Managing Perceptions And Understanding Risks
- By Mark H. Gay
- Jan. 13 2014 18:04
Managing perceptions is an issue for international companies active in Russia. The country's government strives to position it as a business-friendly emerging market, while confronting corruption. Yet companies have to contend with media headlines and political grandstanding that can leave stakeholders jaundiced.
It is little more than a year since Russia join the World Trade Organization. The U.S. Congress repealed the Jackson-Vanik amendment, only to pass the Magnitsky Act aimed at imposing sanctions on individuals connected with the prosecution and death of the eponymous Russian lawyer. Deputy Economic Development Minister Sergei Belyakov told the American Chamber of Commerce annual investment conference in April 2013 that he would like business to be less dependent on politics but, "unfortunately, trade relations depend on the political climate."
Navigating the domestic political climate in Russia is just as important, according to Pavel Melnikov, vice-President, Public affairs and crisis communications at Grayling Consultancy. There is a broad definition of strategic sectors and growing financial pressure on the government, which in many industries is the biggest customer, he said.
What are my obligations to the government? Can they make changes
arbitrarily? If risks are understood, then people will deal with them.
This affects highly regulated sectors, like pharmaceuticals, not just in terms of industry regulation. Even if a U.S. or U.K. company refuses to pay bribes, other rivals may have fewer scruples, Melnikov said. "The kickback percentage and the overall pressure from the grey area where you have to pay 20 to 30 percent of each state contract only increases the pressure on the budget."
The Internet sector is being pressurized under the banner of security, the banking sector because the authorities want to be able to manage the banks if necessary. State banks have a low cost of funding from the government but largely lend to state corporations and projects. A dwindling number of mid-sized banks exacerbates the shortage of finance at a reasonable price.
Economic growth, while slowing, still compares favorably to much of Europe. This month the International Monetary Fund cut its 2014 forecast for Russian growth to 2 percent in 2014, after 1.5 percent this year. The main driver will be domestic demand, which the World Bank says contributes 48 percent of national output.
Official forecasts see consumer spending continuing to rise by about 4 percent a year, assuming that taxes do not rise. Russia's flat rate of 13 percent income tax is considered a success of President Putin's first term. Yet just over a decade later, there is active discussion about introducing a progressive income tax to plug the federal budget.
Regional administrations, under pressure to meet social obligations dating from the pre-elections promises of President Vladimir Putin, have increased their borrowing. Several are totally reliant on debt and federal transfers. All of this is likely to influence interactions with business.
Risks are individual to each sector. However it is possible to approach risks logically, said President and CEO of Cushman & Wakefield, Glenn Rufrano.
Wherever the company owns real estate it is in a joint venture with government. It is subject to taxation, the power to zone and order regulatory changes, eminent domain under which the government can take your property for compensation, and escheat.
"I know every time I buy I am subject to those four in the U.S. That's the joint venture. Now I need to understand that in Russia. If I own a piece of real estate here, what are my obligations relative to the government? Can they make changes arbitrarily; can they take my property for any good reason? If they are understood people will deal with them."
Reducing The Jitter Factor
Peter Necarsulmer, CEO and Vice Chair, PBN H+K Strategies
Political disputes have the potential to make investors nervous. How can executives in Russsia counter the jitters?
Even in the case of investors with a long track record in Russia, their corporate headquarters are starting to question how much further to go. It puts the country managing director for these companies very much on the spot. A number of my clients and friends who run the companies here comment on how much additional time they are having to allocate to keeping their corporate headquarters on side.
It's for a combination of reasons: from the recent media reportage on the European Union, Ukraine and Russia to social issues such as legislation against gay propaganda.
It is still a country with greater opportunity on the risk reward equation, that stacks up better, than other emerging markets and it is still quite untapped in terms of the non-resource economy.
Most important in terms of reducing the jitter factor is discussing in detail the successes of other investors in this market. However almost all continue to expand their businesses.
How does the strategic advice you give companies differ to what you would do abroad?
A big part of what we do with our clients is in the first place is to understand the Russian national interest. We advise our clients not to do a deal and take it to the last signature on the piece of paper before they go and talk to the government. They don't want to give them a surprise or find that the government does not view their investment or transaction favorably. That is different to most markets.
Having said that, while a lot of noise is made about politics, surface international politics very rarely will influence a business decision in this day or age.
Is there beauty contest among Russian regions to attract foreign investment?
Yes. They are building out their infrastructure, social services, and improving their quality of life and they need to attract investment. There is quite healthy and aggressive competition among a number of the regions to attract new investment not only through tax holidays and incentives but also by cutting red tape and bureaucracy. Unfortunately I don't think
Russia has done a great job of managing its brand in terms of attracting investment.
I believe the government knows this and is working on it.
Surviving Increased Scrutiny
Pavel Melnikov, Vp, Public affairs & crisis communications, Grayling
What are the pressures on companies now and why do they need to focus on government relations?
There is a conservative wave mentioned by experts in political science. This wave together with difficult financial conditions leads to a situation when certain economy sectors receive close attention from the government and are being pressurized. This includes the pharma sector, the Internet and the financial sector. All these highly-regulated sectors are under scrutiny. Have a look how financial institutions are being monitored in Europe.
How do you keep a dialog going with government?
We analyze how the regulatory trend is evolving and how it may affect business.
You may try to protect your interests with a third party. Pharma companies may use patient groups and advocacy groups, grass roots as they are often named. In the banking industry it could be business associations like Association of Russian Banks and you may go under their roof. Or you can try to lobby directly which is more effective but more dangerous.
What other pressures do companies face?
Corporate corruption is ruining the Russian economy. The Russian banking system is an example though you don't always hear about it. When some banks sign contracts with newspapers to have commercial advertising through the year some Russian newspapers sign unofficial agreements that they won't publish negative news about them. The kickbacks may be huge, not only at top management level but also at mid level where the people responsible for communications and advertising are involved.
How do companies deal with that climate?
A foreign company must be ready for any kind of situation that cannot be forecast. The situation is continually changing and 2014 is expected to be even worse than 2013 in terms of economy, tax collection and federal budget deficit correspondingly and you need to consider and be prepared for the worst scenario.