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Adrian Schairer, M. Sc., Head of Investor Relations at Ekosem-Agrar: EkoNiva is taking advantage of the window of opportunity

05 February 2019

Recent expansion of EkoNiva, a Russia-based daughter company of the German Ekosem-Agrar AG, made waves in both Russian and international mass media. In the last 1.5 years the company doubled their farmland to more than 485,000 hectares in operation. With this land area and 67,000 dairy cows on its farms throughout Russia, EkoNiva is one the country’s largest agroholdings and by far the largest raw milk producer. Moreover, EkoNiva does not seem to put its further growth ambitions on hold. Adrian Schairer, Head of Investor Relations at Ekosem-Agrar AG, shares some information on EkoNiva’s development plans with

Mr. Schairer, EkoNiva grew very fast in the past years. How many hectares of farmland are you currently farming and in which regions?

In the last 1.5 years, we have doubled our farmland to more than 485,000 hectares (state: end of November 2018). In the Voronezh oblast, we operate 140,000 hectares, followed by our sites in Ryazan (about 88,500 hectares), Novosibirsk (about 79,000 hectares), Orenburg (including Tatarstan and Bashkortostan, about 62,500 hectares) and Kaluga (about 60,000 hectares). In the Kursk, Moscow and Tyumen regions, we control between 5,000 and 35,000 hectares.

The founder of EkoNiva, Stefan Dürr, has recently mentioned in an interview that the company aims to farm 1 million hectares in the future. From an economic point of view, there are not yet many success stories of such big farms. Some other big agroholdings, such as Ivolga, which claimed to farm 1.5 million hectares of land in Russia and Kazakhstan, became bankrupt. Why do you believe that you would be more successful?

The increase of the land bank is not an aim in itself for us, but it is primarily used to feed our dairy herd. Our goal is to be present in the important regions of Russia with our own raw milk production in order to be able to source our fresh raw milk for our own dairy processing throughout Russia. For this, we need appropriate land in these regions. In addition, the cultivation of market crops makes sense both from the point of view of crop rotation and the diversification of business activities. These reasons are decisive for our strong area growth.

Of course, we can only speak for our own company. But it is possible that other large companies have set very high goals for the growth for PR purposes and to attract investors, and have also communicated these externally as binding. This sole focus on area growth and the obligation to deliver may have been at the expense of the quality of the land purchased and the cost-effectiveness. In addition, agricultural companies of this scale require management that is very close to production. I think that EkoNiva is very well positioned here.

In addition to area expansion, EkoNiva has invested a lot in milk production and increased its dairy herd substantially. How many cows is EkoNiva currently milking?

We currently hold more than 67,000 dairy cows and produce more than 1,600 tonnes of raw milk per day. We have been growing recently, especially in our current regions Voronezh, Novosibirsk and Kaluga. In addition, we have been present in the Ryazan region since the end of 2017 and have recently started operating in the Moscow region. We have significantly expanded our operations in Orenburg, along with the adjacent new locations in Tatarstan and Bashkortostan. In order to provide people throughout Russia with fresh dairy products, we are looking for a suitable entry opportunity in important regions where we have not yet established a location.

How do you achieve this growth – via new investments or via acquisitions of established businesses?

We grow both organically, that is, through the acquisition of land in ownership or lease, as well as through acquisitions of entire businesses. Generally, in highly competitive regions, for example in Kursk, acquisitions are more likely than in regions with available land, such as Orenburg or Novosibirsk.
In the production of raw milk, we prefer to build our own dairy farms where possible, as these best meet our requirements. In 2017, we have taken over two dairies in order to quickly increase our own processing capacities.

What are the long-term objectives for your dairy operations?

We currently assume that we will expand our dairy herd in the medium term to more than 160,000 animals. The annual milk production should then increase to more than 1.8 million tonnes (about 5,000 tonnes per day). In the long run, we also want to process this milk volume ourselves into dairy products. Initially, a considerable portion of our products will be marketed under private labels, and in the medium to longer term, this share will continue to decline in favor of our own brands.
In addition to the Russian market, the Chinese market could eventually also play role.

Along with expansion and construction of new farms, are you investing in the improvement of quality and efficiency of production?

In raw milk production, we rely on large modern dairy farms. Thanks to constant improvements, these are now optimally adapted to our production technology needs and can be operated very profitably. If we acquire existing farms as part of our acquisition activity, we modernize them according to our ideas, if this is economically feasible. In the medium term, we try to close old tie-in farms under socially acceptable conditions.

In general, we use standard protocols (or so-called operating instructions) to transfer best-practice methods to all of our farms quickly. In addition, there is an internal benchmarking to compare the efficiency of all operations of the group. We are in the process of rebuilding the dairies acquired in 2017 in order to adapt our product range and capacities to our requirements.

Are you well prepared for the challenges of digitization?

Of course, many processes are already automated today or are based on computer applications. Examples include herd management systems, the use of GPS and Glonass for more precise control and monitoring of agricultural machinery, feed programs, mapping of production processes in the electronic accounting system, etc. In addition, we have been working together on various precision farming applications for some time now with our sister company Ekotechnika AG and the American agricultural machinery manufacturer John Deere as part of a large-scale smart farming project on 30,000 hectares of our land. Here, all currently available technologies, which promise a potential benefit for our work, are examined and tested under field conditions.

How do you normally restructure your newly acquired farms? Do you have a universal approach to farm restructuring?

First and foremost, the success of a company depends on its employees. Therefore, it is important to us that our farm managers represent the values of EkoNiva: reliability, openness, quality, environmental awareness, as well as social responsibility for our employees and the regions in which we operate. This holds for everybody – either an existing director of a newly acquired enterprise or an experienced EkoNiva employee. New enterprises are quickly integrated into the existing structures of the holding. This means we embed them into our matrix management structure with technical supervisors at the mother company level and operational managers at the level of local operations. Similarly, new businesses are integrated into the existing reporting structure. To make this process as smooth as possible, experienced employees train their new colleagues. At the same time, our own training academy also provides us with qualified personnel that we can deploy in new companies.

How do you manage the trade-offs between economic and social goals?

For us, economic and social goals go hand in hand. Good working conditions help prevent movement to the cities and give rural people a long-term perspective. We support social facilities and projects such as schools, housing for our interns and staff, kindergartens, veterans' associations, heritage preservation, sports clubs and others. We are very aware that we can only succeed if we are accepted as a reliable partner by the local population.

Would you say there is an ongoing substitution of technologies for labor at your farms? If yes, where do you see the potential for creation of new jobs in your company?

Of course, agriculture is becoming ever more efficient thanks to ever more powerful machines and ever larger dairy farms. This also affects the work input. Nevertheless, raw milk production (compared, for example, with pig or poultry production) is relatively labor intensive. There are a lot of processes that cannot be transferred to machines, such as health examinations or heat detection. Since labor costs in Russia are relatively low, the pressure for automation is lower than, for example, in Western Europe.
Thus, expanding our raw milk production, we create more jobs. The same applies to milk processing, which still has to be built up in large parts.

As of June 30, 2018, the group as a whole had almost 9,000 employees. However, it should be noted that we employ many people in our own construction company as well as in the social sphere (canteens, drivers, dormitories, etc.). On average, one modern dairy farm of EkoNiva with 2,800 dairy cows and about 85 tonnes of raw milk per day employs about 100 people.

Do you face problems of finding well educated and qualified managers for your farms?

In general, it is difficult to find good staff with reasonable compensation conditions. Therefore, we have been training our own specialists at our academy for several years. At the EkoNiva academy, experienced employees teach prospective specialists. In addition, we work with universities throughout Russia, offer a large internship program with nearly 1,000 student participants in 2018, and promote so-called agricultural classes in schools. With these measures, we have sufficient qualified personnel for our current growth strategy.

EkoNiva has recently announced its willingness to engage more actively in milk processing and to further develop its own brand of dairy products. Where do you see the benefits of vertical integration for your company and what are your specific comparative advantages over traditional processors?

There are several reasons for taking the step towards our own processing of raw milk. It allows us, for example, to reduce our dependence on raw milk prices and on third-party processors. In addition, we maintain control over the quality of the end products and can guarantee this to the consumer. Another key aspect is that we increase the end consumer's perception of EkoNiva with its own milk processing. And, of course, economic considerations regarding the reduction of volatility in business development and the additional margins also play an important role.

We want to attain a significant market share through good quality at an affordable price. Above all, we want to win the trust of consumers in our company. According to official statistics, the production of marketable milk in Russia is about 21 million tonnes per year. Of these, however, only about a quarter is produced by modern dairy processors such as EkoNiva. Therefore, we also see considerable potential for growth in raw milk production.

After launching a processing business, EkoNiva will become an almost fully integrated company. Do you plan to invest in own retail at some point in the future?

Except for a few own points of sale, which primarily serve the brand experience and customer feedback, we do not plan to invest in own retail.

Where does the capital for all these investments come from? What is the extent of indebtedness at EkoNiva? And to which extent is EkoNiva’s growth financed through subsidies from the Russian government?

As of June 30, 2018, the group's borrowed capital totalled approximately EUR 980 million. This includes approximately EUR 580 million in bank financing (including financial leasing) and two bonds on the Stuttgart Stock Exchange with a volume of EUR 128 million. Bank financing consists almost exclusively of the loans from Russian banks.

The Russian government currently grants three types of subsidies to companies in raw milk production: investment grants, soft loans and operating subsidies. Investment grants and soft loans play the most important role for the EkoNiva Group. If these subsidies were no longer paid or were significantly reduced, the growth of the group would cease or continue at a much slower pace. For 2019, however, it is expected that the subsidization conditions for investments will remain at the previous year's level. We therefore see ourselves well positioned for our growth plans.

Irrespective of profitability, farming is a risky business in an uncertain environment, including price and yield volatilities and political turbulences. Are you not afraid that such ambitious growth is too risky?

No, we do not share this view. We rather see a window of opportunity due to favorable framework conditions. Firstly, there is a structural milk deficit in Russia. Up to 30% of the milk consumed is imported in the form of processed products or commodities (milk powder, butter, etc.). Secondly, we are currently benefiting from significant government subsidies and, as far as our own milk processing is concerned, from the import embargo for dairy products from Europe and the US. In addition, modern and efficient raw milk producers such as EkoNiva have a strong market position and, at the same time, relatively low competition due to high market entry barriers. Due to the good image of agriculture in Russia, there are no administrative hurdles for the construction of new dairy farms. And last but not least, we can reduce our dependency on raw milk prices and raw milk buyers by processing our own milk.

In general, it seems that large-scale agriculture is more widely accepted in Eastern Europe than in Western Europe. Do you see any signs that public concerns in Eastern Europe are growing as well? If yes, how do you prepare yourself for that?

Currently, agriculture has a very good image in Russia, especially among potential employees. In the past it was regarded as a ’dirty’ job, but today it is much more attractive. Not least the prioritization of the country's own agricultural supply has contributed to this. But also much more comfortable working conditions than before, good salaries and the advantages of rural life, such as the closeness to nature, air quality and affordable housing prices, play an important role. We contribute to the positive image of agriculture by organizing excursions to our farms for many years. Over 40,000 visitors have already participated in these. There is no aversion of large companies in Russia, but rather acknowledgement of the advantages of efficient management and effective use of resources.