Russian aviation suffers from state interference – report

(Moscow News – themoscownews.com – September 4, 2013) Faced with state interference and a too-heavy focus on military production, Russia’s aircraft manufacturing industry stands at a crossroads, when competitiveness can either be regained after its Soviet heyday or lost.

This is the conclusion of a report by the analytical firm Strategy Partners Group, released ahead of last week’s MAKS airshow outside Moscow.

In assessing the weaknesses of the industry, the analysts cite manufacturers’ failure to respond to a changing international market by expanding outsourcing, the way industry leaders outside Russia have done over the past few decades.

“The problem in Russia specifically is that we have not taken this route,” said Artyom Malkov, senior principal at SPG. “Our final producers for the most part, in conglomerates of a range of enterprises, are closed-cycle, and if they manufacture, they strive to manufacture to the last bolt…. Why do we still note these obsolete [business] models remaining in Russia? Mostly, they remain because the industry is extremely dependent on military orders.”

Company competition

In the aviation industry, competition has evolved to occur not between individual products, but between companies. Russia’s corporate reputations suffer when customers doubt that they will be able to fulfill long-term contracts.

“Why is the production of United Aircraft Corporation [the state-owned umbrella company for major manufacturers such as Sukhoi and Irkut] not being purchased? In the first place, because these companies have not patented themselves as reliable producers of aircraft,” Malkov said. “To sign a contract for the purchase of, say, 50 [civilian] planes… with UAC it’s impossible, because its regular disruptions of production plans do not generally allow one to rely on it.”

Demand for new civilian aircraft worldwide remains high, as aging and less efficient planes need to be replaced. Boeing has estimated the need among Russian and CIS companies at 1,140 new aircraft over the next 20 years, with a total value of close to $130 billion.

The fleet of state airline Aeroflot currently consists of six Ilyushin-96s and 10 Sukhoi Superjet 100s, compared to 110 Airbuses and nine Boeings of different models, according to Aeroflot’s website. By 2020, however, the airline is planning to take on 126 aircraft of Russian production.

A narrowing window

Russian companies have the ability to break into the market, SPG said, but the window is narrowing with the ambitions of new Chinese and Japanese firms.

The report says that the very structure of the industry in Russia keeps companies from developing the reputation necessary to compete internationally, an ability held in check by the dominance of military production – an area where Russia does have a strong international presence.

According to data from the Stockholm International Peace Research Institute, UAC generated 80 percent of its 2011 revenues in arms sales, $4.4 billion.

The Moscow-based Center for the Analysis of the Global Arms Trade released a report last week placing Russia in the top position worldwide for sales of multi-role fighter jets, RIA Novosti reported. Between 2009 and 2012, the country sold 224 new jets for around $9 billion, first in terms of volume, but second to the United States in terms of value.

Russia is likely to retain its position through 2016, the center said, based on potential sales to China, Vietnam and Syria, though the current conflict in Syria could disrupt the last deal.

In-house production

The high rate of military production gives companies an incentive, through the pricing structure, to keep the entire process in house, instead of developing independent component manufacturers, SPG said.

“Eighty-nine to 90 percent of [product] launches are, one way or another, directly linked to military orders,” Malkov said. “As a result, pricing under state orders is formed under the 20-plus-1 system, that is, 20 percent of profitability is guaranteed for proprietary processes within a company, 1 percent for the purchase of components.”

The Russian industry is therefore contradicting international practice by not spreading participation in aircraft manufacturing among a range of specialized companies.

“We are not stimulating the evolution of independent suppliers and the concentration of manufacturers on assembly and development, but, conversely, we are stimulating a highly vertical integration of manufacturers in production,” Malkov said.

Redirecting state support

While government financing remains crucial to the industry, the report holds that it should be redirected to research and credit, away from support for specific company projects and production. One of the most important tasks, however, is to reduce state involvement in company management, leaving that to an independent board of directors.

The directors, then, will be able to complete the restructuring process to secure the Russian industry’s competitiveness – one of the key tasks the report lays before domestic companies.

“We can probably take some kind of [example] from the automobile industry, how the Japanese came onto the world car market: Starting with small engines, they gradually moved higher and higher, and are now making sensational landmark cars,” Malkov said. “That is, with similar production, similar to what Embraer and Bombardier are now making: Starting gradually from regional planes, they are trying more and more to enter these [larger] segments.”

Weapons, travel and biofuels

More than $12 billion in deals were inked at this year’s MAKS airshow, RIA Novosti reported, with military and weapons agreements dominating.

UAC drew up a $2.5 billion agreement with the Defense Ministry for servicing aircraft, avionics and equipment, but deals were also struck by the MiG aircraft maker and the MiL helicopter manufacturer with the Indian and Cameroonian militaries for equipment and helicopters, respectively.

On the civilian side, further agreements for the Superjet were reached, including two separate contracts for a total of 20 airplanes from the Ilyushin Finance Corporation, Sukhoi said in a press release. The customers were undisclosed.

Sukhoi also delivered its first long-range Superjet to a commercial carrier, making it the first one of that type to be put into commercial use.

State industrial development company Rostec, meanwhile, was also active, signing a letter of intent with Canadian manufacturer Bombardier for 50 Q400 NextGen planes, with a potential for 50 additional aircraft, amounting to a $3.39 billion firm-order contract based on list prices, Bombardier said in a press release on its website.

An assembly line facility in Russia would produce aircraft for customers here, the company said, and both sides are looking for definitive agreements in 2014.

RT-Biotekhprom, a Rostec subsidiary, and Airbus also reached an agreement to research the development and use of biofuels from renewable sources for use in aviation. They expect the first results in the second half of 2014.

[featured image is emblematic file photo of random passenger jet, not necessarily directly connected to article subject matter]