Foreign Investors Flock to an Inviting Kaluga

KALUGA — Not long ago, the Kaluga region was primarily associated with Konstantin Tsiolkovsky, a maverick scientist from the beginning of the last century who divided his time between teaching at a local school and pioneering work on rockets.

In recent years, the rapidly industrializing region has earned a reputation as one of Russia's best spots for foreign investment — thanks in part to an energetic public relations campaign and considerable tax incentives.

The regional administration has attracted an investment portfolio of 36 agreements worth about 3 billion euros ($4 billion) and is in talks with new investors on projects worth an additional 2.5 billion euros, Kaluga Deputy Governor Maxim Akimov said in an interview in Moscow.

"We wanted to double the portfolio from the current level in the next three years," he said. "With the crisis, the prognosis has been extended to five years."

Some prospective investors may decide to hold off on deals, he said, but the companies that had already agreed to set up shop in Kaluga are sticking to their investment plans. "We were surprised ourselves," Akimov said.

Located about 100 kilometers southwest of Moscow, the Kaluga region is less industrialized than some nearby regions. In the Soviet period, it became Russia's "astronautics cradle" and was one of the centers for space and nuclear research.

But with good transportation links to the capital and a population of just over a million people who aren't used to earning Moscow-level salaries, regional leaders say Kaluga has room to grow.

Akimov, 38, was mayor of Kaluga from 2004 to July 2007, when he was appointed deputy governor. That year, the region established an economic development corporation to oversee projects and attract more money.

"The investment climate in the region changed substantially," said Nadezhda Khotina, the corporate affairs director for SABMiller RUS.

The company became the first major foreign investor in the region after buying an old brewery near Kaluga in 1998. It now employs about 900 people and is the biggest taxpayer in the region.

When Volkswagen was looking for a Russian production site in 2006, it chose Kaluga over two other locations on its shortlist because of enthusiastic support from the regional government, said Dietmar Korzekwa, a spokesman for VW Russia. "The conditions for moving there concerning infrastructure and taxes are fairly typical for Russia," he said.

Since then, foreign investment has been snowballing, with projects from companies including PSA Peugeot CitroСn, Samsung and General Electric. Last year the region saw industrial growth of 35 percent, compared with Russia's average of 3.7 percent for the first 11 months of the year.

The region offers tax cuts to investors based on a sliding scale of the total amount invested. Last year, new legislation also introduced subsidies for strategic investors, making them eligible to get back profit taxes for up to nine years. In addition, there are breaks on property taxes for up to four years.

After successfully signing with Volkswagen, the region decided to focus on industrial parks that connect to engineering and transportation networks. So far, there are four such parks, located mostly near Kaluga and in the region's north.

"We decided to offer investors a specific product to fit their needs," Akimov said.

Last summer, the region signed a deal with Vneshekonombank to receive almost 5 billion rubles over the next 10 years for Kaluga's "auto manufacturing cluster." The region is to invest another 1.7 billion rubles, according to a description of the project on VEB's web site.

"We have more residents in our industrial parks than Russia's special economic zones," Akimov said, referring to 15 areas chosen since 2005 to attract investment in industry, technology and tourism. "And with 10 rubles in private investment for every ruble put in by the government, we're essentially doing the job of the Investment Fund."

Other carmakers have followed Volkswagen, with Volvo and Renault scheduled to open a 15,000-capacity truck plant Jan. 19. PSA Peugeot CitroСn and Mitsubishi will open a joint production site next year that will be capable of producing an annual 300,000 cars by 2012.

For PSA, the main draws were good logistics and proximity to Moscow and St. Petersburg, where rival carmakers had already developed many prime locations while PSA was focused on other parts of the world, said spokesman Laurent Cicolella.

Once the region's new plants are fully operational in 2012, they will annually produce 280,000 units, according to the investment agreements. Just over 570,000 foreign-branded cars were produced in Russia in the first 11 months of 2008, according to Economic Development Ministry figures released Sunday.

New auto clusters like Kaluga also stand to benefit from a controversial increase in import tariffs that came into effect Monday, as foreign producers say they'll move toward domestic production and away from importing assembled vehicles. And with lots of room in industrial parks, producers say they are now expecting auto-parts makers to move to Russia as well.

"There is more opportunity for synergy in localizing," said Korzekwa, of Volkswagen. VW has signed a number of contracts with component producers such as Spain's Gestamp and France's Saurecia and has about 200 hectares next to its plant for others to move in.

PSA will also have 50 hectares for auto-parts makers, spokesman Cicolella said. "We'll decrease imports once the factory is finished and only import cars in other segments," he said. "The crisis has not affected our plans."

The region administration, too, says the financial downturn won't do much damage to its long-term plans. Kaluga plans to sign two more strategic investment agreements in January, neither of which is with an auto producer, Akimov said. "Market leaders realize that the economy is cyclical, and objectively there's room for growth in investment and consumption on the Russian market," Akimov said. "The region doesn't depend on raw material extractions as much, so we hope to go through this period of contraction less painfully than some."

But the region does still receive around 10 percent of its budget revenues in federal subsidies, according to Fitch Ratings. The share of federal money in the budget has decreased from 25 percent in 2003.

"Right now, the region's economy is not very strong compared with [industrial] regions like Lipetsk, but they have a good chance of improving in three to five years if more auto-part makers move there," said Vladimir Redkin, an analyst at Fitch who gave the region a long-term BB- rating in late October.

"So far, the actions of the administration have proven to be effective," Redkin said. "They don't view the automotive cluster as a panacea and are looking at long-term perspectives of up to 10 years from now."