Construction CEE Market

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Opportunity Knocks The Benefits and Dangers of
Turn-Key Solutions for CEE Markets
Leonid Peisakhin, Exclusive Analysis Ltd. Leaf
Contractors Summit, Prague March 24, 2006
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Early-Stage Risk Identification is Most Valuable
RISK AVOIDANCE
RISK MANAGEMENT
CORPORATE
FINANCIAL OPPORTUNITY
SECURITY AUDIT
FRONTLINE SECURITY COMPANY
BAILING OUT DURING FLOODING
POST-LOSS AGGREGATION
RISK SELECTION
RISK ALLOCATION
RISK REDUCTION
RISK DEFENCE
RISK IMPACT MITIGATION
POST-EVENT RISK RESPONSE
STAGE IN RISK CYCLE
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CEE Construction Market General Trends

• Growth is expected over the next 1-2 years
• As costs increase in Hungary and the Czech
  Republic, firms will start targeting further East
  e.g. Romania and Bulgaria
• Russias construction market will dominate in CEE
• Non-residential real estate returns will decrease
  while residential and civil engineering segments
• will grow
• EU structural and cohesion funds injection
• into infrastructure in Czech Republic,
• Hungary Poland will spur market growth
• Polands recent construction malaise will
• reverse
• Major change likely on the Moscow market

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CEE Construction Market potential pitfalls

• Burdensome administrative practices are likely to
  persist throughout 2006.
• Corruption will remain rampant across CEE,
  improving only gradually.
• The involvement of organised crime in the
  construction sector in Russia and Bulgaria will
  continue.
• The hope of rapid spending of EU regional funds
  in the Czech Republic and Poland is misplaced
  bureaucratic inefficiency will get in the way of
  this.

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Political risks of investing in Russia general
observations

• GDP growth (2005) 5.9
• Construction market growth (2005) 10
• Residential housing market is expanding rapidly
  (esp. cities with more than 1 million inhabitants
  and Black Sea resort areas)
• Expansion of residential housing is one of
  President Putins national projects
• Mortgage provisions are being rapidly developed
• Sixty percent of all housing stock is dilapidated
  and in need of renovation/replacement

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Political risks of investing in Russia general
observations

• BUT
• Burdensome regulations
• Widespread corruption and administrative
  incompetence
• Large construction firms are linked with
  municipal governments
• Supply of building materials is virtually
  monopolized
• Expropriation pressures and murders
• Regime change risks
• Terrorism risks
• Cargo/supply chain disruption risks
• How long will the boom continue?

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Political risks of investing in Russia the
Moscow market

• Highly lucrative property prices growing at
  30-40pa in recent past
• Industrial areas are being earmarked for
  commercial and residential development and some
  residential areas are being re-planned
• Administrative procedures are due to be
  simplified in 2006-7
• BUT
• Mayor Luzhkov controls the allocation of building
  permits and indirectly controls a construction
  empire
• Supply of building materials is tightly
  controlled
• The problem of illegal workers
• MAJOR CHANGE LIKELY Luzhkov is likely to leave
  the mayoral post in 2006-7

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Political risks of investing in Poland

• GDP growth (2005) 3.3
• Construction market growth (2005) 7.4
• Negative growth trends of the last several years
  are finally expected to be reversed this year
• Poland ranks last in Europe in terms of the
  number of apartments per 1,000 residents
• Demand for residential housing will also be
  driven by the fear of VAT increase on apartment
  purchases to 22 in 2008
• Poland needs to undertake major civil engineering
  projects to conform with EU legislation

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Political risks of investing in Poland

• BUT
• The country will be slow in making use of EU
  cohesion and development funds
• Large scale corruption along with administrative
  inefficiencies will likely persist
• Investment in engineering and infrastructure
  projects will be hampered due to lack of local
  development plans
• Political risks associated with early
  parliamentary elections
• ON THE POSITIVE SIDE the Government has talked
  about comprehensive regional planning law,
  changes to PPPs, a new construction act and
  maintenance of preferential VAT rates beyond 2008

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Political risks of investing in the Czech
Republic

• GDP growth (2005) 4.6
• Construction market growth (2005) 4.2
• Most developed construction market in the CEE,
  particularly in non-residential property
• Large investment in infrastructure is expected
  (EU funds)
• Growth potential still present but limited

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Political risks of investing in the Czech
Republic

• BUT
• Large-scale corruption connected to awards of
  public contracts and building permits
• Slow and inefficient administrative processes
• Malicious disruption of construction projects
• November 2006 elections
• ON THE POSITIVE SIDE sound economic indicators

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Political risks of investing in Hungary

• GDP growth (2005) 3.7
• Hungary leads in terms of new housing in the CEE,
  yet investment in construction expressed as
  percentage of GDP is the lowest in CEE
• Civil engineering projects represent the next
  growth area
• Healthy development potential within the Golden
  Triangle and in eastern Hungary

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Political risks of investing in Hungary

• BUT
• Administrative inefficiencies and corruption
• Cumbersome and slow legal system
• Likely tightening of development and rezoning
  regulations overtime
• Economic indicators
• April 2006 elections

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Political risks of investing in Romania

• GDP growth (2005) 5.2
• Construction market growth (2005) app. 7.5
• The boon of EU accession
• Demand for commercial space is growing rapidly as
  is that for residential housing in the cities and
  for industrial space along major motorways and in
  western Romania
• Romania has seen some mildly successful economic
  reforms in 2004 and 2005

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Political risks of investing in Romania

• BUT
• Corruption and red tape persist
• Construction market is dominated by
  state-controlled companies
• Negative economic indicators
• The outlook for regime stability

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Political risks of investing in Bulgaria

• GDP growth (2005) 5.4
• The boon of EU accession
• Expansion of the residential construction market
  due to promotion of mortgage schemes
• Sizeable investment in infrastructure
• Sofia, the capital, and Black Sea resort areas
  are the construction hot spots

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Political risks of investing in Bulgaria

• BUT
• Widespread corruption is a major problem
• Administrative processes extremely inefficient
• Organised crime involved in the construction
  industry
• Bureaucracy outside of the capital is extremely
  difficult to deal with
• Economic indicators
• Political stability

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Conclusions

• CEE states, and particularly Russia and Romania,
  present a major opportunity
• Well likely be seeing a movement eastwards as
  the EU expands and the cost of doing business in
  Central Europe rises
• BUT CEE markets must be navigated with care
• Municipal and central governments usually work in
  tandem with local firms
• Corruption levels are high across the CEE
• Red tape can be mind-boggling and permits take a
  long time to secure
• Regional governments are usually more difficult
  to deal with than authorities in the capital
• Foreign firms are best off operating through
  subsidiaries registered in states where
  construction is undertaken and/or in tandem with
  major local construction companies

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Opportunity Knocks The Benefits and Dangers of
Turn-Key Solutions for CEE Markets
Leonid Peisakhin, Exclusive Analysis Ltd. Leaf
Contractors Summit, Prague March 24, 2006