We are ready for import substitution, but we are waiting for incentives

Russian manufacturers of electrical equipment have received an opportunity to increase their share of the domestic market due to soaring prices of products from foreign competitors, proximity to consumers, and protective measures taken during procurement for federal structures. There are grounds to hope that this turnaround will continue in the future—provided that the current growth factors are complemented by incentives aimed directly at supporting domestic industry. This is the opinion of representatives from Russian companies interviewed by "Energy and Industry of Russia", who emphasize that the challenges faced by domestic companies also present new opportunities.

— What do you think are the strong positions of Russian manufacturers of electrical equipment? In which areas can they compete with foreign counterparts, and where do they lag behind? What circumstances contribute to this lag? Do they have a chance to expand their positions in the Russian market under challenging conditions, when energy companies are reporting cuts in investment programs, the prices of imported components have risen, and the possibility of modernizing production or organizing the production of products in demand by Russian energy companies is, to put it mildly, expensive?

— The strongest position of Russian manufacturers at present is their proximity to the users of electrical equipment and the resulting advantages. This includes a clearer understanding of all consumer wishes, a quicker and more flexible response to any requests (projecting, production, logistics, service), and a willingness to work according to customer standards.

Unfortunately, there are not many good Russian technologies and components in electrical engineering. Moreover, it seems unlikely that we will catch up with the world leaders in electrical engineering (ABB, Schneider Electric, Siemens) in these matters in the foreseeable future. On the other hand, our country has many manufacturers of end products and solutions based on foreign technologies and components, and these enterprises occupy a respectable share of the electrical engineering market.

Certainly, the scaling back of investment programs complicates life for Russian electrical equipment manufacturers, but strong, advanced companies always have chances for development, and during a crisis, these chances can even increase. Weak companies are leaving the market, freeing up niches and labor resources. The challenging market situation forces everyone to look for new reserves.

— How do you assess the results of the past 2014 year and the preliminary results of the ongoing 2015 year—both for the industry as a whole and for your company? Were you able to engage in targeted programs to support domestic business that were adopted at both the regional and federal levels?

— It cannot be said that the years 2014-2015 were easy. Many customers reduced or suspended their investment programs, and competition intensified. Customers are passing their difficulties with financing onto manufacturers. Companies that did not quickly reorient themselves and find the necessary reserves went through 2014-2015 with poor results; some are even on the brink of closure.

Our company finished 2014 with slight growth, and we plan to grow by about 20 percent in 2015. This is due to the fact that most of our customers are large Russian companies that are less susceptible to the crisis. In 2015, projects that were postponed in 2014 began to be realized. Additionally, the company's stable financial condition allowed us to participate in a large number of projects where the customer is ready to fully pay for the delivered products one to two months after delivery, something that only a few manufacturing companies can afford right now.

I have not heard of any targeted programs to support manufacturers of electrical equipment. I believe such programs are unnecessary and even harmful, as in our realities, preferences will be given to inefficient companies.

— How realistic do you think the proclaimed "top-down" course towards import substitution is, and is it possible to cope with this task? If so, in which areas? What circumstances help to cope with this task, and what hinders it?

— I consider it an absolute mistake of previous years to think that "oil revenues can buy all equipment abroad. Therefore, why develop our own technologies and production? We will have enough oil for our lifetime!" Today, we see the results of such a policy.

Thus, import substitution is an important and necessary process. It is complex and costly. Currently, entire manufacturing sectors have been destroyed. But the road is made by walking. There are not many prerequisites for solving this task, but they do exist. These include qualified personnel, political will, and the necessity of this path in sectors that have been subjected to Western sanctions.

One of the main problems in addressing the import substitution task is the high interest rates for industry. Ultimately, it all comes down to competitive struggle, and how can a Russian enterprise win if, during its development or when fulfilling an order, it uses loans that cost several times more than those of competing foreign enterprises?

A serious obstacle to import substitution is, in our opinion, the monopolistic position of so-called EPC contractors — Western companies that build production facilities using foreign technologies on a turnkey basis. Even for state companies, they practically demand only imported equipment in an ultimatum form when implementing projects in Russia.

Moreover, customs regulations do not support Russian manufacturers; imported equipment that has analogues in Russia is brought into the country with zero tariffs, while components for producing such equipment are subject to tariffs of 10-15%.

In our view, import substitution should be developed to a necessary and sufficient level concerning production capabilities and industrial independence. An imbalance in attempts to produce everything and anything will also lead to poor outcomes. Given the globalization achieved by our society, this could result in inefficiencies in Russian production and an increasing lag behind foreign competitors.

From this perspective, electrical engineering serves as a positive example of such a balance. Russian electrical companies possess the competencies and technological capabilities to utilize both Russian and imported components (substituting sanctioned materials with non-sanctioned ones) and produce virtually any complete electrical equipment in the required volume.

— According to widely held beliefs, one of the competitive advantages of Russian companies, including in boosting exports, is the weakening ruble. However, as noted by Sergei Kolesnikov, president of TechnoNICOL, the ruble's depreciation offers Russian manufacturers only a temporary advantage, and primarily in the domestic market. One of the barriers to developing their advantages is the current credit conditions with established banking rates. Kolesnikov believes that crucial to enhancing the competitiveness of Russian companies is the restoration of investment tax incentives, shortening VAT refund periods, abolishing price controls by the Federal Antimonopoly Service on non-raw material exports, and lowering interest rates on loans for export contracts. What solutions would you suggest to unlock the potential of Russian companies? Is there hope for positive changes in this area in the near future?

— In our view, the consequences of devaluation for the Russian electrical engineering industry are ambiguous. For companies focused on export (mainly large businesses), this is a positive development. Most of their costs (wages, taxes, equipment costs, logistics within the country) are denominated in rubles; therefore, in dollar terms, they decrease, and a significant portion of their revenue comes in dollars.

For companies operating in the domestic market (mostly medium and small businesses), the dollar-denominated costs also decline, making them more competitive against foreign firms. However, there is a serious problem: often, a significant part of their costs is denominated in dollars. If a company has long-term contracts for large projects (as major consumers usually sign contracts with Russian companies only in rubles), and then a deep devaluation of the ruble occurs, this can lead to substantial losses, potentially even closing the business. I often hear smart comments like, "Hedge your risks!" The cost of hedging is almost as high as borrowing. If fully accounted for, the company may not win any tenders. Thus, they must balance between risk and the need to offer competitive conditions. Today's high volatility is worse for manufacturers than a one-time devaluation.

If we want to develop Russian industry, we should consider lowering interest rates, providing investment incentives, shortening VAT refund periods, and offering benefits for innovative developments. It would also be beneficial to redistribute taxes, reducing payroll taxes and increasing turnover taxes, enabling the creation of new high-tech jobs. Separately, we should consider reducing the administrative burdens imposed on businesses by the state and large enterprises (excessive staffing of accountants and lawyers, administrative and technical services to meet all requirements). A significant portion of production companies' resources is spent on compliance with regulations, norms, and certifications, which decreases their competitiveness.

Here are a couple of small examples. In Europe, the number of certifications is kept to a necessary minimum. In our country, if you want to supply to a specific sector or large company, you must undergo specialized certification with additional testing and audits.

According to Russian accounting standards, our accounting department maintains separate tax accounting, financial accounting, and sometimes even accounting according to IFRS and GAAP. In mature market economies, only one type of accounting is implemented.

In our highly efficient company, these burdens consume about 10% of turnover, which could be directed towards production development.

Currently, these simple and understandable measures to support business are not being implemented for unknown reasons, and there is no effective tool for communication between small and medium enterprises and the government. Nevertheless, I hope for the common sense and logic of the leaders in the executive and legislative branches involved in resolving these issues. Especially now, when we face such challenges. Perhaps we can finally move away from thinking solely through the "oil needle".