A $2 Billion Investment Helped Renault Turn Around a Russian Punchline

(Bloomberg Businessweek) -- The Russian city of Tolyatti is named after an Italian communist, Palmiro Togliatti, but it might as well be called Ladaville. There’s the massive Lada car factory, of course, as well as a Lada hotel, a Lada-sponsored handball team, and Lada TV. The local cathedral sports a portrait of Carlos Ghosn—the chief executive officer of Renault, the French automaker that bought a stake in Lada 10 years ago. And half the cars on the streets are Ladas.

The problem for Lada—and Ghosn—is that elsewhere in Russia the brand gets a lot less love. Every Russian knows the jokes: How do you double the value of a Lada? Fill the tank; What do you call a Lada’s shock absorbers? Passengers. And the streets of Moscow and St. Petersburg teem with Toyotas, VWs, and BMWs, with nary a Lada in sight. “For about the price of a Lada, I can get a better-quality Kia,” says Sergey Ivanov, a Moscow tour guide.

Over the past decade, Renault has invested $2 billion in AvtoVAZ, the formerly state-owned company that makes Ladas. But a sharp drop in the ruble, economic sanctions following Russia’s annexation of Crimea, and the growing presence of other foreign manufacturers have made it hard for Renault to get much payback. Lada, which in the communist era had almost 80 percent of the Russian market, saw its share fall to 16 percent in 2014, from 22 percent when Renault invested.

Renault in April increased its stake in AvtoVAZ to a controlling 51 percent, with Russian state-owned arms giant Rostec and smaller shareholders holding the rest. And the French company says it’s poised to turn things around: Lada’s share rebounded to 20 percent last year, making it the country’s top brand, and the Renault alliance, including Nissan Motor Co. and Mitsubishi Motors Corp., accounted for 36 percent of the Russian market. In the first half of 2018, Lada turned a profit for the first time since 2011, with sales up 21 percent, to 170,000 vehicles, and an operating margin of 7.1 percent.

Renault and Nissan spent more than $500 million renovating the Tolyatti factory and hired designer Steve Mattin, a veteran of Mercedes and Volvo, to give Lada a face-lift. Quality control has been tightened, and employment at AvtoVAZ has been cut by more than half, to 46,000. At the Tolyatti plant, Ladas, Renaults, and Nissans move slowly down the 1.4 mile-long assembly line as uniformed workers add seats, doors, dashboards, and other parts to the vehicles. “When we arrived, it was Soviet and gray, and they had no idea how cars are made abroad,” says Antony Grade, who coordinates design at Renault’s stable of brands. “With better quality, the market for Lada is enormous.”

AvtoVAZ’s plants are underused, with capacity of about 1 million vehicles annually, triple the company’s 2017 sales. Only a third of the Tolyatti operation is automated, but with salaries averaging just $480 a month, there’s little need for more robots, says Nicolas Maure, who heads Renault’s operations in Russia and nearby countries.

Consulting firm PwC sees Russian auto sales jumping 11 percent this year, to 1.6 million vehicles. Although that’s just over half the 2012 peak of 2.9 million, Maure says the growth means Lada can prosper without gaining market share. And he says Renault, with its 50,000 employees and three factories in Russia, will benefit from a weaker ruble, since almost 80 percent of components for Ladas are made in the country. “Being highly localized is the most important step in mitigating risk,” Maure says.

Renault’s confidence is based on the turnaround of Dacia, the Romanian brand it bought 20 years ago. Although Dacia was slow to take off, from 2014 it started to gain a following in the West and today it’s more profitable than the group’s average. Investment bank Bryan, Garnier & Co. estimates that the carmaker’s Duster SUV generates a profit margin approaching 10 percent—on par with luxury brands such as Mercedes and Audi and stratospheric for a low-cost model. But Dacia sells in Western Europe, which Lada can’t do because its cars don’t meet European Union emission standards. So Lada’s future is tied to Russia’s economic health, which is at the mercy of sanctions and oil prices.

Renault would benefit from more freedom to cut costs and demand further sacrifices from workers, says Tim Urquhart, an analyst at consulting firm IHS Markit Ltd. Former AvtoVAZ CEO Bo Andersson fired thousands and terminated contracts with suppliers he said failed to meet quality standards. But the pace of layoffs has slowed since the former General Motors Corp. executive, who faced criticism from local partner Rostec, left the company in 2016. Without more cuts, it will be difficult for Lada to achieve Dacia-like profitability, Urquhart says. “Lada won’t be a huge money-spinner for a long time,” he says.

Renault has trumpeted a Russian recovery before, notably in 2010, when it said its margins there were “excellent” just as the market was poised to tumble. What’s different today is that Lada can keep costs down by sharing more parts with Renault and Nissan, says Yves Caracatzanis, the Frenchman who has run AvtoVAZ since June. And with more than half of Russian autos over a decade old, there’s plenty of room for growth. “We’ve still got a long road ahead,” he says. “But we’re on the right track.”

©2018 Bloomberg L.P.