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Big Western Companies Are Pumping Cash Into Russia

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Even before the U.S. general elections created hopes of warmer ties with the Kremlin, some big Western companies were betting Russias economy will soon come out of the deep freeze.

Big retailers like Swedens Ikea Group and Frances Leroy Merlin SA have begun pumping billions of dollars in new stores and factories, counting on Russias consumers to start emerging from hibernation after two years of recession.

Ikea is putting $1.6 billion into new stores over the next five years or so. Leroy Merlin in September announced a 2-billion-euro plan to more than double the number of outlets in Russia over the same period. Pfizer Inc. is building a new drug mill, while Mars Inc. is expanding plants for chewing gum and pet food.

This is the moment for investment, said Walter Kadnar, country head for Ikea, which last launched a new store in Russia five years ago but this autumn opened a $60 million furniture factory near St. Petersburg and acquired land for a third Mega mall near the city. I strongly believe in the health risks of the Russian marketplace long-term.

Situation Changing

Foreign investment all but ground to a halt as the country sunk into recession and conflict with the West over the last two years. Companies including General Motor Co. slashed local operations. For many of those who bided , now is the time to reopen their wallets to get a jump on rivals. The rubles plunge, though it decimated the value of local earnings in dollars and euros, has driven production costs in Russia down sharply. By some estimates, theyre now lower than those in China.

Read more: Putins popularity and the economy — QuickTake

The last 2-3 years have been a disaster, said Frank Schauff, head of the Association of European Industries in Moscow. Now, the situation is changing as the ruble exchange rate has stabilized and the Russian economy is forecast to return to growth soon.

The government said its annual session of foreign investors in September drew the most top executives in a decade. Foreign direct investment surged to $8.3 billion in the first nine months of this year, more than the $5.9 billion reported for all of 2015, according to central bank data.

Thats still far below the different levels ensure before the Ukraine crisis, which together with U.S. and European union sanctions and the plunge in oil prices and the ruble attained many big companies reconsider investing.

Still, the rise in foreign investment is a modest bit of good news for the capital-starved economy. Overall, industries in Russia are still holding back on expansion, with capital investment down 2.3 percentage in the first nine months of this year. The government expects only a tepid recovery with growth of 0.8 percentage next year. The middle class — the target market for most big foreign investors — has shrunk by 14 million people over the last two years, according to Sberbank CIB, a local investment bank.

Geopolitics Optimism

Alexis Rodzianko, president of the American Chamber of Commerce in Russia, said geopolitical tensions have been a big deterrent for potential foreign investors.

The election of Donald Trump, who praised President Vladimir Putin and questioned the sanctions during the campaign, could change that. Trump has a more open mind regarding the U.S.-Russia relationship, Rodzianko said. Its clear there is room for improvement and that in itself is hopeful.

Read more: a QuickTake explainer on Putin and Trump

For those companies not put off by the chilly political gales, adapting to the plunge in the rubles value — its down about 50 percent since the crisis began in early 2014 — and the drop in Russians incomes has required some ingenuity.

Ikea is selling fewer big-ticket items like kitchens and more pots and gadgets for Russians who increasingly cook at home because they cant afford to go out. At the malls it owns, directors note the lipstick impact — makeup and lingerie stores are flourishing as consumers treat themselves to lower-cost luxuries, while those that sell more costly clothes and shoes have find sales plunge.

Ikea and another big foreign players say their marketings have actually gone up in ruble terms over the last two years. Overall, retail sales in Russia are down 5.3 percentage this year, having dropped 10 percentage in 2015.

We are watching signs of improvement, PepsiCo Inc. Chief Executive Officer Indra Nooyi said in September. Even after the plunge in the ruble, Russia remains the companys third-biggest market after the U.S. and Mexico. The company expanded cheese output after the Kremlin cleared the market by banning most importations. This month, it announced plans for a new $40 million baby-food plant in southern Russia.

Ford Motor Co. said this month it insures signs of a rebound in car sales, which had been hit especially hard by the recession.

French do-it-yourself retailer Leroy Merlin says its same-store sales are up 5 percentage in ruble words as Russians turn to its low-cost products.

Long-Term Approach

We are taking a long-term approach, economic growth is set to return, and “weve already” find some improvement, said country head Vincent Gentil.

Foreign companies are also increasing local production to capitalize on the rubles drop-off. Ikea aims to bringing the share of Russian-produced goods to 80 percent in the next few years and is already exporting Russian-made folding beds to China and linen curtains and wood furniture to Europe.

Of course, the legendary local bureaucracy remains a problem for many investors. Although Russia has moved up in international rankings for ease of doing business, big foreign players often seem to be targeted.

Wracked by conflicts with local authorities and corruption scandals, Ikea has threatened at the least twice since it came to Russia to suspend all investments. Last month, it faced a criminal probe on a five-year-old tax assert the company said it paid in full. The company is also fighting suits relating to deals that date back to the 1990 s.

It slackens us down and confuses us when these old examples come back that weve already resolved and pay money, said Milen Gentchev, who heads Ikeas shopping-center unit in Russia. But that doesnt influence our confidence that Russia is a market we should be in.

Read more: www.bloomberg.com

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