# POST-CRISIS AUTO PROSPECTS IN RUSSIA

 

by Athan Koutsiouroumbas & Trevor Gunn

 

Russia’s financial collapse in the fourth quarter of 1998presents a unique, but fleeting, opportunity for U.S. automobile producers,suppliers, and distributors to gain a strategic foothold in the NIS automotivemarket. The combination of Russia’s desire to promote a strong automobileindustry and its auto industry’s need for modernization has prompted thegovernment to encourage foreign direct investment and partnerships with foreignfirms to revitalize the sector. 

 

The Russian Auto Market

By 2005, Russia is expected by some to become the world’slargest auto market, with sales of over 15 million vehicles per year. From1991–98, the Russian automobile market experienced 60 percent growth. Withinfour years, the Russian Transport Ministry expects the number of cars toincrease from a current 90 per 1,000 persons to 300-400. However, thesepredictions were made before the financial crisis, which has significantlydiminished the ranks of the middle class. Many growth predictions still holdtrue; the economic crash has simply shifted the time frame. 

 

The NIS automobile industry is a window into the inefficiencyof the Soviet past. Most Russian automobile manufacturers have been buildingthe same model since their inception. For instance, **AvtoVAZ**’s Zhiguli (Lada) has scarcely developed beyond its 1969prototype. Russia’s largest automaker, AvtoVAZ, required 450 labor-hours toproduce an automobile that is typically produced in western Europe in 28labor-hours. The low level of efficiency at which Russian automakers operatedforced the government to support the industry through everything from outrightsubsidies to joint government-plant ownership. Major portions of the Russianauto industry are 10-12 years behind other automakers. The Russian Governmentestimates that nearly $2 billion in investment is required to make domesticauto manufacturers competitive with foreign producers. It is this technologicaldeficiency that opens doors to foreign investors.

 

Since August 1998, production has increased sharply in mostRussian auto factories, including AvtoVAZ, **GAZ**,**UAZ**, and **Kamaz**. In the face of the 1998 crisis, AvtoVAZ intends to produce657,000 cars this year, a 9 percent increase from 1998. Paradoxically, thepost-August crisis has improved the financial condition of many enterprises byimproving their position vis-a-vis imports and from a price perspective, makingthese vehicles more viable on the domestic market, as well as more “exportable.”

 

Despite heavy competition among domestic manufacturers,Russian demand for automobiles still far exceeds supply. Only 2-3 percent ofthe population can afford luxury cars. Nearly all car sales focus on the mid-to low-range of prices. Most imported new cars are priced out of the marketbecause of high duties. Russian manufacturers’ only competition in the mid- tolow-range market are low-end foreign imports. The price range for this marketis $6,000-$10,000. 

 

The current lack of available cash to purchase a new carimpels many consumers to “upgrade” their present car. Moreover, component partslike stereos and repair parts like knobs are in high demand. A tremendousmarket exists for those who can organize a system of distribution that operatesunder a reasonable amount of delivery time (2-3 weeks). The import tariff ratefor most auto parts is currently 5 percent, low by some Russian standards.

 

Investment and Imports in the Russian Auto Market

U.S. automotive industry exports to Russia are down drasticallyas a result of the August crisis. During the first quarter (Q1) of 1999, U.S.motor vehicle exports to Russia totaled some $16 million, down from $45 millionin Q1 1998 and $66.8 million in 1997. The bright spot in this category is truckexports, which rose to $9.1 million in Q1 1999 from $6.7 million during Q11998, but were still well below the $15 million worth of exports in the sameperiod of 1997. Exports of auto parts during Q1 1999 were only $1.69 million,down from $5.4 million in Q1 1998 and $9.86 million in Q1 1997. For example,U.S. exports of gear boxes, road wheels, and bumpers have fallen by about 50percent. 

 

The list of companies capitalizing on Russian automotivemarket opportunities is extensive and includes:

¨            **FIAT**, which has formed a joint venturewith****GAZ, will produce automobilesby February 2000 with an $850 million financing package from the EBRD.

¨     **Lear Corp.** (Southfield, MI), which hasformed a joint venture with FIAT, will produce seats for automobiles as aresult of the FIAT-GAZ joint venture.** **

¨**  ****BMW**and **Land Rover**, which****havejoined with **Avtotor**(Kaliningrad),will build BMW cars and Land Rover sport utility vehicles. Full production willbegin in September. The plant intends to reach annual production of 10,000 carsby 2002.

¨     **Renault,**which****has partnered with **Avtoframos**for car production in the NIS. Renault is expected to invest over $300million in the project. 

¨     **Ford**, which**has reached an agreement with the Russian Government to develop avehicle manufacturing facility. The first phase requires an investment of $150million with initial output of 25,000 vehicles and potential capacity of100,000 vehicles. The plant is expected to become fully operational during thefirst half of 2001.

¨     **GM**, which signed an agreement withAvtoVAZ, will produce cars beginning in 2002. The $200-million assembly linewill have initial annual capacity of 35,000 cars.

 

In most deals, the federal and local governments play aweighty role in negotiations. For instance, initial production plans for theGAZ-FIAT partnership are tentative to their submission to and approval by theEconomics Ministry. The government attempts to entice investment throughvarious types of duty exemptions with mixed success as companies are unsure ofhow these may be utilized on a practical level.

 

Additionally, rent, labor, and other costs are belowpre-crisis levels, making investment with Russian manufacturers or foreigncompanies with ventures in Russia now even more appealing. Many U.S. automotivecomponents suppliers have neglected original equipment manufacturer (OEM)-leveldialogues with emerging Russian manufacturers—instead concentrating on majorforeign manufacturers—thus bypassing an important export and partnershipopportunity. The next year will afford a unique but time-sensitive (defined bytight production timetables) window during which U.S. companies can start oraccelerate dialogues with Russian and foreign manufacturers in Russia.  

 

*For further information on the Russianautom markets, visit **BISNIS**Onlineat www.bisnis.doc.gov/bisnis/isa/isa.htm#Hisa or contact Michael Nikoulichev,Foreign Commercial Service, Moscow, email: [email protected].*

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*Athan Koutsiouroumbas was an intern at **BISNIS**during summer 1999. He iscurrently studying in Nizhny Novgorod.*

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*Trevor Gunn is **BISNIS**’ Deputy Director. He can becontacted via email at [email protected] or by telephone at (202)482-4656.*