Ruminations on Russia

If you read my ramblings you probably don't need me to tell you that the domestic economy is booming. Not just in Moscow, but in the Volga heartland, the oil towns and in strange places such as Novosibirsk. The growth in consumer spending is drawing in the multinationals from autos to cheese in search of growing markets and driven on at the board level by Goldman Sachs BRIC report (Brazil, Russia, India and China) (the link is to the original Goldman Sachs pdf report.) Russia provides a surer path to profitability than I & C but worse beaches than Brazil. I have half an eye on Russia's agribusiness industry, in particular the dairy and beef end of the business. Two headlines over the past couple of weeks caught my attention. Chronologically the first was Kraft's that they intend to be a major player in Russia's booming cheese industry. The second and the one that caused me to think about this post was Wimm-Bill-Dann's interim reports. Most analysts tend to focus on WMD's surrendering its leading position in the juice business to Lebedansky. To me the most telling statement related to its dairy business;

Sales in the Dairy Segment increased 20.1% from US$399.1 million in the first six months of 2004 to US$479.5 million in the first six months of 2005, while the average selling price rose 13.7% from US$0.73 per 1 kg in the first half of 2004 to US$0.83 per 1 kg in the same period of 2005. This increase was primarily driven by ruble price increases. Gross margin in the Dairy Segment declined from 24.1% in the first six months of 2004 to 23.8% in the same period of 2005. This change was primarily driven by the increase in raw materials costs and stronger demand for raw milk intensive traditional products in the regions.

In short what drove margins down despite above inflation price rises were a lack of raw materials. Domestic raw milk supplies are effectively flat. Any increase in sales has to be offset by an increase in dry milk crossing the border from the near abroad - Poland and Estonia. The supply problem is further exacerbated by the very poor quality of domestic milk. Maximum bacteria parts per millimeter in raw milk in the US is 100,000. In a dairy plant in western Siberia I trawled recently they were not particularly concerned by the count but did measure it. The average for the hot summers day that we were there was 700,000. Somatic cell counts were also very poor. The long and short of which being that the milk was worse for you to drink than unpasteurized milk and would be useless for dairy products that require high fat content - cheese for example.

I am sure that a behemoth such as Kraft is not going to announce a major expansion in to Russia without first securing its supplies. I just have not seen any evidence that there is meaningful investment in agribusiness that would supply Kraft, WMD et al. WMD made a strategic decision last year not to invest in upstream production. A mistake in my mind if they want to maintain an interest in the dairy business. It will be interesting to see how long WMD can pass on its costs increases to its customers.

Technorati Tags: Agribusiness, Russia