Sanctions Hurt But Don’t Cripple the Russian Coatings Industry

The Russian coatings industry is undergoing an epochal transformation as old trade ties are severed, and new ones are yet to be established. The end of this process is nowhere in sight, but it could be safely said that the worst forecasts are not destined to come true, or at least not yet. 

In 2021, foreign coatings brands accounted for a 30% to 35% stake in the Russian coating market, the analytical department of the Russian bank Promsvyazbank estimated. Last year, total sales in the Russian coatings market totaled 108 billion rubles ($1.8 billion). As the largest international coatings manufacturers pulled out from the country shortly after the Russian troops crossed the Ukrainian border, the market is braced to shrink by 10% to 15% this year, Promsvyzbank said.

This is a far cry from the forecasts expressed in March-April, under which most coatings plants were expected to curtail or at least scale down operations, owing primarily to a lack of imported components and a collapse of the national economy. In the last months, almost all analysts have improved their GDP forecasts for Russia.  

For instance, the Russian Central Bank now predicts a recession where GDP will fall between 3.5%, and 3%, a shallower decline than the range of 6% to 4% the bank forecasted in July. The International Monetary Fund (IMF) has upgraded its forecast for Russia’s economy several times in the past few months. The latest projections envisage the Russian GDP to contract 3.4% instead of the 6% expected in July and the 8.5% projected in April.

By all means, the recent forecasts stand nowhere near what was expressed in the first quarter of 2022. For example, the Institute of International Finance predicted in April that Russia’s economy would shrink 15% this year and 3% in 2023 “as the hit from Western sanctions, an exodus of companies, a Russian brain-drain and collapse in exports wipe out 15 years of economic gains.”

The recent developments also suggest that things in the Russian coatings industry look better than expected at the beginning of the year. In April of 2022, sources in the Russian market warned that due to high dependence on imported components, even the Russian coatings companies could find it difficult to maintain operations. It was also suggested that the lack of raw materials would push international coatings companies to curtail operations in Russia and get rid of their assets, which would eventually be doomed to stand idle.

New owners re-launch factories

So far, the current crisis has not caused a mass shutdown of coating plants in Russia, as even those previously owned by foreign businesses resume operation shortly after changing hands.

On August 2, Jotun Paints announced its decision to exit Russia. Morten Fon, president and CEO, commented: “It has become more and more challenging to operate in the country under the sanction regimes, and we realize that the situation will not change in the near future.”

Although brands, intellectual property and technology are not part of the transaction, the new owner, Russian building giant Atomstroykomplex managed to swiftly resume the operation of the former Jotun’s St. Petersburg factory and began selling coatings under the brand name Lithium. Employees keep their positions on existing agreements and terms with the new owner.

Tikkurila and PPG Industries were also among the companies that pulled out from the Russian market. In June, Tikkurila said that the company continued to make only a minimum amount of sales sufficient to generate enough local currency to pay employees in Russia. PPG, in turn, said that it had to curtail operation and withdraw from the market due “to inability to sustainably operate even at this minimum level”.

Tikkurila eventually sold its St. Petersburg plant to a local company Invista Capital with the deal was closed in July. The factory has already resumed operation.

“Since the acquisition of the business, all personnel have been put to work, and the facility has begun production. I hope that no negative changes for our customers with the change of owners have happened and will not happen,” Valery Andosov, head of the St. Petersburg plant, told the local press.

Some coating factories of foreign businesses are still up for sale. For instance, Hempel is actively selling its Ulyanovsk factory with 124 employees in Russia, and a sale of the company’s Russian activities reportedly could become final this year. AkzoNobel said that the majority of its business in Russia had been suspended. The residual Russian business is now locally operated, the company said, not providing additional details.

Most Western companies opt for controlled withdrawal from the Russian market, which means selling assets instead of closing them and keeping all employees, according to Promsvyazbank.

On the other hand, there is still clarity pertaining to the quality of the coatings from the re-launched factories. Western companies traditionally had a large share in the premium segment of the Russian market, and there is no certainty yet whether the new owners could adhere to the same production standards.

A moderate decline

Since the beginning of 2022, Russian coatings production decreased by 8.1% compared with the same period of the previous year, Gennady Averyanov, director of the Russian coating association Centrlack said. The average capacity utilization ratio in the industry currently stands at 50%, he said, adding that it is not right to make any conclusions based on this figure since the capacity utilization rate varies drastically among various companies and segments.

A drop in demand indeed remains one of the biggest problems for Russian coatings manufacturers, especially in some segments. For instance, Russian vehicle production plummeted by 96.7% in May this year to just 3,700 units, as all Western carmakers suspended operations in the country, while Russian carmakers were hit by a shortage of critical components.

There are also significant problems in the shipbuilding segment, where some big projects are delayed due to a lack of critical components. For example, the absence of European equipment wreaks havoc on the fishing fleet renewal program, under which several hundreds of new vessels were expected to be built at domestic shipyards in the next few years.

On the other hand, the construction industry is seemingly doing well. The Russian Ministry of Construction Marat Khusnulin, for instance, claimed that in the first nine months of 2022, the pace of launches of residential buildings was above the last year’s level. There are no signs that this segment is braced for any problems in the future, as in 2022, the construction of 40 million sq. meters of residential real estate is expected to be launched, nearly 7% more than last year.

Solving the raw materials issue

It looks like the lack of imported raw materials, which looked like the biggest challenge for the Russian coatings industry in the first half of the year, is no longer hampering business.

“Nothing prevents our manufacturers from increasing output,” Averyanov said, adding that demand is the only factor currently driving the production dynamics. “Of course, the terms of order execution can shift and extend. The main reason for this is the logistical difficulties in the transition to the supply of raw materials from the countries of the Asia-Pacific region.”

The delivery time has increased, and in addition, it may take some time for Russian coatings producers to try and test new raw materials, Averyanov said.

“There was, is and will be an alternative to Western raw materials. There is a transition to raw materials from the Asia-Pacific countries. The share of raw materials from this region is increasing. The trends are positive. But we draw the attention of consumers, this process will continue for at least a year,” Averyanov said.

Maria Levenkova, deputy general director for the Russian raw material supplier Pigment, however, said that the availability of high-quality raw materials remains the main difficulty the Russian coating industry has to face.

“Most of the suppliers have left the market, which greatly affected the price, quality and delivery time. But already today, Pigment can confidently speak about the possibility of producing some components, such as film formers, hardeners, mixed solvents, both for the needs of its own production and for supply to third parties,” Levenkova said.

However, it is too early to judge that the Russian coating industry successfully withstood the current crisis, primarily because it’s end is not on the horizon yet. The outlook for the Russian economy in the long run still remains grim, the population’s purchasing power is nosediving, and some of the most painful Western sanctions have not come into effect.

Despite the resilience, the industry showed in 2022, its future remains highly uncertain.