Studies Eastern European Markets
Eastern European Markets
Finnish Forest Research Institute

August 2006

Päivi Holopainen, Pekka Ollonqvist and Jari Viitanen
FACTORS AFFECTING INVESTMENTS IN NORTHWEST RUSSIAN FOREST SECTOR AND INDUSTRY
Working Papers of the Finnish Forest Research Institute.
The papers published in the series are not peer-reviewed.
http://www.metla.fi/julkaisut/workingpapers/
ISSN 1795-150X

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    Conclusions
    This report has given a short overview of the factors which are likely to affect foreign forest investments in Northwest Russia. Together with the societal break in the beginning of 1990s, the Russian forest sector has undergone a strong structural change towards more business orientated way of thinking. While most of the main investments are dated back to 1970s, the recent forest technology is mainly outdated, and the sector calls for urgent investments to develop, to meet the increased domestic demand and to survive in international competition. While the possibilities for domestic investments are somewhat limited for many reasons, the development of forest sector and industry in Russia depends highly on either direct or indirect foreign investments.
    From foreign investors’ point of view, Russian forest sector is attractive investment target for many reasons. The domestic demand for forest products is increasing along with the general economic growth and increase of purchasing power of citizens. The vast forest resources and their location near the final product markets give a good base for vertical integration of forest companies across the national boarders. Also, other factors of production, such as labour force and energy, are competitive despite that wages and inflation are increasing in Russia.
    During 1990s, international forest companies have increased their activity in Russia by investing in primary wood product capacity (sawmills, wood plate mills, pellet units). Secondary wood product industry has also started to develop through international investments (Swedwood, Incap furniture). The international intercourse has also occurred in the opposite direction: Russian companies have established investments abroad (for example, Vuokatti log cottages in Finland and Korsnäs packaging in Sweden) deepening the cooperation and vertical integration over the national boarders.
    Even though several foreign forest companies have established and increased their investment activity in Northwest Russia, there are still many obstacles and uncertainties which hinder the willingness and establishment of further (and larger scale) forest investments (see Appendix). Many of the recent investments, such as sawmills and veneer mills, can so far be seen as a pilot projects to test general investment environment in Russian forest sector, especially wood procurement. Despite of promoting both domestic and foreign investments and willingness to increase value added production, many institutional settings and recent political actions by Russian Federation have rather been impeding than supporting factors to attract direct foreign investments in Russian forest sector. Especially, the support concerning continuous and predictable wood procurement is still missing, and the future development of the domestic roundwood markets is unclear.
    While the general legislation has proceeded to give more strict rights and liabilities to operate in Russia, the enforcement of legislation is still somewhat unpredictable. Forest Code, including more detailed rules, rights and responsibilities for example for forest leasing and regeneration, has been under reconstruction for many years, and it is still uncertain if the latest version will never be ratified in its present form. Without any knowledge of the management and leasing possibilities of the forests in the future and any investment system guarantee it is a big risk to invest in infrastructure, such as forest road network and wood procurement logistics, not to mention any larger investments, such as pulp and paper mills.
    The recent increase in custom tariffs and regulations of assorting of species for exported roundwood clearly reveals how unpredictable the trade policy is in Russia. From investors’ point of view, the stands in Russia include mixed species, of which primarily coniferous logs can be utilised in the planned sawmill. Other assortments could be exported abroad, but due to the custom tariffs the profitability of the whole planned investment can be questioned. In some recent political rhetoric, there have been attitudes and addresses to ban roundwood exports either totally or partially (concerning logs) which certainly weakens the profitability of investments. This ban of course contradicts the rules of WTO, but Russia is not forced to obligate them until the membership is coming into force. Even the possibility to ban the exports in future remains uncertainty and is not in favour for planning international vertical integration across the boarders. For instance, Finnish pulp and paper industry is highly dependent on Russian deciduous pulpwood, and the reduction of hardwood imports will implicate reorganisation of production lines in Finland. Also, many societal problems starting from corruption and bureaucracy to general political risk, some to mention, are decreasing the willingness for foreign direct investments in Russian forest sector.
    Oil exports and the increasing surplus of the current account are likely to appreciate the rouble’s nominal exchange rate in the near future. Together with high domestic inflation this will weaken the international price competitiveness of Russian products. Therefore, generally the export of final forest products is probably not as profitable business as the production for domestic markets. In Russia, however, consumers are traditionally not used to utilise wood based products, such as wood based construction materials. Changes in consumers’ preferences and increase of income and purchasing power of urban citizens will however gradually increase the demand for wood based products. The general increase of prices and wages, and lack of coniferous logs, on the other hand, challenges the profitability of forest investments. To summarise, evaluation of the findings of this overview to those of the pioneer work by Nilsson and Söderholm (2002) for obstacles for foreign direct investments in Russian forestry reveals that only a slight improvement has been occurred. Many of the uncertainties remain still unsolved.
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fax +358 10 211 2101
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