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Russia: knowledge intensive entrepreneurship under conditions of superior foreign competition in a liberal transition/ market economy (part 2)
NATALIA N. DUMNAYA
Editor-in-Chief, PhD of Economics, Professor, Head of Chair «Microeconomics», Financial University, Honored Economist of High School of Russian Federation A. YU. YUDANOV
Deputy Editor-in-Chief, PhD of Economics, Professor of Chair «Microeconomics», Financial University G. V. KOLODNYAYA
PhD of Economics, Professor of Chair «Microeconomics», Financial University E-mail: [email protected], [email protected], [email protected]
DIME - AEGIS - LIEE / NTUA ATHENS 2010 CONFERENCE
"The emergence and growth of Knowledge Intensive Entrepreneurship in a comparative perspective. Studying various aspects in different contexts» April 29-30, 2010.
4. Gazelles' Innovation Ecosystem and structural Changes in the russian Economy
The important point we want to make in presenting the results of our study is the non-random nature of the successes of Russian gazelles. The transformation of a firm into a gazelle in almost every case was underpinned by the future gazelle's deliberate search for some kind of vital but unsatisfied market need and by its extraordinary efforts to remedy the situation. With other words: the success of gazelles is knowledge-based.
This is most clearly evident from the dossiers of individual firms. Russian gazelles display innovative-ness of the most wide-ranging nature. It can be purely technological, as when Energomera grows the world's largest sapphire crystals required in manufacturing cell phones. Marketing innovations are very numerous: the Soviet era led to a total loss of marketing skills, so that a firm acquiring such skills with respect to a certain product leaves its competitors far behind (Kolodnyaa, 2007). In other cases success is achieved, on the contrary, by breaking marketing stereotypes. For example, the firm Splat gained ground against its
much more powerful Western rivals by breaking the global marketing taboo on black toothpaste (such is the color it gets from natural herbal extracts often required for medicinal purposes).
It is important to note that the non-random nature of gazelle successes can to a certain extent be confirmed quantitatively as well. The ability to grow rapidly is clearly a cumulative knowledge (see Table 6). And the difference in figures is significant: only 33.75 of firms that grew slowly during the previous year are able to show rapid growth the following year, whereas gazelles with six or more years of continuous rapid growth continue to grow rapidly the following year in 56.1% of cases. The longer a firm's track record of rapid growth in the past, the greater the probability of its continued rapid growth in the future.
No wonder that the new knowledge introduced by gazelles into economy works as a strong factor of structural changes. Let us ask a question: what is the fundamental difference between the modern Russian banking system and the same system in 1999? Skipping the details, the answer is obvious to all Russian citizens: the main difference is in the creation of the consumer lending industry. Let us ask the same
Table 6
Relationship between Current Year Growth Rate and Development in previous Yearsa
Number of consecutive years of rapid growth in previous years Number of firms Of which: firms showing rapid growth in current year
Firms %
No rapid growth in previous year 4194 1414 33.7
One or more years of rapid growth 2329 1164 50.0
Two or more years of rapid growth 1156 567 49.0
Three or more years of rapid growth 572 294 51.4
Four or more years of rapid growth 299 159 53.2
Five or more years of rapid growth 186 101 54.3
Six years of rapid growth 132 74 56.1
Total 6524 2578 39.5
a According to data on 6524 permanent firms for 1999-2006.
b «Rapid growth» means revenue growth (constant prices) at a rate of 20% per year or over. Source: Finance Academy - Expert Database
question regarding retail trade. And the answer is in the domination of chain stores (supermarkets, hypermarkets, discounters, etc.) that are well established in the market. In the communications sector, the main innovation is that mobile telephony has turned into a mass phenomenon that has literally changed the life of entire social strata and age groups. If we try to find the pioneering firms that have carried out these revolutionary changes, it will turn out that they are on our lists of gazelles for the respective years.
Let us also try to make a broader generalization. What kind of qualitative improvements have taken place at the micro level in the Russian economy in the 1999-2007 period of economic expansion? In our opinion, positive changes are mostly observed in two sectors with the highest concentration of gazelles. Namely, the infrastructure for doing business has been upgraded and lines of production have appeared targeting the «sub-middle» or «upper lower class» (in effect, the social stratum in which unprivileged agents — the «workhorses"—of reform are mostly concentrated).
Indeed, the transition economy in Russia presented a very strange picture in the 1990s. The normal business support infrastructure that exists all over the world was absent in Russia. There was no leasing, no factoring, no automated management, no recruiting. In fact, there were even no normal distribution channels.
At the same time, there were no goods for the key personnel of the lower and middle echelons, for the backbone of the companies. The people who performed the major part of the skilled work in companies could not properly spend their moderate but not meager salaries. They were offered either very cheap stuff or good products at prohibitively high prices. Actually, these practices destroyed the motivation of skilled labor. This kind of economy could be compared to an organism without a digestive tract. For example, this is how the country swallowed, without digesting, various import products purchased for petrodollars and sold to customers from a dirty trailer in a bazaar.
Gazelles have done a great deal to end this intolerable state of affairs. In a very short period, the country has obtained a basic albeit undeveloped infrastructure for business activity and has started the production of at least some consumer goods for average income Russians. Having established this fact, the authors even invented a kind of game: asking our acquaintances to name domestically produced goods or services that have significantly improved their life or business in recent years. With rare exceptions, positive changes were always associated either with the activities of gazelles (majority) or with government efforts (minority, e. g. a revival of the civil aircraft industry) but virtually never with the activities of nongazelle firms. Some of the most significant changes in
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Table 7
Gazelles and some structural Changes in Russia
Gazelle Period of rapid growth Changes in Russia
BaLtika 1991-2001 First Russian beer meeting world standards
1S 1991-2007 Automated accounting and enterprise management for SMEs
RaLf Ringer 1995-2005 Competitive footwear manufacturing in Russia
VimpeLComa 1999-2007 Widespread use of mobile phones
X5 RetaiLb 1999-2007 Retail chains in democratic formats
Kaspersky Lab 1999-2007 Antivirus software competitive in the world market
NFC 1999-2005 Factoring in Russia
Yandex 2000-2007 First Russian search engine on the Internet
Korkunov 2000-2005 Premium domestic sweets
RBC 2000-2007 Internet advertising, TV business channel
Russian Standard 2001-2006 Consumer lending
a Beeline trademark.
b Pyaterochka and Perekrestok trademarks. Source: Finance Academy - Expert Database
the Russian economy and the names of the gazelles that initiated them are given in Table 7.
Why do fast growing firms play such a great role in the general flow of qualitative changes in the economy? In our view, the conscious choice of a field of activity by gazelles is of key importance in this respect. The future niche is selected in a purposeful, deliberate way based on the prospects it opens and on the absence of competitors. No wonder that when a company does find such a niche, this leads to explosive growth, which not only has a significant effect on the company itself, but also changes the very structure of the industry concerned. After all, it is a badly needed novelty that comes on the market.
It is possible to say that gazelles convert their advantage of knowing the real requirements of the market into a fast growth of sales. And this growth, as it was found out, is of rather an unusual character: an unexpected phenomenon revealed during our study of Russian gazelles is that the growth of many of them is close to strictly exponential. And, as it is known, growth by an exhibitor has the property to get accelerated in time (in absolute terms). No wonder, that the moment an exponentially growing gazelle appears, the corresponding branch becomes unrecognizable in a few years.
Let us begin our discussion of this phenomenon with a case study of the above-mentioned Russian Standard Bank, a pioneer of consumer lending in Russia. In 1999, Russian Standard (a small bank by industry standards, whose total assets in 2000 amounted to 1167 million rubles, or $41 million) for the first time in Russia began to practice point-of-sale (POS) consumer lending, providing Western-style consumer loans upon the presentation of the simplest documents: passport, driving license and a filled-in application form. Consumers, extremely weary of previous bureaucratic lending procedures, welcomed this innovation with enthusiasm. In 2006, at the end of its high-growth phase, the bank's total assets reached 183.8 billion rubles, or $6.8 billion, increasing 157fold in only six years (left panel of Figure 2), while the bank itself joined the list of the country's ten largest banks.
The semilogarithmic scale (right panel of Figure 2) clearly demonstrates that this growth in its avalanche phase (2001-2005) is close to an almost perfect exponential curve. Indeed, on this scale exponential curves look like straight lines. And, as the graph shows, the rate of growth in Russian Standard assets falls on a straight line as if the data for each year were artificially adjusted to this function. More properly, accuracy of approximation is incredibly high (R2 = 0,9996).
200000
150000
100000
50000
207952
2294
1167 0
183801
,104584
41780 15631
ci> cib сД
1000000
100000
10000
2294
1000
100
10
2001
2002
104584
y = 859,14e0 9637x R2 = 0,99965
2003
2004
2005
Figure 2. Total Assets of Russian standard Bank (millions of rubles at year-end)
Source: Annual reports of Russian Standard Bank for 2002-2007, current information of the Bank of Russia
1
This fact, in our opinion, is of great heuristic importance. Even with such a short data series (only five points) it is hard to believe in the random nature of this phenomenon. The thing is that the sales volumes of an individual firm (or the total assets of a single bank) are subject to strong fluctuations. They respond to changes in macroeconomic activity, price behavior, product life cycle, advertising campaigns, sales network development, and many other factors. Moreover, not only the activities of the company itself are of importance, but those of its competitors as well.
Normally, it is impossible to find a regression equation to describe actual data with such inconceivable accuracy not only using a simple exponential function, but even with the help of complex multi-factor models. Quite simply, actual sales keep «jumping» and deviating from theoretical values under the impact of significant factors not taken into account by the model. Incidentally, Russian Standard itself is no exception in this sense: it is extremely difficult, for example, to find an equation describing the fluctuations in its total assets after it ceased to be a gazelle (i. e., including 2007-2008). But as a gazelle it grew at a strictly exponential rate and, as it turns out, this bank was not alone.
Amazingly, the exponential growth of Russian Standard is not an isolated artifact but presents a
picture that is quite typical of gazelles, which cannot be said of other firms. Figure 3 shows how closely revenue dynamics follows an exponential law (a) for gazelles and (b) for non-gazelles. As representatives of gazelles we selected «long-lived gazelles», namely those 74 firms which started growing rapidly together with the other 484 gazelles of the 1999-2003 generation and managed, in contrast to the rest, to maintain high growth rates up to 2006. The control group was a sample of the same size (74 firms) randomly selected from among the permanent firms for the same period.
The results of a comparison between the two groups, in our opinion, are extremely interesting. A virtually perfect approximation of growth dynamics to the exponential function (R2 > 0.98) was demonstrated by 50% of long-lived gazelles, whereas for conventional firms this was only a rare exception (4% of firms). Another important point is that near-exponential growth (R2 > 0.95) was characteristic of the overwhelming majority (89%) of long-lived gazelles.
So what is the source of this strange ability of many gazelles to grow as if nothing is happening around them, moving year after year — with amazing accuracy, like a train running on schedule — to the next point of a steep exponential curve. Why do the factors that keep disrupting the development of
■74 Long-Life Gazelles QRest
Figure 3. Quality of Exponential Approximation of Gazelle3 and Non-Gazelleb Revenue Dynamics (percentage of firms with given coefficient of determination R2)
a Entire population of identified gazelles (74 firms) showing an annual revenue growth rate of over 20% (at constant prices) every year during 1999-2006. b Random sample of the same size (74 firms) from among
the permanent firms of 1999-2006.
Source: Finance Academy - Expert Database
other firms fail to deflect gazelles from the exponential path?
Mathematically speaking, the exponential expresses in the form of a continuous function the same relationship that in discrete form is expressed by an equal percentage of growth during equal intervals of time. In nature, a typical case of the appearance of such dynamics is the processes of reproduction in the absence of resource constraints.
For example, the population of rabbits that were brought by Europeans to Australia and within a few years spread across the green expanses of the continent grew precisely at an exponential rate. And the reason is quite clear: each doe rabbit produced 6 to 8 young rabbits once a month, each time increasing the total number of rabbits by a certain percentage. Then her numerous offspring began to breed, followed by the second generation of offspring, and so on. And since grass was in abundance, there was nothing to prevent the rabbits from sustaining this natural reproduction rate from generation to generation.
Can it be that the same growth mechanism operates at an entrepreneurial firm, turning it into an exponentially growing gazelle? Is it possible that such is the nature of the gazelle's sustained rapid growth?
It is true that most of the factors that make the development dynamics of a conventional firm unstable and difficult to predict are confined to fluctuations in demand for its products. But by organizing the production of some highly sought-after product a successful entrepreneur removes the demand constraints. The product is in such demand that everything the firm produces will obviously be snapped up. The firm's growth rate in these conditions depends not on demand but on the firm's ability to increase the supply of its product and, consequently, on the rate of increase in its internal specific assets.
As for the latter, they often grow exponentially. An entrepreneur capable of training two highly skilled and aggressive executives, each of whom will then foster two talented deputies, each of whom ..., etc. — such an entrepreneur is no different from a doe rabbit in terms of process dynamics. Considering that
in 2000 Russian Standard had 221 employees and in 2006 the figure was 36617 employees, it is clear that the ability to train proper management personnel was the main constraint on growth, because otherwise the tiny firm that had recruited almost forty thousand new employees would have become unmanageable and, in Russian conditions, would have certainly been plundered by its employees.
The same method as in training management personnel is sometimes also used to train rank-and-file employees. The CEO of the Russian dumpling manufacturer U Palycha (premium handmade pelmeni) reasoned along similar lines when he said that the growth rate of his gazelle was limited by the ability of experienced workers to teach newcomers how to make pelmeni.
For gazelles, even financial resources acquire the features of internal specific assets. Investing money in a fast growing small or medium enterprise is extremely risky. In fact, only the owners of the gazelle are confident that the investments will be recouped. As a result, many gazelles are financed through total reinvestment of profits. And then everything goes on as in the case of rabbits: reinvested profits make it possible to expand production, which makes it possible to make more profits, whose reinvestment once again expands production, and so on.
As our surveys show, such reasoning is not mere theoretical speculation. This is precisely how the top managers of Russian gazelles understand the situation (see Figure 4). The constraint on growth that
seems the most natural one for firms operating in a market economy — lack of demand — was named as a significant factor by only 10-14% of gazelles (sic)1. At the same time, resource constraints — shortage of funds, difficulties in recruiting management and other personnel — are seen by gazelles as the most serious factors (they were named by 38-40%, 33-45% and 38-45% of gazelles, respectively).
One might think that we are dealing with Soviet plants, with their constant resource shortages and the state's unlimited demand for any products. But this is not the case. The nerve of the situation in the new Russia is fundamentally different. In contrast to Soviet plants, gazelles are by no means indifferent to the volume of demand. It is simply that a firm can probably join the ranks of gazelles only if the problem of demand has been successfully resolved. Here is how this idea was expressed, in almost the same words, by Mikhail Kershtein, CEO of the company Ramfood (meat products): «We produce as much output — of a quality that suits us and in a variety required by the market — as we can. One gets the impression that if we had an opportunity to double our output within two or three months, the market would swallow this up».
1 It should be borne in mind that the firms' responses refer to the pre-crisis period. The crisis has undercut many gazelles, creating demand constraints to which they are not accustomed. However, we have already recorded the emergence of new gazelles producing goods and services for which there is unlimited demand exactly in times of crisis.
