Distribution Channels in Indonesia: Current Trends and Enduring Difficulties

Indonesia

I wrote in this post that for many global businesses operating in emerging markets, the most common sales channel is to operate through distributors.  In Indonesia, one of the truly hot frontier markets in the Asia-Pacific region, this is especially true and a key success factor for MNCs.  Geographically fragmented across many large and small islands, the country has a growing consumer base but is difficult to navigate.  Even foreign companies FSG supports that have been there for over a decade continue to have an indirect or hybrid channel presence, not a pure direct sales force.

I recently spoke with one of FSG’s expert advisors in Indonesia, Ignatius “Iggi” Khomasurya, about the distribution environment there.  He had three basic messages for companies looking to enter or expand operations in Indonesia.  First, there are some interesting trends underway that are expanding opportunity for multinationals and worth a careful look.  Second, though it is a challenging business environment (beyond the geography), it is navigable with proper planning.  Third, there are some big mistakes he has seen other companies make, that you don’t have to.

Trends

The more things change… Cold chain is starting to expand in Indonesia.  This means distributors increasingly deploy refrigerated trucks across the country, which is great news for many businesses, especially those involving food and pharmaceutical products.

A second trend is that the rise of cloud computing is increasing local business interest in deploying enterprise technology and software for sales force automation.  Previously, setup, maintenance and connectivity concerns were prohibitive, but in the cloud, those costs are greatly reduced.   So you can start to expect your distribution partner to report “real time” daily sales figures by area, salesman, store type and SKU.  On the cutting edge, a local FMCG has deployed 1,000 iPads to its sales force.  If you want your distributors to track pipeline inventory in real time, it might not happen tomorrow, but it is no longer a hope that is worlds away.

The more they stay the same… The average consumer in Indonesia does not yet trust e-commerce, and many do not yet have a credit card.  In fact, Iggi said, there are 27 issuers and only around 20 million credit cards in Indonesia, out of a population of 240 million (and many people who do have cards hold two).  This means people (and businesses) use cash and are very tight on cash flow.  As a result, middle and low income Indonesians often prefer to buy a SKU with a small “cash ring” on a daily basis (say a 10 ml shampoo sachet) rather than bulkier packages (a 100 ml shampoo bottle), even if that means forgoing a bulk discount and convenience.

A fourth and final trend is that unlike most other Southeast Asian countries, Indonesia is still dominated by traditional rather than modern retail, and that is changing very slowly.  There are around 2 million outlets in Indonesia selling goods that needs to be replenished regularly. The supermarket presence in Indonesia is growing, but volume sold through convenience stores is growing faster.   Even so, the government is concerned that mom and pop stores will be killed off by modern retail, so it is intervening.  Recently a rule passed to cap the number of stores owned by a single company, such that expansion beyond a certain number can only be done through a franchise model.  This rule aims to facilitate the conversion and revitalization of fading mom and pop stores in a way that still encourages small local business ownership to professionalize and survive.

Difficulties

One of the largest difficulties for MNC’s operating in Indonesia is that local distributors are biased towards believing that foreign companies are trying to take advantage of them.  They are especially concerned that MNC’s will use them to blaze a distribution trail and then take over with their own sales force, offering poor compensation for their initial efforts.  Indonesians are often not confrontational, but Iggi says there are some “bad apples” that can become very antagonistic when an MNC attempts to exit a distribution arrangement with them.  Antagonism is a particularly likely outcome when a distributor feels humiliated and is sensitive to losing face.  Retaliation can be directed at your individual manager, or at your company.  In both cases, distributors can lean on and attempt to mobilize official powers on their behalf.

Threats against individuals can include action in the realm of immigration (instant deportation), taxation or in extreme cases police or military action.  Iggi knows of a local lawyer whose advice to a distributor was to have an expatriate general manager arrested and put in jail to force more favorable negotiation terms.  Some well-known MNCs have had their expatriate staff jailed or passports taken away in the midst of negotiations.  This is scary stuff, but real.

Threats to companies usually involve lawsuits. Iggi tells about a company sued by a distributor that “lost face” when the MNC exited to set up its own sales and distribution unit.  The courts tied up the company’s plans for the next three years, prohibiting appointment of a new distributor or a sales team.  The company went from 70% market share in Indonesia to around 30% by the time the ordeal was resolved.

The majority of distributors are not this uppity.  The ones to watch out for are those with owners with both sensitive personalities, and the resources to retaliate when displeased.  These difficult distributors often have a reputation and can be identified ahead of time by checking in with MNCs and local businesses operating in the community, whether in Jakarta or in the outlying provinces.

Advice

Fortunately, Iggi did not leave us feeling down on Indonesia.  By keeping a few lessons in mind, it is possible to capture Indonesia’s opportunities without incurring the wrath of distributors against the individual manager or company.

First, spend the time to find a good distributor. There are many good ones in Indonesia. Again, ask other MNCs or the people on the ground for character references, and conduct a professional background check if your budget allows.  One word of caution when selecting distributors: screen for motivation, not just ability.  One channel manager at a fast moving consumer goods company in Indonesia recently told Iggi they look for five things in a distributor: 1. Strong financials and good connections; 2. Distribution permits set up and ability to expand distribution; 3. Ability to hire and develop salesmen; 4, Ability to handle collections; 5. Ability to manage in-store merchandising and promoter personnel. At first glance this appears to be a pretty robust list.  But something important is missing.  That manager is just looking for ability, the elements of which are usually external and visible.  But he is not paying enough attention to a core question: who are these people, what motivates them, and are our objectives really aligned?  Because it can be complicated to exit a relationship in Indonesia, you want to be as sure as possible that you are entering a durable relationship.

Second, hire a good local lawyer.  Not when you’re in trouble, but just as a part of your local overhead.  Your general counsel from corporate center is probably an excellent lawyer, but they do not know how to help you structure contracts in Indonesia such that both you and the distributor both agree on what the contract really says.  A good local legal counsel can also help tackle the challenging situations above and draw both parties towards quick, amicable resolution.

Third, when you exit a distributor, understand that it expects to be paid “fairly” in exchange for going away quietly.   It is not unusual for a distributor to expect a significant severance package – on top of the expectation that you will buy out any remaining inventory that they are holding and on occasion help pay the cost of personnel redundancy.  One way to potentially avoid such a payout is to put the distributor on the defensive a few months before you broach the subject of terminating your relationship.  You can put them on the defensive by setting clear measurable expectations that they are not meeting, and by writing official letters pointing to breach of contract.

Fourth, when switching distributors, get involved in the details on both the outgoing and the incoming end.  Make sure you map out the client base the first distributor was reaching, and ensure that the new distributor guarantees to reach the same outlets and more.  Some companies have left a distributor that promised coverage of 60,000 outlets to gain a distributor that promised to reach 75,000 – only to find out after the transition was nearly complete that the second distributor did not have strong links to most of the original 60,000 outlets which were larger accounts and had been loyal customers.

Finally, if you decide to transition to a direct sales force, remember it is tricky to build one from the ground up in Indonesia.  Your best bet is to “hijack” the sales force that was already working for you, but was employed by your distributor.  To ensure this is possible, it is important to structure the initial distribution arrangement so that you have dedicated sales personnel working for you within the distributor, which you help train.  This is not uncommon, and if it is so arranged, these sales personnel will often gladly work for you later.  If negotiated smoothly, the distributor is content to see this happen rather than simply laying off a bunch of employees and creating a labor or morale problem on top of its lost business.

In conclusion, Indonesia is stable and growing, but it is still in some ways the Wild East, especially when it comes to channel management.  As the world’s fourth most populous country it should receive serious attention by any APAC regional executive when conducting market prioritization exercises.  FSG believes that the size of opportunity in Indonesia is actually head and shoulders above the other individual members of the ASEAN pack over the next several years.  We do not discourage operating there, but you’ll want to stay extra alert, and get plenty of local advice.  And of course you will benefit from staying connected to the collective wisdom of other MNCs operating in the country, which is one of FSG’s sweet spots.  Good luck, and let us know if we can help.

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