Economic Environment In Russia Economics Essay

In the year 1990 the Russian system underwent tremendous stress as it transformed from a centrally planned economy to a free market system (US Commercial Service, 2010). Following the breakup of USSR, Russia’s GDP observed a continuous period of decline from the beginning of 1991 until 1998 (PriceWaterhouseCoopers, 2010). The reasons for the serious financial crisis in 1998 were difficulties in executing fiscal reforms aimed at raising government revenues and a reliance on short term borrowing to finance budget arrears. The financial problems aggravated due to lower prices for Russia’s major export earners (oil and minerals) and the loss of investor confidence due to the Asian financial crisis. This resulted in the rapid and steep decline (60%) in the value of the rouble, runaway of foreign investment, delayed payments on sovereign and private debts and a breakdown of commercial transactions through the banking system (US Commercial Service, 2010).

The Russian economy began to bounce back after the 1998 economic crisis with an annual GDP growth of 7% from 1999 to 2007. This led to a sharp increase in prices for Russia’s main exports (oil, petroleum products) and import substitution effect led to the rouble’s devaluation in 1998, a tax reform, tightening of fiscal policy and greater political and social stability. The economy witnessed growth as a result of extraordinary rise in the consumer oriented sectors, particularly in the construction and services industries. In the year 2007, Russia’s GDP increased by 8.1%, and by 2008 the GDP further increased by 5.6% (PriceWaterhouseCoopers, 2010).

Russia was hit by the global economic crisis in the second half of 2008, which impacted the Russian economy immensely. The economy began to shrink, which led to falling sales, production and layoffs. In the year 2009 the economy diminished by 7.9%, through a positive revival trend that occurred in the second half of 2009, when the economy recommenced reasonable growth. The manufacturing, industrial production and construction industry witnessed a sharp decline in growth. The wages decreased and the labour force was only 66% of the total population. The number of unemployed measured 8.4% of the workforce (PriceWaterhouseCoopers, 2010).

The downturn faced by the global capital market reached Russia, which led to the closure of the global sources of funding. Foreign direct investment dropped by 41%, that  is 3.6% of GDP. The major attractions for foreign direct investment were manufacturing, retail, mineral resource extraction and transport. The figure estimated for net outflow of capital is US $52bn. In 2009, the Russian equity market was affected adversely. Russian companies attracted US $1.7bn via IPOs and SPOs, whereas in 2009 only one IPO (Initial Public Offering) was registered. Nevertheless, the IPO is expected to witness a boom in 2010 (PriceWaterhouseCoopers, 2010).

The end of 2009 brought positive news for Russia: the international credit rating agencies Standard & Poor, Fitch and Moody’s reviewed their sovereign rating outlooks for Russia from “negative” to “stable”, which was a result of higher oil prices and dropping of inflation (PriceWaterhouseCoopers, 2010).

3.1.2 FUTURE ECONOMIC DEVELOPMENT (2010-2012)

The economic development scenarios for the next three years has been drafted by the Ministry of Economic Development. They have been categorised into moderately conservative, pessimistic and optimistic. In accordance with the moderately conservative scenario, the GDP for the next three years has been depicted in Figure 2 below. The figures in the graph were derived from the prediction that the oil prices will remain at relatively high levels: US $65 per barrel in 2010, US $70 in 2011, and US $71 in 2012 (see Appendix C) (PriceWaterhouseCoopers, 2010).https://lh6.googleusercontent.com/A-V1_X47l-ha1boxdlCsEzJET-SIMACWsuvCyyBVt5VNYS-XF2godrATGtxo-rg_k30qOiQ9y0KiK6TogxhIEd75L3Sj7346nBTJQVX8b74auUOsupE

Figure 2: Forecasted economic growth

Source: own compilation based on data from PriceWaterhouseCoopers, 2010

Despite 2009 being a challenging year for Russia, the country managed to achieve three important goals, states President Medvedev. First, the government has survived to maintain social stability and put together all planned social payments. Second, the government and the Central Bank respectively have managed to keep the currency steady and brought about financial stability. Third, the government extended support to its core businesses. Since the government has taken this action, none of the large enterprises have gone bankrupt (PriceWaterhouseCoopers, 2010).

Concurrently, the country’s economic development has been constricted due to problems which Russia has failed to deal with this year. The problems faced by the country are the dependence on raw material exports, increasing unemployment levels and low competitiveness of domestic businesses. The Russian Government has been quite positive in dealing with the crisis by considering economic policy measures (PriceWaterhouseCoopers, 2010).  Overall, the economic conditions in Russia seem to be favourable for Pufferfish to do business there in the nearest future.

3.4.1 LEVELS OF CULTURE

An international businessperson needs to be aware of three levels of culture that may affect a multinational’s operations. These levels include national culture, business culture, occupational and organizational culture. The diagram below shows the levels of culture that affect multinational management (Cullen and Parboteeah, 2008).https://lh5.googleusercontent.com/MDXcQRqh-4Qj_Khq7TfFEGYm7BUCkc_wJWhD29zy75RBl7GmBfjFA0gPP-NUQ67ZG7cAxgW_p47D07tc3TMr7Wx4kZ6zqHqWq5UiJ2VMUNmugd2oAOg

Figure 3: Levels of culture

Source: Cullen and Parboteeah, 2008

3.4.2 THE DO’S AND DON’TS OF DOING BUSINESS IN RUSSIA  

The Russian market is a highly competitive market, where salesmanship is a key factor. Firms willing to enter the market should be prepared to express the competitive advantages and factors that differentiate them from others in the marketplace (US Commercial Service, 2010).

Developing personal relationships with business partners is a crucial factor in the effective cooperation of major projects, government procurement or, for that matter, even in cultivating long-term business relations. One of the most difficult tasks  can be arranging a business meeting with potential partners.In addition,it may take a long time to receive a reply to an email,fax or a even telephone request for a meeting (US Commercial Service, 2010).

To conduct business in Russia it is essential to know the Russian language if not an interpreter should be employed if needed. A substantial number of businessmen can communicate a courtesy level of English; however, they prefer conducting business discussions in Russian (US Commercial Service, 2010).

Business cards are vital and are exchanged spontaneously. Your cards should have nothing more than your regular contact details, email address and website if available. It is advantageous to carry a bilingual business card (one side in English, one side in Russian). Promotional materials in Russian can be an crucial tool for developing interest in a company’s product. The translation however has to be perfect and of high value (US Commercial Service, 2010).

Sometimes during meetings Russian businesspeople tend to have very little verbal feedback. They listen quietly and with little obvious body language being exhibited  This does not mean that the listener is unable to comprehend it is just a cultural characteristic. They should be given the time and space needed to participate fully in a conversation (WorldBusinessCulture.com, 2011).

3.4.3 CONTEMPORARY RUSSIAN CORPORATE CULTURE

Peter Zashev (2004) says in his article that the contemporary Russian corporate culture could be presented as a cross-section of four sets of different factors and their subsequent impact on collective and individual culture and mentality. The aforementioned can be described in the figure below.

https://lh6.googleusercontent.com/LTKsFRqlpglWJeud7Jz7NVHb3CgRPb7TX0lw-ZZhddf90GO8M2EY7dZJhu1h3ygm6e5awAiNJ2ccd8gkbKozam9lYaEO9RxOAgfJvTRmJPv528-DRek

Figure 4: Four sets of factors forming the contemporary Russian business culture

Source: adapted from Zashev, 2004

Common Russian Values and Morals:

One of the most influential element of Russian values and morals is the total lack of competition in the Russian social and economic life. Due to this nature the state of Moscow had the following characteristics.

A militaristic nature –  as it had to battle enemies and expand further geographically.

A society based on compulsion and force rather than law – with clear division of social groups that differed in their duties and not in their rights.

Supreme power of the state/tsar.

All the above characteristics slowly killed the concept of free competition. As a consequence of this, a highly centralized system was built, where the competitiveness was directed mainly at attracting the attention of the supreme power through gifts, bribes and networks of prominent personalities. This also explains why most international Russian projects are financed by the state (Zashev, 2004).

Soviet Values and Morals:

During the soviet times the system did not go through much change.The soviet rule enforced many concepts such as the following.

“Uravnilovka”  that removed the link between work and pay.

Increasing the level of bureaucracy, making cheating an inbuilt part of the economic system.

Repression that later became a state concept and removed initiative, decision making and freedom of choice.

The soviet system did not succeed in eliminating corruption, and it continued to afflict the whole Russian system. It, in fact, became the way for a normal life.  The foreign operations of the Soviet companies were state owned. It was only the Foreign Trade Organisations that were allowed to link Soviet factories with their overseas markets, suppliers or others (Zashev, 2004).

Transition Values and Morals

A dramatic change has appeared in the last fourteen years in the form of a massive retreat from the government. The privatisation in Russia created a new social group of owners, investors, capitialists and industralists (Zashev, 2004).

Corruption and Bribery

Corruption of officials in Russia is endemic, “a system-wide state of affairs with deep historical roots” (Zashev, 2004, p.27). It is now a common procedure for Russian businessmen to regularly pay bribes to government officials.  The government officials take economic decisions soundly on the basis of underlying motives.

Many argue that the practice is a harmless means to facilitate government approvals and avoid penalties. High levels of bribery are the reason for low levels of competition, a factor that is needed for economic growth (Zashev, 2004).

Businessmen from the UK not only have to worry about the corruption levels, but also have to watch out for the Bribery Act. The bill was published in draft on the 25th of March 2009 and received Royal Assent on the 8th of April 2010 (UK Government, 2010).  

3.4.4. SO WHAT WILL THE BRIBERY ACT COVER?

The Bribery Act looks at reforms in the criminal law with the intention of delivering a new modern and comprehensive scheme for bribery offences that will permit the judiciary and prosecutors to counter more successfully to bribery, both at home and abroad (UK Government, 2010).

The Act will:

provide a more efficient framework for combating bribery in the public and private sectors;

“create two general offences covering the offering, promising or giving of an advantage, and requesting, agreeing to receive or accepting of an advantage”;

“create a discrete offence of bribery of a foreign public official”;

“help tackle the threat that bribery poses to economic progress and development around the world” (UK Government, 2010).

During our inteview, Mr.Kell expressed his unfavourable attitude towards unfair trading practices, but he mentioned that if payments are necessary to facilitate market entry, it can be done. However, The Bribery Act will make things more complicated and put UK companies, including Pufferfish, at a disadvantage, especially in emerging markets such as Russia, where bribery is a custom. It is important that the company considers that in its market entry decisions.

6.1 MOSCOW

Moscow, being the capital of Russia, is one of most promising markets for Pufferfish Limited. Moscow is the largest city in Russia, accounting for 7.34% of the total population of Russia (The World Bank, 2009).

The advantages and disadvantages of  targeting Moscow are as follows.

Advantages

Moscow is the major business centre, with a well-structured distribution channel which will provide Pufferfish with an opportunity to reach out to its clients without much difficulty;

The presence of large shopping malls and big box stores in Moscow will allow Pufferfish to reach out to a larger audience.

The large hypermarkets present in Moscow contribute to the sale of 50 percent of consumer electronics that are advertised in Russia (US Commercial Service, 2010).

As seen in the figure below, 51.60% of the total foreign investments is mainly from Moscow during the period January-September 2009.Due to the high intensity of consumers purchasing power and the large  presence of company headquarters,the region continues to attract a large amount of investments(US Commercial Service, 2010).

https://lh4.googleusercontent.com/ftVUl9i1YmCG06SfBi2FoWQmrto4M6j-5LbOIxDuhYP8A5Zc5_U4pKkhk6pPehlHmeoTW8mTT9S8GWYufTBb4swnxdN01Od2GoJ0Qd_LfECTH8PJ5vc

Table 4: Foreign investment – top regions

Source: US Commercial Service, 2010

Disadvantages

Registering a company in Moscow is very expensive. Though Moscow represents the most populated city in 2009,  the major problem faced by companies wanting to set up their business in Moscow is that it requires 9 procedures and costs 2.7% of the total GNP per capita to complete all business procedures (The World Bank, 2009).

The major problem of conducting business in Moscow is that it is has become increasingly challenging to find qualified local partners and Russian employees. In addition to this, the salaries of local employees have risen significantly in Moscow (UK Trade and Investment, 2009).

Nevertheless, the positive side to this is that the digital signage market is Moscow is booming. According to the Association of Communication Agencies in Russia, in the first half of the year 2008, Russia witnessed a significant growth of 13% in outdoor advertising, largely due to the increase in the digital signage market (Rushworth, 2008). Statistics from Integrated Systems Russia, an exhibition held in Moscow in 2009, shows that Moscow witnessed 66% of the total visitors, followed by 12% in the Moscow region and 4% in St. Petersburg (Integrated Systems Russia, 2009a).The figure below represents the ranking of visitor activity from different regions in Russia.https://lh3.googleusercontent.com/7vfeTRpsRebFYxlzz95uB26cpCYa1G2PXHmi-sa_vof1n61Uy6hz71_gm3APoivUDKRs32MMjpefgnM2aDbM08yvKoPYEK5d3XvoApCOE21xVot1Opg

Figure 6: Ranking of visitor activity from different regions in Russia

Source: Integrated Systems Russia, 2009a

Digital Education that took place in Moscow in 2009 was targeted at Moscow and Federal government officials responsible for education, which signifies the potential for the latest audio-video equipment (Integrated Systems Russia, 2009b).This clearly indicates the market potential for the Puffersphere products in the Moscow digital signage market.

6.1 ADVERTISING

In the Russian advertising market television, radio, print and billboard media are widespread. The domestic and international advertising agencies are effective in Russia. The boom in the advertising industry in the country is a result of strong economic growth and increasing incomes. Companies that were affected by the economic crisis have recovered and started investing in mass media for advertising. Although the traditional methods of advertising still do exist in Russia, advertising agencies have refined their communication methods to meet the needs of the modern firm and are progressing quite well (US Commercial Service, 2010).The shopping malls, airports and advertising agencies present in Russia appear quite promising for the Puffersphere XXL and M models.

Pufferspheres definitely have a great potential in the Russian market. Moscow and St. Petersburg have plenty of shopping malls and big box stores where Pufferspheres M and XXL can be used for advertising products (US Commercial Service, 2010). Afimall shopping centre is located in the core of Moscow city and is by far the largest shopping mall in Russia. Puffersphere XXL can be used for displays and indoor advertising in this mall  (AFI Development, 2008).

Airports are another segment that Pufferfish can consider. Moscow has three major airportsб namely Sheremetyevo, Domodedovo and Vnukovo. St. Petersburg’s airport comprises of two terminals: Pulkovo-1 (domestic flights) and Pulkovo-2 (international flights).Puffersphere XXL can be used in these airports to display flight information, advertising and to display television channels (US Commercial Service, 2010).

Other advertising agencies that can be interested in buying Pufferspheres are Starcom, Mindshare and Mediacom. The aforementioned media agencies can use the spheres for advertising (Mind Advertising Limited, 2011).

The major concern for the company can be the cost of the product. Nevertheless the advertising agencies, airports and malls operate on a large scale, making the Puffersphere prices affordable for them.

8.3 CORPORATE

In the past, Pufferfish Displays limited has taken part in exhibition centres and trade shows all over the world which has enabled the company to generate awareness about their product and build new contacts (Geoff, 2011).

A significant part of marketing in Russia takes place through trade shows. Russians prefer to shop at trade shows as it provides them with an opportunity to learn from the array of technical experts and company displays. The success of European companies is mainly due to their high participation rates which is around 90 % of all foreign companies in the Russian shows and this is evident through their market share of industrial equipment which is approximately 70 percent. The exhibitions held in major cities are usually visited by representatives of regional governments and state enterprises from distant areas to purchase goods (UK Trade and Investment, 2009).

Promotional seminars are another efficient way to increase awareness of equipment and brand awareness in the Russian business community. The seminars usually gather appropriate press coverage in the industry publications  (UK Trade and Investment, 2009).

Trade fairs for the digital signage market have been taking place in Russia for quite some time now. The Integrated Systems Russia is the leading show with people visiting from all over Russia and abroad. Since Puffer fish uses an opportunistic approach for its sales, the Expocenter, which will be held in Moscow this year will act as a platform for Puffer fish to enter Russia (Integrated Systems Russia, 2010).’

Statistics from the previous year proves that the exhibition is a major success and attracted more than 8000 visitors. The figure below represents the visitor’s business activity (Integrated systems Russia, 2009a)

https://lh6.googleusercontent.com/FiaHLl88-9l8jODnGWssuT0XI_EXs__oTKeURgcz-aQpFavDV8s2uC1XUaQlkTecmUplA3F1VqGxYFGLJfRLoWyuFlJrToyokKoCxC09hM2B9UQ0cl8

Figure 3: Integrated systems Russia 2009 Source: (Integrated systems Russia, 2009)

The 2011 Expocenter certainly seems promising for Pufferfish Limited and will open a wide spectrum of opportunities for the company. The show presents the latest AV and electronic system technologies to the commercial, professional and residential electronic systems integration industries (Integrated Systems Russia, 2010).

This provides Pufferfish an opportunity to display their Puffer sphere XXL and M models and in turn help Pufferfish attract various target segments on a single podium.

9.1 Uppsala model:

Johanson J. & Vahlne J-E. (1977), The Internationalization process of the firm – a model of knowledge development and increasing foreign market commitments, Journal of International Business Studies, 8(1): 23-31

https://lh5.googleusercontent.com/2I_BZ45ctC9ENlGidRD_VREX0JKyHUMxuolE-ZaA7djj3UqzFFmpAMDfxyKdvcsTYYJsTqSnASCsWNF37pL8UNRG5JwEVW5QWGBCZNT1RDevQgsLw8Q

(Johanson & Vahle, 1977).

https://lh5.googleusercontent.com/YKQWjMvYoipq2TfLg1Z2W_a2wuqnB8Wuc-dRdyZ2TSfxaIdqguTTMdoszm6s1NRjpJ80IUtPJCh6Ii8_l3_0Mz8cL1L17pMEeiS97JRFUDEk-f8RH1A

http://www.provenmodels.com/586/internationalisation-process/jan-johanson–jan-erik-vahlne/

The Uppsala model is a dynamic model which explains the internationalisation of a firm as a process. The model explains two patterns in the internationalisation process of the firms (Johanson & Vahlne, 1990, in Johanson & Associates, 1994). The first pattern explains the establishment chain wherein the company engages in operations in a particular foreign market. The establishment chain consists of a sequence of stages that are created in small incremental steps with extended commitment which increases with every new step.

The four stages were identified by Johanson and Wiedersheim-Paul in the year 1975 which are as follows:

1.       No regular export activities

2. Export via independent representatives (agent)

       3. Sales subsidiary and

       4. Production/manufacturing (Johanson & Wiedersheim-Paul, 1975, in Johanson & Associates,     

             1994, p. 34.)

The second pattern describes the fact that firms have a tendency to enter new markets with sequentially greater psychic distance and also greater geographical distance in some cases (Johanson & Vahlne, 1990, in Johanson & Associates, 1994; Hollensen, 2001).

Firms therefore have a tendency to enter markets they understand, where they perceive opportunities and the uncertainty levels are relatively low. As proposed in the model, the firm can perceive opportunities without uncertainty only through experiential knowledge. Therefore, the firms choose incremental steps and engage in a sequential manner in foreign markets (Hansson, Sundell , & Ã-hman , 2004) .

Joint ventures or Greenfield:

Joint ventures:

The most recognised mode of entry into a new market is through establishing a joint venture with a foreign firm. A joint venture requires setting up a firm that is jointly owned by two or more otherwise independent firms.

‘A joint venture involves two or more companies creating a legally independent company to share some of the parent company’s resources with the purpose of developing competitive advantage.’  Joint ventures can take various forms, with the most common being a 50/50 shareholding in a company.A few advantages of a joint venture are the reduction of risk through sharing of the project, facilitate entry into a market and quick profits. However problems such as inability to work with the local partner due to the varying organisational cultures and the national culture, can affect the joint venture and limit its performance (Lynch, 2006).

In recent years,the rate of International Joint venture(IJV) formation has continued to rise steadily among the emerging markets in Latin America, Asia  and Eastern Europe.  The aforementioned emerging markets account for close to 70% of all IJV entries by multinational corporations. According to a survey conducted by Deloitte, 35 % of companies used joint ventures to enter into emerging markets but only 21% continue to use them. The chart from Deloittes research shows that Joint Venture is the most popular entry mode into developing markets (Mahidhar et.al, 2009).

https://lh3.googleusercontent.com/RF5UMKWJ67-S0PRLoVETrzdfVxDx1q_ncwGmM9izsH0QQRGPEwxY_R64xXjX7RviiN77Wae-Q-Qc0ePjGCKwanPiXTvf8TrDrMnDpUW-AsbMlhi_M6A

SOURCE:(Mahidhar et.al, 2009)

This section typically aims at answering some of the common question that arises when foreign investors use joint venture in Russia  (Schwarz & Viktorov, 2005):

·       Are there restrictions on foreign participation?

In general there are no restrictions on foreign participation except for certain industries such as banking and insurance field  (Schwarz & Viktorov, 2005).

·       What are the legal problems which a foreign investor in a joint venture faces?

The formation and operation of joint ventures are relatively easier for foreign investors due to the liberalisation of the process of state registration of joint ventures and foreign currency legislation. Nevertheless, a few problems do exist (Schwarz & Viktorov, 2005):

o   Recurring change of legislation.

o   The state authorities fail to conform with established terms and procedures for provision of consents, approvals, registration and issuance of licenses and so on.

·       What are the types of joint venture vehicles commonly used by foreign investors?

The figures below represent the principal types of joint ventures:https://lh4.googleusercontent.com/RnQg8HPYJ6ZvBOpuQcfbwff_LORWvqfVpA9Q5vj3miT1TbyK7lvJfueE9BTOGeysFfIqaPx1-JuNQbwdTx6N_kIkhq0IKYUFojl0HMqaLyRDRQXiqAE

Source:  (Schwarz & Viktorov, 2005)

FORMING A RUSSIAN LEGAL ENTITY:

The above figure describes the types of commercial legal entities that are recognised by the Civil Code of Russian Federation such as general partnerships, limited partnerships, limited liability companies, additional liability companies, additional liability companies, joint stock companies (UK Trade and Investment, 2009).

There are two types of joint ventures namely limited liability companies (LLC) where in involvement is based on participation interests and joint stock companies ( JSC) where in involvement is based on shares (Schwarz & Viktorov, 2005).

The crucial part of entering a market is to decide whether to enter as a limited liability company or joint stock company.

LLC’s are preferred over JSC’s in setting up a wholly owned subsidiary since the process of establishment and operation of an LLC is less taxing and time consuming as there are no legal requirements that an LLC must issue shares or perform any procedures related to issuance, establishment and issuance of securities. This form of entity is more flexible and mobile as there is no requirement of issuing shares when the participants need to change the contract capital of the company.

Nevertheless, a JSC is preferred for a joint venture in Russia between parties that are not related due to the following reasons. First, in an LLC each participant is eligible to leave the company at any time and for no specific reason, without the consent of other participants. In comparison to a JSC, the LLC law considers a lot of issues which requires undisputed voting decisions of LLC participants that might not be fair for a joint venture partner who is a majority participant in the LLC (UK Trade and Investment, 2009).

Given the current situation Pufferfish Displays limited must invest into Russia only after they gain sufficient knowledge about the market. This may take a good three to four years. Depending on the situation then the company may choose from the aforementioned entities. They may additionally take help or guidance from the Russo-British Chamber of Commerce or the UK Trade and Investment for setting up the preferred entity.

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