FACSIMILE MESSAGE BAIN-LINK . . Tel.big.assets.huffingtonpost.com/markets.pdfOP 03 93 2022 FA. 70 95 369 5947 BA1N LINK MOSCOW ---BAT IND NBD DEPT Z00 3-2-We are assuming a Moscow

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FACSIMILE MESSAG EBAIN-LINK . .

USSR 105107

Tel .: 095/389-5948

Moscow

.Fax: 095/389-5947

Scherbakovskaya Street, 40-42

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ATTENTION :.

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http://legacy.library.ucsf.edu/tid/qmu41a99/pdf

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MEMORANDUM

BAIN LINX105187, MOSCOW RUSSIA

SCEERB?JO78RUYA 8TR 40-4 2TEL . 70 95 369-594 8FAX 70 95 369-594 7

----------------------------------------------------------- -

FOR :

Anton Van WaayFROM :

Igor 8aguiria nSUBJECT :

Revised ProposalREF :

BA0309RPDATE :

March 9, 199 3

-

-

-Attached is the revised proposal . Page 4 of the proposalsummarizes the major changes in the proposal from Versio nOne . Please call me with any revisions so we can make sur ethe final proposal meets your needs .

I also wanted to give you a few thoughts regarding th eassumptions we made in writing Version One of this proposal .

1) Need for Yava Alternative . We assumed that regardles sof the progress on Yava, BAT would want an alternativemanufacturing site . First, the existence of such asite would improve your negotiating position with Yava .Second, there is a chance Yava negotiations could fai l-- we are frankly skeptical about political situatio nin Moscow and believe the city authorities may prove tobe an obstacle to your nagotiations . Third, even withYava, it was our understanding that BAT will wantadditional manufacturing sites .

2) Knowledge of Beat Markets and Manufacturing Site wa sPrecondition for Distribution and Sourcing Analysis :we further assumed that Distribution and Sourcinganalysis should follow the selection of most attractiv emarkets and manufacturing sites . Knowing thesespecifics would focus our analysis on specifi cdistribution channels and specific local sourcin gstrategies .

3) Regional Market Research will Prove Insightful : Weassumed that BAT had done extensive market research i nMoscow and St . Petersburg . We believe, however, thatfurther research on consumer preferences in the regionswill provide useful insights to BAT's productstrategies . We therefore placed such research asapriorit •rior to s•eo fic sourcin- and distributio nstrateges .

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We are assuming a Moscow manufacturing site for suppl yand distribution analysis . We are also moving customeranalysis and manufacturing alternatives to Phase Tw obased on BAT priorities . While we are eager to mee tBAT's changing priorities, we do want to emphasize tha tsuch an approach may prove less valuable if the Yav anegotiations stall .

We look forward to getting your comments and to workingwith you .

.A.


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DRAFT

Assisting B .A .T. Industries in Developing a Successfu lDomestic Cigarette Business in the Russian Federatio n

A Proposal Prepared and Submitted by Bain-Link Inc .

5 March 1993

vERSior Tw9


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TABLE OF CONTENTS

Background

Topics/rssues to be Addresse d

Work Approac h

Topics not Addressed

Personnel, Resources and Timin g

Contract Administratio n

Exhibit 1 : Proposed Application of Resources

Exhibit 2 : Proposed Progress Review Schedul e

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g3ackgroun d

1. B.A .T .'s Interest. We understand that the markets for cigarettes in th eRussian Federation and in the other countries of the former Eastern blocare of great interest to B .A.T . Industries . You successfully acquired PECSin Hungary last year, are negotiating a joint venture in the Ukraine, ar eactively participating in the Russian market with imported brands from al lfour B .A.T . operating companies and are currently negotiating with th emanagement of the Yava Factory to establish your initial domesti cmanufacturing capacity to serve the Russian market . You have told us o fyour commitment to extend the penetration of your imported brands int oRussia while recognizing the absolute necessity of investing significantl yin domestic manufacturing (whether ex sting plants or greenfield plants) ,supply sources, distribution systems and brand support .

2. The Russian Market for Cigarettes . We believe the Russian market i shighly attractive for global tobacco companies with the experience ,resources, and staying power to invest and build a strong domesti cmanufacturing, distribution and supply system to serve the market . Themarket is extremely large with significant growth potential . The marketi einadequately served by domesticored : icnr4_ , Both government policy amarket economics favor entry of B .A .T. and other high quality inter nplayers to supplement/replace inadecuate domestic sources an dexpensive imports .

However, the market is complicated,,xtremety twice sensitive an ddynamic . Government policy towards imports Is erratic and uncertain .Domestic production has declined sharply, supplies of tobacco and certai nother raw materials have been curtailed due to economic and politica lturmoil and the distribution and retail system is undergoing rapid an dfrequent chaotic change . Prices have r,sen sharply . many new brands —--hP"'4ihave been launched, and a number of nternational companies are

)m.-competing to establish joint ventures with the handful of viable Russian

L._ .'cigarette factories that exist . Finally, cite cannot develop a policy for th emarket overall since significant differences in the consumer base, )economic conditions, distribution channels and supply network exist from Wee. .f, .i kregion to region within Russia and mu be taken into account .

3. Bain-Link in Russia . Bain-Link is a joint venture established in 1990 t oprovide management consulting services in Russia . We have specifi cexperience in the Russian tobacco Ind :stry . including market andcustomer analysis, evaluation of Russian factories, analysis of suppl ysources, distribution channels and development of overall busines sstrategy. Our sister company Link Trace has been very active as acigarette importer.

Although our principal business is ass sing Western companies toestablish themselves in Russia, we are also proud of our experience an dtrack record in assisting the Russian government in its privatizatio nprogram. The Russian government has named Bain its "principal adviser "in its privatization efforts . This has given us first hand knowledge o fRussian regional Development issues valuable contracts in importan t

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regions, and extensive experience with the effect of the current an dplanned privatization efforts on the wholesale and retail sectorsthroughout Russia .

Tooicstlssues to be Addresse d

The brief you wish to offer Bain-Link was outlined in a letter from Rodger Allfordto Igor Saguirian dated February 11th, 1993 and was further discussed in ourmeeting at Windsor House on the February 16th, 1993 . In the letter you name dfour topics to be researched on your behalf by Bain-Link :

Regional political and economic analysi s

CMarket research taking into account consumer preferences, pric esensitivity, market segments and regional difference sMaterial sourcing and the supply chain, existing and potential ; andDistribution system through retail, existing and potentia l

You are proceeding with your discussions with Yava, however, in the meetin gyou told us that you would like two or three plants in Russia, and you woul dconsider greenfieids . YQy asked its if we Gould assist yeti in identifying ether 4---m- uf . turin o•tion • • •

= . For the eventual manufacturin gconfiguration . B .A .T . must create a matching sourcing network, distributio nsystem and marketing plan . Finally, this must all be integrated into an overal lplan for B .A.T.'s Russian business which presents the resourcing required ,strategy to be followed and the expected financial results to be achieved over afive to ten year horizon .

In the March 5 meeting on version one of this proposal, you further clarifie dyour goals, identifying

• regional analysi s• distributiton and supply analysis as initial priorities .

You wanted us to assume that B.A.T. will have a Moscow manufacturing facilit yin our is ribution s ra egy evelopment.

Revisions to Version On e

Based on our conversation on March 5, we revised Version One of thi sproposal as follows :

1. We divided the project into two phases .

2. We reordered the priority given to separate sections of the proposals asfollows .

V

Regional Analysis remains urgent priorit yPhysical Distribution moves up in priority . We have also included market-- .size and segmentation analysis in this section (moved from Market

hairResearch)

't-Supply analysis stays as high priority and will include quality analysi s(which was originally part of sourcing) .

3. The priority given to market research and alternative manufacturing sites ha schanged - both sections have moved to Phase II .

4. In pricing, we have outlined two options - the price of the project if run a ssingle team and the price of the project if each section is staffed and runindependently .

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Work Approach

In general, we want to be sure the team we dedicate to this effort is results -oriented, sensitive to your changing priorities, and flexible . Thus although wewill outline our approach in some detail, we want to be sure you understan dthat we look forward to frequent, informal reviews and "course corrections"; i four workplans need to be altered to reflect new information or unexpecte devents, you will find that we are eager to do so, in order to remain relevant t oyour most pressing concerns . Before we undertake a module of work, we wil lreview our prcposed workplan and time line in detail with you at one of ou rregularly-scheduled review meetings (see Exhibit 2) . We have divided thi sproject into two phases . Ease One will involve regional,supply and distributio nanalysis . Pi . - wr will i Vr

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•

•

anabt is . Wemayalsoadd analysis of manufacturing alternatives aten fPhase II dependmgan B .A.T. goals .,

.

PHASE i,

1.

Regional Political arL1 Economic Analysis . It is of course by ne wcommonplace that Russia cannot be viewed as a homogenecus politica land economic entity. In the midst of rising political disorder and economi cdecline nationally and in many regions, there are other regions an doblasts which can be attractive areas for economic development an dforeign investment generally, and we believe for 8 A .T . specifically .

Based on our work with the Russian government and our knowledge ofthe regions, we will develop criteria for determining the attractiveness of agiven region based on gigpg.iApl

gte.,fot. iSI-ru cbardge incgmt ,lab.cates, .pQliti

regOlveneS•,. pri„v_atiia1iQrLsuccessr,a ustry_n4x ,i rastructure .(espepalTyJstoragefa alitigs and transportation),,sup lyavailability, and accessla.adjacent_oblastsAf i "resta

arke te .aKapplying these criteria we will identify regions on which we recommendB.A.T . should focus for manufacturing investment, sourcing an ddistribution network build-up and marketing investment . Wewillincludeour analysis of B .A.T. target cities .

2.

Distribution Systems through Retail . Existing and Potential . Eghtee nmonths ago. the old distribution channels were largely intact : except fo rthe cigarette factories in St .Petersburg and Moscow, state org anization scontrolled distribution, and virtually all cigarettes were sold in state store sat retail . Now commercial sector growth and privatization dramati cchanges have taken place . Side by side with the traditional channels ar enew entrepreneurs who perform one or more of the functions of supply ,wholesaling, inventory management, physical distribution, and delivery fo ra variety of products, including, but frequently not limited to, cigarettes .Retail stores have been privatized unevenly throughout Russia, but th egovernment is currently (with the assistance of Bain-Link) engaged in a naggressive program to accelerate so-called "small-scale" privatization o fretail establishments, wholesaling, and physical distribution . This effortmust be taken into account in our design of the optimal channels fo rB .A.T .

The main difficulty we see today is that, without settled and stabl echannels, it will be difficult to supply consistent quality product to th eretailer on a timely basis . Therefore the most Important question is, shoul dB .A .T . forward-integrate and set up a dedicated warehouse and transpor tsystem to supply retailers directly or can a network be recruited an d

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motivated with the proper incentives and policies to act as B.A.T .'sdistributors? Given the critical importance of the Yava negotiations, we wil lfocus on Moscow to re g ions distribution links .

We will also forecast the trends in cigarette retailing, understand th emotives and incentives of retailers, evaluate candidates for distributors .prepare and evaluate channel management policies, and cost out owne dchannels, We will draw on our experience in the Russian privatizatio nprogram, our previous work in distribution of consumer products i nRussia, and the experience in other countries of the East bloc . B .A.T.'sexperience in other countries outside the East bloc should also b econsidered and we would welcome the opportunity to interview BAT.executives with experience in other developing markets .

In addition to understanding physical distribution channels, we will als oanalyze the cigarette markets in key regions, focusing primarily on th ehigh priority regions we have identified . We to ment the marketbyrod irlpharacteristi s tobacco ■•e filter vs non-filter, packaging ,

Im• .rt

+•++- •ran+ s aces. once Points . retail store type, andrelevant end-user characteristics .

3 .

Sunaly Chain Existing, We will update the research conducted in lat e1991 on the existing industry supply network. This network include stobacco, filters, foil, paper and packaging (labels, blanks) and include sdomestic Russian production as well as imports from other republics o fthe former Soviet Union and elsewhere . This update will be expanded t oinclude quality assessments (working with BAT.) and will cover existin gsupply flows to Russian factories : specifically we will provide full details o fwhat cigarette making and packing materials are currently available withi nRussia, including :

- manufacturers ' names and addresses- product specification s- quality (eg: uniformity, tolerances, runnability on machines, etc . )- quantities availabl e- prices- reliability of suppl y- privatization statu s

PHASE I(

4 .

Material Sourcing and the Suoolv Chain . Existing and Potential .To move from this general industry map to a specific sourcing pla nrequires a knowledge of the probable manufacturing locations. Once the yare finalized, we can then proceed to a specific supply analysis . Duringthis work, we will evaluate current industry suppliers more carefully ,considering volume availability, price, quality, and most importantl ystability (managerially, financially, politically) . Additionally, we will conside rwhether enterprises who could supply, but are not currently in the market ,can and should be persuaded to begin supply. We will evaluate imports .Together with BAT . experts we will assess which of materials could b eused by B .A.T . operating companies for domestic brands and which coul dbe used for international brands .Finally, we will consider whether B .A.T. should backward integrate an dself supply in certain areas . At the conclusion of this activity, B .A .T. will b eable to specify by plant by raw material input which of four alternativ eplans you should pursue (current supplier, new supplier, import, backwardintegration), and what the consequences are in terms of investment ,timing, security of supply . cost and quality .

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5. pevetgoing of Market Research in Regions . We will assess size an dgrowth of attractive segments . We will determine customer needs and th eextent to which these needs are currently satisfied by existing brand sthrough focus groups, surveys and interviews . We welcome th eparticipation of B .A.T . personnel in the design and implementation of ou rconsumer research .

We designed and implemented a similar research program in the forme rSoviet Union just 18 months ago . This experience wit! guide us, but webelieve that the change in the market has been sufficient to require a ne wsurvey . For example, our last research revealed that the Russian cigarett emarket was highly price sensitive although showing no real signs o fbecoming a stick market . However, now prices have risen sharply an dreal disposable income has dropped for most segments of the smokin gpopulation . This necessitates careful resurveying on price points, pric esensitivity, and price/quality tradeoffs in the attractive segments . Theeffect of the increasing consumption of western-style cigarettes ,introduction of cigarettes advertising in various media, and new retai loutlets must also be carefully measured .Our previous work was focused primarily on Moscow and St . Petersbur gmarkets, but current changes require other regional market research .In addition to the market changes, we know that B .A.T . conducted their

u.own market research and we would like to integrate this into our analyses, csess,it_ .

6. Evaluation of Manufacturin g Alternatives. We agree that B .AT. will wan tto have a manufacturing site in Moscow or St .Petersburg, and assum ethat you will succeed with Yava . However, it will be a good idea for anumber of reasons for you to have a direct alternative to Yava . Unles sother negotiations fall through, that will probably be a greenfields site . Wewill identify for you what we think the best alternative to Yava is . This i sbased on our previous work on manufacturing issues in the Russia ntobacco industry, as well as our regional analyses and supply an ddistribution work described earlier .Additionally, you are looking for other sites outside Moscow andSt .Petersburg . We will identify the best candidates for your consideration .Considering the approximately twenty cigarette factories located outsid eMoscow and St .Petersburg regions, we will evaluate and rank order thei rattractiveness as joint venture partners . Finally, we will identify the mos tattractive greenfield sites, develcp the optimal strategy to negotiate th edeal and help with implementation of those negotiations .Given the fact that almost all tobacco enterprises are in the process o fprivatization we could contribute our privatization experience to provid ethe optimal plan for making stratigic investments in chosen enterprises .

7. Overall plan for Russia . Upon the completion of the preceding six wor kmodules, we will integrate this work into a recommended business pla nfor B .A .T .'s domestic tobacco business in Russia, including resourcin grequired, strategy to be pursued and the expected financial results to b eachieved over a five to ten year period .

Tonics Not AddressedFor the purpose of preparing this draft proposal, and consistent with ou rdiscussion at Windsor House, we have allocated no resources to assisting

NB.A.T. in its negotiations with Yava. Also, we have allocated no resources t ostudy the marketing and distribution issues associated with the importation of

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foreign cigarettes into Russia by B .A.T,'s operating companies . Again, w ebelieve this is consistent with our discussion .

Personnel . Resources and Timinq

Bain-Link has assembled an experienced team to support B .A.T .'s successfu lexpansion into Russia . Ralph Willard, co-founder of Bain & Company in 1973and founder of Bain-Link in 1990, will be responsible for the overall design ofthe study . lgar Saguir(an and James Allen- , co-managing directors of Bain-Lin kin Moscow, will manage the assignment in Moscow . Additional members of th eteam, all resident in Moscow, will be Sergei Savchenko, Tanya Lipiainen, ',addBerman, Tanya Ornalskaya, Julia Sapelnikova, AlexeiKaravaikin, and ish aRadio's .

(OX .

Pricing

We will apply these resources to the various topics discussed above . It willrequire approximately 4 months to complete the Phase t . Details regardin gPhase II should be discussed during our first review meeting . See Exhibit 3 fora break-down of the resources by week and by topic .

Ootion 1, Four Month ProjectThe fee for professional time devoted to the project is $85,000 per month, plu sactual out of pocket expenses. For a project such as this expenses shoul daverage between 15% - 20% of the professional fees .

You will receive frequent progress reviews . Our proposal for the content, timin gand format of these reviews is contained in Exhibit 4 .

Option 2 . Se parate Proiec t

The fees for professional time devoted to each of the separate pieces o fanalysis are :

1 . Regional analysis (4 weeks) $ 85,00 02 . Supply analysis (8 weeks) $170,00 03. Distribution and Product Channe l

Segmentation (10 weeks) $212,000

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Contract Administratio n

We understand that Rodger Allford will supervise our work for B .A.T. and act asclient liaison for us.

Bain-Link submits invoices monthly at the beginning of each month for th eprofessional fee for that month and accumulated out-of-pocket expenses for th eprevious month . Invoices are payable at month end.

B .A.T. may terminate the work before the completion of the project at any tim efor any reason by giving thirty days written notice to Ralph Willard.

During the term of this contract and for twelve months thereafter . Bain-Lin kagrees not to perform consulting services in Russia or other countries of th eformer Soviet Union for competitors of B .A.T . in the tobacco industry withoutthe prior written consent of B.A.T . All specific information and plans of B .A.T .will be kept confidential at all times by Bain-Link and not released in any form t oa competitor .

Accepted this day of March 1993 .

On behalf of B .A .T . Industries p .l .c .

On behalf of Bain-Link, Inc.

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Exhibit4

Pro posed ProgressReview Schedul e

Conten t

1 Review of proposa lReview of regiona lcriteria and approach

2. Review regional survey result sReview workplan and progress o nsupply and distribution analysi s

3. Review progress report on supply anddistribuiton analysi s

4. Review first draft of supply an ddistribution analysi s

5. Review completed supply anddistribution studies

Time

Forma t

Week 1

Oral work sessio nwith writte nproposa l

Week 4

Oral work sessio nwith draft note s

Week 8

Oral work sessio nwith draft note s

Week 12

Oral presentatio nwith annotate dslidebook ; memo

Week 16

Oral presentatio nwith annotatedslidebook; memo

10

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PROPOSED APPLICATION OF RESOURCES - PHASE I

EXHIBIT 3

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4 0

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SUPPLY ANALYSI S

REGIONA LPOLITICA L

AND DISTRIBUTION PRODUCT/ECONOMIC SYSTEMS THROUGH CHANNE LANALYSIS RETAIL SIZ E

ANDSEGMENTATION

I _ I ® 1 1 I2

4

6

8

10

12

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Documents

FACSIMILE MESSAGE BAIN-LINK . . Tel.big.assets.huffingtonpost.com/markets.pdfOP 03 93 2022 FA. 70 95 369 5947 BA1N LINK MOSCOW ---BAT IND NBD DEPT Z00 3-2-We are assuming a Moscow