Is Russia Subaru's Next Big Opportunity?


Russia was all set to become Europe's largest automotive market -- before its hopes got quashed by the 2008-2009 financial crises. Now that the country's economic forecasts are turning positive again, could Russia represent a new opportunity for Japanese automaker Subaru, the automotive arm of Fuji Heavy Industries ? Investors may not get excited about the company's recent performance in Russia, but they shouldn't ignore the country's potential.

The 2012 Outback 3.6R. Photo credit: Subaru

Ups and downs in a massive market

Subaru has been on a rollercoaster ride in Russia. Every time the company started to gain ground, it would suffer a sudden fall, mostly because of the country's unstable economy. Russia's auto market declined sharply during the financial meltdown, its sales slipping almost 50% in 2009 from the earlier year. For a small automaker like Subaru, this almost marked the end of the road. The company couldn't sell even 2,000 units, or 10% of its prior year's sales, in fiscal 2010.

Sources: Subaru Annual Reports and Ernst &Young . Bear in mind that Subaru's sales are for its fiscal year, while total Russian sales are for calendar years.

To stop the industrywide sales slippage, the Russian government introduced its car scrappage program , which ran from March 2010 to 2011 end. Under this scheme, people got rebates of 50,000 roubles- approximately $1,750 as of March 2011 -- for replacing their old cars with new Russian-made cars. This infused life into Russia's auto market in 2010-2011, but put Subaru at a competitive disadvantage. The company imported all its cars, which did not make them eligible for the rebate scheme.

Despite the mounting odds, Subaru survived its fiscal 2010 crash and grew its sales for the next couple of years, thanks to better macroeconomic conditions, a stronger car loan market, and the pent-up demand from the aging of Russian vehicles.

But the Russian auto industry is again falling prey to economic weaknesses and uncertainties in financial markets. Starting in the second half of 2012, dealers increased incentives and promotions to clear excess inventories . The situation worsened in 2013, and industrywide auto sales fell for the seventh consecutive month in September , slipping 5% from last year. The sales slide has prompted the Association of European Businesses (AEB) to cut its annual sales forecast by 5% to 2.8 million vehicles .

Subaru's sales numbers mirror these trends. In fiscal 2013, Subaru's sales fell from the year ago-levels, and it has predicted a further drop in fiscal 2014.

The perfect backdrop

Despite its current challenges, I am optimistic about Russia as a big potential market for Subaru, in part because of the country's vast, snowy terrain. With the exception of BRZ, all Subaru cars come with all-wheel drives (AWD), which make them a good choice for snowy and salty roads. According to Kelley Blue Book, AWDs are effective on snow, because even if one of the tires slides, the remaining three can still pull the load and keep the vehicle on the road.

Subaru has leveraged its AWD capability to grow sales in the North American Snowbelt, and there is a good chance that it can adopt the same tactic in Russia. It is quite telling that Subaru enjoys a market share of 3% in the Snowbelt, compared to 1% in the Sunbelt .

Bright prospects

A recent study by Boston Consulting Group has forecasted that Russia will become Europe's biggest automotive market by 2020, ahead of Germany . The report states that commitments have been entered into for investments in excess of $10 billion on facility upgrades and capacity expansions through 2020.

While not every single year may post good sales, the overall market size will reach 4.4 million vehicles by the end of the decade, from 2.9 million in 2012. This would place Russia as the world's fifth-largest automotive market at that time, after China, the U.S, India, and Brazil. Right now, only 290 out of every 1,000 Russians own cars . If more Russians get access to credit, and more car dealerships spring up in the country, that low rate could rise, which presents a huge opportunity for automakers.

I think even without Boston Consulting's growth numbers, we can clearly discern the bullish market sentiments from other automakers' big plans for Russia. Toyota had a good 2012 in Russia, growing sales by 26% year over year to 169,000 vehicles. In 2013, sales are down 3% through August -- but that's not influencing the company's future plans. It has just announced that it will invest $181 million on expanding its St. Petersburg plant, where it will assemble its popular RAV4 SUV starting in2016 .

Meanwhile, Nissan is playing an even bigger game. Together with Renault, it has made a deal to acquire a 74.5% stake in Russia's biggest automaker, AvtoVAZ, by mid-2014. AvtoVaz's Lada is the country's most popular car brand, with an 18% market share in 2012. Nissan, Renault, and AvtoVaz aim to take a combined market share of 40% by 2016, from their current 32%.

Final take

The writing is on the wall - the Russian automotive market is going to heat up, and I think Subaru will gain a lot by paying attention to this market. The company's AWD vehicles give it a good foot in the door; now it just needs to come up with the right strategies. True, it has been a difficult journey so far, and the odds against the company's success in Russia remain high. But if Subaru can overcome those hurdles, its Russian rewards could prove equally big.

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Gaurav Basu has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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