In 1990 the Russian aviation industry produced 715 new civilian aircraft. Ten years later, it produced four.
At the end of the 1980s, when it was at its apogee, the Soviet aerospace industry accounted for some 25 percent of worldwide civil aircraft production and 40 percent of military aircraft.
Today, an aging fleet and stringent international aviation standards, threaten to ground Russian aircraft for good.
A long way down
The likes of Tupolev, Ilyushin, Mikoyan, Yakovlev and Sukhoi are firmly established as pioneers in the annals of aviation history.
More widely recognized by their abbreviations Tu, Il, MiG, Yak and Su these names have provided the rank and file of civil and military aviation fleets the world over, from San Jose to Szechuan.
The last 10 years, however, have struck a cruel blow to Russias once mighty aviation industry. The advent of market forces sent shockwaves through an industry unaccustomed to the laws of supply and demand.
According to a report by the U.S. Commercial Service in Russia, the country produced 715 civilian aircraft in 1990. Eight years later production had dropped to 54. In 2000, Russia produced only four civilian aircraft and in 2001 Russian airlines purchased six new planes and one helicopter.
State funding for the procurement and research and development of new aircraft is around 7.5 percent of Soviet levels, says the report.
Richard Brody is president of United Technologies International Operations in Russia. United Technologies aerospace business units, including Pratt and Whitney (engines), Hamilton Sundstrand (aerospace products) and Sikorsky (helicopters), are major investors in the Russian aerospace market.
"The past decade has been a very difficult period for Russias aviation industry," he told The Russia Journal.
"The Soviet industry was entirely state supported, there was no commercial market and although Russian industry was producing hundreds of aircraft at the beginning of the 90s, it was under a completely different economic system," says Brody, the chairman of the American Chamber of Commerces aerospace committee.
|Source: U.S. Commercial Service report and others.|
When the Soviet Union collapsed and the Cold War ended, the economy contracted, orders for defense products dropped substantially and the aviation industry lost the subsidies that had formerly kept it afloat, explains Brody. Demand for air travel fell precipitously and the state airline, Aeroflot, split into more than 300 separate entities.
Industry production capacity hugely outweighed demand and today the majority of manufacturers are working at about 10 to 15 percent capacity, most near to collapse.
"Aviation production has declined over the past decade to the point where very few planes are being produced. Russian industry faces some critical choices," said Brody of UTIO.
Gross output of the industry in 2000 was approximately $2.7 billion with a net profit of $600 million.
Exports of military aircraft in 2000 amounted to $1.3 billion and exports of civil aircraft were approximately $355 million. India and China are the main export markets for Russian aircraft, military and civil.
According to the State Civil Aviation Authority, at the beginning of 2002 the Russian fleet consisted of around 6,000 aircraft, of which 46 were foreign made.
And at the end of 1999, the average age of Russias fleet was just over 12 years, with the majority (75 percent) aged over 10 years, says the U.S. Commercial service special report.
This means over the next five years, up to 30 percent of the Russian fleet should be replaced.
Standards too high?
If any aircraft are to be flown in international airspace, there are certain stringent standards that the aircraft must meet, in terms of environmental issues and safety measures.
Under the International Civil Aviation Organization (ICAO) convention for noise standards, very few Russian made aircraft are permitted to fly abroad.
Only the Tupolev-154M, the Ilyushin-96-300, the Tupolev-204/214 and Yakovlev-42D meet international noise standards, a small percentage of Russian-made planes.
In 2006 even more stringent rules will come into effect, which no Russian airplane currently on the market meets. Some planes can be upgraded, but the majority will have to be replaced.
Other international requirements, such as the installation of an early warning anti-collision system, TCAS, further increase costs or rule out many Russian made aircraft from international travel.
Russian airlines such as Aeroflot will be forced to buy foreign aircraft, such as Boeing and Airbus, and Russian aircraft producers will suffer further.
The industry consists of about 300 entities including design bureaus (Ilyushin, Tupolev etc.), production facilities (Aviastar) and research facilities.
During the Soviet era, the industry was churning out civilian and military aircraft according to the demands of the state, not the market.
Consequently, no one really wants the majority of the aircraft that Russia has the capacity to make, and as is the situation with noise and safety standards, airlines are looking elsewhere.
The buzz word in the industry for the past few years has been "consolidation" and the government has expressed its aim to bring all the many players in the market into two separate holding companies.
Neither the State Civil Aviation Authority nor Rosaviakosmos, the state aerospace agency, were able to comment on the status of this consolidation project.
"Certainly it is time to get a grip on the production industry and to unite the forces behind a strong single company," says Mark Jarvis, head of corporate finance at Ernst and Young in Russia and an expert on the aviation industry.
"There is room in the global markets for a third player but Russia and the C.I.S. need to form a consortium and bring other players in," he says.
The principle movers in the market today are the Tupolev open joint stock company which includes the Ulyanovsk-based Aviastar manufacturer. Tupolev aircraft account for about two thirds of the Russian aircraft market.
The Ilyushin Aviation Complex including Voronezh and Tashkent manufacturing plants, amongst much else, produces the Il-96, the make of the presidential plane.
The Il-96T, a transport version equipped with Pratt and Whitney engines and Rockwell Collins avionics is the first Russian plane to get certification from the U.S. Federal Aviation Administration, a source of great pride.
"We create technologically advanced aircraft, which are economically viable and above all, safe," said Alexander Shakh-novich, Ilyushin press secretary.
The MiG corporation incorporates the Mikoyan design bureau, Kamov helicopters and several other manufacturing plants, and is responsible for the world famous MiG-29 fighter jet known to many as Tom Cruises nemesis in the film Top Gun.
The Sukhoi complex is Russias main exporter of military aircraft, accounting for more than 50 percent of all military aircraft exports, according to Sukhois director of information, Yuri Chervakov. In recent years, the company has diversified into civil aviation.
"The companies that survived the tough period are those that concentrated on exports," explains Chervakov, who says Sukhoi now holds 24th place in Janes rating of the worlds most powerful producers of military aircraft, up 10 places on their last rating.
Sukhoi recently won a $1.5 billion government tender to produce Russias fifth generation of fighter jets, a huge boost for the company.
"Now the internal market is beginning to come alive. A period of renaissance is beginning, perhaps you can put it like that," he told The Russia Journal.
Response to the market
At the end of last year the government was supposed to announce the winner of a tender to produce a passenger jet serving regional routes, an encouraging project designed to meet a distinct niche in the market.
The project will be financed $120 million over 10 years and is part of a government program to reform civil aviation by 2015.
Along with Ilyushin and Boeing, Sukhoi has developed the RR-J, their 75-seat answer to the project.
"The new regional jet program was devised completely according to the demands of the market for civil aviation, Russian and international," says Chervakov of Sukhoi.
"From the very beginning, the project was based on the concrete demands of airlines, that is economy, easy maintenance and mutual interchangeability of parts."
"This is the only way it should be," he says. Although the results of the tender have not yet been announced, Chervakov remains hopeful the RR-J will get the go-ahead this year.
The Egyptian aerospace giant Sirocco last month finalized a $355 million deal with Russias biggest aircraft manufacturing plant, the Ulyanovsk-based Aviastar, to make 25 new Tu-204-120 liners.
Along with this order, the Egyptian company will acquire 25 percent control of Aviastar, part of the Tupolev open joint stock company.
Other foreign investors in the industry include Pratt and Whitney, which set up a partnership with Perm Motors. The Perm Engine Company (PMZ) is the only plant in Russia producing the fourth generation PS-90A engine.
Rockwell Collins avionics, the Lockheed Martin Corporation and Boeing also appreciate the wealth of Russian aviation engineering and are active in the market.
Hamilton Standard Nauka is a joint venture between the U.S. company Hamilton Sundstrand, one of the worlds largest providers of aerospace products and the Russian high-tech company NPO Nauka.
HS Nauka produces heat exchangers for aircraft air conditioning systems. The equipment, made in Russia by Russian employees, is used on Boeing 747 and Boeing 777 aircraft. The company exports 80 percent of its products, quite an achievement given the state of the aviation industry.
"I believe that without attracting western investment and expertise, it will be very difficult for the Russian aviation industry to succeed in open market conditions," explains HS Naukas General Manager Leonid Mazin.
With the financial backing of a powerful parent company, up-to-date technology and Western standard quality assurance, NS Nauka was able to operate successfully on Western markets.
It has not, however, been plain sailing. Due to a dispute with the government over the return of VAT on exported products, HS Nauka is yet to receive $1 million in VAT returns, 20 percent of its turnover, despite winning 15 court cases already.
"If we didnt have the financial backing of our western parent company, we couldnt survive," says Mazin. Troubling words for other players in the aviation industry without a strong Western partner.
A further discouragement to foreign investors and a restriction on growth in the market is the 1998 law on aviation, which limits foreign ownership of Russian aviation companies to 25 percent.
"This hurts only Russia, foreign investors will simply go to other markets such as China or Eastern Europe," says Brody of UTIO, "and Russian aviation remains starved of capital."
Chervakov of Sukhoi agrees on the importance of international cooperation. "Without the cooperation of the worlds leading producers of planes and components, penetration into world markets is now impossible," he says.
As a critical impetus for domestic aircraft producers and a form of financial support to domestic airlines, the Russian government has been promoting leasing of new Russian-made aircraft as the key to the industrys survival.
"Leasing has been heralded as the savior of the Russian aviation industry," says Jarvis of Ernst and Young.
According to Alexander Roubtsov, managing director of Ilyushin Finance Company, Russian airlines have only 25 to 50 percent of the capital investment needed to upgrade their fleets with Russian made planes, and only 10 to 12 percent for foreign made planes.
The unstable financial position of the majority of Russias airlines means financial institutions are unlikely to take the risk of direct loans for the purchase of these new aircraft.
The advantage of leasing, says Roubtsov, is that the credit is based not only on the financial position of the borrower (the airline) but also on the market value of the aircraft. This means the aircraft themselves can be used as capital for the guarantee of the loan.
Ilyushin Finance is the countrys biggest leasing company with 65 aircraft (16 Il-96, 46 Tu-204 and three An-140) currently on lease to Aeroflot, Atlant-Soyuz, Sibir, Kras-Air and Sibaviatrans, among others. The gross value of Ilyushins deals is $1.8 billion.
"And whats more," says Roubtsov, "along with the airline, the leasing company guarantees the financial backing, the building and the technical maintenance of the aircraft."
However, a principal drawback of leasing finance in Russia, says Jarvis of Ernst and Young, is the maximum length of long-term credit.
Before Sept. 11 2001, he explains, the financing terms for a new Boeing 757 were perhaps a 15 year loan with a residual payment of 20 percent, which meant that in effect the monthly payment was based on financing 80 percent of the aircrafts cost over 15 years.
"Compare that to a Tu-204 whereby long term credit in Russia is perhaps three years so you are financing 100 percent over three years," he says. "This means that the purchase price cost advantage of the Tu-204 is wiped out by the lack of financing."
The solution is longer term financing, whereby the cost of the aircraft can be spread over a longer period with smaller payments. But it requires considerable financial backing to get the leasing started and as with health, education and transport government funds wont stretch that far for the time being.