Is there a business case for backward integration?

Policymakers’ case for backward integration, as the solution to growing the economy and generating jobs, needs to be better thought out. It has become a catchy phrase in Nigeria as the debate for sourcing manufacturing inputs locally of gathers momentum.

The reasons given often come across as socialist or populist rather than economic. The case for milk is an ample example. The Governor of the Central Bank of Nigeria (CBN) lately announced plans to restrict importers of raw milk from accessing foreign exchange. The CBN governor argued that it was high time dairy makers embarked on backward integration to source their raw milk locally.

Backward integration only makes business sense when inputs are available in the required quantity and quality. In the case of milk, for instance, the cows that are available are low-yielding

owing to die-hard traditional rearing practices that have been with herders for years.

The maximum yield of local breeds, even when cross-bred, is one and a half litre per cow per day. In several developed countries, a cow can produce 60 to 90 litres per day at peak periods. In that case it makes sense for entrepreneurs and dairy makers in those countries to invest in dairy production.

Nigerian manufacturers still struggle to get some of their inputs locally. For some time cement makers that have invested billions in backward integration had to import gypsum and limestone due to quality and availability issues.

Backward integration won’t work when it is cheaper to import than source some inputs locally. Only multinationals or large enterprises can afford to pump in billions into backward integration projects. Several have pumped billions into such projects. But that is because they have the resources and technical know-how. The dairy industry has a lot of small- and medium-scale players that cannot afford backward integration by any means.

Yes, the CBN may have pledged willingness to support those that cannot afford such projects or even those that can. Still, backward integration is not a one-off project because companies consistently seek new projects to invest in. Will there always be funds when these small and medium enterprises want to expand their projects? No one needs to be an economist to know that every rational chief executive would import a ton of wheat at $30 rather than try to produce it locally at $120 just because he wants to create jobs. Only profitable and competitive companies generate jobs.

Manufacturers that venture into supplying their own raw materials need to acquire land, often some are under contention, leading to litigations that last for years.

When In 2008, BUA, a conglomerate, acquired 15,000 hectares of land for a sugar production at Lafiagi in Kwara State. It took the company eight years to use the land owing to community land cases. Within these years, the government could not get the case out of courts. Many manufacturers are also mired in legal cases because they invested in backward integration. It’s hard to convince such companies to invest more in backward integration.

Backward integration is neither a silver bullet nor a one-size-fitsall solution to manufacturing in Nigeria. Companies should be allowed to choose any trajectory that best suits their interest. Restricting foreign exchange to a dairy industry with a 600,000 metric ton gap distorts the market. Jobs are lost, smuggling will increase and stunted economic growth will continue. Worse still, a number of briefcase traders will be handy to present themselves as would-be investors in dairy backward integration projects in order to access the cheap CBN loans.