NOW Is the Time

Philip Modiano
Strategy Partners

There is continued speculation about whether the Russian economy is returning to growth or whether we are all due for a second wave of decline. This is an important issue for those in marginal businesses, where the risk to the downside is severe, and to those in the government who have to decide day to day how much to tighten or loosen the few levers that they control.

But for most international companies on the Russian market, which for the most part are not marginal, the debate is academic. Now is like 1999, and the winners over the past 10 year boom in the Russian economy were those who moved quickest in the first years, while those who withdrew or waited missed the boat. Cadbury’s is a good example. In both its chocolate and chewing gum markets, while it retrenched, Mars and Wrigley’s invested early on before the recession was over and reaped the rewards.

Is the solution really as obvious as expanding as much as possible? And what are the implications and opportunities if it is? These are the two questions that I want to discuss.

Russia has the particular features of a highly educated population that is very keen to catch up with the rest of Europe in every aspect of consumption, oodles of raw materials, strong public finances and total reinvestment required in every sector of the traditional economy.

Remember the debate about how long the state reserves would last? I read several international companies’ internal projections by economists in early 2009 expecting default by the autumn. I do not criticize these projections with the benefit of hindsight, but it is interesting to look at the assumptions then and now. The Russian economy was devastated by the oil price falling below $40 per barrel and other raw material price falls, and then the effects of these multiplied because of a lack of confidence bordering on panic.

In 1998 the oil price fell to $12 per barrel, and everyone relaxed when it went above $20. With cost increases, the equivalent numbers may be $25 and $40. Now it is back to $75, and no commentator predicts a return to $30 or less, even if another spell under $40 is a possibility.

By far the biggest issue for the Russian economy was, and is, “confidence.” This literally means the hoarding of cash and slashing of unnecessary business orders or consumer expenditure out of fear. This happened to a far greater extent than in developed economies because of the lack of safety nets and because of the crises of 1998, 1988 and many others. Hefty dollops of oil-fuelled revenues will overcome this, and the fundamentals will reassert themselves.

But the economy will be the same in some ways and different in others. The following are the priorities for managers, assuming that they can overcome the conservatism and fears of headquarters.

1. Second Tier Cities. Moscow and St. Petersburg are the heart of the economy and, despite having only 18 percent of population in absolute numbers, have represented anywhere up to 80 percent for luxury goods on the Russian market. Of course, they will recover and grow. But our analysis suggests that the bigger changes will be felt in what we call second tier markets, and it will be far easier to enter these now than later.

2. Core, not peripheral, products. This is a big generalization covering many different types of sector from business to consumer, but the point seems to be valid. Now is the time to go after the core market rather than the add-ons and niches, Pareto’s 80 instead of the 20. This can be either as a leader deepening your control or as a follower catching up. It is exactly the opposite of what most companies do in normal or boom times.

3. Acquisitions not alliances. Now is the time to get the businesses that could build your franchise across the country, and they will never be so cheap.

4. Key Staff. Lastly, now is the time to stock up on all those capabilities that were in short supply 18 months ago, and will be in short supply (probably) 18 months from now. In this sense, the economy will not change. The shortages will reappear in marketing and sales as well as general management in particular but will also appear in all other departments.

There may not be a stampede to invest, expand or take this advice. The economy will no doubt continue to wobble, then recover a bit, and eventually grow steadily before really booming. Then executive management will eventually see that in their figures, and middle management will be asked to dust off the expansion plans or make new ones. There may not be many that believed in themselves and took the opportunities of this fortuitous time, but they will be the ones laughing in the future when they are market leaders.