By John Helmer, Moscow
War, devaluation, and recession aren’t usually something to drink champagne to. So it was inevitable that Abrau-Durso, Russia’s only champagne house listed on the stock exchange, would suffer.
When President Vladimir Putin told the leadership of the Federal Security Service (FSB) on Thursday that “the situation cannot remain like this forever. It will change, for the better I hope,” he wasn’t exactly raising a toast in bubbly. The situation, added Putin, “will not change for the better if we succumb and yield at every step. It will only change for the better if we become stronger.”
Abrau-Durso has an anti-crisis strategy. This is to expand its vineyards; substitute home-grown for imports of wine-making materials from South Africa, Chile, and southern Europe; reduce costs and the sale price of each bottle; sell more wine at a lower margin of profit; combat what Abrau-Durso executives regretfully call “contempt for Russian wine.”
“Our anti-crisis strategy is quite simple, and can be described in a single sentence,” says the spokesman for Abrau-Durso, Daria Domostroyeva, – “ spend less, sell more. We are actively working to reduce foreign exchange costs, and reduce in our production base the costs of euro components — label, cork, foil, bottle — for our sparkling wine.”
There is no comparable Russian plan for winegrowers in Crimea – that’s to say, there is a plan on paper, but in practice it isn’t operational. Since the territory’s accession to Moscow last March, the Crimean vineyards have suffered from disinvestment, water shortage, capital cutoff, and the much heavier hand of Russian excise taxation and regulation compared to the previous Ukrainian regime. For them, there is no Russian bailout. “Abrau-Durso, said a cautious spokesman last week, “is ready to consider the proposals of Crimean farmers for purchase of their grapes. But investment in the acquisition of vineyards in Crimea now is an open question. As far as we know, the project is up to the coordination of the Ministry of Agriculture and the Ministry for the Development of Crimea, which are contributing their additions to the project.”
In short, nothing. The Moscow plan to pump at least $20 million of federal funds into Crimean winemaking, which was drafted by Boris Titov and leaked to the press last August, has failed to materialize. For details of the Titov plan, read this.
Abrau-Durso, based in the Krasnodar region near Novorossiysk, was owned through a Cyprus holding by Titov. When he was appointed by the Kremlin to be ombudsman for entrepreneurs’ rights in mid-2012, Titov transferred the company to his son Pavel, who is also chief executive. In his official capacity, Titov senior (below, right) has been meeting Putin annually, and this year’s meeting is almost due.
In April of 2012, Titov had arranged an initial public offering (IPO) for the wine company, explaining his purpose was to start fixing the market value of the business before he tried selling it to foreign investors. The launch price was Rb53. It accelerated past the rate of the MICEX index until August of 2014, when the share price peaked at Rb145. It then dropped sharply, and is now at Rb94.
In the year to date, the share has seesawed within a 30-rouble range, and is now more or less where it started. For the first time in its market history, Abrau-Durso is trading worse than the MICEX index as a whole, which is up 13% since January 1. The volume of shares traded is tiny; the free-float outside the control of the Titov family is unknown, but small.
ABRAU-DURSO SHARE PRICE TRAJECTORY SINCE 2012
The audited financial report for 2013 showed Abrau-Durso’s revenue at almost $152 million; earnings (Ebitda), almost $54 million; and net profit at $20 million. Compared to the year before, all the indicators were gaining robustly; so was debt at $80 million (net). The latest report for the first half of 2014 showed sales and profit numbers more or less stable.
Three years ago, at IPO, Titov’s market pitch was that Abrau-Durso would prosper as Russian consumption of wine would rise, in line with the movement of Russian gross domestic product per capita towards European levels, and as wine as a proportion of alcohol consumed grew from around 1% in 2010 to the European level of 25%. In theory, Russian drinkers would either substitute wine for vodka; or the vodka drinkers would die early deaths, and be replaced by younger but just as thirsty winos. Titov believed that for foreign investors the share market takeoff of Abrau-Durso would be as unidirectional as bubbles.
Timur Nigmatullin, an analyst at Finam Investment in Moscow, says the liquidity of the share issue is too small: “I would not judge Abrau-Durso by the dynamics of the shares. The negative economic situation is the reason for such a deep fall in the share price. In general, the alcohol market is now under intense pressure, if you look at the statistics for 2014. Manufacture of table wine in Russia decreased by 5.3%; sparkling wine and champagne fell by 9.4%, brandy by 7%; beer by 8.6%; vodka by 22.3%. This to say that production and sales are in decline because of reduced demand, increased government regulation, including excise charges and restrictions on advertising. Together, this makes a complex of negative influences.”
According to Vadim Drobiz (right), director of the Centre for Federal and Regional Alcohol Markets (TsIFRRA), this is a war effect and it is temporary. “First and foremost, the decline in stock prices reflects the political pressure on Russia of the EU and the United States. The effect has been seriously underestimated. Secondly, the [share price] decline may be associated with a reduction in the profits of the company. But today the company’s policy is aimed at gaining market share by increasing volume of sales. If we compare the activities of the company in 2014 with those of 2013, they produced and sold 5 million more bottles (that’s 15% more). At the same time, they seriously lost profits. This might have happened too because they did not raise their prices in the wake of the rate of inflation and devaluation of the rouble. I think they have a policy of market penetration. This may be related to the reduction in profitability.”
Drobiz believes the negative impact will be overcome within a year. “In 2008-2009, there was a widespread crisis. But that did not close the path to credit institutions from the west. In the current crisis the main negative feature is the denial of Western money. By comparison, Russian money is expensive. The Russian economy needs a year to fully adapt to the new conditions. Already we are getting used to them psychologically. In 2015 the crisis will grow as we look for ways to survive. We will find them in 2016, and by the second half of the year at least, we will improve – in the alcohol industry, too.”
A few days ago Titov junior (below, left) spelled out Abrau-Durso’s new strategy. He concedes that the devaluation is forcing the company to accelerate its efforts to increase its domestic plantings. It currently harvests from 4,000 hectares of vineyards (right). To be self-sufficient, it needs to harvest 7,000 ha. That’s a relatively slow process. In the meantime, the company must hold its bottle price down by lowering costs, and spend more on marketing the brand.
Operationally and financially, last year was a good one, Titov junior claims, conceding that the annual financial release is running late. “we have had a new record in sales. Most importantly, the whole year has been fairly stable; there were no dips in sales. Everyone knows there is a summer lull that in the market of sparkling wine, but in 2014, we reached [a record] of 2.1 million [bottle sales]. Our sales plan was exceeded. But financially, the situation has been the same as for everyone else. The lion’s share of profits was wiped out by revaluation of foreign currency and other risks.”
Titov claims that by holding down price and increasing sales volume, Abrau-Durso has already increased its market share to between 12% and 13% for sparkling wines overall, and for what Titov calls the “sub-premium” market, the share is between 60% to 70%.
To support this market penetration, Titov says Abrau-Durso must spend more on marketing and on distribution. “In 2012 we realized that we were going to have to work against falling demand for sparkling wine. We need to understand a lot of time and effort is required to market the brand. These things can be quite subjective, but if you do it methodically, the results show up sooner or later.” This month the company announced the opening of its first brand-name wine shop in Chelyabinsk, with a plan to extend these outlets by franchise across the country.
“Abrau-Durso has its turnaround plan,” Titov is emphatic. “We must work on cost – that’s key. The consumer will not be able to compensate for all the extra charges. But this isn’t to say that we are not going to raise prices. In each of the components of our wine packaging there is a [hard] currency component. The labels are printed in Russia, but all the paper comes from Europe. Even the wire in the capsule comes through the Amadon plant in Rostov from Italy.”
“The crisis for us is not a catastrophe, but rather a long pause in what has been a fairly rapid rate of development. We have stopped several projects; for example, a new winery for production of still wines. To purchase equipment for the euro now – that’s suicide, although in mid-2014 the project was absolutely profitable.”
He is also hopeful that the crisis will combat “the common enemy – contempt for Russian wine in general. Despite the hard work, there are still diehard sommeliers who do not want to work with Russian wine with the argument of ‘how can I sell it?’ In the past year [we have made] a qualitative breakthrough. At least, we can see that in Moscow. Another problem is the large margins in the restaurant business. I hope that this year the restaurants will wake up to reality.”
Yury Yudich, an analyst and project manager at alcoexpert.ru, is optimistic. “Abrau Durso is the most successful project to date on the Russian wine market. It is now number 1 in branding. The number of federal wine brands is small. Here is a situation where we have a unique Russian brand based on the historical heritage. In my opinion, their capitalization will grow. This is one of the rare cases where the brand is valuable.”
For Titov, the precondition for expansion of the area of Russian vineyards, in order to replace imported wine materials, is comparable support from the Russian state budget as other wine-growing countries provide. In Bulgaria, the per-hectare allocation is €31,000. “We’d have enough with half that amount. Of course, the vineyard area in Russia has increased, but only by means of mergers and acquisitions among existing vineyards. In practice, new growing areas have not appeared. In Crimea, there are interesting places, particularly in the Sevastopol area where we are already eyeing the wine materials. Starting this year we hope to buy from there. But there are huge logistical problems.”
This is an under-statement. From the Crimean winemakers’ point of view, the economic losses over the year since accession currently outweigh the political gains. According to the Ministry of Economic Development of the Crimea, quoted in this Moscow report last week, the grape harvest on the peninsula fell 26% to 70,000 tonnes; production of wine fell by more than 20%; and sales of Crimean wine – previously concentrated in Ukraine – failed to shift to the Russian market, not least of all because Russian licensing and retail regulations are much tougher and costlier to meet than the Ukrainian rules. Ukrainian excise taxes were correspondingly lighter. The Crimean vignerons failed to receive their money from the previous harvest, and they were cut off from bank financing for the new season. Water supplies from Ukraine were reduced; plant diseases increased; pesticides and fertilizers were cut off. Financial subsidies from Kiev for new plantings have been more generous than those from Moscow.
Until last year, roughly half of the wine produced in Crimea was consumed locally in the tourist trade, and the remainder in the Ukraine. The surge of patriotic spirit in the Russian cities has led to stocking of Crimean wine, but the price has shot up by 50% or more, and the revenue benefit has not returned to the winegrowers or shippers.
The Crimean industry is hoping that a combination of grower support and financing from the Russian Agriculture Ministry, and import substitution at the Russian frontier, will reverse last year’s losses and promote sales of Crimean-branded wine (below, left). Rouble devaluation has sharply cut the flow of competing low-priced wine from Georgia. This (right) returned to the Russian market in 2013 after sanctions were imposed at the time of the August 2008 war. But in the first two months of this year, imports of Georgian wine to Russia are down 85% compared to the year before.
According to Drobiz, the impact on the Georgians’ market share in Russia will take time to materialize. “In January and February there was a twofold drop in imports of alcoholic beverages and wine products. Absolutely all countries, which were focused on Russia, have suffered. However, even if exports from Georgia stopped entirely, for another six months there will be enough… The fact is that between mid-summer 2013 and the same time in 2014, there was a saturation of Georgian supplies, so in the [Russian] warehouses there should still be a lot of products.”