Expert opinion: Three “Stalin’s Blows” to the HVAC Business

Situation formed in 2009-2010 worsened the headache of Russian distributors of HVAC equipment. These problems can be grouped into three categories:

1. Economic problems. The global financial crisis resulted in decrease in effective demand. It is natural that the market reacted to these events with DROP in sales volume. But there is another problem here. More painful was the change in seasonal prevalence of demand. While, starting from 1998, the seasonal prevalence of sales was becoming less expressed , starting from 2007, 70% of sales of all air conditioners is falling on June and July. Spring purchases of equipment in expectation of heat and “after”-purchases, when customers are ready to have air conditioners ordered during hot weather installed in August-September. are actually off the map. What are the results? Acute decrease of money turnover. In HVAC industry, the pre-crisis level of this index reached 1.8-2.2 per year, today its maximum equals to 1.2. That is, to meet the market demand during the peak time of the season, more assets will be required than during the peak 2008, all of this being accompanied by 40% market decline in money terms! Considering the fact that cost of capital increased sharply after the crisis, and it is simply unprofitable to use credits with the current level of return, this factor sets strict limits to import volumes. It is the lack of current assets which will lead to market deficit during the summer of 2010, which deficit will be replaced by overstocking in August and September. This situation is likely to repeat in 2011, however, in a milder form. Besides, the lack of current assets led to factual collapse of trade credit system. This was a hard hit for installers who had to work with smaller warehouse stocks and were losing customers. As a result, this led to equipment deficit in the heat of 2009 season and additional market slump. Speaking of central plant and VRF market, it should be pointed that the performance of this segment depends on rates of commercial construction. With 40% DROP in 2009, in 2010 its volumes are expected to decrease by 20% more as compared to 2009. Making forecasts for 2011 is thankless job, but there are still no reasons to be very optimistic.

2. Administrative problems. In this regard, several problems should be specified. First of all, it is license abolition and launch of SROs with undifferentiated entry fee. That is, a company with turnover of hundreds of millions dollars and a small firm will have to pay the same fee to the compensation fund of SRO (at least USD 10,000). For many small firms-installers, this amount became overwhelming due to the crisis, so they found themselves beyond the legal framework. Another “gift” to HVAC business is the fight against R22 that launched suddenly. A year ago nothing was of ill omen. But in the end of 2009, within the framework of harmonization of import norms of the customs union of Russia, Kazakhstan and Belorussia, Kazakh rules for importing ODS-containing equipment became de-facto the rules for importing all such equipment. It became a nasty shock for majority of market participants and its consequences have still not been evaluated to the bitter end. Particularly, additional customs dues for equipment charged with “non-kosher” freon are expected. And the third administrative factor consists in sharp tightening of customs control. To avoid triple overpay at customs clearance, it is necessary to present a single source contract with manufacturer of equipment specifying selling prices. To comply with this requirement, all the system of equipment delivery and customs clearance needs to be re-organized.

3. Weather conditions. As was forecast, the summer of 2009 falls within the seasonal norms. In other words, it was neither cold, nor hot. In the south of Russia it means a brief but warm season and in the midland, including Moscow, it means no heat. Similar weather was observed in 2000 and 2005. Against the background of the crisis, lack of weather stimulus aggravated the consequences of the economic difficulties. In 2010 and 2011, summers are expected to be hot but lack of operating assets together with sharper demand seasonality will cause deficiency of equipment in the heat of the season. Which will also adversely affect the market.

Georgy Litvinchuk, Director of Litvinchuk Marketing Co.