Market Know-How: Countryside Industrial Estates

Moscow Region (Moskovskaya Oblast) is one of Russia’s fastest growing regional economies. Over the past four years its budget grew four-fold. The region owes its increasing prosperity largely to investments in industrial production. The average size of investments in the development of an enterprise amounts to $40 million, while the cost of development of some plants exceeds $150 million.

Environmental hazards aside, those enterprises contribute to the economic growth both of the area where they are situated and of the entire region by creating new jobs, improving the well-being of the population, and developing a commercial and social infrastructure.

Most of the investments made in the region come from abroad. Foreign companies and joint ventures account for some 60 to 70 per cent of all the industrial development projects carried out in the region with the share of foreign investments growing steadily, Swiss Realty Group reports.

For example, in 2002 foreign investment in the region’s economy stood at $690 million, while in 2003 it nearly reached the level of $900 million. The Economy Ministry of the region forecasts that by the end of 2004 the level of foreign investment in the region may exceed $1 billion. What makes the region so attractive for foreign investors is that in 2002 the Standard & Poor’s rating agency upgraded the Moscow Region’s credit rating, analysts say.

Ilya Shershnev, development director of Swiss Realty Group, says: “Foreign producers are attracted by the extraordinarily high rate of growth in that segment [of the market]. Companies launching operations in Russia achieve considerable savings given the cheaper workforce, electricity, packaging materials, etc., and use the saved funds to reduce prices and expand advertising.”

Foreigners are also drawn by the favorable investment climate in the region. For a potential investor it is crucial to make sure that someone else has already launched a successful production project in the area.

Building a plant on the territories beyond the Moscow Ring Road (MKAD) is optimal in terms of transport accessibility and the proximity to Moscow and major motorways linking the capital with other Russian cities. Another reason that makes the Moscow Region so attractive for foreigners is that land plots are available for sale there, whereas in the capital they are only available for rent, with the term of lease restricted to 49 years.

Projects to develop food and pharmaceutical plants, and production of construction materials and furniture, receive most of the investments. In 2004 the Dutch firm Hochland launched production of its processed cheese in Ramensky District; Germany’s Knauf opened a plant for the production of dry plaster mixtures in Krasnogorsk; and France’s Michelin began production of tires in Orekhovo-Zuyevo.

Next year about 10 more foreign companies plan to open their factories outside Moscow. They will include British firm Pilkington, Belgium’s Glaverbel glass works, a chocolate factory for Ritter Sport, a factory for Perfetti Van Melle (producer of Fruittella, Mentos, Alpenliebe, Sula, and Meller), production units for Avon and Oriflame, and for the German furniture maker Schieder Moebel Holding.

Conditions Are Favorable, But Still Hard

Today over 900 foreign companies and firms are developing their operations in the Moscow Region. “We have every reason to say that investment activity is on the rise. A favorable investment climate in the regions attracts more and more major foreign investors. While in the years 2000-2002 there were only a few foreign production units in the region, today there are dozens of them,” says Shershnev.

As a rule, before the development of an industrial estate begins companies spend six to twelve months on gathering permission and preparing all the necessary paperwork. Red tape is no less developed than it was in the good old Soviet times. To get the go-ahead from the authorities developers have to gather nearly 150 signatures, according to Sergei Frolov, head of the customer service at the Spektr Group.

Before construction even begins, investors can spend a year negotiating their project with local authorities and gathering all the necessary documents. The project must undergo expert environmental and governmental examination. Taking into consideration such a state of affairs, it becomes clear why certain experts assume that investors should focus mainly on building friendly relationships with district authorities. Quite often the authorities’ attitude and their enthusiastic approach predetermine the success of a project.

The Developers

Only after all the necessary documents are signed and examinations completed does the development begin. Investors choose a development company by inviting bids for construction. Quite often foreign developers are awarded general contracts in such projects, as Russian firms participating in the tenders fail to compete with rivals from Italy, Turkey, France and Japan. Most of the subcontractors are Russian companies.

Employees at the Stupino district administration reported how a Turkish firm won a tender for the development of a confectionery plant for the U.S. company Mars. The investor had been keen on building the plant in winter, to which Russian construction firms objected, saying that building a plant in winter was impossible. The Turks proved more practical: in October they erected a box of sandwich panels, installed heat cannons and built the plant over winter.

The land issue is another area that requires special attention. Land plots in Moscow are owned either by former Soviet-era collective farms transformed into joint-stock ventures or to municipalities. Investors find it much more difficult to negotiate their projects with collective farms than with district authorities interested in attracting investments into the area.

Ideally, the district authorities offer investors a choice of municipal land resources to select a plot that suits them most. This is very important, as some investors are interested in having a railway station in the vicinity, while others want to build an energy-intensive plant, or need a gas supply, or are interested in the availability of a workforce and the proximity to the city.

The key factors investors are guided by when selecting a construction site are transport accessibility, availability of engineering communication lines, and the industrial status of a land plot, as well as the risks involved in developing production units in a certain area.

Other factors, too, play an important role. For example, when Oriflame was looking for a site for its production unit in the region, it sought “an environmentally clean district not very far from Moscow”. Also, “availability of a skilled workforce, that is, people who could work at the plant, plays a great role,” says Yulia Nikulicheva, deputy director at Jones Lang LaSalle. “That is why quite often the choice is made in favor of districts where some other plants are already operating.”

The total level of investment required may vary greatly depending on the profile of a future plant. Building a food plant or a similar medium-size production unit would require a relatively small investment of $10-40 million.

For instance, development of the French cheese dairy Lactalis in the Istra District of Moscow cost investors $13 million; while Germans spent $10 million on building the Veka Rus plant for the production of plastic windowpanes in Naro-Forminsk District. Larger plants, such as glass works or tire factories, require $70-150 million.

The average cost of building a small-size, 5,000-sqm production unit amounts to $400 per square meter, or approximately $2 million, of which over $100,000 is spent on preparing project documentation. The prime cost of building design is $20-30 per square meter, while $1.9 million is spent on construction materials and workforce. Construction of a larger plant can turn out to be five times more expensive. On the other hand, the prime cost of one square meter of a large plant – with a total space exceeding 10,000sqm – can work out to be lower.

When constructing modern factories developers use sandwich panels, which they install on steel frames. The advantage of using such panels is that they are easy to install and have a high level of heat resistance equivalent to 12cm of brickwork.

The Land Issue

Purchasing or renting land involves additional expenses. The price of a land plot directly depends on its proximity to Moscow, transport accessibility and the legal status of land. The most highly-valued plots are where the laying of power lines is easy and requires minimum expenses. The cheapest plots are situated within 50 to 100 kilometers of the Moscow Ring Road, with some of them still available at $500 per hectare.

The average space required for developing a production unit amounts to 20 hectares. Thus, the buyer has to pay at least $10,000 for the site, while the average price of purchasing 20 hectares of land in remote districts of the Moscow Region runs up to $20,000.

Plots situated within 50 to 55 kilometer of the city limits are considerably more expensive, with one hectare of land being offered at $20,000. On the whole, investors may have to spend another $1 million on land. The size of plots for the construction of industrial enterprises varies from 6 to 100 hectares. As a rule, foreign investors purchase plots of approximately 30 hectares.

The payback period of a plant, depending on its profile, ranges between four and eight years, which is comparable to the payback period of retail space (two to four years), office buildings (three to five years) and warehouse facilities (four to six years). However, Ilya Shershnev notes, recouping investments depends heavily on the market situation. The commercial real estate market is now on the rise and forecasts for its development are favorable, while production is riskier, as competition grows stronger each year and companies also have to find a market for their goods.

Stupino Pioneers

The Moscow Region’s district of Stupino offers a good example of successful interaction between investors and local authorities. Back in 1995 the U.S. firm Mars built two plants in the district – a confectionery plant and a factory for the production of pet foods, having invested a total of over $200 million in the project. The Americans only opted for Stupino after they examined dozens of offers from other Russian regions.

“When Mars representatives arrived here looking for construction sites, they had a very long list of criteria for selection,” Pavel Chelpan, the head of Stupino district administration, recounts. “Several dozen sites that Mars had visited earlier failed to meet some of those criteria. In particular, for the investors it was important to see if the local administration was really willing to cooperate. Besides, the sites had to meet their requirements in terms of power and gas supplies, transport accessibility, as well as the availability of a skilled workforce.”

Stupino had it all. Altogether, the district administration was highly enthusiastic about promoting cooperation with investors. Since 1994 the Stupino authorities made it their aim to attract at least $100 million of investments annually and reach the level of $1 billion by the year 2005. Furthermore, land plots in Stupino met all the technological requirements, because in Soviet times the district had developed aircraft building and defense industry facilities, and a thermoelectric power station was built in the town of Stupino, as well as a high-voltage transmission corridor linking the Kashira hydro-power station with Moscow.

“We are able to provide production units with sufficient power supply, which is very important,” says Pavel Chelpan. “A production unit in Stupino can receive power supply from high-voltage lines of 110 and 120 KV. Also, it can receive low voltage, say, 10 KV, from the thermoelectric plant. Stupino has two ‘centers of attraction’ for production units – the high-voltage corridor and the newly-built M4 motorway.”

The Stupino authorities also take care of a variety of organizational issues. For instance, if an investor is willing to hold a tender, the district administration may offer him a choice of up to four contractors for each stage of the investment project.

“If you need to examine the geological conditions of the site we have four companies to offer, two of which are state-owned and two others are privately-owned,” says Pavel Chelpan. “All the companies offer their services at rates approved by the government. If they charged more, they would not be able to compete. In Stupino companies compete in terms of deadlines and quality.”

General contracts for the development of production units are usually awarded to foreign companies. For instance, the Russian developer Inteko took part in several tenders to build industrial facilities in the district, but lost out to foreign rivals.

Also, Stupino has its own staff-recruiting agency that helps new plant owners to hire highly-skilled personnel. “The company’s database includes 15,000 entries,” says Pavel Chelpan. “Should an investor be willing to take on an electrician with knowledge of English, the agency employees will produce several CVs of candidates meeting those requirements. If they fail to find a candidate with such skills in Stupino they will invite them from Moscow or some other city.”

Today Mars employs 1,500 people in Stupino. All of them speak English, and most have a higher technical education. People willingly move to Stupino from other areas, because salaries there are higher - $400 (per month) on average. Incidentally, that parameter quite often serves as a quality indicator for potential investors. The logic is simple – the higher human labor is valued in the area, the higher its quality must be.

The arrival of investors and the development of industrial facilities in Stupino has improved the living standards in the district and contributed to the development of the social infrastructure and public services. New state-owned enterprises, privately owned companies and small-size manufacturers have launched operations in Stupino to service the needs of industrial giants. For example, a unit for producing packaging materials for Mars products is being built on a 12-hectare site. A future plant for the production of plastic cups will occupy a territory of six hectares.

Development of a factory worth $30 million that will make sandwich panels and heat insulating materials is to be completed by the end of this year. For the time being, domestic producers account for only a small share of that lucrative market.

To all appearances, the demand for such materials in Stupino will remain high. Each year at least two new factories are built there. In the foreseeable future German car-making giant Volkswagen is expected to launch the development of its factory in the district, although the company has still not released any official statement to that effect.

However, it is already known that the plant will be built near the village of Aleyevo, on a 168-hectare site. Admittedly, so far Volkswagen Russia has refused to comment on the project, as it is involved solely in the sale of cars. VW spokesman Andrei Gordosevich said that the Russian representation office is not coordinating the construction of VW plants in the country. The Russian office will release an official statement on the issue only after it receives orders from Germany to announce the company’s plans in Russia.

Following the Trend

Another district whose authorities are ‘professionally’ involved in attracting investors is Yegoryevsky, which ranks second among the region’s districts in terms of economic growth. On its official Web-site the district administration offers cooperation “in the sphere of economic activity for the purpose of developing industrial production units in the district on the basis of existing production facilities” to all those who may be interested.

Yegoryevsky District has some 60,000sqm of vacant industrial estates to offer to potential investors. Those facilities have all the necessary engineering equipment, driveways and railway links. Besides, the district has a number of unfinished production facilities and land plots where new production units can be built.

In the year 2000 the Yegoryevsky district administration developed a plan to attract foreign investments. In particular, the plan included not only assistance for potential investors in solving certain problems of a bureaucratic nature but also considerable tax privileges.

For example, small investors willing to put up at least $50,000 and medium-size companies investing no less than $0.5 million are granted exemption from certain taxes for 18 months. Those taxes include property tax, land-value tax, housing tax, and special levies imposed on enterprises. Larger investors spending over $30 million in the development of a business are granted a two-year tax exemption from those same taxes.

The program adopted by Yegoryevsky District has proved effective. Hungary’s Gedeon-Richter is developing a pharmaceutical plant in the district. In June Polish firm Bella started construction work on the second phase of its toiletries plant. French-Finnish San Goben Izover Yegoryevsk continues to invest in the expansion of its heat-insulating fiber glass production plant.

Next year the U.S. Union of Glass Manufacturers will start work on five plants to produce glassware. The production facilities will occupy a territory of 200 hectares. The land plot is currently being registered.

Woodworking is another highly promising industry, as 52.2 per cent of Yegoryevsky District is covered by forests; and, since the area is rich in clay and masonry sand, the district authorities do not rule out the development of plants producing ferroconcrete items, bricks and other construction materials.

The administration is also keen on developing health, sports and recreation facilities in the district, which is situated in an ecologically clean part of the Moscow Region, with picturesque landscapes of the Meshchera lowland its key attraction. Yegoryevsky officials have already launched talks with investors about building a hotel complex and developing new retail outlets and public service establishments.

Ramensky is another district of Moscow that is actively attracting investors. The district ranks fourth in terms of volume of industrial production. Over the past three years the district saw a three-fold increase in production output – in many aspects as a result of foreign investments.

The district authorities claim that what makes Ramensky so attractive for investors is its geographical location, abundance of natural resources and land plots, developed infrastructure, and its proximity to Moscow. In their efforts to attract foreign capital Ramensky authorities are guided by what they refer to as the principle of “reasonable balance”.

“Before granting foreign entrepreneurs access to labor, industrial, natural and raw materials resources we work out special requirements and establish control over the use of resources, the environmental situation in the district and the observance of current legislation,” officials say.

Ramensky’s program for attracting foreign investors has already brought significant results. Over the past four years eight new factories have been opened in the district by foreign investors, such as Ehrmann, Tikkurila, TOKK, Rechau, BeaRUS, TopMebel, Hochland-Russland and Koya.

16 enterprises with foreign capital have been established in the district. The district has attracted investments from Germany, Britain, Liechtenstein, Korea, Cyprus, Finland and India. In four years the level of direct investment has reached $162 million. So far Germany is the largest investor, with its companies having invested over $150 million in the region.

Foreign companies produce a large variety of products, including furniture, paints, ironware, plastic window panes, dairy products, packaging materials, cheeses, meats, soft drinks. Last year the district’s five largest enterprisers with foreign capitals – Ehrmann, Hochland, Tikkurila, Rechau and TOKK paid 80 million rubles in taxes to the district budget – 40 per cent of the total tax revenues.

Novices

Six new projects are currently being implemented in the Moscow Region: a glass works of Pilkington Glass, Rechau Produktion’s plant for producing plastic windowpanes, a brewery belonging to Higor, Tsentis Russland’s factory for fruit fillers, a Findisp paint plant and the Infamed pharmaceutical plant. The total volume of investment to enter the district is evaluated at over 200 million euros.

“Our priority is the revival of hi-tech products that have always formed the basis of the industrial potential of our region,” administration officials say. “As regards foreign investments, our main task is an active search for, and monitoring and support of investment projects.”