Russia's retail revolution

In urban centres across the vast hinterland of the largest country in the world, people are shrugging off their grim communist-era preoccupations to go shopping. They're joining the international consumer society in droves - retail sales in the federation are set to overtake those of the UK and Germany by 2012. And in this sector at least, co-operation with western firms is blossoming. Sarah Butler reports.

by
Last Updated: 12 Jun 2015

It's 6pm in Taganrog, a port on the Sea of Azov with a population of about 300,000. Most of the streets seem quiet but the bright lights blasting out of the new M.video store on Bolshaya Bulvarnaya street illuminate a car park crammed with vehicles parked at rakish angles. Seemingly immune to the bitterly cold evening, groups of locals are working out how to load enormous televisions or perhaps two or even three microwaves into their cars.

The store is the first major electrical retailer to open in Chekhov's home town, and there are queues of shoppers trying out Taganrog's first escalator and taking advantage of opening-week promotions. Women in sturdy boots, who look experts at queuing after years of hunting for everyday goods during Russia's communist era, are crammed between the balloon-adorned aisles buying kettles or irons in bulk. Their sons and daughters are examining the latest mobile phones and DVD players fitted with dual microphone sockets so they can be used for karaoke - a popular pastime for Russians after a few rounds of vodka.

Welcome to the front line of Russian retail. The scene is not particularly unusual in Europe's fastest-growing consumer economy, where Russians have gleefully cast aside communism for rampant consumerism.

Vladimir Putin has transformed the country into a confident, energy-rich player keen to wield its power on the world stage. Now Russians want to look the part and they increasingly have the money to pay for it. Western retailers have not been slow to grasp the opportunity. Says Per Kaufman, chief executive of Russian operations for Swedish furniture chain Ikea: 'It is a bit like the Wild West a hundred years ago. There is such demand and dynamism in the market that you can succeed even if you're not the top retailer.'

Posh stores in Moscow and St Petersburg are already no different from those of any other major capital, except that they are slightly more glitzy and gold-bedecked, in tune with the tastes of Russia's nouveau riche. But now the new Russian retail revolution is happening in the country's massive hinterland. This area, bigger than the whole of the rest of Europe, still has cities empty of the kind of modern stores we take for granted.

Overall, the Russian retail market is set to grow 84% by 2011, to $745bn, according to figures from The Economist Intelligence Unit. By 2012, retail sales in the country are likely to exceed those in the UK or Germany, making Russia Europe's second-biggest retail market after France. And at least 60% of that growth is expected to come from the regions, where there are 14 cities with a population of over 1 million.

Alexander Tynkovan, CEO of electronics chain M.video, the Russian equivalent of Comet or Currys, says things have changed dramatically in the past five years. 'Now there is more and more money in the regions and they are keen to update everything. They are really hungry to do it. They don't believe in keeping money for a long time, so many think it is better to live now and have a good car or electronic goods.'

Of course, these outlying cities do not enjoy anything like the level of wealth seen in Moscow and St Petersburg. In Rostov-on-Don, a city south of Moscow where Ikea recently opened a Mega Mall shopping centre, local fashion stores sit side-by-side with international names such as Accessorize, Reebok and Benetton. The sparkling new Auchan supermarket, which has an enormous frozen-dumplings department and several aisles stacked high with beer, is attracting considerable interest. But the car park is more than half empty and the Ikea store is so gloriously calm as to be unrecognisable to British shoppers.

At present, it is the more affordable supermarkets, electrical stores, DIY outlets and fashion retailers that are enjoying the fruits of regional Russia's spending spree, where growth is running at 30% a year compared to 'just' 16% in Moscow.

Tynkovan says his stores there are achieving underlying sales growth of more than 50% and M.video is continuing to open stores at the rate of 40 a year.

The opportunity for both international and Russian retail firms is vast. UK outfit Kingfisher, owner of B&Q, plans to open 50 of its large Castorama stores within the next 10 years, while Arcadia, owner of Topshop, opened its first regional outlet in Krasnodar four months ago. Sir Philip Green's empire expects to have 20 stores in the Russian regions in three or four years' time, in addition to 15 stores in Moscow and St Petersburg.

Wages rose 25% last year overall, and in some sectors, such as finance, were higher than that. Although the absolute level of income is still quite low - as little as $300 a month - much of that income is disposable. Many Russians are mortgage-free, living in family homes or apartments gifted to them by the state when the communist system unwound. Electricity and gas are also heavily subsidised.

Until recently, most Russians had very little debt, and the economy has been largely protected from the global credit crunch now hitting the US and Europe. And they want to spend the money they have got - not least because many Russians saw their savings and pensions disappear during the Yeltsin era.

'Although wages and incomes look small in absolute terms, the potential market is enormous,' says Roland Nash, chief strategist at Russian investment bank Renaissance Capital. 'It is only when you start building a retail chain that you realise the latent demand.'

But doing business in Russia can be far from straightforward, especially for foreign operators. The biggest headache for international and local businesses alike is the country's complex bureaucracy. Clearing goods through customs, finalising a property deal, obtaining visas or even sorting out staff transport can all be fraught with delays and difficulties as a result of form-shuffling. Obtaining a loan for a car can mean four inches of paperwork.

Says Chris Skirrow, head of PricewaterhouseCoopers' retail and consumer practice in Moscow: 'It is the day-to-day bureaucracy that can grind people down. It sometimes seems that if a comma is in the wrong place on an invoice you can lose the tax deduction. One of the biggest problems is unpredictability and unreliability - including tax authorities and the judiciary. There is not only potential for corruption but also uncertainty, which makes the operating environment a lot more difficult.'

Problems can be pretty quirky. Kaufman recalls that at one point Ikea had salad bars in only four of its five outlets, because the health inspector in one area decided that salad bars didn't exist in Russian legislation. 'Now we have them in all our stores, but it shows how the rules are subject to interpretation, because growth is so fast that legislation can't keep up.'

The pressure of admin can also lead to corruption, as people try to clear a path through the maze with cash handouts. When one Russian-based western executive bought a flat in Moscow, he spent about half the value of the apartment again in bribes to ensure that he had all the documents required. 'The main reason many are prepared to spend $100 to get something done is that they don't want to spend two days going to different departments trying to get 10 pieces of paper. It will take a great deal of political will to change the bureaucracy.'

Businesses deal with this problem in different ways. Some hire a security firm or a krisha (literally 'roof' in Russian), which handles any security or payments required to allow the business to operate. Many British firms opt to use a local partner to lead complex local negotiations. Having a partner also gives some peace of mind in a country that has a rapidly deteriorating relationship with the West.

Says Amir Afkami, MD of Arcadia's international operations, who oversees the firm's Russian Topshop and Topman stores via franchisee Enrof: 'Politically, economically and culturally, it was a good idea for us to use a franchisee. All of these factors are difficult for us to assess when they are so volatile.'

A cautionary tale comes from DSG International, formerly known as Dixons, which in June last year abandoned a $1.9bn plan to move into Russia via a 50% stake in the country's largest electrical retail chain, Eldorado. John Clare, former CEO, has suggested that both fears about Britain's political relationship with Russia and concerns about 'standards of transparency and control' at the privately owned Eldorado contributed to DSG's withdrawal.

Some retail bosses quietly admit they have adopted a 'sign the deal and avert your eyes' approach to doing business in Russia. They are happy to go along with local business practices as long as the sales keep flying.

But Ikea, one of the first international retailers to open stores in Russia, took a zero-bribery approach. The company said it would work only with local governments that accept its no-bribery policy, and this strategy has worked. Kaufman says most regions are now keen to see retail development in their area and a modern mall can help them attract other investment.

Politicians can also win plaudits from voters for feeding the hunger for modern consumer goods, and Kaufman believes Ikea's no-bribery badge positively helps negotiations. 'Quite a few of the governors want to work with Ikea to show that they are a "clean" region.'

The national government is also keen to cut down on corruption. Stronger controls under Putin have reduced the incidence of troublesome everyday corruption, such as traffic police demanding cash for invented misdemeanours.

Another major barrier to economic growth is Russia's ageing infrastructure. The need for new energy and transportation networks is now so desperate that the government has agreed to pump $1trn in over the next five years. Says Jere Calmes, president of 36.6, a Russian pharmacy chain similar to Boots: 'One of the biggest issues is infrastructure and scale. With 11 time zones and a land area bigger than Europe, moving goods across country can take a week, and it is almost impossible to return them.' Temperatures can vary from minus 40 degsC to plus 40 degsC.

Recruiting decent staff - not least good store managers - is a major headache. The standard of education in Russia is good, but the country still turns out more physicists than economists and more engineers than management experts. M.video's Tynkovan agrees that the labour market is pretty tricky. 'There is a problem with the oligarchs, who can pay triple the money for managers. To them it's peanuts.'

But retail has one great advantage for foreign players: the consumer economy is relatively open - unlike the strategic parts of the economy, such as oil and gas, which are highly political and fiercely protected. Despite continuing poor political relations between the UK and Russia, retail firms are unlikely to face the kind of disruption experienced by the likes of BP and Shell, which have both been pressured recently, directly and indirectly, to sell parts of their business to state-run enterprises.

Calmes at 36.6 adds that local retailers welcome their international competitors. 'The benefit is that they come with processes and technology, and that forces the entire industry to improve. It creates a better level of service for the customer and better companies.'

Many local retail firms also see the potential of being bought out by an international incomer, and are sharpening up their acts as a result. Says Calmes: 'Some firms are building their network with a buyer in mind.'

Perhaps those deals will generate Russia's next sale frenzy.

DOING BUSINESS WITH THE BEAR

British merchant adventurers, from Walter Raleigh on, have always been adept at keeping the politics out of business when it suited their interests to do so. Consequently, while diplomatic relations between the UK and Russia may be increasingly strained, the economic ties remain strong. British companies are well represented in Russia, and vice versa: there are some 20 Russian conglomerates on the London Stock Exchange, against five traded in New York.

But the provocative behaviour of the brash Putin/Medvedev regime - such as the attempts to intimidate British Council staff in St Petersburg and elsewhere - and the poisoning of Alexander Litvinenko on British soil, allegedly by a Russian former security officer, make life trickier and less comfortable for British firms operating there.

Some commentators - such as the Economist's Edward Lucas in his book The New Cold War (Bloomsbury) - have argued that such muscular tactics are an merely attempt by Russia to use its new economic strength to exert the kind of global influence that its military power never managed to achieve.

Others claim that such international posturing is largely an exercise in image-building at home: a president who makes the Russian people feel they are back on the world stage again stands to do pretty well in the popularity stakes. And in a globalised world, the apologists add, surely a resurgent Russian economy offers opportunities for all?

Whatever the truth, native wit and sharp mercantile instincts will remain core competencies for anyone wishing to set up shop in Russia in the foreseeable future.

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