit than all his Indian competitors put together. Despite these advantages, he did not have the confidence to take on the Japanese.
Before the reforms, no one would have criticised Bajaj for not thinking globally. Government rules did not permit him to expand production at will, or buy new technology without a lengthy approval process, or import components or machines with a reasonable customs duty. He also suffered from high costs of steel and power. Thus, he had a purely “local” mindset of a shortage economy, with little marketing or product development skills. The legacy of 40 years of a closed economy had caught up with him, and he was the symbol of an India hobbled by poor infrastructure, obstructionist bureaucrats and inspectors, high tariffs and interest costs.
By the end of the century Rahul Bajaj loomed large on the Indian industrial horizon like a tragic figure. Having built a fine company, he was losing share rapidly to Hero Honda, in part because consumer preference had turned against scooters and in favour of motor cycles. He reflected the mood of India Inc, which was floundering in progressively competitive markets. Yet within a few years, not only Bajaj but a host of Indian companies responded to the competitive challenge, and emerged stronger and globally competitive. One of these was Bharat Forge, which became a significant supplier to the world's automobile majors, and a symbol of reinvigorated Indian entrepreneurship. These competitive companies rose to the challenge by getting the basics right—recruiting and developing talent, investing in R&D, and becoming more customer-focused.
6. Indian entrepreneurship is still family based
Apart from the new IT firms, Indian companies are largely family run. This does not surprise. Even in the U.S., the most 'professionalised' business nation, 40 per cent of gnp is created by family companies and more than 80 per cent of all enterprises are family-run. The private sectors of France, Italy, and China are still dominated by smaller, family-owned and managed businesses. Thus, being a family firm per se is not a disadvantage—it might even be an advantage. What small companies give up in financial clout, technological resources and staying power, they gain in flexibility, lack of bureaucracy and speed of decision-making. For that to happen, however, a family firm must be able to professionalise.
Indian companies have been transitioning to greater professionalism ever since 1991. Because of competitive pressures, they have realised that entrepreneurial companies are built by entrepreneurial talent. There has thus been a huge scramble to find talented people and to retain them. They are painfully coping with the problem of incompetent family members at the top, and reluctantly, they have begun to hand over management to outside professionals. Slowly and very reluctantly the good ones have made the mental leap to separate ownership and management.
7. Traditional strengths and failings of Indian entrepreneurs
The traditional strengths of Indian companies are financial acumen, a propensity to take calculated risks, an ability to accumulate and manage capital, and an austere lifestyle The Birla companies were famous for monitoring performance of their numerous enterprises across the world on a daily basis. The Ambanis single-handedly created 'the equity cult' among the Indian middle class by building a two million-shareholder base in the '80s, one of the largest for any company in the world. Because many Indian industries were under severe price control in the past 40 years, entrepreneurs were forced to become low-cost producers in order to survive. When the economy opened up to competition in 1991, these constituted significant strengths, and provided a basis for competitive advantage as India joined the global economy.
However, Indian family companies had clear and numerous weaknesses. The four most important ones were: an inability to separate the family's interest from the interest of the business; a lack of focus and business strategy; a short-term approach to business, leading to an absence of investment in employees and in product development; and insensitivity to the customer, largely because of uncompetitive markets, but resulting in weak marketing skills. These weaknesses were reinforced during the 1950-1990 period by a closed economy, which discouraged competition. As a result of these weaknesses many business houses collapsed in the 1990s. The successful ones, however, were able to overcome these failings.
8. Is it realistic to expect Indian entrepreneurs to follow a strategy other than cost leadership?
There are only three ways to build competitive advantage—through superior costs, superior service or superior technology. It is unrealistic to expect Indian companies to become technology leaders in the near term. This is not because Indian scientists are not capable, but because Indian companies will take time to mobilise the power of science and develop a technology-driven culture. Most Indian firms have adopted a cost leadership strategy. This, however, does not mean that they can ignore quality or service. To be a player at all in the global market, they have to be capable of delivering global thresholds of quality and service. But the have decided that their differentiator will be cost in order to derive competitive advantage.
The essential question is whether Indian companies can realistically adopt another strategy besides cost leadership. Anyone who has shopped in a sari store or eaten in an Udipi restaurant knows the Indian entrepreneur's ability to deliver superior service. The employee in a typical sari store opens a hundred saris in an attempt to sell a single one; the waiter in a typicaldhaba delivers a thali in two minutes. Among larger companies, HDFC and Sundaram Finance are good examples of superior service. Moreover, a strategy based on superior service can be especially powerful when delivered by highly trained “knowledge” workers—scientists, engineers, market researchers, lawyers. Commitment to a service strategy, however, implies that one hires new employees on the basis of their attitude and trains them on skills. Most companies do the opposite. Although, a service strategy is practically “free” compared to the other two, it is surprising that Indian companies with global ambitions have not yet discovered it.
8. Emerging global players share common virtues
Successful Indian companies with global ambitions share a number of virtues: a) They have developed competence in a core area—e.g. Infosys in software, Bharti in telecom, and Jet Airways in aviation. b) They have begun to leverage their pre-eminent position in the domestic market--Asian Paints in paints, Reliance in petrochemicals, Ranbaxy in drugs, and Bajaj Auto in two-wheelers. c) They have achieved low-cost producer status in their respective product categories and have leveraged it in the world market--Tata Steel, Tata Consultancy (tcs), Hindalco. d) Some have used the large Indian market to set up world scale plants—Reliance. e) Some Indian companies have become subcontractors to foreign majors—Bharat Forge, Sundaram Fasteners.
Entrepreneurs of the knowledge economy
When the Indian reforms began the world economy also changed to India's advantage. It changed from an industrial age to an information economy. Although a broad industrial revolution continues to elude India, the country appears to be swimming nicely in the knowledge sectors—software, I.T. related services, generic pharmaceuticals and telecom.
In September 1999, Business Standard published a list of 100 Indian billionaires, in which 8 out the top 10 were first generation entrepreneurs. Six out of the top ten had made their fortunes in the knowledge industries. They did not inherit wealth, nor did they have a family name. They reflected a new social ethos of post-reform India where talent, hard work and managerial skill had replaced inherited wealth.
Literature is about passion. But, so is entrepreneurship, and in this respect Schumpeter was correct. After 1991, hundreds of otherwise sensible Indians responded to the reforms. They pulled out their hard-earned savings and started businesses. Not surprisingly most failed. The remarkable thing about a competitive economy is the very high failure rate of entrepreneurs. In India, there was also the indignity of having to still grovel before a dozen inspectors. Some might call this courageous, others stupidity. It is not only greed but passion which inspired it. These entrepreneurs were as mad as the medieval Rajputs who went to battle time and again when they knew in their hearts that they might not return.
At the moment of writing this essay in 2005, there were approximately twenty Indian companies that had become globally competitive, and another twenty were on the way. Freed of the shackles of the Licence Raj the best Indian entrepreneurs had responded. Gone was the protectionist rhetoric of the “Bombay Club”, and the best firms were benchmarking with the best in the world. The distractions of family feuds had also receded. Many houses had collapsed, of course, but the successful ones had learned to separate the family's from the company's interest. The biggest surprise was that some of the best and most innovative firms were members of old business houses like the Tatas.