Fiat made a separate agreement under the terms of the older Decree 166 and made a commitment to produce 120,000 cars per annum and invest separately in an engine and drive train plant.

We are now seeing a Russian build up by the automotive component suppliers (Tier- 1’s and Tier-2’s) following the OEM investment.

“Tier 1” and “Tier 2” aren’t offi cial terms; they are descriptive. Th e concept “tier” does not refl ect how big or important a company is but indicates who the end user of that company’s product is. ArcelorMittal is a Tier-3 supplier and is the largest steel producer in the world ranking 99th in the Fortune Global 500 list.

Tier-1 suppliers are the companies supplying direct to the car manufacturers. Th ey have been accountable not only for component fabrication into complete units (dashboards, brake-axle-suspension etc), but also for managing Tier-2 and Tier-3 suppliers within the scope of the OEM supply chain. Alongside the OEM’s, the Tier 1’s have been involved in the design process of vehicles demonstrating a symbiotic relationship and have also been dependent, to a certain extent, on the OEM for much of their global reach capability.

Tier-2 suppliers sell direct to Tier-1 suppliers (e.g., seals, gaskets, tubing, wire etc) and work to the OEM and Tier 1 design. Critically they require process-engineering skills.

Suppliers of raw materials (steel etc) to the OEM, Tier-1 and Tier 2 suppliers are known as “Tier-3” suppliers and

provide basic products. Only simple engineering abilities are required. It is against this backdrop that we must look at the nascent Russian OEM requirement and how it ties in with the Decree 166 contracts signed.

Tier 1’s are answerable, jointly with the OEM’s, for the management of the principal parts of the manufacturing supply chain. Historically (I.e. outside Russia) they have the considerable liability for coordinating the manufacturing and assembly supply chain. I choose the word ‘liability’ with care as I am implying a greater burden than ‘responsibility’ and I am suggesting that this is perhaps why there has not been a great infl ux of Tier 1 or 2 suppliers in Russia because of the very specifi c Russian challenges...

Th ese challenges need to be overcome by an industry beset with high cost, low margin and an ever accelerating competition. New arrivals from China such as Brilliance, Chery Automobile and Geely are working aggressively to win market share, following the Japanese and Korean model from the 1980s.

Geely are being creative with their Russian government negotiations and, perhaps taking a leaf from the Hyundai model, may be coming to Russia with their entire component supply chain. (A group of Hyundai suppliers opened a $200 million car component production centre close to Hyundai’s new St Petersburg plant. Th e centre includes seven Korean component suppliers: Sungwoo Hitech, SeJong, NVH, DooWon, DongHee, and ShinYoung with more expected). India Plc in the form of Tata (Jaguar Land Rover) announced their intention this week to build a Russian manufacturing capability

OEM’s and the Tier supply chain challengeFour major car manufacturers (Ford, General Motors, Renault-Nissan, Volkswagen) have signed up to the latest version of the Russian governments Decree 166, committing $4 billion in the process and promising to manufacture between 300,000 and 350,000 cars each per year with the localisation content set, at the moment, at a minimum of 60%.

LogisticsLeaderswww.logisticsleaders.org

and have not even started with an assault on the Russian lower cost segment.

Globally only a few established car manufacturers have consistently delivered satisfactory profi ts meaning the contracts signed and the billions invested in Russia are business critical. Few leading Tier-1 suppliers and only some specialized Tier-2 and Tier-3 companies achieve satisfactory profi ts. Many others have had to move from their historic home manufacturing markets to low cost countries and undergo extensive restructuring.

Russian car production used by foreign manufacturers was via Complete Knock-Down or Semi Knock-Down kits, of low strategic value to Russia. Only Ford, Renault-Avtoframos and Toyota used complete knock down or hot metal technologies and they still import hundreds of thousands of containers per year, components supplying their manufacturing plants.

Since 2000 there has been is a signifi cant decline in the Russian automotive parts manufacturing capability. Even before the 2008 crisis the Russian brands market share had dropped from 60% to approximately 20% whilst imported new cars jumped from 7% to 47%. Pre crisis Russian assembled foreign brands went from under 1% to 18% and (following the dynamic intervention of the Russian government with Decree 166) is now the most active sector of the market.

Th e reason for the abundance of SKD and CKD plants is because the Russian auto components industry lags behind global industry standards. Th e low quality of Russian auto components is a consequence of the lack of investment in the industry and because the industry has only recently started to embrace industry best practise.

Unlike their global competitors the Russian automobile plants manufactured components with a high degree of vertical integration. AvtoVaz Togliatti produced every part that went into their Lada, from the steering wheel to the steel pressings. Th e country-wide focus on in-house production capability held back the growth of independent Russian components manufacturers.

Now, of the 200 Russian component manufacturers, 95% supply only Russian OEM’s. Th ese component manufacturers are predominantly engaged in the supply for obsolete Russian car models and as a consequence, fail to match the standards set by the global OEM’s and Tier-1 suppliers.

Currently under 10% of Russian component manufacturers supply foreign OEMs with Russian manufacturing capabilities. 1% of Russian component

manufacturers export. Russia’s component manufacturers do not refl ect the global Tier divisions with heavy industry (Tier-3) providing 25% of the supplier base and the remaining made up of component segment.

Russian Tier suppliers need to replace tired and outdated equipment, suff er a lack research and development and have management used to old systems. Th ey are characteristically short of investment resources and as a consequence lack the engineering skills to cope with new products.

Compared with the global Tier-1’s and Tier 2’s, local products are of poor quality, thus preventing Russian manufacturers as is from supplying components to the international OEMs and their suppliers. Only 10% of the Russian vehicle component manufacturers comply with the automotive industry suppliers ISO Quality Management Systems, and with other requirements of production quality and engineering.

Th e global and Russian component manufacturers have limited choices.

A global component manufacturer can look at a green fi eld- site; set up a partnership or Joint Venture with a Russian entity; or licence component build. Each choice brings its own challenge and regardless means dealing with opaque systems and business practises, requires a strong committed management and a heavy investment. Russia is not to be confused with a low cost country.

A Russian manufacturer may buy in the management skill and technological know-how or enter into a JV. Th ey have concerns of being ‘over whelmed’ by their foreign partners and losing out in the long term as the local business is assimilated. Cultural diff erences create barriers as the perceived arrogance of the ‘western’ businesses creates internal clashes. Look to Big Oil for some high profi le examples of where ‘it went wrong’.

Despite this, and encouraged by the low tax incentives provided for by Russian Government Decree 566 and the potential therein, some 40 international suppliers have established Russian manufacturing bases. A commitment to manufacture in excess of 1.2 m cars per year has made Russia appealing to global component manufacturers. Growth will be rapid. Th e value of the Russian automotive components sector in 2010 was $33 billion. By 2014, this will grow to an estimated USD56bn, including USD27bn worth of OEM parts.

Most Russian component manufacturing growth is likely to be in the form of joint developments between Global

Tier 1s and established major Russian suppliers and automakers rather than Greenfi eld projects, as JVs give the benefi t of risk sharing and rapid access to the market.

Th is in itself brings great Logistics challenges as a completely new supply base supplying a massively expanded industrial base will require a more complex business operation and new supply networks. Th ese business operations and new supply chains will have to operate within the constraints of the existing regional infrastructure and manufacturing capability will grow beyond the existing regional transport, road and rail networks. Th is will squeeze capacity and push up prices. Th e component industry will face the same challenge the OEM’s have with their Finished Vehicle distribution: a lack of competition and resources leading to spiralling costs.

Th e OEM’s and Tier-1 suppliers need transparency and accountability across their entire supply chain. Information fl ow based on a two-way supply chain across the extended operation will be in demand and, at the moment, this is in very limited supply.

Th e new supply network will rapidly become complex as the various OEM’s and Tier’s interact. OEM’s and Tier-1’s cannot aff ord any breakdowns in their supply chain so their Logistics Service Providers must deliver quality in a transparent manner. Th is is a new concept in Russia and the consequence of holding Russian logistics providers responsible for a supply chain failure will be interesting, under Russian law.

In any event, there is currently a lack of transport operators providing the fl ows between the automotive clusters, and this situation is likely to get worse with such a rapid increase in business. Foreign manufacturers are likely to demand control over the Russian supply chain and will bring in their global LSP partners who will outsource to the same transport companies as everyone else.

Unless the lack of transport capacity and the poor regional infrastructure is recognised and addressed by the car manufacturers and their Tier-1 suppliers; problems will abound.

What is needed is recognition by the logistics industry, the car manufacturers and their Tier suppliers, of the opportunities for a share user network and the provision of a focused automotive logistics platform. Within Russia we have the usual challenges of maintaining the regular supply of the right parts to the right place but also the we have the challenge of the enormous distances, and delay and damage caused by poor infrastructure (Air ride

KamAz truck and trailer units are unpopular) .

Th ere is a shortage of suppliers and this will get worse. In most groups distribution of production and aftermarket service parts are not aligned. Parts delivery in most cases will be less than full truck load and regular which, given the shortage of suppliers and vehicles, demands collaboration amongst the LSP’s, yet there is very low shared user availability.

Costs will increase as new players enter in the market, exacerbating the problem and highlighting the lack of reliable, high quality transport operators who understand the Russian specifi c challenges.

Th e answer is in sector focused transport with a dedicated automotive parts Logistics service, operating shared user Trucks (double deck / hi cube) and cross docks. As the manufacturing and supplier clusters exist, now is the time for the sector to really focus and bring the part supply in line with global best practice.

Application of benchmark standards (for measurement of out of stock parts, on time in full delivery, VOR and regular resupply) will measure the performance of Tier suppliers and Logistics Providers. Both can be controlled to the same industry standard and visibility and clarity will be available across the supply chain.