Poland: A glass half-fullPoland: A glass half-full

2005 marks both the 25th anniversary of the Solidarity-led uprising and Poland''s first anniversary as a full-fledged EU member.

Although, many international processors are no doubt already familiar with this dynamic market, since 1990 Poland has managed to attract over US$72 billion in foreign direct investment (FDI), with the country''s plastics and rubber sectors capturing over $970 million of this total. A good deal of the remaining FDI has been directed at top plastics-consuming industries, like automotive and parts, as well as upstream industries like chemicals and chemical products. For those processors who are just now considering this market, here are a few of the highlights and lingering concerns associated with the Polish economy.

Assessing the fundamentals

While higher prices for energy are expected to curb earlier growth projections by around .4-.5%, Poland''s economy is still forecast to grow by roughly 3.5% in 2005. It''s also believed that the recent appreciation of the Polish zloty, which has risen around 20% against the dollar (oil and gas are still traded in dollars) during 2004, should soften some of the impact of these price increases.

Picking up speed in 2006-2007, GDP forecasts are again expected to rise by 4% and 5% as energy prices calm and export markets continue to reap the rewards of increased foreign investments and a booming construction market.

Wages in Poland have also risen in correlation to the country''s expanding economy, an outcome that is driving consumer spending. Real per capita income is now estimated to exceed $800 per month.

Of course, Poland''s long-deserved reputation for highly skilled and inexpensive labor remains one of its strongest assets. New labor legislation, which took effect in 2003, grants employers greater freedom and flexibility to negotiate and/or renegotiate with their employees during times of financial trouble.

Serious investors will also want to take the time to learn about Poland''s 14 separate Special Economic Zones (SEZ) and numerous sub-zones. These zones can offer manufacturers unique opportunities for income tax exemptions and other incentives, potentially totaling 50-65% of their initial investment costs. Investors also have the right to negotiate with local authorities for additional benefits like real estate tax exemptions and subsidized worker training.

Tempering the optimism prompted by these positive features are some troubling factors, several of which were recently highlighted by a World Bank report. In a ranking, which assessed the overall ease of doing business in given markets, Poland finished 54th out of the 155 economies examined; the second-worst among the all the newly initiated EU members.

The report''s chief concerns dealt with the slowing pace of economic reforms and privatization, limited access to financing for small and medium-sized businesses, and an inefficient legal system notorious for its red tape and numerous taxes (the Finance Ministry estimates the average Polish taxpayer pays some 54 different types of taxes).

However, now that the Polish election season has come and gone, we feel that processors can expect to see some improvements in all these categories. The new coalition of two right-of-center parties, the Catholic Law and Justice party (PiS), which won the most Parliamentary seats in September, and the Civic Platform (PO), favors reducing and simplifying taxes. The first item on the chopping block appears to be the fuel tax, which the government has pledged to cut by e.8, or $.10, per liter.

As for privatization, its pace traditionally slows before major elections as officials try to avoid being tied to the initial job loss that usually accompanies the subsequent restructuring. Now that elections are past, investors can reasonably expect this necessary but politically sensitive process to accelerate.

Poland''s new conservative government has also promised to simplify Poland''s legal and regulatory procedures. At present, it''s estimated to require 41 separate procedures to enforce a receivable in Poland, a process that can last close to 1,000 business days. Establishing a business in Poland is also much more complicated than in neighboring economies, and both foreign and domestic investors must face similar bureaucratic hurdles and delays when attempting to perform other common procedures, such as securing a permit for the development of storage space or registering new real estate.

Upstream markets

Poland''s energy market has received a lot of attention following the recent agreement between Russia and Germany to construct the North European Gas Pipeline (NEG), which will directly link Russia''s vast gas fields with Germany''s energy hungry industries. Currently, all Russian gas exports to Western Europe must go through either Poland or Ukraine, a condition that to date has guaranteed Polish manufacturers cheap domestic gas prices. Political implications aside, this deal, when completed, will almost certainly drive up gas prices for manufacturers in Poland, and has sent the government scrambling to diversify its energy suppliers.

For processors selling to the oil-and-gas equipment market, new opportunities might soon abound, as politicians again consider plans to build a similar underwater gas line from Norway to Poland. The construction of nuclear power facilities is another likely development. Poland currently feeds three-quarters of its economy with Russian gas.

Higher up the food chain, Poland''s heavy chemical industries (including plastics and derivatives) remain one of few areas where the state still plays a dominant role. Fortunately, recent restructuring of the six remaining state-run facilities has not only helped make them more profitable, but should also make their eventual transition into private hands much less traumatic. Poland''s new conservative government, and the industry''s improved profitability, make it likely that they will be sold off within the next year or two.

It''s widely believed that further privatization of the chemical and resin industry will help re-energize foreign investment in Poland, while also dramatically improving the quality and quantity of Poland''s plastics and chemical output. Currently, Poland''s imports of chemical products (including resins) are twice the value of its exports, and domestic plastic resin production falls well short of local demand.

Figures for 2003 suggested that local production of PE, PP, PVC, and PS satisfied only 20-57% of domestic demand. This shortfall continuesdespite a nearly 80% increase in domestic resin production during the last decade.

Sales opportunities

Looking downstream, processors continue to be lured to Poland by its numerous and growing manufacturing operations. In particular, the automotive and parts industry has taken a special shine to this vibrant market. Despite significant competition from some of its neighbors, especially the Czech Republic and, more recently, Slovakia, Poland remains an important automotive production center.

It''s estimated that in the first half of 2005, Poland exported $2.63 billion worth of cars and vans, up from $1.98 billion during the same period in 2004. Similarly, automotive parts exports increased from $1.52 billion in the first six months of 2004 to $1.89 billion in 2005; the combined value of these automotive exports accounted for more than 20% of Poland''s export market.

Poland''s automotive reputation was bolstered in September when Toyota officially opened its new 180,000-unit diesel engine manufacturing plant in the southwestern town of Jelcz-Laskowice; later that same month General Motors also announced that the first Opel Zafira model had officially rolled off its production line in Gilwice, Poland. Toyota''s new engine production will add to the more than one million engines currently being exported from Poland, and recent upgrades to GM''s Gilwice facility has boosted annual capacity by 180,000 units.

This is not to say that all signs are particularly rosy for Poland''s auto industry. Fiscal restraints and the more recent flood of cheap used vehicles pouring in from the West have both helped to curb domestic new car sales. The elimination of duties following Poland''s accession helped used car imports soar to almost one million units in 2004.

For processors in the parts market, used cars generally require more maintenance and replacement parts. Poland''s demand for parts and maintenance products almost doubled in the last two years. More than half the cars registered in Poland have been on the road for more than six years.

It''s also important to remember that around 80% of the cars produced in Poland are intended for the export market, which limits the impact of slowing domestic sales. And regardless of used-car imports, new production levels continue to rise. Production figures for the first half of 2005 hit 326,400 new units, while the total output for 2004 was 516,200 units; similarly, productions figures for vans and trucks are also up, measured at 57,200 units in the opening half of 2005, compared to 75,700 units for all of 2004.

In construction, as in the U.S. and elsewhere, low interest rates have helped make mortgages more affordable and spurred residential sales, (the National Bank of Poland has forecasted that inflation will remain below the lower limit it had set of 1.5% for the Q4 2005). Poland''s housing prices climbed more than 17% in 2004.

Even more encouraging, market analysts are predicting several more years of steady housing growth for Poland. Supply still falls significantly short of demand. The institute for City Development (IRM) estimates that currently the Polish housing market has a shortfall of roughly 1.4 million housing units. To meet this demand the market must provide 300,000 units annually, far more than the current construction rate of around 90,000 new units annually.

Further, only about 30% of new property sales in Poland involve mortgages, less than half the rate in Western Europe. This will mitigate some harmful effects that rising interest rates could have in other real estate markets.

Of course, a residential construction boom will also continue to spur complementary downstream markets like home appliances and furniture. Nonresidential construction is also expected to remain hot. EU accession will allow Poland to continue benefiting from the European Investment Bank''s (EIB) deep pockets. Already, Poland has secured a $155 million loan for further infrastructure improvements in Warsaw.

Processors will also want to keep an eye on Poland''s computer and peripherals market. Prior to the country''s EU membership, Polish companies filled around 50% of the domestic PC market. However, tariffs and other barriers largely disappeared upon accession, leaving the door wide open to larger foreign producers. LG Phillips, for example, has invested heavily in its Polish production of LCD monitors. IBM is also looking to expand its presence, and plans a new R&D center in Krakow.

Agostino von Hassell ([email protected]), and Mark Bella ([email protected]), of the Repton Group LLC (New York).