THE RUSSIAN PUZZLE

The Russian Puzzle

Dawn Thomas
George Onifade
Greter Lopez
Rebecca Jin
Yalda Homayoonpour
Professor George Barnes
IMS 3310.005 International Business
5 February 2015

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2
Summary

Following the disintegration of the former Soviet Union in 1991, Russia began the
implementation of a series of reforms geared toward the creation of a democratic political system
and a free market economy. Under the leadership of Boris Yeltsin (1991-2000) and Vladimir
Putin (2000-present), Russia has experienced major fluctuations in its political, economic, and
legal institutions, thus remaining a puzzle to the rest of the world and generating constant debate.
Despite the implementation of regular elections and the introduction of mostly private
firms under Yeltsin, Russias democracy was labeled phony by some critics. After the steep
GDP decline of about 40% in the 1990s, the economy began to experience some improvement,
now under Putins leadership, of about 7% growth per year. This economic growth, mostly
fueled by rising oil prices, came accompanied by a drift toward a more authoritarian government;
a change that most Russians did not seem to resent giving the improvement in their economic
situation.
With a drop in oil prices, however, Putin continues to implement even more stringent
rules aimed at consolidating himself in power. His government continues unchallenged after the
2012 fixed presidential elections and the autocrat in Putin is winning over the former
reformist. The question remains at to where Russia is actually heading, and if the government
will be able to continue to deliver economic growth. In the meantime, Russia remains a puzzle
for foreign investors for whom the political, economic, and legal situation in the Eastern country
do not yet offer the protections and guarantees needed to take the step forward toward
investment.

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3
Answers to Questions
Question #1

The Russian experience since 1991 supports the claim that democracy is conducive to
sustainable economic growth because the economic development that Russia enjoyed under
Putin an average of 7% per year - was due to high oil prices and not as a result of democratic
reforms. More recently, as a result of the crisis in the global oil industry and with oil prices
reaching a bottom low, the economic growth in Russia has stagnated and the country is going
through a very serious crisis, which proves that, in the absence of democratic institutions, there
cannot be sustainable economic growth.
Sustainable economic growth is predictable and stable during long periods of time, which
happens when it is driven by economic reforms and the development of fundamentals institutions
of governance, such as the rule of law and the protection of property rights. These institutions
create the framework that attracts and supports foreign investment, innovation, and
entrepreneurship, which consequently contribute to the development of free markets and these, in
turn, to the advancement of democratic governments (Bettcher). None of these institutions are
currently present in Russia.
Putin seems to have successfully established a totalitarian regime in Russia, drifting away
from the initial efforts in implementing institutional reforms. According to the 2014 survey
conducted by Freedom House compared to 2003 ratings -, Russia has moved from having
medium-to-worse scores in areas such as: national democratic governance (4.96 - 6.50),
electoral process (4.75 - 6.75), independent media (5.50 - 6.25), judicial framework and
independence (4.50 - 6.00), and corruption (5.75 - 6.75) measured 1 = best trough
7 = worse-. This step back in the implementation of democratic reforms and institutions that

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could have fostered foreign investment and the development of free markets will, more likely,
translate into an absence of sustainable economic growth in Russia (Nations).

Question #2
A stable legal framework that transcends to the growth of an economy does sounds
appropriate, but if the backbone of the economic prosperity is mostly supported by oligarchs,
legislations will ultimately be in their favor. An oligarch dominated economy spells trouble for
the general population and small businesses regarding their access to property rights. The
dynamics of politics in an oligarch dominated society creates a situation where the privileged
have more access to the government than their less privileged competitors.
After the scandalous loan-for-shares deal in Russia back in the 90s, significant amount of
the rich and well-informed amazed significant amount of wealth. Padded with high rate of
corruption, this small group of the wealthy who are presently the oligarchs in Russia, went on to
possess enormous political power. They also control higher percentage of most industries. Their
domination of the economy further impeded the change Russia needed. As discussed in a
publication on cipe.org, as long as the system remains indifferent to the need for property rights
guarantees and government officials fail to enact necessary reforms, owners of small and
medium-sized businesses will have little recourse but to seek solutions in the informal sector or
through corruption. Oligarchs in Russia have thus far only served their own interest, even though
they possess enough power to influence the government to enact laws that will guarantee
property rights in every level of power.

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The domination of the economy by oligarchs should evolve. Within its own powers, the
government needs to solely pursue the redistribution of these rights, in other to foster growth
within the small business and also attract foreign companies. Currently in Russia, private
property is weakly protected. The court system is so inefficient and corrupt that outside
settlement and arbitration is the norm. Property rights are difficult to enforce. Judicial corruption
is extensive. Expropriation is common (2015 Index). However, ignoring the fact that oligarchs
get more protection for their property than the lower class can suppress the small businesses into
losing their property easily into the hands of the government or oligarchs, thereby concentrating
more wealth into their hands. Also, the decline property rights has largely offset Russias
economic freedom score. This rating is a key focus for foreign investors when deciding either to
invest in the economy.
According to heritage.org, significant declines in financial freedom and property rights
have held back overall progress. The table below is the Property Rights Index - Russia Compared
to Continent. Evidently, it will do the economy greater good, to widely redistribute property
rights to counterbalance the offset in overall economic growth.
Europe:
Albania
Austria
Belarus
Belgium
Bosnia and
Herzegovina
Bulgaria
Croatia

3
0
9
0
2
0
8
0
2
0
3
0
4

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Cyprus
Czech Republic
Denmark
Estonia
Finland
France
Germany
Greece
Hungary
Iceland
Ireland
Italy
Latvia
Lithuania
Luxembourg
Macedonia
Malta
Moldova
Montenegro
Netherlands
Norway
Poland
Portugal
Romania

6
0
7
0
7
0
9
0
9
0
9
0
8
0
9
0
4
0
6
0
9
0
9
0
5
0
5
0
6
0
9
0
3
5
7
5
4
0
4
0
9
0
9
0
6
0
7
0
4
0

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Russia
Serbia
Slovak Republic
Slovenia
Spain
Sweden
Switzerland
Turkey
Ukraine
United Kingdom

7
2
5
4
0
5
0
6
0
7
0
9
0
9
0
5
0
3
0
9
0

Source: Global
Property Guide

Question #3

Question #4
As a board member for Wal-Mart, our team would vote against a new project in Russia.
Given Wal-Marts history in Russia with the previous venture in Moscow, which
ultimately resulted in the closure of our facility, we have decided to use a defined set of criteria
to evaluate future expansion opportunities. These criteria will serve as a foundation for Wal-Mart

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to make sound decisions before partnering in new acquisitions, or making any further
considerations about building operations from scratch.
The criteria are as follows:
1.

Size and nature of the market opportunity

2.

Nature of our Competition

3.

Fit with our Value Proposition (our right to succeed)

4.

Risk profile (including Compliance Risk)

5.

Return on investment
Criteria 1: Size and nature of market opportunity

Russia represents an interesting market opportunity given its size and recent growth
performance. As a member of the high growth BRIC countries, Russia is a logical place for many
multinationals to place a long-term bet. Moscow is a key city market of disproportionate
importance. Recently, consumer spending has slowed and may, in fact, be contracting given the
overall weakness of the economy. If the Russian government drive much needed structural
reform, consumer spending may once again pick up and outperform our mature US market
growth rates.
Score: Attractive
Criteria 2: Nature of our competition
Wal-Mart has to consider the competition. Popular in the United States because of its
everyday low prices and large assortments, our core big box format is best suited for large
suburban environments where consumers tend to own cars and make shopping trips to load their
pantry. In Russia, the consumer base is different; shopping habits tend to revolve around more

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frequent daily trips, and fewer consumers own cars. The retail formats that tend to succeed in
Russia differ from our traditional format - they tend to be smaller with less expansive
assortments-. Discounters have done well. If we enter Russia, we will face established
competitors who will have every incentive to compete hard to limit our success and presence in
the market. This will likely be a bruising fight.
Score: Unattractive
Criteria 3: Fit with our value proposition
Our core value proposition in the US will likely do well in Russia, which is our emphasis
on lower prices and a large assortment of goods. However, we may need to deliver this
proposition in a smaller format store, which have not been successful so far in the US market.
Score: Moderate
Criteria 4: Risk profile
There are great risks associated with expansion in Russia.
With the compliance issues that arose in Mexico, Wal-Mart has to make sure that it
follows all of the rules, which may represent a challenge in the context of a rapid expansion in
Russia. Our new outline set forth in the Global Compliance Organizational Structure, has been
put in place to monitor all activities at various levels to ensure all businesses are corruption free.
With that being said, we cannot afford to put ourselves in a position where entering a new market
is more important than keeping the integrity and presence of the company name clean. Doing
business in Russia will likely involve compliance issues, as it has for many other multinational
companies doing business there.

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In addition, there is significant macroeconomic and political risk associated with any
investment in Russia given the ongoing conflict in Ukraine, the misalignment with US and
NATO agendas, the significant economic trouble created by the low oil prices and Western
sanctions, and the overall lack of truly democratic institutions and rule of law. It is unlikely that
the current regime led by Vladimir Putin will transition well or peacefully.
Score: Highly unattractive
Criteria 5: Return on investment
In order to make the most informed decision possible on the potential entry into Russia,
we need a robust business case that considers all the benefits and costs associated with such a
decision. We need to see the financials, as they would likely develop over a multi-year
timeframe. Until we have a detailed view of this, we do not have a compelling argument for
entry.
Score: Pending
Russia is a big market and our business may thrive there. While the market opportunity is
attractive, the risk compliance is significant enough for us to deem Russia too unstable to commit
our resources at this time.

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11
Company Update

In 2001, Wal-Mart filed with Russia to register its main trademark. In order to cope with
bureaucratic, cultural, and logistical challenges, Wal-Mart chose to pursue the acquisition of
smaller chains over starting from scratch as the best entry strategy. The most successful retail
chains in Russia have already proven that doing business in Russia requires doing a lot of the leg
work yourself. The country is notable for its huge distances, low population density and horrible
roads. Options for outsourcing logistics are scarce (The Economist). Magnit, Russias largest
retailer is also Russias largest shipping company. (Talley)
In 2008, Wal-Mart opens its first office in Moscow and joins the Russians retail industry
lobby AKORT. Over the next two years, Wal-Mart is rumored to be in talks with several Russian
chains. According to Russian newspapers Vedomosti and Kommersant, Wal-Mart was outbid for
several small grocery chains during its two year tenure. By December 2010, Russia closes its
Moscow office citing lack of acquisition opportunities. This decision comes a week after WalMart loses a bid for a Russian retail group operating around 700 locations called Kopeika, to
another Russian retail group called X5 for $1.65 billion. In a press release about the Moscow
office closure, Walmart International head Doug McMillon stated "Since there is no clear
acquisition partner in the near term, there is not a business reason to continue our Moscow
representative office," adding that the company "will continue to pursue market entry
opportunities." Since then, Wal-Mart has remained mostly dormant in regards to Russian
activities (Kiselyova).

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12
Take-Away Value

Studying this business case exposed the group to the messy, complicated, tough, and
unsuccessful side of international business. We learned that being the biggest retailer in the world
does not automatically guarantee success. Despite the amount of power and resources Wal-Mart
poses, it could not achieve its goal of getting into one of the largest markets in the world at a
lucrative price. We may never know the exact reasons why Wal-Mart did not choose to
eventually throw all its money at acquiring a single retailer in Russia, which it could easily do.
We were forced to think about where and why Wal-Mart chose to draw the line. Perhaps the
shaky economy muted Wal-Marts desire or it may have been the stifling corruption and
bureaucracy entrenched in business dealings. Most likely it was a combination of many factors
that can almost be quantified as not worth more than $1.65 billion to Wal-Mart.
Better yet, we learned that Wal-Mart was right. Its catalog of cons made a smart case for
avoiding investing too much into an economy that could not be depended on. Today we can see
Russias government is months away from default, oil is dragging down the economy it used to
have afloat, theyre having to struggle against its crippled currency, the West is considering
cutting Russia off from the SWIFT banking system, numerous other sanctions are increasing the
strain, and the entire country is trapped beneath a political leader whose actions reflect more and
more those of a cornered and desperate individual.

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13
Citations

2015 Index of Economic Freedom. Retrieved from http://www.heritage.org/index/country/russia

"A Magnit for Investors." The Economist. The Economist Newspaper, 8 June 2013. Web. 31 Jan.
2015. <http://www.economist.com/news/business/21579023-retailer-doing-wellbusiness-unfriendly-country-magnit-investors>.
Bergsman, Joel, Harry G. Broadman, and Vladimir Drebentsov. "Improving Russias Policy on
Foreign Direct Investment." . N.p., n.d. Web. 24 Jan. 2015. http://wwwwds.worldbank.org/external/default/WDSContentServer/WDSP/IB/2000/05/25/00009494
6_00051005303290/additional/128528322_20041117153600.pdf
Bettcher, K. E., & Shkolnikov, A. (2009, October 27). Democratic Governance and the Quality
of Growth. In Center for International Private Enterprise | www.cipe.org. Retrieved
January 23, 2015, from
http://www.democracythatdelivers.com/conferencepaper_final.pdf
Doing Business. World Bank Group, 2014. Web. 24 Jan. 2015.
<http://www.doingbusiness.org/data/exploreeconomies/russia#protecting-minorityinvestors>.
Harris, Edmund. The Moscow Times. N.p., n.d. Web. 27 Jan. 2015.
<http://www.themoscowtimes.com/realestate/quarterly/article/370125.html>.
Khrennikov, Ilya. Bloomberg. N.p., Sept. 2012. Web. 27 Jan. 2015.
<http://www.bloomberg.com/news/2012-09-07/russian-food-store-tsar-rings-up-billionsas-wal-mart-wavers-2-.html>.

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Kiselyova, Maria. "Timeline: Wal-Mart Eyeing Russian Market." Reuters. Thomson Reuters, 5
Apr. 2012. Web. 31 Jan. 2015. <http://www.reuters.com/article/2012/04/05/us-walmartrussia-timeline-idUSBRE8340LP20120405>.
Nations in Transit-Russia. (2014). In Freedom House. Retrieved January 23, 2015, from
https://freedomhouse.org/report/nations-transit/2014/russia#.VMLpbEfF-ao
Russia. Privatization. (1996, July). Retrieved January 31, 2015, from http://www.countrydata.com/cgi-bin/query/r-11446.html
Samyatina, Tamara. Russias retaliation to foreign sanctions may be heavy. Russian News
Agency, 6 Aug. 2014. Web. 27 Jan. 2015. <http://itar-tass.com/en/opinions/763366>.
Strengthening Property Rights in Russia. (n.d.). In CIPE. Retrieved January 31, 2015, from
http://www.cipe.org/sites/default/files/publication-docs/CIPE_PROPERTY_e_0.pdf
Talley, Karen. The Wall Street Journal. N.p., n.d. Web. 27 Jan. 2015.
<http://www.wsj.com/articles/SB10001424052748703727804576017493285724796>.
Timeline: Wal-Mart eyeing Russian market. Reuters, 5 Apr. 2012. Web. 27 Jan. 2015.
<http://www.reuters.com/article/2012/04/05/us-walmart-russia-timelineidUSBRE8340LP20120405>.
"Understanding Putin's Plans." The Economist. The Economist Newspaper, 31 Jan. 2015. Web.
31 Jan. 2015. <http://www.economist.com/news/europe/21641278-russian-presidentstepping-up-both-war-ukraine-and-his-confrontational-rhetoric?
zid=307&ah=5e80419d1bc9821ebe173f4f0f060a07

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Walmart. N.p., 2015. Web. 27 Jan. 2015. http://news.walmart.com/newsarchive/investors/walmart-announces-closure-of-moscow-office-1506772.
X5RetailGroup. N.p., n.d. Web. 27 Jan. 2015. <http://www.x5.ru/en/about/>.

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