Annals of Import Substitution: Got Milk?

Perhaps one of the big reasons the post-embargo Russian dairy industry has failed to achieve “total important substitution,” not mentioned in the otherwise comprehensive article, below, has been its penchant for gulling Russian consumers. Among the gullible is your correspondent, who was moved by the label on this milk carton (“Honest Natural Cow Milk […] from an Ecologically Pure District of Bashkiria”) to buy it the other day. My boon companion, however, immediately pointed out what the side of the carton revealed. In this case, “Honest Bashkir Natural Cow Milk” was actually reconstituted milk powder (“изготовлено из молока нормализованного”), not real milk. Since the embargo set in, every Russian has also encountered literally tons of fake cheese in the shops. Chockablock with palm oil, not milk, and sporting European sounding monikers to make them more attractive to “discerning consumers,” this fake cheese has generated massive popular distrust in domestically produced cheese and other dairy products. TRR

Why Import Substitution Has Failed in the Dairy Industry 
Despite the Produce Embargo, Milk Production Has Declined, Dairy Products Have Become More Expensive, and Demand Has Fallen
Yekaterina Burlakova
Vedomosti
January 22, 2018

“I’ve seen it myself, touched it with my own hands. The country is currently constructing three cheese factories with the capacity to produce fifty, sixty, and seventy tons daily, and in five years we will have forgotten the problem [the shortage of domestically produced cheese] altogether!” Russian agriculture minister Alexander Tkachov said recently, sharing his optimistic plans. “Let’s recall pork, vegetable oil, sugar, vegetables, and fruit. We also imported all this produce. We were seriously dependent.”

Tkachov and his colleagues never tire of talking of how the produce embargo, imposed by Russia in August 2014 on the United States, the EU, Norway, Canada, and Australia, has helped Russian farmers. Greenhouses have been built, orchards have been planted, and so on.

But import substitution has not taken hold in the dairy industry. Milk production has declined, dairy products have become more expensive, and demand for them has fallen off. Why has this happened?

Russia provides itself with only 75% of the dairy products it consumes; the rest is imported, mainly from Belaruas. However, Russia has always suffered shortages of domestically produced raw milk. But the circumstances have worsened. According to Soyuzmoloko, the Russian national dairy producers union, the production of raw milk decreased by two percent to 30.7 million tons between 2006 and 2016.

It is a complex and costly business, says a spokesperson for a dairy company. Vegetable production shows a profit after seven or eight years; fruit production, after four or five. Dairy plants take much longer to show a profit. According to different estimates, it takes between ten and fifteen years to put them in the black. Many potential investors are scared off by such figures, but our source said what the dairy industry needed were serious, long-term investments.

Indeed, the dairy business is considered complicated due to the long time it takes to see a return on investment, says Stefan Duerr, director general of EkoNiva, Russia’s largest milk producer. It generally takes three years to build a dairy plant and put it on line. Dairy production also requires considerable working capital: cows give milk only from the age of three. You have to prepare you own feed, and for that you need land: an average of about three hectares per cow, says Duerr. Pig breeders and poultry farmers have it much easier, since they can buy readymade feed.

Over the past four years, the price of raw milk has increased by about 60% to 25 rubles per kilo, says Artyom Belov, director general of Soyuzmoloko. This occurred after the ruble declined, and demand from processors increased. Yet the net price of milk has decreased after the ruble’s recovery. Belov is certain this makes dairy farming more attractive to investors. In his opinion, state support is also vital. In 2017, compensation of capital expenditures grew from 20% to 30%, while soft loans have been granted at an interest rate of up to 5%.

Investors Have Doubts
Investors still have doubts, however, For example, Rusagro’s principle owner Vadim Moshkovich recently announced he was willing to invest one billion dollars in milk and dairy production. But a decision on the project has not yet been made, says a spokesperson for the agricultural holding company.

“Dairy cow breeding really is a complicated business with a long-term return on investment, even taking subsidies into account. However much we cite the discounted return on investment model, seven years, which is mentioned in the press, we just cannot pull it off in Russia,” he says, raising his hands in dismay.

The processing and production of value-added products is needed to make the project viable. Total vertical integration—from feed production to the manufacturing of dairy products—is thus necessary, he argues.

Other investors have also spoken of possible investments in mega projects. Alexei Bogachov, a minority shareholder in the Magnit grocery store chain, has promised to invest 20 million rubles in a partnership with Rusagro. Miratorg has promised to invest $400 million, while Thailand’s Charoen Pokphand Group has promised to invest one billion dollars. In reality, only Vietnam’s TH Group has launched new, large-scale raw milk production facilities. Last year, the company began construction on dairy farms in Kaluga Region and Moscow Region that will accommodate approximately 40,000 head of dairy cows, and it recently announced plans to build farms in the Maritime Territory. It intends to invest $2.7 billion over the next ten years.

If circumstances on the market do not change, and milk prices do not go down, Belov forecasts it will be possible fully satisfy Russia’s milk needs in ten years. For the time being, processers deal with the milk shortage in different ways. For example, Oleg Sirota, founder of the cheese company Russian Parmesan, will soon bring his own dairy farm on line.  In turn, in order to insure stable supplies of milk, the French company Danone has invested in milk production in Tyumen Region in partnership with Naum Babayev’s Damate Group. The cost of the entire project is 5.6 billion rubles, but Danone’s share of the costs has not been disclosed. According to the agreement between Danone and Damate, all the milk produced at the facility will be sent to the Danone plant for eight years.

The Embargo’s Impact
“We saw that European producers with much lower prices would not arrive the next day, and we realized we could make long-term plans, that we had to invest in domestic production,” said Alexei Martynenko, owner of Umalat, a company that produces brined cheeses.

Almost as soon as the embargo was imposed, Martynenko gave up the day-to-day management of a feed production business and set about vigorously developing Umalat.

“I realized that if I didn’t change anything right away, we would sleep through the chance to grow the company,” he noted.

Many businessmen decided to tackle cheese immediately after imposition of the embargo, which among other things banned the import of cheese from the European Union to Russia. In 2016, according to Nielsen, Umalat was Russia’s leading manufacturer of sulguni, and took third place in the manufacture of mozarella and mascarpone. Since 2014, production at Umalat has doubled to 5,000 tons annually, says Rustem Mustafin, the company’s marketing director.

“The import substitution program and imposition of the embargo came in handy. We would have grown without them, but the growth would probably have been less considerable,” Mustafin continues.

However, the embargo’s impact wore off quite quickly, since it was immediately followed by a substantial downturn in household incomes, he stresses.

Sirota launched cheese production in the summer of 2015. Currrently, he produces semi-solid and hard cheeses, which retail for 800 rubles to 1,600 rubles per kilo. His cheesery’s first batch of parmesan will mature in August, when the embargo will celebrate its fourth anniversary. Currently, Sirota produces 400 kilograms per day. In 2018, he plans to ratchet production up to two tons per day.

Russian manufacturers have been most successful in producing hard and semi-hard varieties such as Russian, Dutch, and Altai, says Andrei Golubkov, a spokesman for Abzuk Vkusa [ABC of Taste], a Russian gourmet grocery store chain. There are also high-quality producers of brie, camambert, mozarella, and burrata. But the supply of good-quality ripened hard cheeses is still limited. The chain now mainly sells hard cheeses from Switzerland, which was not included in the embargo, and the South American countries, says Golubkov. Expensive Russian cheeses account for about 10% of all sales in terms of money and about 5% in terms of volume, Soyuzmoloko’s Belov says.

If the embargo is lifted, many businessmen involved in the manufacture of milk and cheese will be ruined, argues Sirota.

“Even if we could compete in terms of quality, we could not compete in terms of cost. The price of milk in Germany is currently around 20 rubles [per kilo], while it is 34 rubles in Russia,” says Sirota. [According to the industry website clal.it, the price of raw milk in Germany in November 2017 was 38.97 euros per 100 kilograms or approximately 27 rubles per kilo—TRR.]

Milk in Germany costs less due to cheap loans and government subsidies. In Russia, on the contrary, loans are short-term and expensive: they fall due between five and seven years. Investors have not yet managed to launch production, but the money has to be returned. There is always a shortage of good-quality milk for reprocessing. It takes 14 kilos of milk to make one kilo of cheese. Moreover, the highest grade of milk is required to ensure the desired quality of cheese.

Mustafin says Umalat is not afraid the sanctions will be lifted, however. The company has been vigorously promoting its brands, has found its customers, and has produceed cheeses that are better than their imported counterparts.

From Milk to Macaroni
Meanwhile, the consumption of dairy products has decreased by 5% from September 2016 to September 2017, according to Nielsen. Sales of kefir experienced the largest drop: 8.4%. Sales of sterilized milk fell by 7%, yogurt, by 5.8%, and cottage cheese, by 5%. For the first time in recent years, there has been a drop in the consumption of such traditional Russian dairy products as milk, smetana (sour cream), tvorog (cottage cheese), tvorozhki (quark), and ryazhenka (fermented baked milk), notes Anastasia Jafarova, director of customer relations in the department of sales and servicing of consumer panels at GfK Rus, a market research company. Perhaps the main reason is an increase in the average price by 10.4%, explains Jafarova. Price rises have mainly been due to the price rise of the raw material, i.e., the milk supplied by farmers, says a spokesperson at PepsiCo. In addition, a spokesperson for Danone cites other causes. Under the Plato road tolls system, the tolls imposed on heavy cargo vehicles rose by 25% in April 2017, and excise taxes on fuels rose by more than 8%. The decreased demand for dairy products has also been due to a decline in household incomes over the past few years, argues Belov.

The fact that people have started to skimp even on ordinary milk says they are likely to switch to cheaper products, notes Marina Balabanova, Danone’s regional vice-president for corporate relations in Russia and the CIS. This could be macaroni, cereals or other products, she speculates. As never before, Russians are rational in their spending and try to redistribute their expenses as efficiently as possible, says Jafarova. This testifies to the relative adapation to a protracted crisis on the part of Russians.

Agricultural minister Tkachov has also admitted that import substitution has not occurred in the dairy industry. He wrote about it in response to an official query from Communist Party MP Valery Rashkin. Although imports have dropped by 1.9 million tons since 2013, the production of milk has grown only by 1.4 million tons. The minister wrote that the demand for imported dairy products was currently 7.5 million tons. At a production growth rate of three percent annually, total import substitution would take at least nine to ten years. But work is currently underway to increase state support, which would reduce this period to five to six years, Tkachov hopes.

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“How the Consumption of Dairy Products Has Fallen (from June 2016 to June 2017, in percentages). Cheese spread and smoked cheese: –6. Quark: –5. Milk: –4. Yogurt drinks:–4. Firm yogurt: –4. Sour cream: –2. Cottage cheese: –2. Source: GfK Russia.” Infographic courtesy of Vedomosti

We Consume Too Little
A person needs to eat at least three dairy products per day. Eighty percent of the daily recommended intake of calcium is thus supplied. According to Soyuzmoloko, calcium is absorbed most easily this way. Their argument is backed up by the Federal Nutrition and Biotechnology Research Center and the Russian Osteoporosis Association. The Russian Health Ministry recommends individuals consume at least 325 kilos of dairy products annually. But we are far from achieving these norms: individual annual consumption of dairy products was 233 kilos in 2016. However, a top executive at a Russian agricultural holding company argues these claims are a bluff. In Soviet times, there were meat shortages, so dairy products were consumed as the primary source of protein. Circumstances have now changed. Russia now produces enough of its own poultry and pork at affordable prices. So there is simply no longer the need to eat so many dairy products, he explains.

Translated by the Russian Reader

UPDATE!

Up to 25% of Cheese in Russia Is Fake, Smuggled From Ukraine — Watchdog
Moscow Times
January 25, 2018

Up to a quarter of ‘cheese products’ sold in Russia were produced in Ukraine, circumventing Moscow’s embargo on food imports, according to Russia’s state agricultural watchdog.

Russia placed restrictions on food imports, including dairy, from countries that enacted sanctions against Moscow after its annexation of Crimea from Ukraine in 2014. The embargo has been a boon for domestic Russian producers, but consumers have complained about a proliferation of “fake cheese” — dairy products made with milk-substitutes.

Up to 300,000 tonnes of Ukrainian cheese products are entering Russia every year after being repackaged in Belarus, Russia’s agricultural watchdog Rosselkhoznadzor spokeswoman Yulia Melano told the RBC business portal Tuesday.

“In all likelihood, we’re talking about the legalization of Ukrainian cheese or protein and fat products through Belarus,” reads a letter written by Rosselkhoznadzor head Sergei Dankvert that was obtained by RBC.

The Ukrainian ‘cheese products’ mostly consist of vegetable oils, rather than dairy, and are imported via Belarus under the guise of Macedonian or Iranian cheese, according to the letter.

Cheese-like products could account for more than half of all cheeses sold in Russia, Andrei Karpov, the executive director of the Association of Retail Trade Companies (AKORT), was cited as saying by RBC.

Rosselkhoznadzor does not yet regulate cheese products, which are made almost entirely out of milk substitutes, and does not officially track its imports.

Thanks to Mark Teeter for the heads-up

Latifundism in Russia

Land Prices in Russia Reach Five-Year High
Farmland may become cheaper next year
Irina Sinitsyna
Vedomosti
December 6, 2017

The cost of farmland in Russia’s primary grain-producing regions reached its five-year peak in 2017, as valued both in rubles and dollars. This conclusion was reached by analysts at Sovecon, an agro industry research center, based on the results of an annual survey.

Amongst the fundamental reasons were the record profits made by agricultural producers in the 2016–2017 season, sparked by good harvests and relatively high ruble prices for most commodities, says Andrei Sizov, Sovecon’s director.

In addition, there has been consistently strong demand for land on the part of predominantly Russian capital in the guise of industry-specific investors, Sizov adds. Amongst the most active public buyers, Sizov identified the agricultural division of Sistema, the N.I. Tkachov Agrocomplex, owned by the family of Alexander Tkachov, Russia’s agricultural minister, and Volgo-Donselkhozinvest, owned by the family of Sergei Kukura, adviser to Lukoil president Vagit Alekperov. New players, such as the companies owned by Roman Avdeyev, have also continued to expand into the agro business. On the year, from the fourth quarter of 2016 to the third quarter of 2017, Sistema’s subsidiaries increased their land holdings by one and a half times, from 247,000 hectares to 380,000 hectares. In the spring, Volgo-Donselkhozinvest closed a deal to buy the Russsian assets of the Swedish company Black Earth Farming: a total of 244,000 hectares. In late 2016, Avdeyev’s investment vehicle Rossium purchased 99% of the Lipetsk agro holding Agronova-L, which grows grain and oilseeds on more than 70,000 hectares in Lipetsk and Tambov regions.

At the same time, Russian farmlands are still undervalued compared to agricultural land in other countries, for example in Eastern Europe, adds Sizov. In several regions such as Kursk Region, however, land prices are unjustifiably inflated, argues Alexander Krasnov, head of the legal department at the agro holding Miratorg.

Land has gone up in price in recent years, but this year growth slowed or even halted, notes Vladislav Novoselov, managing director of agro industy consulting company BEFL. According to Novoselov, the main cause of the previous price rise was an increase in agriculture’s profitability, due largely to devaluation.

In the coming year, the growth of the value of land in southern Russia could slow down significantly, and in regions located farther from export ports, land prices could stagnate altogether or even decrease, argues Sizov.

Domestic prices for all major agricultural products, especially grain, fell precipitously this year amidst a bumper grain harvest, explains Sizov. According to Sovecon, in November, the main export commodity, fourth-class wheat, was 10% cheaper in southern Russia than a year ago, 20% cheaper in central Russia, and cheaper by a third in the Volga River basin. In 2017, prices for all major commodities declined significantly, Novoselov agrees, and problems with storage and transportation considerably reduced the incomes of market players. Many of yesterday’s land buyers have taken a break in anticipation of lower prices, says Novoselov.

Especially in Russia’s central regions, land prices have already fallen, Krasnov points out.

“You can now buy land for 10% to 15% less than at the beginning of the year,” he says.

At the same time, he adds, the quality of the land on offer has improved. There is a selection of large land plots of 5,000 hectares to 6,000 hectares, and there is more cultivated land on offer. Earlier, they would have been sold for a premium, he recalls, but not anymore.

In addition, the number of speculators has decreased significantly, continues Krasnov. Holding land in anticipation of price rises is no longer profitable due to high taxes and fines for those who do not cultivate their land.

fullscreen-4ltPrices of farmland in Krasnodar (red), Rostov (dark blue), Stavropol (light green), Voronezh (beige), Tambov (violet), and Kursk (light green) from 2012 to 2017, as valued in rubles/hectare and dollars/hectare, and compared with the prices of farmland in Great Britain (Wales and East Anglia), the US (Kansas and Iowa), the EU (Romania), Brazil (Mato Grosso), Uruguay, and Russia (Krasnodar), as valued in dollars/hectare. Source: Sovecon. Courtesy of Vedomosti

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Agrocomplex Owned by Ag Minister’s Family Fourth Largest Farmland Holding in Russia
It lacks 4,000 hectares to claim third place
Yekaterina Burlakova
Vedomosti
April 25, 2017

The three leaders, as determined by the consulting company BEFL, have not changed over the past year. In first place is Igor Khudokormov’s Prodimex group (including Agrokultura’s assets), which controls 790,000 hectares of farmland. Rusagro surpassed Miratorg: they now own 670,000 hectares and 644,000 hectares, respectively (cf. the infographic, below). Rusagro’s director general Maxim Basov confirms the figures. A spokesperson for Miratorg refused to comment on the list. Nikolai Shevchenko, head of Prodimex’s agro division, cites figures that do not take into account Agrokultura, since it is Khudokormov’s personal project, leaving a total of a little over 600,000 hectares.

The N.I. Tkachov Agrocomplex in Krasnodar Territory has risen from sixth place to fourth place, having increased its holdings by 40% to 640,000 hectares. The agrocomplex lacked a mere 4,000 hectares to join the top three. The N.I. Tkachov Agrocomplex was found in 1993 by the father of the current Russian agriculture minister, Nikolai Tkachov. The company grows grain, is one of the major producers of raw milk in Russia, and the second largest rice producer. The agrocomplex also produces produces pork and beef, and has been developing a chain of stores. It currently runs over 600 stores in Krasnodar Territory, Stavropol Territory, and Rostov Region.

In recent years, Tkachov Agrocomplex has vigorously increased its land holdings: in last year’s BEFL rating, it entered the top ten for the first time. In 2015, it purchased the assets of the major agro holding Valinor, which owned land in southern Russia. A former top manager at Valinor informed Vedomosti the Tkachov family acquired 170,000 hectares in the deal. The agrocomplex continued its acquisitions in 2016. In the summer, it was reported the company had purchased over 30,000 hectares of rice fields, previously owned by the Razgulyay Group. Several months later, the Tkachovs bought Parus Agro Group, a major Krasnodar agro holding, from Andrei Muravyov, ex-president of Siberian Cement and ex-Qiwi shareholder. Parus Agro had controlled nearly 100,000 hectares of arable land in Krasnodar Territory, Stavropol Territory, and Adygea. Over the past three years, Tkachov Agrocomplex has increased its land holdings by 440,000 hectares, more than tripling them, according to BEFL.

Tkhachov Agrocomplex director general Yevgeny Khvorostin declined to comment for this article.

Vladimir Yevtushenkov‘s Sistema increased its land holdings most significantly. Its subsidiary, the agro holding Steppe, added 200,000 hectares over the past year, according to BEFL. Taking into account RZ Agro, which Sistema co-owns with the Louis Dreyfus Company, the corporation’s land holdings have risen to 350,000 hectares. Steppe has continued to increase its land holdings by acquiring assets, as stipulated by its overall strategy, says a spokesperson for Steppe. The goal is to increase its holdings to 500,000 hectares, company management has announced.

The past year was quite productive for major agro holdings, according to BEFL’s survey. The companies included in the 2017 list own a total of more than 12 million hectares of land, which is approximately 14% more than a year earlier. BEFL managing director Vladislav Novoselov says the last three years have witnessed a vigorous consolidation of the market. The fact is that, due to devaluation of the ruble, the return on investment in crop production has increased. Sistema’s spokesperson also agrees with this assessment.

In 2016, for the first time in three years, not only ruble, but dollar prices began to grow, Sovecon reported earlier. In Russia’s southern regions, agricultural commodity prices grew from 31% to 83%; in the central regions, from 6% to 17%; and in the Volga River basin, from 1% to 36%.

Late last year, however, it was obvious that in the future the profitability of crop production would not be so high. Domestric prices for agricultural produce have not been growing, and they have even declined for some commodities, partly because of the ruble’s resurgence, says Novoselov. Rusagro’s Basov confirms this is the case. Nevertheless, his agro holding has continued to acquire land. Taking into account the decreasing margin, land prices must drop for deals to go through, he concludes.

mobile_high-2p72017’s top ten corporate owners of farmland in Russia, in thousands of hectares. The second set numbers (in gray, in the far right column) indicates their places in the 2016 rating. 1. Prodimex + Agrokultura (790,000 ha); 2. Rusagro (670,000 ha); 3. Miratorg (644,000 ha); 4. N.I. Tkachov Agrocomplex (640,000 ha); 5. Ak Bars Agro (505,000 ha); 6. Ivolga Holding (489,000 ha); 7. Rosargo (400,000 ha); 8. Avangard-Agro (390,000 ha); Steppe + RZ Agro (350,000 hectares); Dominant Group (320,000 ha). Source: BEFL. Courtesy of Vedomosti

If you are interested in how this runaway latifundism has affected family farming in Russia, read my series of posts on the Krasnodar farmers’ protest movement and their allies in the Russian independent truckers’ movement.

Translated by the Russian Reader