Entry Strategy for Russia: Franchising

By | Published 06/3/2006 | Market analysis | Rating:

Franchising in Russia

The spending patterns of consumers in Russia are rapidly starting to resemble those of other
European cities, and thus are creating demand for recognized brands and high quality
services. In order to meet the expectations of their clients and gain a competitive advantage,
more and more Russian private enterprises and entrepreneurs are seeking partnerships with
well-recognized Western companies, including franchisors.

During its 12-year history in Russia, the franchising sector has developed mainly in customer
oriented segments, such as fast food and restaurants, education and training, fitness and
health care, recreation and entertainment, travel and lodging, automotive and retail.
Franchising in business-oriented services is also gaining momentum. Good examples of the
B2B segments where franchise models work successfully are cleaning services and
maintenance, transportation, logistics, express mail services, management training, and
consulting.

Franchising in Russia 2005

There is no definitive source for market statistics on the franchising sector in Russia so it is
difficult to assess the current market volume. However, the Russian Franchise Association in
2005 estimated that 150 franchise systems were operating in Russia. According to the
franchise market analysis of Newbridge Group, as of September 2005, the Russian franchise
market consisted of 165 franchisors and approximately 3000 franchisees. According to the
same source, the number of franchise systems grew by 19 percent in 2005. Another source
has estimated that 200 franchise systems currently operate in 10-15 business areas in Russia.
Another reflection of the dynamics in franchise market development is the growth of
participation of domestic and international brands in the BuyBrand-2005 International
Franchise Exhibition, Russia's main franchising show, which has been held annually in
Moscow since 2003. The number of exhibitors in the show increased from 67 in 2003 to 138 in
2005.

Import Market for Franchise Concepts

Franchising as a business model first came to Russia in the early 1990s, when it was
introduced by foreign franchisors. Among the franchise pioneers were such well-known
American brands as Pizza Hut, KFC, Subway, and Alphagraphics. The second wave of market
entries came at the beginning of the new millennium, when economic reforms initiated by a
new government led to gradual improvement of the business environment and Russia joined
the list of the world's fast-growing economies. According to data from Newbridge Group, out of
165 franchise concepts currently present in the market, 68 percent were established
domestically, 20 percent were brought to Russia by European franchisors, and 12 percent are
American franchise concepts.

The most visible U.S. franchise concepts present in the market today include: AlphaGraphics,
Baskin Robbins, Broaster Company, Carl's Jr., Crestcom, Chem-Dry, Chips-Away, Days Inn,
FasTracKids, Gold's Gym, Jani-King, KFC, LMI, Mail Boxes Etc., Office 1 Superstore, Papa
John's, Pizza Hut, Sbarro, and Subway. Among these should also be included Broadway
Pizza, Chicago Design, Kroshka-Kartoshka, New York Pizza, Pasta Lavista, and Star Galaxy,
which are all franchise concepts established and developed in Russia by (or with participation
of capital of) U.S. companies or entrepreneurs.

McDonald's, which now has 137 restaurants in 17 Russian cities and is one of the most
recognized brand names in Russia, was among the first to enter the market in the early 1990s.
The brand successfully grew to become the country's largest network of non-domestic, fast-
food restaurants. However, Despite the direct association of its brand name with franchising,
McDonald's has been growing in Russia so far only by opening corporate-owned restaurants
and has not sold a single franchise license.

Competitive Advantages and Disadvantages for U.S. Franchisors

The main competitive advantage of U.S. franchisors is that they can offer their franchisees
more extensive and sophisticated support and assistance than the majority of domestic
franchises who are in the process of development. For instance, many domestic franchisors do
not offer training programs, and home office/field assistance is often very limited. As the
majority of Russian franchises are at an early stage of development and the number of their
outlets is limited, their franchisees may not benefit from the purchasing power that comes from
joining large franchise networks. Domestic franchisors have less to offer in the area of
marketing, advertising, and "grand opening" programs. They have yet to learn from Western
franchises how to modernize through ongoing research and development by marketing new
products and systems of operation.

Non-U.S. foreign franchisors are also actively entering the Russian market. Their major
advantage is geographical proximity to Russia, which may significantly reduce expenditures for
their franchisees related to travel and imports, as well as make communications between
franchisor and franchisee simpler. However, the dollar depreciation against the euro has
reduced the influence of this factor. In order to secure reliable communications, many U.S.
franchisors provide operational support from European offices.

Market Entry

The majority of U.S. franchisors that enter the Russian market prefer to establish master
franchise partnerships with partners based in two main cities - Moscow or St. Petersburg.
However, markets in Moscow and St. Petersburg no longer represent an easy opportunity for
quick entry due to high costs and increased competition. There are a number of challenges
that U.S. franchisors should be aware of, such as access to good locations, increasing
competition from local and international service providers, necessity of aggressive promotional
campaign, and significant expenditures on marketing. Another important factor that may affect
new market entries into the Moscow market is the possibility of conflicts of interest with the
Moscow Government. The Moscow City Government and other senior officials from local
administrations may be directly or indirectly involved in commercial projects in consumer-
oriented sectors.

The regional cities that are commonly ignored by foreign franchisors may represent significant
business opportunities. Several regional cities have populations exceeding one million people.
These metro areas have educated workforces, entrepreneurs with excellent experience, good
relationships with local administrations, and access to fine locations. The demand for well-
known brands and high-quality services in the regions is very strong.

U.S. franchisors may utilize a number of instruments in their efforts to establish their presence
in the Russian market. The U.S Commercial Service offices in Moscow, St. Petersburg and
Vladivostok can assist U.S. franchisors with successful market entry by providing professional
market research and customized contact facilitation services. In addition, the U.S. Commercial
Service in Russia organizes U.S. franchise outreach programs to different parts of Russia and
helps U.S. franchisors and U.S. franchise holders in Russia establish direct contacts with local
authorities and business associations, as well as to meet with qualified potential partners. In
addition, BISNIS representatives in Russia's regions (Samara, Nizhny Novgorod, Novosibirsk,
Tomsk, Khabarovsk, and Sakhalin Island) can provide information and support to U.S.
companies interested in exploring these areas.

The annual BuyBrand International Franchise Exhibition, which is held in Moscow in the fall, is
an excellent way to make contacts and become acquainted with the market. An inexpensive
way to participate in the show is to join the U.S. Commercial Service (CS) Moscow exhibition
booth where Commercial Specialists showcase catalogues of U.S. franchisors, collect contact
information from the visitors who express interest in specific U.S. franchise concepts, and
forward the contact lists to the U.S. participants.

U.S. franchisors planning to exhibit at the International Franchise Show 2006, which will be
held in Washington, D.C., on June 2-4, 2006, may want to inform the CS Moscow about their
interest in Russia. CS Moscow plans to accompany an official Russian delegation to IFE 2006
and will facilitate business meetings and help with follow up.

U.S. franchisors may also work with professional business consulting companies and brokers
who help U.S. companies find business partners and successfully enter the Russian market.