[Intl-tobacco] Russia Getting Back on its Feet (fwd)

[Robert Weissman]

Russia Getting Back on its Feet
Source: Tobacco Journal International, Saturday, 1/8/00
[This item is undated.--gene borio]

The Russian cigarette market was negatively affected by the country=92s
financial crisis that started in mid 1998. A trend towards more expensive
and quality brands slowed down, and many smokers turned back to cheaper
cigarettes and filterless =93papirossy=94. However, there are signs now
indicating that the worst may be over.
=20
The situation in Russia is getting better, simply because it can't get any
worse=94 =96 this rather sarcastic view, expressed by a Russian tobacco
executive is shared by many of his compatriots regarding the state of the
country's economy. Russia went through a painful financial crisis that
started in August 1998 and has strongly devaluated the rouble; it prompted
international investors to quickly take their money out of the country.

The effects of the crisis were soon felt in the tobacco market as the
purchasing power of the population went down dramatically. Smokers started
to buy cheaper products, and more expensive quality cigarettes remained on
the shelf. Impact on the industry was significant as the crisis also
affected business in other CIS and eastern European countries. After the
crisis cigarette prices in Russia had gone up 2.5 times, while the dollar
rate went up 3.5 times. This clearly shows that margins were squeezed and
the consumer became even more price sensitive.

Still, tobacco was one of the only sectors able to increase production
volumes in the immediate post-crisis era. The demand is still there; it's
just the question of how it's being fulfilled.

According to statistics by Tabakprom, the Russian Tobacco Industry
Association, Russian cigarette production will achieve around 235 billion
pieces in 1999 =96 a considerable increase against 1998, when 200 billion
cigarettes were produced, and almost the double of the 1994 figure (136
million).

This is mostly due to the involvement of multi-nationals in Russia, but
also due to the appearance of several small businesses throughout the
country. There are no less than 86 cigarette factories registered at the
Russian finance ministry; of those, around 60 are sizeable plants, and 30
are major factories where the best-selling brands are manufactured. 20
factories are associated to Tabakprom, and ten factories are
joint-ventures with foreign companies.

According to Mr Terevtsov, the head of the Russian association, around 95
per cent of all legal cigarettes sold in Russia will be made locally by
the year 2000. Imports have gone down from 65 billion pieces in 1997 to 51
billion in 1998 and should fall further, being gradually replaced by
domestic production.

A lot has changed since foreign companies started to get into the Russian
market. Modernisation was carried out in several factories =96 many of them
now have state-of-the-art equipment =96 and production capacity went up
fast. So far, a total of US$ 2 billion was invested in the Russian tobacco
industry since 1990; 75 per cent of the money came from foreign companies.

Smuggling is also better under control now, in comparison to the days
immediately after the breakdown of communism. Contraband and counterfeit
goods make up around 4 to 5 per cent of the total market, according to
Tabakprom estimates. The percentage of smokers in Russia stands at around
30 to 40 per cent of the population, and this number is increasing, says
Tabakprom.

Filter cigarettes are rapidly gaining importance at the Russian
marketplace; the growth rate for this segment in the coming years is
estimated to reach up to 10 per cent a year =96 but only if the fragile
stability of Russian economy holds up.

The lack of planning is a problem for foreign companies operating in the
country, who often complain about unnecessary bureaucracy and a changing
legislative environment. However, over time these companies have learnt to
expect the unexpected in Russia, and to cope with the sudden changes in
economy and politics.

Visitors to the capital Moscow, now a bright city with an increasing
amount of billboards carrying advertising for western goods, have to make
a true effort to remember the fact that not long ago socialists had the
power in the country. Even less time has passed by since rebel tanks fired
at the Duma, the Soviet parliament, and tried to destabilise the
government. Russia still has to adapt to the enormous changes it has been
through in the past years.

Changes have also taken place on the leaf tobacco side. During an event in
Moscow Mr Petry Garlick, sales manager for the CIS at leaf dealer Standard
Commercial, remembered what he called the =93enormous hunger for tobacco=94=
 in
the time right after the fall of the iron curtain, between 1993 and 1995.
=93Factories bought cheap tobaccos from all possible sources,=94 he
remembered. Deliveries came mainly from India, China and the CIS, Russia's
most traditional leaf sources, but also from Greece, Italy and Indonesia.

After that period, multi-national investment started to pick up and in
1996 a new category of mid-priced cigarettes was introduced; better
tobaccos from India and China as well as, to some extent, tobacco from
Brazil and Zimbabwe started to be used. Light air-cured leaf from
Indonesia became popular and was included in blends of filterless
cigarettes.

This development was jeopardised by the August 1998 financial crisis,
which prompted manufacturers to go back to cheap tobacco and to buy more
leaf from CIS countries as well as scrap tobacco. =93Price remains the key
issue in this country as far as leaf tobacco is concerned, and this is
unlikely to change in the short term,=94 said Mr Garlick.

Standard Commercial has introduced CRES, cut rolled expanded stems, to the
Russian market as a way of improving the filling value of cigarettes and
make them cheaper while lowering tar and nicotine content. The company
started up a new CRES factory in St. Petersburg in September 1999 with a
capacity of 24000 tonnes.

Tar and nicotine delivery is a hot topic in Russia as the government plans
to lower maximum levels from 2002 onwards. If approved, the new law would
lower the maximum tar delivery from 15 to 12 mg, and the maximum nicotine
level would go down to 1.1 mg per cigarette. Nowadays, imported cigarettes
can have a maximum of 15mg tar/1.3 mg nicotine, and the content of tar in
local, filterless cigarettes can go up to 24mg.

There is another proposal by the government to introduce regional tax
banderoles for cigarette packs in addition to the existing ones. This is
being fought by Tabakprom as a unnecessary measure, just as they are
fighting another proposal to completely ban cigarette advertising in the
country. So far, the anti-smoking campaign has failed to pick up in the
country.

Tobacco is a major source of revenue for the Russian government. A
representative of the finance ministry mentioned to TJI that cigarette tax
revenue is equivalent to 8 per cent of the government budget. The tobacco
industry gives direct employment to thousands of workers.

The future perspectives for the tobacco industry in Russia are not bleak,
although the consequences of the financial crisis are still being felt.
Demand will continue to be strong, and manufacturers and suppliers seem to
believe that, at some point, the consumers will turn back to quality
products. The fact that House of Prince is soon going to start building a
new factory 400 km South of Moscow is proof of that confidence, as is the
recent announcement by Rhodia Acetow that it will expand its Russian plant
in Serphukov.

The question that remains is as to when this positive development will
finally take place, something nobody dares to predict. At least for the
moment, Russian companies are happy if they're able to plan what they'll
do the next day or next week.