Central & Eastern EuropeINVESTING INFINANCIAL TIMES SPECIAL REPORT | Tuesday November 30 2010

New governments dispensetough medicine for voters

Tough times have a way ofconcentrating the mind –which is why much of cen-tral Europe has turnedaway from the populismand easy promises of therecent past to a more aus-tere centre-right conserva-tism that promotes the vir-tues of cutting spendingand tightening belts.

But with the notableexception of Latvia, votersin the rest of the region arealready showing some signsof skittishness at the medi-cine being doled out tothem by their new govern-ments.

Sitting in her Bratislavaoffice, Iveta Radicova, thenew prime minister of Slo-vakia, is a good example ofthe new breed of centralEuropean politician. Lean-ing forward in her chair,she spells out how her gov-ernment plans to slash one-seventh of the state budgetin order to bring the deficitunder control.

A symbolic part includesmultiplying the annual defi-cit – in this case almost 8per cent of GDP – by three,and imposing that level ofpay reduction on 2,600 sen-ior officials, including thepresident.

That means that nextyear, Mrs Radicova can lookforward to a 24 per cent sal-ary cut. “Those who areresponsible for the deficitwill have to pay,” she says.

A large part of the blamefor Slovakia’s current fiscalsituation lies with RobertFico, Mrs Radicova’s popu-list predecessor, who wasswept to power in 2006 on awave of voter exhaustionwith the often painful eco-nomic reforms that hadbeen a hallmark of the pre-vious centre-right govern-ment.

Mr Fico’s 2006 victory waspart of a wider trend thatsaw populists win poweracross the region.

Central Europe had been

on its best behaviour forthe decade leading up toentry into the EuropeanUnion in 2004. But afterachieving that goal, andwith the global economybooming, voters turnedfrom reformers to partiesthat promised to ease up ontalk of reform.

In 2005, the ex-communistleft was ousted in Poland,discredited by a corruptionscandal. The right wingpopulists of the Law andJustice party, founded bythe Kaczynski twins – Lechand Jaroslaw – embarkedon an expansionary eco-nomic policy.

They combined that withan obsessive – and ulti-mately failed – hunt for anetwork of spies, criminals,and corrupt business lead-ers that the twins felt wererunning Poland frombehind the scenes.

The Kaczynskis’ domesticpolicies were leavened witha return to nationalism – asJaroslaw, the prime minis-ter, and Lech, the president,criticised Germany andRussia, Poland’s historicenemies. In much the sameway, Mr Fico and hisnationalist coalition alliesbuilt up support by criticis-ing Slovakia’s large Hun-garian minority.

Law and Justice’sexcesses cost it the 2007election, which brought thecentrist Civic Platform

party to power. Instead ofberating Germans or Rus-sians, Donald Tusk, theprime minister, promised inhis first interview with theFinancial Times to take a“machete” to the bureauc-racy that entwines Polishbusinesses – a goal that hasnot yet been achieved.

The caution over slashingred tape extends to fiscalpolicy, where Poland hasbeen much more timidabout cutting spendingthan its neighbours, as MrTusk tries to keep votersfrom bolting before nextyear’s parliamentary elec-tions.

Lech Kaczynski waskilled this spring in thecrash of a Polish govern-ment airliner, and his twinnarrowly failed to win elec-tion as president this sum-mer. Instead, Poles turnedto the somewhat earnestBronislaw Komorowski, aclose ally of Mr Tusk.

Competence is also thehallmark of the new Czechgovernment of Petr Necas,

which took power this yearafter a one-year interreg-num following the collapseof the administrationheaded by Mirek Topo-lanek.

The bookish Mr Necascomes from the same cen-tre-right Civic Democraticparty as Mr Topolanek, butexudes none of the raffishcharm of his predecessor,once photographed nakedwhile visiting the Sardinianvilla of Silvio Berlusconi,the scandal-tainted Italianprime minister.

Mr Necas has the reputa-tion of being one of thecleanest men in Czech poli-tics – and says he is deter-mined to stamp out corrup-tion. “It is public enemynumber one,” he says.

However his austerityprogramme – the ambitiousidea is to balance thebudget by 2016 – is alreadycausing some cold feetamong voters, who recentlyreturned control of theupper chamber senate tothe centre-left Social Demo-crats.

“This is a complicationbut not an obstacle toreforms,” says Mr Necas.

Some voters have provedto be more resilient in theface of necessary austerity,with Latvians returning athree-party governing coali-tion to power in Octoberelections with an increasedmajority. But otherwise thetaste for austerity has lim-its.

Hungary, as always some-thing of a regional outlier,also turned right this year,electing Viktor Orban andhis Fidesz party.

However, in contrast toother centre-right leadersin the region, Mr Orbanhas mixed a lot more pop-ulism into his promises,provoking a fight with theInternational MonetaryFund and implementingcontroversial taxes to keepthe deficit and debt fromspinning out of control.

That stance was rewardedin local elections in Octo-ber, which sealed Fidesz’scontrol of Hungary.

And in November,Poland’s Civic Platform alsodid well, on a programmededicated to no radicalreforms.

PoliticsJan Cienski findsthat populism ofthe recent past hascome with a price

Changing course: Slovakia’s Iveta Radicova Getty Images

Central Europe hadbeen on its bestbehaviour for thedecade leading upto entry into theEuropean Union

Plans diverge asregion makespatchy recovery

Many emerging markets camethrough the globaleconomic crisislargely unscathed –

but one stark exception wascentral and eastern Europe.Most of the region was hit hardin 2009, and its recovery is stilllagging behind emerging mar-kets elsewhere.

The downturn exposed someof the imbalances that had beenoverlooked during the boomthat followed the region’s entryinto the European Union. Nowgovernments from the Baltics tothe Balkans are scrambling torepair their public finances incase another aftershock of theeconomic crisis hits.

“This region is emergingEurope. The emerging part isgood, but the Europe one isbad,” says Mark Allen, theIMF’s senior representative forthe Baltics and central Europe.

He notes that the regionshares some characteristics withother emerging markets inLatin America and Asia, such asa cheaper workforce, but alsosome of the more negative

aspects of developed Europe,including high levels of socialspending and relatively low sav-ings rates.

The challenge for govern-ments is going to be to accentu-ate the developing part of theireconomies, which will spurgrowth, while trimming welfarebenefits and red tape that stiflesbusiness – all without provokingthe kinds of street protests seenin Greece and France this year.

One of the casualties of thecrisis was the concept of centralEurope itself. It has always beena shorthand expression coveringthe countries that used to formthe western fringe of the SovietEmpire. However, the countriesof the region are becomingincreasingly diverse.

Last year, as the crisis hit, thethree Baltic countries suffereddouble-digit economic contrac-tions, while Poland eked out a1.7 per cent GDP increase. TheCzechs and Slovaks, with veryopen, export-dependent econo-mies, suffered recessions ofmore than 4 per cent.

Hungary had to turn to theIMF and the EU for a $25bn aidpackage and saw an economiccontraction of 6.3 per cent in2009. Romania did even worse,with a recession of 7.1 per cent.

Outside perceptions have notalways caught up with thewidely diverging responses tothe crisis. “The broader invest-ment community is unaware ofhow well Poland has done,” saysBen Habib, chief executive ofFirst Property Group, a Warsaw-based real estate investor.“When I say I’m in Poland, I geta look of sympathy – they don’trealise what it's like here.”

Central Europe has come outof the crisis divided into threeparts. The central core are themembers of the Visegradregional grouping of Poland, theCzech Republic and Slovakia,

with fairly sound publicfinances, strong banking sectorsand decent growth prospects.

To the north are the Baltics,which suffered a severe down-turn and are now on a painfulpath of recovery. In the southare the troubled Balkan coun-tries, with Hungary, also aVisegrad member, straddlingbetween the core of centralEurope and the Balkans.

“Hungary is in a halfwayhouse,” says Matteo Napolitanoof the Economist IntelligenceUnit. “It shares some positivecharacteristics with the otherVisegrad countries in having asolid export sector, so it hasbeen able to tap into the

Germany-led recovery. The neg-ative side is the fiscal imbal-ances and all the issues relatingto excessive lending in foreigncurrencies.”

The crisis provoked a politicalresponse across the region, aselections over the past yearshowed a noticeable shift to theright; populists lost power andwere replaced by belt-tightenerscalling for cuts and austerity.

“There is a new challenge toface: not only the effects of theeconomic crisis but also how torestart our economy,” says IvetaRadicova, the new Slovak primeminister.

The plan is not only to cutone-seventh off the state budget

next year by slashing €970m inspending and increasing taxesby €730m, but also to tacklepension and healthcare reformthat would again make Slovakiaone of the continent’s fastestgrowing economies – a taskneglected by the previous popu-list government of Robert Fico.

“The boom of 2000-2008 willnever be repeated, but theSlovak economy does have thepotential for growth of 6-7 percent a year,” says Ivan Miklos,the finance minister.

The new Czech government ofpremier Petr Necas is takingsimilar steps, with the aim ofreducing the budget deficit from5.3 per cent of GDP this year to

below 3 per cent in 2013 and tobalance it by 2016.

“If we hesitate in taking thesesteps, then in several yearsmuch more drastic measureswould be needed,” he says.

Poland’s centre-right CivicPlatform party, which consoli-dated its control of the countryby winning this summer’s presi-dential elections, is being muchmore cautious about root-and-branch reforms than its south-ern neighbours. Despite runninga deficit this year of 7.9 per cent,and with public debt perilouslyclose to the 55 per cent legalthreshold which, if crossed,

Nations are tacklingthe fall­out from theeconomic crisis andstrategies for growthin their own way,writes Jan Cienski

Inside this issueEconomy Most nations havereturned to growth, write JanCienski and Chris Bryant, butfiscal issues remain Page 2

Motor industry Scrappageschemes have helped boostexports of cars such as Dacia’sLogan (pictured below), reportsNicholas Watson Page 2

Banking Political pressuresrather than business trends arenow the main issue Page 3

Investor profile Lehel stillowned a zoo before Electroluxtamed itswilderpassions,saysKesterEddyPage 4

Leaving the past behind: old and new come together in the centre of Warsaw, Poland’s capital Alamy

www.ft.com/central­eastern­europe­2010 | twitter.com/ftreports

The region is astepping stone towestern markets,but somelocal companieshave cried foulPage 4

China calling

Continued on Page 3

2 ★ FINANCIAL TIMES TUESDAY NOVEMBER 30 2010

Investing in Central & Eastern Europe

Exports to Germany help relieve crisis

Ivan Miklos, the Slovak financeminister, has little doubt as towhy his small and open countrywill notch up one of the Euro-

pean Union’s fastest economic expan-sions – 4.1 per cent – this year.

“It’s thanks in large part to exportsto Germany,” he says.

The story is the same for much ofthe rest of the region, which has beenpulled from last year’s recession – onethat only Poland managed to avoid, –in no small part because of Germany’sexport-fuelled economic recovery.

Czech, Slovak, Polish and Hungar-ian factories, especially those produc-ing for the car industry (see articlebelow), are increasingly part of Ger-many’s supply chain.

In the first nine months of this year,the three main car factories in theCzech Republic have seen productionjump 13 per cent – and data are simi-lar across the region.

That, combined with a revival indomestic demand, means most of cen-tral Europe will have a decent 2010.The World Bank estimates that cen-tral Europe’s EU members will growby an average 1.8 per cent this year,followed by 3.2 per cent in 2011, withonly Latvia and Romania continuingto suffer economic contractions, whilePoland will rival Slovakia for theregion’s fastest growth.

The crisis showed that, despite itscommon communist past, centralEurope is increasingly diverse.

The three Baltic countries sufferedsevere double-digit recessions, whilePoland, the region’s largest economy,grew by 1.7 per cent. The CzechRepublic and Slovakia have small andvery open economies, and are nolonger developing countries.

To the south, Hungary’s hostility tothe International Monetary Fund andexotic approach to economic reformsmarks it as an outlier, while Romaniastruggles to return to economicgrowth.

One risk to growth comes if Ger-many’s expansion slows. “The regionis heavily dependent on recovery inEurope and particularly Germany,”says Mark Allen, the IMF’s senior rep-

resentative for the Baltics and centralEurope.

Another pressing problem is publicfinances. Imbalances were exacer-bated by the crisis, and now mostnations are implementing reforms ofvarying severity, although there is adanger of spending cuts driving themback into recession.

Romania is the economic laggard ofthe region owing to the impact of gov-ernment austerity measures, whichinclude a 25 per cent cut in publicsector wages, a 15 per cent reductionin benefits and a 5 percentage pointincrease in value added tax.

As a result, the economy is expectedto contract by some 2 per cent in 2010.Although growth is expected to return

next year, it will do so at a modestrate of about 1.5 per cent.

“It doesn’t signify a real recoveryand won’t be associated with increas-ing employment or purchasingpower,” says Liviu Voinea, a Roma-nian economist.

A superficial reading of Hungarianfundamentals would suggest that ithas managed to stage a solid recov-ery.

Growth of at least 1 per cent isexpected this year, which shouldaccelerate to about 2.5 per cent in2011. In 2010 it will record a currentaccount surplus for the second year ina row and its budget deficit is pro-jected in 2011 to fall below the Maas-tricht target of 3 per cent.

“On the face of it, it looks quiteconstructive. But the problem is howthey achieve this on the fiscal side,”says Christian Keller at BarclaysCapital.

In order to meet its deficit goals,Budapest is relying on crisis taxes lev-ied on the financial, retail, energy andtelecoms sectors, as well as a tempo-rary halt in state transfers to the pri-vate pension system.

With by far the highest public debt-to-GDP ratio in the region, a largestock of foreign-currency loans and noIMF safety-net (after the new govern-ment chose not to renew it), Hungaryalso remains vulnerable to renewedfinancial market turbulence.

North of Hungary, the picture startsto look a lot better.

Despite a contraction of 4.1 per centlast year, the Czech Republic camethrough with a rock-solid bankingsystem and is growing again, while itspublic finances are sounder thanthose of many euro members.

The new centre-right government istrying to cut the budget deficit to 4.6per cent of GDP this year, after hit-ting 5.3 per cent this year.

To do so, the government is cuttingpublic sector wages by 10 per centand reducing some social payments,

provoking large demonstrations incentral Prague.

The eventual goal is to reach a defi-cit of 3 per cent in 2013, and a bal-anced budget by 2016. During the cri-sis, public debt has jumped from 27per cent of GDP in 2008 to 40 per centthis year – which is far below thelevels seen in troubled eurozone coun-tries such as Greece.

“We have prepared an austerebudget for 2011,” says Petr Necas, thenew Czech prime minister.

Similar steps are being taken in Slo-vakia, which was hit by a steep fall inexports last year. In an attempt toreduce the 8 per cent budget deficit to4.9 per cent next year, Iveta Radicova,the new prime minister, is cuttingspending by €970m – one-seventh ofthe state budget – while increasingrevenues by €730m.

“We are in a really deep economicand financial crisis,” she says.

As a member of the eurozone sincelast year, Slovakia has been keen toavoid the fate of the common cur-rency’s weaker members by takingdecisive action now.

Mrs Radicova’s radicalism stands instark contrast to Poland’s much morecautious approach. Warsaw is puttingoff sweeping steps at least until nextyear’s parliamentary elections, whenthe ruling centre-right Civic Platformparty is expected to win another four-year term.

Poland’s situation is more perilousthan its southern neighbours. The def-icit is expected to come to 7.9 per centof GDP this year, but the loomingproblem is its rising public debt,which is brushing up against a legalthreshold of 55 per cent of GDP that,if crossed, requires painful spendingcuts.

Although some independent econo-mists worry that spending is unsus-tainably high, international marketsstill see Poland as a good risk, and arekeen to buy up Polish governmentdebt.

“Poland does need to reduce itsdebt, but I think it is choosing theright path,” says Mr Allen.

EconomyJan Cienski and ChrisBryant find most nationshave returned to growthbut imbalances in publicfinances are a problem

Inward FDI in central andeastern europe

Sources: UNCTADstat; IMF

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encyThe Charles Bridge, Prague

Manufacturers in a driveforward at expense of west

In September, Romania’sDacia celebrated the mil-lionth Logan car to roll offthe assembly line since itstarted up in 2004.

The feat highlights howemerging Europe’s carindustry not only camethrough the credit crisis inremarkably good shape butis expected to benefit at theexpense of the car industryfarther west.

The Logan became one ofthe more ironic symbols ofthe crisis. Bought byRenault in the late 1990s,Dacia was restructured toproduce this bulky-lookingsaloon car. With its virtuesof affordability and reliabil-ity, the Logan was tailoredspecifically for consumersin developing markets suchas those in central and east-ern Europe (CEE).

However, Germany endedup as the Logan’s largestmarket in 2009, as salesthere surged more thanthreefold. It was an unin-tended beneficiary of thecrisis stimulus plan to offerowners of cars morethan nine years old€2,500 to junk theirbangers and buynew, environmen-tally friendlier,wheels.

Rather than forkout for a new Mer-cedes, BMW orAudi, many Ger-man consumersopted for the bar-gain €7,500 Logan,using the cash-for-

clunkers programme to geta 33 per cent reduction.

Dacia was a clear winnerfrom these schemes, but itwas not the only one. Over-all, the car industry in east-ern Europe did not suffer asbadly as that in westernEurope. According to theInternational Organisationof Motor Vehicle Manufac-turers, eastern Europe pro-duced 7.7 per cent fewervehicles in 2009 than 2008,but this fall was a lot lessthan the 19.5 per centdecline suffered in westernEurope.

This is mainly becausethe region primarily buildssmaller cars such as theFiat Panda in Poland andthe Toyota Aygo in theCzech Republic – which per-formed better in the crisisbecause they are cheaperand the scrap incentiveswere more relevant, giventhe lower pollution emis-sions of smaller cars.

“The scrappage schemesreally favoured smallervehicles – Skoda sold about100,000 units of its Fabia inthe German market alone,which means that in 2009one in seven Skodas soldwas a Fabia in Germany,”says Tim Urquhart, autoanalyst at IHS Automotive.

In the short term, there-fore, some predict theregion’s car industry couldbe hit disproportionately

hard from the phasing outof these scrappage schemes– with output decliningslightly when it might oth-erwise have been expectedto keep rising.

IHS Automotive predictscar production in the CzechRepublic, Hungary, Polandand Slovakia will fall from2.532m units this year to2.525m in 2011, and then to2.494m units in 2012.

Over the longer term,though, eastern Europe isexpected to continueexpanding its share ofEurope’s overall car produc-tion. According toUniCredit, the CEE region’sshare of total European pro-duction jumped from 9 percent in 1999 to 24 per centin 2009.

Surprisingly, given thedrop in vehicle demand andthe industry’s overcapacity,there have been no plantclosures anywhere inEurope to date. But thiswill surely change, withageing plants in westernEurope more at risk thannewer plants in CEE.

One effect of the eco-nomic crisis is that it haseased some of the upwardpressures on labour costs,making CEE’s competitive-ness on costs better than ithas been for some years.

The rush to move produc-tion to eastern Europe thatmade Slovakia the conti-nent’s biggest per-capita carproducer has tailed off, butcapacity is still being

added.M e r c e d e s - B e n z

will start producingcars in Hungary in

2012, while Fordacquired a plant inRomania and is dueto begin productionthere from next

year.In September, General

Motors said it would invest€500m in its Hungarianengine plant to expandcapacity. China is alsoshowing interest in theregion, which it sees notonly as a market with goodgrowth potential, but alsoone that can provide it withmuch-needed technology.

Great Wall Motor Com-pany will start producingcars in Bulgaria from nextyear, while Chery Automo-bile is sniffing aroundPoland.

It is technology that isregarded as crucial to thefuture of the car industry inthe Czech Republic, Slova-kia, Poland and Hungary.

Until now, sophisticatednew engine technologieshave generally been devel-oped outside the region inthe home countries of theparent groups, which havebeen reluctant to see itleave there, fearing valua-ble intellectual propertywould be at risk.

But this is changing. Forexample, smaller-enginetechnologies are beingdeveloped in Skoda’sresearch centre in MladaBoleslav in the CzechRepublic, and used through-out the worldwide opera-tions of Skoda ownerVolkswagen.

“The Czech Republic isbecoming more developedin terms of the car partsproduced there, productsthat are higher added-valueand more complex techni-cally,” says Milan Kocka,partner at Ernst & Young.

“The easiest part of pro-duction that was shifted [tothe region] in the past 10years has in some casesshifted further east – andthis is not a trend restrictedto just the car parts indus-try, I’d say it’s an overalltrend.”

Motor industrySmaller cars andscrappage schemeshave helped thesector, reportsNicholas Watson

Romania is the economiclaggard of the region,owing to the impactof the government’sausterity measures

Logan’s run: theDacia car has soldwell in Germany

FINANCIAL TIMES TUESDAY NOVEMBER 30 2010 ★ 3

Investing in Central & Eastern Europe

Plans diverge after recovery

demands spending cuts, thegovernment is keeping aclose eye on the politicalcalendar, mindful of parlia-mentary elections that takeplace next year.

The government is “work-ing on the fundamentalassumption that Polanddoes not need new shocktherapy”, says Jan Krzysz-tof Bielecki, a former primeminister who is one of pre-mier Donald Tusk’s leadingeconomic advisers.

That assumption may becorrect, but if there isanother wave of investorpanic, Poland’s budget situ-ation could make it vulner-able.

The new centre-right gov-

ernment in Hungary is alsotackling its much more direeconomic situation – it hasa debt of 78.9 per cent ofGDP, much higher than therest of the region – by mix-ing a dash of populism andnationalism with its fiscaltightening to inflict as littlepain as possible on voters.

The government of ViktorOrban clashed with the EUand the IMF over its reformprogramme, and is nowrelying on undoing pensionreforms, and new leviessuch as a controversialbanking tax to reduce thedeficit and deliver a prom-ised tax cuts.

While the crisis diduncover some weaknesses,there were strengths aswell. Despite earlier fears,banks proved stable, inlarge part because they hadnot engaged in the riskyinvestments that broughtdown their west Europeanand US counterparts.Export industries, particu-larly the car sector, havequickly recovered.

Joining the EU hasproved to be transforma-tional. Although there havebeen stutters, such as thecorruption that flourishedon EU-funded projectsunder Slovakia’s previousgovernment, the regulatorynorms and the enormousstream of cash pouringfrom Brussels are changingthe region.

Poland, which is getting€67bn from 2007-2013, hasbecome the EU’s largestconstruction site, as townsand villages which used todump waste into local riv-ers now have sewageplants, and large chunks ofthe countryside have beendug up for highways.

“It is impossible to over-state the impact of thesefunds. No country has evergotten so much money inone go – not even Spain,”says Elzbieta Bienkowska,the minister of regionaldevelopment. “Poland had aslowdown but not a reces-sion because of EU funds.”

Similar projects meanthat Slovakia will eventu-ally have an east-west high-way, allowing investmentto flow to poorer regionsnear the border withUkraine, while the CzechRepublic will be even moretightly integrated with theGerman economy.

But in Romania a morepressing concern is theoverall absorption of EUfunding, which ranksamong the weakest inEurope.

The country’s infrastruc-ture requires considerableupgrading – not least itsmotorway network, whichremains tiny for a countryof its size. But after joiningthe EU in 2007, Romanianapplicants and the coun-try’s bureaucracy wereunprepared to handle thecomplex process required toaccess EU funds.

The difference in absorp-tion capacity shows the dis-tance various countries stillhave to travel beforeachieving the long-termgoal that does unite theregion – catching up withwest European living stand-ards as soon as possible.

When that objective isreached, something thatshould happen over thecourse of the next genera-tion, there may be no needfor the term “centralEurope” at all – Europemay do just fine.

Profile Gedeon Richter strikes out westwards

Gedeon Richter, Hungary’s largestpharmaceutical producer with annual salesof €1bn, has long been one of centralEurope’s stock market favourites.

Based in Budapest, and with a mixture of20 per cent proprietary, 80 per centgeneric production, Richter has a “first­class” management team that is“experienced, forward­thinking” and contains“clear communicators to the investmentcommunity, albeit tending to err on the sideof caution”, says Luke Poloniecki,pharmaceutical analyst for Europe, MiddleEast and Africa at ING in London.

But as Zsuzsa Beke, Richter’s publicrelations chief, admits, equity analysts hadbegun complaining in recent years that thecompany had been holding too much cash.

This autumn, the analysts found out why,as the company swooped twice in quicksuccession to acquire western operations, atan immediate cost of €350m.

First came PregLem, a privately ownedSwiss biopharmaceutical company, whichtook a SFr100m (€114m) down payment,with a projected additional SFr295m inmilestone payments to come.

Less than a month later, Richter pickedup the oral contraceptive portfolio ofGrunenthal, a family owned, research­basedcompany based in Germany, for €236.5m.The deal received approval from theGerman antitrust authority last week.

Erik Bogsch, Richter’s chief executive,says the two deals were “the biggestachievements of the year for the company”,and would prove to be “important steps” infurthering its drive to boost the value ofits drug portfolio whilesimultaneously improving itssalesforce in key westernEuropean and otherinternational markets.

The company had alreadysent feelers beyond easternEurope, establishing joint­ventures in India in 2004and in Germany, in 2007.

These, together with itslatest drive westward, mark itout as something of a pioneer.“I believe that these deals

make us the largest Hungarian investor inwestern Europe,” says Ms Beke.

Not that such moves were entirelyunexpected. “It’s tempting to view thesedeals as a turn in strategy, but it’s veryconsistent and in line with Richter’stherapeutic focus; its gynaecologyspecialisation [the business focus of bothacquisitions] has always defined thecompany,” says Mr Poloniecki.

Mr Bogsch is quietly confident thatRichter can create additional value from itsnewer acquisitions, citing the potential valueof PregLem’s development portfolio, whichincludes Esmya, a drug for treating uterinemyoma (a fairly common female condition)and which has completed final, Phase IIIclinical trials.

“If the [Esmya] registration goes through,then really it fulfils an unmet clinical need,so it would really be a very importantproduct, with potential [annual] sales of€100m–€200m in Europe,” says MrBogsch.

Meanwhile the German acquisition addsBelara, the well­established, contraceptivebrand, to Richter’s product line, and enablesthe two companies’ sales forces to combineefforts to sell the enlarged portfolio in theirrespective areas.

Both deals inevitably involve uncertainty,notes ING’s Mr Poloniecki – particularly thePregLem purchase, as none of its productsare yet licensed. However, the progress inclinical trials of its two leading productsindicates these “may have a better chanceof success” than most drugs underdevelopment for female ailments.

And with Richter holding some€400m in cash, the deals should not

strain finances (the company hasalso indicated it is pulling togethera loan deal to ease any potential

difficulties).Mr Poloniecki says: “Investors

will be encouraged to seeRichter spending from its cash

pile, and purchasing assets in linewith its therapeutic specialisationand its corporate strategy of

expansion into westernEurope.”

Kester EddyErik Bogsch: hashigh hopes fromacquisitions

Pressure oflevies putsbrakes onrecovery

Central Europeanbanks generallycame through theglobal crisis in a lot

better shape than pessi-mists had predicted, butnow they face pressuresthat come more from politi-cians than business trends.

Hungarian banks in par-ticular face a variety ofsevere headwinds, the big-gest of which comes from aFt200bn ($1bn, €730m)financial sector levydesigned to help the govern-ment meet European Union-imposed fiscal targets in2010 and 2011.

Several Hungarian banksare expected to reportlosses this year because ofthe tax, which is by far thehighest bank levy inEurope. Analysts havewarned it could discourageforeign-parent banks frominvesting in their subsidiar-ies.

The government has indi-cated that banks may con-tinue to face some kind oflevy from 2012-2014 – albeitat about half the currentlevel – which has added toinvestor uncertainty andthreatens to hamstring theeconomic recovery.

“In response to a lowerprofit outlook, banks willpursue more conservativepolicies and curtail lending.This, in turn, means thatneither economic outputnor internal consumptioncan grow at the expectedrate,” say analysts at Politi-cal Capital, a Budapestthink-tank.

There are also concernsthat the bank levy – whichhas widespread popularsupport – could serve as amodel for other countries inthe region.

Poland is considering abank tax to take effect inJanuary; a step that JacekRostowski, the finance min-ister, says will protect thesector from future shocks.

However, Polish bankingexecutives fear the cash-strapped government ismore interested in raising

revenue than in shoring upbanks, which did not needany state help during lastyear’s crisis.

Although there had beenfears in Poland and else-where in the region thatforeign-owned banks, whichplay a key role in all localbanking sectors, woulddrain liquidity from theiraffiliates, the reverse hap-pened.

“The government did notneed to support the banksor provide emergencyliquidity,” says StephaneHild, the head of SociétéGénérale in Poland.

In Slovakia and the CzechRepublic, where the banksystems proved to be solidlast year as well, the newcentre-right governmentshave little enthusiasm for abanking tax, with parlia-ments in both countriesrejecting the idea.

Hungary’s banks werealready on the back footbecause of troublesome for-eign-currency loan portfo-lios. Hungarians hadfeasted on forex loansbefore the crisis because ofthe low interest rates onoffer. About two-thirds ofhousehold debt in Hungaryis denominated in foreigncurrency, of which the vastmajority is in Swiss francs.

As the Swiss currencyappreciated against the for-int this year, borrowers’repayments became moreexpensive, contributing toan acceleration in non-performing loans.

Poland, where such loanswere also popular, hadmuch tougher banking reg-

ulators, and foreign cur-rency loans make up only36 per cent of total lending.

The regulator has pro-posed limiting foreign cur-rency loans to 50 per cent ofa bank’s loan book, whichhas upset the sector. How-ever, many banks arealready moving in thatdirection on their own.

Zbigniew Jagiello, chiefexecutive of BKO Bank Pol-ski, the country’s largest,

says foreign currency lend-ing essentially ceased in2009. Loans now tend to bedenominated in eurosrather than Swiss francsand make up about15 per cent of his bank’snew loans.

“The crisis changed ourapproach to individualmortgage clients,” he says.

Hungarian banks alsoface tighter regulation,including higher costs fromnew rules designed to helptroubled borrowers. A mor-atorium on foreclosures andevictions, as well as aneffective ban on foreign cur-rency lending, the mostlucrative part of their port-folios, is likely to put down-ward pressure on theirearnings.

By contrast, Polish banksare doing well. Most re-mained profitable through-out the crisis and, in spiteof non-performing loansgrowing from 4.5 per cent ofbanks’ portfolios in 2008, to7.6 per cent at the end oflast year, profits are likelyto be up this year.

Mr Jagiello says his bankearned 2.4bn zlotys ($836m)in the first three quarters ofthis year, more than itmade for all of last year.

Life was more difficult inSlovakia, where the smalland open economy con-tracted by 4.7 per cent lastyear. That, combined withthe loss of forex revenuesowing to euro adoption atthe beginning of the year,cut profits by more than 50per cent.

Slovakia’s economy hasrebounded strongly thisyear, thanks to Germany'srevival, and Jozef Sikela,chief executive of Slovenska

Sporitelna, the country’slargest bank and a unit ofAustria’s Erste Bank, sayshis bank earned €95m inthe third quarter, morethan for all of 2009.

Although profits fell lastyear, the stability of thesector was not in doubt, inlarge part because of thereluctance to grant foreigncurrency loans.

“The plain vanilla busi-ness of collecting depositsand financing customerswhom we know was the

right decision, because ithelped us survive the cri-sis,” says Mr Sikela.

Forex loans were also notan issue in the CzechRepublic, where interestrates have traditionallybeen below those of theeurozone.

Czech banks are tradition-ally very conservative,which meant they did notdabble in the exotic instru-ments that caused troublefor some of their parentbanks in western Europe.

BankingThe sector is facingpolitical challenges,write Jan Cienskiand Chris Bryant

‘The [Polish]government did notneed to support thebanks or to provideemergency liquidity’

Tangled up in blue: an EU flag is coiled by wind outside the Hungarian National Bank Getty

ContributorsJan CienskiWarsaw Bureau Chief

Chris BryantCentral and East EuropeanBusiness Correspondent

Kester Eddy,Tom Nicholson,Nicholas WatsonFT Contributors

Andrew BaxterCommissioning Editor

Steven BirdDesigner

Andy MearsPicture Editor

For advertising, contact:Samantha Lhoas, phone+44 (0)20 7873 3708E­mail samantha.lhoas@ft.com or your usualFT representative

Continued from Page 1

4 ★ FINANCIAL TIMES TUESDAY NOVEMBER 30 2010

Investing in Central & Eastern Europe

Beachhead towest is bigattraction

Takeover isHungarianrhapsody forElectrolux

Roma face a roughride in jobs market

When Electrolux, the Swedish white-goods maker, took over Hungary’sstate-owned Lehel refrigeratorfactory in 1991, the first decision forthe newly appointed chief executivewas to choose the name of a tigercub, born recently in the local zoo.

“Lehel owned many assets in thearea, including a hotel, sportsfacilities, and the zoo,” says JanosTakacs, regional chief administrativeofficer for Electrolux Eastern Europe.“The animals had to be named andentered into the accounts. Mind you,the zoo was one of the first thingsthe company sold, or rather,transferred, to the local [Jaszbereny]community.”

Thus was the somewhat quirkybeginning of arguably one of themost successful privatisation deals incentral and eastern Europe.

However, downsizing the inventoryof wild cats was far from the onlychange needed at the centralHungarian plant, which then boasteda workforce of almost 4,600.

“Of these, some 1,000 were whitecollar workers, and fewer than 2,000were directly involved in production;this was a reflection of the [formercommunist-era] policy to maintainfull employment,” says Mr Takacs.

Worse still, despite the bloatedoffice headcount, just two peoplespoke English, while modernmarketing, logistics, accounting andfinancial skills were notable for theirabsence.

Despite this, Lehel workersproduced 600,000 refrigeratorsannually, of which a third wereexported to western markets. “We’dbeen around since 1952, and Lehelhad a technical culture andexperience,” he notes.

Restructuring saw the totalheadcount dip below 3,000 by 1994, asthe new owners initiated sweepingretraining programmes, andintroduced new technology,production systems and productlines, while simultaneouslyundertaking a huge environmentalclean–up – a requirement of theprivatisation contract.

“The Lehel acquisition was thefirst 100 per cent takeover of a bigstate-owned company in Hungary.This was a show of trust andcourage, because at the time [justone year into the new democracy]there were financial and politicalrisks,” says Mr Takacs.

As the company transformationprogressed, Electrolux managementincreasingly warmed to itsHungarian subsidiary, introducing

important new products, such aschest freezers in 1997 and vacuumcleaners in 1998 – despite suffering aserious fire in a refrigeratorproduction unit that same year.

At the same time, Hungarianspecialists were busy transferringtheir new skills and know-how to afreshly acquired cooker productionfacility in Satu Mare, just over theborder in Romania.

More significant still, Electroluxdecided in 2003 to develop agreenfield plant at Nyiregyhaza innorth-eastern Hungary, to produce anew range of fridge-freezers.

Not that the expansion came easily.“We had to lobby hard for this; therewas fierce competition,” Mr Takacssays. The new plant, an investment ofsome €85m, opened in 2005.

The result today is a workforceacross the two Hungarian sites of4,000, including 3,500 blue-collarworkers. The factories produce 5munits a year, ranging from vacuumcleaners to built-in refrigerators.

As for the investmentenvironment, Electrolux, as amanufacturer, is not directly affectedby government moves to imposespecial taxes on banks, utilities andlarge retailers. He is, however,sceptical of promises that the extracharges will not be passed on.“Sooner or later, these costs willreach the final customer,” he says.

However, Mr Takacs remainsoptimistic, and proud of “the loyalworkforce”, a result of Electrolux’spolicy of “trusting Hungarians” andretraining rather than makingwholesale dismissals.

Jozsef Csibra, a workshop leader inone production unit, appears toepitomise this policy. An employee of15 year’s standing, including a stintwith Electrolux in China, he says:“My grandfather, father and now Iwork here; three generations alltold.”

Investor profileLehelKester Eddy hears how astate­owned refrigeratorfactory lost its wild catsbut became a success story

Investing in a region’s future is notjust about building factories andupdating the infrastructure – makingthe most of human assets is also vital,as Viera Samkova’s story illustrates.

Ms Samkova is something of a rar-ity in Slovakia – she is a Roma with auniversity degree.

But in other ways, her situation iscommon. Since graduating fromteachers’ college four years ago, shehas not been able to find work, andhas watched as jobs she was told hadbeen filled were later given to lessqualified non-Roma applicants.

Ms Samkova’s case, whichprompted a parliamentary inquiry inBratislava this autumn, suggests anintractable problem: if even the mosteducated Roma can be denied accessto mainstream society, what hope isthere for the hundreds of thousands ofgypsies who live in primitive slumsacross central and eastern Europe?

“Roma, in particular, need examplesin their community to follow, but theexample I seem to have set for ourpeople is that it doesn’t pay to go toschool and try to do something withyour life,” says Ms Samkova, 27.

“Mostly they laugh at me, saying Iinvested all that time and money andstill no one wants me.”

As a political and social challenge,the Roma are never off the agenda inEurope. This is especially the casenow, following France’s expulsion ofthousands of Roma from illegal campsthis summer, and the impendingextension of the Schengen area nextyear to include Bulgaria and Roma-nia, home to an estimated 2m ofEurope’s most impoverished Roma.

If it had not been for Schengen,there would have been no massexodus of the Roma to France,Václav Klaus, Czech president,said at a meeting of regionalleaders in Prague this month.

Mr Klaus and his counter-parts urged the EuropeanUnion to adopt a common pol-icy on the Roma. “None ofthe countries that aredealing with thisproblem is capa-ble of handlingit on its own,”said IvanGaspa rov i c ,

Slovak president.Hungary, which assumes the rotat-

ing EU presidency in January, haspromised to make the Roma one ofthe pillars of its tenure.

There are signs that change is afootbelow the rhetoric.

In Hungary and Slovakia, wheresummer elections produced new gov-ernments, the Roma agenda has beenassigned to deputy ministers ratherthan to impotent cabinet appointeesas in the past. The two countries arealso now treating the plight of theRoma as primarily a social issuerather than an ethnic one.

Miroslav Pollak, adviser to the Slo-vak cabinet on Roma affairs, promisesto end the practice of assigning Romachildren to “special” schools for thementally handicapped, and instead toreintegrate them into the mainstreameducation system. The governmentalso plans to reform the social secu-rity system to motivate the poor towork, and to distribute welfarethrough electronic payment cardsrather than in cash, partly to combatusury in Roma slums.

“We have 10 mayors and municipal-ities that are willing to take part in apilot programme next year. By theend of our tenure, I expect it will berolled out across the country,” saysMr Pollak.

The change in course on the Romawas a matter of necessity rather thanideology, he adds. “The issue has beenneglected for so long that it hasbecome an economic and a securityconcern as well,” he says.

“Governments only act when theyare forced to, and at the back of every-one’s mind was the knowledge thatthis country cannot afford to have alarge part of the population excludedfrom economic activity. The samegoes across the region – governmentsin central Europe were forced into co-operation on the Roma by these expul-sions from France.”

Ms Samkova, who ought to know,says reforming welfare and edu-

cating the Roma make senseonly if workplace discrimi-nation can be overcome.

“If we can’t get jobs,it’s all for nothing,” shesays.

Since taking her storyto the press, Ms Samkova

has been hired by Slova-kia’s labour ministry as a

local adviser on Romaissues. But the con-tract is at the mini-mum wage, andends in the newyear.

“I’m gratefulthat finally some-one in the govern-

ment helped meout,” she says, “but it looks like inJanuary I’ll be back where I started.

Social affairsViera Samkova’s plighthas touched a raw nerve,writes Tom Nicholson

During the Cold War, centralEuropean communists some-times looked to China as acounterweight to their over-

bearing Russian rulers. Now, follow-ing the crisis-induced slowdown inforeign investment, the region isagain seeking salvation from the east.

Countries across central Europe arehosting Chinese delegations, andeagerly anticipating Chinese factoriesand construction companies. For theChinese, central Europe also carriesattractions, as a region which is partof the European Union, but wherewages are a fifth of those in Germany.

In fields as diverse as informationtechnology, telecommunications, carmanufacturing and infrastructure,Chinese companies are increasinglytargeting the region as a beachheadfor European expansion.

A Chinese delegation was recentlyvisiting Poland, exploring the possibil-ity of helping build a high-speed railnetwork. Poland, a laggard when itcomes to infrastructure, could take alesson from China, which has rapidlybuilt up one of the world’s most mod-ern networks, now totalling about7,000km.

Chinese infrastructure experiencealso paid off for the China OverseasEngineering Group (Covec), which, aspart of a larger consortium, last yearwon two tenders to build 50km of aneast-west highway in Poland. ThePolish infrastructure ministry wascounting on paying 2.9bn zlotys ($1bn)

for the work, but Covec’s winning bidcame in at 1.3bn zlotys – 23 per centlower than the next best.

Polish companies cried foul becauseChinese labour will be used and theroad builders’ industry group wrote tothe European Commission chargingthat the bid was unfairly low. TheCommission has also raised concernsabout the project, because it is partlyfunded by the EU and because Chinarestricts entry to its own market,while competing in Europe.

That view finds little appeal in War-saw, as the government is keen tobuild as many roads for as little aspossible. “It is all decided by price,”says Magdalena Jaworska, the deputyhead of the government road-buildingagency.

Despite the high-profile examples,commercial ties with China are stillcomparatively modest compared withits large resource-linked investmentsin Africa and central Asia.

Nevertheless, the sight of Chinesebusiness delegations trawling theregion for business opportunities hassparked concern among some westerncompetitors.

German industry’s Committee onEastern European Economic Relationswarned last month that state-ownedChinese firms were securing anincreasing number of contractsin the region “via price-dumping,aggressive financing and generousrisk-guarantees”.

Some analysts cast doubt on thenotion that China has an overall strat-egy for eastern Europe, arguing thatmost investments are opportunistic.

“The Chinese go where there’s agood deal, or they can acquire tech-nology or resources, where the priceis right and where the political envi-ronment is favourable,” says PaolaSubacchi at Chatham House, the Lon-don think-tank.

For some companies, central Europeis an attractive beachhead to pene-

trate the wealthier markets to thewest. A good example is Huawei, theworld’s second-largest telecoms equip-ment maker, which broke into Europeby helping set up Play, Poland'sfourth mobile telephone network.

In May last year, Huawei estab-lished an assembly plant and logisticcentre in Hungary to serve customersin Europe, Russia and north-westAfrica.

“Hungary and CEE have hugepotential and are an area in whichfurther investments from both Hua-wei and other leading ICT vendors arelikely,” says Gavin Dai, managingdirector of Huawei Hungary.

Hungary is making particularefforts to woo Chinese investors. InJune, Wanhua Industrial Group, thechemical conglomerate, agreed to pay€140m for a 38 per cent stake in Bor-sodChem, the Hungarian isocyanateproducer, indicating it would soonexercise a call option to buy the restof the company from owners Permiraand VCP Capital Partners.

"Once [the Chinese] have made adecision to march . . . they march. We

will see a significant increase in trans-actions in which Chinese investorscommit capital to European compa-nies,” says Heinrich Pecina, seniorpartner at VCP.

Chinese delegations are also touringthe Czech Republic, where Chineseinvestments total about $40m, andSlovakia, where Guangzhou EchomScience & Technology reportedlyplans to build a €29m plant to maketelevision set cases. The car industryis also interested in Slovakia,Europe’s largest car producer on aper-capita basis. Poland’s governmentinvestment agency says Chineseinvestment so far totals $390m, andhas hopes of more.

The trade relationship with China isnot inconsequential. Hungary hadtrade worth $6.8bn last year. Poland’sbilateral trade is worth about $16bn,while the Czech Republic has nettrade of $11bn, but everywhere thebalance is heavily skewed towardsChina, which exports TVs, cars, cloth-ing and consumer goods to centralEurope, while relatively little flowsthe other way.

Chinese investmentsNot everyone is happywith the sight of businessdelegations trawling foropportunities, write JanCienski and Chris Bryant

The acquisition ofLehel was a showof trust andcourage becauseof financial andpolitical risks atthe time, saysJanos Takacs

Out of luck:Viera Samkova

Radio Expres

Road to ruin or salvation? A consortium including Chinese interests is working on Poland’s east­west highway Getty

‘Once [the Chinese] havedecided to march . . . theymarch. We will see asignificant increase intransactions in which theycommit capital toEuropean companies’