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. Last Updated: 07/27/2016

Brewing Up a Thirst




With Russia's beer market blooming by as much as 30 percent a year since 1995, there has been room for everyone to drink their fill of the ready profits on tap.


Andrew McChesney reports.


Seven years ago, a group of top European brewing executives looked at Russia and saw a nation that turned up its collective nose at beer. They saw a vodka-loving people with little enthusiasm for the low-quality local beer sold on streets in cisterns - so little enthusiasm that a popular saying goes as follows: "Pivo bez vodki, dengi na veter", or "Beer without vodka means throwing money away."


They saw a window of opportunity.


Under the auspices of Finland's Hartwall and Pripps Ringnes of Sweden, Christian Ramm-Schmidt and several others formed Baltic Beverages Holding and set out to change the country's tastes.


They succeeded beyond their wildest expectations.


"We had a strategy and that was if you are there first, there are always better opportunities to take a good share of the market," said BBH chief executive Ramm-Schmidt last week. "We also believed that the consumption pattern in Russia would gradually change toward the Western standard, where drinks of less alcoholic strength were gaining on the market.


"And this has really proven to be true. People have shifted very rapidly from strong alcoholic drinks to beer, and the beer market in Russia has been growing an average of 25 percent a year for the last three years."


Heady Growth


While per capita consumption is still small, Russia is now the fastest growing beer market in the world - worth well over $5 billion last year. BBH, with its flagship line of Baltika beers, is the clear-cut leader with an estimated 15 percent to 25 percent share of the market. The nearest rival, Sun Interbrew, has a 13 percent to 17 percent share.


Russians drank some 4.5 billion liters in 1999 and are expected to consume 6 billion liters in 2002, according to Moscow investment bank Brunswick Warburg.


Moreover, Russia's craving for the amber liquid has grown so steadily that other foreign companies have been able to jump on the beer wagon and rack up huge profits without putting a dent into each other's businesses, feeding a growing investment boom in local beer production.


"It is really just a growing market for everyone," said G. Mitchell Krasny, vice president of finance at No. 2 beer producer Sun Interbrew. "I am not sure that we have reached the point that when one bottle of Baltika sells, one of ours doesn't."


First In, Best Served


Arguably, no one but the executives at BBH could have guessed that Russians' thirst for beer would grow so drastically.


"They created our first Western-style real beer brand," said Maria Tarulina, consumer-goods analyst at Troika Dialog. "We went all the way from beer sold in cisterns simply labeled 'beer' to a branded, Western-style drink with a long shelf life."


BBH in 1993 entered a stagnating beer market. Breweries in sore need of upgrades sold poor-quality beer via those very Soviet-looking tanks that would set up at irregular intervals on street corners - same as milk, the Russian beverage kvas and cooking oil. People would typically line up with empty bottles to carry home a brew that would go bad within a couple days.


"It was very much a vodka culture and the appreciation of beer was not very high," Ramm-Schmidt recalls.


BBH saw that per capita beer consumption was some 50 percent below international standards and laid out a strategy of acquiring at least one brewery a year in the former Soviet Union and bringing it up to standard. As its test case, BBH acquired a controlling stake in St. Petersburg brewery Baltika and immediately got down to the business of bringing the plant up to Western standards.


"There were no quality beers available and the shelf life of existing beers was extremely short," Ramm-Schmidt says. "The technical state of the breweries with outdated equipment was also very poor and investments were needed.


"This partnership with Baltika proved to be successful already in the early stages and we decided ... to grow Baltika as quickly as possible," he said.


Baltika began pumping out bottles of Baltika Light, Baltika Special, Baltika Classic, Baltika Original, Baltika Parnas and Baltika Porter - each brand labeled by a number from one to six and displaying its alcohol content. And consumers could not get enough.


With the Baltika plant operating at full steam, BBH was forced to keep expanding capacity while steadily acquiring new breweries. An estimated $500 million worth of investments later - BBH was cagey when asked - and the BBH kingdom includes ownership stakes in 12 breweries - six in Russia, four in the Baltics and two in Ukraine. The company's most recent acquisition was a 50 percent stake in the Krasnoyarsk-based Pikra brewery last year.


"Central in all our thinking has been quality, so once we got the quality and shelf life in order at Baltika, people began to buy that beer to such an extent that our main challenge was to increase capacity enough to fill demand," Ramm-Schmidt said.


BBH produced a stunning 760 million liters of beer in Russia in 1999, a 34 percent increase from the previous year.


Just last week, BBH reported an increase of 120 percent in first-quarter 2000 production volumes for its St. Petersburg, Rostov-on-Don and Tula factories, which bucked the traditional winter downturn to produce 210 million liters of beer in the first quarter.


The company expects output to top 1 billion liters in 2000.


A Crowd at the Bar


Even the least savvy of businessmen couldn't help but notice the phenomenal success story being brewed by BBH. Rival companies were soon lining up for a piece of the action.


However, even though Russia has 324 large- and medium-size breweries, according to the National Beer Industry Association, most of them were in a sorry state and offered little competition. It wasn't until the 1998 financial collapse forced foreigners to set their sights on brewing domestically that any serious competitors began to emerge.


One of the most outstanding of the upstarts to roar into the beer market has been South African Breweries, which bought out the Kaluga plant in 1998 and turned the one-time soft-drink maker into a beer powerhouse.


Refurbished with German brewing equipment, the Kaluga brewery launched production of South African Breweries' Zolotaya Bochka brand in May 1999. The recipe for the beer was tailor-made for Russia and based on interviews with thousands of people across the nation, according to the company.


"We did an enormous amount of research before we launched it," said Alan Richards, general director of South African Breweries in Russia. "Zolotaya Bochka is a very specific beer designed for the market. It is positioned as a very distinctly Russian brand."


In less than a year, South African Breweries has garnered a 4 percent share of the national market, and its lone brewery cannot keep up with demand.


"We've been out of capacity since July of last year," Richards said.


The brewery has the capacity to churn out 100 million bottles a year, or 5 million liters. When an expansion is completed in May, the plant's capacity will jump to 15 million liters a year.


In addition to two versions of Zolotaya Bochka, the plant makes under license the Czech beer Staropramen and last week kicked off local production of Holsten. The well-known German beer had been imported here and saw strong sales up until the 1998 crisis.


"When we came here we knew that one single brand was not enough in this market," Richards said. "Consumers have different tastes, different needs, different wants.


"Holsten had been a big and very successful brand here," he says. "When we looked at it, we thought there is potentially a winner here."


South African Breweries hopes to attain pre-crisis levels of 50 million liters a year in Holsten sales, but is settling on a conservative 8 million liter figure for this year.


Beer-onomics


One of the secrets to the success of Baltika and other beers has been the low prices - astonishingly low prices on a world scale - analysts say. Average prices for domestically produced brands in the standard 0.5-liter bottles range from about 8 rubles to 15 rubles - cheaper than the cost of a 0.33-liter bottle of Coca-Cola.


"Nowhere else in the world to my knowledge is beer cheaper than Coca-Cola," said Alexander Andreyev, consumer-goods analyst at Brunswick Warburg. "It's not that consumers compare the prices, but just that prices are cheap."


Since August 1998, ruble prices for domestic beer have risen about 95 percent - well below consumer-price inflation of 128 percent, according to Brunswick Warburg.


"Notably, despite local production, the price for Coca-Cola has nearly followed ruble devaluation and is now 1.5 times higher than for domestic beer, while across Europe Coca-Cola sells at an average 50 percent discount to beer," Brunswick Warburg said in an industry report.


And beer is also highly profitable: Price margins are estimated by analysts to be as high as 30 percent on mid-range beers.


Furthermore, favorable taxation rates won by domestic producers from the federal government have helped to encourage increasing production. The tax on beer is 22 percent of the retail price - less than the global average and well below the 30 percent or more that vodka sellers must pay.


From the Same Trough


The main path international breweries have been following to expand in the lucrative Russian market is similar to the one first laid out by BBH.


One of the more recent of such acquisitions was Sun Interbrew's deal with the Klin brewery, located about 90 kilometers northwest of Moscow. The sprawling, four-story brewery, founded in 1975, has for years been a leading player on the Moscow market and is the fourth-largest plant in Russia.


But the plant's more than 500 shareholders - all employees - realized after the 1998 crisis that if they were going to remain a leader, they needed outside investment. In May 1999, they sold a 75 percent stake to the fast-growing Sun Interbrew - a joint venture between Belgium's Interbrew and Indian-owned Sun Brewing that is BBH's most serious rival.


Over the din of hammering construction workers and clanging bottling lines, Klin marketing director Olga Gulina applauded the brewery's decision to aim for future growth through Western investment.


"We had started to build a new plant in addition to this one, but after the 1998 crisis we decided that we urgently needed to find an investor," Gulina said.


The first results of Sun Interbrew's investments will be seen May 15 when Klin adds a seventh, 36,000-units-per-hour bottling line, she said. The brewing process at the plant has been fully automated, with white-robed staff keeping a careful eye on brewing temperatures, disinfection and the computerized bottling lines.


"We have big plans for expansion at Klin," said Sun Interbrew's Krasny. "We still have to fully align some of the details, but there will be a substantial increase in capacity."


Klin, like Kaluga, is operating at full capacity, producing 110 million liters of brands like Klinskoye Lyuks, Zolotoye and Prestizhnoye last year. With Sun Interbrew's help, Klin expects to reach 150 million liters a year.


Gulina said the plant alone has a 4 percent share of the Russian market, and 80 percent of its drinks are sold in the Moscow region.


That 4 percent share gave Sun Interbrew a huge leg up in the market, but Krasny says that market dominance is - at least for now - not the company's main goal. Over the past few years, Sun Interbrew has gained control of nine breweries in Russia and two in Ukraine. Just like BBH, it expects to produce over 1 billion liters of beer in 2000.


"I don't think we have put it as a goal to hugely increase our market share," Krasny said. "If we increase 1 [percent] or 2 percent that is OK."


A Tighter Market


BBH continues to maintain a strong lead throughout Russia and is scrambling to make sure that it does not relinquish its role.


But several polls have suggested for the first time that Baltika is losing its No. 1 grip on its hometown market of St. Petersburg. A recent poll by Gallup St. Petersburg, for example, found that local brand Stepan Razin had a 37 percent share of the market versus Baltika's 30 percent.


Ramm-Schmidt derides the survey results, but acknowledges that St. Petersburg is a tough place to keep on top.


"Our latest figures show that Baltika is strengthening its position ... and is leading in the St. Petersburg market now," he says, although he could not give figures. "Nowhere else in the [Russian] market are there are so many high-class breweries as in St. Petersburg, and everyone wants to take his share of the home market."


Industry analysts said such surveys may give an indication of a market's mood, but in many ways they are a dime a dozen.


"Surveys go up and down by the month," said Andreyev at Brunswick Warburg. "They do not really matter at this point. It is clear that there is competition and [Baltika's] position is not as clear as two years ago. But they are still the leader in general terms."


The beer rush is far from over, producers and analysts say. The market has grown by 25 percent to 30 percent a year over the past three years, but Russia still lags far behind other international markets in per capita consumption of beer. In Russia, per capita consumption is estimated at 23.7 liters, compared to over 130 liters in Germany, some 90 liters in the United States and 160 liters in the beer-mad Czech Republic.


The domestic market is expected to grow by 10 percent to 20 percent more this year, and by at least 10 percent in 2001 and 2002, so increasing capacity will be the only major task of the main players if they want to hold on to their positions, analysts said.


Imports of beer, which hit a peak of some 14 percent of all beer consumed in 1996, had fallen to a mere 4 percent in 1999 and are seen at no more than 6 percent in 2001, according to Brunswick Warburg.