Source: Fotolia

Russian Automotive Market Study 2014

May 2014

Russia at the crossroads

2

> Russia has so far not lived up to observers' optimistic expectations; the majority of players are struggling with local sales and production. Current geopolitical and macroeconomic challenges add to the concerns

> We believe Russia is still an attractive market – and while it must not be ignored, it should not be overestimated: – Short- and medium-term automotive sales will stagnate due to weak macroeconomic conditions and the current

political situation – The next 2-3 years are going to be difficult – We expect the market to recover and grow in the long term, reaching approx. 3.3 m units in light vehicle sales by

2020 (<2% CAGR 2012-2020) – The earlier forecast of 4 m vehicles no longer realistic – There are significant risks to this long-term forecast, mainly due to the fragile macroeconomic and political

situation, unclear market support and delayed modernization/diversification of the economy

> The concerns about Russia as an automotive production location have increased further: – Advantages of local production vs. imports will diminish due to expiration of preferential terms for local

manufacturers (decree 166), decrease in import duties and weak overall cost competitiveness – Even with subsidies for local manufacturers at the current level, the share of imports will grow – In most cases

production of smaller-volume models (<25,000 units p.a.) no longer profitable by 2020 – Approx. 40% of foreign brand volume currently produced locally is at risk of being imported in the future – Risks of automotive deindustrialization and overcapacity will make the business model especially of contract

manufacturers obsolete; less localization of suppliers and less local content endanger the entire industry

> If actions are not taken very soon and in a coordinated way, the deindustrialization scenario will become reality, and require even higher investments with less ability to influence development at a later stage

Management summary

Source: Roland Berger analysis

3

© Roland Berger Strategy Consultants

Contents Page

A. Study background and objectives 4

B. The market – Long-term growth, but the double-digit rates are over 7

C. The industry – Higher import shares increase the risk of deindustrialization 18

D. The to do's – Top priorities in Russia for the coming years 40

4 Source: Fotolia

A. Study background and objectives

5

> A significant number of studies on the Russian automotive market and industry have been issued over the past few years, all with an optimistic view of the future

> However, in our projects and discussions with major players, serious concerns and multiple difficulties were mentioned: – Decreasing sales and production volumes in the recent past – Continuous challenges faced by international OEMs in fulfilling the assembly/

localization obligations accompanied by unclear, frequently changing regulations – Slow transformation process of the industry, making Russia fall even further

behind developed and other emerging markets – Weak macroeconomic development, and no clear vision of the country for a

future path to prosperity – Current geopolitical issues (Crimea crisis), which further increase uncertainty

> With this study, we aim to draft a scenario for Russia that takes into account the opportunities of the market as well as the current difficulties and potential risks

So far, Russia has not met the optimistic expectations outlined in multiple earlier studies

Source: Roland Berger analysis

6

We focus on providing an objective view for 3 questions about Russia's automotive future

1. How will the automotive market in Russia develop between now and 2020? (Chapter B)

2. How important is local production in Russia for being successful, and what direction is auto-motive production industry taking? (Chapter C)

3. What do major stakeholder groups need to do to make Russia a more attractive automotive location/become more successful? (Chapter D)

7 Source: Fotolia

B. The market – Long-term growth, but the double-digit rates are over

8

Today, Russia is the world's 7th largest market in light vehicle sales and the 5th largest in truck sales Sales in the top 10 global markets, 2013

Source: IHS; Roland Berger analysis

Light vehicles [m units] Trucks ['000 units]

Rank 1

2

3

4

5

6

7 8

9

10

3.6 3.0 0.6

0.4

1.4

2.1

0.3

France 0.3 1.8

15.7 5.1

United Kingdom 2.5 2.3 0.3

Russia

Canada 1.7

15.6 13.1 2.5

China 20.8

Brazil

2.6 0.5 Germany 3.2 2.8

2.8 2.6 0.2

India 3.0

Japan 5.2 4.5 0.6

United States

Light commercial vehicles Passenger cars

Rank 1

2

3

4 5

6

7

8

9

10

Indonesia

28

25 54

Canada

79

Russia 69

Germany

41

16

13

France 7

114 85

29

Brazil 148 102 46 India 210 112 98 United States 349

72

164

China 1,047 759 289

85

Japan 35 42

38 34

186

MDT (6-15t) HDT (>15t)

9

Over the last 10 years, Russia was one of the world's largest contributors to growth, especially for foreign players Absolute growth in light vehicle sales, 2003-2013, top 10 countries [m units]

0.3

Saudi Arabia

0.4 0.4

Turkey

0.5 0.5

Thailand

0.7

0.7

Argentina

0.8

0.8

Indonesia

0.8

0.8

Russia South Africa

0.3

1.6

2.0

-0.4

India

2.2

0.9

1.3

Brazil

2.3

2.3

China

16.7

9.7

7.0

18% 5% 9% 9% 9% 21% 14% 9% 13% 11%

Local OEMs International OEMs CAGR

Source: IHS; Roland Berger analysis

10

After a strong comeback following the crisis, the Russian market cooled down in 2013 and will be even weaker in 2014 Russian market sales development, 2008-2014 [m units]

CAGR, 2008-2012

CAGR, 2012-2014

> Base case scenario for 2014 forecast assumes: – Economic growth of ± 0% – Continuation of political crisis, but no

additional and more severe sanctions against Russia

– No action taken to support the market (e.g. car financing program)

> Potential alternative scenarios for 2014: – Best case: 1-3% market decline

vs. 2013, which requires fast resolution of political crisis, market support actions, improvement of exchange rate

– Worst case: up to 20% market decline if the political crisis escalates and more severe sanctions against Russia are implemented

0%

2014F

2.56

2.41

0.15

2013

2.77

2.59

0.18

2012

2.95

2.76

0.19

2011

2.69

2.48

0.21

2010

1.90

1.77

-7%

2009

1.47

1.37

0.10

0.14

2.96

2.74

0.21

-6%

2008

PC LCV

-2.5% -10.5%

+0.1% -6.5%

Impact of Crimea crisis taken into account

Source: IHS; Roland Berger estimates and analysis

11

The market will return to growth, but at a much slower pace than previously forecasted Russian market sales development, 2012-2020 [m units]

0.2 2.9

1.1

1.4

0.2

0.2

2015

2.7

1.0

1.3

0.2

0.2

2014

2.6

1.0

1.2

0.2

0.2

2013

2.8

1.1

+3.5%

0.2 0.2

0.2

2016 2012

3.2

2019

1.5

1.2

0.2 0.3

2018

3.1

1.2

1.5

0.3 0.2

2017

2.9

1.1

1.4

0.2

1.2

1.3

0.2 0.2

1.3

-6.7% +6.2%

2020

3.3

1.2

1.6

0.3

3.0

Volume Premium LCV Entry segments

CAGR, 2012-2020

2%

0%

5%

2%

> Short- and medium-term development (2014-2016): – Base case: Recovery effect due to

market decline in 2013 and 2014 – Heavily dependent on further

development of political crisis and short-term market support actions

> Assumptions of base case for long-term development (2017-2020): – Stable macroeconomic and political

environment – Moderate market support actions

> Limited upside opportunities to this forecast, which require: – Stronger economic growth than

forecasted today (not considered realistic)

– Support actions which enforce faster replacement of older cars

> Strong downside risks to the long-term forecast if Russia is politically and economically isolated

Source: IHS; Roland Berger estimates and analysis

12

Forecast

Forecast Forecast

Forecast

+2% CAGR +5% CAGR

2020

1.2

2018

1.1

2016

1.1

2014 2012

1.0

2010

0.9

2008

0.9

2006

0.8

2004

0.7

2002

0.6

2000

0.6 1.0

2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 2020

5.9% 5.9% 5.8% 5.7%

5.5%

7.5% 6.4%

7.2% 8.2%

8.0% 10.6%

Our base case scenario assumes that the Russian economy will continue to grow moderately and in a stable way… Assumptions about macroeconomic development in Russia

Source: Economy Ministry (April 2014), Euromonitor; Fitch; IMF, Roland Berger

1) At fixed FX and at constant 2005 prices

Real GDP development [USD bn]1)

Unemployment rate [%]

Consumer price index [%]

USD:RUB exchange rate

36363535

31

302527

29

31

28

2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 2020

2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 2020

3.9% 4.4% 5.1% 5.9%

5.1%

6.8%

14.1%

9.7% 10.9%

15.8% 20.8%

13

…well knowing that macroeconomic risks in Russia remain high – And opportunities for stronger growth are rather limited

0 20 40 60 80 100 120 140

2,600,000

2,400,000

2,200,000

2,000,000

1,800,000

1,600,000

1,400,000

1,200,000

1,000,000

800,000

2009

2008 2007

2006

2005 2004

2003 2002

2001 2000 1999

1998 1997

2012 2011

2010

Source: Euromonitor; Oxford Economics; interviews; Roland Berger

Key macroeconomic risks

Dependence of nominal GDP on Urals oil brand prices Nominal GDP [USD at PPP]

Urals oil price [USD per barrel]

High dependency of the overall economy on the revenues from energy exports (oil, oil products, gas)

Limited diversification of the economy – growing imports of manufactured and innovative industries, limited domestic development

Uncertainty linked to shale gas development and its potential impact on the global energy and industrial landscape

Weak ruble and unclear further currency support by the government

Growing internal and external political tensions (emergence of opposition, conflicts with EU, Ukraine, Belarus)

14

Even in our optimistic scenario, 4 million vehicles by 2020 are no longer realistic – No long-term growth in the pessimistic scenario Growth scenarios, 2008-2020 [m units]

Source: IHS; Roland Berger estimates and analysis

2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020

2,4

3,9

2,7

1,2

3,3

1,8

3,6

3,0

1,5

2,1

3,6

3,2

2,7

3,4

3,1

2,7

3,3

3,0

2,6

2,9

2,7

2,4

3,7

2,6

3,1

2,9

2,5

2,7 2,9

3,3

2,8

2,9 3,0

1,9

1,5

2,7 2,8

Base case Pessimistic case Optimistic case

Light vehicle sales [m units]

FORECAST

-7% 6% 3.5%

-2% 6% 5%

-12% 3% 3%

CAGR, 2013-2014

CAGR, 2014-2016

CAGR, 2016-2020

Strong dependence on possible escalation level of the crisis

15

Expected absolute growth in our base case scenario is still attractive, but not enough to make Russia the no. 1 market in Europe by 2020

Top 10 markets by absolute growth, 2013-2020

Rank 1

2

3

4

5

6

7

8

9 10 0.3

0.0

Russia 0.5 0.5 0.0

Indonesia 0.5 0.4 0.1

Italy 0.6 0.6 0.1

Iran 0.6 0.5 0.1 Spain 0.6 0.5 0.1

United States 0.8 0.9 -0.1

Brazil

Germany

1.0 0.1

India 2.8 2.2

1.2

China 9.6 8.2 1.4

0.3

0.6

Light commercial vehicles Passenger cars

Rank 1

2

3

4

5

6

7 8

9

10 2.0 Italy 1.8 0.2

France 2.5 2.1 0.3

United Kingdom 2.6 2.3 0.3

Russia 3.3 3.1 0.2

Germany 3.5 3.1 0.4 Japan 4.4 3.9 0.5

Brazil 4.8 4.1 0.7

India 5.8 4.7 1.1

United States 16.4 14.0 2.4

China 30.4 23.9 6.5

Top 10 markets – Absolute growth and total market, light duty vehicles [m units]

Top 10 light duty markets, 2020

Source: IHS; Roland Berger analysis

16

However, we assume that the "quality" of the market will remain high, mostly due to relatively high share of larger-vehicle segments Passenger car market by segment cluster, 2020 [m units; %]

92% 84%62% 56%

27% 27%

8% 16%38% 44%

73% 73%

India China Brazil Russia Western Europe United States

4.7 23.9 3.1 13.4 4.1 14.0

A and B segments C+ segments Shares

Source: IHS; Roland Berger analysis

17

> Despite current challenges, Russia remains one of the most important and attractive automotive sales markets in the world: – No. 7 market in the world today with sales volume of about 2.8 million vehicles – Strong absolute growth prospects of 0.5 million additional vehicles by 2020, leading to total sales

volume of some 3.3 million vehicles in our base case scenario – Comparably high share of larger vehicles (60% share of "≥ C-segment" vs. 30% in Brazil and India),

providing a good opportunity for higher margins

> However, the time of double-digit growth rates is over: – 2014 is going to be another weak year – And 2015 and 2016 will still feel the impact from the current

crisis – Overall economic development, with growth rates of approx. 2% p.a. until 2020, provides only

minor support for long-term automotive market growth – Sales of 4 million vehicles by 2020 no longer within reach

> Downside risks in Russia remain very high, while upside opportunities vis-à-vis current forecasts are limited

> Due to its size and potential, Russia's automotive sales market must not be ignored – but should also not be overestimated

Key takeaways

Source: Roland Berger analysis

18 Source: Fotolia

C. The industry – Higher import shares increase the risk of deindustrialization

19

We see a strong risk of growing import shares and deindustriali-zation of the Russian automotive industry Major facts and trends impacting the automotive production industry in Russia

1 Comparably low sales volumes in the local market do not provide competitive economies of scale, nor will they in the future

2 Export potential is limited mainly to CIS countries, not providing significant additional production volumes

3 Underutilized capacity in European plants, which produce mainly the same models as Russian plants, increase OEM's pressure on Russia

4 Difference in import duties for CBU1) vs. components will decrease from approx. 25% in 2014 to only 8% in 2020, making imports more attractive

5 Expiration of all obligations regarding local content and capacity in Russia by 2018 at the latest provide additional flexibility for OEMs

6 Currently short-term-oriented subsidy strategy does not provide a clear long-term direction, especially for international OEMs in Russia

A

Diminishing cost benefits of local production in Russia

7 Overall economic environment is not competitive, limiting the attractiveness and cost benefits of local production

B Higher import shares, reaching up to 50% of total market

C Several production sites at risk of downsizing or even closure

Source: Roland Berger analysis

1) CBU = Completely Built Unit, fully assembled vehicle

20

Average local sales volumes in Russia are significantly lower than in other regional markets, leading to lower scale effects

1 Comparing sales volumes

Sales volumes of top 10 passenger car models/platforms, 2013 ['000 units]

NAFTA Europe Russia

83

259

India

115

Brazil

161 -71%

China

286 351

Avg. sales volume of top 10 models Avg. sales volume of top 10 platforms

Source: IHS; Roland Berger analysis

NAFTA Europe Russia

142

546

India

176

Brazil

178

-75%

China

573 668

21

Export opportunities have so far been exploited only in Kazakhstan, Ukraine, Belarus and Azerbaijan – Total approx. 113,000 units

Source: Russian customs statistics, Roland Berger

Key Russian export markets in 2012 ['000 vehicles]

2 Exports

Kazakhstan

Russia

Ukraine Azerbaijan

Belarus

49.4

37.0

11.6

8.6

Total export – 113,000 vehicles in 2012

"Other markets" – Total: 5,900 vehicles p.a. Exports of fewer than 100 cars p.a. or no exports at all – Total: 400 vehicles p.a.

Main export destinations – Total: 106,600 vehicles p.a.

22

In the future, we do not expect exports to expand to other coun- tries – And overall exports will even drop due to the Ukraine crisis

Potential target regions Russia's competitiveness in these regions

Countries where exports are competitive: > Kazakhstan > Azerbaijan > Belorussia > Ukraine1)

Country/ region

B/C segment volumes – hatch. sedan, SUV [m units]

Filter

Russia's focus export markets in 2020

2 Exports

China NAFTA Western Europe South America India Middle East ASEAN Central Europe North Africa CIS

15.7 7.6 7.4 3.6 2.2 1.7 1.5 0.8 0.7 0.6

Product suitability (safety, emissions, customer criteria)

Production cost

Geographical proximity/logistics cost

Import duties

Competition (local/other supply markets)

1) Export opportunities to Ukraine expected to decrease due to the current political situation

Source: IHS; Roland Berger analysis

23

By 2020, CIS will continue accounting for the majority of export volumes, and not provide significant additional economies of scale Expected competitiveness of Russian exports in 2020

2 Exports

Region Product suitability

Production cost

Logistics cost

Import duties out of Russia

Competitive environment

Overall assessment

China Strong local industry 0 – – – – –

NAFTA (vs. Mexico) Strong local industry – – – – –

Western Europe Plants in Central Europe Niche models only 0 + – –

South America Strong local industry – + – – – –

India Strong local industry – – – – – – – –

– – ASEAN Strong local industry/ supplies from Asia

– – – – – –

Central Europe High productivity plants Niche models only + + – – – –

Middle East Local assembly plants Niche models only + + – –

North Africa Local assembly plants Niche models only 0 0 – –

CIS Weak local industry + + 0 0 + +

– –

– –

– –

– –

– –

– –

–

–

+

Backup

– –

– –

–

– –

– –

–

–

–

+

– –

– + Competitive for exports Not competitive for exports Source: Roland Berger analysis

24

Majority of Russian plants operated by international OEMs are thus too small to be cost-competitive vs. their European peers…

3 Scale effects for Russia

Production capacity of Russian plants ['000 units p.a.]

50757575100100100120120160200200300

750

150

Atvto

vaz

Izhev

sk

Hyun

dai-K

ia St

. Pete

rsbur

g

Atvto

vaz

Togli

atti

Volks

wage

n Ka

luga

PSA/

Mitsu

bishi

Kalug

a

GM

St. P

etersb

urg

Niss

an

St. P

etersb

urg

GAZ

Nizh

ny N

ovgo

rod

Gene

ral M

otors

Togli

atti

Toyo

ta St

. Pete

rsbur

g

Solle

rs-Fo

rd

Nab.

Cheln

y

Solle

rs-Fo

rd

Elab

uga

Ford

Vs

evolo

zhsk

Rena

ult

Avtof

ramo

s

Solle

rs Ul

yano

vsk

Typical plant volume in other markets: 200-400,000 units p.a.

Source: Roland Berger analysis

25

…which have free capacity and make Russian plants compete vs. incremental cost base

3 European production

Source: PWC autofacts; IHS; Roland Berger analysis

Plant capacity utilization in Central and Western Europe

0

10

20

30

40

50

60

70

8025

20

15

10

5

0

18.6

14.5

4.1

2019

18.8

14.7

4.1

2018

18.7

14.7

4.0

2017

18.2

14.1

4.1

2016

17.3

13.4

3.9

2015

16.8

13.2

3.5

2014

16.1

2020

3.4

2013

15.9

12.6 12.7

2012

15.8

12.6

3.2 3.3

Production volumes in WE Production volumes in CE Capacity utilization

26

Decreasing import duties for CBUs and increase in import duties for components make CBU imports into Russia increasingly attractive

5 Import duty regulation

Import duties

Utilization fee

Other

Overview of regulations, incl. CBU and component import duties

Source: Roland Berger research

2013

CBU import

> New car (1-3l engine): EUR 600-1,150

> No further regulation

> Passenger cars: 25% > SUVs: 23%

2020 > Passenger cars: 13-15% > SUVs: 12-15%

Local production

> New car (1-3l engine): EUR 600-1,150 > Compensation for utilization fee

through subsidies of a similar amount

> Additional benefits from local governments possible (zero property tax rate, discounted tariffs for utilities)

2013 (components)

> 0-1% based on decree 1661)

2020 > 7%2)

∆ = 25%

∆ = 8%

1) Decree 166 expires in 2018 2) Additional support due to higher import duties for local manufacturers in 2018-2020 announced, but not yet detailed

27

The obligations of OEMs to achieve a certain amount of local content and capacity in Russia expire by July 2018 at the latest

6 Localization obligations

Production agreements of locally producing OEMs in Russia

Source: Roland Berger research

Old terms Modified terms SEZ1) status No agreements

2014 2018 – – Expiration

OEMs/manufacturers

Minimum capacity ['000 units]

25,000 350,000 – –

Local content target 30% 60% – –

Stamping localization Not required Required – –

R&D center Not required Required - –

Engine localization Not required Required – –

1) Special Economic Zone

28

The current subsidy program in Russia simply returns the scrap-page fee to local manufacturers – No long-term development focus Overview of Russian government financial support program, 2014-2016 [EUR bn] Est. add'l scrappage fee from local manufacturers, 2014

Government spending on support for the automotive industry

> Following disputes with the EU, local manufac-turers in Russia also need to pay the scrap-page fee from 2014 on

> The proposed increase in financial support of the automotive industry is almost equal to the expected scrappage fee from local manufacturers

> No subsidy strategy that: – Clearly focuses on

developing the industry – Applies beyond 2016

2016

2.17

0.11

2015

2.16

0.23

2014

2.02

0.20

2013

0.21 Russian truck OEMs

CIS truck OEMs Int’l truck OEMs Russian car OEMs

Int’l car OEMs

2014

1.93

0.42 0.09

0.19

0.40

0.84

Source: State Duma; interviews; press research; Roland Berger

7 Short-term-oriented subsidy strategy

Approved budget after October 2013 Initially planned before October 2013 1) EUR 1 = RUB 45

29

The mechanism for subsidies so far provides a cost advantage of approx. 5-10% vs. CBU import – Impact after 2016/18 not clear yet

Source: Industry Ministry, Roland Berger analysis

Subsidies paid to car manufacturers in Russia1)

7 Short-term-oriented subsidy strategy

1) EUR 1 = RUB 45 2) Special Economic Zone: Kaliningrad and Far Eastern Federal District 3) Limited to 90% of actual cost of the manufacturer

Maximum subsidies per company per year [EUR m]3)

Maximum subsidies per car [EUR]

Scrappage fee per car [EUR '000]

Engine displacement

Subsidies per car [EUR '000]

Euro 4 engines

>3.5l 2.4

3-3.5l

0.4

2-3l

1.5

1-2l 0.6

<1l

1.1 Euro 5 engines

0.3 0.3 0.3

0.9

0.4 0.3 0.3

1.0

Engine >2l Engine <2l

Russia without SEZ1)

SEZ1)

Russia without SEZ2)

SEZ2)

650 790 780 530 530

211

>400,000

178

22 11

106

200-400,000

89

11 6

100-200,000

78

67 8 3

50-100,000

40

33 4 2

<50,000 cars

16 13 2

1

R&D Energy Employee subsidies

30

Competitiveness of overall economic environment1)

Source: Roland Berger research

8 Factor cost disadvantages

Russia still lacks competitive advantages in major economic dimensions, limiting the cost benefits of local production

E c o n o m i c d i m e n s i o n s

Automotive industry Industry average Average Very good Problematic Average Very good Problematic

Energy costs

Low energy cost in Russia due to local power production and current subsidization – but strong increase expected

Access to raw materials

Strong overall focus on raw materials – but so far not in automotive-grade quality

Infrastructure/ logistic costs

Underdeveloped infrastructure, increasing logistics cost and decreasing benefits of individual mobility

Labor costs

Low labor costs compared to international standards – but also low productivity

Workforce availability/ skill level

Shortage of skilled workforce and high fluctuation in automotive clusters

1) Compared to EU-27

31

The result: Local production in Russia will suffer from cost disadvantages if no significant subsidies are provided Incremental cost advantages of local production vs. CBU imports [EUR/car]1)

Source: Roland Berger estimates

A Cost competitiveness of local production

2014 (current subsidy level) 2020 (without any subsidies)

> By 2020, international OEMs will suffer from the cost disadvan-tages of production in Russia: – If same model is manufactured

in home region in parallel (incremental cost)

– If no significant subsidies are provided for production in Russia

> Subsidies of approx. 500 EUR/car (current level) required to achieve breakeven for models with 25,000 cars/year (vs. European cost level)

> Small volume production no longer beneficial in Russia

620

50,000 cars p.a.

1,520 1,160

10,000 cars p.a.

25,000 cars p.a.

-500

60

10,000 cars p.a.

-1,360

25,000 cars p.a.

50,000 cars p.a.

1) Calculated for international OEMs with local production in Russia vs. European cost level; volumes relate to single models

32

Under current regulations and import duties, local production can be cost-competitive even compared to incremental costs

A Cost competitiveness of local production

Rough cost comparison of CBU imports vs. local production, 2014 [EUR/car]

Source: Roland Berger estimates

Main assumptions

> CBU value: EUR 10,000

> Material cost: EUR 7,000

> Comparable costs between CBU import and Russian production assumed for: – Logistics – Labor – Fixed cost

production

SCENARIO 2: 25,000 CARS p.a.

SCENARIO 1: 50,000 CARS p.a.

5001,520

-700

1,720 -300 -200

-280 -0 2,500

500

Incremental cost

advantage, LP

1,160

Subsidy, LP Lost contribution, home region

-700

Full-cost advantage,

LP

1,360

Specific production investment

-400

Specific localization investment

-320

Local sourcing, Russia

-420

Import duties,

LP (0%)

-0

Import duties CBU

(25%)

2,500

LP = local production in Russia

Backup

Approx. 40% localization

10% higher local cost

EUR 50 m EUR 75 m

Approx. 30% localization

20% higher local cost

EUR 40 m

EUR 50 m

33

By 2020, cost competitiveness of Russian production evaporates – Significant subsidies required to justify local production

A Cost competitiveness of local production

Rough cost comparison of CBU imports vs. local production, 2020 [EUR/car]

Source: Roland Berger estimates

Main assumptions

760

600

-700

-300 -240 -0 -200

1,500

-500

200

Incremental cost advan-

tage, LP

Subsidy, LP

0

Lost contribution, home region

-700

Full-cost advantage,

LP

Specific production investment

-400

Specific localization investment

-400

Local sourcing, Russia

-200

Import duties,

LP (7%)

-300

Import duties,

CBU (15%)

1,500

LP = local production in Russia

Backup

Approx. 60% localization

Same cost level

EUR 60 m

EUR 75 m

Approx. 40% localization

10% higher cost

EUR 50 m

EUR 50 m SCENARIO 2: 25,000 CARS p.a.

SCENARIO 1: 50,000 CARS p.a. > CBU value:

EUR 10,000 > Material cost:

EUR 7,000 > Comparable

costs between CBU import and Russian production assumed for: – Logistics – Labor – Fixed cost

production

34

Production of models with 10,000 units p.a. is justified with subsidies today and will not be cost-effective by 2020

A Cost competitiveness of local production

Rough cost comparison of CBU imports vs. local production, 2014/2020 [EUR/car]

Source: Roland Berger estimates

Main assumptions

SCENARIO 3: 10,000 CARS p.a. (2020)

SCENARIO 3: 10,000 CARS p.a. (2014)

500620820

-700

-800

-600 -280 -0

2,500

-660

Incremental cost advan-

tage, LP

-1,360

Subsidy, LP

0

Lost contribution, home region

-700

Full-cost advantage,

LP

Specific production investment

-800

Specific localization investment

-800

Local sourcing, Russia

-210

Import duties, LP

-350

Import duties, CBU

1,500

LP = local production in Russia

Backup

Approx. 20% localization

20% higher local cost

EUR 30 m

EUR 40 m

Approx. 30% localization

10% higher cost EUR 40 m

> CBU value: EUR 10,000

> Material cost: EUR 7,000

> Comparable costs between CBU import and Russian production assumed for: – Logistics – Labor – Fixed cost

production

EUR 40 m

35

Share of imports into Russia could exceed 50% after 2020 – 600,000 units of foreign brands made in Russia at risk by 2020 Russian market structure, 2013 vs. 2020 ['000 units]

Source: IHS; Roland Berger analysis

LCV

33% (1,099)

8% (280)

Russian car brands – Local production1) Foreign car brands –

Confirmed imports 18% (589)

7% (217)

10% (339)

24% (798)

Market structure, 2013 Expected market structure, 2020

Foreign car brands – Import

44% (1,228)

Foreign car brands – Local production

31% (856)

Russian car brands – Local production1)

18% (507)

LCV 7%

(181)

∑ 2.8 m units ∑ 3.3 m units

Foreign car brands – Currently local production, but risk of imports (after 2020)

Foreign car brands – Currently local production, but risk of imports (before 2020)

Foreign car brands – Expected local production

1) Export volumes not considered

B Higher import shares

36

We designated nearly all models with fewer than 25,000 units p.a. as "at risk" – And assume production is already being subsidized

> Volume below 25,000 units p.a. (assumes continuous provision of subsidies in Russia)

> Alternative larger-scale production of same model in Europe, China or India (2x Russian volume)

Calculation of volumes at risk ['000 units] Definition of "at risk"

B Higher import shares Backup

SOP after 2018

280

SOP before 2018

339

Volumes at risk

618

Volumes >25,000

p.a. or no alternative

-798

Suitable for production

1,416

Import (no production

site or plans)

-1,099

Foreign cars

2,515

Less Russian brands

and LCV

-805

Total sales, Russia,

2020

3,321

Risk to lose volumes

Risk to lose volumes before 2020

Source: IHS, Roland Berger analysis

37

A number of OEMs likely to cease production in Russia by 2020 – Negative impact on supplier localization and contract assemblers Impact on selected OEM brands localized in Russia

Source: IHS, Roland Berger analysis

Share of volume at risk, 2020 [%]

Production volume, 2013 ['000 units]

<30% 30-70% >70%

>250

50-250

10-50

<10

> Overcapacity as a consequence

> Exit of several players from production activities in Russia

> Chinese brands likely to be completely imported in the future

> Business model of contract assemblers (Sollers, Avtotor, Derways, GAZ) especially at risk of becoming obsolete

C Production at risk

38

As a result, several sites in Russia at significant risk of strong decline – With negative overall impact on the industry Impact for production sites

30-50% 50-70% >70%

Moscow

Cherkessk

Izhevsk

Kaliningrad

Kaluga

Lipetsk

Nab. Chelny

Nizhny Novgorod

Vsevolzhsk St. Petersburg

Elabuga

Shushary

Vladivostok

Source: Roland Berger analysis

Togliatti

Volume at risk: <30%

C Production at risk

39

> Concerns about future development of Russia as an automotive production location have increased

> Due to comparably small local production volumes, non-beneficial WTO terms for the automotive industry, low cost competitiveness and several other factors, imports will become increasingly attractive

> Even assuming subsidies for local manufacturers at the current level, economic advantages of local production vs. import decrease/disappear: – Low-volume models of foreign brands no longer profitable in Russia (<25,000 units p.a.) – Approx. 40% of currently locally produced foreign models (or approx. 600,000 units) therefore at risk of

being imported in the future – Without subsidies and long-term support of local manufacturers, even higher import shares expected

> Result: Overcapacity, concentration on high-volume models for local production, lower overall local content and increasing business risks (especially for contract assembler business models)

> Lower local content level of foreign OEMs will have a negative impact on supplier localization, and thus also negative consequences for Russian OEMs

> Urgent actions required to limit the impact of deindustrialization

Key takeaways

Source: Roland Berger analysis

40 Source: Fotolia

D. The to do's – Top priorities in Russia for the coming years

41

Top 3 actions stakeholder groups can take to optimize their situations – Actions need to be coordinated across different groups

International OEMs

> Reconsider investment and localization decisions in Russia, and thereby reduce risks of burning cash

> Renegotiate localization obligations in place through 2018 > Revise long-term portfolio of locally produced models and

manufacturing footprint

International suppliers

> Clearly focus on selected large-volume customers and regions (e.g. Avtovaz, VW, Kamaz)

> Focus on products that can be competitively produced in Russia even without subsidies

> Apply a staged investment approach and share investment risks with OEM customers

Government > Develop a long-term vision and

strategy for the industry > Increase competitiveness of the

industry – infrastructure, subsidies, RUB exchange rate

> Consider renegotiating terms for automotive industry with WTO

Russian OEMs > Improve technological/cost position

to survive over the long term > Bundle local purchasing power to

attract international suppliers to Russia > Take the lead in coordinating

lobbying of the government

Contract manufacturer > Create closer links and share risks

with OEM partners > Reconsider decisions for additional

investments > Prepare a Plan B for existing assets

and alternative business model

Coordinated actions required – as soon as possible

Source: Interviews; Roland Berger analysis

1 2 3

4 5

42

There is a lack of clear vision and commitment to developing the industry – This needs to be established as soon as possible Required actions by the government

Examples

Top 3 actions

> Develop a long-term vision and strategy for the industry – show the future path and ambition beyond 2020/25

> Increase competitiveness of the industry – invest in infrastructure, provide subsidies, support competitive exchange rates

> Consider renegotiating terms for automotive industry with WTO – making it appealing again to localize

Impact if actions not taken

> Higher import shares of foreign OEMs

> No development of competitive supplier industry

> Decline in domestic production and employment

> Social and economic consequences for current automotive production hubs

> Need for additional financial resources to deal with the consequences

1 Government

Source: Interviews; Roland Berger analysis

43

The Russian OEMs that survived need to continue working on increasing their competitiveness and lead the industry's lobbying Required actions for Russian OEMs

Examples

Top 3 actions

> Continue improving techno-logical/cost position to survive over the long term – irrespective of governmental support

> Bundle local purchasing power to attract international suppliers to Russia. If necessary, cooperate with foreign brands

> Take the lead in coordinating the industry to lobby the government with one voice

Impact if actions not taken

2 Russian OEMs

Source: Interviews; Roland Berger analysis

> Lower attractiveness for international suppliers

> Widening competitive gap vs. Chinese OEMs in particular – in technology, brand awareness and cost

> Decline of market share, profitability and employment

> Lower competitiveness on existing export markets

> Too late and inappropriate response by the government

44

Contract manufacturers face greatest risk from rising import shares – And need to have a mitigation/contingency plan for this scenario Required actions for contract manufacturers

Examples

Top 3 actions

> Create closer links and share risks with OEM partners – e.g. by establishing JVs, co-investment, etc.

> Reconsider decisions for additional investments – at least for those with one-sided risks

> Prepare a Plan B for existing assets and alternative business model – and transfer to it when required

Impact if actions not taken

3 Contract manufacturer

Source: Interviews; Roland Berger analysis

> Collapse of the business model with no time to react

> Market exit

45

Some international OEMs have already initiated an additional investment wave – But should carefully reconsider these decisions Required actions for international OEMs

Examples

Top 3 actions

> Reconsider investment and localization decisions in Russia – reduce risks of burning cash

> Renegotiate localization obligations by 2018 – or link them to tangible long-term support commitments

> Revise long-term portfolio of locally produced models and manufacturing footprint – downsize production in Russia if required

Impact if actions not taken

> "Burning platform" Russia – low utilization, loss-making operations, danger for brand reputation

> Delayed actions still needed and are more costly

> Potential negative impact on sales in Russia

> Potential negative impact on utilization and profits outside of Russia (if Russia continues to be supported)

4 International OEMs

Source: Interviews; Roland Berger analysis

46

International suppliers who are not yet in Russia need to reevaluate potential localization – And mitigate own risks as far as possible Required actions for international suppliers

Examples

Top 3 actions

> Clearly focus on selected large-volume customers (e.g. Avtovaz, VW, Kamaz) and regions (e.g. St. Petersburg, Kaluga, Tatarstan, Togliatti)

> Focus on products that can be competitively produced in Russia even without subsidies

> Apply a staged investment approach and share investment risks with OEM customers

Impact if actions not taken

> Incorrect allocation of funding and effort

> Risk of losing focus and success in other regions, too

5 International suppliers

Source: Interviews; Roland Berger analysis

47

> The main issues of the automotive industry in Russia have not been resolved – WTO entry only aggravates the existing problems

> There is a clear risk of declining automotive production volumes, deindustrialization and exit of certain market participants

> Action needs to be taken by all stakeholder groups in order to: – Improve the overall framework conditions and again provide economically justified reasons for

production and localization in Russia – Optimize own situation and mitigate risks, especially if framework conditions are not improved in time

> Declining production volumes are endangering not only selected players, but the entire industry – therefore a coordinated approach is required

> Action needs to be taken very soon in a proactive and coordinated way: – To avoid falling even further behind – To avoid higher investments with significantly lower impact at a later point in time – To achieve the best possible outcome for all stakeholders

Key takeaways

Source: Roland Berger analysis

Source: Fotolia