Transform Issue 6

8/8/2019 Transform Issue 6

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One new messageIs social media really the

saviour of business?

Outside inThe rise and rise of public-to-

private equity deals

Health checkTaking the temperature

of pharma in CEE

Intelligent lifeHow Russias innovation

city will inspire the region

Insight for CEEs business leaders

Bridging

the gapSpecial report: Building

CEEs future fabric

Transform Issue 6/Autumn 2010


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Adviser of the Year

to Private Equity

in Central & Eastern

Europe

www.pwc.com/cee/private-equity

unquote has named PricewaterhouseCoopers

Adviser of the Year to the Private Equity

industry in Central & Eastern Europe.

The unquote CEE Private Equity Awards

recognise excellence in the CEE private equity

market. In a highly challenging environment over

the past year, we were among a few select firms

that still managed to achieve above-par

success.

PricewaterhouseCoopers helps more private

equity houses to realise the unique investment

opportunities in Central & Eastern Europe than

any other adviser in the region.

For more information please contact:

CEE Private Equity Leader

Mike Wilder

Tel: +48 22 523 4413

[email protected]

Czech Republic

Miroslav Bratrych

Tel: +420 251 15 2084

[email protected]

PolandJoanna Simonowicz

Tel: +48 22 523 4213

[email protected]

Russia

Jonathan Thornton

Tel: +7 495 232 5711

[email protected]

2010 PricewaterhouseCoopers. All rights reserved. PricewaterhouseCoopers refers to the network of member firms of PricewaterhouseCoopers International Limited,

each of which is a separate and independent legal entity.
http://www.pwc.com/cee/private-equitymailto:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]:[email protected]://www.pwc.com/cee/private-equityhttp://www.pwc.com/cee/private-equityhttp://www.pwc.com/cee/private-equity


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3

f r o m t h e c e o

As trusted advisers to leading

businesses across the globe, we at PwC

oten experience frst hand the game-

changing events o the corporate world.

The global economic downturn has

led to a brave new world that we andour clients operate in now. In CEE the

fnancial crisis has had an added potency, oering, as it does,

a new perspective on the regions honeymoon with capitalism

ater so long under socialism.

The fnancial crisis doesnt mean the end o capitalism but it

does mean a resh start. This amounts to a new economic

environment, intensifed by the greater immediacy o climate

change, new technology, tougher competition, increasedregulation, demographic issues and government involvement

in the economy.

These actors make it

imperative to transorm

our businesses and

reinvent ourselves.

Inventiveness and

innovation will be key to

any businesss success

in the post-crisis uture.

We ourselves in PwC

CEE are undergoing a process o change, setting a bold vision

o our uture frm and articulating the changes necessary to

realise that vision.

The core principle o this vision is to enable our clients, tohelp them prepare or and proft rom the new era. This issue

oTransform magazine eatures a number o ascinating

organisations, businesses and leaders, all grappling with

todays complex issues and turning them into opportunities.

I hope these stories provide some ood or thought and help

you build a resilient business or the uture.

PiwauscpsCentral and eastern europe

Ceo:

Mk K

Managing partner advisory:Mk ok-v

Managing partner assuranCe:rck MManaging partner tax & legal

serviCes:s spwC Contributing editor:d os

Cover iMage: photolibrary

Brave new world

Mike Kubena

wc.cm/fm

Inventiveness andinnovation will be key to

any businesss successin the post-crisis future


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06 UAwards spotlight the response of Czech

entrepreneurs to the nancial crisis; call

for Hungarys SSCs to develop beyond the

capital; PwC Russia launches technology and

innovation centre; new man at the top at PwC

Czech Republic; PwC forms JV with operations

management consultancy rm; PwC wins Adviser

of the Year award for private equity in CEE

10 CmmDmghc dmm

Aging and declining populations are presenting

major socioeconomic and business challenges

for the CEE region

4

Contents

Capital projeCts anDinrastrUCtUre

12 iducActivity in CEEs capital projects and

infrastructure sector is on the rise. PwC

partner Tibor Almssy sets the scene

13 Mgg humgbNew energy infrastructure is a high priority in

CEE. To achieve success, cooperation between

the public and private sectors is key

16 th uc Nuclear power is making a comeback in CEE.

But CEE governments and energy companies

rst need to navigate a number of hurdles

19 th d hdPwCs Mark Okes-Voysey calls for the

creation of a new government body to oversee

Russias infrastructure shopping list

20 Cee h mv?Private public partnerships could be theanswer to CEEs transport infrastructure

needs, provided best practices are adopted

13 20

25 Cmmrdd cEncouraging local production could

provide the required boost to get Russias

car market motoring again

26 Mc-busm, d cy md

Micro-businesses are contributing to thegrowth of several CEE economies however,

government support for them is vital

30 Cmy fgg hd

Polish copper mining company KGHM sets

out plans for major global growth

34 ivMd andm

Why a new knowledge city could put Russia

on the innovation map

38 Cm chglghg h wy

Regulation and taxation can help CEE make

its economy greener, but how?

26

Published by Bladonmore (Europe) Ltd T:+44 (0)20 7631 1155 E:[email protected]
mailto:[email protected]:[email protected]:[email protected]


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42 phmcuc Hhy c

The international pharma industry has

already shown a commitment to CEE.

What can governments do to deepen

that relationship?

46 pv quypubc vWhy the number of public-to-private

transactions is on the rise in CEE

50 sc wkgty wd

It is time that companies recognised the

business potential of social networking sites

54 D cA focus on economic facts and gures from

across the CEE region

The potential of social networkswas recognised only half a year ago.

Now big companies use Facebook applications

pw.m/tsm

42

50

30

46

34

EdiTor:El Me Managing EdiTor:Se Kes Sub-EdiTor:Lye desm arT EdiTor:ivel ivv ProducTion ManagEr:aew Mlle PubLiShEr:S Mse


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upfront >>>upfront >>>

Crisis, as the proverb

goes, is opportunity

a maxim that the

Czech winners o the

In Defance o Crisis Awards woud

agree with. The 10 winners (see boxbeow) o the inaugura awards or

sma or medium-sized privatey owned

businesses were recognised at a June

ceremony at PwCs ofces in Prague,

or their creativity and innovation in

response to the fnancia crisis.

Working with the Czech Chamber

o Commerce, PwC Czech Repubic

was the main expert partner or theawards, devising the methodoogy used

to assess appicants onine award

submissions. PwC partners visited the

shortisted companies to interview the

company owners. Petr Zmtk, director

in assurance at PwC Czech Repubic,

coordinated this process, whie PwC

Czech Repubic managing partner Jir

Moser oversaw PwCs invovement in

the project and presented the awards.

Trave company Exim Tours, the

overa winner, was recognised orits decision to ocus on high-end

customers which heped stabiise

demand, or its investment in the

deveopment o its empoyees to secure

high-eve customer care, and or

impementing an onine booking system

that heped cut costs. Exim aso won the

education and trave award category.

More than 30 companies wereshortisted or the 10 category awards,

with a pane o our judges making

the decision in consutation with an

expert company advising in each

category. At the awards ceremony, a

the companies invoved were invited

to vote or the most inspiring project,

with the winner co-owner o Rodinn

pivovar Bernard, a beer companythat aunched a new, non-acohoic

pum beer to the market during the

fnancia crisis picking up his award

at the end o the evening. "We see

the award as a recognition that a the

activities we undertook were successu

and correct," said Stanisav Bernard.

"Consequenty, we have introduced

another new product to the market anon-acohoic beer caed Bernard's

Cear Head Sour Cherry."

The utimate aim is to use the

top ideas as best-practice modes

or other sma and medium-sized

companies in the Czech Repubic,

where SMEs account or a arge

proportion o the economy. The SME

sector is credited with having hepedthe country weather the fnancia crisis

better than many other EU economies.

For more on SMEs, see p.26.

Czech awards recognise SME innovators

And the winners Are

Main winner Exim Tours

Most inspirational projectRodinn pivovar Bernard

Construction and engineeringIsolit-Bravo

Education and travel Exim Tours

Food and beveragesRodinn pivovar Bernard

HealthcareLinet

IT WBI Systems

Manufacturing/industrial products5M

Mechanical engineering, electroZikmund electronics

Professional services Moris design

Transportation and telecommunicationDial Telecom

TradeTPT Coating

JuryPetr Kuel, president, Czech Chamber o Commerce

Petr Zmtlk, director, assurance, PwC audit, Czech Republic

Jindrich Soukup, vice rector, University o Economics, Prague, Czech Republic

Pavel Finger, fnancial director, CCB Czech Credit Bureau

Best in class: Exim Tours executivedirector Romana Slkov accepts

the main winners award


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Hungary shoud deveop the

inrastructure and iving

standards o a second city

beyond its capita, Budapest,

i its shared service centre (SSC)

sector is to continue thriving, saysGyua Bunna, a director in

PwC Hungarys advisory practice.

Hungarys SSCs shouldbranch out from Budapest

7pwc.com/transorm

MASTERfIlE

time to reboot

hungArys ssC

seCtor At A glAnCe PwC has launched a Center or Technology and

Innovation (CTI) in Russia, in response to Russian

President Dmitry Medvedevs call or more

high-technology businesses in the country.

The CTI opened in October last year and aimsto provide leading-edge research on technology

trends and encourage the exchange o talents

between Russia and the US the centre is

modelled on PwCs existing CTI in San Jose,

Caliornia and the two centres will work

closely together.

By talking to Russian stakeholders, companies

and the government, we identifed a number o

areas where we could concentrate our expertise.These included government policy on stimulation

and innovation, building innovation clusters and

regions and investigating how technology can help

small businesses, explains Ekaterina Shapochka,

a PwC director in Russia.

The centre has already published a Russian

edition o the Global Technology Forecast. Having

initially translated the quarterly PwC publication

into Russian, the CTI in Russia then went astep urther. We involved Russian experts and

interviewed Russian companies to gain their

perspective on global technology trends, says

Shapochka. Its a very interesting platorm, where

we are bringing political and technological cultures

closer together.

So can Russia lead the way in developing

innovative technologies, in line with Medvedevs

call to action? The combination o good fnancialinvestment, a clear strategy and the necessary

resources means the country has every chance o

success, she says.

The CEE state is aready a ocation

o choice or mutinationa companies

that want to set up SSCs speciaising

in transaction-based work in support

unctions such as human resources

and fnance.A recent market inteigence survey

conducted by PwC the frst o its

kind in the Hungarian sectors 10-year

history reveaed that the countrys

80 centres coectivey empoy 30,000

peope, and the various taxes that the

industry pays account or 1.2% o the

centra state budget.

The survey ound that 80% othe SSCs that were assessed are

currenty in the expansion phase

o their ie cyce, with their we-

estabished operations enabing them

to shit ocus towards high-end, vaue-

added activities such as customer

service and treasury support. That

expansion coud potentiay create

more than 2,000 extra jobs within thenext two years.

Cost arbitrage and a highy

educated taent poo are two o

the main reasons attracting investors

to Hungary, but Bunna beieves

current costs are not as cheap as

they used to be.

Today, rom a simpe cost arbitrage

viewpoint, Hungary is not the bestocation, he says. However, we are

seeing more and more SSCs come to

Hungary because they ee its a sae

pace to be.

Hungary shoud not rest on its

aures, however. To maintain its cost

arbitrage advantage, Bunna beieves

that in the next two years the country

shoud buid up the image andinrastructure o one secondary city

so that it can sti oer investors the

winning combination o ower costs

and strong inrastructure.

Contribution tocentral state budget

1.2%Predicted job creationmore than

2,000new jobs in the nexttwo years

Number of SSCs

more than 80

Employees withuniversity orcollege degreemore than 80%

Total number ofemployees

30,000


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8

upfront >>>

Domestic companies in the

Czech Repubic can expect

a charm oensive rom

PwC ater the frm there

appointed its frst ever Czech nationa

as country managing partner. JirMoser, a ieong PwC empoyee, took

over the roe rom Stephen Booth in

the spring. We spoke to him about his

pans or the Czech practice.

What is the signifcance o a

Czech national heading PwC

Czech Republic?

The Czech economy is quite open.O the top 200 companies here,

70%-80% o them are mutinationas.

In the past, the management o these

companies was oreign but as the

business community matures, we

are seeing more and more Czech

managers. Im the frst Czech

nationa to ead PwC in the Czech

Repubic. The biggest advantageis that I understand the cuture and

speak the oca anguage.

How will you build on your

predecessors success?

We are currenty very strong in a

three ines o service assurance,

advisory, and tax and ega services.

What we need to do is fnd newopportunities in the market and grow

the business hopeuy by buiding

reationships in the oca market. So

we wi carry on with the good stu

that has been done in the past and

just take it one step urther.

What are your short-term goals or

the Czech practice?As we as impementing PwCs goba

and regiona strategies, we need to

deveop a specifc action pan or the

Czech market. We wi aso ocus on

New leader or PwC Czech Republic

deveoping specifc industry soutions

or our cients. We have identifed nine

industries that we want to ocus on,

incuding the pubic sector and energy.

And longer term?

We did a CEO survey among 70

companies operating in the Czech

market. Combined with responses

rom PwCs goba CEO survey, the

eedback indicated that the economy

shoud stabiise and be growing in

somewhere between six and 12

months time. We have to position andprepare ourseves or times o growth.

In fve years time, we want to be at

east 50% bigger than we are now.

Do you oresee any challenges in

trying to achieve these goals?

The biggest chaenge is the

deveopment o our peope. We

need to create a cuture o success,deveop our key taent and reay think

about how to train the whoe frm.

Should clients and colleagues

expect to see a change in the way

the Czech frm is run now?

What I reay want to do is raise our

profe in the oca community, both

personay and as a practice. And thenin ine with the goba strategy, we

want to change our cuture to be more

cient-orientated, more coaborative

and more orientated towards success.

In fve years timewe want to be at least

50% bigger than weare now

mosers rise through the

PwC rAnks

2010 Appointed countrymanaging partner or PwC

Czech Republic

2006 Becomes advisoryleader or PwC Czech Republic

2002 Appointed leader o thePerormance Improvement business

unit across CEE

2001 Makes partner andbecomes leader o the Perormance

Improvement Group in Prague

1995 Moves to the UK or ayear and a hal-long secondment in

PwCs London ofce

1994 Joins PwC (thenCoopers & Lybrand) in Prague

ater gaining a PhD in scientifc

computations


9/56

P

wC has launched a new

venture to help manuacturing

clients across CEE cut costs

and improve operationaleciency on the actory foor. New

services oered by PwC Operational

Excellence a subsidiary set up

in partnership with manuacturing

consultancy Competitive Capabilities

International (CCI) will help clients

save as much as 2%-3% o annual

revenue every year.

The new venture will oermanuacturing clients access to

TRACC an integrative improvement

management solution developed by

CCI to drive continuous improvement

in manuacturing processes. It is

particularly eective when applied

to processes where downtime

or a shutdown would cause

major diculties.TRACC is primarily a repository o

best practices built up over

20 years rom 1,000 companies,

says Andrew Friars, managing

partner, advisory, in PwC

Poland. It is already used by

several leading companies,

including SABMiller,

Coca-Cola and DuPont,across 55 countries.

PwC Operational Excellence

is expected to revolutionise

the way PwC can help

manuacturing clients to

improve perormance.

Traditionally in the

manuacturing sector we have

had a limited set o oeringsto take to our clients, says

Friars. Typically, we have

done work around tax, nance

and the supply chain, but the

majority o their cost base isnt in the

back oce, its on the actory foor.

As we are developing our consulting

business, we are building capabilitiesaround perormance improvement

processes such as LEAN and Six

Sigma. We want to take our clients to

world-class excellence where they will

have integrated these improvement

initiatives across their entire value

chain. The TRACC solution ocuses

on continuous improvement by driving

change, reducing cost and increasingcapacity in the biggest cost base o

the business.

Friars says market response has

been positive and a pipeline o

opportunities is developing.

Future plans include adapting

TRACC or back oce processes

(including HR and admin, supply

chain and sustainability) and non-manuacturing industries.

PwC has beennamed Adviser o

the Year at the third

annua unquote

CEE Private

Equity Awards.

The award was made oowing

a vote by readers ounquote and,

according to Kimbery Romaine,

editor-in-chie o the privateequity news site, PwC came out

heads above its competitors in

the po.

We aowed the CEE readership

o unquote to decide on the winner

and PwC came out heads above,

she said.

Mike Wider, the eader o PwCs

transactions group in CEE, coectedthe award on beha o the frm at

a ceremony in london on 20 May,

oowing the unquote CEE Private

Equity Congress.

PwC has been in the region

onger than most, so pretty much

anybody who does private equity in

CEE wi have worked with PwC,

added Romaine, expaining whyPwC had ared so we. Knowing

and working with the major payers,

theyve obviousy worked on the

argest and most signifcant deas in

the region.

Athough the event has been

running or severa years, it was

the frst time that an Adviser o the

Year category had been incuded.However, Romaine said the success

o the category means that it wi be

incuded again in next years event.

Words by Dominic Dudley

pwc.com/transorm9

Clients on TRACC to improveperormance on actory foor

Adviser ofthe Year win

at private

equity awards

ISTOCK


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10

Demographic dilemma

CEE s ac e bes ppua ece e

w. As vemes abu ambs secmc w, w su e esp s

emapc me bmb?

D

emographic trends matter, and

they matter a lot in CEE. While

the world as a whole is in the

middle o rapid populationgrowth, the opposite is true or the

majority o CEE economies. For these

countries, this will represent a ormidable

challenge in the coming years.

CEE countries stand out when it

comes to population decline. The most

recent United Nations (UN) population

projections (World Population

Prospects: The 2008 Revision) liststhe 10 countries in the world where

population is due to rise most rapidly

over the next 40 years and where the

declines are expected to be greatest.

Including Russia, all 10 countries in the

latter category are in the CEE region

(see table opposite).

Nor does it end there. As George

Magnus, UBSs senior economic adviser,put it in his book The Age of Aging: O

the top 25 population shrinkers by 2050,

18 are ound behind what used to be

called the Iron Curtain The populations

o the countries in Eastern Europe that

have joined the European Union and

those o the Baltic republics and the

Balkans will typically experience alls o

between 10% and 30%.Why are CEE countries apparently

locked into long-term population

decline? The two driving actors in

what the UN describes as the

demographic transition o Eastern

Europe are sharply declining ertility

rates and greater longevity. The two are

related: the ormer reduces the naturalincrease in the population directly, while

the latter means that an increasing

proportion o the population is beyond

child-bearing age.

Aging trEndAccording to the UN: This aging trend

is the consequence o demographic

transition, which is when populationsprogress rom premodern regimes,

where both mortality and ertility are

high, to postmodern regimes, where

both mortality and ertility are low.

The cause o the

transition lies

in the control

o epidemics

and contagiousdiseases, which eventually contribute

to lower mortality, and in the processes

o modernisation, which leads to lower

levels o ertility.

In the hal century rom 1950, ertility

rates in CEE countries, which were

not high to begin with, more than

halved, in the majority alling well below

replacement rates. In many cases,ertility rates are merely hal o that level.

At the same time, longevity increased

by an average

o a decade or

David Smith has been economics editor ofThe Sunday Times since 1989, where he writes a weekly column.

masterfile

Combating population deCline

W e Ue nas ecas a 18% p

russas ppua b 2050, 116 m,Pese dm Meveev mus ave wecme

e ews auce ea s ea a e

ppua as w. te russa ea ms

eveae a 1.5% se e umbe bs e

fs quae 2010 e fs suc se ecaes.

damac ppua eces ave bee ece

eac ea e ps-Sve eas russa,

caus cce successve vemes.

i 2006, e pese Vam Pu aske erussa paame evep a pa cease

e cus b ae, abe e ppua

ece e ms acue pbem cempa

russa. i espse, a ew aw was uce,

pa $10,000 a c e ba. te

pc a e mmeae eec ceas bs

2006 2007 b 130,000. ts sma se as

cue, w 2.8% me babes b russa

2008, cmpae e pevus ea.i ebu Pa, e veme as

uce measues ame a ecua Pes

eu. i 2008, abse a ue wc mea

ma wkes wee abe pa axes b

Ba a a me. We Pme Mse da

tusk was eece 2007, s pc pam

cue a pee ecuae ma wkes

eu. te veme as avese s p-eu

pces e Bs pess, a b pesuaesme e ues usas wkes w

mve e UK we pee s bes

Ease Eupea wkes 2004, eu me.


11/56

comment

11pwc.com/transform

comment

men and 12 years or women.

The other big actor is migration.The big story in the ex-Communist

world is people, wrote Edward Lucas

oThe Economist. Too ew are being

born And tens o millions have

changed country. Estimates by the

World Bank suggest that between

5% and a third o the working-age

populations o CEE economies are

making a living elsewhere. The impacto this is not all one way. The World

Bank has been developing a databank

to monitor ows o remittances. These

ows o the proceeds o higher wages

back to countries o origin are an

important economic bolster. Whether

they make up or the loss o the most

productive part o the population

is another matter.Population decline

or CEE economies

means a rising

dependency ratio

and slower long-run

The second policy thrust is to try

to reverse migration ows, replacing

signifcant net emigration with net

immigration. Again, to an extent this

should be a natural eect o rising

prosperity. Particularly or thoseeconomies that have entered the EU,

the lure o higher wages and living

standards or CEE workers has been

powerul. Some o these migration

ows partly reversed themselves

when the fnancial crisis struck

previously vibrant labour markets.

The third broad approach

is to squeeze longer workinglives out o the existing population,

by encouraging people to stay

in the workorce longer.

Fortunately, there has been

plenty o scope or doing this. In the

Communist era people expected

to retire in their fties in most CEE

economies. In the two decades

since the collapse o Communism,

signifcant pension reorms have takenplace, which include the development

o private or organisation-based

pensions. In parallel, retirement ages

have been raised, typically to 62 but

in some cases higher. Romania, or

example, is moving to a common

retirement age o 65 or both men and

women in 2015.

Aging and declining populationsrepresent a ormidable challenge or

CEE countries. In most economies,

policy is responding to this challenge.

It will not, however, be easy. n

prediCted population deCline aCross Cee

Country 2009 population

(million)

Expected 2050

population (million)

% decrease

2009-2050

Georgia 4.3 3.3 23

Moldova 3.6 2.7 25

Lithuania 3.3 2.6 21

Ukraine 45.7 35 23

Bulgaria 7.5 5.4 28

Belarus 9.6 7.3 31

Latvia 2.2 1.85 16

Romania 21.3 17.3 19

Russia 141 116 18

Hungary 10 8.9 19

Poland 38.1 32 16

Slovakia 5.4 4.9 9

Slovenia 2.02 1.95 3

Czech Republic 10.4 10.3 1

Source: United Nations

Countries with the biggest proportionate population decline in the world

economic growth, a keycomponent o which is rising

population. Pressures or higher age-

related public expenditure increase

inexorably. Aging populations tend

to have high levels o saving and low

levels o discretionary spending.

thrEE-WAy SolUtion

What can CEE economies do abouttheir declining populations? There are

only three broad policy responses

to the situation. One is to attempt

to increase ertility rates, essentially

by encouraging women to have

more children. It is possible, but not

guaranteed, that rising prosperity will

have this impact, essentially because

amilies will be able to aord to havemore children. Running against this

is the act that, in most Western

economies, rising prosperity is

associated with smaller amilies.

11


12/56

12

A

mong the challenges acingCEE economies, perhapsnone is greater than thedevelopment o their aging

inrastructure and the capital projectsrequired or an efcient economy. Itis probably the largest single criticalsuccess actor needed to close thegap between standards o living inEast and West.

During the last 20 years, the transitionto market economics and democratic

principles has been key to CEEssocial development. The next stageo economic development cannot beattained without signifcant investmentin inrastructure, be it roads, powerplants, airports or pipelines. Unlessthis unding is orthcoming, an entiregeneration could miss out on thebenefts o economic growth and the

social and developmental rewards oefcient economies.

The paradox is that the challengeis not so much economic as it is

political. The time rame required orsuch investments is greater than manygovernment cycles, and the temptationto think short term and satisyimmediate social concerns given tightmonetary constraints is alwaysa barrier to progress.

However, there are increasing signsacross the region that many i notmost countries have realised that,regardless o political nuances, long-term investments in inrastructure

cannot be delayed any longer.Ambitious programmes have beenannounced by governments in Russia,Poland and Romania, to name justa ew. But there are lessons to belearned rom public private partnershipstructures and other tools that theWestern economies have utilised andcareul implementation is required.

This special report explores theseareas in detail, shedding light on therisks and rewards o investing in capitalprojects and inrastructure.

Special reportC a p i ta l p r o j e C t s a n d i n f r a s t r u C t u r e

12

Tibor Almssy, Partner, Capital Projects and Inrastructure CEE, PwC


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13pwc.com/transorm

Managing theunmanagea

ble

masterfile

13

p e C i a l r e p o r tC a p i ta l p r o j e C t s a n di n f r a s t r u C t u r e

nw g c w cc cc v Cee. t v v, k c gw g

w c c cv g

Words: daWn CoWieistock


14/56

14

the cost o

keeping the

lights on in

CEE over the

next 25 years is

estimated at $3.3trn, according

to Lights Out?, a World Bank

report. Without this investment

in inrastructure, the region acesenergy shortages that will constrain

economic development.

Almost all o the unding or new

inrastructure is expected to be

provided by private investors. A

main task or CEE governments

is to create the right regulatory

environment to ensure energy

companies and investors eel theycan earn appropriate returns.

Higher country risk and more

volatile capital markets have

prevented energy companies rom

identiying as many proftable

investment projects as pre-crisis,

according to Peter Mohnen, chie

fnancial ofcer o E.ON Hungria.

That said, E.ON has invested intwo long-term projects in Hungary

during the crisis: a combined-cycle

power plant and the extension o its

gas storage capacity.

The World Bank report advocates

progressive taxation, where public

authorities make a positive economic

rate o return on projects, while also

ensuring the proftability o projectsater tax or private investors.

aGreeinG a ContraCtGovernments also have a crucial

governance role to play in ensuring

projects are managed eectively,

and delivered on time and budget.

Creating clear lines o accountability

at the contract stage is essential.A power plant is an incredibly

complex product and thereore

the customer-supplier relationship

is not simple. It is not like buying

200,000 nuts and bolts, says

John Wilkinson, PwCs head oorensics and disputes in Russia.

His team specialises in analysing

the causes o delays and oers

advice on how to design bespoke

governance systems. The

customer oten cedes responsibility

to the supplier to deliver the project

and what is missing on the supplier

side is ongoing communicationand project management with the

customers involvement.

There comes a point when the

customer does not understand

why the terms o the project

have changed or the costs have

increased. From a suppliers

perspective, the greatest risk is

to overpromise but underdeliver.I a suppliers contract sets out

requirements that are too specifc,

the slightest problem could result in

the contract being terminated. PwC

is working or a contractor

in this position. Our

client didnt pay enough

attention to his contract

requirements, and didnt

keep his client inormed

about delays, which led to

the termination o the contract.

Beore they go into litigation,we are carrying out critical path

analysis so that he can explain his

position, says Anthony Morgan,

orensic services partner at PwC

in London.

GoVernanCe roleCreating a sound governance

ramework is the best way to ensurethat problems do not escalate out

o control. At E.ON Hungria, every

project has standard milestones and

its status is monitored monthly at

company level and more requently

at a regional level. For cost overruns,

the project manager has to request

additional budget and go through an

approval process, says Mohnen.When developing a monitoring

ramework, it is important to bear

in mind that no two capital projects

are alike. The logistics involved in

building a power station in a remote

location in Siberia are dierent rom

building a similar plant 50 miles

rom Budapest, says Wilkinson.

For example, there will be costsassociated with transporting the

workorce, challenges getting work

permits and a dierent pay structure.

It is important to complete a

scoping exercise to identiy the

actors that could introduce delays.

This includes everything rom harsh

weather to the insolvency o a

supplier. There could be hundredso actors so it is important to

appoint a risk manager who

understands what the main risks

will be and then engages with the

There is a lot ofroom for improvement

in the economics ofrunning projects

tibor almssy, pwC, hunGary

masterfile


15/56

15pwc.com/transorm

customer and supplier to defne an

efcient means o managing these,

says Wilkinson.

However, the risk review does not

have to be incredibly complicated. It

could be as simple as a 30-minute,

monthly review o the engineering

cost sheets with the customer and

supplier to ensure they are in linewith expectations on both sides.

buildinG up eXpertiseFor public sector organisations

that have several energy projects

in the pipeline, this could be a

good opportunity to build up their

governance skills. People are oten

the biggest risk on a project, saysDoug Downing, partner and leader

o IT services or CEE at PwC. It

is important to assess whether you

have the right skills in place and

whether your business partners have

put enough expertise and knowledge

into the project. I they have not, how

will you deal with that?

Another important actor is toensure that you have the right IT in

place and avoid complexity having

too many dierent systems and a

lack o integration can be a classic

cause o problems. Partners on

a project have to work towards

the same objectives, on the same

schedule. Employing a turnkey

contractor, responsible or overseeingthe whole project, can help prevent it

ragmenting into 50 dierent pieces.

Cost overruns on big capital

projects can be eye-wateringly

large so every stakeholder has to

be aware, and slightly araid, o the

consequences i things go wrong.

You have to make risk a point o

pain or everybody involved. Anengineer looks at the risk dierently

rom the IT guy and the fnance guy,

but they all have to understand that

it is important, says Downing.

The fnancial crisis has ocused

minds on how to produce

large capital projects that are

economically viable. Today energy

companies have to back up

their investments with corporate

guarantees because banks are

not willing to provide o-balance-

sheet fnance or projects. Energycompanies are building up portolios

o projects that make more fnancial

or economic sense, rather than

looking at each power plant as a

one-o, says Tibor Almssy, a

partner at PwC in Hungary.

This is starting to have a knock-

on eect on the governance o

projects. Typically, when new powerplants have been built in the past,

the whole process rom design to

delivery has been project managed

to achieve an optimal result rom

an engineering and technical

perspective, says Almssy.

By contrast, the next generation

o energy inrastructure needs to

be built using a better system orassessing and allocating risk over

the lie cycle o each project. There

is a lot o technical expertise in the

industry, but there is also lot o room

or improvement in the economics

o running projects. This requires

modelling to be done to get the right

balance between the commercial

risk, fnancial risk and the technicalspecifcation o the project, he adds.

Common goals and eective

cooperation between the public

and private sectors will be critical

i the region is to meet its energy

inrastructure needs over the next

25 years. I the right lessons are

learned, it should be possible to

shrink the unmanageable to moremanageable proportions. n

Dawn Cowie is a reelance business

and fnance editor and writer.

p e C i a l r e p o r tC a p i ta l p r o j e C t s a n di n f r a s t r u C t u r e

ntl shbkv, PwC pt, y txu hul b hgh k mg lt

ru

Uncertainty about the macroeconomic outlook and the

increasing volatility o capital markets means that risk

management is a much higher priority or inrastructure

investors than beore the nancial downturn. Tax issues

related to inrastructure projects should be as high on theradar as any other risks. For example, is an investment

structure, particularly a holding structure, tax ecient?

Such questions are especially important when choosing

a jurisdiction or joint ventures and consortiums, as well as

the nancing o projects. Loan nancing can oten lead to

negative tax implications, which can be avoided through

careul consideration o all the possible options.

Delays in the recovery o VAT related to construction

costs can also lead to signicant cash-fow issues.Structuring construction contracts in a way that

minimises these delays can improve the cash-fow

position o a project.

Regulations in some Russian regions provide or tax

incentives or investors, particularly investors in energy

projects. Normally, the incentives include exemption rom

property tax and a reduction o the prots tax rate or a

certain time period. At investment stage, it is important

to review the regional regulations to take advantage otax incentives.

The Russian government has recently been promoting

public private partnerships (PPP) as an ecient tool

or the development o inrastructure projects. Careul

analysis o PPP agreements is needed to ensure that

payments and other conditions o the agreement

are clear and benecial rom a tax standpoint.

Experience shows that the young and developing PPP

regulations can create uncertainty about how regionaltax authorities will interpret the tax treatment o PPP

agreements, particularly where there are contradictions

with ederal laws.


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cEEs nuclEar PiPElinE

17pwc.com/transorm

the mobilisation o vast resources

over a lengthy period o time. Again,

as nuclear programmes are a highly

complex undertaking, watertight

project, process and systems

management is part o the solution.

Challenge 3: skills

Scarcity o people with the requiredexpertise is another hurdle. There

are not currently enough nuclear

scientists around, and there are

not yet enough people going to

university to study nuclear science,

explains Almssy. On top o this, the

latest nuclear technologies are very

dierent rom 20th-century ones, and

there have been relatively ew newprojects in the past two decades

which means that much o the

nuclear skills base is not equipped to

handle the requirements o running

modern nuclear power plants.

Part o the solution to plugging

this skills gap is embarking on

joint ventures with overseas

energy organisations that havebuilt up more recent experience o

nuclear power projects. General

Electric, Mitsubishi and EDF

are participating in discussions

regarding potential projects in

Poland, or example.

Challenge 4: loCaTion

and publiC supporT

It is quite difcult to fnd a location

oering three important things

required or a nuclear project: a

sufcient water supply, proximity

to the existing national grid

inrastructure and distance rom

centres o intense public opposition

to nuclear power plants.

The choice o site or RomaniasCernavoda plant illustrates other

considerations that need to be

made. The location was chosen

due to the geological structure o

the soil, the low seismic activity

o the region that is generally

sae rom the earthquakes that

aect the south and east, and the

availability o the water supply rom

the Danube.

How much o a problem is

public opposition to nuclear powerin the CEE region? In Poland,

public attitudes are relaxing as

people see nuclear as an eective

channel or bolstering energy

independence and reducing

reliance on ossil uels, says Luba.

However, i you ask: Do you want

a nuclear power station to be built

15km rom your home? it will

remain a huge issue.

The solution, he says, is or

governments and energy companies

to engage in an open discussion

with citizens. With carbon emissions

and energy security continuing

to rise up the agenda, and with

many power stations entering thelast stretch o their lie cycles, it is

a discussion that should happen

sooner rather than later.

Scott Payton is a regular contributor

to numerous publications including

Spectator Business, The Spectator

and Financial Management.

p e C i a l r e p o r T

C a p i Ta l p r o j e C T s a n d

i n F r a s T r u C T u r e

souc:WodNuc

aocon,bbc.co.uk,

TheBalticCourse,WodNucNw,ru

russia

Plans to increase

nuclear power

generation rom16% to 25%-30% o

total energy mix by

2030 by building 26

new reactors.

CzeCh republiC

Six existing nuclear

reactors generate about

one-third o the countrys

electricity. Czech utility EZ

issued a tender last year

to build two new nuclear

reactors on the existing

Temeln site. The winning

bidder is expected to be

announced in 2012.

romania

Two nuclear reactors

already operational,

generating almost 20%

o the countrys electricity.

Government has well

advanced plans to build

two more through public

private partnerships.

Four existing nuclear

reactors generate more

than one-third o the

countrys electricity.

The Hungarian

parliament

has expressedoverwhelming support

or building two

new reactors.

esTonia

In February 2009, the

government approved

plans to build a nuclear

power plant by 2023.

poland

State-owned Polska Grupa

Energetyczna plans to develop two

nuclear power plants that together

will generate around 6,000MW as a

frst stage o nuclear development.

liThuania

Plans to build a new nuclear

reactor to replace the Ignalina

nuclear power plant, which was

closed in December 2009.

hungary


18/56

Adviser of the Year

to Private Equity


Europe










success.







Mike WilderTel: +48 22 523 4413

[email protected]

Czech Republic

Miroslav Bratrych

Tel: +420 251 15 2084

[email protected]

Poland

Joanna Simonowicz

Tel: +48 22 523 4213

[email protected]

Russia

Jonathan Thornton

Tel: +7 495 232 5711

[email protected]




19/56

pwc.com/transform

The ride aheadIt is time to establish a credible

new body to help deliver

Russias infrastructure needs

The growing demand or

inrastructure worldwide

continues to put pressure on

public budgets, especially

in countries with fscal defcits. Higher

energy prices as well as demographic,

social and environmental concerns also

add to the strain on public fnances.

The drivers or investment may vary

rom country to country but demand

continues to rise. The UK and US need

signifcant investment to upgrade or

replace aging inrastructure, while other

economies are aggressively ocused on

building new inrastructure to acilitate

economic growth.

Russia aces the same challenge as

most large economies at the moment

how to upgrade its inrastructure in order

to provide high-quality public services

and remain competitive in an increasingly

global economy. It is difcult to source

accurate data but inormed sources have

quantifed inrastructure plans in Russia.

The numbers are staggering. Current

plans call or 17,000km o new roads,

3,000km o new railroads and more than

100 airport runways. They also call or

expanding annual port capacity by 400m

tons o cargo.

This is one o the worlds largest

inrastructure shopping lists and

only covers some o the headline

requirements. In 2007 the then President

Vladimir Putin announced that $1trn

would be spent on inrastructure by

2020, with a third coming rom the

ederal budget and the rest rom

Mark Okes-Voysey is managing partner o PwCs advisory practice in CEE.

corbis

non-budgetary unds and companies.

In September 2009, President Dmitry

Medvedev reiterated the Russian

Federations commitment to using private

fnance, stating that the government

cannot allocate budget unds to all the

projects that it needs to support, that is

why we [the government] need public

private partnerships (PPP).

How can Russia successully meet

its PPP demands over the coming

decades? The government may

consider constructing a credible

administrative ramework empowering

one government body with the legislative

authority to originate and implement

PPP projects. This body which could

be called Inrastructure Russia

should be able to resolve issues as they

arise on projects. It should provide a

new strategic ocus across the range o

inrastructure sectors, assessing how

inrastructure investment is planned,

prioritised, fnanced and delivered.

Responsibilities o Inrastructure Russia

should include:

l Developing a strategy or the countrys

inrastructure over the next fve to

50 years

l Identiying and attracting new

sources o private sector investment

in inrastructure

l Prioritising the governments

investment in inrastructure

l Supporting the delivery o major

inrastructure projects and

programmes, helping to build stronger

inrastructure delivery capability

across government.

Inrastructure Russias frst role should be

to publish an inrastructure plan with a

ocus on PPPs. This publication should:

propose suitable sectors or PPP; give

plans or PPP within individual states;

suggest legislation and regulations to

promote and monitor PPP projects;

and initiate the drating o model or

standardised PPP project agreements.

It would be solely responsible or these

areas and should provide a coherent

message or the advancement o PPPs

in Russia. The Russian PPP market is

evolving. In todays globally competitive

market, it is important or Russia to

develop the rameworks undamental to

the success o its market, so that it can

compete or investment. n

This is an edited version o an article

that frst appeared in Law and

Management XXI Century magazine,

published by the Moscow State Institute

o International Relations.

p e c i a l r e p o r t

c a p i ta l p r o j e c t s a n d

i n f r a s t r u c t u r e


20/56

20

CEE

on the move?

F

ollowing decades o underinvestment,

CEEs transport inrastructure is in need o

upgrading to enable the region to continue

to develop economically. Not only are there

domestic imperatives or getting networks

up to scratch, but commitments have also

been made on a pan-European level: the

Trans-European Networks (TEN-T) initiative, which seeks to

ensure that integrated road, rail, water and air travel networks

are in place across the European Union (EU) and beyond, was

enshrined in the Treaty o Lisbon in 2007.

There is little available data on how much will need to be

spent to bring the regions roads, railways, ports and airports

up to Western European standards, although PwC estimates

put the gure at around 500bn over the next 20 years.

So where will the money come rom? Following the

nancial crisis, many o the regions public nances are

in poor shape. Hungary, Latvia and Ukraine have needed

support rom the EU and International Monetary Fund to

restore nancial and economic stability. Other countries are in

better shape, but still have to manage public resources more

careully than in the past.

The answer may well be private capital through public

private partnerships (PPPs). PPPs have already been used in

a number o transport inrastructure projects in the region to

varying degrees o success, yet the nancial crisis appears

to have sharpened governments ocus on involving the

private sector. Estonia, or example, is soon to launch a tendermasterfile

CEE badly needs improved transport networks to foster further economic

development. Public private partnerships are one way of funding this, but

success depends on careful planning and structuring

Words: Vicky Meek

or a 170m road project. And Latvia is extending its PPP

programme; it has already launched a tender or its rst PPP

road pilot project, the 140m E77 Riga-Senite stretch, and the

opening o bids is expected on 30 September 2010.

setting a good example

One project that has already got o the ground and that other

countries can learn rom is Slovakias R1 Expressway project.

This 52km dual carriageway, which connects the towns o Nitra

and Tekovsk Nemce, is the countrys rst major motorway

PPP project to reach nancial close. The act that the project

reached this stage is remarkable because o its size at more

than 1bn, it is large by any standards and, because the

government did not have to give nancial guarantees, an

achievement in todays market.

According to Karel Kolr, director in the inrastructure team

in PwCs Czech Republic oce, several actors were in place

that contributed to the success o the process. These included

the involvement o international advisers rom the start and the

use o standard legal documentation where possible. Another

actor was the decision to use availability payments (where

the government pays according to the availability o specied

services, encouraging repairs to be made during o-peak

hours) rather than tolls or shadow tolls (where the government

pays according to trac volume). The whole approach to the

project was very sensible right rom the beginning which meant

that when the nancial crisis hit we were in good shape to deal

with it, he says. The government also took a pragmatic stance


21/56

pwc.com/transormpwc.com/transorm

Newer countriesto PPP will have to adoptthe standards o moredeveloped markets i theyare to have any success in

getting projects fnancedand completed

nick allen, pc


22/56

22

over the dicult nancing environment.

Instead o cancelling the procurement

when market debt terms altered ater

the appointment o the consortium,

it agreed to most o the increased

terms in return or improvements in

renancing contracts.

Flight to quality

Yet attracting international nance

in the rst place will not be easy in

the current climate. Over the short

term, there has been a fight to quality

among investors. At the height o the

PPP boom, two to three years ago,

there was a lot o money chasing

deals, and governments could aord

to be demanding and innovative,

says Nick Allen, a PwC partner

specialising in inrastructure nance.

Now private capital is a more

scarce resource, it is tending to go

to less risky markets and less risky

projects. This means the countries

newer to PPP, like many in CEE,

will have to adopt the standards o

more developed markets i they are

to have any success in getting these

transport projects nanced and

completed, he says.

It will be a steep learning curve or

many countries. While some, such

as Poland and Hungary, have a track

record in PPPs, others have no such

experience to draw on. As a result,

many countries are not prepared or

the complexities involved in ensuring

projects are bankable, negotiating

with the private sector and with

understanding which risks can and

cannot successully be transerred.

One o the main actors or

governments is risk allocation. For

some, PPPs are attractive because

they help shit liabilities o the

balance sheet. Yet past experience

shows that projects can ail to get

o the ground i governments seek

to transer too much risk. Payment

mechanisms have been a particular

problem, says Marzena Rytel,

director o the transport, inrastructure

and public sector team in PwCs

Warsaw oce. This is especially so

when governments try to transer

demand risk and trac levels turn

out to be too low to provide adequate

revenue or the private operators.

There is a temptation to shit as much

risk as possible to the private sector

that makes negotiations dicult, and

in the market at the moment, deals

will ail because o it.

the political dimension

The other key issue is politics. With

elections every our years or so and

the act that many CEE countries

have coalition governments, the

commitment to see projects through

to close is oten absent. Political

instability or a lack o support or

projects will make banks run away,

says Werner Weihs-Raabl, head o

inrastructure nance and public

sector at Erste Group, the Austrian

bank. Even i you make it to the

next round, there is a risk that an

incoming government will cancel the

process, leaving you with millions o

euros in sunk costs.

Elections in the Czech Republic,

or example, have cast doubt

on whether planned projects will

go ahead. There is still a bit o

uncertainty about how things will

evolve, says Kolr. The parties

currently in talks to orm the new

government mentioned transport

inrastructure as one o the

priorities including transport PPP,

which is a good start. What is not

Under constrUction: A amp f aa PPP pj cee

Country Project Procurer Project details Size (m) Likely t imetable

Czech RepublicHighway PPPprogramme

Ministry o Transport DBFO (Design, Build, Finance andOperate) schemes to be considered

Minimum500 each

Project procurementpotentially romend 2010 to 2013

H ungar y F EREX rai lway lin k MV Zrt; Ministryo Transport andEconomics

Railway link between Ferihegyairport and Budapest city centre

200 Under investigation

PolandHigh-speed trainline

Polish Railways

Construction o new high speedrailway, connecting western Polandwith the countrys capital. Private

sector involvement under analysis

4,000Project in preparationphase likely to beoperational in 2020

RomaniaSibiu-Pitestihighway (116km)

CNADNR(National Companyor Motorways andNational Roads inRomania)

Public debates on the environmentalimpact o the motorway inDecember 2009. The trafc studyhas been fnalised

3,500, accordingto the easibilitystudy

Not yet clear

masterfile


23/56

23pwc.com/transormpwc.com/transorm

internAtionAl best PrActice

ppp

, .

t :

liv ,

v

,

z

le v v . ppp

vv

v v f

v

v

lm

. a

v v

lu "" v

v v

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.

p e c i a l r e p o r tc a p i t a l p r o j e c t s a n d

i n F r a s t r u c t u r e

very helpul, though, is that

they would preer PPP with

demand risk to be borne by

the concessionaire. Recent

elections in Slovakia may pose

similar question marks over

some proposed PPP projects.

One other problem CEE

has aced in recent times has

been getting nance or larger

projects. Some governments

are now splitting them into

smaller, more bankable and

more manageable phases

and these seem to be

getting a better reception

in international markets.

Governments need to think

about smaller projects, says

Weihs-Raabl. This will help

restore trust with developers

and banks and once that has

happened, the region can

start thinking once more about

bigger projects.

Provided governments are

willing to learn lessons rom

the past, the prospects or

transport PPPs in the region

seem bright. With so much

investment required in the

inrastructure, capital will need

to be sourced rom the private

sector. And while the nancial

crisis may have parked some

projects that have ailed to

raise unding in recent times,

over the longer term, those

that are prepared to ollow

best practice standards

and stay the course will nd

interest aplenty.

Vicky Meek is an award-

winning business and

fnance journalist.

Political instabilityor a lack o support

or projects will makebanks run away

werner weihs-raabl, erste group


24/56

Adviser of the Year

to Private Equity


Europe










success.







Mike WilderTel: +48 22 523 4413

[email protected]

Czech Republic

Miroslav Bratrych

Tel: +420 251 15 2084

[email protected]

Poland

Joanna SimonowiczTel: +48 22 523 4213

[email protected]

Russia

Jonathan Thornton

Tel: +7 495 232 5711

[email protected]



c o m m E n t


25/56

pwc.com/transform

Roadside assistanceEuragig lal prdui

will help ge Russias auive

idusry bak he rad

revery

The global downturn was slow

to hit the Russian car market.

Few anticipated that, when it

did, Russias slump would turn

out to be around twice as severe as any

market in the world and that unit sales in

2009 would all by about 50% rom 2008

levels. First hal fgures rom 2010 show a

market continuing to struggle to recover,

with overall unit sales little better than the

previous year, at the height o the crisis.

Producers o oreign brands in Russia

are outperorming the market with an

impressive 32% growth in unit terms

and a dramatic 62% increase in dollar

terms compared to the frst hal o 2009.

However, much o this perormance

is down to import substitution the

additional $1.6bn spent on locally

produced oreign brands has been oset

by a $1.2bn all in spending on imports.

Despite the dramatic all in demand

rom 2008 to 2009, the 15 or so

major OEMs (original equipment

manuacturers) that have invested in

car production in Russia are sticking

to their plans. Peugeot/Mitsubishi

have gone ahead with the launch o

production at their actory in Kaluga,

joining Volkswagen. At an estimated

cost o450m, this is currently the

second highest value o investment

behind Volkwagen. Both are set to be

eclipsed by the planned 2.4bn Sollers/

Fiat investment in Tatarstan.

Providing in excess o three million unit

annual sales, the Russian market could

Stanley Root is automotive industry leader and a partner at PwC in Russia.

corbis

just about accommodate its unusual

profle o so many oreign players, each o

which is hoping to outdo its competitors

in a race to carve out a long-term,

sustainable share o the market.

However, with demand alling, many

OEMs are struggling in the short term to

cope with lower than planned levels o

production. Those that have hedged their

bets with a balanced strategy o local

production and continued import are

having to rebalance heavily in avour o

the ormer as the demand or expensive,

hard currency imports shrinks.

Current market conditions may

discriminate against imports, but two

major actors inhibit the growth o local

production the relatively low quality o

auto components manuactured

in Russia and the very low levels

o unit demand rom any one

Russian automotive actory or any

one component.

The Russian governments 10-year

strategy or the automotive industry

highlights the need to attract signifcant

amounts o oreign investment into local

car parts production, but given the

problems this part o the industry aces,

investors are unlikely to commit without

signifcant government support.

There is a more undamental challenge

setting up and running a medium-sized

business is not a process undertaken

lightly in Russia. And yet worldwide,

the car parts industry has its roots in

an extensive, complex and energetic

network o SMEs.

During the past two years, there has

been a growing realisation at all levels o

the need to tackle these issues i Russias

strategic engineering capability is to be

preserved. Regional administrations such

as Kaluga and Tatarstan are making

strenuous eorts to attract oreign

investment by streamlining

the processes o doing

business within their

territories.

At stake is the

countrys ambition to

modernise its economy

and secure long-term

employment and wealth

or its citizens. It is now

understood that the

high-tech engineering

skills that are essential to

the automotive sector are

equally central to the overall

modernisation o the economy.

The skills that

are essential tothe automotivesector are equallycentral to the overalleconomy

25


26/56

2626

Small,and perfectlyformed

masterfile

Se pats f Easte Epe

esaped the eess e

pssle eas s the gwth

ad stegth f the egs

-sesses

Words: Christian doherty

m i c r o - b u S i n E S S E S


27/56

27pwc.com/transorm

The owner o themicro-business shouldspend their time runningthe business and notflling in orms

Stee klop, pwc, czech republic

While the developed

economies o

Western Europe

and the US have

spent the past

ew years looking nervously at growth

statistics, trade gures and share

prices, some countries have escaped

the worst o the global nancial crisis.

Indeed, many countries in CEE

have continued to post healthy

growth gures. For example, Kosovo

last year recorded 4% GDP growth,

which this year is orecast to be

5%-6%, compared to growth o

less than 1% in the UK (see box on

p.29). This can in part be explained

by structural advantages, principally

less consumer indebtedness and

less exposure to the international

nancial system, while the regions

reliance on its small and micro-

business sector is another key actor.

One-th o Macedonias economy is

in the grey market, according to the

CIA Factbook, illustrating how much

micro-businesses on the ringe o

the economy contribute in terms o

employment and wealth creation.

There is a positive correlation

between the number o SMEs [small

and medium-sized enterprises] in

a country including start-ups

and economic growth, says Peter

Jungen, president o the SME Union,

an organisation that lobbies or small

business at a European level.

While the positive role o SMEs is

well documented, what exactly is a

micro-business? In a 2009 report,

European SMEs under Pressure,

the European Union describes them

as employing between ve and 10

people, and says they are most

prominent in construction, hotels and

restaurants, business services and

parts o retail and wholesale trade,

and are heavily orientated towards the

market or domestic consumption.

Wide Spread

In CEE, micro-businesses are mainly

ound in consumer businesses,

services industries, technology and

the entertainment and media sectors.

Karel Havlcek, vice president o the

Association o Small- and Medium-

Sized Enterprises and Crats in the

Czech Republic, says the Czech

SME sector, traditionally strong in

the automotive and mechanical

engineering sector, has recently

recorded a surge in innovative sectors

such as biomedicine and nanotech.

Whatever the sector, micro-

businesses are embedded in the

abric o Eastern Europes economies.

Thousands o micro-businesses grew

up during the 1990s, in the years

ollowing the all o Communism.

But as their numbers have grown, so

have the obstacles they ace, such as

lack o government support at both

national and EU level. However, as

Stee Klop, private company services

leader CEE at PwC in Prague, points

out: In the CEE region, it seems that

micro-businesses fourish despite

27


28/56

28

government policy, not

because o it.

Jungen agrees. I they

thrive, itll be purely down to them

and will have nothing to do with

the advice theyve received rom

Brussels. In terms o governance

and putting in new ideas and

promoting micro-businesses by

providing incentives or role models

to mentor, theres not very much

coming rom Brussels.

reducing red tape

In Jungens view, the main problems

are both administrative and nancial.

Research backs this up. According

to the World Banks Doing Business

2010 survey, Eastern Europe has

the worst ranking o any region

in terms o procedures to ollow

and the time it takes to complete

a simple administrative task. For

example, acquiring a construction

permit takes on average 264 days

in Eastern Europe, compared to 157

days in the OECD member states.

masterfile

Crisis is opportunity

M-ssss SMes ss cee

w m y s. c my

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xs, sys Wbi w r pss. ts ss,

w w sm it xs m m sm w

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Wbis it ss, s s m, my ss,

m w. pss s

my w y y.

nw, Wbi s s s ms y c

cm cmm. t my w it y

cms i d css aws (s .6).

Many believe that this lack o

attention and assistance must

be tackled, on both a national

and European level. But what

can governments and European

agencies do to oster micro-

businesses? First, pay attention

to them and second, lower the

administrative burden they ace,

says Klop. In my experience o

working with micro-businesses,

although they are small, they still

have a lot o mandatory orms

to ll in, and in that respect theres

usually no dierence between

micro-businesses and SMEs, and

the mid-market.

Jungen has spent the past

10 years advocating the rights

o smaller businesses. Whats

needed in these countries is

the introduction o one-stop

government agencies or SMEs and

start-ups. So that means that the

ounder o a new rm only has to

deal with one government oce,

maybe on a regional level. And that

oce will deal with all issues to do

with SMEs permits, licences, tax

and so on, he says.

In Bucharest, the authorities are

planning to establish such an oce.

However, across the region, the

range o measures enacted to help

In termso governanceand putting innew ideas andpromotingmicro-businesses,theres not verymuch comingrom Brussels

peter jungen, SMe union

m i c r o - b u S i n E S S E S


29/56

29pwc.com/transorm

one to WatCh

kss s my s s m

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micro-businesses fourish is narrow.

Access to nance has been limited

as European banks retrench ater

the credit crisis. Until that changes,

small and medium-sized rms will

struggle to access loans to expand

their companies.

In response, some governments

have lowered taxes to help

companies struggling with cash

fow. One o the most popular

measures has been the introduction

o fat tax rates. Within days o

taking power in April, the new

Hungarian government proposed

a series o sweeping tax reorms,

the central plank o which was the

introduction o a fat income tax o

16% and a corporate tax o 10%

or SMEs. Similar fat tax regimes

in Slovakia and Romania have

resulted in higher budget revenues

because the lower rate reduced

tax evasion.

Currently six out o the eight

ormer Communist countries that

joined the EU have a fat tax so

that is very positive, says Jungen.

In his view, there are some clear

regional dierences in the levels

the small businesses in them, are

very conservative. That means that

they had more nancial reserves

than the bigger companies. They

were better prepared to cope with

the downturn when it hit. Normally

small amily businesses are looking

beyond the next quarter earnings,

and are more ocused on the

long term and thereore build up

reserves or the bad times.

However the CEE economies

develop over the next two years,

it is clear that micro-businesses

will be crucial to any success in

the region. Having played such

an important role in sustaining

the regions economies during the

recent downturn, the owners o

micro-businesses will be hoping

their governments support them in

the years to come.

Christian Doherty is a fnancial

journalist, specialising in

corporate governance, risk and

accountancy issues.

o understanding o the issue. The

countries o the western Balkans,

or example, get mixed reviews.

Serbia is still dominated by state-

owned businesses, but Macedonia

is racing ahead and they have

a great understanding o the

importance o SMEs and micro-

businesses. But Serbia and Croatia

are still nding it hard to make that

leap and change their economy.

The Czech governments

support o the SME sector is also

relatively strong. A recent survey

o the European Association o

Crat, Small and Medium-Sized

Enterprises (UEAPME), the largest

European employers association,

evaluated governments compliance

with the EU Small Business Act,

and the Czech Republic came top.

Im not saying it is the best

marketplace here, and as an

association o SMEs we have to

continuously put pressure on the

state, but in comparison to the

rest o the world, the conditions

here are not at all bad. Joining the

EU helped our companies a lot,

namely to those orientated towards

exports, says Havlcek.

Poland has long been one o

the leading CEE countries or

micro-business, along with

Romania. But in some countries

such as Ukraine, Hungary and

Belarus, the ocus remains on

attracting large multinationals to

the country more than developing

indigenous small rms.

conServative outlook

Whatever the country, there is

little doubt that micro-businesses

have enjoyed an easier time than

their large corporate counterparts.

But size alone cannot explain that

statistic, as Klop says: I think those

countries that were less aected by

the nancial crisis, and by extension


30/56

30

Fggahead By he ed o he decde, Posh coppemg fm KGHM ps o be mjogob compy. Geogphc d podcdvesfco e js p o how CEOHebe Wh eds o ge hee

Words: dominic dudley

c o m p a n y p r o F i l e


31/56

31

year we have PLN1.6bn worth o

investments planned and, ater

the frst hal o the year, there are

no risks as ar as achieving those

plans is concerned, says Wirth.

The strategy, which Wirth is

leading, is the latest in a series o

evolutions o KGHM. Its history

dates back more than 50 years to

December 1959, when the Minister

o Heavy Industry ormed the state-

owned Lubin Mine Company to

exploit copper deposits, which had

been discovered in the region two

years earlier.

In 1961, the companys

name was changed to Copper

Mining and Smelting Industrial

Complex, or Kombinat Grniczo-

Hutniczy Miedzi (KGHM) in

Polish. In September 1991, it was

transormed into a joint stock

company, KGHM Polska Mied,

and in July 1997 it listed its shares

on the Warsaw Stock Exchange.

The government remains the

largest single shareholder in the

company, with a 32% holding.

pwc.com/transorm

K

GHM is a company

in transition. From

its base in Lubin,

in the southwest o

Poland, the business

is aiming to become a globally

signifcant copper producer while

also moving into new industries

in its home market. The company,

whose accounts will be audited by

PwC rom 2010 onwards, is already

one o Europes largest copper

producers and is planning to

increase its copper production by

40% to 700,000 tonnes a year. But

it also wants to earn as much as

30% o its revenues rom outside

its core sector by 2018.

The most signifcant target or

diversifcation is power generation

and supply. Last year, KGHM

bought stakes in wind arm

operator Biowind and thermal

energy frm WPEC in Legnica,

and in June this year it bought a

stake in Tauron Polska Energia.

KGHM has set itsel the target o

controlling 3% o the Polish energy

market by 2020.

Diversifcation is just one

element o a broad

growth strategy, which

KGHM set out in

2009 and which also

includes improving

its productivity,

developing new

minerals resources

and enhancing its in-

house skills.

The most important

event o the past ew

years was setting the companys

strategy ocused on innovation,

says KGHMs president, Herbert

Wirth. I KGHM does not change,

we will witness a constant increase

o costs.

In all, the company plans to

invest PLN19.8bn ($6.2bn) in this

strategic overhaul. It invested

PLN1.2bn last year and will

spend even more in 2010. This

MininG COrE

These days the KGHM group contains

more than 30 subsidiaries ranging

rom health services frm MCZ to

tourism company Intererie and the

Zagbie Lubin ootball club. Between

them, they employ some 28,000

people. Notwithstanding the unusually

diverse nature o its subsidiaries, the

core o the company remains very

frmly in the mining and refning o

The outlook for demandis positive and the supply sidelooks even better

HErBErt WirtH, KGHM

copper and precious metals, rom

what is the largest single deposit

o copper in Europe.

The company operates three

mines Lubin, Rudna and

Polkowice-Sieroszowice. The

copper ore extracted rom them

is transported to processing

plants where it is enriched to

produce copper concentrate.

That is sent to the companys

smelters where it is reined into

anode copper which is reined

into copper cathodes. From these

cathodes, wire rod and round

billets are produced.

The copper production process

leads to a number o other

products. Most importantly, the

anode slime rom the refnery is

used as a raw material or the

extraction o precious metals,

including silver and gold. Other

by-products include lead, nickel

Mine


32/56

This years publication marks our seventh

annual survey o the top 40 mining companies by

market capitalisation, provides a comprehensive

analysis o the fnancial perormance and position

o the global mining industry and also discusses

current trends in the global mining industry.

pwc.com/mining


CEE Mining LeaderJohn Campbell

Tel: +7 495 967 62 79

[email protected]

Global Mining Leader

Tim Goldsmith

Melbourne

Tel: +61 3 8603 2016

[email protected]

MineBack to the BoomReview o global trends in the mining industry 2010

2010 PricewaterhouseCoopers. All rights reserved. PricewaterhouseCoopers reers to the network o member frms o PricewaterhouseCoopers International Limited,each o which is a separate and independant legal entity.

c o m p a n y p r o F i l e
mailto:[email protected]:[email protected]:[email protected]:[email protected]


33/56

33pwc.com/transorm

sulphate, copper sulphate and

sulphuric acid.

The environmental impact o these

processes is potentially huge, but

KGHM has invested heavily to try

to minimise the danger. It has three

industrial waste-water treatment plants

and has built desulphurisation and

dedusting plants.

In the past, copper smelting in

particular had a signifcant impact

on the environment, says Wirth. As

a result o long-lasting ecological

investments, the emissions into the

atmosph

Documents

Transform Issue 6