FMCG in Russia: Domestic, international grocers battle it out in Russia
By Michelle Russell | 30 September 2013
Russia has been described as one of the most dynamically developing retail markets in the world. The advent of the recession, however, resulted in a slowdown in growth that Russia has not yet fully recovered from. While it is debatable whether Russia will fully re-establish the pace of growth it enjoyed before the credit crisis, the market is seen as an attractive one for FMCG companies. Michelle Russell takes a look at the opportunities and challenges for grocery retailers operating in this BRIC economy and the formats that are proving popular with consumers as the main players jostle for supremacy.
Last year, the Russian grocery retail scene saw something of a recovery in demand after the financial crisis of 2008, with the market increasing by 14% in value terms to reach RUR8.1trn in 2012, according to Euromonitor. In addition, figures from the Russian Federal State Statistics Service (Rosstat) show retail food sales reached RUR10trn in 2012, a 9.4% increase from the previous year.
The rebound, combined with significant reductions in personal and corporate income tax rates, and an expanding middle class that is emulating Western patterns of consumption, underlined to some that Russia has become a more attractive place to do business in recent years.
The country's grocery retail market in particular has undergone something of a period of rapid transition over the last two decades from small market trading to the emergence of larger supermarket stores.
The Russian retail market remains characterised mainly by traditional forms of trade like open-air markets and small kiosks, but the share of modern retail store formats is increasing every year, according to Ernst & Young. As of March 2013, the share of sales through modern forms of retail trade in the total retail turnover was 21.4%.
Nevertheless, the Russian retail market remains fragmented, with the top five retailers controlling less than 15%, which is low by developed market standards. And it is the domestic players that are leading the pack.
Magnit currently holds the top spot, having overtaken its closest rival X5 Retail Group to become the country's largest grocery retailer by sales in April this year. The pair both have very different strategies for growth, Magnit chooses growth through store openings, while X5 chooses expansion through M&A.
Another dominant domestic player in the market is Dixy, which acquired local peer Victoria in 2011 in a cash-and-share deal worth about RUB20bn (US$680mn) to become the country's third-largest retailer.
Metro has had a presence in Russia since 2000 and now operates around 68 cash-and-carry stores across the country. Its Real hypermarket chain also recently launched a small-box format in the country.
Auchan operates slightly fewer stores, with around 52 Atak supermarket and hypermarket outlets.
The two retailers seem to have succeeded when other international peers have failed. Carrefour was forced to close its Russian stores in October 2009. It cited an "absence of sufficient organic growth prospects and acquisition opportunities in the short and medium term that would have allowed Carrefour to attain a position of leadership", it said. And Wal-Mart closed its Moscow office in February 2011, after failing to identify appropriate acquisition targets to enter into the market.
Symbol retailer Spar International, through a series of franchise deals, has around 300 stores in Russia, although it remains a small player in the country's convenience channel when measuring its market share to Magnit. Finland-based Kesko, meanwhile, has dipped its toe into the market with a handful of stores in and around St Petersburg.
Per Hong, partner at management consultants A.T. Kearney, says regulatory issues and access to real estate have placed restrictions on foreign players looking to enter the market.
"The political environment in Russia, for retailers who are not here today, is one of the reasons Wal-Mart has shied away from this market. It's a little bit more risk averse from an overall corporate culture perspective, and a little bit more conservative in its strategy."
However, Hong says Auchan has been and continues to be an "aggressive player" in Russia. "Auchan are looking to triple their presence by 2015/2017. One of these areas is the hypermarket format. In the past year they opened their first Auchan Drive outlet, more of a convenient, smaller format and that is a trend we are seeing and will continue to see, both with local players and Western players. They are moving beyond the immediate demographic centres of big cities and moving further afield to capture a greater portion of the market."
With a growing number of time-strapped shoppers, the desire for convenience has become more evident in Russia and retailers are attempting to capitalise on this trend by launching express store formats or convenience-orientated private-label ranges. As a result, it is the convenience format that is showing the fastest rate of growth, according to Euromonitor.
"If we speak about grocery retailing in Russia, all modern channels like supermarkets and convenience stores are expanding and taking share from independents, small grocers and other popular channels in Russia like kiosks and open markets," Euromonitor analyst Vitalij Vladykin tells just-food. "But convenience stores are showing the fastest growth rate."
According to Euromonitor, convenience store sales increased by 27% in 2012. This compares to 20% for supermarkets. "Major players are increasingly focusing on the development of this type of format because they are trying to find new opportunities to gain ground," Vladykin says.
However, Magnit dominates the convenience channel, accounting for almost three-quarters of sales. Dixy's Victoria comes next, but with a market share of just 7%. X5's Perekrostok Express is the third-largest player and then Spar International's Spar Express stores. The latter, however, are more commonly found at airports and railway stations. Hong forecasts Magnit's domination of the channel will persist, at least in the short term.
In Western markets like the UK, the online channel, alongside convenience, is held up as another avenue for growth for food retailers.
Online retail sales are now worth US$9bn a year in Russia according to A.T. Kearney. However, looking at online grocery sales specifically, the channel has developed in a specific way in Russia, with consumers favouring click-and-collect over home delivery.
“Russians are not ready to buy fresh food via the internet and the most popular goods remain soft drinks, grains and pasta, cans and other packaged food," Euromonitor says. "Overall, Russians prefer to choose fresh products due to the low credibility of retailers. Russians believe retailers will choose products that are not fresh.” Customers, the researchers say, are also not yet prepared to pay $5-$10 for delivery charges.
Euromonitor's Vladykin says Russian consumers prefer to pay for groceries with cash on delivery, in addition to there being issues with delivery and the quality of services. As a result, many retailers have grown their click-and-collect services for grocery, rather than home delivery services.
Hong concurs but suggests this may change in time. "There is an inherent distrust of banks and financial systems, which goes back to the Soviet legacy of when everything was paid for in cash. But that's now changing and evolving ... there is access to credit and financial transactions online are evolving but it's going to take a generation for that to kick off."
Despite the many challenges the Russian retail market poses for both domestic and international players, there are also plenty of opportunities.
Euromonitor predicts the grocery retail market will grow by around 4% each year over the next five years, in line with inflation.
According to A.T. Kearney, there has been "quite a significant development" in the country's GDP. While it is slowing, on a per capita basis it continues to increase at 7-8% per year.
Hong says that, while Russia has a shrinking population, that population is becoming richer and with a middle class that is growing in wealth.
"This certainly presents opportunities. The population isn't as big as China and India, but the difference is it is a relatively more affluent and growing affluent population."
"Local development of modern retail overall penetration will continue to grow and accelerate and it's been at a very healthy level and you will continue to see local players continue to expand and grow."
Hong adds Russia's accession to the World Trade Organization will likely increase the incentive for authorities to implement stricter regulatory standards. This, he suggests, will further incentivise other retailers into entering the market and provide access to different formats, either as a new market entrants or, more likely, through M&A.
"You will see local retailers continue to grow and expand, like X5, Magnit and Dixy and these are all players that can be, or may be, potential targets for acquisition or quick market entry for players who want to be able to partner, to be able to enter Russia quickly to build on these different formats."
The saturation of western European markets, also means that emerging markets offer expansion opportunities for international retailers in particular, according to Ernst & Young. A study by the International Council of Shopping Centres and Real Estate Publishers showed that international investors regard Russia as one of the most attractive investment prospects over the next two years.
Russia's food retail business was already seen as one of the fastest growing in Europe, but while many western European countries are still suffering post recession, the Russian market, it appears, is expected to go up a gear.
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FMCG in Russia: Domestic, international grocers battle it out in Russia
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