Moscow–General Motors Corp., the world’s largest automaker has sealed a $332 million deal to build cars in Russia, a move seen as a show of confidence that Western companies are ready to take a chance here again, three years after the financial crisis that drove many of them away. GM’s president, Rick Wagoner, flew to Moscow to meet Prime Minister Mikhail Kasyanov of Russia and then signed documents Wednesday creating a joint venture with 
, Russia’s largest domestic car manufacturer, culminating years of difficult negotiations. —‘‘GM Joint Venture Shows Confidence in Russia,’’ The Washington Post, June 28, 2001. ‘‘It’s the beginning of Russia’s integration into the world’s car market. We cannot live in isolation anymore, and we think our buyers should be able to take advantage of the world’s experience.’’ —Vladimir 
, Chairman of , June 28, 2001
General Motors Corporation (U.S.), the world’s largest automobile company, had reached agreement on its joint venture (JV) with GAO AvtoVAZ (Russia). The JV had been GM’s solution to the problem that had confronted all Western automakers in Russia: how to penetrate a market which desired and appreciated higher quality, but could not pay for it. The problem for Russian automakers was how to gain the knowledge and technical know-how to produce higher quality and yet keep costs down. These were the forces that had driven the two parties to enter into the JV in the spring of 2001. But the subsequent ups and downs of the JV, still running in 2007, is a complex story. GM’S INTERESTS GM had made some small efforts on penetrating the Russian auto market throughout the 1990s with little success. Although the market was expected to grow rapidly, doubling in the 2001–2006 period, GM did not think the market could support an automobile which would be priced much above $10,000. GM traditionally had serviced low-price markets like this through the use of complete knockdown (CKD) or semi-knockdown (SKD) car kits, where the auto was manufactured largely at an existing facility in, say, Germany, and then the major components shipped to a final assembly facility in-country. After initial studies, however, GM had concluded that even this mechanism would not result in a cheap-enough automobile for the Russian market. The Russian automobile market had never been successfully penetrated by a Western automaker. The reasons were many and nearly insurmountable. The entire auto infrastructure was undeveloped, with few suppliers meeting even minimal quality standards. Dealership networks were controlled by management of the automakers themselves. There was no credit-check system for individuals in Russia, to provide the basis for credit sales. This required all auto purchases to be for cash. And that was before the crisis of 1998 impoverished the country. GM’s conclusion had been to enter into a joint venture with the dominant automobile manufacturer in Russia, AvtoVAZ. AvtoVAZ held a commanding 65% market share, had existing plant and facilities which could be instantly leveraged, and most importantly of all, possessed an existing product, the Niva, which GM felt could be highly commercial after signifi- cant reengineering and higher quality assembly. AVTOVAZ’S INTERESTS AvtoVAZ, originally called ‘‘VAZ’’ for Volzhsky Avtomobilny Zavod (Volga Auto Factory), produced nearly 700,000 autos in 2000. AvtoVAZ was the builder of the infamous Lada. The Lada itself was nothing other than a Fiat. Fiat of Italy had built a factory along the Volga River in 1970 under contract. It turned over the facility, once constructed for ownership and operation, to AvtoVAZ. The company was privatized in 1993, and had shown spurts of growth and some success. The financial crisis of August 1998 with the fall of the rouble from Rbl 11/$ to over Rbl 25/$, had actually bolstered AvtoVAZ’s market position. Imports were now prohibitively expensive for most Russians, and the management of AvtoVAZ knew it months before it happened.
‘‘It’s cynical to say, but in the case of a devaluation, the situation at AvtoVAZ would be better. There would be a different effectiveness of export sales, and demand would be different. Seeing that money is losing value, people would buy durable goods in the hopes of saving at least something.’’ —Vladimir Kadannikov, Chairman of the Board, AvtoVAZ, May 1998 But the collapse of the rouble and the purchasing power of the Russian populace had a larger and more complex repercussion on the market—unfulfilled demand. The average Russian needed and wanted an automobile of higher quality than was available in the domestic market, but could no longer afford Western autos. Whatever they bought had to cost less than the equivalent of $10,000. If, however, a Western automaker could figure out a way to produce a high quality auto in Russia at an affordable price, the market was waiting. THE JOINT VENTURE AGREEMENT On June 26, 2001, GM and AvtoVAZ reached final agreement on the JV. AvtoVAZ would offer its Niva platform and engineering design for joint production with GM in Russia of a new Niva—the Chevy Niva. By using AvtoVAZ design and facilities the costs would be local, and by using GM’s knowledge of manufacturing excellence, the product quality could be improved significantly. The total investment of $338.2 million was divided between three parties: General Motors, $99.1 million by cash and equipment (41.61%); AvtoVAZ, $99.1 million by intellectual property (patents and Niva 2121), buildings, etc. (41.61%); and the European Bank for Reconstruction and Development (EBRD), $40 million in cash and $100 million loan facility (16.78%). The Chevy Niva would carry both the AvtoVAZ and Chevrolet badge. The badge alone was worth an additional $1,500 per car according to market surveys. The market was willing to pay, but not too much, for what it perceived as superior Western quality. Much of the business case behind the JV was for roughly one-half of the 75,000 annual units to be exported. Both GM and AvtoVAZ believed that Russia would serve as a very effective low-cost country of production for a moderately priced small SUV like the Chevy Niva. Exports would please AvtoVAZ, generate substantial hard-currency earnings, and simultaneously add significantly to the JV’s profitability. All parties expected the Russian ruble to continue to fall in value over time against both the dollar and the euro, adding to the competitiveness of the exportable product. The new Chevy Niva produced by the JV would have to be upgraded, however, in order to be exported to eastern or western Europe. The export version would need a larger engine (GM proposed the Open F-1 engine), better emissions control for compliance with EU standards, and additional safety features. Although this would require a bit more investment, it was thought easily doable over the following years with initial JV profitability. The exports would assure GM of reaching its minimum rate of return on the investment (lowered to 11% from a normal 22% as a result of strong lobbying by GM’s Russian team). One of the major expectations of both parties was a large and rapid transfer of technology between GM and AvtoVAZ on state-of-the-art automobile manufacturing and assembly. Although AvtoVAZ really did not see an additional 75,000 units per year as a big addition to its existing 700,000 units per year, the technology transfer component made the JV attractive in terms of its longterm benefits. A final component of the agreement was important. As the new Chevy Nivas began rolling off the production line in Togliatti, AvtoVAZ would begin phasingout the older Niva, eventually ceasing production of the 77,000 units per year currently sold. This would preserve the margins and competitiveness of the new Chevy Niva’s uniqueness. PRODUCTION BEGINS Production of the Chevy Niva began as scheduled on September 23, 2001. It would be priced at $8,000, and the production and marketing plan was for annual sales to reach 75,000 units by 2004. Of that total, approximately 40,000 were targeted for the export market. The primary export markets were expected to be eastern and central Europe, in addition to Mexico and other countries in Latin America. The joint venture production facility was housed within one corner of the massive existing AvtoVAZ facility in Togliatti, Russia. The new Niva (seen in Exhibit 1) was well-received by the Russian press, with many eyes from around the world watching with interest the performance of this high-profile Western investment in post-perestroika Russia. Much of the early attention focused on the JV’s efforts at creating a quality culture in the facility. But despite intensive effort, quality was a problem. The Chevy-Niva managing director was quoted as saying that the quality of parts delivered to the plant was a major concern and that as much as 20 percent were defective. But a Chevy-Niva employee said the situation was much worse. The employee, who worked in quality control and asked not to be identified, said ‘‘99 percent of
the parts do not fit or are damaged and have to be sent back to the supplier. There are a lot of problems.’’ Chevy Niva sales were sluggish in 2003, with total production at 25,235 cars and sales of 22,442 units. Used car imports also continued to impact new car sales. Used cars brought into Russia by individuals, although still subject to import duties on automobiles, were not subject to the 20% Value Added Tax (VAT), making it difficult for new Russian-manufactured autos to compete. Finally in late 2003 the Russian government heeded the arguments of many (including Heidi McCormack) and this loophole was closed. In the spring of 2004 the relations between the JV partners came under increasing strain. In May a Moscow arbitration court upheld a decision by the Russian Antimonopoly Service that required the elimination of a clause from the original JV agreement.1 The clause had required that AvtoVAZ gradually phase-out the original Niva, introduced in the early 1990s, from the marketplace in order to reduce competition in the Russian market for the Chevy Niva. Since the original Niva and the new Chevy Niva were the only domestically manufactured (not assembled) sport utility vehicles sold in Russia, the court deemed the clause anti-competitive. In September 2004, exactly two years after the introduction of the Chevy Niva, the JV introduced the Chevrolet Viva. The hopes of both partners were that the Viva would give a boost to JV sales by expanding the product-line breadth with a higher-priced model to take advantage of growing consumer purchasing power in the Russian market. The Viva was based on the sedan version of the GM Opel and was sold under the Chevrolet brand in Russia. The Viva was essentially an assembly operation, with 90% of the components imported in the initial production. In less than a year the imported components were scheduled to fall to 57%. The Viva was equipped with a 1.8-liter 125-horse power Opel engine, and was available in two different trim levels. It met Euro-4 emissions standards, making it possible for export to central and western Europe. The starting price of the Viva-L entry model— offered with ABS, electro-hydraulic power steering, electronic traction control and engineering adaptation to Russian road and climate conditions—was 333,333 rubles (US$11,400). In less than a year, however, the Viva’s production plan was scaled-back as sales of the new higher priced model proved slow. The explanations, as seen in Exhibit 2, focused on pricing. The JV closed 2004 with $45 million in net profit, and for the first time distributed dividends to the three owners. In April of 2005 General Motors surprisingly canceled the introduction of the Niva to western European showrooms (the 1.8 liter engine had been slated for commercial introduction) with no explanation. In October 2005 Vladimir Kadannikov announced his retirement from AvtoVAZ, ending his 17-year tenure as the CEO of Russia’s largest automaker. In early November 2005 Rosoboronexport, a state defense agency, seized control of AvtoVAZ, removing management rather forcefully.
First, though, the old management team had to be persuaded to leave peacefully. After Mr. Kadannikov resigned in October, a team of police investigators and prosecutors was airlifted in to begin the process. ‘‘To impose order . . . the state had to bring in 300 policemen from outside,’’ says Mr. Chemezov [AvtoVAZ spokesman]. ‘‘Over the next few months, we had to replace virtually the entire police force, both in Togliatti and in the factory itself.’’ Soon, three of AvtoVAZ’s senior accountants found themselves facing charges of theft and tax evasion. The charges were dropped a few weeks later. —‘‘Kremlin Capitalism,’’ Wall Street Journal, May 19, 2006, p. A1 Rosoboronexport, controlled by Sergey Chemezov, a close friend of Russian President Vladimir Putin, announced a plan to restructure the company to improve both its profitability and its international potential. AvtoVAZ’s shareholders approved the new Board and management team unanimously on December 22, although the new team was the only choice on the ballot. The JV closed 2005 with sales of less than 50,000 Chevy Nivas and about $10 million in net profit. AvtoVAZ’s new management also announced that it was suing its JV partner, General Motors, for 1,680 rubles ($60)—a token sum—the purported damages sustained by AvtoVAZ after the JV stopped the assembly line in a dispute over the quality of parts delivered by AvtoVAZ in December. The suit was largely a test of the Russian courts’ willingness to enter into the fray between the two disgruntled parties. MARKET & JV CHALLENGES: 2006 Less than a decade ago, owning a foreign car in Russia was privilege for the rich and powerful. Last year, nearly every second car sold in Russia was foreign. This change testifies to the sharp growth in consumer demand in Russia and the
squeeze which foreign companies—from east and west—are putting on Russian car plants. Russian car makers, who once enjoyed a monopoly in their home market, last year accounted for less than 50% of it for the first time. The appreciation of the rouble, and rising incomes in Russia, are expected to drive market share to about 36% in one year’s time as foreign makers conquer Russia’s potholed roads. The company suffering most from this squeeze is AvtoVAZ, the maker of Lada cars. It has the country’s largest vertically integrated car plant—a site that has now become a poignant symbol of its industrial decline. It still makes more than 900,000 cars a year—most assembled on old production lines little changed since the 1960s. It has one new production line filled with new, shining German and Italian equipment, producing the modern Kalina model. But the Kalina—with an unmistakably Lada-like engine and gear-box— forms only 10% of units produced by AvtoVAZ. —‘‘Cars: Consumer Demand Alters Russia’s Car Map,’’ Financial Times, April 20, 2006. In February 2006 the production line of the JV came to a halt for 10 days. The shutdown was a result of a disagreement between the two partners over the prices of parts sold to the JV by AvtoVAZ. AvtoVAZ’s new management believed that the JV was not paying high enough prices for the parts supplied by AvtoVAZ, and demanded higher prices immediately. The price dispute was resolved in a little more than one week with what both parties called a ‘‘short-term solution.’’ The JV was once again operating. GM ST. PETERSBURG ‘‘With Order 166 the government has consciously promulgated legislation that is conducive to investment and that will stimulate growth of the auto industry. But, the proof is in the pudding.’’ —Heidi McCormack (of GM-Russia), ‘‘Car Queues Stage Comeback,’’ Financial Times, October 20, 2006, p. 4 In June 2006 GM announced the completion of an agreement with local authorities in St. Petersburg for the construction of a new automobile assembly facility in the St. Petersburg suburb of Shushary. The facility, near the new Toyota automobile assembly plant, would assemble between 20,000 and 25,000 cars a year, employ 700 Russian workers, and represent an initial investment of $115 million. The facility would produce the Chevrolet Capitva SUV from complete knockdown (CKD) kits. Depending on market conditions, GM said the facility could be expanded in the near future, potentially doubling the capital investment. The new GM venture was designed to take advantage of the new Russian law, Government Order N166, passed in 2005, which provides import duty relief on imported components for foreign investors in Russia and a variety of other tax incentives for foreign investors. GO166 eliminates import duties for 8 years but requires that the investor reduce import costs by 10% every two years over the 8 year period. GM described the St. Petersburg investment as being the ‘‘third-leg’’ of GM’s presence in the Russian market (the JV being the first leg and a Kaliningrad facility the second leg). Starting in September 2006 GM would begin assembling Chevrolet Capitvas from kits at a separate St. Petersburg facility. NEAR THE END? In July and August 2006 a series of additional rumors swept through the joint venture. In late July AvtoVAZ rejected a preliminary proposal by Renault of France to take a 25% interest in all of AvtoVAZ. Despite the rejection, the CEO of AvtoVAZ, Igor Yesipovsky, resigned the following week. The rumors surrounding his resignation focused on his continuing opposition to a major equity interest in AvtoVAZ being sold to Renault. There was also growing speculation that AvtoVAZ would buy GM’s stake in what was increasingly called the ‘‘failed JV.’’ The chairman of the board at AvtoVAZ, Vladimir Artyakov, was quoted as saying, ‘‘If GM offers favorable terms, we will accept them and will buy out their stake.’’2 However, the two parties had yet to meet and neither party had officially made such an offer or other termination agreement. By the end of 2006 the relationship between AvtoVAZ and General Motors had once again stabilized, the new management team from Rosboronexport expressing a more cooperative stance with their American counterpart. And there was progress. The parties had finally managed to agree on the introduction of the Opel Family-1 (F1) engine into the Chevy Niva for early 2007, a significant improvement for potential market share growth both domestically and possibly internationally. And the GM-AvtoVAZ dealership network, which had started with only 15 outlets in 2002, ended 2006 with more than 130 dealerships throughout Russia. As illustrated by Exhibit 4, the production of the Chevy Niva, however, did not seem to be rising, and in the eyes
of some, was losing ground to the rejuvenated Lada 4×4, the original 
which AvtoVAZ continued to produce and sell but not under the traditional Niva name. Many analysts of both GM and AvtoVAZ continue to debate the future of the joint venture.
Case Questions
1. How did the original JV agreement balance out strategic needs versus financial needs for the two JV partners? Do you believe the JV partners were aligned in terms of the strategic interests?
2. Why do you think the kit-assembly approach was not more successful in Russia? It was a common automaker production/distribution strategy employed in much of the world’s emerging markets, but was not working in Russia.
3. All things considered, do you believe that the JV parties would consider the JV successful? Although it never exported and it never reached its production goal (at least to date), would the leadership teams of GM and consider what they gained sufficient to cover what it cost them?
