fan industry report

8/12/2019 Fan Industry Report

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Kamal MunirUsman Khan

March 2011

Fan Industry inGujrat & Gujranwala:

An SME ClusterStudy

DPRC WORKING PAPER


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Kamal Munir

Usman Khan

March 2011

Fan Industry in

Gujrat & Gujranwala:

An SME Cluster

Study

DPRC WORKING PAPER

The Development Policy Research Centre (DPRC) is a knowledge centre

structured around core socioeconomic development themes with the objective of

carrying out cutting edge multi-disciplinary research. The centre combines the

disciplines of social sciences and law to strengthen evidence-based policymaking.


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This paper was completed as part of a Research Study by LUMS under SME

Cluster Survey Project of State Bank of Pakistan. This document is submitted

to the State Bank of Pakistan and remains the copyright of the Bank.


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Table Of Contents

1 Introduction.............................................................................................................011.1 The SME Sector ............................................................................................................................011.2 Issues Confronting SMEs .............................................................................................................01 1.2.1 Financing Issues ...............................................................................................................02 1.2.2 Information Asymmetries, Adverse Selection and Moral Hazard ..................................02 1.2.3 Risk Profile ........................................................................................................................02 1.2.4 Transaction Costs .............................................................................................................03

2 Pakistan Fan Sector ................................................................................................ 052.1 History of the Sector ....................................................................................................................052.2 Composition of the Sector ..........................................................................................................062.3 Contribution to the National Economy ......................................................................................072.4 Key Attributes of the Sector ........................................................................................................082.5 SWOT Analysis ..............................................................................................................................092.6 Value Chain & Productivity Analysis ...........................................................................................10 2.6.1 Material...............................................................................................................................11 2.6.2 Melting & Aluminum Die Casting ....................................................................................11 2.6.3 Assembly Process...............................................................................................................11 2.6.4 Overall Value Addition ......................................................................................................122.7 Framing Competitiveness: Porter Framework ...........................................................................122.8 Overall Financials .........................................................................................................................13 2.8.1 Indicative Income Statements .........................................................................................13 2.8.2 Indicative Balance Sheets ................................................................................................14 2.8.3 Cash Cycles .......................................................................................................................14 2.8.4 Gaps In Funding ...............................................................................................................15

3 Industry Structure & Rivalry .................................................................................. 173.1 Evidence and Issues .....................................................................................................................17 3.1.1 New Entrants in the Cluster .............................................................................................18 3.1.2 Product Mix .......................................................................................................................18 3.1.3 Market Dynamics ..............................................................................................................18 3.1.4 Competitive Environment of the industry ......................................................................18 3.1.5 Barriers to Entry ...............................................................................................................19 3.1.6 Price Competition ............................................................................................................20 3.1.7 Succession Planning .........................................................................................................213.2 Strategy .........................................................................................................................................21 3.2.1 Increasing Access to Physical Inputs ...............................................................................22

4 Demand Conditions ................................................................................................ 234.1 Evidence and Issues .....................................................................................................................23 4.1.1 Local Demand Patterns ....................................................................................................25


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4.1.2 Export Market Competitiveness ......................................................................................26 4.1.3 Marketing Strategies .........................................................................................................31 4.1.4 Inconsistent Quality and Certification ............................................................................324.2 Strategy .........................................................................................................................................33 4.2.1 Common Branding ...........................................................................................................33

4.2.2 To Institute Domestic Standards o of Quality ................................................................334.3 Encourage Exports of High Value Added Products ...................................................................33

5 Ancillary and Support Sector .................................................................................. 355.1 Evidence and Issues .....................................................................................................................35 5.1.1 Sourcing of Raw Materials.................................................................................................35 5.1.2 Level of Vertical Integration .............................................................................................37 5.1.3 Vendor Relationships .......................................................................................................37 5.1.4 Terms of Payment with Suppliers and Buyers ................................................................38

5.1.5 Support Institutions .........................................................................................................39 5.1.6 Business Development Services ......................................................................................405.2 Strategy .........................................................................................................................................41 5.2.1 Enhance Capacity of Fan Development Institute ...........................................................41 5.2.2 Building the Capacity for Testing the Fans for Export Markets ....................................41 5.2.3 To assist in Learning from Best Performing Countries ..................................................41 5.2.4 Standardization of Common Parts ..................................................................................41

6 Factor Markets ........................................................................................................ 43

6.1 Labor ............................................................................................................................................44 6.1.1 Evidence and Issues .........................................................................................................44 6.1.2 Human Resource Availability ...........................................................................................44 6.1.3 Management Capacity ......................................................................................................45 6.1.3.1 No Benchmarking Indicatiors ............................................................................466.2 Strategy .........................................................................................................................................48 6.2.1 Upgrade FDI as Comprehensive Training Centre for Fan Manufacturing ...................48 6.2.2 Productivity Benchmarking .............................................................................................48 6.2.3 SMEDA Support ................................................................................................................48

6.3 Capital ...........................................................................................................................................48 6.3.1 Evidence and Issues .........................................................................................................48 6.3.1.1 Financial Management of the Fan Cluster .........................................................48 6.3.1.2 Leverage ...............................................................................................................49 6.3.1.3 Profit Margins.......................................................................................................49 6.3.1.4 Accounting and Costing Procedures..................................................................50 6.3.1.5 Key Source of Funds for the Cluster ..................................................................50 6.3.1.6 Access to Formal Credit ......................................................................................51 6.3.1.7 Type of Financing Products ................................................................................52

6.3.1.8 Existing and Future Financing Needs ................................................................52 6.3.1.9 Brief Account of the Lending Processes and Type of Securities ......................54


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6.3.1.10 Banks Comfort Level in Extending Credit .......................................................................54 6.3.1.11 Issues in Accessing Formal Credit......................................................................55 6.3.1.12 Collateral Based Lending ....................................................................................56 6.3.1.13 Differences in Risk...............................................................................................56 6.3.1.14 Industry Effect .....................................................................................................57

6.3.1.15 Managerial Capabilities .......................................................................................57 6.3.1.16 Relationship Based Banking ...............................................................................576.4 Strategy .........................................................................................................................................57 6.4.1 Suggestions on Improving the Bankability of the Cluster .............................................57 6.4.2 Tailoring of Commercial Bank Products .........................................................................58 6.4.3 Cluster Lending ................................................................................................................58 6.4.4 Venture Capital Fund .......................................................................................................59 6.4.5 To Ease the Cost of Borrowing for Technology Upgrade .............................................59 6.4.6 Products By Commercial Banks ......................................................................................59

6.5 Technology ...................................................................................................................................60 6.5.1 Evidence and Issues .........................................................................................................60 6.5.1.1 State of R&D ........................................................................................................61 6.5.1.2 Product Development.........................................................................................62 6.5.1.3 Innovation Initiatives ..........................................................................................626.6 Strategy .........................................................................................................................................62 6.6.1 To liaise with Engineering Universities for R&D in Materials ........................................62

7 Policy & Regulatory Environment .......................................................................... 65

7.1 State Banks Current Interventions .............................................................................................657.2 Evidence and Issues .....................................................................................................................657.3 Strategy .........................................................................................................................................65 7.3.1 Setting Regulations ...........................................................................................................65 7.3.2 State Bank Interventions ..................................................................................................65

8 Data Chapter ........................................................................................................... 678.1 Particulars Of Establishment .......................................................................................................67 8.1.1 NTN Status ........................................................................................................................67

8.1.2 Number of Branches and Side Offices ............................................................................67 8.1.3 Companies with Operational Website (%) .....................................................................68 8.1.4 Firms as Single Establishments (%) .................................................................................68 8.1.5 Firms Owned By Other Establishments ..........................................................................69 8.1.6 Type of Premises for the Factory ....................................................................................698.2 Perception About Industry ..........................................................................................................70 8.2.1 Largest Units in The Industry ..........................................................................................70 8.2.2 Barriers To Entry ..............................................................................................................70 8.2.3 Employment in The Cluster .............................................................................................71

8.2.4 Indirect Employment Created By The Cluster ...............................................................71 8.2.5 Factors For Being Successful in Fan Industry ................................................................72


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8.2.6 Age of the Fan Cluster (Years) .........................................................................................728.3 Firm Characteristics .....................................................................................................................72 8.3.1 Value of Input Relative to Total Fan Value (%) ..............................................................72 8.3.2 Means of Record Keeping ................................................................................................738.4 Production/Management Characteristics ...................................................................................73

8.4.1 Cost of Setting Up A Fan Unit ..........................................................................................73 8.4.2 Market Shares: Urban vs. Rural ........................................................................................74 8.4.3 Total Annual Turnover .....................................................................................................74 8.4.4 Cost of Upgrading Technology ........................................................................................74 8.4.5 External Finance Needed for Capital Expansion ............................................................75 8.4.6 Type Of Bank Accounts Operated ...................................................................................75 8.4.7 Average Wage Bill (Per Annum) ......................................................................................75 8.4.8 Average fixed costs (in Case of No Production, Per Annum) ........................................76 8.4.9 Lowest Sales Recorded in last 10 years (Per Annum) ....................................................76

8.4.10 Highest Sales Recorded in last 10 years (Per Annum) ...................................................768.5 Banking Relationship & Financing Characteristics ....................................................................77 8.5.1 Use of Banks For Commercial Transactions ...................................................................77 8.5.2 Firms with Businesses Bank Accounts ............................................................................77 8.5.3 Businesses Applied for Short Term Financing ...............................................................77 8.5.4 Businesses Applied For Long Term Financing ...............................................................78 8.5.5 Business Interested in Availing Working Capital Facility ...............................................78 8.5.6 Duration Requirement for Working Capital ...................................................................78 8.5.7 Ease of Getting Commercial Credit From Banks ...........................................................79

8.5.8 Duration of Current Banking Relationship .....................................................................79 8.5.9 Working Capital Requirement (Rs./Annum) ..................................................................79 8.5.10 Feasibility of Current Market Rate of Interest ................................................................80 8.5.11 Comparing Formal & Informal Rates of Markup ............................................................808.6 Business Risks And Issues ............................................................................................................80 8.6.1 Key Indicators of Financial Viability ................................................................................80 8.6.2 Business Viability ..............................................................................................................81 8.6.3 Businesses with Own Brands ...........................................................................................81 8.6.4 Business Producing for OEMs (%) ...................................................................................81

8.6.5 Affiliation with Large Local Brand ....................................................................................82 8.6.6 Vendor Capacity ...............................................................................................................82

9 Conclusion .....................................................................................................................83

10 References ....................................................................................................................85


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List of Tables

Table 1: Age of Business..........................................................................................................................05Table 2: Economic Importance of the Fan Industry..............................................................................07Table 3: Contribution of Fan Industry to National Economy ...............................................................07Table 4: Legal Entities of Firms ...............................................................................................................08Table 5: Indicative Income Statements ..................................................................................................13Table 6: Indicative Balance Sheet for Fan Industry ...............................................................................14Table 7: Diversification in Products (Cross-Tabulation) .......................................................................24Table 8: Growth in Production over the Last 5 Years............................................................................25Table 9: Increase in Sales over the Last 5 Years.....................................................................................25Table 10: Growth in Sales over the Next 5 Years...................................................................................25Table 11: Total Local Market Size for Fans .............................................................................................26Table 12: Average Price of Fans in the Local Market .............................................................................26Table 13: Categorization of Firms as Exporters .....................................................................................28Table 14: Exports as % of Total Sales......................................................................................................28Table 15: Sale Distribution Channel .......................................................................................................32Table 16: Satisfaction with Quality & Availability of Inputs...................................................................36Table 17: Estimated Input Use by the Sector .........................................................................................36Table 18: Outsourcing .............................................................................................................................37Table 19: Credit Availability from Vendors.............................................................................................38Table 20: Length of Credit Period by Vendors.......................................................................................38Table 21: Price marked up on Credit Purchase from Vendors .............................................................39Table 22: Sales on Credit .........................................................................................................................39Table 23: Sales Credit Period (Days) ......................................................................................................39Table 24: Employment Growth...............................................................................................................44Table 25: Scorings....................................................................................................................................47Table 26: Sample Overall Effective Efficiency of Fan Industry..............................................................48Table 27: Financial Practices in the Fan Cluster ....................................................................................48Table 28: Profit Margin on a Per Unit Basis ............................................................................................49Table 29: Average Export Price in US$ ..................................................................................................50Table 30: Financial Statements ...............................................................................................................50Table 31: Audited Financial Statements .................................................................................................51Table 32: Formal Accounts for Tax .........................................................................................................51Table 33: Default of Debtors ...................................................................................................................51Table 34: Long-term Financing Facility ..................................................................................................53Table 35: Best Place to Acquire Technology ..........................................................................................53Table 36: Increase in Production as a Result of Capital Expenditure...................................................53Table 37: Repayment of Long-Term Finance .........................................................................................54Table 38: Age of Technology Installed ..................................................................................................60Table 39: Willingness to Upgrade Technology ......................................................................................60Table 40: SME Split Definitions in India ................................................................................................66


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List of Figures

Figure 1: Split of Fan Manufacturers between Gujrat & Gujranwala (%) ............................................06

Figure 2: Size of the Fan Industry (% response of the firms) ...............................................................06

Figure 3: Firms Working as Registered Businesses (%) ........................................................................08Figure 4: SWOT Analysis..........................................................................................................................09

Figure 5: Porters Diamond Model .........................................................................................................12

Figure 6: Structure of Fan Manufacturing Cluster in Gujrat & Gujranwala .........................................17

Figure 7: Businesses Closed Down in Last 5 Year .................................................................................18

Figure 8: Are there Strong Barriers to Entry in the Cluster ..................................................................19

Figure 9: Barriers to Entry in the Fan Cluster ........................................................................................20

Figure 10: Movement in General Prices of Fans ....................................................................................20

Figure 11: Impact on Prices on Increase Number of Firms in the Industry ........................................21

Figure 12: Capacity Utilization over a typical 12-Month Production Cycle..........................................23Figure 13: Pakistans Fan Exports (US$ Million)....................................................................................27

Figure 14: Export Potential for Pakistan Fan Industry...........................................................................27

Figure 15: Exports of Industrial Fans from Pakistan (US$) ...................................................................28

Figure 16: Export Markets of Pakistan Fans 2009 (% Shares) ...............................................................29

Figure 17: Export Market Competitiveness............................................................................................29

Figure 18: Growth of Fan Exports from Pakistan (2004-09) % .............................................................30

Figure 19: Country Shares in Fan Exports (2004-2009) % ....................................................................30

Figure 20: Average Export Price of Fans in International Market US$ .................................................31

Figure 21: Competition for Imported Fans in Local Markets ...............................................................??Figure 22: Imported Components Used by the Fan Manufacturers (%) .............................................35

Figure 23: Awareness Regarding Efforts of SBP/GoP to Assist SMEs....................................................41

Figure 24: Capacity Utilization over Typical 12 Month Period..............................................................43

Figure 25: Annual Output/Worker..........................................................................................................44

Figure 26: Availability of Skilled Workers in the Fan Sector .................................................................45

Figure 27: Availability of Workers Training Institutes in the Fan Cluster.............................................45

Figure 28: Sample Benchmarking of the Cluster...................................................................................46

Figure 29: Sample Overall Effective Efficiency of the Fan Industry......................................................47

Figure 30: Sources of Funds for Establishment of Business.................................................................49

Figure 31: Presence of Research & Development Institute for Fan Industry in Pakistan...................61


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List of Abbreviations

FDI Fan Development Institute

LUMS Lahore University of Management Sciences

MAU Maximum Absolute UtilizationNPO National Productivity Organization

OEE Overall Effective Efficiency

PEFMA Pakistan Electric Fan Manufacturing Association

SBP State Bank of Pakistan

SMEDA Small & Medium Enterprise Development Authority


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sources of finance.

1.1 The SME SectorAt one end of Pakistan's private sector lie large, formalenterprises that tend to have preferential access to all

forms of institutional lending, technology and the highly-skilled labor market. While at the other end of thespectrum are small and medium enterprises that in manycases are informal units. The latter group produces muchof the country's private output and accounts for most ofthe jobs. Yet, it remains mired in difficulties. It has neitherthe requisite access to financial capital, nor to managerialand technological resources necessary for their growth. Tomake matters worse, these enterprises struggle to get

within earshot of policymakers.

Studies show that nearly 90 percent of employment to thelabor force is provided by the private sector. However,most workers in the sector are not employed in large units;more than 60 percent of the workers are self-employed,and of that only 16.5 percent are salary earners. Moreover,the overwhelming number of the employed is occupied inmicroenterprises, including self-employment. Nearly 86percent work in units with less than five employees, while93 percent are employed in units with less than ten

workers.3

1.2 Issues Confronting SMEsDespite the obvious importance of small and mediumenterprises (SMEs) this sector is surprisingly understudied.Information about various SME dominated industriescontinues to be patchy. This includes the absence of aregular census of enterprises, and a very weak institutionalstructure for ascertaining the problems that these

enterprises face and for obtaining feedback on theeffectiveness of policies that are devised for them. Smalland Medium Enterprise Development Authority (SMEDA)suggests that SME problems lie mostly in accessingfinancial capital, information about markets, skilled laborand technology.

The key constraints on the banking sector's ability toexpand credit to the SME sector are discussed below.

1 Introduction

In the economic activities of most developing regions,small and medium enterprises (SMEs) play a major role.Pakistan is no exception. Its economy is dominated by

SMEs, which produce most of its output and employ mostof its workforce.1Specifically, SMEs constitute 90 percentof the economic establishments, 30 percent of GDP, 25percent of export earnings, and employ 78 percent of thenon-agricultural labor force.2 Any strategy for economicand industrial development, therefore, must pay specialattention to the issues that impact small and mediumenterprises.

To be categorized as an SME in Pakistan, a concern must

not employ more than 250 persons in the case of a manu-facturing or service concern and 50 persons in the case ofa trading concern. Moreover, its net sales should notexceed Rs 300 million and it must not possess assets worthmore than Rs 50 million for a trading concern and Rs 100million a manufacturing concern.

In view of SMEs for importance, the State Bank of Pakistanhas initiated a series of surveys and studies to analyze andaddress the key issues faced by this sector. Theprogramme designed by the State Bank of Pakistan willtake a cluster approach and will span 6 different sectors.This study focuses on the fan manufacturing clusters basedin Gujrat and Gujranwala. This project will be followed bystudies on five more SME clusters and will follow a similarmethodology.

The purpose of conducting this study was to enhanceexisting understanding of the Gujrat and Gujranwala fan

clusters. This will serve as a public good that should beshared among commercial banks, helping them in financ-ing growth in this critical sector. It will also aid the StateBank of Pakistan in evaluating its existing regulatorymeasures and facilities for this sector. Specifically, thestudy aims to provide key information on the size, growthpotential, key challenges, future outlook, existing andfuture financing needs, accounting practices, utilization ofbusiness services, and issues faced in accessing formal1The data for all Pakistan indicate that SMEs account for about 90 percent of all enterprises, employ 80 percent of the non-agriculturallabor force, and account for approximately 40 percent of the GDP,2State Bank of Pakistan, 2nd Quarter Report 2009-103Labor Force Survey, 2001/02


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Secondly, once banks have provided the funds, they maynot be able to assess whether the enterprise is utilizing thefunds in an appropriate way or is applying them in someother, riskier, direction that offers the borrower apossibilityeven if it is remoteof a bigger pay-off; this is

the well-known problem of moral hazard. A furtherdisincentive is that most loans sought by SMEs arerelatively small. Hence, the costs of ascertaining the stateof the borrowers business and of monitoring the use ofthe loan can be large relative to the size of the loan andthus severely reduce, or even eliminate, the bank's poten-tial profit on the loan.

To mitigate these problems, banks have adopted precau-tionary measures, such as requiring that financing be

collateralized, with collateral often exceeding 100 percentof the loan. This, however, raises other problems as SMEsnormally do not have many assets that can be collateral-ized. Moreover, the slow working of Pakistan's judicialsystem means that it has generally been difficult andtime-consuming for banks to take possession of thecollateral. In view of all these difficulties, banks frequentlyrefuse to lend at all or severely restrict the size of theirloans to SMEs.

However, while severely restricting lending to SMEs mightbe perfectly rational from the point of view of an individualbank, it may not be ideal from the point of view of thesociety as a whole, because lending may be held down tobelow the socially optimal level. The risk-adjusted returnsto society might still be positive at the point at which thecommercial bank stopped lending. In order to bridge thisdisjunction between social and private profitability, it isimportant to seek ways of strengthening the ability of

financial institutions to lend to SMEs.

1.2.3 Risk Profile

Another element highlighted by commercial banks aslimiting the ability of SMEs to access finance is their higherrisk. Most commercial banks regard SMEs as riskier (thanlarge enterprises) for a number of reasons. First, SMEs facea more uncertain competitive environment than largercompaniesthey experience more variable rates of return

1.2.1 Financing Issues

Access to finance appears to be a major problem for SMEs.Consequently, most SMEs operate entirely on their ownequity. The results of sample surveys for the Asian Devel-opment Bank suggest that in Pakistan only about six

percent of fixed investment finance for SMEs comes fromdevelopment finance institutions and commercial banks.Four more restricted surveys by the World Bank suggestsimilar results for the province of Punjab. These studiessuggest that the start-up investment is self-financed, whilecontinuing operations are largely funded through retainedearnings. This is in sharp contrast to large firms, which areactively wooed by commercial banks both for workingcapital and fixed investment finance.

1.2.2 Information Asymmetries, Adverse Selectionand Moral Hazard

Information asymmetries and their consequence, the fearof adverse selection, are important underlying causes forhighly restricted commercial bank lending to SMEs (and tomicroenterprises). The information that SMEs can provideto banks (in the form of financial accounts, business plans,feasibility studies, etc.) often lacks detail, rigor and reliabil-ity. This problem is aggravated by the low level of educa-tion of small entrepreneurs, who may not be able to

adequately articulate their case. This creates a classicsituation of asymmetric information.

Asymmetric information means that the borrower (forexample, the SME) knows far more about the state of hisbusiness than does the lender (the bank). The latter,therefore, may have to spend considerable resources toget an accurate picture of the business's finances andprospects. This leads to at least two problems. Firstly,

banks may not be able to differentiate adequately betweenhigh quality and low quality companies and projects. Insuch circumstances, interest rates do not work well as ascreening device, because high interest may lead to anexcessively risky portfolio because of the problem ofadverse selectionthat the most persistent applicants forloans, and hence perhaps the most successful in securingthem, may be those with the least capacity (or intention) torepay.5

4Bari, Faisal, Ali Cheema and Ehsan-ul-Haque. SME Development in Pakistan: Analysing the Constraints to Growth. Working Paper.Manila: Asian Development Bank, 20055A senior banker interviewed told that, in his experience, the tenacity of an applicant generally bore an inverse relation to his capacityto repay.


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and higher rates of failure. Second, SMEs are less equipped(compared to larger enterprises) in terms of both humanand capital resources to withstand economic adversities,especially unforeseen economic shocks. Third, theirinadequate accounting systems and lack of financial

controls undermine the accessibility and reliability ofinformation on profitability and repayment capacity.Finally, SMEs in Pakistan operate in a somewhat ambigu-ous environment regarding governance, which reducesthe security of transactions. There is a greater risk thatbanks will not get paid, or that assets such as property willnot be properly registered.

1.2.4 Transaction Costs

The banks further report that irrespective of consider-

ations regarding the risk profile, the handling of SMEfinancing in Pakistan is an expensive business. The bankingsector consulted during the development of this reportreckoned that the cost of appraising a loan applicationorof conducting a due diligence exercise in view of a possiblenew client making a new investmentwas largely indepen-dent of the size of the financing under consideration.

The banking sector feels that if the capacity of the SMEsector were strengthened to overcome the foregoing

impediments, then credit would flow more easily to thissector and its availability would not be an issue.

In order to address the above issues it is imperative thatinformation flow between stakeholders is enhanced andthe capacity of the SME sector is built so that it is able toaccess formal credit markets. With this in mind, we set outbelow the study of one specific SME dominated sector:fans.

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units obtained the knowledge of electrical fan productionby delegating a family member to learn from a leading fanproducer in Amritsar in the then undivided British India.Thus, prior to 1947, a small base of fan producers hademerged in Gujrat. Demand for locally produced fans grew

rapidly after 1947, boosted in particular by the exclusion oftraditional Indian fan suppliers (particularly Amritsar-based) from the Pakistani market (Rana & Ghani, 2004).However, the development of the fan cluster is not theoutcome of a planned intervention by the Pakistani statebut has emerged from within as an endogenous process.

Alongside geographical similarity, entrepreneurs withinthe cluster share identical social and communitystructures. They have common religious identities, and arepart of the same dominant ethnic, language (Punjabi) and

kinship groups.

Our survey also depicts that the majority (72%) of therespondents are operating in the fan manufacturingbusiness for more than 10 years (as shown in the tablebelow). Moreover, the correlation between age and sales is0.9. This suggests that companies that are older in age arealso the ones that have the highest sales. This reflects thatthe sector has significant stability in terms of solvency. Thissolvency and stability results in consistent demand in localmarket and the ever increasing demand in the exportmarkets.

2 Pakistan Fan Sector

Pakistans fan industry is mainly clustered in four majorcities namely, Gujrat, Gujranwala, Lahore and Karachi.However, 98% of the countrys production is centered at

Gujrat and Gujranwala. The industry produces, on average,10 million fans a year with an estimated value of Rs. 18billion. Out of the total production, approximately 32%fans consist of pedestals, 5% brackets and the remaining63% are ceiling fans.6 Fan manufacturing belongs to thelight engineering industry category, and is one of theindustries that existed at the time of independence.

We have categorized the fan industry in Gujrat and Gujran-wala as a cluster; since there is a geographical concentra-

tion of the fan industry within which firms, and otheractors in the spatial economic system are formally orinformally interlinked, through their activities. This clusteroffers the advantage of cutting the cost of production andcomplementarity of products. Moreover, the labor-divisionnetwork in the cluster positively stimulates the diffusion ofknowledge and information in the local industry.

2.1 History of the SectorBefore the emergence of fan production, local metal

workshops manufactured components for water pipes andwater hand pumps in Gujrat. One of these small family-run

6Field Survey done by LUMS team and meeting with Pakistan Electric Fan Manufacturers Association (PEFMA)7In order to assess if the values differ by the volume & size of the factory, we have sorted and divided the data into 4 groups withrespect to annual sales. The 1st quartile represents firms with lowest sales and the 4th quartile represents firms with highest saleswithin the sample. All the graphs also contain average values.

Source: LUMS Survey (2010)

1st Quartile(Lowest 25% of Sales)

Response in EachSales Quartile

2nd Quartile

3.7% 7.4% 0.0% 29.6% 59.3%

< 1year 1 - 3 years 3 - 5 years

Age of Business

5 -10 years >10 yearsTotal

100.0%

0.0% 0.0% 18.5% 14.8% 66.7% 100.0%3rd Quartile 3.7% 3.7% 7.4% 18.5% 66.7% 100.0%

Last Quartile(Top 25% of Sales)

TOTAL

0.0% 0.0% 3.8% 0.0% 96.2% 100.0%

1.9% 2.8% 7.5% 15.9% 72.0% 100.0%

Table 1: Age of Business7


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supplying comparatively low quality products at cheaperprices to the low-income segment.

The largest concentration of fan manufacturers and therelated vendor industry is found in the cities of Gujrat and

Gujranwala. During our interviews, we were informed byindustry sources that out of a total of Pakistans 450 fanmanufacturers, approximately 70% (315) are located inGujrat and 30% (135) in Gujranwala. Our survey confirmsthis information as shown in the graphs below.

2.2 Composition of the SectorGlobal fan trade is classified on the basis of energyconsumption. The fans that consume less than 125 watts ofenergy (SITC 74341; HS 8414.51) are generally referred toas domestic fans and the fans that consume over 125 watts

(SITC 74343; HS 8414.59) are classified as industrial fans.Fan industry in Pakistan is mainly dominated by produc-tion of domestic fans. Major fan producing countries in the

world are Japan, Korea, Taiwan, Hong Kong, India andChina. Japan is covering the high quality segment of the fanmarket. Korea and Hong Kong are targeting the middlesegments while India, China, Taiwan and Pakistan are

2ndQuartile

1stQuartile

3rdQuartile

4thQuartile

Overall

Gujrat Gujranwala

Figure 1: Split of Fan Manufacturers between Gujrat & Gujranwala (%)


100%

80%

60%40%

20%

10%

100%

80%

60%

40%

20%

10%

1stQuartile

2ndQuartile

3rdQuartile

4thQuartile

Overall

Less than 300 Between 300-450 Between 450-500 Over 500

Figure 2: Size of the Fan Industry (% response of the firms)



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employment is far below its potential as the industry

currently faces a seasonal demand. Employment opportu-nities only exist for 5-6 months and as a result workers arenot attracted.

It is estimated that industry is currently producing 10million fans worth Rs. 18 billion. This figure implies thatthe sector contributes 0.27% to the national GDP. The fanindustry also feeds on a wide range of supporting indus-tries such as plastic, aluminum casting, steel, various parts,

etc. and thus potential reverberations in economy are fargreater than what is represented by the figure above.Pakistan Electric Fan Manufacturing Association (PEFMA)indicates that one employment in vendor industry createsthree indirect employments elsewhere. Since employment

2.3 Contribution to the National EconomyOver the previous decade, the fan cluster has grown signifi-cantly in economic importance. Currently, the clusterenjoys approximately Rs. 18 billion in sales, and has experi-enced an average growth of 17% per year since 1999. The

cluster provides direct employment to more than 35,000workers in the area.

Of the 450 companies, only six companies can be catego-

rized as large scale manufacturing units. These units havein-house capacities to conduct most of the productionprocesses inside the unit and are also characterized withhigher levels of investment and modern technology. Tier 2companies are numbered from 40-50 and have mediumsized units and in-house capacities to conduct majorportion of the production process. These units, however,lack adequate finance for investment and access to moderntechnology. The remainder can be categorized as Tier 3

companies with small operations, high degree of outsourc-ing and outdated machinery. The average age of themachinery employed is between 5-10 years. Sales are alsofairly concentrated with six large firms in Gujrat and threein Gujranwala, accounting for 70% of total industry sales.

The data from the survey suggests that the industry isdominated by small firms and as such does not benefitfrom economies of scale. The average capacity of a typicalfirm is around 500 fans/day which is extremely low ascompared to Chinese counterparts where firms average

productivity is 35,000 fans/day. The cluster offers directemployment to more than 35,000 people. This scale of

Source: Field Survey done by LUMS team and interviews with PEFMA (2010)

Table 2: Economic Importance of the Fan Industry

Number of units 475-500

Total Annual Installed Capacity 10 million Fans

Current Production 8 10 million Fans

Current Total Local Demand 10 12 million fans

Total Export Potential 15 20 million fans

Contribution to National Exports 0.20%

Contribution to GDP 0.27%

Capital Output Ratio 0.25

Cluster Direct Employment 35,000 40,000

Cluster Indirect Employment 4 times the direct employment

Capital Labor Ratio 8 workers/million (Rs)

Total Estimated Investment Rs 5.0 billion

Source: Interviews by LUMS team (2010)

Table 3: Contribution of Fan Industry to National Economy

To GDP(%) 0.27%

To Direct Employment (Numbers) 35,000 40,000

To Indirect Employment (Numbers) 140,000 160,000

To Exports (%) 0.2%


20/9908

in the fan industry is around 35-40,000, which is 0.4% of thetotal manufacturing employment (formal sector), adding140-160,000 indirect employment in the industry makes itto go up to 1.54% of total manufacturing employment.

2.4 Key Attributes of the SectorThe fan cluster mainly consists of individual proprietorshipfirms and small partnerships. The level of formality isrelatively high with over 90% of the firms being registered

with the firm registrar (See figure 1). However, only a fewlarge firms have been registered as private limited compa-

nies under the Companies Ordinance, 1984 (see table 4).The ownership structure represents the inherent myopicand closed mind set of the sector. The industry over the

years has preferred to stay small and not invest significantlyin expansion, especially that of its management and owner-

ship structure. Hence, the sector is somewhat hostage toits old competitive advantages and production secrets. Theindustry shies away from introducing new elements thatcould bring more transparency in operations and devolvecontrol from the owners.

Figure 3: Firms Working as Registered Businesses (%)

Yes No


Overall

100%

80%

60%

40%

20%

10%

1stQuartile

2ndQuartile

3thQuartile

4thQuartile


1st Quartile (Lowest 25% of Sales) 81.5% 11.1% 7.4% 100.0%

2nd Quartile 63.0% 33.3% 3.7% 100.0%

3rd Quartile 74.1% 25.9% 0.0% 100.0%

Last Quartile (Top 25% of Sales) 61.5% 19.2% 19.2% 100.0%

TOTAL 70.1% 22.4% 7.5% 100.0%

Table 4: Legal Entities of Firms

Response in EachSales Quartile i. Individual

Ownership/Proprietorshipii. Partnership

Type of Legal Organization

iii. PrivateLimited Company

Total


21/9909

Significantly matureand well establishedindustry

Low cost labor

Extensive domesticretail network

Linkages with majorlocal brands andwith supply chain

Established fanvendor industry

Flexibility to meetmarket trendrequirements

Increasing reputa-tion for quality

Small capitalrequirement toupgrade productionplants

Low investment in technol-ogy and R & D

Lack of scale both in vendorindustry and fan assembly

Industrys complete lack ofwillingness to movetowards standard parts

Cyclical productionresulting in reducedavailability of skilled

workforce Environmental and Social

Compliance issues Absence of domestic

metallurgy industry Non-proactive marketing Few collaborative produc-

tion and marketing efforts Weak Industry / Academia

linkages Lack of internationally

certified / accredited testingfacilities

Unreliable and expensiveenergy supply

Male dominated workforce social compliance issues

Absence of proactive longterm government policy

Inconsistent qualityparameters followed

No production efficiencymeasurement or bench-marks followed

Domestic demandextremely elastic

Negative intra-industrycompetition

Wide English languagecapability

Growing demand inexport markets

Establishment of brandsin export markets

Scope for scaleeconomies andspecialization inmanufacturing process

Innovation towardsemergy efficient anddcor fans

A growing $3.5 Billioninternational market

Rising domestic marketpotential for betterquality fans

Outward FDI to acquireinternational brandsand distributionnetworks

Untapped venturessuch as componentfans i.e. PC fans

Emergence of India as acompetitor with betterbranding

Stricter electrical safetystandards

Price variability in rawmaterial and components

Low entry and existbarriers

Economic crisis hasweakened worldwideconsumer demand

Consistent governmentsupport and incentives topromote fan sectorcompetitiveness incompeting countries (E.g.China and India)

Negative image of Pakistan

Security / law and order

Social, environmental andquality compliance

Fan substitutes

High end domesticdemands preference forimported brands

Stricter internationalcertification standards

Industry resistance tochange

Strengths Weaknesses Opportunities Threats

Figure 4: SWOT Analysis

2.5 SWOT AnalysisBased on the industry interviews and survey finding wehave developed the SWOT analysis below:


22/9910

2.6 Value Chain & Productivity AnalysisValue Chain analysis tool is employed to explain thespecific issues faced by the producers of the fan industry.

Where data is available analogies with reference to theglobal value chains are also made to identify critical

weaknesses. The analysis points out that there are severalsupply side constraints as well as weaknesses in valueaddition. It must be emphasized that the value chainpresented below represents what is typical for the indus-try. It is possible that some larger firms may be slightlybetter placed and some small ones slightly adversely

placed than the representation presented below.However, the numbers provided below have been verifiedby industry representatives.

The overall structure of the value chain suggests that

industry typically adds 20% in value addition of aroundRs.450 per fan. The vendors are adding almost sameamount of value, however the importers take the majorbulk of the value addition.

Value Chain for Fan Industry: Illustrated Product is Deluxe Model Ceiling Fan

MaterialCost (Rs.

1400)

Marketing &Logistics(Rs. 50)

Sales PriceRs. 2100

Processincluding

labour (Rs.300)

1. Aluminium 12.4%

2. Aluminium Rod 3.2

3. Blades - 13.2%4. Electric Sheet 24%

5. Winding Wire - 18.9&

6. Bearing - 2.4%

7. Paint- 4.9%

8. Other Parts 21.8%

ISSUES

1. 50% of the materials are

imported including electric

sheet, winding wire,

bearing and paint and some

other small parts. Value

Addition is not possible.

2. Where local materials areused (aluminum and steel

sheet) quality is not

consistent. Fans are not

energy efficient

Casting and aluminium

die-casting process is not

energy efficient. 95% of thecosts are electricity

consumption.

Uncompetitive electricity

pricing policy

1. Pakistan: $0.14/Kwh

2. S. Africa: $0.06/Kwh

3. China: $0.09/Kwh

4. Taiwan: $0.09/Kwh

Electricity unreliable and

generators are needed to run

the operation cost of

running the generator is even

more expensive around$0.28/Kwh.

On average 40 electricity

outages/month is experienced

affecting performance

Value addition is low due to lack of

designing, product innovation, highinput costs, and compliance issues

restricting entry into high income

markets.

The current marketing costs include wall

writing, newspaper and internet. The

sector does not have a clear marketing

strategy for export. Branding

internationally is nonexistent.

International importers are

adding more value than the

manufacturers. The inability of

local manufacturers to develop

sale points abroad means the

foreign agents are taking bigger

chunk of the value added. In

comparison, India and China

have much more on ground

presence in their export target

countries.

1. Body Turning 0.5%

2. Body Drilling 0.3%

3. Axle Turner & Winding

1.2%4. Fitter 0.3%

5. Painting 1.1%

6. Testing & Packaging

0.3%

ISSUES1. The Body turning is

currently done using simple

Lathe Machine If

technology is upgraded to

CNC Machines productivity

will increase by a minimum

of 4X. This will reduce the

costs significantly. The

quality will also improve and

a reduction in wastage of5-10% wastage will be

possible.

2. Body drilling is currently

done by single drill multi

drills will improve the

productivity 4X.

3. Painting is predominantly

done in the industry using

wet paint and spray gun.

This results in around 40%

wastage shift to powder

coating will reduce loses

significantly.


23/9911

2.6.3 Assembly Process

Assembly process which is the main portion in terms ofwork head in a typical factory contributes only 3.8% tovalue addition. The portion predominantly representswages paid to workers working on various machines. The

main issue in this segment of the value chain is the lowproductivity due to inadequate upgradation of technology.More specifically, for each process the industry uses anolder technology as compared with its counterparts. Forexample, the current technology used for body turning islathe machine, if, technology is upgraded to CNC machinesthe productivity will increase by at least four times.Similarly, shifting drilling technology to multiple drilling

will increase production three times. For pedestal fanscurrently majority of the industries use manual coiling

techniques, moving to automatic coil inserters willincrease productivity by five times. The change in technol-ogy will not increase productivity but will also increasequality and performance of the product. When consideringglobal value chains, Chinas production processes aremuch more efficient and highly productive. The Chinesefan manufacturers on average produce 45-50,000 fans/ dayas compared to the average firm in Pakistan only makingaround 200-300 fans/day. The current levels of productivityare extremely low not only due to lack of modern technol-

ogy but also due to weak production process flow manage-ment. The assembly line in factories need to be rational-ized so that the existing set ups achieve better technology.

Moreover, another critical area in assembly process is thepainting cycle of fans. Over 90% of the firms are using spraypaint technology with wet paint. This technique has a high

wastage ratio. Around 40% of the paint is wasted andfurthermore this technique is environmentally hazardous.The industry needs to move to more efficient techniques,such as electrostatic powder coating paint. This technol-ogy is not expensive and provides much better results interms of quality and avoids wastage.

The strategy to address the issue of inadequate technologyupgrade is to make it feasible for the firms to invest. Thecurrent impediment to investment in technology is signifi-cantly high rates of interest and access problems for SMEs.The government should facilitate the sector by establishing

cost sharing schemes for technology upgradation, wheregovernment can pick up some of the costs of mark up due.Furthermore, a study may be conducted to evaluate the

2.6.1 Material

The value chain analysis above depicts that over 80% of thecosts represents the material and parts required toproduce the fan. Out of this 50% of the materials arenormally imported. The heavy reliance on materials results

in volatile performance as minor changes in prices of partsand materials result is significant cost variability. The highvalue also suggests that there is little value addition / costsavings opportunities that are available. Moreover, ascompared with international competitors such as Chinathe local industry is at a disadvantage due to lack ofresearch and development in materials. China has beenable to diversify its production of materials required for fanmanufacturing moving into PVC, composites of metals etc.Pakistan on the other hand is still relying on pure materials

which are not cost effective.

The strategy to address the issue is to facilitate the linkagebetween the industry and research and developmentinstitutions. The industry should lay out their require-ments about materials and the research institutions shoulddevelop newer materials that are cost effective. Further-more, mergers should be encouraged to increase firm sizeso that greater production process is internalized.

Additionally, standardization of parts should be couraged

in the industry. Moving to common parts will imply thatlarge scale production is possible which will assist in reduc-ing costs.

2.6.2 Melting & Aluminum Die Casting

The first major in house process after material procure-ment is melting and die-casting of aluminum. The processis reasonably efficient except for costs and irregularity ofelectricity. This increases the costs of production and also

the inconsistency in die making. Currently 5-6% of lossesoccur at this stage due to irregular quality. The verticalintegration at this point in the value chain is the die castingindustry. Gujranwala has developed strong capacity in diemaking and casting, which adequately supports the indus-try. TUSDEC has also recently opened up tools and diemaking center in Gujranwala which can adequatelysupport the fan industry in the region

The strategy to address this issue is to resolve the problem

of electricity shortage and to provide training to workersworking on die casting.


24/9912

2.7 Framing Competitiveness: Porter Frame-workMichael Porter used his Diamond Model, shown in Figure5 below, as the basis of his explanation of the beneficialimpact of industrial clusters on productivity and productiv-

ity growth. The four points of the diamond represent fourcategories of influence on a firms competitiveness thatdepend on its location:1. Factor input conditions;2. Context for firm strategy and rivalry;3. demand conditions;4. Related & supporting industries

In developing the analysis for this study we have applied amodified form of Porter model to assess competiveness of

the fan sector in Pakistan. We have used the evidencecollected through survey and field interviews to lay downthe main frame competitiveness structure of the fan indus-try. This analysis will help policy makers, investors, sectorplayers and the State Bank to easily learn about the maincharacteristics of the fan industry and make informeddecisions in their own roles.

current performance of technology and most optimal shiftrequired to maximize net gains. This study can give morespecific recommendations on what should be the mostefficient shift in technology given current industry capac-ity.

The industry should also be provided assistance to move tobetter production flow management, better inventorycontrol systems and stronger productivity and productionmonitoring. In addition, the industry should jointly visitmore productive factories in China to learn about theorganization layout of the larger units, the level of technol-ogy, product diversification and standardizationtechniques. This exercise should benchmark the PakistanFan industry relative to China and draw out important

lessons where improvements can be made.

2.6.4 Overall Value Addition

The current value addition is low due to high content ofinput and low price fetched by the product in the market.The VCA above reflect that the average price of a Pakistanifan (ceiling) is around US$25.

Figure 5: Porters Diamond Model

Firm Strategy,Structutre& Rivalry

DemandConditions

FacterConditions

Related &SupportingIndustries

Source: Porter, 1990, p.127


25/9913

trust deficit between the private sector and the publicsector. The private sector is shy of giving information asthey do not trust how the data will be used.

Moreover, on the side of the private sector the intent to

pay minimum taxes is also a key reason to hide financialinformation. The claim of the private sector is that thegovernment has failed to deliver the services that arerequired and waste the tax payers money on undueexpenditures. They also complain that those that do notpay any tax (i.e. are not even in the tax bracket) get away

with hiding everything and those that try to pay taxes getmore squeezed. This sentiment has to revise as Pakistan isalready extremely low on tax to GDP ratio indicator.However, to do this the government will have to increase

the tax base and bring services and agriculture moreforcefully into the tax net.

This sentiment of hiding and not reporting true financialinformation whereas lessens the scope for tax collection,but impact the firms abilities to benefit from supportprogrammes and also in getting formal credit. The banks

when reviewing financial information are unable to trustthe figures provided by the industry. Even in cases whereaudited information is provided there is little evidence to

trust the numbers. In order to make this report moreuseful for the banking sector we have prepared indicativefinancial statements for the fan sector that are split in termsof firm sizes.

2.8.1 Indicative Income Statements

We have provided below the indicative income statementsfor the firms in the fan sector.

Factor input conditions include tangible aspects such asphysical infrastructure and intangible ones such asinformation and the legal framework. The context for firmstrategy & rivalry encompasses the local investmentclimate as well as local policies that affect rivalry. Demand

conditions is the local market influence whether firms canmove from imitative, low-quality products and services tocompeting based on differentiated products. The factorsunder the related & supporting industries category are thekey facet of the diamond that relate to the formation andgrowth of industry clusters.

Porter argues that the quality of the business environment,defined by these four categories, is of paramount impor-tance to an economys sophistication and productivity, and

hence its competitiveness. Further, he argues that thefactors in the related and supporting industries category,of the cluster-specific aspects of the business environment,are the most significant. In particular, clusters influenceproductivity, innovation (and productivity growth), andnew business formation, which in turn supports innova-tion and subsequently expands the cluster.

2.8 Overall FinancialsThe fan industry is not any different from a typical SME

sector in Pakistan. The availability of credible data isextremely rare especially when the data relates to thefinances and assets of the company. Most efforts of thegovernment to collect reliable data are weakend byinadequate response by the sector. A core example of thisis the Census of Manufacturing Industries (CMI) data sets.This census is mandatory, however, still the response isextremely low and a significant amount of under reportingoccurs at the level of firms. A critical reason for this is the


Figures are in million Rs. 1stquartile 2ndquartile 3rdquartile 4thquartile

Sales 8.780 23.952 49.809 196.202

Cost of Goods Sold 8.286 22.545 47.128 184.151

Gross Margin 0.490 1.410 2.680 12.050

Gross Margin Ratio 5.6% 5.9% 5.4% 6.2%

Operating Expenses 0.116 0.270 0.585 6.950

Operating Income 0.37 1.140 2.100 5.100

Table 5: Indicative Income Statements


26/9914


Figures are in million Rs. 1stquartile 2ndquartile 3rdquartile 4thquartile

Assets

Current Assets

Cash 0.531 0.957 1.258 16.653

Inventory 0.795 1.234 1.829 27.233

Receivables 0.677 1.030 1.881 20.937

Total Current Assets 2.003 3.221 4.968 64.823

Fixed Assets

Land and building 1.873 3.005 4.203 43.101

Plant and machinery 1.777 2.657 3.528 27.742

Total Fixed Assets 3.65 5.662 7.731 70.843 Total Assets 5.653 8.883 12.699 135.666

Receivables/Total Assets 0.12 0.12 0.14 0.15

P&M/Total Assets 0.31 0.30 0.29 0.20

Current Liabilities

Account Payable 0.635 1.020 1.672 25.132

Shareholders Equity 5.018 7.863 11.027 110.543

Total Liabilities 5.653 8.883 12.699 135.666

Ac Payable/Total Liabilities 0.11 0.11 0.12 0.18

Table 6: Indicative Balance Sheet for Fan Industry

The balance sheet also sketches a similar picture to theincome statements. The first three tiers are similar in size;however, the fourth tier is extremely large. The top sixcompanies would have balance sheets significantly largerthan the 4th quartile as well. Moreover, the ratio of plant

and machinery to total assets is almost identical in the firstthree tiers and slightly lower in the 4th tier. The ratio ofreceivable to total assets and payable to total liabilities arealso quite similar, at least in the first three tiers of thegroup. This suggests that both large and small firms facesimilar credit cycles in terms of their sales and purchases.The value of large firms is bigger but this is expected due totheir size.

2.8.3 Cash Cycles

We have provided full details of the cash cycles in section 5.The broad highlights are the following: Around 81% of the purchases are made on credit

The table suggests large deviation in sales between firmcategories. The largest mean sales are around 25x the salesof the smallest firms. Growth potential lie in upgrading 1stquartile firms to 3rdquartile. This upgrade will add aroundRupees 14 billion to the total turnover of the industry.

Although the size of the sales varies significantly, the grossmargin ratios are broadly similar. Only the larger firms havegross margins above 6%. It is again indicated that thesenumbers should be used as benchmarks and with anunderstanding that these may under represent the truefinancial figures. However, the numbers do add up withthe value chain analysis which suggests that 80% of thecosts are incurred on material.

2.8.2 Indicative Balance Sheets

To further assist the commercial banks information hub onthe sector we have also constructed typical balance sheetfor the industry again split by sale size.


27/9915

Around 94% of sales are made on credit

The average duration of payment to debtors is 30 days The average duration of payment from creditors is 90

days

2.8.4 Gaps In FundingWe have estimated the following credit requirements forthe entire sector: Technology up-gradation will require credit worth

Rupees 3.5-4.0 billion Expansion of plants will require credit worth Rupees

1.5-2.0 billion Working capital requirement is estimated at around

Rupees 3.5-4.0 billion


28/9916


29/9917

specialization. Firms in the cluster have achieved a moder-ate level of inter-organizational division of labor &

interconnections and have shared the growth of the indus-try. The fan sector has become a vibrant manufacturingcluster with a lot of potential for creating economic value.

However, it could never realize its true potential, and mostof the businesses are still sole proprietorships, and have

been managed by the same family over decades. Around85% of the total fan production is sold domestically.

The structure of the industry is sharply fragmented with

the big 5-6 companies producing around 70% of the totalannual production of fans. These companies also dominatesales in the local market and have established local brandnames for quality and superior fans. Most of the consumers

in the local market (especially in the urban centers) alwaysdemand for these few brands. The respondents in thesurvey identified GFC fans, Royal fans, Yunus fans, Pakfans, Starco fans, and Metro fans as the big players in the

industry.

The industrial manufacturing structure of the fan clusterhas four integral parts: a labor-division network, a special-ized supplier market, a solid sales network of domestic

distributors, supporting institutions and the industryassociation.

3 Industry Structure & Rivalry

The first broad determinant of national competitive advan-tage in a cluster is the context in which firms are created,organized and managed, as well as the nature of domestic

rivalry. Porter argues that goals and strategies of firms, andthe way they organize, vary widely among clusters, in waysthat are influenced by their national environments andthat, in turn, influence their competitive advantage.

Porter also accords particular importance to the presenceof strong local rivals as a key to the development ofsuccessful industries in all clusters. Even where substantialeconomies of scale are necessary, a number of rival localfirms are important. The domestic nature of the rivalry is

important, because of the beneficial effects of visibility,ensuring that rivalry will be particularly intense because ofpersonal pride. Domestic rivalry is also important in stimu-lating pressure to innovate because of the inability of eachindividual supplier to rely on shared advantages whichstem from the cluster, such as factor costs.

3.1 Evidence and IssuesOver the past decades, the fan industry in Gujrat andGujranwala has developed from isolated family workshopsto a cluster with the advantages of external economies and

Figure 6: Structure of Fan Manufacturing Cluster in Gujrat & Gujranwala

Market

Global

- Global

Buyers

Domestic

- Retailers

Local

- Fans

- Fan

Materials

PEFMA

Chamber ofCommerce

Supporting

organizations

(SMEDA, NPO)

Firms of Fan Blades

Firms of Aluminum Casting

Firms of Electrical Equipment

Firms of Canopy & Other Metal

Hardware

Firms of Assembling Fans

Firms of Fan Manufacturing

Machines

Supporting

OrganizationsFan manufacturing and vendor firms


30/9918

3.1.3 Market Dynamics

The electric fan industry has a wide range of products likeceiling fans, pedestal fans, cabin and table fans, exhaustfans, blowers and air circulators. Each type of fan usuallyhas several models. The market for electric fans can be

divided into three broad segments:1. Household: The demand in this segment is usually forgeneral utility fans.

2. Institutional: The bulk demand for general-purposefans by institutions such as hospitals, educationalinstitutions, companies, industrial establishments andother organizations form a separate category in termsof their purchasing practices.

3. Industrial: industrial fans, exhaust fans and blowers forindustrial use.

3.1.4 Competitive Environment of the industry

The industry is known for its keen competitive marketenvironment, both at the national and regional levels.Clustering brings a close and convenient connectionamong the firms in different parts of the value chain.However, as the products are mainly homogeneous,clustering also generates the problem of fierce competi-

3.1.1 New Entrants in the ClusterAgglomeration or external economies in a cluster result ina demand and supply situation that is better within thecluster than in isolation and so it promotes the growth ofincumbent firms and attract the entry of new firms. This

growth and entry increases the intensity of agglomerationand so promotes further growth, thereby creating apositive feedback loop. The fan cluster in Gujrat & Gujran-

wala is a vibrant one and it attracts new firms as depictedfrom our survey.

New businesses are being formed for a variety of reasons.For example, individuals working somewhere in or nearthe cluster more easily perceive gaps in products or suppli-ers that need to be filled in. These individuals more readily

leave established firms to start new ones aimed at fillingthe perceived gaps. However, figure 7 also shows that firms

who are unable to compete within the cluster are exitingfrom it. A majority of survey participants believe thatbetween 5-50 firms existed in the last 5 years. The surveyalso suggests that the total number of firms have increasedin the last ten years. This suggest that fan manufacturing isa viable business and is attracting net new investment.

3.1.2 Product Mix

Ceiling fans represent 60% of the total fan production inPakistan, while pedestal fans account for another 30%. Theremaining 10% is divided into other products includingtable fan, table-cum-pedestal fans, wall bracket fans,

exhaust fans and propellers. However, for export perspec-tive the pedestal fan is more in demand as compared to theother types.

tion among material suppliers, pushing them to use anddevelop their resources fully.

Some studies of clustering have also shown that it actuallyhelps in collaboration and co-operation and generates

positive externalities. However, in spite of the internationalsuccesses in cluster development, Pakistani fan cluster still


Figure 7: Businesses Closed Down in Last 5 Year

100%

80%

60%

40%

20%

10%Overall1st

Quartile

2nd

Quartile

3th

Quartile

4th

Quartile

Between 0-5 Between 5-50 Greater than 50


31/9919

consortium and trying to develop business models that gofor joint sourcing of orders and production. It is recom-mended that support must be provided to firms beginningto work as a consortium to further benefit from thisclustering strategy and networking.

3.1.5 Barriers to Entry

Opportunities perceived at Gujrat and Gujranwala arestrongly pursued there because barriers to entry are lowerthan elsewhere. Needed assets, skills, inputs and labor, arereadily available in Gujrat and Gujranwala region and thesecan be assembled more easily for a new enterprise. Inaddition, the cluster itself presents a significant localmarket. The entrepreneur seeking to benefit fromestablished relationships often prefers to stay in the same

community. Our survey also depicts that entrepreneurs ofthe area generally believe the entry barriers are low.Through our interviews we also found that some of thefirms in Gujrat tried to shift their operations in Lahore andother cities, however, they had to eventually shut themdown due to lack of availability of workforce, raw materialand other components. The transportation of materialfrom Gujrat or Gujranwala to other cities does not allowcompanies to run successfully elsewhere.

Interestingly, the smaller and informal firms feel thatbarriers to entry are stronger. This may be a result of theserespondents misunderstanding the question as howcompetitive it is to enhance the market share, given 70%has been absorbed by the big six players.Moreover, the smaller firms in the cluster believe thataccess to capital is an entry barrier into the cluster as well

remains far behind in realizing the true economies thatresult from clustering. This is attributed to a lack of aware-ness and in depth understanding of the benefits of cluster-ing and its impact on overall manufacturing competitive-ness, and is the direct result of the culture in which the fan

industry has historically conducted business, namely, oneof secrecy, suspicion, and marketing/price warfare. There-fore, strong co-operation in terms of lending machinery toother producers, joint purchases of input materials,marketing of products, labor training and product develop-ment among firms is rare. However, weaker co-operation,including exchanging ideas and sharing information ismore common.

However, the survey team did find elements of strong

co-operation in family groups in the cluster. There are afew family groups, often made up of larger and moreestablished firms which are operating in the cluster. Whilethe groups are made up of a number of independent units,there is effective technical collaboration within them. Suchgroup-wise co-operation includes the sharing of commontechnical facilities (such as high-pressure die casting andplastic injection molding technology), shared testinglaboratories, as well as sharing of inputs and labor force.

Despite local rivalry and limited bi-lateral cooperation inthe cluster, dialogue does take place between localproducers. Such informal collaboration is particularlystrong with those with whom firms have a prior social tie offamily kinship, friendship or a past history of workingtogether. Moreover, we also found evidence of somenetworking in the cluster. Few firms are working as a

Figure 8: Are there Strong Barriers to Entry in the Cluster?


100%

80%

60%

40%

20%

10%

Overall1stQuartile

2ndQuartile

3thQuartile

4thQuartile

Yes No


32/9920

saver, however, severely limits the quality of the fans andalso makes them highly inefficient in terms of electricityconsumption.

3.1.6 Price Competition

The manufacturers in the fan cluster face intense pricecompetition. This is mainly due to the fact that the capitalrequirement to initiate an assembly operation is moderate.This, coupled with a lack of concern for quality, normally

leads to price competition and some of the medium unitmanufacturers also informed us that there were severalinstances of price undercutting in the cluster.

Contrary to these observations, the survey results showthat the price of the fans have generally increased in realterms in the cluster due to increase in the raw materialprices and the costs of doing business.

Examples of competition include the ability of themedium-sized manufacturers to rapidly copy the newdesigns introduced by the larger manufacturers and tooffer the copy at a significant price drop. Frequently, theyuse look-alike brand names for example Super GeneralFans (one of the premium fans is General Fans) (Rana &Ghani, 2004). These firms manufacture a relatively limitedrange of medium priced economy fans, utilizing fewercapital-intensive processes and lower quality material, and

selectively outsourcing components to low cost vendors.Moreover, the smaller manufacturers have the ability toproduce low cost fans at minimal costs. The low costs areachieved by using simpler, widely diffused technology andolder (often used) machines. Moreover, they hire onlyseasonal employees and also cater to far-flung ruralmarkets through wholesalers. Raw material is generally ofinferior quality (Rana & Ghani, 2004); for instance, drum

as significant constraint impeding their ability to gainfurther market share (see figure 9).

steel, made from recycled metal drums, is used as materialfor producing rotor armature. This is a major cost

Figure 9: Barriers to Entry in the Fan Cluster


100%

80%60%

40%

20%

10%Awarness Competition Dec

DemandGovt. Regu Finances Awarness No Barrier Quality

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Figure 10: Movement in General Prices of Fans

100%

80%

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40%

20%

10%

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33/9921

Despite the price competition among the incumbentfirms, new players continue to the join the industry. Theincrement in the number of firms have somewhatdepressed the prices as is majority of the cases the newentrant uses a low pricing strategy to gain market access.

Our survey depicts that the prices in real terms haveincreased (see figure 11), however, the prices may haveincreased to a much higher level if new players were notentering in the industry.

Moreover, the secretive behavior of the entrepreneursresults in significant key person risk. Companies that aremore successful, have developed management models

where responsibilities and information is shared. On theother hand, in majority of the firms information is

protected by the individual owner. Even the informationabout suppliers is restricted. Several successful companieshave closed down in the past where the key personsuddenly passed away or left the business for some reason.

The above data findings suggest that the there is fiercecompetition in the fan cluster singling out the big sixmanufacturer which are the market leaders. This intenserivalry between the approximate 450 companies is likely tocontinue since entry and exit barriers are extremely lowand setting up a fan manufacturing unit stays a fairlystraight forward investment.

3.1.7 Succession Planning

Succession planning is especially important for the smalland medium firms in the fan cluster but our interviews

with the entrepreneurs show that very few of these firmsformalize succession plans and they also do not under-stand the potential benefits of succession planning. Even ifmany entrepreneurs plan to pass the business leadershipon to a family member, most of these firms would benefitfrom planning for orderly succession, particularly sincenon-family members or owners are sometimes involved.

Addressing the development needs of the successor alsohelps to avoid a host of potential problems for both theorganization and family-member relationships.

With such mindset, it will be extremely difficult for theindustry to achieve its growth potential. The industryneeds to realize that competition is outside not inside.

3.2 Strateg

fan industry report

Documents