AvtoVAZ is a company that came to symbolise the era of vast monolithic producers that were at the heart of the industrial strategy of the old Soviet Union. In today's Russia it faces severe challenges from a more open economy and the arrival of Western and Asian car brands in the Russian marketplace. But a new management is charting a course for survival, writes Mark Bursa.

Russia's car industry has had a torrid time since the fall of communism. An initial flurry of activity from foreign car companies was squashed by the collapse of the rouble in 1999, which resulted in delays and cancellations of many planned new factories and joint ventures.

And while since then Ford and Renault have successfully entered the market, most automakers focused instead on easier pickings to be had in China and Central Europe.

Russia remains the great untapped market in the world's car industry. It has a population of 143 million, but vehicle ownership is low - 178 cars per 1,000 people. Belatedly, manufacturers such as Nissan, Peugeot, VW and Toyota are scrambling to get on board. So too are the Chinese, offering a cheaper alternative that has considerable appeal in such a sprawling emerging market.

But through it all, the dominant player in Russia has remained AvtoVAZ, the Communist-era automotive behemoth on the banks of the River Volga, which has consistently churned out 600,000-plus cars a year throughout the country's turbulent recent history.

Rumours of AvtoVAZ's demise have been doing the rounds for years. Its cars are largely obsolete; their quality questionable. And the company has tottered on the brink of collapse on more than one occasion. But it has been just about the only automaker able to provide cars cheap enough for ordinary Russians to buy, and its extensive dealership and service network has enabled it to supply vehicles across the whole of Russia, not just in the big cities.

Indeed, after a difficult 2005, AvtoVAZ sales are growing this year. In the January-September 2006 period, AvtoVAZ produced 569,327 cars, up 8.3% year-on-year. In the whole of 2005, the plant produced 721,492 cars and AvtoVAZ expects this to rise to 730,000 cars this year.

This accounts for a whopping 70% of all cars produced in Russia. In addition, AvtoVAZ built 147,456 CKD kits for export and assembly in other countries including Ukraine, Kazakhstan and Egypt in the first nine months of 2006. In the Russian domestic market, AvtoVAZ has seen its market share eaten away by imports and new-start assembly operations, but it still has 42% of the market.

The reason for the upturn is political. Last December, the Russian government stepped in, and the state-owned armaments export company Rosoboronexport took over the car maker. This was not a simple act of nationalisation - Russian media reports suggest that Rosoboronexport paid around US$700m for a 51% stake in the company.

Why did the government step in? To stop AvtoVAZ being taken over by SOK, Russia's second-largest automotive company, and a major supplier to AvtoVAZ. It's not clear why the government was opposed to this deal - but the complexity of AvtoVAZ's shareholding caused a major headache. It's easy to see why: 32.3% of AvtoVAZ shares were owned by something called the All-Russian Automobile Alliance (AVVA) - and 80% of AVVA was owned by - wait for it - AvtoVAZ.

And somewhere in this tangled web of ownership was Russian oligarch Boris Berezovsky, living in self-imposed exile in the UK following a major falling out with Russian President Vladimir Putin in 2000. Berezovsky fled in order to avoid the fate of fellow oligarch Mikhail Khodorkovsky, the Yukos oil company founder, who was jailed for eight years in 2005.

But Berezovsky's links to AvtoVAZ are deep. A Berezovsky company, LogoVAZ, controlled distribution of the cars in Russia. Berezovsky had unspecified links to AVVA too, giving him "influence" in AvtoVAZ. And Putin feared that a change of ownership could increase Berezovsky's power base again.

AvtoVAZ president Vladimir Kadannikov was always going to accept the Rosoboronexport deal given the generosity of the terms. What's more, Kadannikov was close to the Putin government - he served as first deputy prime minister in the Russian government during the 1990s, while remaining at the head of the car company.

Kadannikov kept AvtoVAZ in business, and also engineered the deal with General Motors that was supposed to be the company's salvation. But despite his good intentions, and those of GM and its former Russian vice-president David Herman, the JV has had a fraught history. And with Kadannikov's resignation after the Rosoboronexport takeover, support for the venture within AvtoVAZ has all but disappeared.

The new Rosoboronexport management wants rid - which would be easy enough to do as the JV is in separate premises to the main AvtoVAZ line in Togliatti. After taking control, Rosoboronexport halted supplies of parts to the JV, stopping the line, in an attempt to renegotiate the deal with GM.

In April 2006, Russian business daily Vedomosti reported that AvtoVAZ also offered to either sell its stake in the joint venture to GM or buy out GM's stake. AvtoVAZ and GM each hold a 41.5% stake in the JV, established in 2001, while the European Bank for Reconstruction and Development (EBRD) holds 17%. But no deal has yet been done.

Subsequently GM bosses have talked up the JV - Carl Peter Forster, president of GM Europe, told a press conference in June it was "a success". But at the same press conference Forster announced plans to build a new, wholly owned plant in St Petersburg to build Korean-designed Chevrolet models.

Chevrolet sales are booming in Russia - the GM-AvtoVAZ JV makes Russian designed Chevrolet Niva SUVs and versions of the Opel Astra T3000 as the Chevrolet Viva. So GM could probably do with the capacity - providing the price is acceptable. Whatever happens, it looks as if the only way GM will stay in Togliatti is by buying out AvtoVAZ's stake in the JV.

Meanwhile AvtoVAZ's managers have charted a course for the future that doesn't involve GM. Talks with two prospective partners - Renault and Magna International - are ongoing, with Magna in the box seats.

Renault already has a JV, Avtoframos, in Moscow with the former Moskvich plant, but this is a relatively low-key CKD business compared to what is being proposed for AvtoVAZ. Renault has proposed building four models for AvtoVAZ under the Lada brand and another four for Renault, including the Logan, its highly successful emerging markets sedan, at Togliatti.

Renault was thought to want a formal JV, including a 25% stake in AvtoVAZ, though this was a stumbling block, and recent reports suggest Renault is now prepared to look at a less formal alliance based around assembling Logan and making engines.

Magna's proposal is more imaginative - the Canadian company wants to design a new range of Lada models and build them in a new factory at a rate of 450,000 cars a year.

Magna styles itself as "the Tier 0.5 supplier", majoring on its ability to contract manufacture entire cars - which helps AvtoVAZ get round its own limited R&D abilities. It has been able to develop new cars - such as the Kalina hatchback - but the development pace is glacial, and the cars are often obsolete before they hit the market. AvtoVAZ's main model, the Lada 110, was designed in the early 1980s, but wasn't produced for well over a decade.

AvtoVAZ claims it has already signed an outline agreement with Magna and this could be announced in the next few weeks. And Renault is not out of the frame yet - Russian media reported that talks were ongoing on October 6th. AvtoVAZ could have multiple partners along the lines of Chinese auto giants such as Shanghai Automotive or Dongfeng Motor.

At the end of the day good old Soviet-style state intervention seems to have saved AvtoVAZ. But unlike the centrally planned days of the hammer and sickle, foreign partnerships are being encouraged as the way ahead.

AvtoVAZ still exports Ladas to the West - it had a display of its latest cars at last month's Paris Show, along with a nice mint-condition Lada 1200 (beige, natch), the Fiat 124-based sedan that built the company in the 1960s. With its industrial-grade road manners and miserable reliability, the car became the butt of as many jokes in the West as its Czech counterpart Skoda.

But AvtoVAZ, under new management, might just be turning the corner - who knows, by the 2016 Paris Show, the Lada brand might be a major player in Europe again. After all, just look what happened to Skoda.

Mark Bursa

See also: RUSSIA: AvtoVAZ to partner Magna on new cars and plant - report

RUSSIA: Moscow show comes of age


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