Time of falsification

Agrobusiness, Krasnodar, February 17, 2016

Last year can rightfully be defined as a hard one for the dairy industry in Russia. Embargo prolongation and portion of imports going down led to increase of locally  produced goods on the market, but the shortage of raw milk remained throughout the whole year.  So, what scaled-up the production? 

Due to the ruble devaluation, prime cost of quality dairy goods production went up in the last year.  This fact was bound to effect consumer prices and further lowering of buyer interest in going up in price goods.  That’s why in 2015 a lot of dairy companies had to face a choice: either lower production rate with keeping high prices or lower prime cost.  As the result, import amount of dry dairy products and palm oil, used as milk fat substitutes, increased significantly in the last year. Rashid Khayrov,  General Director of DAMATE Group and President of Rusmolco Company, told us about companies’ work last year and difficulties they have to face, about falsification of dairy products and required milk volume on the market, and also about tremendous tasks in front of dairy industry and the country.

- Last year showed that home producers are not ready to replace dairy imports, which are now under embargo, due to the shortage of raw material. Some companies substituted with palm oil, others lowered production rates. How are you dealing with this problem?

 -We didn’t have any big problems with raw milk, although we didn’t work at full capacity, but that had to do with production modernization.

The group of companies Damate, the biggest milk processor in the Volga region, includes a dairy plant Penzenskiy (or Molcom), which covers 50% of the Penza’s dairy market. Structure wise it consists of two productions: main one is located in Penza, another – cheese plant is in Belinsk, Penza region. Not while ago we upgraded “Molcom” investing about 900 million rubles. Cheese plant started working in the summer of 2014 after major reconstruction. Modernization allowed to significantly improve products quality and to increase processing volume.

Total capacity of “Molcom” is 500 tons of milk a day, 300 tons for main production and 200 tons for cheese plant. They are not at their full capacity yet, although only in the past year we increased cheese production rate by 3.5 times. Speaking of the branch in general, yes, many companies faced serious shortage of row materials, some even froze production.  

 -Who is your milk supplier? Will they be able to provide you with required volume, when your plants are at full capacity?

Throughout the years we have acquired reliable suppliers. Among them a couple of local farms and, of cause, “Russian Dairy Company” whose production is also located in Penza Region.  Last year this supermodern manufacturer made top three biggest raw-milk producers in Russia. Unlike the other milk processors, we have relatively few suppliers, to which we have some strong demands: low somatic cell count and high levels of protein and fat.

-What is the situation with milk quality today?

-There has been a shortage of it in our county for quite a while.  Around three years ago the Ministry of Agriculture of Russian Federation even introduced a subsidy and its size depended on the milk quality. So almost immediately in some regions, where students usually pass Unified State Exam with 100 points, they started to produce only premium quality milk.   Sure, maybe it was a miracle, but for some reason I don’t believe that.

Based on the information from industry association “Soyuzmoloko” out of more than 30 million tons of milk, produced in Russia, only about 8 million tons are premium quality. Surely, it’s not enough, because really good cheese, butter, infant food could only be made out of this kind of raw material. Not to mention that quality milk also can be different, for example, fermented milk products’ manufacturers are more concerned on fat level of raw material, while cheese producers are interested in protein. But both of them have the same headache – where to get premium quality raw milk and in big volumes in addition.

-How do you carry out control on the quality of milk? Processors from Altai Territory told that at the beginning of summer they were brought milk with already added palm oil. 

-We didn’t come across anything like that. I don’t think anyone out of our suppliers would come up with something like this with our control system. From the start we decided that you can’t make good products out of bad raw material. That’s why we made some serious investments. For example, we bought a whole fleet of milk tank vehicles, because their cisterns have such a thermoinsulation that milk is preserved even in hot weather. Also we set up new equipment at collection points. Every lot of delivered milk is tested for a number of quality indicators right away: microphytology, fat and protein levels and so on.The analysis is made on special equipment “Milkoscan”, which costed us about 2 million rubles. We have a folder on each delivered lot of raw milk, because the information on each of them is entered in the computer and stored there.  If raw material meets all of the quality parameters, it’s dumped in a storage reservoir. After that, nobody has excess to it; all of the following procedures - pasteurization and processing – are completely computerized.  Just imagine: a young man sits behind a computer, clicks on a keyboard and produces yogurts and fermented milk products.

If milk doesn’t meet the parameters, it is not accepted. There were a few times, when we rejected raw material, but afterwards the suppliers improved their discipline, and it barely happens now. Today milk producers are interested in improving its quality, because they know, better it is – more they get paid.

-Should suppliers also have rough control on quality?

-We work only with the most modern companies.

For example, “Rusmolco” delivers milk not only to us, but appears as main supplier for Danone, which also has highest requirements on milk. Producers, who want to make money on milk, must modernize their facilities and constantly work on quality. Unfortunately, about 50% of commercial milk in the country is produced on such old farms, that there is no point in investing in them. For example, in Holland, farms like that are being demolished, and new ones are built in their place. Here, for some reason, they are kept running, even though their production capacity stays on the level of the sixties. We need to built modern facilities; otherwise we will never have quality milk. 

-We don’t have enough regular milk, based on the level of falsification, especially on cheese market.

The Agricultural Ministry of the Russian Federation reports 10-15%, “Soyuzmoloco” -15-20% and Federal Service for Veterinary and Phytosanitary Surveillance -80%.

-How does this situation reflect on your business?

-Not so long ago me and my colleagues visited a milk processing plant in another region. Picture this, you are walking through a shop floor and you see boxes and cases with milk fat replacer. It’s a product made of vegetable oil including palm oil as well as rape, soybean and so on. Literally piles of it! And people don’t even hide it: workers walk by it on daily basis, partners visit and nobody cares.

Falsificator’s production process is cut out to use milk fat replacer, that’s why our expenses aren’t even comparable. They are not worried about quality raw material, since they substitute with dry milk, and its completely different price. They don’t spend anything on milk tank vehicles, on collection point maintaining, which usually is a big facility, on expensive equipment, like “Milcoscan”, on buying storage tanks. Besides they don’t need milk pasteurization and standardization lines, while our cheese plant spent on them several dozens of millions rubles. They make cheese product out of milk fat replacer, wrap it nicely, and set a price that, for obvious reasons, more attractive to both, commerce and consumers. So how can we, genuine processors, compete with them?

-But a product with palm oil would hardly take on among buyers, so they wouldn’t want to buy it again, which means that commerce would also lose interest?

-Yes, a saw some messages on cheese market going down by 15% last year, other dairy products also showed a decrease. And it makes sense, people don’t want to buy curd or sour cream with no milk in it, but at the same time they can’t afford more expensive quality products.

Price is the main factor at the moment. For example, commerce buys cheese product from a falsificator for 200 rubles and sells it for 450 – rather profitable, isn’t it? And our retail price clearly higher, since to produce 1kg of good quality cheese you need 10 liters of milk, which costs 18-20 rubles a liter without VAT. So we spend 200 rubles just on raw material, but there are also production expenses, logistics, salaries, taxes and retail margin. That’s why it’s more profitable for commerce to work with falsificator. And people are more interested in it, they buy it. What else can they do? Prices are going up, people are getting poorer, and consumer demand is going down to a lower price range. So it turns out, that people unknowingly vote for falsificators.

-Do you use palm oil in your production at all?

-I bindingly state: “Molcom” produces goods out of liquid milk only. There is no palm oil or any other milk replacer in our production. When we were setting up the equipment for our cheese plant, suppliers offered to staff it in the way for adding palm oil. They said that many companies buy equipment with this additional option, to make their production cheaper. But we declined, since we essentially use only traditional production technologies. How else, if me and my family buy dairy goods of our own production.

-What is your company’s pricing policy?

- Some of our products belong to premium class assortment, but most part oriented for a conventional consumer. We are trying to hold back the prices, as we understand that milk and milk fermented products are social products. No matter how good and qualitative they are, we can’t bring up the prices at moment, otherwise nobody would buy them. Besides, our State leads a king of crafty policy; on the one hand they call upon producing honest goods, and on the other – don’t let us increase retail prices. As if one is not connected with the other. Do you recall, when in 2014 prices went up due to the exchange rate, antimonopoly services hardly managed, making claims to the producers. And they barely touch falsificators. Fine them with 50 thousand rubles and leave them be. But at the same time the say, they fight falsification.  How is that, they fighting it, but companies don’t even hide, what they are doing? I’m afraid, companies today are mainly like that, and not only in milk processing business. So it turns out, falsificators have one economy, and we-anther.

-In your opinion, how much commercial milk does the market require, for the producers to stop using palm oil on a mass scale?

-I came across different numbers. In the perception of processers, shortage today is about 15 million tons – almost half of total milk production in Russia. Based on the last estimate of “Soyuzmoloco” association, we are lacking about 8, 5 million tons of raw materials. Recently their experts calculated volume of produced goods and volume of required for that raw materials and they came up with 9% difference.  It doesn’t seem like a lot, but in reality it’s minimum 4-5 million tons of falsificated production, which people eat and feed their children with.

-Is it possible to go without import with this kind of raw material shortage? How real is to meet milk needs in the course of imports phase-out?

-It is real if we take dairy industry seriously and built farms. Our specialists counted, it will be needed 500 billions of rubles to cover the milk deficit of 5 million tons. That sounds like a lot, but if compared to, for example, Olympic Games in Sochi, on which 1, 5 trillions of rubles were spent, than the number is not so big. The Games are over, but infrastructure and facilities are still there, so people are doing sports, and that’s great for nation’s health.

Isn’t milk also health? According to doctors, our population doesn’t get enough of vital vitamins, including vitamin B group, so people get sick more often. Let’s find them in good and cheap milk – the vitamin source. It’s economically profitable, as dairy farming will bring allied industries along. We calculated: additional milk production of 5 million tons in reality means returning 1 million hectares of agricultural purpose, increasing cattle population by 0, 5 million heads, creating over 30 thousand jobs, annual beef production growth by 75 thousand tons, increase of demand in agricultural machinery in amount of 5 thousand units a year, what basically means building a new plant.

Multiplicative effect of dairy industry is obvious, looking at the example of our company – “Damate” and “Rusmolco” became the biggest investors in Penza region in the last couple of years. Together we invested around 25 milliard rubles – half of regional budget. This money was spent on construction and construction materials, machinery and equipment, uniform, maid also in Penza region. It is also transportation – buses, taking workers, hundreds of vehicles, delivering raw materials and produced goods – about 50 thousand tons of different things a month. It is trade – stores are open and making money. We started working, so did everything around us.

-According to industry associations there weren’t any new investment projects last year, and existing ones were frozen. Maybe it’s just not profitable to produce milk in Russia? 

-We have partners from Olam company that we develop “Rusmolco’s” business with. They work in 65 countries of the world and can compare prime cost in Russia to other countries. So, according to them, our dairy farming can compete with the best farms in Europe and USA on their technical equipment and used technology of quality products.   On our specialist’s calculation, financial components of prime cost in Russia – work, feed, material and technical resources- come up to a little bit over 40%. Comparing to other countries, we are included in top ten cheapest ones on this index.  All the rest is financial prime cost, in other words depreciation and credit interest, out of which only half is subsidized. In Europe credit is obtained at 5% rate, and here 17-18%. Funding availability and loan service are our main problems.

This part of prime cost in particular stands in the way of our competing with other countries.  Here a lot of the times producer is concerned not about his business efficiency, but about where he can get the money from.

-Aside from credit availability, what other difficulties stand before dairy farms?

-I would also mention “game rules”, which change quit often. As long as “Rusmolco” and “Damate” exists, this long investment climate is being improved – one subsidy is introduced, but you need to fulfill about 20 different stipulations to get it.  It’s a good thing that we get help from Penza and Tyumen regional administrations and governance of the Republic of Bashkortostan – the authorities of the regions we work at. At the local level they understand, what part is played by cattle husbandry and agriculture in the bigger picture.

 For us comfortable investment climate is, firstly, distinct, transparent and stable “game rules”. Most important is not subsidies existence, but forecastability of   given obligations being fulfilled. Dairy farming is an investment intensive business. Before you get your first liter of milk, minimum 3-4 years passes by, and during all that time you are building, plowing, seeding, buying equipment, paying salaries. That’s mainly why we need to know “game rules” at least 8-10 years beforehand – for a term of projects paying off.

-Unlike other industries, agroindustrial complex showed growth last year.

-In your opinion what are the prospects for this industry, given the focus on import substitution? 

-We live in the country with the biggest land and water recourses in the world; in our climate almost any crop can be grown.

And we set a goal to substitute import and feed ourselves on the domestic level. It’s embarrassing to even talk about it! It’s like training a potential hundred – meter race champion to run ten – meter distance. Russia has all the possibilities to stop importing foods. But it needs to be clear that our dependence on import applies not only to food products. We need to catch up on biotechnologies, breeding work organization, veterinarian drugs, selection work and genetics. We produce milk, but we bring heifers from abroad, inseminate them with imported semen and so on. Right now home cattle farming looks like screwdriver assembly on building foreign cars, and local businesses only produce separate parts. Although there is no need to start from scratch, due to the existence of transfer technology; our western partners are ready to come and develop this business in our country.

With the resources we have, we need to set really ambitious tasks: to feed not only ourselves but the planet. Population of the planet grows rapidly, as well as demand for food. Russia may become the country to feed minimum 20-30 % of the Earth population.

That’s why food export should become our strategy, which won’t be able without effective state support. We need to take example from Brazil, where the state began investing in science and new technologies in agroindustrial complex; in the result their export went up by 400% in 10 years. Now they are third in the world on this matter. They could do it, why can’t we? Can you imagine anybody imposing sanctions on the country that feeds half of the world? I personally doubt that. So that’s why Russia is able and must become world’s biggest exporter of food products as soon as possible.

Bjorn Drexler general director of “GEA Farm Technologies Rus”:- Today Russian market of milking and husbandry equipment in spite of its competitivity is lacking investments, which explained by difficult situation in the bank system.  Positive change in investment climate is not expected in 2016, so only companies with long term projects will be able to survive on this market; and small businesses, which already experiencing difficulties, will either disappear, or keep a small part of the market. Our company has highest local content, it is less dependable on major projects, which gives certain advantages in existing economic environment and allows developing.  

Also using robotized equipment on farms still didn’t get wide extension in Russia – about 80% of dairies use traditional milking technologies.

Mainly it is caused by current economic situation. For example, our company has many newest solutions on implementing modern computerized devises, but they will be available only with credit rates going down. However, with current labor costs, which went down with the ruble devaluation, and real high cost of equipment, implementing such technologies in small and medium business is less likely.

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