AVCJ Awards 2022: Responsible Investment: Sido Muncul

Affinity Equity Partners leveraged a minority position to exert significant influence on the growth of Sido Mucul, an Indonesian herbal wellness brand with a complex, fragmented operating model

Monday 6th February 2023

By Asian Venture Capital Journal

Affinity Equity Partners’ plan for Indonesian herbal wellness and medicine brand Sido Muncul was all about being holistic in environmental, social, and governance (ESG) practices. Five pillars were considered core to the strategy: environmental preservation, inclusive business, employee welfare, product integrity, and sustainable sourcing.

It would be an ambitious agenda in a control situation, perhaps doubly so with a minority stake in a publicly listed company. Affinity acquired 21.1% of Sido in December 2017 for about USD 180m. About 60% of the company was in the founding family’s hands at the time.

Affinity’s position has been pared back to 17.1% today, but the private equity firm remains the largest institutional investor. The value of the stock has almost tripled during the holding period. It was trading around IDR 770 as of late January, giving the company a market capitalisation of around IDR 23.3trn (USD 1.5bn).

“Gaining momentum on ESG initiatives comes from doing one initiative, doing it well, showing results, and then bringing that positive momentum into the next project. Sido’s growth trajectory shows us how, with ESG principles, we’re able to grow sustainably over time,” said Sarah Pang, head of ESG and sustainability at Affinity.

“People in the business community have realised that by managing community relationships well and producing a good product, we were able to have some really good growth even during a difficult period like COVID-19.”

The pandemic had a pervasive impact on the business, from sales and product positioning to employee retention and work-from-home policies. Still, the company grew significantly. The number of distribution outlets increased 69% between 2019 and 2021 to 135,000. Pre-pandemic, the staff was 4,088. By 2021, it was 4,247. There were no layoffs.

Part of this is attributable to a rise in health and wellness awareness. From 2020 to 2022, 15 new products were launched that specifically catered to COVID-19 symptoms. These included a range of vitamin C drink sachets and immunity-boosting capsules based on various herbal or mineral extracts.

There was also a sense that Sido was becoming a more integral part of the communities in which it operates. During virus outbreaks, the company worked with regional police and government organisations to donate and distribute vitamins and supplements to staff and the general public across South Sumatra and Central Java. The programme cost IDR 12.8bn.

Between 2017 and 2021, revenue increased 56% to IDR 4trn, EBITDA grew 140% to IDR 1.6trn, and net profit more than doubled to IDR 1.3trn. These figures weakened during 2022, with EBITDA and net profit tracking at IDR 730.7m and IDR 720.4bn, respectively, as of September.

Major player

Affinity’s initial approach to the investment emphasised alignment with management around financial goals. Aston Zheng, a vice president at the private equity firm who led the deal, said the starting points were the immediate tangible benefits of growing revenues, growing the bottom line, and strengthening supply chains by pursuing change in an ESG friendly manner.

“Investors and the public markets recognise that. Sido had been added as a constituent of all four IDX [Indonesia Stock Exchange] ESG indices since our investment.,” said Zheng, who is also responsible for Affinity’s ongoing day-to-day work with the company.

“Consequently, the share price has continually re-rated upwards, which provides a positive feedback loop for the company to continue improving on ESG initiatives. Step by step, we pursue and deliver on each ESG initiative to realise tangible outcomes, and that gives us the goodwill and confidence to embark on the next with even greater zeal.”

Sido is touted as the largest and most established herbal products and medicine brand owner and manufacturer in Indonesia with a market share of 84%. The company, listed in Jakarta since 2013, has more than 70 years of heritage.

There are currently 317 halal-certified products, largely represented by drink powders, lozenges, and capsules made from ingredients such as ginger, mint, fennel, honey, and local plants. Raw ingredients are 100% locally sourced. The main brand is Tolak Angin, a cold and fever remedy first formulated in 1930 that has shown efficacy in improving the immune system in pre-clinical trials.

Scaling such a business with an ESG lens is a delicate prospect. Each product has 30-40 ingredients, which are sourced in remote areas and brought to a central production facility in Semarang, the capital of Central Java. The harvesting process is necessarily something of a cottage industry, and a collaborative approach across the supply chain is important.

“If you want high-quality raw ingredients for medicinal purposes, you do need the farming methods to be quite organic and to be multi-cropping with various types of other plants and herbs to enhance soil nutritional content within the ecosystem,” Pang said. “It would be difficult to do large-scale, mechanised farming for these types of products.”

As such, the combined effort around community relations and the development of farmer networks is arguably the key feature of the ESG agenda.

Farmer outreach

Much of this comes down to teaching farmers in tribal communities better agricultural practices. Sido works indirectly with some 1,700 farmers who traditionally exploit slash-and-burn cultivation methods. In addition to limiting deforestation, mentoring in agroforestry has delivered farmers access to carbon credits and additional income.

Meanwhile, mentoring around the use of better fertilisers, pesticides, and watering schedules, as well as how to choose good seeds from bad seeds, is said to have improved product quality and increased income for farmers.

The support for cardamom farmers in the village of Sambirata provides a standout case study in community partnership. Farmers received training on cultivation methods and learned to make biopesticides and compost. This led to a sixfold increase in their income, and it encouraged young people to return to the village to take advantage of more lucrative cardamom farming work.

There is also a physical aspect to community partnerships. With Sambirata, this involved building a cardamom drying facility powered by a micro hydroelectric plant at a cost of around IDR 56.5m. This included the construction of a dam, which was handled by the local government.

The drying facility (500 kilograms of capacity per shift) improved efficiency and product quality in the sense that the climate is too rainy for the traditional sun-drying techniques, which left significant amounts of product soggy and unusable. Moreover, product quality and crop volumes have been supported by better seed selection.

Beyond improved yields and farmer incomes, the Sambirata initiatives have a more nuanced, skills-oriented social element. Training and maintenance of the machines can now be carried out by local youths. Last September, Sido trained five youths in the village to perform repairs on the facility.

“There’s a short-term way to do it and a long-term way to do it. The longer and ESG-friendly way usually has additional upfront costs, but the longer-term benefits are also clear and quantifiable,” Zheng said.

“As investors who understand the tangible benefits of an ESG-friendly approach, Affinity places emphasis on ensuring our message on the longer-term benefits of ESG comes across clearly to gain strong stakeholder buy-in, as part of our investment consideration.”

Equipment upgrade

The private equity firm has also made material investments in the business at the main manufacturing site in Semarang. These have contributed to the expansion from one to three production lines, the addition of renewable power installations, and the establishment of a tissue culture laboratory and greenhouse.

The renewable energy projects feature solar panels with peak capacity of 2,000 kilowatts and a biomass generator that runs on plant waste and by-products. The latter is said to account for about 50% of the operation’s energy needs. As a result, carbon emissions intensity – a measure of CO2 per kilowatt hour of electricity produced – was reduced by 22% between 2020 and 2021.

Both the tissue culture laboratory and greenhouse help in the production of large quantities of seeds that are more resistant to disease and pests, as well as more adaptable to climate change. Those seeds are then distributed to farmers who then supply ingredients that can be manufactured into higher-quality end-products.

“We are confident that strengthening the core capabilities of the business in an ESG-friendly manner would allow us to see multiples of return on our investments over the medium term, and more importantly, sets up the company and the community to reap further benefits years ahead in the future,” Zheng added.

At the main manufacturing plants, staff upskilling around farming, food quality, wellness product making, machine maintenance, and safety management systems is a priority. Those whose work requires competency certification – such as forklift drivers, boiler operators, and electricians – attend certification training and sit examinations at government-recognised institutions.

Furthermore, Affinity has supported the establishment of an in-house learning centre, Sido Muncul Academy, where the number of training hours grew 51% during 2021 to 39,426 hours, mostly online. One of the Academy programmes is an annual forum that encourages employees to contribute ideas for improving operations and business processes.

This is believed to have had a meaningful impact on diversity and inclusion, especially in terms of female participation, with women now accounting for 50% of the overall staff and 37% of managerial positions. However, there has been a decline in this area during the past few years; women represented 53.5% of staff and 53.7% of managerial positions in 2018.

Work on this front has extended outside the company. For example, Sido has encouraged and trained a local women’s group in the village of Bergas Kidul to run a snack business called Mbok Jajan. The business can fulfil orders outside the village and is expanding through digital platforms. It can provide an average additional income of IDR 1.8m per person per month for its 15 members.

Community action

Sido’s earliest corporate social responsibility (CSR) activities were mostly charitable donations. But with a view to helping underprivileged communities improve their standard of living, the company has gradually shifted focus toward sustainable community empowerment programmes.

The idea is to encourage people to solve problems independently. It is hoped this will allow them to achieve economic, social, cultural, and technological independence in their respective regions by leveraging local economic resources and local wisdom.

Sido’s CSR programme cost IDR 1.1trn in 2021, on par with the prior two years but well above the IDR 697bn in 2018. This effort is said to have directly benefited 16,000 people, including the company’s approximately 1,700 partner farmers.

“It’s a virtuous cycle,” Pang said. “With better seeds, bio-fertilizers and training on farming techniques that Sido provides, you have happy farmers who are able to farm better, raw materials for Sido, and you’re able to pay a better price for them because they’re higher quality. Both the farmers and consumers benefit. It’s all tied together.”