What are the Risks and Benefits of a Clothing Joint Venture in Russia

Introduction

Growing globalisation of the world economy is expressed in a sharp increase in scales and rates of movements of capital, advancing growth of international trade in comparison with gross domestic product (GDP) growth, appearance of international financial markets operating round-the-clock, intense competitiveness between corporations, and augmentation of foreign direct investments. “Foreign direct investment (FDI) is a lasting interest in an enterprise in another economy where the investor’s purpose is to have an effective voice in the management of the enterprise” (Pike & Neale 2009, p. 657). In order to increase their market competitiveness, save costs, improve effectiveness, solve problems specific to consumers, develop and implement innovations and new technologies, as well as for many other reasons, business organisations engage in many different business relationships and strategic alliances (Pike & Neale 2009; Robbins & Coulter 2010; Quah & Dar 2012, p. 157).

Investing in a foreign country, organisations implement different forms of partnerships. In partnerships, two or more entrepreneurs share ownership of a single business (Williams 2009; Robbins & Coulter 2010). A partnership encompasses legal agreements of owners on business planning and decision-making, participatory shares in profits, investments, areas of responsibility, procurement, staffing, distribution, conflict resolution, and ways to dissolve an alliance when needed. “A specific type of strategic alliance in which the partners form a separate, independent organization for some business purpose is called a joint venture” (Robbins & Coulter 2010, p. 80). While creating a joint venture, business practitioners should be able to specify and determine strategic objectives, estimate the advantages and strengths of enterprises, evaluate possible external threats and dangers, and conduct business operations according to constantly changing environmental conditions.

Concepts and Specificity of Joint Venturing

New operational principles and ways to conduct business activities are utilised by organisations in order to increase their profitability, reduce costs, improve structure, and implement efficient practices. A properly designed structure, a form of ownership, a good strategy, and its strong execution predetermine effective business operations. Acting as a joint venture, two or more legal entities or individuals, either domestic or foreign, unite their efforts to create a long-term profitable collaboration. Establishing a joint venture, domestic and foreign partners share responsibilities for production, shipment, warehousing, distribution, and retailing their goods and services. “Joint ventures with various suppliers around the globe… provide a relatively easy way for companies to compete globally” (Robbins & Coulter 2010, p. 80).

Business operations of joint ventures involve relationships with suppliers, manufacturers, retailers, distributors, other companies, government organisations, and non-governmental institutions. Organizations frequently unite their assets in order to successfully compete against their strongest contenders. Forms of joint venturing are selected by business owners in accordance with their financial possibilities, estimated nature and size of a business, contemplated structure and level of control, staff characteristics, economic environments, and existing tax implications in a domestic country and overseas (Robbins & Coulter 2010; Kotler & Keller 2011; Quah & Dar 2012). Management, marketing, and methods of planning, operating, organising, controlling, and staffing a business unit are determined by forms of joint ventures. Those include contractual joint ventures, wholly foreign-owned enterprises, corporate joint ventures, and partnership joint ventures. All forms of these strategic alliances have their advantages and disadvantages involving expected profits and losses of a business.

General advantages of joint venturing include the following positive aspects:

1. Increased abilities to raise funds due to partners’ enlarged quantity of money.
2. Simplicity of business foundation due to domestic partners’ familiarity with trade regulations and legal procedures.
3. Local manufacturing facilities.
4. Awareness of market conditions specific to local customers.
5. Increased market accessibility.
6. Utilisation of innovative business solutions.
7. Cooperative working environment.

Despite the importance of all the above-mentioned factors, the main objective of joint venturing is to obtain and strengthen synergetic effects, i.e. complementary actions of assets of two or several enterprises located in different countries.

However, research studies on management identify the following disadvantages of joint ventures, irrespective of their forms and location:

1. Partners bear responsibility for their affiliates’ actions. “All partners are personally liable for the debts and obligations of the business” (Business Law Clinic 2012).
2. Undervalued economic system of a foreign country.
3. Currency fluctuations/ currency exchange rates.
4. Inflation rates.
5. Restrictive tax policies.
6. Expenses on construction of manufacturing facilities, warehouses, offices, and other premises. “The ultimate form of foreign involvement is direct ownership of foreign-based assembly or manufacturing facilities. The foreign company can buy part or full interest in a local company or build its own facilities” (Kotler & Keller 2011, p. 609).
7. Occurrence of disagreements, power struggles, and conflict resolution (Williams 2009). Transparency of business operations, mutual trusts, confidence, and commitment to mission, strategy, and collaboration are prerequisites of a profitable joint venture.
8. Complexity when a partner needs to exit the business.
9. Business profits and benefits must be shared with others.
10. Complications related to the equity structure.

An Overview of Doing Business in the Russian Federation

Today, Russia is commonly identified as a developing or less mature market (Kotler & Keller 2011). In order to succeed in doing business in Russia, experts of an organisation, producing garments and apparel, should analyse fluctuations of the domestic and foreign financial markets, assess business environments, restrictive domestic laws, governmental and political regulations, and demographic risks in the Russian Federation, evaluate potential challenges, estimate their company’s investments and financial risks of FDI in the target country, identify the form of a joint venture, and thoroughly develop their investment strategies.

Russia has always been associated with the Soviet Union, a country that collapsed in 1991. Although the Soviet Union was perceived as a powerful citadel of communist ideology, being comprised of 15 republics, the country disintegrated in 1991; the Communist Party of the USSR stopped ruling a month before. These facts became epoch-making events in the history of the largest country in the world. The Communist Party was the supervising force of the Soviet society, it defined mainstreams of economic development and political ideology; therefore, destructive changes in the Communist Party played the main role in the destiny of the country. According to Brown (2011), economy of the USSR “had been in long-term decline from the 1950s to the early 1980s”. In spite of economic reforms of “perestroika” and “glasnost” undertaken by Mikhail Gorbachev, the last Communist leader of the USSR, the Soviet economy was decaying. Disintegration of the USSR was induced by a system, complex, and multilevel crisis, which was gradually developing and sharpening. Comparing their present well-being with that in the 1970s – 1980s, adult populations of the Russian Federation perceive communist ideology as a solution to the current issues. According to the data of another research, today, citizens of the Russian Federation believe that symbols of communism and communist ideology “must be preserved … and restored” (Angus Reid Global Monitor, 2009).

The political system of the Soviet Union, in general, and of the Russian Federation, in particular, lost its abilities to correspond to social, economic, political, and ideological phenomena of the environment.

Today, “Russia has seen a recent rise in foreign investment and, importantly, not just in its traditionally strong markets in natural resources, such as oil and gas” (Kotler & Keller 2011, p. 604). Being engaged in the process of integration into the global relations, the Russian Federation is focused on the international cooperation and collaborative business initiatives. An increase in FDI in Russia is inextricably linked with reforms initiated by the government and   the implementation of a "shock therapy". However, a wide range of political, social, economic, demographic, and geographical characteristics specific to Russia influence FDI provision and the process of joint venturing in the country. Therefore, analyses of the current stage of the Russian economy should be based on reputable sources and official statistics.

Stretching across the continents of Europe and Asia and sharing borders with 11 countries, the Russian Federation covers approximately 17.075 million square kilometers (Doing business in Russia 2012; Doing business and investing… 2012). The Russian Federation includes 83 regions, which are grouped into eight federal districts that are administrated by presidential envoys (Doing business and investing… 2012, p. 6).

In 2011, the main factors contributing to the economic growth of the Russian Federation were high oil prices, growing consumer demand, and government investment (Doing business and investing… 2012, p. 8). In conformity with the indicators represented by the International Bank for Reconstruction and Development (2012), PricewaterhouseCoopers International Limited (PwC), and Deloitte Touche Tohmatsu Limited, the following specifications identify the ease of doing business in Russia:

1. Economy overview:

• Income category: upper middle income;
• Population: 141,750,000;
• Tax year: calendar year;
• Currency: 29.8 Russian Ruble (RUB) = 1USD;
• GNI per capita (US$): 9,910.00;
• GDP growth: by 4.3% in 2011;
• GDP per head (USD at PPP) in 2011: 16.750;
• DB2012 rank: 120.

1. Starting a business in Russia involves 9 obligatory procedures and takes 30 days.
2. Dealing with construction permits includes 51 procedures and lasts 423 days.
3. Registering property in Russia consists of 5 procedures and takes 43 days; costs of property value comprise 0.2%.
4. FDI (2011) totalled USD 51.9 billion.

 According to PwC’ data, “providing support for small and medium enterprises (SME) is one of the Russian Government’s top priorities” (Doing business and investing… 2012, p. 10). The Russian authorities (President Putin, Prime Minister Medvedev, and others) have a huge stake in increasing an inflow of foreign direct investment in the country and implementation of investment projects practically in all branches of the national economy. The   official Russian policy, an important geostrategic position of the country, its vast territory and rather developed infrastructure and means of transportation, existing networks of communication, qualified work force, and market-oriented economy are the factors motivating foreign businessmen and investors to develop business operations and implement FDI strategies in the Russian Federation. However, “globally, the Russian Federation stands at 111 in the ranking of 183 economies on the ease of starting a business” (Doing Business 2012, p. 16).

Thus, Russia has become one of the most attractive markets for international business due to the following factors:

1. Russia’s accession to WTO; analysts and economists claim “that entry will stimulate investment and add several percentage points to Russia’s GDP growth over the next few years” (Deloitte Doing business in Russia 2012, p. 5).
2. Diverse natural resources.
3. High scientific and technical potential of Russian labor force.
4. Socially responsible business models.
5. Russia’s growing middle class comprises potential customers of services and goods.
6. Availability of consumer credits enhances purchasing abilities of Russians.

Risks of doing business in the Russian Federation involve the following facts and phenomena:

1. Instability of political environment in Russia (disagreements between the legislative and executive authorities, wars, and international conflicts on the territory of the Russian Federation).
2. Legislative restrictions (insufficient responsiveness to social circumstances and changes in the world markets, foreign entrepreneurs’ limited abilities to start a business).
3. Social tensions (the unstable situation in social and public life, populations’ discontent with performance of social and economic reforms, strikes, etc.).
4. Insufficient development of tax privileges for attraction of FDI in joint ventures.
5. High rates of crime.
6. Incompleteness of privatisation and ambiguity of foreign partners’ participation in it.
7. “economic  reforms have  been  stagnant and  Russia has been ranked as  one  of  the  most  corrupt countries  in  the  world. Many feel the government under Vladimir Putin has been unpredictable and sometimes difficult to work with” (Kotler & Keller 2011, p. 604).  

Clothing Industry in Russia

The clothing industry in Russia is rapidly developing due to growing consumer demands. However, official statistical data are not widely available. Therefore, evaluation of the clothing industry in the Russian Federation can be conducted in accordance with published findings of pertinent research studies. Afzal (2009) states that since 2005 “consumption of textile goods has steadily increased. By early 2008, consumer goods prices have reached levels surpassing those just before Russia's 1998 financial crisis”. General characteristics of the garment and apparel market in Russia include the following factors:

• Low quality and inexpensive garment and apparel produced in China, Vietnam, Turkey, and other Asian countries comprise approximately 50% of sales.
• Domestic and inexpensive imported fabrics are used by small clothing enterprises.
• Elite fabrics are used by a few clothing companies in Moscow and St. Petersburg.
• A Spain-located company Inditex Group, Moneks Trading, Ltd., Stockmann CJSC are the largest exporters of garment and apparel.
• Along with well-established Russian manufacturers, such as Pervomayskaya Zarya, Nevskaya Manufactura, Bolshevichka, FOSP, ZAO Slavianka Pskov Garment Factory, Onegin, and others, new clothing companies and brands are gradually winning the target market (Gloria Jeans, Atelier Moscow, Kira Plastinina Style, Zaitsev's clothes, etc.).
• The most fashionable clothes are made by such Russian designers as Poustovit, Valentin Yudashkin, Alexander Terekhov, Masha Tsigal, Liudmila Norsoyan, Alisa Ruban, and others.
• While “lower-volume, high-fashion clothes are made in Russia, it can still be more economical to make certain clothing lines abroad” (Smirnova 2012).
• Supermarkets, trade centers, department stores, chain stores, markets, and the Internet stores are the main distribution channels of clothes in Russia.
• Expansion of regional markets of clothes (Yekaterinburg, Novosibirsk, Samara, Nizhniy Novgorod, etc.).

 Risks of a Clothing Joint Venture in Russia

In accordance with assessment of internal and external environmental conditions in clothing industry in Russia, risks of a clothing joint venture include the following constituents:

1. Existing legal restrictions and numerous obligatory procedures of starting business in the Russian Federation slow down the process of joint venturing. Regional laws can significantly differ from the generally adopted ones.
2. Instable incomes of the population caused by political instability and slow economic development.
3. The intense competitiveness in the clothing industry caused by both domestic and foreign manufacturers.
4. A wide range of substitutes made in China and counterfeit clothes pose potential threats to an enterprise’s profitability.
5. A potential decrease in demand for clothes can be caused by declining incomes of Russian customers.
6. Political instability can result in changes in existing legislation and tax policy. An increase in tax pressure can induce raise in prices of clothes.
7. Requirements for renovation of the company’s assortment due to demographic and fashion trends can increase costs of goods.
8. A potential increase in costs of materials used in manufacturing processes.
9. Fluctuations in Russian currency rates. Currency depreciation and appreciation are changes in exchange rates or fluctuations in the value of a country’s currency in comparison with other foreign currencies. Currency depreciation is a fall in its price against that of another currency or gold; consequently, currency appreciation is an opposite economic phenomenon associated with an increase in the value of a currency. “Depreciations or appreciations can be bewildering, because when one currency depreciates against another, the second currency must simultaneously appreciate against the first” (Krugman 2010, 323). Currency depreciation reduces its competitiveness against other foreign currencies and frequently results in domestic inflation, diminished relative price of its exports, and increased import prices of goods and services.
10. Undervalued cultural differences in Russian consumer preferences can decrease an enterprise’s profitability.

Benefits of a Clothing Joint Venture in Russia

Profitability of a clothing joint venture in the Russian Federation is based on the factors:

1. A high-quality labor force.
2. An inexpensive labor force due to growing rates of immigrants form Tadzhikistan, Moldova, Kazakhstan, and other republics of the former Soviet Union.
3. Application of innovative methods in manufacturing clothes can potentially increase demand for products of a joint venture.
4. Rapid delivery of products to Russian domestic customers.
5. Diversification of garment, apparel, and accessories can make a positive impact on profitability of a clothing joint venture.

Conclusion

Although risks associated with establishment of a clothing joint venture in Russia outbalance potential benefits, an organization can reduce risks implementing efficient managerial and marketing practices.

In order to ensure competitiveness, success, and profitability of a clothing joint venture in Russia, its organizational structural elements and processes should be adjusted to well-developed marketing strategies. The essence of contemporary international marketing consists in the urgent need to make decisions and develop strategies aimed at satisfying various economic interests according to global, local, and, a priori, personal objectives of a company. In order to avoid potential losses and succeed in performing international business operations, professionals involved in the contemporary international marketing should determine and utilise communication strategies of their organisation, taking into consideration restrictions of international, regional, local, and national character (De Mooij 2011).

Furthermore, marketing strategy should be designed in accordance with the results of a comprehensive SWOT analysis. A SWOT analysis is a necessary element of financial reports, evaluation of competitors, business and product development, and an obligatory preliminary stage of marketing planning. The data obtained as a result of a SWOT analysis are basic elements of a company’s strategic targets and product development. The results of a SWOT analysis allow marketing experts to determine whether a business unit possesses internal strengths and resources to realise available opportunities and resist threats, and what internal weaknesses must be eliminated. “SWOT identifies strengths and weaknesses within the firm, and opportunities and threats outside the firm. The SWOT analysis provides a platform from which strategies can be developed to achieve organizational objectives” (Blythe, Megicks, 2010, p. 40).

“The aim of marketing is to make selling superfluous” (Kotler & Keller, 2011, p. 5). Therefore, in conformity with findings of SWOT and situational analyses, marketing of an organisation specialised in manufacturing clothes should consist of the following components:

1. Assessment of correlations between supply and demand for garments and apparel in Russia.
2. Evaluation of local and global competitive offerings.
3. Assessment of social factors such as customers’ attitudes, purchasing abilities, lifestyles, values, and buying habits.
4. Selection of target markets.
5. Determination of prices.
6. Establishment of a superior brand image.
7. Development of marketing communication models.
8. Advertising via social media, printed sources, on TV, fliers, billboards, posters, etc.
9. Selection of distribution channels to display, sell, and garments and apparel to buyers.