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cfo europe
March 2002

East is East

Many foreign investors in central and eastern Europe are sorely disappointed with their forays into the region. Could EU accession change all that? Ian Rowley investigates.

When Ferrovial, the E3.6 billion Spanish engineering and construction company, announced that it was buying a 59% stake in a Polish firm in early 2000, CFO Nicol©s Villén had few problems convincing investors of the wisdom of the deal.

For one thing, Budimex, the target company, was bringing plenty to the table. A formidable player in a fragmented local market, it had carved itself a leading role in terms of size and efficiency. And having made several astute acquisitions of its own, Budimex's management team could provide vital support in helping the Madrid-based firm get a foothold in other countries of central and eastern Europe.

Then there was 2007 to consider. That's the year which marks the end of an EU programme that has been pumping millions of euros into infrastructure modernisation projects across Europe. Having won a number of key contracts under this and other government-led programmes in Spain, it was clear that Ferrovial needed to tap new sources of business before such projects ran dry.

Poland fitted the bill. "Poland was a market that had caught our attention," says Villén. "We saw it as very much in a similar position to Spain in the late 1970s, a few years before it joined the European Community." Indeed, as one of the frontrunners in central Europe to be a part of the next wave of EU enlargement, the country is poised for growth. "The expectation is that once Poland starts receiving European funds [after its accession some time around 2004] the market will grow considerably," says Villén.

That was certainly the case in Spain. In the ten years following its entry into the European Community in 1984, Spain's gross domestic product more than doubled in real terms and many of its industries-not least construction-benefitted both from an inflow of EU funding and from foreign investment. With a geographic size and population similar to Spain, this bodes well for Poland. In fact it bodes well for the entire east-central region, which along with Poland includes the Czech Republic, Hungary, Slovenia and Slovakia.

"[EU accession] is a good opportunity for the countries of central Europe to thrive," says Andrew Higginson, group finance director of Tesco, the £21 billion (E33 billion) UK supermarket chain which has been opening stores in east central Europe since the mid-1990s. "We look at it as upside to come."

Even so, companies have their work cut out. Since the collapse of communism in the late 1980s, recent history is littered with examples of west European companies that have charged into the east only to scale back their investments in the region or to pull out altogether. Though they might have entered the region in different ways-through partnerships, greenfield investments or buying strategic stakes in local, recently privatised businesses-the barriers to making their investments pay off are all very familiar. Onerous bureaucracy, stifling labour laws and political interference are just a few of the remnants of the communist era that have contributed to their woes.

And in those early days of post-communist euphoria, foreign investors were focused on one thing and one thing only: market share. The aim for them was to beat western rivals in gaining access to their emerging-market neighbours in the east, even if it meant paying a premium. However, few expected that the competition would be so intense, the modernisation of the old economies so slow and profitability so elusive. "A lot of companies moved into the region saying we have the technology and a western name, but profitability has been very hard to achieve in these markets," says Ron Nawrocki, head of the Council of Finance Executives, a forum for CFOs in Hungary.

Today, a growing number of CFOs are taking the lessons learnt in those transition years and looking at their investments in the region in a different light. The focus now is on cutting costs and driving efficiencies to the bottom line.

Old habits die hard

Yet it's still not easy. Just ask George Storozynski. In October last year, the former Polish-American investment banker was appointed finance chief of Warsaw-based Telekomunikacja Polska SA (TPSA), the largest telecom company in the region in which France Télécom owns a 47.5% stake, the Polish government owns 22.5%, and the rest is held by private investors and TPSA's employees.

Storozynski's arrival marked the beginning of a major restructuring plan at the former state-owned company in preparation for the sector's full liberalisation in 2003. But according to analysts, numerous attempts by the CFO to forge ahead with the plan, which included axing 12,500 jobs, or around 20% of the workforce, were thwarted by the political agendas of TPSA's various stakeholders. In particular, some TPSA observers say that the restructuring-notably the redundancies-didn't sit well with the OPZZ, the powerful alliance of Polish trade unions which is part of Poland's governing Social Democrat Party. The OPZZ denies this, but it's clear that unemployment-at a worrying 17.4% today-has become a thorn in the side of the five-month-old leftist government.

Whatever the boardroom politics, Storozynski's future at the firm was turning bleak, and by January, TPSA's supervisory board ousted him, citing "differences of opinion on future strategy".

Storozynski certainly wasn't the first CFO to have a face-off with unions and governments in the region. Nor will he be the last. But CFOs whose tenures have been longer than Storozynski's can claim important victories in modernising many central and east European companies.

Among them: Martin Hesse, regional CFO of Bayer, the E31 billion German chemical firm that has been present in the region for over 100 years. The key, says the 17-year veteran of Bayer, "is that you are very much a coach. There are some things, like the importance of cash flow, that you just have to explain from scratch."

When he arrived at Bayer's regional headquarters in Warsaw in 1998, Hesse found a finance department that was struggling to shed its old communist-era attitudes towards financial management. A case in point: planning. "During the communist era, no one could rely on a stable supply of goods or capital so planning in general was not popular," he says. In fact, it was virtually non-existent.

Credit structures, too, were still stuck in the practices of the past. "Rather than diversifying their credit structures, the Polish office had fallen into the habit of arranging credits by simply setting up overdraft accounts. In the old days, it made sense: getting loans wasn't popular because inflation was so high."

But Hesse says he found a receptive workforce, eager to learn and attend the training programmes that he set up. He's also taken advantage of new, more flexible visa laws in Germany that allow him to send a number of his Polish staff to work at headquarters in Leverkusen. In addition, Bayer has introduced an incentive scheme, which pays employees bonuses of up to four months' salary if they meet pre-agreed performance targets.

The coaching is paying off, he says. "The productivity of our Polish subsidiary in Swidnica, 80km east of the German border, is 15% higher than a comparable production facility in Germany," he enthuses. What's more, since the establishment of legal entities in 1994 and 1995, sales at Bayer's operations in Poland, the Czech Republic, Slovakia and Hungary have grown by nearly 20% a year and now total around E350m annually. The margins are equally impressive, says Hesse: "After years of investing in infrastucture and in the market, profitability has grown constantly and is now on levels comparable to western Europe."

Building a new mindset

But in many respects, CFOs might find resistance to change lies less within the finance function than out in operations. After all, teaching the rank and file to embrace the fundamentals of capital management is a tall order for any CFO-in the west and the east. And it gets even trickier when there are cultural and language barriers in the way.

At Budimex, however, that hasn't been the case. The reason, says Ferrovial's Villén, is accountability. As a supervisory board member of Budimex, Villén is among the handful of executives from the Spanish firm who have been helping with a restructuring drive aimed at, among other things, slashing administrative and production costs as a percentage of sales. At the centre of the transformation is the implementation of the same management information systems and project management tools that Ferrovial uses in Spain and other countries. "Our main objective in the short term is to make Budimex a very tough and competitive company," says Villén. "But it's local management who is doing the work. We're acting as consultants."

So now, for example, Budimex's 200 contract managers have been given more responsibility-and accountability-to keep a lid on the costs of their individual projects. "In the past, a contract manager would handle construction projects and aim to give the customer satisfaction," says Marcin Weglowski, the Polish firm's CFO, who joined Budimex in 2000 after stints at auditors BDO Polska and the Polish arm of BAT, the UK tobacco firm. "But now we're saying that is no longer enough. The person in charge of each project has to be thinking like someone running a company." In other words, managers pay much greater attention to profitability and each project now has a full P&L and balance sheet.

"The objective obviously is to be able to measure the performance of project managers on an equal footing regardless of location as well as helping to introduce the management philosophy of Ferrovial in Budimex," says Villén.

It's an approach that carries a powerful message. "They're saying, 'You're responsible for the business, but we'll give you support'," says Weglowski. "That's not always the case at other companies with foreign investors."

But from his perspective, greater accountability among local staff can only be a good thing for future competitiveness. "For companies like Budimex, there are opportunities to grow very quickly, particularly when you think about Poland joining the European Union," says Weglowski. "It's important we are prepared."

Patience is a virtue

Along with preparation, there is one more vital ingredient for success in central and eastern Europe: patience. Tim Whipple, senior partner at Andersen in Prague, says many foreign investors underestimate the time it takes to put together deals. He notes that deals frequently fall by the wayside because foreign investors expect too much too soon. "Foreign investors mistakenly think the other side [of the transaction] is stonewalling," he says. "But often it's just that some sellers are less experienced with M&A deals and need more time to become comfortable with the transaction."

And even more time than expected is needed for a company to make a deal bear fruit. "Some of the bigger issues boil down to managing expectations and bringing the right resources-people, financial, legal, operational-to bear," he says. "Unlike other parts of the business world, especially in western Europe and the US, which are accelerating, many things still take longer here."

Ferrovial's Villén concurs. He says he expects Budimex, which reported a net loss of 8.5m zlotys (E2m) for the first six months of 2001, will break even this year. "Our investment in Poland is long term and we will know if it has been a good investment quite a few years from now," he says. "But all the early signs are positive."


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