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Innovation and Entrepreneurship

To my parents, my husband Andrius and Asta Bangute R.A.

Innovation and Entrepreneurship


Successful Start-ups and Businesses in Emerging Economies

Edited by

Ruta Aidis
Honorary Senior Researcher, University College London, UK

Friederike Welter
Professor, University of Siegen, Germany and Telia Sonera Professor for Entrepreneurship, Stockholm School of Economics in Riga, Latvia

Edward Elgar
Cheltenham, UK Northampton, MA, USA

Ruta Aidis and Friederike Welter 2008 All rights reserved. No part of this publication may be reproduced, stored in a retrieval system or transmitted in any form or by any means, electronic, mechanical or photocopying, recording, or otherwise without the prior permission of the publisher. Published by Edward Elgar Publishing Limited The Lypiatts 15 Lansdown Road Cheltenham Glos GL50 2JA UK Edward Elgar Publishing, Inc. William Pratt House 9 Dewey Court Northampton Massachusetts 01060 USA A catalogue record for this book is available from the British Library Library of Congress Control Number: 2008927951 Daly, Herman E. [Selections, 2007] Ecological economics and sustainable development, selected essays of Herman Daly/Herman E. Daly. p. cm. (Advances in ecological economics) Includes bibliographical references and index. 1. Environmental economics. 2. Sustainable development. I. Title. HC79.E5D3242 2007 338.927dc22 2007001391

ISBN 978 1 84542 973 7 Printed and bound in Great Britain by MPG Books Ltd, Bodmin, Cornwall

Contents
List of gures List of tables List of contributors 1 2 vi vii viii

Introduction 1 Ruta Aidis and Friederike Welter Biocad: innovation in the Russian biotechnology industry 8 Alexander I. Naumov, Irina A. Petrovskaya and Sheila M. Puer Struggling to survive: the case of a new technology-based enterprise in Belarus 29 David Smallbone, Anton Slonimski and Anna Pobol Overcoming barriers: business consulting and lobbying in Kazakhstan 48 Gl Berna zcan Surviving uncertainty through exchange and patronage networks: a business case from Kyrgyzstan 69 Gl Berna zcan How to be successful in an adverse business environment: Knitwear Factory in Moldova 89 Elena Aculai, Natalia Vinogradova and Friederike Welter Integrating cutting-edge chemical knowledge and entrepreneurial drive: the case of New Substances in Ukraine 105 Nina Isakova 125

Index

Figures
6.1 Development of the number of private enterprises 6.2 Moldovan enterprises by types of activity (at the beginning of 2005) 90 91

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Tables
3.1 World Bank Doing Business Indicators, 2006 3.2 General statistics 4.1 Changes in perceptions of economic governance in selected CIS countries, 200205 4.2 The perceived eects of corruption in bureaucracy on business in selected countries 4.3 The use of business associations by Central Asian entrepreneurs to address problems or consult business issues in selected countries 5.1 Kyrgyzstan and the Commonwealth of Independent States, 2004 5.2 Tourism indicators in the Kyrgyz Republic, 200205 5.3 The number of tourist establishments in the Kyrgyz Republic, 200204 5.4 Aigulas strategy of coping with uncertainty through networks 7.1 General information on Ukraine 7.2 World Bank Doing Business Indicators, 2006 7.3 Dynamics of small business development in Ukraine 7.4 Industrial enterprises that spent money on innovation in 2004 and 2005, by size groups 7.5 SWOT analysis of the Ukrainian case study 31 32 54 56

57 73 76 76 82 107 107 109 110 121

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Contributors
Elena Aculai, IEFS, Moldova Ruta Aidis, University College London, UK Nina Isakova, STEPS Centre, National Academy of Sciences, Ukraine Alexander I. Naumov, Moscow State University, Russia Gl Berna zcan, Royal Holloway, University of London, UK Irina A. Petrovskaya, Moscow State University, Russia Anna Pobol, Economic Research Institute, Belarus Sheila M. Puer, Northeastern University, USA David Smallbone, Small Business Research Centre, Kingston University, UK Anton Slonimski, Economic Research Institute, Belarus Natalia Vinogradova, IEFS, Moldova Friederike Welter, University of Siegen, Germany, and Telia Sonera Institute at the Stockholm School of Economics in Riga, Latvia

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1.

Introduction
Ruta Aidis and Friederike Welter

Little is known about innovative and successful enterprises in countries that until 1990 belonged to the Soviet Union. Most previous research has focused extensively on the barriers to entrepreneurship and innovation that exist in these countries, some of which undoubtedly represent a hostile and harsh environment for any entrepreneurial activity. In this book, we oer a dierent perspective, shifting the focus to the innovative potential that these environments provide, demonstrating how entrepreneurs have been able to convert possibilities arising even in hostile business environments into successful businesses. Through this collection of in-depth case studies, we illustrate how successful and innovative businesses have been able to develop in six of these countries. The idea for such a book emerged from our research in Central and Eastern Europe and our interests in how enterprises developed during the transition period. Both editors have come across fascinating stories that show the enormous adaptability of entrepreneurs in these countries and that are not reected in statistical research. We hope that in sharing some of these stories with a wider audience this collection will contribute to deepening our understanding of what constitutes entrepreneurship and innovation in countries that are neighbours to the enlarged Europe. Each case study highlights specic aspects of the interplay between the institutional setting, the environment and the individual characteristics of the entrepreneur which created an enabling context for innovative behaviour to develop and grow, drawing attention to the opportunities and constraints oered in each environment. Additionally, each case study presents an overview of the countrys key economic indicators and the broader role of small and medium-sized enterprises (SMEs) in the economy. Below we briey introduce the case studies contained in this book. This is followed by a summary discussion comparing the main themes raised in the individual case studies.

Innovation and Entrepreneurship

SUMMARY OF THE CASE STUDIES


In Chapter 2, Alexander I. Naumov, Irina A. Petrovskaya and Sheila M. Puer explore the emergence of Biocad, an innovative biotechnology company in Russia founded and headed by a forward-thinking and risktaking banker, Dmitrii Morozov. Biocad is a leading Russian biotech company, developing, producing and distributing generic pharmaceuticals and new medicines. It began as a distributor of popular generic drugs for the Russian market, later moving into the development of new medications. The company is a success story in the eld of academic and scientic entrepreneurship, as it demonstrates how scientic research can be transferred from the ivory tower and applied to the commercialization of products in the competitive marketplace. Biocad was initiated in September 1999 as an investment project of the Tsentrocredit Bank. Dmitrii Morozov, then vice president of the bank, created an investment fund for a biotechnology company which would be the rst brand-new enterprise producing genetically engineered products in Russia since the breakup of the Soviet Union in 1991. The privatization of the economy in 2001 provided Dmitrii with the additional opportunity of acquiring a leading state-owned biological research institute at a very modest price. Staed by a pool of talented scientists, the institute was an established resource base that had the potential to be transformed into a private company commercializing new drug discoveries. All this contributed to Biocads development in a challenging business environment and its ability to overcome the diculties connected with the transition period. In Chapter 3, David Smallbone, Anton Slonimski and Anna Pobol discuss the case of a new technology-based enterprise in Belarus. Sinta has been operating for 14 years in what might be reckoned as one of the harshest business environments in the world. In terms of success, the enterprise is solvent, it has not been subsidized by government loans or grants, and nor is it currently indebted to its employees (through unpaid wages), which is a common feature of small business development in transition conditions. It is a privately owned innovation-based enterprise, albeit one that has yet to achieve sustained commercial success. Sinta was founded by a group of scientists who had been engaged in research activities related to the defence industry during the Soviet period. Like Biocad, Sinta is a good example of scientic entrepreneurship. One outcome of the scientists research into high explosives was the discovery of a new superhard material produced when explosives are detonated. These ultra-dispersed diamonds subsequently became known as nano-diamonds. The results of this research encouraged the company to undertake pilot

Introduction

production of nano-diamonds and to develop the appropriate industrial technology. Overall, the picture that emerges is that of an innovative, knowledge-based company, with a series of new product applications being identied and developed over time. For Kazakhstan (Chapter 4), Gl Berna zcan focuses on the Independent Businessmens Group (IBG), a consultancy rm that took advantage of the demand for business services and day-to-day problem solving. The IBG case shows how energetic and imaginative entrepreneurship can turn business consultancy and lobbying into a successful venture by forging relational politics into a business for enterprise protection in Kazakhstan. This case study also illustrates that a new diversication of power structures and business consolidation is taking place, with longterm consequences for the former hierarchical and vertical structures of the Soviet economy and society. As the author demonstrates, entrepreneurs widen their opportunities in relation, not in opposition to, the ruling elite in the market; and the prevailing business norm is to accommodate the dominant powers that control economic resources as well as political incentives and tools. The IBG built on this assumption, forging political and patrimonial alliances through the vertical and horizontal relations that its founder enjoyed as a close ally of the ruling elite as well as an old comrade of the president of Kazakhstan. Chapter 5 is devoted to the case of an individual entrepreneur, Aigula, who opened a small private guesthouse in the south of Kyrgyzstan. She chose to operate in a eld where she did not have any prior expertise, but she recognized the future potential of tourism. She established her business by applying to a small privatization scheme and gaining ownership of a former store. As the author of the case study, Gl Berna zcan, points out, this example shows the way in which dierent forms of innovative entrepreneurship can emerge even when there is no obvious market for the goods and services provided. Aigula dealt with uncertainty by making use of her existing social networks. However, building a business in a post-Soviet state also meant coping with market distortions often linked to favouritism and unequal access to resources. In this respect, the case study also illustrates how the social status obtained in the Soviet system aected post-Soviet business survival and success through the use of exchange and patronage networks. In Chapter 6, Elena Aculai, Natalia Vinogradova and Friederike Welter discuss the case of Knitwear Factory, a successful small company in Moldova, one of the poorest countries of the former Soviet Union. The enterprise was registered in 1994 by a husband and wife team. The owners both lost their jobs at a state factory, which forced them to look for incomegenerating possibilities in order to feed themselves and their three children.

Innovation and Entrepreneurship

This type of push motive was common in the transition period in Moldova. However, the couple also showed initiative and entrepreneurial drive in choosing to open their own rm rather than trying to nd new jobs in a privately-owned company. Since it was started in 1994, Knitwear Factory has constantly been developing; sales and prots have been growing; the equipment has been updated and new jobs have been created. However, business development very much depends on available resources. Business growth is restricted by the unfavourable environment in Moldova, not by the willingness of the entrepreneur. Almost every enterprise in Moldova is involved to some degree in the shadow economy, often as a result of coping strategies to deal with corrupt state structures. However, in the long run, the widespread tolerance of shadow and illegal operations may have a serious negative eect on Moldovas economic development as the ethical consequences of this kind of behaviour are felt. Finally, Nina Isakova reports on a Ukrainian case in Chapter 7. New Substances is a technology-based small enterprise established in 1997. Now operating on a global scale, New Substances has become a wellknown Ukrainian producer and exporter of organic compounds for highperformance bio-screening. Yet the Ukrainian business environment continues to pose major challenges for the rm: the registration procedure is complicated, time-consuming and expensive, there are no domestic investors to be found, and no leasing facilities are available so that major equipment has to be imported. The Ukrainian business environment is not conducive to innovative entrepreneurship development because of an underdeveloped business support infrastructure characterized by high taxes, administrative hindrances and related costs, regulatory interference, a high level of corruption and limited external nance. Despite this, however, the company has been successful. The owner attributes the success of his business to three factors: the type of innovation undertaken, the particular business sector selected and his previous work experience as a scientist. This case strongly reinforces the idea that companies emerge and develop in a hostile environment primarily as a result of individual initiative.

BEING INNOVATIVE IN A POST-SOVIET CONTEXT: SOME ISSUES EMERGING FROM THE CASES
Taken together, the stories of the entrepreneurs featured in the case studies provide insights into a number of typical features that characterize entrepreneurship in transition economies as well as illustrating some of the

Introduction

dierences between countries. All cases illustrate both the myriad of obstacles facing entrepreneurs in post-Soviet countries and the opportunities that are there to be seized by those who have the knowledge, nancial resources, and political and professional connections, as well as the determination and motivation required to realize their objectives in such a challenging environment. Indeed, entrepreneurial activities are often undertaken despite government interference and an adverse business environment. Frequently business opportunities arose out of the transition process itself, as becomes obvious in the cases of Biocad (Russia) and Sinta (Belarus). In essence, one of the characteristics that many of the entrepreneurs discussed in this book share is an ability to persevere in a turbulent environment under adverse conditions. Given the newness of the private enterprise sector in these countries, it is not surprising that most of the enterprises were started from scratch; indeed this is a common occurrence in transition countries. The privatization trend might also be seen as indicator for the entrepreneurial drive that individuals in these countries showed once such entrepreneurship was allowed. Privatization played a role in some of the technology-based companies, for example, Biocad (Russia), or more indirectly where scientists used their research results where they perceived a business opportunity. This reects not only entrepreneurial drive, but also an environment where employment opportunities for highly qualied persons are lacking. In particular this explains the emergence of scientic entrepreneurs. In the early 1990s, the most active researchers set up their own businesses as a means to provide much-needed income since, although they were ocially employed, in reality they received no salary or a salary that was insucient for survival (that is, they represented the so-called hidden unemployed). In many cases creating a new venture was the only way to preserve scientic expertise and knowledge. Successful innovative companies thus played a role in the implementation of research results as well as the formation of the nascent small business sector. The challenges overcome by the entrepreneurs in the transition countries depicted in this book also demonstrate the way in which in spite of the obstacles it is possible to be successful in a turbulent and often hostile environment. One such turbulence is caused by weak institutions that allow corruption, informal networks and bribery to inuence private business development. It is here that networking takes on particular importance as demonstrated in most of the case studies. Having contacts, knowing someone, or being an old comrade helps in overcoming obstacles in the environment, in accessing resources and in exploiting opportunities. However, in an environment where property rights are not fully secured, legal and institutional structures are weak and enforcement is arbitrary,

Innovation and Entrepreneurship

social networks retained from the Soviet period often oer the most reliable and ecient ways of dealing with pervasive uncertainty and the day-to-day business problems encountered by entrepreneurs. Indeed, in turbulent environments, such networks provide a degree of stability and opportunities which provide the conditions necessary for private businesses to develop. Thus the transition environment simultaneously posed signicant challenges to business development and provided tremendous opportunities. It also provided additional benets that have aided the successful development of the companies highlighted here. All the case studies mention the important and positive role played in their business development by human capital in the form of education inherited from the former centrally-planned system. As in many new technology-based rms, the knowledge base underpinning the unique selling point of such companies resides in the founders and employees. Biocad (Russia), New Substances (Ukraine) and Sinta (Belarus) all represent situations in which founders and/or employees brought in broad scientic knowledge and qualications obtained prior to the start-up of the new private rm. While Biocad, Sinta and New Substances are examples of innovative enterprises in a narrow understanding of the concept new sector or product development, also characteristic of mature Western economies the case studies taken more broadly highlight the various forms of innovation that have taken place in transition countries as well as the innovative behaviour of entrepreneurs in dealing with the constraints of the business environment. Most commonly, innovation in transition countries occurs through the introduction of a product familiar to Western economies but new to the developing domestic market (such as Aigulas guesthouse in Kyrgyzstan). Here, innovation takes place by creating something new; through taking the risk of introducing a completely new product or service into a turbulent, ever-changing environment. In many cases, these entrepreneurs had to be forward-looking risk-takers in terms of the demand that would develop for their products. Learning by doing can be seen as a form of innovation especially relevant to the turbulent environments that characterize early transition. In all of our cases, previously neglected areas of products and or services (however familiar in mature economies) were introduced into the domestic economy for prot. There are additional dimensions to entrepreneurial risk in starting a new business in a transition economy: macroeconomic instability and the uncertainty of demand are coupled with an ever-changing regulatory environment. Moreover, successful innovation in transition countries can have less to do with technological and product development than with the ability of individuals to deal with uncertainty in the business environment by developing a successful survival strategy. One might question, therefore, whether

Introduction

the factors contributing to the relative success of businesses such as Knitwear Factory in Moldova or Aigulas guesthouse in Kyrgyzstan will also result in their long-term business development. It may be the case that many of the strategies and factors which have positively inuenced business growth so far may in fact have a transient, transition-specic component, which works well in a hostile and adverse environment, but restricts sustainable business growth once the business environment has matured. In these cases, it will be the entrepreneurs ability to reorient their business strategies to adapt to a more stable environment that will become paramount, as can perhaps already be detected in the cases from the Ukraine and Russia. To conclude, the cases in this book illustrate the diversity of innovation and entrepreneurial behaviour in environments where entrepreneurship was severely restricted during Soviet rule and which have taken dierent developmental paths since transition. In this, the case studies also demonstrate a need both for researchers and policy-makers to take into account the specics of not only the country environment, but also the transition process and its impact on entrepreneurship development and innovation. This is crucial if entrepreneurship is to be analysed correctly and support measures are to be targeted in such a way that these innovative rms can contribute to further economic growth and the development of a healthy market-oriented system.

2. Biocad: innovation in the Russian biotechnology industry


Alexander I. Naumov, Irina A. Petrovskaya and Sheila M. Puer
INTRODUCTION
This chapter describes the creation and growth of Biocad, an innovative biotechnology company in Russia founded and headed by a forwardthinking and risk-taking banker, Dmitrii Morozov. Based on his vision and leadership, the company grew from distributing popular generic drugs for the Russian market to developing new medications that management hoped would compete in global markets. The company is a success story in the eld of academic and scientic entrepreneurship, and demonstrates how scientic research can be moved from the ivory tower and applied to the commercialization of products in the competitive marketplace. Creating and growing the business was achieved despite a myriad of obstacles stemming from the legacy of the Soviet system and the chaotic environment of transition toward a market economy. These included diculties in obtaining funding, implementing market-oriented business systems, hiring managers and motivating scientists to shift from a purely academic mindset to one of creating marketable products that would generate prots. On the positive side, the breakup of the Soviet Union and privatization of the economy provided a valuable opportunity to acquire a leading state-owned biological research institute at a very modest price. Staed by a pool of talented scientists, the institute was an established resource base that had the potential to be transformed into a private company commercializing new drug discoveries. The following analysis of Biocads creation and development draws upon interviews conducted by the authors with the founder and key employees, as well as published material by industry experts and journalists.

Innovation in the Russian biotechnology industry

BACKGROUND ON RUSSIAN BUSINESS CONDITIONS


Russia, with a population of 114 million and a geographical area of 17 million square miles, is the largest country in the Commonwealth of Independent States (CIS).1 Its 2004 GDP was $582.3 billion, with GDP per capita amounting to $9721. The private sector constituted 65 per cent of the economy, ination in 2005 was estimated to be 12.8 per cent, and unemployment was reported as 9 per cent (World Bank 2006). In 2006, the ruble was made a convertible currency and in early 2007 was valued at $0.037. According to World Bank Doing Business Indicators 2006 (Russian SME Resource Centre 2004), the cost of starting a business was 3.4 per cent of per capita gross national income compared to 5.3 per cent in OECD countries, the cost of dealing with licences was 275.3 per cent of income per capita (OECD 72 per cent), hiring costs were 31 per cent of salary (OECD 21.4 per cent), and ring costs were 17.3 weeks of wages (OECD 31.3). Costs to register property were 0.3 per cent of property value (OECD 4.3 per cent), the total tax rate on prot was 54.2 per cent (OECD 47.8 per cent), costs to enforce contracts were 13.5 per cent of debt (OECD 11.2 per cent), and costs associated with closing a business were 9 per cent of the estate (OECD 7.1 per cent). No public credit registry existed. Many such business conditions stem from burdensome bureaucratic red tape, an underdeveloped legal infrastructure, and corruption that increase cost, time and frustration involved in starting and operating businesses (Puer and McCarthy 2007). Small businesses (under 100 employees) employ only 20 per cent of Russias economically active population, in contrast to 80 per cent in Japan, and over 50 per cent for European small businesses (under 50 employees). However, in Russia, medium-sized rms (with up to 250 employees) in 2003 constituted 94 per cent of all enterprises, employed 49 per cent of the economically active population, and had a 47 per cent market share of total sales revenue (Russian SME Resource Centre 2004). Thus, small and medium-sized businesses are of crucial importance to the Russian economy.

THE GLOBAL BIOTECHNOLOGY INDUSTRY2


In 200304 the worldwide biotech market was estimated at $200 billion with an annual growth rate of approximately 79 per cent. The total amount of investments in 2004 was around $20 billion (Abercade 2004). The biotech industry consisted of seven segments: biotech pharmaceutical products (medical biotechnologies); biotech products for application in

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agriculture; enzymes and enzyme products; yeast and live micro-organism cultures production; biotech products for the extracting industries; the hydrolytic industry; and biotech products for environmental protection. In the mid-2000s, the world market leaders included Amgen, Genentech, Serono, Biogen, Idec, Chiron, Genzyme, MedImmune, Pzer, Millenium Pharmaceuticals and Applied Biosystems. Biotech medicines sales continue to outgrow the overall medicines market. In 1999 biopharmaceuticals accounted for less than 6 per cent of total prescription sales while in 2002 their share was almost 8 per cent. This share was expected to grow to about 14 per cent in 2009. According to projections, by 2013 the volume of prescription drug sales will increase 2.2 times and sales of biotech products, as a part of that group, will increase up to 5.8 times. Three main types of technologies are used in the production of biotech products for the pharmaceutical and healthcare industries: brewing (fermentation), recombinant DNA technology (genetic engineering) and cell cultures. Enzyme engineering technology is also used in biotech production but not in the production of medicines. The biotech market depends heavily on R&D investment. As private investment in new drug development is often seen as risky, government support for this kind of research is very important. According to United States National Science Foundation data (2006), in 2004 the medical sciences share of all government-sponsored academic research was around 2 per cent in Russia while in Germany, Japan, Sweden and the US it was in the 2529 per cent range. Additionally, in Russia, the share of pharmaceutical research of total industrial R&D was less than 1 per cent, while it was around 8 per cent in the US and Japan, 1215 per cent in France and Sweden, and 25 per cent in the UK.

THE BIOTECH MARKET IN RUSSIA3


The total value of biotech products consumed in Russia in 2003 was around 45 billion rubles (less than $0.5 billion), a mere 0.75 per cent of the world market (Sbiotech 2004). Domestic production accounted for roughly 2530 per cent of the market (a little over 12 billion rubles or $100 million), with the rest coming from imports. However, the size of the Russian biotech market was estimated to be 90100 billion rubles for that year, with market demand being met at 4045 per cent and domestic producers accounting for 1213 per cent. In the biopharmaceuticals market specically, demand was met at 51.3 per cent. In 2004, the size of the Russian biotech market was valued at approximately $885.1 million. Pharmaceutical products had the highest share at around 6070 per cent. Imports of biopharmaceuticals amounted to about

Innovation in the Russian biotechnology industry

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$495 million, and domestic production was around $67 million, making the total size of the biopharmaceutical segment $562 million. The second largest segment, agricultural products, amounted to 21 per cent of the overall biotech market. The variety of pharmaceutical products in Russia manufactured using biotechnologies is signicantly narrower than the global market and consists of the following product groups: antibiotics, vitamins, enzymes, immunobiological products, biotech blood products and genetically engineered drugs. The biggest market by value consisted of imports of insulins (28 per cent) and hormones (27 per cent), followed by imported vaccines (13 per cent) and blood serums (11 per cent). In the 1950s, a well-developed antibiotics industry was created in thenSoviet Russia. In 1990 production amounted to 3000 tons per year, and was based on locally found strains. Such large-scale manufacturing was possible because products were sold not only in the domestic market but also in countries of the former communist bloc, including Eastern Europe. However, in the 1990s, with the collapse of the USSR, antibiotics production began to decline sharply, coming to a virtual halt as a result of cuts in government subsidies to enterprises, and high ination which left customers without the money to pay for drugs. In the case of injected products, production fell by more than half. In 2002, imports of substances and enduse antibiotic medicines amounted to $23 million (450 tons) and $70 million (55 tons) respectively. The total 2004 volume of immunobiological production was around 5 billion rubles and the sector included about 40 manufacturers producing more than 500 items. The demand for immunobiological products in Russia was met 8090 per cent by domestic producers (Abercade 2004). Total sales of Russian genetically engineered products amounted to $3 million in 2000 or about 0.02 per cent of the world market for genetically engineered medicines. In 2003, genetically engineered products accounted for 10 per cent of the world pharmaceutical market and were forecast to grow to 25 per cent by 2010. Production of genetically engineered insulin began in Russia in 2004. Biologically active substances, additives and other products of plant origin are also referred to as a part of the bioindustry. In 2004 more than 2500 biologically active products were made in Russia by more than 600 manufacturers. Market size was around $125 million, with domestic products accounting for 70 per cent of the market in volume and around 25 per cent in value (DSM Group 2004). Diagnostic in vitro products are the most dynamic biotech segment with an annual growth of over 10 per cent and market size of about $100 million. Around 40 small and midsize companies are engaged in manufacturing these products and their combined market share is around 30 per cent, with

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imports accounting for the remaining 70 per cent. Biologic microchips are considered a high-potential area and several institutes are conducting research in that eld.

BIOTECHNOLOGY AS A BUSINESS
By the early 2000s, biotechnology was experiencing growth, with the microbiology industrys growth rate reaching 68.7 per cent. This was the result of active investment by a few private investors and also by the government which, in 2002, allocated 90 million rubles to enterprises in that industry. However, the market still had not generated a great deal of optimism because there were no real means to attract investment into microbiology from private companies, commercial banks or industrial groups. After the breakup of the USSR in 1991, around 60 per cent of Soviet enterprises in the microbiology industry were within Russia, the remainder being located in newly-independent republics. Having lost their state subsidies, the majority experienced severe economic diculties, and some switched to completely unrelated production in order to survive. Investing in the biotechnology industry was seen as unattractive because of heavy R&D requirements and complexity, and because it could take three to seven years to recover project expenditures. Although potential Russian investors assessed the market, few made any investments, and what little investment was made went into modernizing existing manufacturing facilities. The formula science generates innovations while government and business nance them, although well established in the Western world, was not yet a reality in Russia. In other words, there was no consensus about how the biotechnology market should be commercialized. In contrast to the leading global pharmaceutical companies, which spend millions of dollars on R&D every year, 90 per cent of Russian producers spent virtually nothing. Instead, they simply produced generic versions of foreign products. The progressive 10 per cent of companies focused their R&D specialists from time to time on specic research. But in general, medical research and production existed in two separate worlds. Only foreign companies realized the potential of Russian R&D innovations, and they bought ideas and know-how cheaply and were known to make millions of dollars commercializing them. For example, the Russian market capacity for immunological products in the mid-2000s was almost $1 billion. About 80 per cent of the medicines in this particular group were imported and used in the prevention and treatment of chronic and severe viral diseases. Biocad expected to produce these medications 30 per cent more cheaply than imported analogues.

Innovation in the Russian biotechnology industry

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BIOCAD: FROM DISTRIBUTION TO PRODUCTION TO RESEARCH AND DEVELOPMENT


Biocad is a leading Russian biotech company that develops, produces and distributes generic pharmaceuticals and new medicines. Biocads mission, as described on its website, is to prolong human life and improve its quality by developing eective and aordable biopharmaceuticals through the use of the latest technology and in collaboration with scientists and medical doctors. The company identied a number of principles and values as being important in accomplishing its mission: quality, leadership, innovativeness, eectiveness and results, teamwork, care for the customer, and respect toward people. Biocad started in 1999 as a distributor of generic versions of popular medications. To have the capability to develop new biotechnology products, in December 2001 the company acquired a former-Soviet immunological research institute staed by experienced scientists. And in April 2003 Biocad opened a new, world-class manufacturing facility to produce biopharmaceuticals. These three components positioned Biocad to become an innovator in developing, producing, distributing and commercializing biotechnology products. According to Biocads CEO, Dmitrii Morozov, in 2005 sales were more than 320 million rubles ($10.5 million), and the company became protable, with a small net prot of 100,000 rubles (under $5000) (Nihon Keizai Shimbun 2006). A Biotech Founded by a Banker Biocad grew from an investment project of Tsentrocredit Bank initiated in September 1999. The medicines market growth rate inspired the banks interest in the pharmaceutical industry. Dmitrii Morozov, vice president of the bank at the time, initiated an investment fund to create the biotechnology company which would be the rst brand-new enterprise producing genetically engineered products in Russia since the breakup of the Soviet Union in 1991. Dmitrii Morozov was born in 1965 and was exposed to science at an early age, his father being a physicist who emigrated to the US in the 1980s and worked in Californias Silicon Valley. Dmitrii lived for a time in the US but returned to Russia for his education. Rather than pursuing science, Morozov chose a business education instead, graduating from the Plekhanov Academy of Economics in Moscow with a major in nance and credit, followed by an MBA in management in 1998 from the Moscow business school, Mirbis. In the mid-1990s he worked with an aluminium company, assisting its management in gaining control of several metals factories at a time when business dealings were rife with danger and crime. He found himself involved

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in conicts, noting in a 2002 Wall Street Journal interview: When I was young I traveled around ring directors and convincing miners not to strike this was the reality of Russia at the time (Whalen 2002). At the time, private banking was an emerging sector in Russia and this attracted Morozov. He worked in commercial banks, eventually becoming vice president of the board of directors of AKB Tsentrocredit, which in 2003 was ranked ftysecond among Russian banks based on owners equity. Morozovs interest in starting a biotechnology company arose unexpectedly from his earlier participation in an extensive Yeltsin-era government programme of market-oriented practical training for young Russian managers. In 1998 he completed a programme in corporate strategic development, marketing and human resources management at Moscow State University School of Business Administration. Through an exchange programme with Keiyo University Business School he spent two weeks in Japan, where he visited technology companies and attended lectures on venture capital. He returned to Russia convinced that communication technology, entertainment and biotechnology were the most attractive industries from an investors point of view. While the rst two sectors were highly competitive and capitalintensive, Morozov realized that the Soviet government had made large investments in scientic research in biotechnology, to the extent that, up to the mid-1990s, the country was on par with the West. In the summer of 2003, after attending a biotechnology conference in the US, Morozov came to believe that Russian companies still had competitive potential, and that proper strategic positioning would be the key factor for their success. His business experience led Morozov to view administrative barriers merely as potential excuses for not being proactive. In his opinion, bureaucratic barriers, lack of money, and high taxes were used as excuses by impatient people lacking perseverance. Most of those who start their own business expect quick results. They are not ready to have four to ve years of routine and systematic work focused on growing the business. They simply cannot maintain their entrepreneurial passion.

DEVELOPING A BIOTECH BUSINESS


Distribution Company The distribution company was the starting point of Biocads business. The rst task was to develop a product line that would generate revenue as quickly as possible. Biocad started with bidumbacterin, one of the simplest biotechnology products produced by many companies. The product had typically been sold in glass vials with metal caps that had to be opened

Innovation in the Russian biotechnology industry

15

with a knife, but Biocad innovated from the start by delivering the product in a more appealing form as a powder in attractive packets. According to Morozov, the most important factor was to position the product properly. He explained: We do not satisfy peoples need for bidumbacterin. We satisfy the need for a comfortable life. If you are grumbling about life or you have problems with your bowels, this powder will help you. The distribution company sold bidumbacterin produced by Biocad. To dierentiate the product in the marketplace, the company oered it in three dierent forms and was developing two more with vitamins and in various avours, such as lemon, banana and strawberry. Morozov even came up with an advertisement featuring a railroad car lled with boxes of bioyogurts that were then replaced by a package with benecial strains. Another product they considered developing was candles based on dierent medicines. The company also worked on the development of medicines using recombinant albumens. The distribution company was Biocads subsidiary and had its own budget. Morozov explained: Managers of the distribution company fully understand that if money earned by them is invested in research it will earn money for all of us. Acquiring an R&D Institute Initially Morozov planned a relatively small laboratory. However, he had worked at NRI, which was later merged into RAO Biopreparat, the largest Soviet-era plant to manufacture immunobiological products, and in May 2000, in conversation with a manager at Biopreparat he learned that its research institute, which had been earning money mainly by renting its facilities, was going bankrupt because it no longer received state subsidies and had accumulated debts to gas and electricity providers and other creditors. When I started doing research on the current state of biotechnology in Russia, Morozov said,
I realized that not all of the scientists were gone and that we had research accomplishments at the world level. It is an exaggeration to say that there are many, but still there are some. Russia had invested more than a billion dollars in biotechnology. It was an opportunity for me to enter the market, and I realized it would be dicult to start from scratch. At the same time, it would not be easy to get high-quality results quickly. The research projects were incomplete, and few products had gone through pre-clinical and clinical testing or had technical documentation for mass production. If we did not bring these ideas to the market, they would just keep gathering dust on the shelves.

The former Soviet biotech research institute, RAO Biopreparat, had been engaged primarily in research on biological warfare, including developing

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medicines and vaccines to protect the military from the eects of biological warfare, but researchers had also worked on developing treatments for tropical diseases, common stomach problems and the like. Denis Lvovich Aleksandrov, who had a PhD in medicine and worked there at the time, recalled:
Compared with other similar institutes, our institute was declining. The problem was that due to his personal ambitions, the director was unable to see what was going on around us. For me there is no point in scientic research without practical implementation. When I met Dmitrii Valentinovich [Morozov] I persuaded him to buy part of the institute and establish an R&D centre for Biocad. I believed in the centre then and I still do.

Morozov recognized that the institutes nancial crisis presented him with a valuable opportunity to buy an established R&D operation at a very modest price: I needed a strong R&D division in order to establish a chain beginning with developing medicines and ending with marketing them, he recalled. I had been let down a couple of times before, and I came to the conclusion that I needed to organize such a division myself. Morozov reached an agreement with creditors and managers of the institute that the R&D division and its 3000 square-metre facility would be designated as the Centre for Immunological Engineering. In December 2001 the deal was completed, and with substantial nancial help from Morozovs investor friends, Biocad acquired a scientic research centre that comprised the entire operations of the institute, including laboratories and equipment, where biotechnological research had been conducted for more than 20 years. Morozov admitted:
Of course, it was a risky step to acquire our own R&D centre when the company was still not making money. I was very lucky to get the centre. A small laboratory would have been a dead end, since the added cost in our production is the knowledge of the people there. If I had tried to create such a centre from scratch, it would have dragged the process out for ve more years buying equipment, recruiting employees, getting them to work together, and so on. We [the investors] acquired the centre only after we had done a SWOT analysis. Nobody regrets our decision even though there have been a lot of problems. The centre changed our status. In the end we completed the chain that we wanted to.

Centre for Immunological Engineering The Centre for Immunological Engineering engaged in all stages of drug development, from genetic engineering to clinical trials, focusing on treatments for cancer, neurological disorders, urological conditions and infectious diseases. In 2006 it had seven products in the pipeline and one,

Innovation in the Russian biotechnology industry

17

Genferon, already on the market. Launched on the Russian market in 2005, Genferon, with recombinant interferon-a2b, was a suppository with antiviral, immunomodulatory and anaesthetic properties for treating urogenital infections. Also that year, Phase II drug trials were successfully completed for Leucostim, the rst domestic recombinant granulocyte colony stimulating factor, which the centre developed as a generic cancer treatment that was expected to be much less expensive than other treatments. Plans were to launch the product in late 2006 pending government approval. In 2002, the centre added a branch in Novosibirsk to attract scientists from Siberia. In 2004, it received a $1.76 million grant from the US State Department to develop a new IFN-beta preparation. By 2006 the centre employed 48 scientists, 14 of whom had PhDs. The sales team consisted of more than 40 full-time medical representatives, all with MD degrees, who covered 30 regions in Russia including all major cities. Additionally, Biocad counted ve of the largest Russian distributors as its clients. Morozov also sought collaboration with other institutes in cases where Biocad lacked the necessary resources:
In the centre I planned an organizational system that allowed any idea that t our prole to be transformed into a nished product. If the experts at the centre believe we do not have the necessary resources to carry out our research to production, we will search for and invite other institutes to the project. We are already working in cooperation with the epidemiology and microbiology departments of the Russian Gabrichevskii Research Institute.

A World-class Manufacturing Plant In April 2003 Biocad opened its $6 million world-class biopharmaceutical manufacturing facility, which was compliant with Russian medical standards (GMP) and harmonized with European Union quality standards and regulations. Located in the Krasnodorsky district in the Moscow region, the plant had the capacity to manufacture 70 million suppositories a year, with expansion in 2006 adding capacity for producing 10 million vials annually.

COMPETING THROUGH QUALITY AND PRICE


Morozov was condent that through R&D innovations Biocad would capture a 40 per cent share of the Russian immunity products market. Biocads plans required considerable investments in their own R&D centre in order to switch from being simply a packaging company to one with a complete production cycle. According to company estimates, the R&D

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centre would need to attract $15 million in investments and would have an eight-year payback. Representatives of some foreign pharmaceutical companies did not take the attempts of medium-sized Russian companies to enter the biotech market seriously. Oleg Petrov, a product manager at F. Homan-La Roche, commented: It is a pity that Russian companies usually lack enough money to perform all the necessary research and testing. He believed that it would cost $1 to $2 billion in R&D to create a genetically engineered product like interferon from scratch; such costs are typically a reason why the largest international companies merged. Yet Morozov thought that the foreigners were mistaken: We have Russian products in this eld that are almost nished and are sucient for the next 10 years. We intend to compete with foreign companies oering cheaper products at a quality level consistent with international standards. According to Nikolai Demidov, a marketing specialist in the company PharmExpert, this was something that no private investor had ever tried to do in the pharmaceutical market: This is an interesting project. The Biocad R&D Centre answers the question that has long been the focus of attention of a lot of people whether anybody in our country needs such R&D products. According to Demidovs estimates, the Russian market for genetically engineered antiviral products was $80 million per year, and that market was almost completely served by foreign companies. Biocads management was committed to operating according to international quality standards. One indication of that commitment was that Biocad was one of 17 members of TEMPO, founded in 2004 with funding and intellectual support of the BioIndustry Initiative Program of the US Department of State. The goal of the TEMPO programme was to train Russian biotech scientists in good laboratory practices to meet international quality standards in drug production and protection of human subjects.

INNOVATIVE HUMAN RESOURCE POLICIES


Morozov set himself the task of creating and implementing a set of innovative human resource policies that would bring out the best talents and work ethic of all employees and motivate them to work eectively in the competitive marketplace. He created a set of principles valuing employees talents and eorts that underlie Biocads human resource policies. As described below, Morozov used his management knowledge and expertise to create innovative human resource policies in the areas of recruitment, training and professional development, motivation and reward systems, delegating decision-making and fostering accountability, and changing scientists mindsets to get them to focus on commercializing their ideas

Innovation in the Russian biotechnology industry

19

and creating new products that would be competitive and in demand. Additionally, he introduced a crucial management tool a research planning system to track the stage of development of every new product. Attracting Managers and Scientists Having acquired the R&D institute, Morozov sought to retain the most talented managers and scientists for his new venture. My credibility was very low at the time I acquired the institute, he admitted. The institute was in bankruptcy and along came a businessman who told the researchers that from then on they would be conducting R&D for him. Morozov rst addressed everyone, asking them to think about transferring to the centre. In the beginning all agreed, but later many of them declined the oer. The division managers were the rst to decline, saying they did not believe that the company would be successful. Morozov recalled: I told them that we were going to manage it and we would make decisions together. Those who were not used to working hard rejected this appeal. Others who had a passion for work joined me, including Olga Petrovna Tumanskaia, director of the laboratory, who was followed by others. So the process was under way. Recruiting Senior Management Morozov needed a person who could eectively manage the Centre for Immunological Engineering. Following the recommendation of a professor from the Pirogov Medical Institute (now the Russian State Medical University) in Moscow, he approached an alumnus, Matvei Iurev, about the position. Recognizing that Iurev was knowledgeable about the research area and had the potential to be a manager, in November 2001 he invited him to head the centre as director of scientic research. Iurev was 37 years old at the time, had defended his doctoral thesis, and had already worked in the RAMN Cardio Centre and at Lanit, a leading Russian IT company. Iurev explained: Initially, I did not want to be a director. Administrative responsibilities were not part of my initial plans. But as a project manager at Lanit, I gained some experience in managing research teams, and I was also familiar with the foundations of business and management. In a series of meetings with Morozov, Iurev came to believe that they would make a good team: We were a good tandem. It was impossible for me to reject the oer to become director of the centre once I understood that it was necessary to change management practices to solve the problems of the new centre. Morozov had also considered others from Biopreparat to head the centre. Denis Lvovich Alexandrov had been working there since 1986 and rejected the directors position on account of his age. Similarly, Olga Tumanskaia

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was not interested, remarking: The director has to be a tough person and I am not that way. It is necessary to be tough to organize a working team, otherwise you will have to do the work of your subordinates. Creating a New Structure Iurev was responsible for reorganizing the research centre and Morozov credited him with some success in creating a new structure. But for other tasks, especially those regarding new product introductions to the market and implementation of a research planning system, deadlines were frequently extended. Iurev explained:
A lot of administrative tasks were assigned to me: equipment, supplies management, repairs, and so on. For example, it was dicult to explain to an R&D institute employee that the equipment he was working on was to be transferred to the centre when it was unclear whether he would work there himself. It was very dicult to negotiate with the R&D institute managers as we were constantly trying to take something from them. Conducting research was hard with so many administrative problems in the way.

Morozov was aware of the situation: I tried to exert control over him. We got together regularly and discussed the problems. I did not require him to prepare written reports. But from then on I initiated written records of the work. Iurev mentioned that as far as relationships with the division managers were concerned, he and Morozov recruited sta from the R&D institute:
Researchers there lived primarily on American grants. They created their own centres, nanced them, and gathered specialists. We attempted to negotiate their transfer to us. They had to make a decision either to continue relying on grants and writing only reports rather than scientic publications, or to transfer to Biocad where they would have to produce an actual product within a certain time frame. Alexandrov came to us on his own while we had to persuade others who were interested in the salary and opportunities in the centre.

Once sta had been recruited, Iurev needed to create a team and a structure to produce the planned products, starting with interferon. He worked on the project with Morozov and Andreev, Biocads marketing manager, who was also an alumnus of the Pirogov Medical Institute and who had introduced him to Morozov through a professor there. Iurev explained the diculties he had encountered:
I think I was able to establish the team and the structure of the centre and it was accepted. I did not recognize any age problems. If you start paying attention to

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age and titles, you will fail. But I was unable to get the team to fully take part in every process in which Biocad was engaged. I failed to establish eective relationships between Biocad and the plant. I tried to set the foundations for teamwork. Besides giving directions, I asked for suggestions about planning the work. I am not a specialist in every area of biotechnology. If I knew everything, then why would I need others? I wanted to formalize research and I implemented work plans and organized regular meetings. There was some resistance in the beginning. They regarded the control over their work time with fear. The communication got easier when they basically understood the work. By asking them how much time they needed to perform this or that process or experiment I knew the right answer. I established my relations with them depending on the situation. Work plans were not new to them since everyone had worked under them in Soviet times. Still, in this case they had been in shock for some time and I was afraid to stir things up. I succeeded in making an annual plan, but failed in formalizing reports.

In establishing relationships with colleagues, Iurev tried to impose his administrative authority. According to Morozov:
What he wanted was impossible, and they defeated him. He could only have persuaded them to adopt his faith in the projects. They value only authorities in their eld of science and it was not easy for him. He had to travel both to the plant and to the centre. He may have had family problems as well. But he did not complain. He had the unique opportunity to lead an R&D centre at the age of 37. Was it even possible to dream about it in the past? He had the opportunity to communicate with professors and leading scientists. Watching over his work, I let him know several times that, although I did not tell him this or that explicitly, I saw what was going on. I only had to walk around the centre and talk with the people there to know what was going on. I asked him to remember that.

Iurev came to realize that with so much resistance to his management style he had to resign. Morozov elaborated: The decision to replace him formed earlier. The other shareholders wanted him to be red much earlier, but I kept postponing that moment. Iurev recounted the reasons behind his forced resignation:
My appointment as director of the centre was a rather horizontal move for me. It was an administrative position, which I didnt like, and I wanted to do something dierent. The organizational period was too drawn out and I didnt feel my professional skills were being used. Also, I did not want to become an owner since I understood that it wouldnt provide a return in the short run. And another consideration was the long distance of the centre from my home. So I gradually leaned toward resigning.

In May 2003 Iurev came to the centre for the last time, for a meeting of the research board, of which he was a member, and asked questions but gave no further input.

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After Iurevs resignation, for a time Morozov managed the research centre himself. He had become comfortable using scientic terminology, but he above all viewed the operation as a businessman: I am not interested in biology; I am interested in management. I tell my researchers: Your ideas are worth nothing until they are transformed into a system, into a business. At the same time he recognized that he could not head the centre indenitely: We must again nd and attract a young person and prepare him to become director of the centre. Motivation and Reward System Morozov considered himself lucky to have found a multidisciplinary group of scientists genetic engineers, microbiologists and biochemists who shared a common understanding and worked well as a team. To make them eective in the new commercial conditions, he needed to introduce marketoriented management practices and a new motivation system and to set clear goals and tasks. He noted that the scientists wanted to be treated as business partners:
They want to know the companys position in the market and what its business is. They do not want just to be assigned tasks, but to see what products are most attractive commercially. By creating and marketing those products we will get nancial resources that will allow us to sustain development. Once scientists understand the systematic approach and their own part in the process they readily do their work and do not need to be pushed.

Morozov was pleased that he had managed to create a team of researchers who were interested in the nal result, which he considered to be the most important motivating factor. He also applied the latest management methods to science, revived the Soviet system of additional payments for scientic degrees (the average monthly salary in the centre was $300), and planned to introduce additional payments for knowing a foreign language. As an additional motivator, several Biocad scientists were sent to international conferences for professional development, with the added benet, Morozov recognized, of building the companys reputation. Biocads managers believed that the most eective way to motivate scientists was with intrinsic motivation, once their basic needs were met. Morozov was convinced that if they trusted the managers, if they were condent in the stability of their professional development and felt that the company needed them because of the success of their products, they would be much more committed to the company than if they received only material rewards. Denis Lvovic Alexandrov, vice-president of research, had just such an experience when he was delivering interferon to a clinic. He was

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23

impressed by how eager the doctors were to get the medicine: You should have seen their eyes. They were eager to get it and I felt I was helpful delivering it to them. Morozov continued:
It is very important for the scientists to see the results of their work in pharmacies and hospitals. The distribution of the results of their work is equally important. In Soviet Union times scientists were constantly exploited in terms of their ownership rights and their rewards. It is better for me to share my prot with them than to deceive them. The patent for the new product is assigned to Biocad, but the proprietary rights are assigned to the inventors. We have clearly set a schedule for the accounts of these rights. The licensing fees that we would have been obliged to pay if we had been using foreign patents are now being paid to our scientists. They will easily calculate their income after we give them our sales gures. We are readily disclosing this information to them.

Morozov noted that not everyone was able to adapt to the new market conditions and the work regime it required: In the beginning a lot of them went through hard times of adaptation and some left. With persistent explanations the researchers started realizing that the market was dictating the direction of their work. Under the current conditions the other way is impossible for the survival of any R&D organization. He admitted, for instance, that he had failed to tap the potential of an employee from the economic planning division: He was a smart economist but he was doing only what I had assigned him to do. If he did not get an assignment in the morning, he would sit and do nothing the whole day, and at exactly 6 p.m. he would leave. In order to get more eective work from him I had to spend too much time. With this type of employee you have to constantly prod him or give him well-dened tasks. This is an example of the Soviet legacy in which the meagre reward system and monopolistic economic system fostered a weak work ethic in many people. Morozov saw recruiting new talent as a priority: At the moment my most important task is to attract promising young people to rejuvenate the sta. We have already started searching for capable graduates from the Biotechnological Institute. We have to convince them to come and work with us rather than go abroad, and we have already been successful in persuading some graduates who had such plans to stay here. We provided them with good salaries, board, and wonderful laboratory equipment, as well as opportunities to go abroad and communicate with their foreign colleagues. Delegating Decisions and Fostering Accountability In his quest to create an innovative and market-oriented company culture, Morozov introduced market-oriented management methods that he had learned in Russian and Japanese business schools, including delegating

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decision-making to scientists and other sta members and holding them accountable for their actions. This was a radical change from the Soviet-era practices that most of the sta members were accustomed to and in which the enterprise director made most decisions and was the person held accountable for them. Morozov believed that the key to managing scientists was to obtain their agreement on goals set out in a series of interdependent steps and leave the process to them. Whenever possible he delegated decision-making and encouraged sta members to be accountable for their actions, including nding ways of resolving their own conicts. In one particularly tense situation, a conict over work standards ared up between a group of scientists from Novosibirsk and those in the Moscow region facility, with the rst group accusing the other of not doing enough indepth study and the Moscovites arguing that their colleagues were too slow. Emotions ran high and they appealed to Morozov for a resolution. Rather than taking disciplinary measures, he handed them a popular management textbook by Moscow State University professors Vikhanskii and Naumov and urged them to read the section on conict resolution. They determined that they were experiencing intergroup conict and that they should resolve it through collaboration. They came to an agreement that such conictual emotions would not be tolerated in the research process. Biocads deputy director of R&D, Lev Denisov, in a 2003 Vedomosti interview, credited Morozov with achieving the successful resolution of the conict by not taking sides, recalling that he said to the scientists: You are adults, and I am not going to accuse you or praise you. Take this book and read it (Chernov 2003). Changing Scientists Mindsets to Commercialize New Products A major challenge for Morozov was to introduce innovation to the scientic environment and accustom scientists to business methods and strategic planning in order to commercialize new products. He commented in a 2003 interview in Expert magazine: In practice, it was very hard to train scientists to strive not only for a scientic result but also for a nished medication, and to work with a deadline (Kostina 2003). This required a new mindset for the Russian scientists whose tradition was that of drilling deeper into their subject, perhaps even to digress to other areas of interest. A senior scientic ocer in the genetic engineering laboratory, Boris Radko, commented in the same Expert article: It is clear that you are fussing with gene structures not only to satisfy your scientic ambitions, but to create a treatment that hundreds of thousands of seriously ill people have been waiting for. Eventually, through Morozovs leadership and vision, the scientists came to realize that the companys results depended on the linked chain of science, production and distribution.

Innovation in the Russian biotechnology industry

25

MOROZOVS VISION FOR THE FUTURE


Morozov believed that growth would be based on a new group of medicines that he hoped would compete in the global marketplace. While still at the level of basic research, pharmaceuticals were being developed based on cytokines, which when malfunctioning in the body, can lead to asthma, allergies, rheumatoid arthiritis, Alzheimers disease, and Parkinsons disease. While Biocad might be able to be the rst to develop these products, Morozov foresaw that a lack of resources might create problems with getting them to market: But even if this occurs, I would prefer to wait a while and let Western competitors go ahead and [they] could prepare the market. We wont be able to scratch up the marketing funds. Nonetheless, he believed that Russian pharmaceuticals might eventually become competitive on international markets on the grounds of high quality and low cost, in contrast to the high quality and high cost of US pharmaceuticals, and Asian and South American products which were low cost but also lower quality. He also had plans to expand to other countries in the Commonwealth of Independent States. With unagging optimism, in a late 2003 interview with Expert, Morozov set out his vision for the future: Im convinced that in about 10 to 15 years, when we have worked out our business methods and will make enough money to carry out R&D and marketing activity, well not only produce our own medicines to ght incurable diseases but will also create the market for them. Then, well be in a position to compete with the global giants. A few years after Morozov made that prediction, some positive developments occurred. In 2006, the Russian government announced an allocation of $5.25 billion to a programme to promote biotech from 2006 to 2010. This included a publicprivate venture capital fund to invest in the industry, although the amount targeted, $70 to $140 million, was seen as modest by some analysts. And foreign investors, including venture capitalists, showed increasing interest in Russian biotech. With its early start in commercializing medicines, its talented scientists, integrated management systems and visionary leader, Biocad appeared poised for growth in an industry that was showing signs of promising opportunities ahead.

CONCLUSION
Dmitrii Morozov, an energetic and entrepreneurial young banker, took a leap into a complex, scientic industry in which he had no prior background. What might have appeared as foolhardy and naive actually involved taking a well-calculated risk. Morozov researched the attractiveness of the Russian

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biotech market and consulted with knowledgeable scientists and industry analysts. Seeing business opportunities in the chaos of the post-Soviet era, he bought an established but languishing state scientic research institution at a very attractive price, and hired talented scientists who had been unemployed or under-employed. He utilized his valuable networks in banking and industry to help nance his venture, including construction of a state-of-the art manufacturing plant. Additionally, his previous business experience enabled him to deal successfully with government ocials and navigate through bureaucratic mazes. Morozov also applied his knowledge of marketoriented management methods to create eective management systems as well as to attract, motivate and reward employees. Through his charisma, creativity and entrepreneurial talent, Dmitrii Morozov created a company that showed promising potential for growth. By 2006, while retaining his position as chairman of the board, he had put a top management team in place that freed him from involvement in daily operations. He then turned his attention to teaching entrepreneurship at Moscow State University and looking for other entrepreneurial opportunities, both activities being potential ways of furthering new business creation on his part and on the part of others. In conclusion, this case illustrates the myriad of obstacles facing entrepreneurs in Russias transition market economy as well as the opportunities that can be seized by those who have the knowledge, business acumen, nancial resources and political and professional connections, as well as the determination and motivation required to realize their objectives in such a challenging environment.

NOTES
The authors gratefully acknowledge the assistance of Northeastern University MBA students, Denitsa Bekova and Dimcho Dimitrov, in preparing this case. 1. The Commonwealth of Independent States, created in December 1991, consists of Azerbaijan, Armenia, Belarus, Georgia, Kazakhstan, Kyrgyzstan, Moldova, Russia, Tajikistan, Turkmenistan, Uzbekistan and Ukraine. 2. Material used in this section, unless otherwise noted, is based on information obtained from Academy of Sciences (2002). 3. Material used in this section, unless otherwise noted, is based on information obtained from Academy of Sciences (2002).

REFERENCES
Abercade (2004), Biotechnology: 2004 market overview (: 2004 ), http://www.abercade.ru/analytics/bioReview-2004, accessed 20 September 2006.

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Academy of Sciences (2002), Biotechnology and pharmacy: major developments, Economic Review of Pharmacy, 5 (51), May ( , : ), Moscow: Academy of Sciences. Biocad company website (2006), http://www.biocad.ru, accessed 10 February 2007. Career Forum (2003), 21st century business in a struggle for knowledge, 19 May (Career Forum, XXI ). Chernov, A. (2003), Hiring a scientist is easy; nding a common language is hard (Naniat uchenogo prosto; Slozhno naiti s nim obshchii iazyk), Vedomosti, 23 October. Commersant (2001), Siberian plague packed in a capsule, 26 November (, 26 2001 . / ). Commersant (2002), Interview with Dmitrii Morozov, 24 May (, ). DSM Group (2004), The Russian Pharmaceutical Market ( . 2004 ). IMS Health (2004), IMS global insights biogenerics: a difcult birth?, http://www.imshealth.com/web/content/0,3148,64576068_63872702_70515404_ 71026746,00.html, accessed 20 September 2006. Kostina, G. (2003), Biopharmaceuticals: Morozov versus Alzheimer, Expert, 21 November. Louet, S. (2005), Dmitry Morosov, Nature Biotechnology, 23 (12), 1465, http://www.nature.com/naturebiotechnology, accessed 23 September 2006. National Academy of Sciences (2005), Biological Science and Biotechnology in Russia: Controlling Diseases and Enhancing Security, Washington, DC: National Academies Press, http://www.nap.edu/catalog/11382.html., accessed 20 September 2006. Nicholson, A. and R. Kutuzov (2002), Capitalizing on Soviet expertise, The Moscow Times, 26 February. Nihon Keizai Shimbun (2006), Pay attention to this company, http://www. biocad.ru/publications, accessed 10 February 2007. Puffer, S.M. and D.J. McCarthy (2007), Can Russias state-managed, network capitalism be competitive? Institutional pull versus institutional push, Journal of World Business, 42 (1), 113. Russian SME Resource Centre (2004), Analysis of the role and place of small and medium-sized enterprises in Russia. Statistical reference, Moscow: Russian SME Resource Centre, http://www.rcsme.ru/eng/common/publ.asp, accessed 12 December 2006. Sbiotech (2004), The Russian biotechnology industry ( ), http://www.sbiotech.ru/doc/ doc0603.doc, accessed 10 September 2006. TEMPO (2006), The application of the international GXP standards in the Russian Federation: TEMPO Educational Programs, http://eng.nptemp.ru, accessed 10 September 2006. Vedomosti (2001), Yeast from Goskomstat (, ), 20 June. Vedomosti (2002), Russian pharma-company will have its own science (, 29 2002 / ), 29 January. Vedomosti (2003a), Bacteria that make a billion (, , ), 26 March.

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Vedomosti (2003b), In short: Biocad works (, : ), 10 April. Vedomosti (2003c), I experiment on my company (, 14 2003 / ), 14 July. Vremia MN (2002), So that it will not become a banana republic ( , ), 7 February. Vremia MN (2001), Bankers nance pharmacology at last ( , - ), 23 February. Whalen, J. (2002), Russian tycoon takes an unusual leap into biotechnology, Wall Street Journal, 1214 April. World Bank (2006), World Bank Doing Business Indicators 2006, http://www. doingbusiness.org, accessed 10 February 2007.

3. Struggling to survive: the case of a new technology-based enterprise in Belarus


David Smallbone, Anton Slonimski and Anna Pobol
INTRODUCTION
This chapter is concerned with the development of a technology-based business in one of the harshest operating environments for private business anywhere in the world. The fact that the business has survived in such conditions since its establishment in 1992 is an achievement in itself, although its development path reects specicities of the Belarusian context, which include major institutional deciencies (Smallbone and Welter 2006). At the same time, some of the development issues and challenges that the rm has faced are shared with young technology-based rms in mature market economies. Sinta is a successful enterprise in the Belarusian context, where private rms are few and far between and survival itself can be a major challenge. Apart from surviving for 14 years, the enterprise is solvent and has not been subsidized by government loans or grants; nor is it currently indebted to its employees (through unpaid wages), which is a common feature of small business development in transition conditions. It is a privately owned innovation-based enterprise, albeit one that has yet to achieve sustained commercial success.

THE ENVIRONMENT FOR BUSINESS IN BELARUS


In terms of external conditions, the operating environment for business in Belarus is currently one of the most hostile in the world. Based on EBRD assessment, Belarus is one of the transition countries where only slow progress has been made with respect to the reforms required to establish a market economy. Together with Turkmenistan, Belarus is at the bottom of the EBRD league table in this regard (EBRD 2005) and has been for many years.
29

30

Innovation and Entrepreneurship

The approach to macroeconomic management in Belarus has involved keeping a majority of productive resources under state control, linked to a strong administrative system that encompasses all levels of government. Negative consequences from a business perspective have included overregulation associated with the desire of the state to exercise control over productive assets and transactions in the economy, which has in turn led to complex and expensive systems of inspection and control of enterprises. Negative consequences have also included frequent changes of the rules governing business activity (that is, laws, decrees, regulations), which increases the uncertainty faced by business managers. This particularly applies in the case of small rms, where the costs of compliance are exacerbated by the limited internal resource base, with less scope for managerial division of labour than in the case of large enterprises (Bannock and Peacock 1989). For example, on most of the indicators included in Table 3.1, from the World Banks Doing Business survey, Belarus appears to face higher non-wage costs and greater administrative burdens than the other countries that feature in this book. In this context, it is hardly surprising that the number of privately owned enterprises remains small (approximately 33 000 small enterprises by the end of 2005 employing about 456 000 people) (Ministry of Statistics and Analysis of the Republic of Belarus 2006) and their contribution to economic development limited. In the assessment of the World Bank (2003), the level of development of private businesses in Belarus lags behind all neighbouring countries. Table 3.2 indicates that only 25 per cent of GDP is generated from activity of the sector indicated as private, which is the lowest proportion of any of the countries listed. However, in practice, this refers to all non-state enterprises (which includes large and medium-sized joint-stock enterprises, where the majority of shares belong to the state), which means that the contribution of the private sector is even less than that shown. SME development is hampered by price controls, which aect the protability of rms; an inecient and distorted banking system; and limited privatization that threatens to crowd out private business development from some sectors of the economy. Inadequate and imperfectly implemented legislation aggravates the situation. Bankruptcy laws are not always enforced on state companies, which mean that some continue to operate despite being loss-making, with implications for their suppliers. This contrasts with an increasing tendency for the government to issue restrictive laws and regulations on non-state-owned businesses, which hinders the ecient development of the private sector. As in some of the other Commonwealth of Independent States (CIS), following the collapse of the former Soviet Union, the early 1990s saw the establishment in Belarus of a number of science and technology-based

Table 3.1
Georgia 10.9 71.7 20.0 4.3 0.5 0 37.8 20.5 3.3 18.0 14.5 11.5 12.0 16.2 9.0 45.0 67.4 48.8 0 0 0 0 54.2 13.5 9.0 1.8 1.9 1.5 0.3 8.7 17.3 28.8 17.3 13.0 3.4 0 60.3 16.0 42.0 22.0 24.5 29.0 31.0 38.8 35.0 510.4 165.0 275.3 186.5 7.0 9.8 13.3 3.4 9.2 14.1 258.2 31.0 30.3 10.5 0 122.3 13.5 10.0 Kazakhstan Kyrgyzstan Moldova Russia Ukraine

World Bank Doing Business Indicators, 2006


Uzbekistan Region 14.1 564.9 26.7 26.2 2.7 1.7 56.0 15.0 14.3

Belarus

26.1

17.5

39.1

21.7

31

0.1

186.1

21.1

Starting a business (% per cap income) Dealing with licences (% per cap income) Hiring workers (% salary) Firing costs (weeks of wages) Registering property (% property value) Public credit registry coverage (% adults) Total tax rate (% prot) Enforcing a contract (% debt) Closing a business (% estate)

22.0

Source:

World Bank (2006b).

Table 3.2 General statistics


Georgia 4.6 70 5.1 2914 15.1 2728 40.7 7436 5.1 200 2.2 1931 3.9 33.8 2.6 2170 144.9 17 075 582.3 9721 Kazakhstan Kyrgyzstan Moldova Russia Ukraine 47.3 604 65 6414 Uzbekistan 26 448.9 12.2 1867

Belarus

65 9.4 12 10 45 103 80 13.6 5.9 6.8 9 4.9 10 12 8 5.7 44

65

75

60

65 12.8 9 0 82

65 14.1 8.6 3 57

45 10 2 115

32

9.8 Population in millionsa Area (000 sq. km)a 207.6 GDP (in billion US$ 2004)a 22.9 GDP per cap in 2004 at 6894 current international US$ (PPP)a Private sector share in 25 GDP (%) in 2005a Ination 2005 estimation (%)a 10.6 Unemployment rate 2005 (% of total labour force)b FDI inows in 2004 0.7 (as % of GDP)a Est. level of real GDP in 2004 111 (1989 100)a

Sources:

a. EBRD (2005); b. World Bank (2006a).

A new technology-based enterprise in Belarus

33

enterprises, as the funding of state science programmes was cut and entrepreneurship was seen as one of the options for technical and scientic sta aected by these cuts. However, few of these technology-based enterprises survived and many of the entrepreneurs who set up technology-based rms in the 199295 period were forced to move into lower value added activities (such as retailing or wholesaling) through a combination of external environmental pressures and resource constraints. Moreover, changes in the regulations governing non-state enterprise activity after 1996 forced many small rms into liquidation and others into operating abroad in neighbouring countries, as the regulation of entrepreneurship by the state in Belarus became tighter and increasingly centralized. More generally, since the early 1990s, the overall economic environment in Belarus has constrained both the creation and subsequent development of small businesses as a result of the combined eect of multiple exchange rates, import/export restrictions, poor access to loans, and the crisis in the late 1990s caused by the collapse of the Russian ruble. Although some of these factors have been eliminated and government claims to support small enterprises through the creation of an appropriate legal environment for business activity, the provision of soft loans and the establishment of an advisory infrastructure, in practice, few positive policy actions have been consistently implemented and credit lines are not fully set up.

THE SINTA COMPANY


Origins and Activities Sinta (which is an abbreviation of the Russian word for synthetic diamonds) was founded by a group of scientists who had been engaged in research activities related to the defence industry during the Soviet period. In researching high explosives they discovered a new superhard material (ultradispersed diamonds), produced when explosives are detonated. These subsequently became known as nano-diamonds. The results from this research encouraged the scientists to undertake pilot production of nano-diamonds and to develop the appropriate industrial technology. The business was rst registered in 1992 as a closed private joint-stock company. The legal form was chosen in order to attract the (loan) nance necessary to purchase the equipment required. Initially the capital structure was diversied, with no single shareholder holding more than 10 per cent of the shares, although more recently it has been necessary to attract additional venture capital from external sources, which has diluted the control of the founding scientists.

34

Innovation and Entrepreneurship

Although the orientation of the company has to some extent shifted over time, since inception the main focus of its activities has been the industrial production of nano-diamonds and the development of applications of this material. Overall, the picture that emerges is that of an innovative, knowledge-based company, with a series of new product applications being identied and developed over time. For example, Sinta has developed methods of producing composite coatings, which are used for hardening cutting and pressing tools, as well as thermo- and radiation-proof coatings used on the wings of planes. The demand for this coating technology has been the strongest of any of the rms products and services and it is the most protable form of activity for the company. The rm has also been able to develop value added, after-sales services, such as recoating customers equipment. In addition, in introducing its technology to a client rm, Sinta seeks to oer turnkey solutions to client needs. Specically, this involves providing the technology and a supply of nano-diamonds, which are the raw material needed for application of this technology, together with a full set of documentation and recommendations on the use of the technological process. Clients are charged xed prices for diamonds in a contract that typically runs for a number of years. This is economically advantageous for the customer, but so is it for Sinta, as it binds the customer to them as the supplier. In addition, Sinta oers sta training and technical support to enable the customer to learn to deposit the high-quality coatings. Expert advice may be obtained from Sinta during the rst year of use free of charge. When asked about the key drivers with respect to the search for new product applications for the technology, Sintas managing director emphasized the pressure on a company that is cash-starved to look for new sources of revenue. The breakup of the former Soviet Union aected the potential markets for Sintas main product, forcing its owners continually to diversify their income stream. The nature of the technology means that Sintas major customers are large enterprises, which may be operating below their former level of activity but still possess the equipment and infrastructure necessary to utilize nano-diamond technology. Smaller rms place orders for products, such as coatings and lubricants containing diamond components, as do large enterprises that have not installed their own industrial line. Whilst such orders provide a source of income, contributing to Sintas ability to survive, the total revenue that is generated from such sales is modest. Another part of Sintas survival strategy was to move into the manufacture of its own products using nano-diamond components and its own equipment. This is because the barriers to innovation in Belarusian industrial enterprises allow limited scope for transferring technologies to domestic enterprises. These barriers include a lack of opportunities for

A new technology-based enterprise in Belarus

35

external nancing for innovation; the conservatism of the directors of large industrial enterprises, which are almost all state-owned; and the strong restrictions on enterprises preventing them from ring people, even if this is a consequence of technological modernization. Human Resources As in many new technology-based rms, the knowledge base underpinning the unique selling point of Sinta resides in the founders, who all possess doctoral degrees and are leading experts in their eld in Belarus and among the best in the territory of the former Soviet Union. Anatoly is the managing director of the enterprise. He is approximately 50 years old, having previously led research in the area of the detonation welding of metals at the state research institute, where he rose to the position of deputy director. He thinks that his previous experience of sta management proved useful in his subsequent entrepreneurial activity, especially considering that most of the current employees of the company are former scientists from the state research institutes. His decision to leave the public sector for a private business was stimulated by the economic transformation at the beginning of the 1990s and a belief that nano-diamond technology had a promising future. The leading technical expert is the deputy managing director of Sinta (Olga), who moved to Belarus from Russia especially to support the newlyborn enterprise. In Russia, she had previously undertaken related R&D in a research group attached to a Russian military project, which was cancelled after the collapse of the USSR. Her main motive for joining Sinta was a desire to continue to work in her specialized eld, although the fact that her husband was Belarusian aected her choice of the country in which to continue her involvement with nano-diamond research, since she was also invited to work in Ukraine. The commitment and enthusiasm of Olga and Anatoly to the technology are shared by the core team. The innovators have developed the idea of this technology from the test tube and want to see their child being applied in industry and commercially exploited. The founders and owner-managers of a technology-based business appear to t the characterization of technical entrepreneurs (Jones-Evans 1995) or research entrepreneurs. Drawing on the work of Jones-Evans, Cooper (2006) describes research entrepreneurs as having a knowledge-oriented science and technology development background, having worked in higher education or in a non-commercial laboratory. They have relatively little management experience, but may be experienced in the management of research programmes and possess good personnel management skills.

36

Innovation and Entrepreneurship

At the time the company was rst registered in 1992, there were 30 employees, although by 2006 this had reduced to 15 regular employees, with additional sta being contracted to work on specic projects. Task exibility is a key characteristic of working at Sinta, with sta moving between R&D, manufacturing and manual tasks, as occasion demands. Employment relations within the rm are inuenced by the high educational level of sta (7090 per cent are educated to higher education level). Sinta is a knowledge-based company in which the knowledge that resides in its sta is its major asset. In addition, it was suggested by Olga that the severity of the external pressures, which have threatened the companys survival, has united the team of employees, whose loyalty to the rm is supported by commitment to the common idea of the innovative technology. Finance Funding at start-up is reported to have come from self-nancing, although a bank loan of approximately $0.5 million was secured to enable manufacturing to get underway. In obtaining bank nance in this way, Sinta is exceptional in the Belarusian context, where the state-owned banks are not a signicant source of nance for small private rms, particularly at startup. For example, in a survey of small rms in Belarus in 1997, only 8 per cent of surveyed enterprises had received a bank loan at start-up (Smallbone et al. 1999). The national prole of the scientists involved in Sinta and the potential contribution of its technology to the future competitiveness of Belarus industrial enterprises may have helped to persuade the bank to look favourably on the loan application. As in the case of many start-up rms, Sinta faced a shortage of working capital to cover activities such as advertising and marketing costs, certication and wages, because a condition of the loan was that it could only be used to purchase material assets, such as buildings and equipment, and not as working capital. The lack of resources for marketing proved to be a signicant constraint, in view of the novelty of the product and the need for active promotion for it to gain acceptance in the market. As a result, the anticipated number of orders was not reached as quickly as had been estimated, which limited the speed with which the bank loan could be repaid, which in turn had implications for the cost of servicing the loan. Markets As well as being technologically innovative, Sinta has also demonstrated its ability to be creative and exible in identifying opportunities for new ways

A new technology-based enterprise in Belarus

37

to doing business. Sinta has demonstrated a willingness to participate in various forms of collaborative activity depending on the nancial and technical resources of clients; from the direct sale of a licensing agreement for the technological process to enterprises that have sucient technical know-how and resources to joint venture agreements that allow organizations to manufacture the products abroad. Sintas main markets are domestic, although it has also ventured into foreign markets, mainly through forms of joint venture activity. The rst example of this involved selling nano-diamonds in Ukraine, through the establishment of a subsidiary company working under Sintas trademark in Kharkov in 1996. In fact, this has been one of Sintas most commercially successful projects. Licensing agreements have been an important part of Sintas development strategy. For example, licences for the technology to produce chrome-diamond hardening of a metal surface have been sold to two large factories in Belarus, and the technology is also employed at factories in Saint Petersburg (Russia). Nevertheless, industrial enterprises in the domestic market are Sintas main customers. Apart from sharing personal contact networks and knowledge of national business behaviour, domestic clients typically do not require Sinta to prove itself in terms of criteria such as commercial success, possessing a high-tech website or being able to demonstrate well-established production systems. Doing business with domestic customers reects some typical aspects of the Belarusian context. For example, small rms tend to pay for their orders more quickly than larger rms; in practice, larger rms are the main debtors, reecting, according to the Sinta representative, an irresponsible attitude towards meeting their obligations, carelessness with respect to payments on time and an ignorance of business ethics. More fundamental to this, however, is the low level of solvency that is typical of Belarusian industrial enterprises together with a failure on the part of large enterprises to recognize that what may seem to be a small debt to them may be a signicant sum to a small supplier. Needless to say, delayed payments have created signicant cash-ow problems for Sinta. It is dicult for a small rm such as Sinta to exert pressure on a large rm, and larger rms tend to place larger orders and serial orders. The constraints of the Belarusian context have made it necessary for Sintas management to be creative in their attempts to boost demand for the rms services. Because of a scarcity of funds, Sintas customers face problems with purchasing new equipment. The companys response is to modify and bring back into use equipment which may have fallen into disuse. For example, one customer had galvanic equipment that for environmental reasons had not been used for ten years. Sinta sta carried out an appraisal of the state of this equipment, modied its design and made the

38

Innovation and Entrepreneurship

necessary adjustments to enable production of an innovative product using Sintas technology. According to both Anatoly and Olga, the international market potential for nano-diamonds is virtually unlimited. They suggested that most industrial enterprises could gain from applying nano-diamond-based technologies, even if the particular application processes have not yet been developed to an industrial scale of production. At the same time, there is currently hardly any active demand for nano-diamonds anywhere in the world. As in the case of other young technologies, the total size of the market may be aected by the lack of competitors. Given the resource constraints on Sintas ability to actively market the technology itself, Olga suggested that competitors would play a positive role for Sintas initial development, helping to increase potential customers understanding of the advantages and applications of the technology. However, a key issue aecting the market potential for nano-diamonds concerns the method used to produce them. The detonation method, which is at present the only industrially developed and commercially eective method, is too hazardous to be implemented in the EU. Currently available alternative methods of producing nano-diamonds are either too expensive or too small-scale to be applied industrially, or produce diamonds with a grain size that is too large. After the breakup of the USSR, few organizations remained involved in this technology. Of these, the most advanced competitors have been Russian enterprises involved in defence-related activities, although they are not active players in commercial markets. As a result, Sinta is the only real player active in the Russian market, and by 2006 there were still only six other companies in the world capable of producing the detonation nano-diamonds in which Sinta specializes: four in Russia, one in Ukraine and one in China. In this context, the owners of Sinta believe they are the global market leaders, based on their 14 years of product development in a commercial environment. By 2006, Sinta had the capacity to produce nano-diamonds with a market value of approximately $10 million annually, although current output is only 5 per cent of this level. Nevertheless, even this volume exceeds the total production of nano-diamonds in the rest of the world, illustrating Sintas role in the market. Unfortunately for Sinta, however, the further development of knowledge about nano-diamonds will require highly complex and very expensive equipment. Since nano-diamonds cannot be seen with the naked eye, and there are only a few microscopes with the power to expose the internal structure of nano-diamonds, further scientic advances are likely to be made by people who have access to suciently advanced equipment as well

A new technology-based enterprise in Belarus

39

as appropriate scientic knowledge. As a consequence, growth in the world market for nano-diamond technology will not necessarily bring success to Sinta, because others may be in a stronger position to exploit nanodiamond applications commercially. Strategic Development The original business plan of Sintas founders envisaged that the initial bank loan would be repaid using the revenues from sales of manufactured nano-diamonds, and subsequently from selling the licences for the application of nano-diamond technology. Unfortunately, and possibly predictably, the weak nancial condition of Belarusian industrial enterprises, many of which are insolvent, meant that they were often unable to pay Sinta for work to introduce new technologies. Since the underlying weakness of the industrial sector in Belarus has remained unchanged through most of Sintas life, a new strategic direction became necessary. As a result, since 2001, the focus has changed from the sale of the technology for nano-diamond production per se to a strategy based on collaboration and alliances with other companies, in order to access and develop new markets. As part of its attempt to develop a global market, Sinta regularly participates in national and international exhibitions and undertakes advertising; and its sta prepares papers for scientic publications. However, the experience of attending foreign exhibitions and trade fairs has underlined the nancial constraints facing Sinta and exposed a possible lack of market focus. It was reported that while there was huge interest in their technologies, potential customers from Western countries typically request samples, ready documentation and similar data, which Sinta have not been prepared for and which need to be tailor-made for individual customers. This all required additional expenditure from the company, the funds for which were not available at the time. Breaking into EU and other Western markets has proved dicult for Sinta. One problem is that for suppliers of equipment which might last longer through the use of nano-diamond technology, prolonging the life of the equipment may mean fewer items of the equipment being purchased, over a given period of time. Another problem faced with respect to market acceptance of nano-diamond technology concerns the expressed unwillingness of EU customers to become dependent on a single source of supply, particularly since this is located in Belarus. The possibility of establishing a production plant in Germany in cooperation with a German industrialist has been explored as a means of developing sales in EU markets. However, the nature of the materials used and increasingly strict environmental standards in the

40

Innovation and Entrepreneurship

EU mean that production would be severely regulated, and Sinta and its partners judge that compliance costs would make such a venture unprotable. Alongside this, Sinta has been seeking to boost the reputation of the innovative manufacture of nano-diamonds in the domestic market. It was suggested that the technology could be introduced to Belarusian enterprises at a level of charges that client companies could aord, that is, via the application of a pricing policy tailored to the domestic market. Discounts of up to 50 per cent could be oered when the volume of manufacture is large; and in some cases, Sinta may choose to oer the technology free of charge, charging only for the materials (that is, the diamonds) supplied. The longterm goal of such a policy would be to develop a sound domestic market base. The raw materials required for nano-diamond production, which include explosive materials and rocket oxidizers, are more readily available in Belarus and its CIS neighbours than in Western European countries. In the early stage of Sintas development, these raw materials were supplied at low prices, because they represented a byproduct from Soviet military production that was further subjected to a conversion policy launched in the late 1980s. Cheap raw materials enabled Sinta to oer lower prices to Belarusian customers with low levels of solvency. However, the sustainability of such a strategy is limited. The explosive materials and rocket oxidizers are not produced in Belarus but have to be imported from other CIS countries, and transporting them becomes more and more expensive because of their hazardous nature. An additional limitation is that over time, the stocks of cheap conversion materials will become exhausted. Further, production of nano-diamonds in China would be cheaper than in Belarus, since it already possesses the infrastructure necessary to transport raw materials; plants for explosives; the galvanic lines and other elements. Low taxes and low labour costs would also contribute to Chinas future competitive advantage in this eld. As is common in new technology-based enterprises, Sinta regularly cooperates with external organizations, including research institutes in Belarus (for example, the Institute of Powder Metallurgy), on activities such as testing and experimentation, where the infrastructure is not available in-house. One of the issues facing new technology-based rms is the protection of intellectual property. In this regard, Sinta has obtained a number of patents, with 20 more awaiting approval. Whilst Belarusian patents are of little value in protecting innovations because of the underdeveloped system of protection of intellectual property rights in Belarus, the company also holds Russian patents, which oer more protection. However, Sinta has insucient funds to seek other foreign patents, which is a constraint.

A new technology-based enterprise in Belarus

41

The Development of Sinta after 2001 By 2001, Sinta had been in existence for almost ten years, but still owed almost the full sum of its start-up loan to the bank. Sales revenue had grown more slowly than anticipated and signicant expenditure had been incurred in adapting the technology to the specic needs of individual customers. Not surprisingly perhaps, further borrowing proved impossible. Fortunately, the bank did not seek to realize the value of the collateral that had been used initially to secure the loan (that is, Sintas buildings and equipment), because the resale value of these assets in practice was low, especially regarding the unique competences required for handling the self-developed equipment. Although Sintas initial marketing approach was to promote the nanodiamonds produced by the company and the application technologies of nano-diamonds in industry, by 2001, Sintas management team believed that the technology of nano-diamond production itself could also become a viable product for the company. In view of the other constraints the company faced, Sinta started to look for opportunities to create a joint venture abroad, with a foreign investor contributing nance (enabling the necessary scale of marketing) and Sinta contributing the technology to the capital stock. The idea was to establish a manufacturing line abroad, as Sinta had already done in Belarus, based on the most advanced technologies from Sintas portfolio. In 2001, a suitable partner was identied in China, with assistance from the Belarusian Academy of Sciences, which was collaborating with the Academy of Sciences of China. The Chinese state company, which is one of the largest gold-mining companies in the world, appeared an ideal partner for Sinta for a number of reasons. First, it possessed the range of competencies required to organize the production of nano-diamonds. Second, it was not a venture capitalist, but an enterprise with considerable production experience, including previous joint venture experience. Falling gold prices encouraged the Chinese company to look for opportunities to diversify. Third, China oered a large and growing market. In May 2002, the ocial documents to create the joint venture were signed, with Sinta contributing 30 per cent of the initial capital base of the company in the form of technologies and equipment. The planned activity prole of the Chinese joint venture was the production of nano-diamonds on the basis of Sintas technology. The joint venture company would possess the rights to disseminate the nano-diamond application technology in China, but no rights to replicate the technology to produce nanodiamonds themselves. Planned technology transfer from Sinta to the new joint venture included the scientic and technical maintenance up to the

42

Innovation and Entrepreneurship

start of production and certication of the products. Sintas scientic experts planned to work at the plant in China during its start-up stage, but the majority of the workforce would be Chinese. Partnership with China has opened up new opportunities for Sintas global market representation and development. However, alongside the nancial implications of developing this partnership, the problem of nancial liability to the Belarusian bank remained. In an attempt to deal with this, Sintas shareholding was restructured to make the company more attractive to outside investors, on the basis that the joint venture in China would be a potential draw. A Belarusian investor was found, who agreed to buy 51 per cent of the stock of the company, although ownership rights of the technology would remain with the scientists. It was hoped that this would provide Sinta with the capital needed to exploit new opportunities. Unfortunately, a conict between the new investor and Anatoly, the managing director of Sinta, resulted in the former leaving the company, which meant that the problem of indebtedness to the bank remained. In addition, signicant product delivery delays to the Chinese partner slowed the receipt of payments from that source. Consequently, Sintas owners sought other investors, and in 2002 potential partners were found in Russia. In 2003, the new Russian owners ocially gained control with 51 per cent of the stock: the managing director and deputy managing director hold a further 11 per cent each and the rest was in the hands of minority shareholders. Unfortunately, the new partners lacked both scientic background and an appreciation of the long-term nature of returns from science-intensive projects. As a consequence, they have turned out to be reluctant to make any further investment in Sinta. This has slowed down the further development of the company, which faced a lack of working capital as well as nance for investment. The control that the new Russian investors had over the Sinta stock placed them in a strong decision-making position. Their voting power led to an attempt to change the nature of the agreement with the Chinese partner, which by mid-2004 resulted in the collapse of relations with China. During the period of control by Russian investors, Sintas performance fell, including its domestic business. In an attempt to remedy the situation, the deputy managing director of Sinta made a private trip to China to investigate the possibility of resurrecting the Chinese joint venture. As the result of this trip, the Chinese partner signed a large contract with Sinta to supply non-standard equipment. This was delivered without any further nance for working capital and the revenue earned was used to repay almost three-quarters of Sintas bank debt. Nevertheless, the Russian investors still controlled Sinta and would benet from any improvement in performance.

A new technology-based enterprise in Belarus

43

Future Prospects Sintas future remains uncertain. A pessimistic scenario is that the Russian stakeholders will continue to intervene in the activity of the company, such that the founding scientists become increasingly frustrated and eventually quit. One possibility is that the Belarusian innovators continue their R&D independently, moving to China and taking their personal expertise and know-how about nano-diamond technologies to the Chinese partner. Alternatively, the founders might seek to regain control of Sinta, perhaps with the cooperation of the bank to which Sinta remains indebted, or through seeking the nationalization of the company, on the basis that nano-diamond technology is potentially a valuable asset for industrial recovery in Belarus. However, this would appear to be a last resort for the founders, who prefer to preserve Sintas independent status and private ownership. Anatoly and Olga estimate that the future will see real growth in the demand for high quality nano-diamonds. Sinta has already been able to sell 10 tons of nano-diamond-based additive in China, whereas in Belarus, the entire consumption is only 10 kg per year. They also anticipate that future production of detonation nano-diamonds will move to the countries where labour is cheap; where ecological standards are lower than in Europe; and where there is access to cheap raw materials. As a consequence, countries such as Russia and China seem ideal as locations for production. However, the development and usage of the technologies for the application of nanodiamonds is likely to remain in countries where there is a highly qualied workforce and a developed scientic infrastructure. This is why the Sinta founders believe it is important for Belarus to preserve its own facilities for manufacturing nano-diamonds, whilst mass volume production is undertaken abroad. The current development strategy for Sinta, favoured by its founders, is for production to be based in China through the existing joint venture, with the role of the Belarusian partner that of educating the scientic and technical team.

CONCLUSION
As suggested in the introduction to the chapter, the development of Sinta over an extended period demonstrates a number of features common to young technology-based businesses in other economies. At the same time, Sinta has some distinctive characteristics, faces specic challenges and initiates responses that reect the specic nature of the operational environment in Belarus.

44

Innovation and Entrepreneurship

As in mature market economies, for the founders of Sinta, the organization has become their life, because it has developed from their initial idea; is based on their expertise . . . and allows them to pursue their interest and passion for a particular eld of technology (Cooper 2006, p. 261). Another common feature is the emphasis on nancial constraints, not just at startup but throughout most of the life of the company. Technology-based rms typically require larger amounts of nance than other start-ups, and they face particular diculties in funding product development pre-start-up, when the risks involved usually make them unattractive to suppliers of loan nance (Bank of England 2001). Clearly, this makes some form of venture capital an important alternative. Whilst the absence of a domestic venture capital market limited the scope for Sinta in accessing venture capital from formal sources, its ability to raise an initial sum of around $0.5 million of loan nance from one of the state-owned banks makes the company exceptional for a small rm in the Belarusian context, suggesting that the personal network links of the founders and the potential national signicance of the technology they were developing attracted a strategic commitment on the part of one of the state-owned suppliers of nance. At the same time, Sintas early development must be seen in the context of the aftermath of the collapse of the former Soviet Union. In the early 1990s, the lack of nancial resources to fund R&D in state science left the founders of Sinta with a product that was still at an early stage of commercial development. In addition, the extremely low solvency of industrial enterprises in Belarus meant that the potential customer base for this technology was unable to aord to introduce innovative technology. More fundamentally, the long drawn out process of industrial restructuring caused by inconsistently applied monetary and scal policies in a young transition economy has been key to the constraining environment in which Sinta has been operating. Since 1990, the Belarusian economy has been distinguished by ongoing institutional deciencies as far as private business is concerned. For example, respondents in an independent survey of private rms, conducted in 2002, emphasized the constraints imposed by high taxation rates (24 per cent); bureaucracy (21 per cent); imperfections of the legal system (20 per cent); and the state oending against the legal rights of enterprises (13 per cent) (Metolit 2003). According to a Sinta respondent, one of the biggest administrative burdens the company faced is related to accounting requirements, which were the same for small private rms in Belarus as for large state enterprises. Alongside the frequency of reporting and the level of detail required, the accounting problems faced by Sinta are exacerabated by the nature of the

A new technology-based enterprise in Belarus

45

activities of the enterprise. Specically, this refers, on the one hand, to large R&D expenditures and the high share of intellectual capital employed, which are both dicult to cost, and on the other, to highly science-intensive outputs, which are equally dicult to assess in monetary terms. The current Belarusian legislation is inadequate to account for these issues, illustrating institutional deciencies that lead to substantial, unproductive expenditure on nancial reporting and high transaction costs. A further problem is the inadequacy of the legislation with respect to the protection of intellectual property rights. Although the overall eect of the external environment in Belarus has been negative as far as the development of Sinta is concerned, there have been some positive elements. For example, innovative start-ups such as Sinta were initially able to make free use of the institutes expensive R&D equipment (which would otherwise stand idle) rather than buying their own, and were able to rent premises at low rates. However, this was more a regulatory failure on the part of the authorities in the initial stages of transition than a result of policy. In the early period of its development Sinta regularly participated in state scientic and technical programmes, which was helpful at the stage of penetrating the market because it provided sucient funds to cover wages and materials. It was one of the few private enterprises in Belarus with access to the state budget through the Academy of Sciences, thanks to its distinguishing innovative features and practical contribution to the restructuring of industrial enterprises. Subsequently, however, Sinta refused funds from this source, because of the reporting requirements and conditions attached. Whilst Sinta has beneted from some state nancial support, in comparison with new high-technology rms in many mature market economies, the level of support available to Sinta from the Belarusian government appears slight. Although Sintas survival since 1992 is undoubtedly an achievement, there is a question as to whether the management team which founded the company and led its development through the 1990s contained a sucient balance between technical and management competencies. The issue is a common one facing new and young technology-based rms. Indeed, by 2006, there is evidence that the entrepreneurs themselves had recognized that scientists are not necessarily the most successful business managers. The main strengths of the company undoubtedly lie in its human capital, which is typical of a knowledge-based rm. The two leading founders are recognized experts in their eld, originating from one of the few expert groups in the former Soviet Union. The ability of the rm to attract the support it has is a direct reection of their research achievements. In addition, researchers also had considerable network contacts as a result of their previous employment, which were undoubtedly an asset for Sintas

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development. At the same time, none of Sintas core management team possessed private business experience in a commercial environment, which meant they struggled to penetrate foreign markets, particularly those in mature market economies. It is clear that the specic development path for high-tech innovative enterprises in Belarus contains a number of distinctive characteristics. Whereas in most EU countries, research-based spinos have developed in conditions where state initiatives provide opportunities for nancial and other forms of support, in Belarus, Sinta has grown with very little state support, apart from a substantial start-up loan from a state-owned bank. Sinta has also developed in much more unstable and unfavourable economic conditions than the overall business conditions that pertain in EU countries. In such an environment, companies which have achieved success have typically done so on the basis of the advanced technology combined with research and development but also by using industrial contacts inherited from the past. Another factor is that in a small country such as Belarus, there are very few experts in specialized elds in the national innovation system. Since most experts know each other, it is only in reality possible to enter a eld commercially if one possesses unique technical knowledge. Finally, when searching for markets, the proximity of the Russian market typically becomes decisive for the choice of geographic market development. This is because the Russian market possesses a higher potential absorptive capacity for technological innovations than the entire EU, providing more than enough potential contracts. Moreover, customer requirements in Russia are well known in Belarus, making it easier for them to compete with Western innovators in the Russian market in many technological elds, particularly when they also have a pool of contacts in Russia. At the same time, whilst Russia may be a softer market for Belarusian companies to penetrate in comparison with the EU, it may also be a less lucrative one.

REFERENCES
Bank of England (2001), The Financing of Technology Based Small Firms, London: Bank of England. Bannock, G. and A. Peacock (1989), Governments and Small Business, London: Paul Chapman Publishing. Cooper, S. (2006), Technical entrepreneurship, in S. Carter and D. Jones-Evans (eds), Enterprise and Small Business: Principles, Practice and Policy, London: Financial Times, Prentice Hall, pp. 24365. EBRD (2005), Transition Report 2005: Business in Transition, London: European Bank for Reconstruction and Development.

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Jones-Evans, D. (1995), A typology of technology based entrepreneurs: a model based on previous occupational background, International Journal of Entrepreneurial Behaviour and Research, 1 (1), 2647. Ministry of Statistics and Analysis of the Republic of Belarus (2006), Main Indicators of Small Entrepreneurship Activity in Belarus in 2005, Minsk. Metolit (2003), Financial and economic provision of innovation activity, materials of a seminar, Technopark BNTU, 18 December. Smallbone, D. and F. Welter (2006), Institutional development and entrepreneurship in a transition context, in C. Galbraith and C. Stiles (eds), Developmental Entrepreneurship: Adversity, Risk and Isolation, Amsterdam: Elsevier JAI, pp. 3753. Smallbone, D., F. Welter, N. Isakova, Y. Klochko, E. Aculai and A. Slonimski (1999), The Support Needs of Small Enterprises in the Ukraine, Belarus and Moldova: Developing a Policy Agenda, nal report to TACIS (ACE) Committee (contract no. T95 4139R), London: Centre for Enterprise and Economic Development Research, Middlesex University. World Bank (2003), Improving the Business Environment: Belarus, Private and Financial Sector Development, Europe and Central Asia Region, IFC, Minsk, January. World Bank (2006a), Labor and employment data and statistics, http://www.worldbank.org, accessed 29 August 2007. World Bank (2006b), Doing Business Indicators, http://www.doingbusiness.org, accessed 29 August 2007.

4. Overcoming barriers: business consulting and lobbying in Kazakhstan


Gl Berna zcan
INTRODUCTION
This chapter provides a business case study for Kazakhstan, focusing on the Independent Businessmens Group (IBG), a consultancy rm that took advantage of the demand for business services and day-to-day problem solving. The IBG case shows how energetic and imaginative entrepreneurship can turn business consultancy and lobbying into a successful venture by forging relational politics into a business for enterprise protection in Kazakhstan. This case study also shows that a new diversication of power structures and business consolidation is taking place with long-term consequences for the former hierarchical and vertical structures of the Soviet economy and society. Entrepreneurs widen their opportunities in relation, not in opposition to, the ruling elite in the market. The prevailing business norm is to accommodate the dominant powers that control economic resources as well as political incentives and tools. The IBG ourished on this assumption by forging political and patrimonial alliances through vertical and horizontal relations that its founder enjoyed as a close ally of the ruling elite as well as an old comrade of the president, Nursultan Nazarbayev.1 Before introducing the case study, I will discuss the main challenges facing business development in Kazakhstan and Central Asia in order to set the scene. In the rst section I analyse why the delay of the emergence of lateral organizations and lack of societal trust are important impediments for the establishment of the market economy and strong civil society in Kazakhstan and post-Soviet Central Asia. The following section will examine the deep mistrust among individuals and institutions in Kazakhstan as reected in current business perceptions of governance. Both EBRD data and my survey point out the degree of arbitrariness in law enforcement and governance problems for day-to-day management
48

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of businesses. In the nal section, the business case study illustrates an innovative entrepreneurial approach to bridging the gap between entrepreneurs need to have bureaucratic guidance and protection for their business transactions and the arbitrariness they face on a day-to-day basis in the governance regime. The case points out the intricacies of emerging lateral organizations and the realities of interest representation in Kazakhstan today. The analysis illustrates that new lateral structures along with a growing small and medium-sized enterprise sector are bringing about deeper changes in economic relations, societal cohesion and the use of political power in the markets. The conclusion highlights the fact that the tolerance of the ruling elite in Kazakhstan is required for successful ventures and indicates the ways in which entrepreneurs imaginatively seek new ways of doing business within and along with elite social structures and clientelist networks.

ECONOMIC REFORMS, RULING ELITE AND LATERAL STRUCTURES


Since their independence from the Soviet Union in 1991, Central Asian states have been struggling to establish the principles of a market economy and open society. Yet, the enthusiasm of the ruling elites for market and governance reforms has waned during the past decade due to a growing fear of political instability and more recently, a deep suspicion of Western involvement in coloured revolutions that brought about leadership changes through popular uprisings in Georgia (2003), the Ukraine (2004) and Kyrgyzstan (2005). The political elites now recognize that structural change would destabilize their powerful interests and political networks. For more than a decade, former Communist Party elites managed to retain their political power and are now well established in ownership structures of emerging capitalist enterprises and the markets. However, despite this general trend of slow-down on economic and political reforms, since the late 1990s a process of divergence has also evolved in the region in three main forms: neo-Soviet-style power consolidation, authoritarian developmentalism and chaotic governance. First, in Uzbekistan and Turkmenistan, former communist leaders consolidated political and economic power in a neo-Soviet style by curbing the operations of Western institutions and reasserting the single leader and party control in the economy and governance. Second, under another former communist leader, Nursultan Nazarbayev, Kazakhstan turned into an authoritarian and single-party dominated regime. However, the state-led developmental path brought about new economic reform policies with

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successful implementation in the banking, nance and oil industries. Due to growing oil revenues since the end of the 1990s, the Kazakh government managed to stabilize macroeconomic indicators while also succeeding in co-opting interest groups and young cadres to the rank and le of bureaucracy and the single-party regime. A third path of divergence is seen in two small landlocked states, Tajikistan and Kyrgyzstan, in the form of constant political inghting and a chaotic process which can be described as dissolution of the state within the business and political groups and their self-governing mechanisms that increasingly control the governance of partitioned assets in these countries. Foreign observers and natives agree that unlike other former communist regimes in Eastern Europe that quickly followed reform policies and the EU membership path in order to transform themselves into market economies and multi-party regimes, Central Asian countries continue to suer from deep problems in building new institutions guarded by nation states. The lack of pluralistic traditions, ideological and social glue for nationalism and a common destiny have delayed the emergence of civil society action. Rather than the rule of law, individual powers and groups determine the governance regime by bending and circumventing procedures. Thus, even in reform-minded Kazakhstan, the new rules of the market economy are being dened according to the interests and priorities of the presidents family and the ruling elite in a somewhat Soviet fashion. There are two characteristics of this ideological confusion and poor governance: sovietism and clientelism. First, the legacy of Russian colonization and Soviet rule impinge upon the emergence of lateral structures and trust in post-Soviet societies. Mistrust and betrayal took root in societal turmoil as tribes and groups fought each other in order to protect their privileges with the colonizers during the late nineteenth century. Later the vertical structures of the Soviet command economy controlled resources and manpower while the Communist Party machine co-opted civil action into the layers of the party bureaucracy. This form of social mobilization uprooted two fundamental ingredients of vertical and lateral structures in these communities, namely societal and impersonal trust. Forming the main territorial line of Russian expansion and resettlement policies, the Kazakh steppe experienced colonization and Soviet engineering more profoundly than its neighbouring states (DEncausse 2002; Soucek 2000). Uprooting nomadic steppe traditions, from the time of Tsarist colonial law enforcement, brought about massive population movements and great suering during the famine in the early 1930s (Ertz 2005; Crews 2006). This, coupled with forced collectivization meant that Kazakhs had very little opportunity to be in charge of their own destiny (Shayakmetov 2006).

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Second, the independence gained as a result of the dissolution of the Soviet Union has rested on a peripheral and subordinate state formation that had a weak base of legitimacy on its own without the Communist Party structure governed by a Moscow-based leadership. After all, Kazakh statehood was mostly manufactured by this leadership in Moscow, which appeased and co-opted Kazakhs within a folkloric nationalism without granting them national political legitimacy. While the Soviet top-down command and control mechanisms deteriorated in newly independent Kazakhstan, traditional-style patrimonial relations, which had been coopted within the Soviet regime, became the main legitimizing force for the ruling elite. This unleashed deepening clientelism, a pattern which is also associated with clan politics to a varying degree across the majority of post-Soviet states (Collins 2006; Olcott 2002; Schatz 2004). Economic resources accumulated in the hands of the ruling elite and such opportunities were distributed within the network of patronclient relations leading to the emergence of neo-patrimonial states (Ilkhamov 2006).2 Power relations within the ruling elite became the dening institution under the authoritarian presidential systems (Loung 2002, 2004). The formation of intermediary lateral organizations and interest representation is essential for post-Soviet democracy-building and economic prosperity. Lateral and multiple social structures, unlike monolithic topdown ones, are better suited and more eective in arbitrating between economic resources and political interests. There is also a two-way relationship between deepening market relations and the growing sophistication of lateral organizations: they nurture each other. Diversication of associational ties and interest representation can also loosen the grip of the hierarchical patronage relations that currently dominate the state and market relations in the post-Soviet Central Asian countries. Understanding how entrepreneurship is shaped by these new structures and how entrepreneurs respond to them is important in order to discern future directions for enterprise development and entrepreneurship. Consequently, the newly emerging entrepreneurial class has been subject to the permissiveness of the ruling elite and their success depended on the degree to which they developed a symbiotic relationship with the vertical structures through primordial networks and lateral organizations. The business case examined in this chapter illustrates the role of lateral and horizontal relations in a rapidly growing Kazakh economy. As argued later in the chapter, new economic structures and market relations have been in dynamic interaction with vertical and lateral patronage networks in the market and these have been dramatically changing societal relations, individual expectations and class structure in urban areas (zcan 2006a). The next section illustrates the range of issues faced by entrepreneurs in their

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dealings with the state bureaucracy and the markets that they try to address mostly through individual eorts.

THE KAZAKH ECONOMY AND BUSINESS PERCEPTIONS


Starting from the late 1990s, Kazakhstans economic outlook improved signicantly, with new oil discoveries, growing foreign investment directed to its mineral extractive industries and the development of alternative pipeline routes. With increasing Western, Chinese and other investments and a growing international exposure of the domestic market, the dependency of the Kazakh economy upon Russia signicantly lessened for the rst time since its colonization in the nineteenth century. In addition to having a historical economic dependency and a long border with Russia, Kazakhstan has a large Russian population, estimated to be around one-third of the current population. Thus Kazakh governments, while strategically and gradually loosening their dependency to Russia, have also been careful in appeasing Russias economic and political interests in the region (Olcott 2002). The pattern of steady growth between 2000 and 2006, averaging above 9 per cent, has replaced the negative growth rates of the 1990s. This was the highest growth rate among Eastern European and the CIS countries, only surpassed by another oil-dominated economy, Azerbaijan. The robust growth increased GDP per head threefold from 2000 to 2005, reaching $3250 and boosted the foreign reserves to an all-time high of $30 billion in 2005 (EBRD 2006). With only 15 million people, Kazakhstans vast territory and rich mineral and oil resources are likely to ensure continuing rapid economic growth for another decade. Increased oil prices continue to generate massive earnings and boost the national economy.3 The growing need for energy in the region, most notably by an energy hungry China, and European concerns to secure energy supplies and reduce dependence on Russian interference add a new importance to the position of Kazakhstan in Central Asia.4 After securing a third presidential term in 2005, Nursultan Nazarbayev increased the momentum of state leadership in economic development and industrial policy by announcing a number of key measures. These included developing new industrial clusters, preparing Almaty to become an international nancial centre, and corporate reforms such as the reorganization of large state assets for stock market oerings.5 The government set up the Kazyna Joint Stock Company and the Kazyna Fund for Sustained Development in 2006 in order to coordinate development initiatives and enhance the

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governance of key institutions.6 With an agenda of corporate modernization and reform, the Samruk Holding Company was set up in 2006 to preside over several large state companies including the state-owned oil company, KazMunaiGas. This recently launched reform process indicates a growing political will and self-condence in directing the resource-rich economy toward economic diversity and sophistication rather than resource-driven dependency. With bigger stakes in oil and resource-based industries the ruling elite have by and large left small and medium-sized enterprises (SMEs) alone, in contrast to their counterparts in Uzbekistan, which are constantly squeezed to generate tax revenues for the state.7 Thus, compared to its southern neighbours, SME growth in Kazakhstan so far has been less negatively aected by tax and regulatory burdens. Weak agrarian and Islamic traditions leave Kazakhs mostly free from ritualizing conventions, unlike their more traditional but highly entrepreneurial neighbours, the Uzbeks. Consequently, Kazakhs adapt well to change and are able to achieve rapid organizational reforms relatively unhampered by social inertia. Kazakhstan is also better endowed with rich natural resources than its neighbours, which creates nancial incentives for young professionals as well as old bureaucrats to be involved in new organizational design. These distinctions have enhanced economic reform in Kazakhstan without dismantling or liberalizing the topdown autocratic one-party rule. The political skills of President Nazarbayev as a shrewd former Communist Party boss have also helped to balance conicting domestic and international pressures on Kazakhstan (Olcott 2002). Organized representation of interests and collective action among emerging private business owners are still nascent in Kazakhstan and elsewhere in Central Asia. There are many well-documented instances of unjust inspection charges and arbitrary tax and customs duties to which small businesses tend to devise individual solutions. While large businesses exert great inuence in shaping the underlying rules of the game through strong personal relationships, there is little evidence of solidarity among small and medium-sized businesses. The lack of any societal tradition of civil society organizations beyond those which the former top-down communist structures, such as Komsomol, youth organizations, unions and so on, oered is one reason why Central Asian countries in general and Kazakhstan in particular have weak civil engagement. The other factor is the insuciency of societal and impersonal trust needed in order to forge alliances and new lateral structures for more open social and capitalist market relations. The EBRD/World Bank Business Environment and Enterprise Performance Surveys (BEEPS) carried out since 1999 among 26 transition

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countries indicate how rms perceive the quality of economic governance. These indicators show signicant improvements in Central and Eastern Europe, including the Baltic States, since 2002. Some improvement is also noted in the Balkan and Central Asian states (Table 4.1). However, the perception of good governance by business owners is subject to the degree of freedom to express opinions about sensitive questions such as corruption and bribery by state ocials, and also the degree of market competition allowed by the governments. For example, in Uzbekistan and Turkmenistan, in both of which there is tight state control over the market and society, there might be a misguided perception of stability. Similarly, as noted by the EBRD report (2005, p. 11), in countries with limited market growth, slow business generation and little competition, business owners may believe that the state intervenes on their behalf. This would mean little competition for existing entrepreneurs who sometimes enjoy a monopolistic or oligopolistic positions in the local markets. With regard to corruption, the variety of forms and the dierences between countries make it hard to measure its eect on businesses (okgezen 2004). The impact of the culture of gift-giving, kickback payments and tax and inspection extortions and other forms of state surveillance on businesses vary according to governance mechanisms and statemarket relations across

Table 4.1 Changes in perceptions of economic governance in selected CIS countries, 200205
Selected CIS countries Armenia Azerbaijan Kazakhstan Kyrgyz Republic Russia Tajikistan Ukraine Uzbekistan Average Judiciary 0.12 0.11 0.16* 0.04 0.07 0.11 0.08 0.12 0.01 Crime 0.22* 0.27* 0.11 0.11 0.01 0.20 0.36 0.11 0.13 Corruption 0.21* 0.37* 0.06 0.32* 0.19* 0.32 0.26 0.13 0.10 Customs 0.35 0.35* 0.05 0.00 0.06 0.49 0.35 0.14 0.18 Business licensing 0.05 0.33* 0.12 0.08 0.01 0.15 0.27 0.14 0.02 Tax adm. 0.07 0.57* 0.04 0.26 0.06 0.16 0.44 0.20 0.25

Notes: A negative sign indicates improved perceptions; statistically signicant improvements are shown in bold and statistically signicant deteriorations are shown with an asterisk. Source: EBRD (2005) and data taken from BEEPS 2002 and 2005.

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countries. In this respect, it is not easy to make meaningful international comparisons. However, the indicators in Table 4.1 show the broad trends and the position of Kazakhstan among the CIS countries. Kazakhstan, with the exception of attitudes toward the judiciary, displays a consistent trend, with no signicant improvements or deteriorations in perceptions of governance; unlike the Ukraine, with positive trends, or Azerbaijan, with negative trends. Indeed, this result is in parallel with the argument that Central Asian states are at a stage of reform saturation in which transition to markets is slowing down. Despite slightly improved perceptions of the business environment noted in the BEEPS surveys, the day-to-day problems faced by small business owners remain mostly unresolved in all CIS countries, including Kazakhstan. The authors survey across Central Asia indicates that there is a high degree of mistrust among business owners of state institutions and law enforcement agencies. The face-to-face interviews with proprietors of 183 small and medium-sized businesses in Kazakhstan, Kyrgyzstan and Uzbekistan show that many business owners encounter unfair and arbitrary treatment at the hands of state inspectors, administrators and tax collectors. Corruption is the most common problem faced. As shown in Table 4.2, between one-third and a quarter of respondents in each country identify the impact of corruption in bureaucracy as very serious. This rate is the highest in Uzbekistan (37 per cent). Those who identify the degree of the impact of corruption on business as quite high are also signicant: 24.3 per cent in Kyrgyzstan, 17.4 per cent in Uzbekistan and 27.6 per cent in Kazakhstan. While Uzbekistan stands out as having the most inhospitable governance regime for businesses, Kazakh and Kyrgyz businesses express a degree of accommodation and do not feel as oppressed by state bureaucracy and corruption as their Uzbek counterparts. There was also a degree of fear among respondents in Uzbekistan and many, when answering governance-related questions, indicated that they would hesitate to express their negative feelings in public. The most commonly identied business issues are related to abuse by tax ocials and state inspectors, unpaid debts, illegal extortion by criminal gangs, and bureaucratic hurdles. In this respect Kazakhstan shows similarities with other Central Asian states. In dealing with these problems a great majority of respondents (84 per cent) prefer to sort out their business problems on their own. Along with personal strategies, many entrepreneurs commonly use their friendship and kinship relations to address these problems (zcan 2006a, 2006b). Seeking personal connections to ocialdom and bribing when necessary are the two most common strategies of getting by (Tables 4.2 and 4.3). In Kyrgyzstan, there is

Table 4.2 The perceived effects of corruption in bureaucracy on business in selected countries
Kyrgyzstan Uzbekistan Kazakhstan Total

Dont know

% within bureaucracy and bribery % within country

Not

% within bureaucracy and bribery % within country

Some

% within bureaucracy and bribery % within country

Quite

56

% within bureaucracy and bribery % within country

Very

% within bureaucracy and bribery % within country

Total

% within bureaucracy and bribery % within country

1 50.0% 1.4% 25 43.9% 33.8% 9 36.0% 12.2% 18 42.9% 24.3% 21 40.4% 28.4% 74 41.6% 100.0%

1 50.0% 2.2% 16 28.1% 34.8% 4 16.0% 8.7% 8 19.0% 17.4% 17 32.7% 37.0% 46 25.8% 100.0%

0 0% 0% 16 28.1% 27.6% 12 48.0% 20.7% 16 38.1% 27.6% 14 26.9% 24.1% 58 32.6% 100.0%

2 100.0% 1.1% 57 100.0% 32.0% 25 100.0% 14.0% 42 100.0% 23.6% 52 100.0% 29.2% 178 100.0% 100.0%

Note:

Missing cases are not included. Total sample of 183.

Source: The enterprise survey was carried out by the author between 2004 and 2005. The eldwork data was gathered from small business owners employing less than 50 workers in the following cities: Bishkek, Osh, Karabalta, Cholpon-Ata and Karakol in Kyrgyzstan; Almaty, Astana, Karaganda and Semey in Kazakhstan; and Bukhara, Tashkent and Samarqand in Uzbekistan. The survey sample was randomly selected from the lists of local banks that ran the micro-nance programme initiated by the EBRD.

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Table 4.3 The use of business associations by Central Asian entrepreneurs to address problems or consult business issues in selected countries
Kyrgyzstan Never % within business associations % within country Rarely % within business associations % within country Often % within business associations % within country Very often % within business associations % within country Total % within business associations % within country 50 39.7% 71.4% 10 43.5% 14.3% 5 45.5% 7.1% 5 38.5% 7.1% 70 40.5% 100.0% Uzbekistan 33 26.2% 73.3% 4 17.4% 8.9% 1 9.1% 2.2% 7 53.8% 15.6% 45 26.0% 100.0% Kazakhstan 43 34.1% 74.1% 9 39.1% 15.5% 5 45.5% 8.6% 1 7.7% 1.7% 58 33.5% 100.0% Total 126 100.0% 72.8% 23 100.0% 13.3% 11 100.0% 6.4% 13 100.0% 7.5% 173 100.0% 100.0%

Note: Missing cases are not included. Total sample of 183. Source: The enterprise survey carried out by the author between 2004 and 2005.

low engagement with associations while 74.1 per cent of those Kazakh businesses interviewed never dealt with the appropriate business associations. In Uzbekistan, there is a higher degree of associational involvement as a quarter of businesses address their issues through associations. However, this is mainly due to the fact that the government regulates business and craft associations and monitors them through territoriallystructured vertical bureaucracy. For the time being the behavioural norms of getting by seem to have entrenched business uncertainty in eorts to ensure marginal survival in Kazakhstan. However, such accommodation strategies are neither optimal nor sustainable for long-term business interests. Conformity with the arbitrariness of the rule of law brings only ephemeral gains for small

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businesses. Despite widespread discontent with corruption, and poor tax and inspection systems, there are very few cases of collective eorts by entrepreneurs to alleviate such commonly faced diculties in day-to-day business practices. By the logic of collective action that Olson (1971) describes, this is not so surprising. Olson argues that individuals do not follow rational behavioural patterns in order to maximize their common gains through collective action. He stresses that unless the number of individuals in a group is quite small, or unless there is coercion or some other special device to make individuals act in their common interest, rational self-interested individuals will not act to achieve their common or group interests (Olson 1971, pp. 12). However, Olson also points out that when there is a possibility of making a gain that would match everybodys interests, we see collective action making a dierence, such as when trade unions, business and lobby groups are formed. In Western democracies collective action in business and society is an important part of democratic life, playing a crucial mediating role between the state and interest groups. Groups need social glue to forge collective action. A vision, a sense of belonging and a common language and purpose are essential to formulating and acting together for shared interests. One of the fundamental ingredients of that glue is societal, interpersonal (between individuals) and impersonal (between individuals and institutions) trust, which is needed in order to build alliances and social movements, and to demand change. In post-Soviet Central Asia interpersonal trust beyond family, friends and tribal relations is weak. This deciency, along with the imposition of authoritarian presidential regimes, is a major obstacle for lateral interest formation and representation in politics as well as for new institution-building. The business case below illustrates how innovative entrepreneurship can address these societal shortcomings by forging new alliances in the markets for collective goods.

CAPITALIZING ON BUSINESS INTERESTS: THE CASE OF IBG CONSULTANCY


Lobbying and Collective Action Much emphasis has been placed in academic literature on the barriers to entrepreneurship and innovation in all post-Soviet countries. The dissolution of the Soviet command economy has become associated with high levels of unemployment, corruption and a growing informal economy. As noted earlier, in Central Asia this has been accompanied by weak systems of political legitimacy installed by authoritarian presidential regimes. Business growth is often hampered by market failures, infrastructural problems and,

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more importantly, insecure property rights. Many small businesses have to cope with state extortion or organized crime to ensure a modicum of protection. But at the same time post-Soviet market distortions create many opportunities for businesses to ll gaps between demand and supply. Thus, there is plenty of room for small businesses to thrive; and entrepreneurs are increasingly developing sophisticated ways to adapt to post-Soviet governance idiosyncrasies and uncertainty. However, the authors survey and anecdotal evidence indicate that businesses rarely form a common platform to address their day-to-day survival problems. After decades of imposed, but now discredited, collectivization and communist ideological indoctrination, there appears no moral base for collective action and impersonal trust beyond tribal and family ties. Low levels of institutional and impersonal trust are observed in all post-Soviet states and empirical studies show considerable dierences between regions and sectors in terms of entrepreneurial strategies. In their three-country study (Estonia, Russia and East Germany) Welter et al. (2004) found that Russian and Estonian entrepreneurs were least likely to search for outside help in their business ventures beyond their known network of friends and family. My results indicate a somewhat similar trend; most of the businesses never consult any business association or local or foreign consultancy rms in solving their day-to-day problems. There are hardly any records or reliable company data available. Business directories are only recently being developed by local authorities and only state-sponsored chambers of commerce and industry have some listings of businesses. Most of the time information about the nature and size of businesses remains in segmented quarters of ocialdom. A great majority of businesses are not part of any association and have never engaged in collective action.8 Collective action not only runs into the problems dened by Olson (1971), it also faces post-Soviet nihilistic attitudes and obsessive selfsuciency in pursuit of wealth. While the existing system for the distribution of property rights lacks legitimacy, there is an all-out war between players for survival in the market, with no allowance for mutual trust. Under these circumstances, business protection itself is an entrepreneurial activity and even a recognized function of inuential businesses. Since small businesses tend to be opaque in terms of their legal status and have high birth and death rates, their long-term engagement with associations tends to be weaker than other groups in general. This is also a common phenomenon in newly industrializing market economies where state coercion plays a crucial role in interest representation (okgezen 2000). Nevertheless, economic growth in Kazakhstan has widened business opportunities in recent years and a growing number of small and medium-sized businesses have sought further protection. The traditional

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state-sponsored chamber of commerce and industry (CCI) used to be the sole body in which businesses were grouped. Despite the continuing dominance of this structure, new solidarity groups are also emerging. An increasing number of business associations indicate that alternative mechanisms for solidarity are emerging and that they facilitate transactions and daily operations along with ad hoc groupings and rudimentary forms of solidarity. Permissive authoritarianism in Kazakhstan has recently fostered suitable conditions for business interest representation, as long as these business groupings remain politically neutral and peripheral to and/or not in competition against the major interests in sectors such as banking, rich mineral resources and oil exploration. The newly emerging associations are being shaped by the diverging needs and expectations of the second generation business elite. In 2005, there were nine business groups with headquarters in Almaty and some had branches in other towns as well.9 Many of these associations are run by charismatic well-connected businessmen, with good ruling party links, who establish and nurture a common pool of connections and networks for the expansion of business opportunities and new ventures among the member entrepreneurs. One of the most notable of these is the Independent Businessmens Group which was established on a novel structure by a former factory manager. The originality of IBG is that it is a businesses consultancy rm established on the basis of business solidarity. The IBG case elaborated below illustrates the nature of emerging business interest formation and consultancy services through horizontal business and social network expansion by entrepreneurs within a predominantly vertical power base. The IBG Business Case The founder and manager of the consultancy company called the Independent Businessmens Group is an energetic former manager of Karmet, one of the largest Soviet steel mills, in Termirtau near Karaganda. Mr Temir10 diversied his business knowledge and links while working in the construction sector for 20 years, followed by ve years of experience in banking. His 25 years of business experience in the state sector provided him with the necessary political links and a good understanding of economic matters. With the growing private business sector, he identied the lack of consultancy advice available in the market. Many of his friends sought his help in establishing a business or developing a new contact. Initially happy to oer advice to individuals and small partnerships, with time Mr Temir realized that his business skills and connections had value beyond one-on-one advising. He also realized that he could no longer manage these links and constant phone calls on his own. Thus, he decided

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to establish his own business, what now is the IBG consultancy. With only a few secretaries and accountants, the company originated in a small oce space in his native Karaganda in northern Kazakhstan in 1999. Mr Temirs business grew quickly and reached 1600 clients in 2005. In 2002 he moved the business headquarters to a large modern building in Almaty. In essence his business carries the characteristics of a consultancy company as well as a lobby group. The majority of clients are owners of SMEs from a variety of sectors. The largest single group consists of retailers of foodstus and convenience store owners (around 600). The early reputation of Mr Temir as a respectable member of the old guard and an eective contact to address business issues and bureaucratic problems grew quickly through networks of businessmen and clan relations; an eective social network provider in Kazakh society. The IBG became a popular address for accounting, business advice and bureaucratic handling. Growing small and medium-sized businesses increasingly sought to outsource routine accounting and paperwork to those who have resources to handle the complicated and opaque state bureaucracy. This made IBG popular. Mr Temir knew how to handle this demand and his business model was a success, with seven branches across Kazakhstan in Almaty, Karaganda, Petroplask, Uralsk and three smaller northern towns. Mr Temir is well positioned to take advantage of establishment power structures and also has access to critical primordial ties in Kazakh society. There are three key aspects of his business success. First, Mr Temir enjoys very important vertical connections, most importantly friendship ties with President Nazarbayev. Both worked at Karmet as comrades during the Soviet period.11 As friendship and clan ties matter to a great extent in business dealings, Mr Temir can leverage such connections and other strong links to the state bureaucracy. Second, as an experienced manager, he has good business aptitude and an understanding of the needs and expectations of the emerging entrepreneurial class. Third, he is a good communicator, network builder and a charismatic individual. These qualities make him a popular leader of the business community and liked by the political and bureaucratic elite. Moreover, Mr Temirs main headquarters provide good links to businesses through quick and open access to state bureaucracy and inuential ocials. As a display of power and respect for state authority, his oce, located in a new large building, is decorated in a stately fashion, with ocial desk xtures, maps and national symbols. Mr Temir spends hours nurturing connections with businesses and within the bureaucracy, while routine services are carried out by his 80-strong sta. He proudly proclaims that every new day is the beginning of another troubleshooting operation.

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IBG has a centralized accounting department employing 40 sta who advise as many as 500 businesses on accounting standards and problems. Making sense of accounting and tax law is a highly valued service for businesses because of the widespread irregularities and complications in the interpretation and implementation of the tax code. Those who receive these services can also get advice on new business ventures and market research at any time, providing that they pay additional charges above their membership fees. There are also legal advisers working with 80 fee-paying businessmen. Mergers and acquisitions are another area in which relationships are cultivated and deals are secured by Mr Temir through long negotiations and bureaucratic pinpointing. The IBG works closely with municipalities, which are important players in business formation and survival since they issue business permits and control land and building regulations. The exibility of IBG allows businesses to participate when they feel it is necessary. There is no electoral competition and Mr Temir is the business owner as well as a self-appointed popular representative and voice of the rapidly growing second generation entrepreneurs in his group.12 Emerging Business Elite There are informal channels of participation, political lobbying and socialization among the clients of IBG. The clients are attracted by the idea of being part of a solidarity network. These businessmen often feel the need for exible and non-binding cooperation in order to cope with the idiosyncratic state bureaucracy, constantly changing legal environment and other uncertainties of transition. This is all the more important as they are reluctant to unite their businesses or amalgamate in order to reach economies of scale. Strong social bonds cement loose business solidarity. Tribal and traditional symbols that are valued by Kazakh society are frequently used. Kazakhs, as do other Central Asians, devote enormous energy and importance to meals as a form of courtesy to others and eating is often a symbol of bonding. Dining, often with lots of alcohol, is one such important ritual area, where loyalty, respect and trust are expressed and forged between men. It is commonly noted that business deals and bonding ties cannot be struck without getting drunk with fellow businessmen. In addition to single-gender gatherings, many social occasions are also attended by children and spouses. Another common practice is to exchange gifts, signal tribal and geographical links and oer connections to common friends and colleagues. These exchanges begin to establish a base of trust and initiate new business opportunities and social networks for entrepreneurs in an open and exible manner.

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The IBG incorporates these social elements and provides a forum for further social exchanges and business transactions to its clients. As in the case of food retailers within IBG, cooperation can forge a signicant grouping which brings business advantages and social prestige to a subgroup. Knowing that a business needs to be enriched and solidied by social relations, IBG organizes many social activities for families, runs a modest football club, oers karate courses for children and issues a socially-oriented magazine for business members in both Russian and Kazakh in which all the groups activities are illustrated with photographs, alongside the business news. However, this emerging Kazakh business solidarity and business-based social networks exclude marginal people and the dispossessed. Social networks are most eective when they have dense and rich relations arising from the wealth and good connections of their participants. Increasingly, social networks of businessmen are being shaped by ties that are less socially inclusive but more conscious of wealth and power. There is now a widening gap between social groups and the new business elite, representing a deepening gulf between poor and rich social networks, exemplied by network opportunities, consumption tastes and cultural attitudes. Many emerging social networks built on business interests exclude the poor and the marginalized; among them many Soviet-era labourers and semi-skilled workers. Nazpary (2002) illustrates how in post-Soviet Kazakhstan class is increasingly playing a central role in social relations. Despite tribal and family solidarity, poor people are excluded as individuals cultivate social networks where they believe that they can trade relations, favours and exchanges. Dispossessed and marginalized Kazakhs have poor network endowments and consequently they have underprivileged networks, which are often abandoned by their more resourceful relatives. Another phenomenon is linked to the emerging Kazakh national identity where rural Kazakhs are looked upon as backward by their urban compatriots.13 Ethnic dierences in utilizing support networks deepen existing inequalities for Russians and other Slavs who do not have the extended family and clan relations of indigenous peoples.14 The eect of the government policy of soft Kazakhization,15 in response to the long-term marginalization of Kazakhs vis--vis other settlers, is also putting stress on professional and business development for non-Kazakhs.16 Loosening Top-down State Control The IBGs relationship with the state and bureaucracy is another example of changing state control over business and the loosening of the vertical

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command structures, as evidenced by its inuence among key power brokers. First, IBG is setting a good example to those who seek better treatment from ocialdom and less burdensome bureaucracy. The message is that through pressure groups and activists like Mr Temir, business will run more smoothly, with fewer day-to-day problems. Second, IBG forges impersonal trust and attracts more members than state-sponsored chambers of commerce. This helps to dissolve the top-down state control of businesses and their transactions through CCIs. The national CCI is nding it hard to attract new members although it operates 16 branches across the country and works as an extension of the state apparatus. Entrepreneurs appear increasingly less keen on being part of this bureaucratic organization. They seek to form smaller and stronger solidarity networks and associations where they can resolve matters more quickly in the absence of the intermediary role played by minor bureaucrats in CCI branches. In the third largest city after Almaty and Astana, and one of the main industrial centres, Karaganda, the Kazakh CCI was reduced to only 30 business members,17 in contrast to the 20 employees of the CCI oce. This high sta ratio can only be justied as a state employment policy in order to maintain state bureaucracy. The interpersonal ties of businessmen with various ministers and high-ranked bureaucrats determine the extent and importance of the service they obtain from the CCI. But, as IBG illustrates, businessmen are willing to pay a fee for external services, and value being part of a business network with many external benets. The chairman of one of the CCI branches took time o in order to help President Nazarbayevs December 2005 election campaign evidence of the extent of state co-option of the CCI and the degree of their involvement in the presidential system. However, this political involvement is not surprising as all CCI national chairs are appointed by the president. The CCI sta claim that their oces extend protection and justice to their members. This claim itself indicates the degree to which political protection matters for the day-to-day management of business. Nevertheless, there is a notable dierence between total state co-option in Uzbekistan and partially liberal state co-option in Kazakhstan. Not only the emergence but the success of a lobby and consultancy business like IBG indicates a new trend towards loosening top-down state control in Kazakhstan; allowing some room for manoeuvre in growing the SME sector.

CONCLUSION
In Kazakhstan there is a growing and dynamic entrepreneurial class. However, for more than a decade entrepreneurs, as practitioners and builders

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of a market economy, hid behind their personal ties and social networks in order to handle their day-to-day issues and address distorted law enforcement and weak institutions in turbulent periods of transition. In doing so they mainly utilized their instinct for survival, demonstrating a deep cynicism towards justice and the rule of law. After decades of imposed collectivization and communist ideological indoctrination, it is astonishing to note that there seems to be no societal and impersonal trust for collective action beyond tribal and family ties, as can be seen elsewhere in Central Asia (okgezen and zcan 2007). However, in recent years, while private businesses have been increasing in number, statemarket relations have started to change, with the formation of new interest groups. There are signs that old norms are changing along with new economic incentives, and business groups are increasingly interested in forging collective action to facilitate business transactions, to minimize bureaucratic hurdles and to limit state extortion. The emergence of business groups is a positive development in the direction of more complex economic relations and the evolution of denser markets. If such developments continue to generate business diversity, this might be the beginning of a new awakening for the steppe. The case study presented in this chapter illustrates the emergence of lateral organizations beyond kinship and family, which oer a sign of a new diversication of power structures that is overcoming the Soviet legacy of hierarchical and vertical command structures. While the Kazakh economy continues to perform well, the country is becoming an oil and gas hub between East and West. Although its positive economic performance is mostly resource-driven and the country remains subject to political uncertainties such as the opaqueness of the presidential succession and weak democratic institutions, along with loosening state control, the positive performance stimulates business diversication and a growing need for interest group representation. The Independent Businessmens Group shows that strong political careers can serve business interests and induce impersonal trust for prot. Where vertical power and authority is still important, political connections are used to solidify horizontal business interests. Thus, a mixture of primordial network relations and vertical political and bureaucratic structures creates new opportunities for business solidarity, especially when this form of interaction is permitted without direct state coercion or co-option. The ruling elite in Kazakhstan allows new formations as long as they pose no political threat to the regime. Thus, many entrepreneurs widen their opportunities in relation, and not in opposition to, the national elite in the market. The prevailing business norm is to accommodate the dominant powers that control economic resources as well as political incentives and tools. This is mainly because the positive spillover eects of this symbiotic

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relationship in the oil revenue-rich economy are much greater for SMEs than the alternatives of indierence or confrontation.

NOTES
The author is grateful to the Leverhulme Trust for its nancial support during the 200507 Research Fellowship, and to the EBRD micro-nance programme administrators, bank managers and consultants for their assistance throughout the eldwork. The comments and analyses of Ian MacWilliam, the former BBC Central Asia correspondent, have been immensely helpful. The author is also indebted to Funda Bilgi for her data analyses and to Aziza Zakhidova for her research assistance. Max Webers term, patrimonialism, refers to a system of rule based on administrative and military personnel who were responsible only to the ruler. Some analysts argue that post-Soviet states evolved into neo-patrimonialism after the collapse of the USSR (Ilkhamov 2006). Neo-patrimonialism is a term used for ruling groups patrons using state resources for their benet and also in order to secure the loyalty of clients in the general population. Neo-patrimonial states rest on informal patronclient relationships in politics and resource allocation in the economy. Pomfret (2006) oers a detailed analysis of Kazakhstans early rocky economic performance and reform path in the 1990s and explains how the oil boom has been a major contributor to the macroeconomic improvements of recent years. Kazakhstan is taking advantage of a new demand for diversication in energy supply routes by Western governments and major regional players such as China and India. This trend, combined with the new large oil reserves discovered in Karachaganak in the Caspian Basin, contributed to the growing attraction of Kazakhstan and the Baku-TbilisiCeyhan pipeline for Western oil companies and markets. With the newly planned routes and those that are under construction, Kazakhstan is expected to be at the centre of major energy routes between Asia and Europe, challenging the long-term domination of Russia. During his visit to the UK in November 2006, Nazarbayev signed agreements with the London Stock Exchange to boost Almatys nancial status in Central Asia. Four Kazakh companies are currently listed on the London Stock Exchanges main market, and a further ten companies with operations in Kazakhstan are quoted on AIM. Kazakh companies have raised a total of $4.2 billion in 2006 (see http://www.londonstockexchange.com/en-gb/about/Newsroom/pressreleases/2006/kazakh.htm, accessed 2 December 2007). Several major state funds were brought under Kazyna JSC. These include the Development Bank of Kazakhstan, the Investment Fund of Kazakhstan, the National Innovation Fund, the Centre of Engineering and Transfer of Technologies, State Export Credits Insurance and Investments Corporation, the Fund of Small Business Development, the Centre for Marketing and Analytical Research, and Kazinvest. Interview with the BBC correspondent to Central Asia, Ian MacWilliam (October 2005), Almaty. In Uzbekistan, many craftsmen and businesses are co-opted into state-sponsored chambers of commerce and crafts associations. The following associations have oces or representatives in Almaty: the Independent Businessmens Association, Association of Construction Companies, Employers Confederation of Republic of Kazakhstan, Kazakhstan Association of Logistics Companies, Association for the Development and Support of Construction in Kazakhstan, Kazakhstan Tourism Association, the Association of Manufacturers and Service Companies in the Oil and Gas Sector, Kazakhstan Entrepreneurs Forum, the Association of Markets and Entrepreneurs of Kazakhstan. This is a pseudonym.

1.

2.

3. 4.

5.

6.

7. 8. 9.

10.

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11.

67

12. 13. 14. 15. 16.

17.

Olcott (2002) notes that Nazarbayev worked in Karmet (Karaganda Metallurgical Combine) for ve years from 1965 to 1969. Karmet was the sixty-seventh largest steel mill in the world when it was privatized and sold to Ispat, the Indian steel giant in mid1995 (ibid., p. 140). Ispat-KarMet eventually became Mittal Steel Temirtau. Interview with the chairman of the Independent Businessmens Group (October 2005), Almaty. There are many ethnic slurs among Kazakhs as well as between Kazakhs and Uzbeks. As Nazpary (2002) explains, the terms backward and stupid were used by Russians to insult Kazakhs while urban Kazakhs use these terms for their fellow Kazakh villagers. Interview with the BBC correspondent of Central Asia, Ian MacWilliam (October 2005), Almaty. Kazakhization refers to increasing inuence of ethnic Kazakhs in state aairs and private businesses reducing the traditional domination of Russians and other Slavs in the upper echelons of bureaucracy and management. The Kazakh leadership embraces the multi-ethnic character of the country in public discourse. However, there has been a concerted eort to mobilize young Kazakhs to responsible positions in government and business. This policy is in response to the disproportional domination of Slavic people in urban occupations, bureaucracy and managerial positions during the Soviet era. Interviews with the former marketing manager of Karaganda CCI and the chief administrative ocer (October 2005), Karaganda.

REFERENCES
okgezen, M. (2000), New fragmentations and new cooperations in the Turkish bourgeoisie, Environment and Planning C: Government and Policy, 18, 52544. okgezen, M. (2004), Corruption in Kyrgyzstan: the facts, causes and consequences, Central Asian Survey, 23 (1), 7994. okgezen, M. and G.B. zcan (2007), Coping with uncertainties through personal enterprises: Turkish entrepreneurs in Kyrgyzstan, paper presented at ICBME07 (International Conference on Business Management and Economics), June, Izmir, Turkey. Collins, K. (2006), Clan Politics and Regime Transition, Cambridge: Cambridge University Press. Crews, R. (2006), For Prophet and Tsar: Islam and Empire in Russia and Central Asia, Cambridge, MA: Harvard University Press. Cummings, S. (2005), Kazakhstan: Power and the Elite, London: I.B. Tauris. DEncausse, C.H. (2002), Systematic conquest, 1865 to 1884, in Edward Allworth (ed.), Central Asia: 130 Years of Russian Dominance, a Historical Overview, 3rd edn, Durham: Duke University Press, pp. 13151. EBRD (2005), Transition Report 2005: Business in Transition, London: European Bank of Reconstruction and Development. EBRD (2006), Transition Report Update May 2006, London: European Bank of Reconstruction and Development. Ertz, S. (2005), The Kazakh catastrophe and Stalins Order of Priorities, 19291933: evidence from the Soviet secret archives, Stanfords Student Journal of Russian, East European and Eurasian Studies, 1 (Spring), 114. Ilkhamov, A. (2006), State elites, interest groups and patronage networks: the governance deadlock in Uzbekistan, paper presented at Governance, Market

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Reforms, and Security in Central Asia and the Caucasus: Perspectives, Predicaments and Impasses, Conference, 10 November, School of Oriental and African Studies, London. Loung, P.J. (2002), Institutional Change and Political Continuity in Post-Soviet Central Asia, Cambridge: Cambridge University Press. Loung, P.J. (2004), Economic decentralisation in Kazakhstan: causes and consequences, in P.J. Loung (ed.), The Transformation of Central Asia: States and Societies from Soviet Rule to Independence, Ithaca: Cornell University Press, pp. 182210. Nazpary, J. (2002), Post-Soviet Chaos: Violence and Dispossession in Kazakhstan, London: Pluto Press. Olcott, M.B. (2002), Kazakhstan: Unfullled Promise, Washington, DC: Carnegie Endowment for International Peace. Olson, M. (1971), The Logic of Collective Action, Public Goods and the Theory of Groups, Cambridge, MA: Harvard University Press. zcan, G.B. (2006a), Restless entrepreneurs of Central Asia: a typology, paper presented at the GBATA (Global Business and Technology Association) Conference, 28 June2 July, Moscow. zcan, G.B. (2006b), Djamilas journey from kolkhoz to bazaar: female entrepreneurs in Kyrgyzstan, in F. Welter, D. Smallbone and N. Isakova (eds), Female Entrepreneurship in Transition, Aldershot: Ashgate, pp. 93115. Pomfret, R. (2006), The Central Asian Economies since the Independence, Princeton, NJ: Princeton University Press. Schatz, E. (2004), Modern Clan Politics: The Power of Blood in Kazakhstan and Beyond, Seattle: University of Washington Press. Shayakmetov, M. (2006), The Silent Steppe, London: Stacy International. Soucek, S. (2000), A History of Inner Asia, Cambridge: Cambridge University Press. Welter, F., T. Kautonen, A. Chepurenko, E. Malieva and U. Venesaar (2004), Trust environments and entrepreneurial behaviour explanatory evidence from Estonia, Germany and Russia, Journal of Enterprising Culture, 12 (4), 32749.

5. Surviving uncertainty through exchange and patronage networks: a business case from Kyrgyzstan
Gl Berna zcan
INTRODUCTION
Economic and political uncertainty in transition hampers economic development. Yet uncertainty also creates new opportunities for entrepreneurs and can bring massive gains in emerging market economies from the many gaps that exist in the chain of production, service delivery and consumption. However, managing uncertainty is a crucial day-to-day challenge for entrepreneurs, especially when property rights are not fully secured, legal and institutional structures are weak and enforcement is arbitrary. Social networks are often the most reliable and ecient ways of dealing with pervasive uncertainty and day-to-day business problems for entrepreneurs. As we illustrate in the following case study from the tourism industry in Osh, located in southern Kyrgyzstan, such networks provide a degree of stability and opportunities for businesses to develop. In this chapter we illustrate the ways in which innovative entrepreneurship emerged during the meltdown of the Soviet command structure and its industrial base. This is accompanied by governance issues related to the weak state capacity in the newly independent states of Central Asia. However, entrepreneurial innovativeness in post-Soviet transition takes markedly dierent forms and demonstrates dierent characteristics than would be found in its counterparts in capitalist Western societies. The innovative challenge in transition countries tends to be less concerned with technological and product development and more profoundly based on managerial ability to deal with uncertainty in business start-up and to develop a successful survival strategy. On the one hand, the business strategy in peripheral states of the former USSR has to cope with inherited Soviet distortions in resource allocation and factor endowments, while on the other hand, it has to accommodate weak states and arbitrary law enforcement.
69

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The Soviet territorial distribution of industrial plants, control of professional cadres with limited geographical mobility and the dominant command structure created inherent rigidities for post-Soviet market transition. For decades individuals remained dependent upon state allocation and quotas for their career choices and services such as employment, education and housing. Job security and service provision provided a degree of stability, albeit with limited mobility and personal choice. These conditions also deepened the territorial specialization across the USSR and increased functional dependency on one or a few economic units in many peripheral cities. As one such town in Kyrgyzstan, Osh suered a serious economic blow when old industries collapsed. The Soviet command economy and central planning resulted in the creation of distorted urban economies where a single enterprise or a very few companies were often the sole source of skills, incomes and jobs.1 The situation in Osh was less severe than that of the Kazakh single-factory towns where the whole working population was employed in massive factories and in eect the towns functioned as the factorys dormitories.2 Still, the closure of the cotton gins, the silk factory and the pump production rm, each of which employed ve to eight thousand workers during the Soviet era, brought deep economic recession to Osh.3 There were huge lay-os, and small trade became the sole income source for thousands of unemployed inhabitants of Osh. Instead of choosing to engage in trading activities in crowded bazaars like many other women, our case study entrepreneur, Aigula, built a new business against all odds by establishing one of the rst guesthouses in Osh. She chose to operate in a eld where she did not have any prior expertise but she recognized the future potential of tourism. She established her business by applying to a small privatization scheme and gaining the ownership of a former store. As discussed in more detail in the case study, this example shows that dierent forms of innovative entrepreneurship can emerge even when there is no obvious market for goods and services provided. In evolving sectors such as tourism, the creativity and practical thinking of local entrepreneurs lled the vacuum left by crumbling state-owned resorts in Kyrgyzstan. Another aspect of this business case addresses how the entrepreneur dealt with uncertainty through imaginative and innovative use of her existing social networks for business start-up and survival. However, building a business in a post-Soviet state meant coping with market distortions often linked to favouritism and unequal access to resources. In this respect, the case study also illustrates how the social status obtained in the Soviet system aected post-Soviet business survival and success through the use of exchange and patronage networks. This chapter is divided into ve sections. In the following section, we will briey outline the state of the Kyrgyz economy. This is followed by an

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analysis of the business environment with specic attention paid to the tourist industry. The third section provides a discussion on the ways in which exchange and patronage networks are used for business start-up and survival in Kyrgyzstan. In the fourth section, a detailed account of Aigulas strategy in establishing her guesthouse will be examined with a specic focus on her ways of dealing with uncertainty through the use of networks. The chapter ends with a conclusion that highlights the importance of patronage and exchange networks in the business environment but also stresses the risks of entrenchment imposed by network closure on market opportunities and fair business.

POST-SOVIET TRANSITION IN KYRGYZSTAN


As one of the small landlocked former Soviet states in Central Asia, Kyrgyzstan gained its independence when the Soviet Union (USSR) was dissolved in 1991. The country is surrounded by three Soviet successor states, Tajikistan, Uzbekistan and Kazakhstan, and China borders on the east. The Kyrgyz Republic was a product of Soviet power consolidation in Central Asia when national delimitation in 1924 created autonomous republics with new borders and Soviet-assigned national identities. Throughout the rst two decades of the USSR, communism was transplanted through mostly European and Slavic activists (Park 1957). Subsequent power consolidation of the regime eliminated reformist nationalist intellectual movements and all armed resistance of the indigenous population (dEncausse 2002). The longterm negative consequence of Soviet power building in Central Asia was the loss of an emerging national consciousness and indigenous reformist movements as well as an entrepreneurial class that had been forming since the early nineteenth century among both the settled and nomadic societies of Central Asia (Sabol 2003; Park 1957). Following the settlement of Slavic and European populations by the Russian colonial rulers in the nineteenth century, the forced migration practices and deportations of Stalins regime dramatically altered the ethnic composition of the country. This process made Kyrgyzstan one of the most ethnically heterogeneous states in the region in which the titular group, the Kyrgyz, constituted only half of the total population of 4.5 million. In addition to a large number of Slavs and Volga Germans, Caucasians and Koreans, the country is also now home to many Turkic peoples including Tatars, Uzbeks, Uyghurs, Kazakhs and Meskhetian Turks.4 The ethnic composition has changed again since independence as many Germans and Slavs have left the country due to worsening living conditions and rising unemployment.

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The Soviet regime was broadly successful in converting Muslim Central Asians into loyal citizens through economic and political incentives. But, for the most part Central Asia remained a source of raw materials and agricultural products for the USSR economy and its low rates of urbanization depended on the movement of industrial and professional workers from Russian lands (Wheeler 1960; Menges 2002).5 Regionalism was an important policy tool in Soviet governance. Loungs study (2002) illustrates how regionalism was used to reinforce the territorial power consolidation of the USSR through administrative structures, economic specialization, and the creation and expansion of national elite cadres. Regionalism not only created competition between regions within the same autonomous republics but also contained tribal and religious social structures through patronclient relations within Communist Party politics. At the national level, economic specialization was based on a division of labour among the Soviet Republics. Despite the eorts of economic planning and awareness of regional economic imbalance by the Communist Party, the western regions of the USSR continued to grow faster and attract more industrial investment than the mostly rural south (Granick 1960). Regional specialization led to mono-economies like that of cotton in Uzbekistan and animal husbandry and hydro-electric power in Kyrgyzstan. At the autonomous republic level, ocials acted essentially as mediators and brokers between Moscow and the various regional leaders to extract the maximum amount of production. Regional leaders had to achieve economic performance according to set targets. Consequently, the power and prominence of national and regional leaders would be dened according to these output maximization incentives (Granick 1960; Loung 2002, p. 67). Consistent with the Soviet structure of competing regions, Kyrgyzstan was divided into dierent industrial, ethnic and agricultural endowments between north and south. The ethnic Kyrgyz were spread between the industrial and urban north, which was dominated by Russians and other Slavs (in particular the republics capital, Frunze, now called Bishkek, and Chui Oblast) and the agricultural south, which was Uzbek-dominated. There was very little mobility between the two. The Kyrgyz economy was heavily cross-subsidized by the central administration of the USSR. After independence, the government replaced this loss of cross-subsidy with international aid and consequently relied on aid agencies and other donors to sustain the livelihood of the Kyrgyz population and the viability of the state.6 Extensive borrowing led to increasing levels of accumulated debt (Pomfret 2006).7 As shown in Table 5.1, the 2004 GDP and aid dependency gures indicate that Kyrgyzstan, with less than $400 per capita income and high external debt, is one of the poorest and most indebted countries among the Commonwealth of Independent States

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Table 5.1 Kyrgyzstan and the Commonwealth of Independent States, 2004


Population Land area (sq. km) GDP per capita (constant 2000 US$) 951.92 945.34 1 695.19 882.73 1 818.00 324.59 399.62 2 285.78 223.33 752.50 928.16 638.50 Aid (% of imports of goods and services) 14.21 2.48 0.27 11.92 1.20 20.87 5.23 0.85 16.01 n/a 1.00 n/a

Armenia Azerbaijan Belarus Georgia Kazakhstan Kyrgyzstan Moldova Russia Tajikistan Turkmenistan Ukraine Uzbekistan

3 026 089 8 306 400 9 824 469 4 517 981 14 993 529 5 092 802 4 217 911 143 849 568 6 430 265 4 766 009 47 451 292 26 209 056

28 200 82 600 207 480 69 490 2 699 700 191 800 32 870 16 380 980 139 960 469 930 579 350 425 400

Source: World Bank development indicators accessed via Economic and Social Data Services (ESDS) 2006.

(CIS). Kyrgyzstan has also the highest ratio of dependency on aid, measured as a percentage of its imports of goods and services (20.87 per cent). In the immediate aftermath of its independence, most of the Soviet-era industrial establishments collapsed in Kyrgyzstan. There were a variety of reasons for this, including the loss of subsidies, but the main reason was the dissolution of systems of production distribution throughout the USSR. Once quiet autonomous state borders became symbols of a new assertiveness among the emerging independent states and neighbours established divergent customs regulations and border controls that hampered trade between former Soviet republics. For these reasons, and because of changing regimes of taxation, currency and foreign policies, most Soviet-era industrial complexes were rendered unviable. They also became technologically obsolete. Kyrgyzstan, landlocked in Central Asia, was left without new markets or overseas connections after the dissolution of the Soviet economic network. The largest single enterprise, a sugar renery, was no longer viable once it lost Soviet subsidies and its link to Cuban sugarcane growers (Pomfret 2006). Hastily established and poorly administered privatization programmes brought about the collapse of most large enterprises less than a

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decade after independence. Thousands of unemployed people were forced to make a living through small trade activities, although some of these grew to form the largest international retail and wholesale hubs in Central Asia, such as the Dordoi, Osh and Kara-Suu bazaars. At the same time, criminal activities in illegal trade and racketeering soared (zcan 2006; Madi 2004).

UNCERTAINTY AND BUSINESS: THE CASE OF TOURISM


Major economic and political transitions foster uncertainty and bring additional costs for businesses. With the collapse of the command economy and Communist Party control of the USSR, the newly independent states of Central Asia have undergone a process of de-industrialization and the partition of state assets. De-industrialization led to the closure of Soviet manufacturing plants, which led to massive job losses, while dissolution of the Soviet state resulted in the extreme deterioration of the rule of law and the quality of public services. Over the past decade and a half, authoritarian presidential regimes have replaced centralized Communist Party control and deepened what had already started during the period of perestroika; the monopolization and re-allocation of economic resources into the hands of the business and political elites (Buiter 2000). While numerous attempts to build a market economy and a legal system modelled on capitalist countries have been made over more than a decade in Kyrgyzstan, arbitrary rule, self-regulatory groups and corruption still dominate Kyrgyz society. This climate hinders indigenous business creation and dissuades foreign investors. Because of the lack of job opportunities, thousands of Kyrgyz leave their country every year to seek employment in Russia, Kazakhstan and elsewhere. A recent EBRD report veries the increasing dependency on workers currency transfers and remittances among the transition countries as a form of poverty alleviation and micro-nance (EBRD 2006). In Kyrgyzstan, workers remittances accounted for around 9 per cent of GDP in 2004 (ibid.). Since many informal transactions occur in addition to formal money transfers and banking procedures, the true gure is likely to be much higher. Following the recent restrictions on foreign workers in Russia, the Kyrgyz government decided to restrict foreign traders in Kyrgyz bazaars to address growing discontent with the entrepreneurial activities of foreigners, including Chinese, Uzbek and Turkish traders.8 Tourism in Central Asia suered from the economic and political upheavals that occurred during the transition process. The number of tourists visiting Central Asia declined dramatically. This trend is most

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sharply observed in Uzbekistan, which was an important hub for intraUSSR tourism in the region, hosting a million visitors each year. In 1990, Uzbekistan still attracted more than half a million tourists (Airey and Schackley 1997). However, due to the Uzbek governments stringent customs and border controls, industry representatives predicted that the number of tourist visiting the country would drop to around 50 000 in 2005, indicating a situation far worse than that portrayed by ocial statistics.9 This negatively aected Kyrgyz tourism as well. Soviet tourism and Silk Road tours were initially interconnected but they are now disrupted by bureaucratic hurdles since border crossings have become much harder. The Uzbek government introduced stringent customs controls on its borders following the Tashkent bombings in the late 1990s. The Fergana Valley has been under a security blockade since the Andijan protests and the subsequent killing of armed rebels along with hundreds of civilian protesters by Uzbek forces in 2005. Despite adverse regional circumstances during the second decade of its independence, tourism in Kyrgyzstan began to be shaped by more international exposure, a consumer-driven focus and an emphasis on indigenous culture. Instead of the large state-run organizations of the old system, there emerged many decentralized enterprises and smallholdings along with a few foreign operators. Opening the borders of the former Iron Curtain resulted in more international tourists eager to explore the riches of the Silk Road and the untouched beauty of the highlands of Kyrgyzstan. There has been a recent rise in regional tourism coinciding with the ourishing border trade, most notably by Kazakhs (Table 5.2). With economic recovery and the stabilization of currencies, in 2000 tourism from the CIS countries began to increase. The ocial statistics are not always clear or consistent about the composition of these gures, but tourism and recreation do appear to be oering economic opportunities in Kyrgyzstan. Although they only constituted 3.1 per cent of GNP in 2005, the spread and the number of tourism-related establishments is currently increasing (Tables 5.2 and 5.3). Shuttle trade with Kyrgyzstans neighbours is a major contributor to spending and tourism. The large bazaars, such as Dordoi and Kara-Suu, are lled by Russian, Kazakh, Uzbek and Chinese traders among many others; such retail and wholesale transactions, in addition to overnight stays, also foster recreational tourism by traders and their families. As seen in Table 5.2, the ocial statistics indicate a sharp increase in the number of tourists visiting the country from 2003 onwards. The number of tourists surpassed half a million in 2004 and in 2005 the number of enterprises reached over 4700. Tourists from outside the CIS are mostly from Western Europe, the US and Japan. These non-CIS tourists are

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Table 5.2
Indicators

Tourism indicators in the Kyrgyz Republic, 200205


2002 3918 3019.7 4.0 1357.1 1691.3 1143.8 35.7 2003 4261 3010.9 3.6 739.5 1930.8 1469.9 47.8 2004 4479 2005 4771

Number of registered enterprises rendering tourist services The total added value in the sphere of tourist activity (millions of som) Percentage of gross national product (GNP) Investments in xed capital in the sphere of tourism (millions of som) Turnover of retail trade in the sphere of tourism (millions of som) Turnover of restaurants, bars, cafs, others (millions of som) Export of tourist services that is, the income received for the reception of foreign citizens Inbound tourism (millions of US dollars) The number of foreign citizens arriving in the country (thousands)

3592.2 2288.1 3.3 988.8 3.1 584.9

1566.9 1709.5 1196.6 1457.7 58.7 55.8

139.6

211.3

737.7

601.1

Note: For comparison purposes: US$1 approximately 40 som; and 1 approximately 55 som. Source: The National Statistics Committee of Kyrgyzstan (2006).

Table 5.3 The number of tourist establishments in the Kyrgyz Republic, 200204
2002 Total number of tourist establishments Sanatoria Boarding houses Resthouses Campsites Childrens activities Hotels Tourist agencies, tour operators and travel agencies 325 37 55 11 11 45 84 80 2003 349 46 58 11 7 39 79 103 2004 379 44 53 11 9 38 101 115

Source: The National Statistics Committee of Kyrgyzstan (2006).

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increasingly attracted by adventure and nature tourism. The number of foreign tourists quadrupled between 2002 and 2005, coming mainly from Russia and Kazakhstan, indicating a reversal of the earlier dissolution of tourism patterns from the CIS countries. However, most tourism businesses, as well as international tourists, tend to be concentrated in the capital city Bishkek and on the northern shores of Issik-Kul, an alpine lake that was popular during the Soviet period and is now one of the main attractions for Kazakh and Russian tourists. The accessibility of summer resorts around Cholpon-Ata on lake Issik-Kul, only a few hours drive away from Almaty, the former capital city of Kazakhstan, makes them popular with increasingly auent Kazakhs. New ski resorts and nature tourism are also developing around old Soviet resorts in the town of Karakol, on the eastern end of the lake (MacWilliam 2006). Table 5.3 shows the range of Soviet recreation activities. In addition to hotels, sanatoria, boarding houses and childrens camps were the most common forms of holiday provision for state employees during the Soviet era. Over the years these old establishments declined. Summer camping and holiday activities for children suered the most. The major change came with the growing number of tour operators and travel agencies. However, there are three main sources of business uncertainty in tourism. The most common form is related to governance problems in dening and protecting property rights. With the collapse of the Soviet Union, many recreational facilities were privatized, but rarely found competent owners or new owners were exploited by gangs. Many large old establishments were eventually divided up oor-by-oor to be rented as business premises. Since property rights are not well dened and protected for resort owners, self-governing groups such as racketeers and gangs inuence transactions and determine ownership rights. More recently, tourism became another way to hide illicit earnings, to build inuence and to channel money for self-governing groups. Our interviews and other anecdotal evidence show that illegal earnings are being camouaged by investments in new restaurants and hotels (Madi 2004). The political power and inuence of self-governing groups appear to be intertwined with the ruling elite and diused into the state apparatus. Thus, businesses face dual governance distortions; state absorption through bureaucratic corruption and illicit group inuence and extortions. Second, demand-related uncertainty is linked to larger-scale economic and political distortions that create unpredictable booms and busts in the demand structure. Businesses need customers to survive, and there is neither a regular ow nor a fair spread of tourists beyond the Issik-Kul region in Kyrgyzstan. Due to little eort on the part of mass tourist operators and the ignorance of foreign tourists about a region that has long

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been a distant backwater, large Soviet-era hotels initially failed to attract sucient customers to meet their capacity. Furthermore, many of these large establishments either failed to nd competent, genuine investors or simply could not survive the slow emergence of the market economy and the decline in intra-CIS tourism. In other instances, the establishments were stripped of their assets by racketeering groups, including the removal of their dcor and furniture, and left abandoned as ghostly, massive concrete blocks. The third form of uncertainty is linked to the supply-side distortions in terms of market provisions of private and public goods. Unexpected electricity and gas outages or restrictions, a limited range of consumption goods, and poor public services all create day-to-day management problems and long-term uncertainty that businesses have to address in order to maintain their products or services. Other problems include the lack of credible banking services and saving schemes, poor urban infrastructure and inadequate transportation and health provision. All these are common problems that businesses face and they have to bear additional costs in tackling them. Overall, in the hospitality business, the poor provision of essential public services hinders the scope of tourism and business growth.

WEAVING A BUSINESS THROUGH EXCHANGE AND PATRONAGE NETWORKS


The use of social networks and local ties has long been recognized in the literature as a common phenomenon and an important practice for small rms. Many researchers point out the positive link between business success and business networks enhanced by social relations (Aldrich and Zimmer 1986; Triglia 1989; Curran et al. 1993). However, scholars dier in interpreting and analysing the merits and denition of social networks and their physical and social limits. The size of networks and type, density and frequency of links and boundaries within and between various networks are not easy to identify. Fluidity of social relations makes this even harder. Szarka (1990) limits the denition of networks to focus on networks of exchange, communication and social relations. Granovetter (1985) pointed out the way in which economic action was embedded in social relations and networks. In most small-business studies, the network structure is identied with the entrepreneur and his/her social and business relations. Entrepreneurs often use their existing social networks and develop new ones in their day-to-day experiences. Business and social networks overlap and enhance survival, growth and innovation (Robertson et al. 1996). However, the notion of networks as a

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benevolent support and even an impetus for innovation is challenged by empirical evidence from dierent cultures. Social networks might also hinder innovative entrepreneurialism, nurture conformity and bring inertia (zcan 1995). In the transition context, as in developing economies, where there are weak institutional structures and law enforcement, social ties and networks become paramount to enterprise development and business survival (Ledeneva 1998; Welter et al. 2006; zcan 2008). Social networks play a crucial role in ameliorating market distortions and providing access to jobs in the labour market in post-Soviet transition (Tartakovskaya and Ashwin 2006). Social networks also played an important role during the Soviet era in alleviating supply and demand distortions and widening economic opportunities for individuals and tribal or regional groups. Patronage and exchange networks emerged as the most commonly observed forms. First, exchange networks developed through bartering as workers and managers began to appropriate and exchange public goods and factory products. This practice existed, but was not widespread until the 1950s, and deepened during the Khrushchev years. Patronage relations between Moscows national party leaders and their regional clients became widespread during the Brezhnev era. Increasing household incomes and growing urban demand encountered only a limited supply of poor-quality goods and badly-planned distribution. From the 1970s, while urban incomes increased, the availability of consumer goods remained limited in range, quality and provision. Thus, bartering and shuttle trade played an important role in alleviating Soviet distortions in the supply and demand structure (Werner 1998; Ykseker 2003; Bal 2004). Patronage networks were based on the use of inuence and contacts to obtain positions through political patronage and were built into the administrative and party mechanism. As Loung (2002) shows, this was situated within the structure of Soviet regionalism. As with bartering, the Brezhnev years witnessed an increased inuence of patrimonial patronage networks in resource allocation and governance. All three major Central Asian states were ruled by long-reigning leaders: Rashidov (195983) in Uzbekistan, Kunaev (196486) in Kazakhstan and Usubaliev (196185) in Kyrgyzstan. Between 1960 and 1980 patrimonial patronage networks were legitimized at national and regional levels as loyal leaders delivered the required output and negotiated their gains with Moscow (Ilkhamov 2004). The administrative and enterprise decentralization initiated during perestroika, under the leadership of Gorbachev, deepened and spread the corruption further (Buiter 2000). Illicit use of personal relations, known as blat, became part of patronage networks as the main method of distributing resources (Ledeneva 1998). Families frequently used personal connections

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and friendship ties to nd housing, obtain a job, advance their careers, and even get their children into a university (Nazpary 2002). After the dissolution of the Soviet Union, the patronage networks deepened while exchange networks transformed along with market changes in an eort to counter the shortage of cash and the mismatch of demand and supply. Increasingly, these two networks overlapped and layered as they became the legitimate source of power and status in post-Soviet societies (zcan 2008).

THE CASE OF AIGULAS GUESTHOUSE


Aigula runs a pleasant, income-generating guesthouse in Osh, Kyrgyzstans second largest city. Osh sprawls across the banks of the Ak-Buura (White Camel) River, owing out of the majestic Pamir Mountains. It is the administrative centre of a rich agricultural hinterland at the eastern end of the Fergana Valley. Locals claim the city to be older than Rome and it was certainly a major hub of the silk route trade. The most famous symbol of the town is the so-called Solomons Throne, a rocky hill in the middle of the city. Babur, the founder of the Mughal dynasty in India, sought refuge in a cave in Solomons Throne when he was eeing his native Andijan, a nearby town across the border in what is now Uzbekistan. A blend of sedentary Uzbek and nomadic Kyrgyz traditions survive in the city, where there are also a small number of Tajiks, Uyhgurs and other inhabitants.10 However, despite these qualities, the town is far from the capital city and the major tourist attraction, Lake Issik-Kul. At the age of 58 Aigula wakes up every morning at 6 a.m. and after jogging she goes to her vegetable garden where she grows fruits and vegetables, including melons, corn and berries. Then she prepares breakfast for her guests. While the guests eat, a casual worker cleans their rooms. After working for 30 years for state-run stores and cooperatives as a sales manager, Aigula has recently discovered the world of tourism. Her guesthouse is situated on the ground oor of a massive ve-oor apartment block near the main road connecting Osh to Bishkek. The area formerly inhabited by members of the Soviet elite is now lled with large newly-built houses surrounded by gardens and allotments. There is no sign outside the building or on the road announcing the location of the guesthouse for visiting tourists or potential customers. But as Aigula works with the Community Based Tourism (CBT) network, customers are brought by a local representative.11 The immediately striking characteristic of this guesthouse is the immensity of its space and its high ceilings. Aigula decorated the interior with Western-style furniture and hung heavy curtains

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at the huge windows. She furnished four guest bedrooms, with two shared bathrooms, a dining room and a lounge. She lives with her husband in the same apartment building.12 The business was built gradually after she and her husband secured the ownership of the property in 2001. Her business has developed well and provides a decent and stable income. Aigula plans to expand the business further and establish a small hotel if she can buy the large apartment next door. This massive rst oor could provide sucient space for a decent ten-room hotel. Aigula utilized both exchange and patronage networks in order to set up and manage her business. For the past decade and a half her life has been turbulent. She was laid o from her job, and engaged in subsistence agriculture before getting involved in tourism. She says that she felt as though a massive haze had descended on my life and that she was terribly distressed for weeks. She recalls those days: . . . as if my life was shaken by a huge tremor, all structures and routines were suddenly in ruin. It was hard for her husband as well, who was a minor administrator in a kolkhoz cooperative and the chairman of the Communist Youth and Sport Organization, Alga-Kyrgyz SSR. They both had to nd a new way to survive and to instil meaning into their lives. They used their long-standing Soviet-era exchange networks to obtain food, clothes and other amenities. During the last decade of the USSR these exchange networks became as acceptable as they were common. Aigulas husband would exchange kolkhoz products for smuggled electronic or branded goods and cigarettes while Aigula was able to trade some goods from the store she worked for. For example, she would trade cotton oil in lieu of payment for cured meat, imported utensils, garments and so on. These exchanges did not constitute a business venture but were just a way of getting by and of obtaining goods they would not be able to nd in the local market. Most of the people they traded with were their friends, co-workers and relatives or others linked to them in a loose social network. During the early 1990s, those who were involved in the growing shuttle trade helped to obtain necessities at a time when there were severe shortages of many essential goods winter coats, garments, blankets, shoes and foodstus. Aigula says: we had to learn to live on our own. She and her husband beneted from their small but deepened social network to rebuild their lives and developed a set of exchanges based on mutual interest and trust. Aigula, her husband and her sister bought a two-hectare plot from the kolkhoz and grew cotton and sunowers. Her husbands and sons contacts helped them to market their crops and with these savings Aigula redecorated the store space as a guesthouse. Indeed, Aigulas social ties were enhanced and determined by the degree of trust her friends and relatives oered in exchange for goods and favours. Her close supporters

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Table 5.4
Sources of uncertainty

Aigulas strategy of coping with uncertainty through networks


Patronage networks Securing property with privatization through Communist Party and Youth League contacts Solving problems with bureaucracy and inspectors through protection Building reputation and connections via business patronage Using the CBT network Seeking privileges in public service delivery to deal with the shortage of goods and amenities Building leaner and more eective networks Exchange networks Favouring powerful bureaucrats through social networks Solidarity against the absorption through illicit groups Limited public exposure Solidarity with the CBT friends Diversifying income with parallel ventures Bartering and exchanging goods and services Alternative solutions to scarcity and poor quality of public goods and banking

Governance and property rights

Demand-side distortions

Supply-side distortions

included female as well as male contacts and relatives such as her sister, daughter-in-law, the CBT coordinator, two neighbours, several former coworkers and members of the former Communist Party and the local youth organization. In order to obtain seeds and fertilizers she relied on her sons contacts along with a small number of good friends for credit sales, transport and marketing. A friend of Aigulas daughter-in-law rst introduced her to the CBT and she developed the business idea through these contacts. With time Aigula linked into the CBT network. By utilizing these social ties Aigula was able to deal with all three forms of uncertainty characteristic of the transitional environment in Kyrgyzstan (see Table 5.4). She dealt with the rst form of uncertainty by securing the property rights of a huge at when it was privatized. This at was formerly a big stateowned store where Aigula worked as a sales manager and she was able to gain control of it when it was privatized. For this she used her access to the party patronage networks through her husbands link to the Communist Party and the Communist Youth and Sport Organization. As an insider she was better informed and knew how to take advantage of the privatization scheme. As soon as she realized that the site was going to be sold, she contacted the governor, whom she had known since her childhood. She pleaded

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83

with him that acquiring the site would be the only way for her to survive economically. Her husband used his former party channels and friends to lobby further. The couple eventually succeeded in their attempts. Aigula worked out how to nance the deal through her savings and also borrowed money from relatives. In addition, she nanced the decoration of the at through income generated from farming along with short-term credits from close friends and her sons. Currently, charging US$20 per night, she oers a comfortable room, hot water and shower as well as a simple but good breakfast to her customers. Even if she nets only $100 a month she says she can survive easily, supplemented by the exchange of goods with her friends. Annually, Aigula earns from $5000 to $7000. This income was well above the average monthly salary of $2030 of a civil servant in 2004. Her business is registered with the CBT and she operates using a patent, a tax status given to small-business owners by the state. However, she fears gangs and other predators and thus keeps a very low prole. That is why there is no sign or advertisement about her business in front of the apartment block or in the entrance. She believes that the government should support businesses and should eliminate corruption in the state bureaucracy. Yet, at the same time, her business survival is also dependent upon the idiosyncratic protection oered by various contacts she enjoys in the bureaucracy. The second form of uncertainty associated with demand-side problems and uctuations has been harder to manage. As soon as she got connected to the CBT programme, she immediately joined the network of guesthouses set up in Osh and became an active member. The group met regularly, developed leaets and information about the tourist attractions of the region and also maintained a small liaison oce through which they developed links with Bishkek-based tour operators. This allowed them to open up and tap a larger market. However, these eorts have only partially been successful as Osh is still an isolated town in the south. In order to supplement the family income, Aigula rented a nearby urban garden and began producing vegetables and fruit. She conserves and processes these not only for household consumption but also to sell and trade with her CBT friends. Third, Aigula can only rely on her social network to handle the eects of the supply-side distortions and frequent shortages. Her contacts in the bureaucracy help her to sort out most daily issues, but these patronage networks cannot address the larger structural problems such as poor banking, broken sewage pipes, vandalized street lights and the generally deteriorating urban infrastructure. At night she gives all her guests a ashlight and keeps spare heaters and extra blankets on hand. Finding furniture, lighting, spare parts and utensils continues to be a problem. She has to order such goods through her sons and friends visiting Bishkek or she

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travels herself to obtain many products. Her husband does most of the repairs and maintenance. The CBT members in Osh are able to save money but they do not trust local banks. Thus, they formed a savings scheme and systematically invest funds in young sheep and horses to be sold in the spring. This generates further income, albeit with some potential risks, such as disease and accident, but it protects their savings from ination and the predatory involvement of ocials.13 However, there are a number of risks inherent in extensive dependency on solidarity and exchange networks. For example, they can lead to various forms of social and business casualties. On a number of occasions, Aigula lost money and was exploited by friends and contacts with whom she eventually ceased to do business. Over-reliance on networks due to increased insecurity and poor economic prospects also breeds exploitation and mistrust. When Aigula wanted to use her friends and relatives to outsource some services during busy seasons, some exploited her trust and tried to cut corners. A neighbour, for instance, overcharged her several times for laundry services. A relative tried to poach her customers by discreetly oering lower accommodation charges. In several instances distant relatives who borrowed money to provide supplies, household utensils and sightseeing tours to Aigulas guests either did not supply their agreed service or cheated her over the price. Some lowered the quality or quantity of the service in order to make more money. Tax inspectors and local administrators asked for kickbacks in order to not interfere when she rst opened her business. Thus, both exchange and patronage networks might bring disadvantageous consequences for businesses such as those encountered by Aigula. However, because of these diculties, Aigula learned to develop leaner, stronger, and more functional ties within these networks.

CONCLUSION
In this chapter we illustrated how uncertainty is part of the emerging market economy and a feature of private business ownership in Kyrgyzstan. We identied three prevailing forms of uncertainty, namely poor governance, demand-side distortions and supply-side distortions. The eects of these uncertainties were demonstrated in the tourism sector, which has been going through a major change towards a more client-friendly private businessoriented structure. Our business case illustrates how entrepreneurs, as individuals, get around market and governance distortions and establish successful businesses. The success of Aigula is rst and foremost related to her good standing developed during the Soviet era and her ability to use exchange

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and patronage networks successfully. As a sales manager, she and her husband, a former kolkhoz administrator and party member, were part of the middle echelons of the local elite. Thus, they were able to understand and act upon the changes taking place in Kyrgyzstan more quickly than others. They also had access to information and patronage networks. This helped them to obtain a large premise when it was privatized. Second, her business aptitude and risk-taking attitude played an important role. She took the risk of investing in, decorating and furnishing the store space for her guesthouse venture. Third, Aigulas endowment of exchange and patronage networks helped her overcome the unwanted eects of uncertainty. Network endowments and access to powerful individuals are shaping business development and societal trends in Kyrgyzstan. We also see a divergence between rich and poor networks in terms of the opportunities they oer. People with better economic standing and professional middle-class ties are not only good at improving their positions but are also able to oer wider opportunities to their friends and family. Studies of post-Soviet societies show increasing polarization between the poor and the wealthy and their network opportunities (Gubin and Kostiouchenko 1997; Tartakovskaya and Ashwin 2006). The formerly functioning patronage and exchange networks were not equitable and often led to unfair wealth accumulation in the hands of party bosses and regional leaders, but they had political incentives to keep their local clients content and to please the Communist Party. With the dissolution of the state legitimacy preserved within the USSR, the immediate post-independence period unleashed greater abuse of power in patronage relations and evidence shows that the poor and dispossessed are increasingly becoming isolated (Nazpary 2002). Finally, we argue that network embeddedness may bring inertia and mitigate against deeper changes in the process of building markets and fair governance regimes. By solving and addressing uncertainty in day-to-day lives, entrepreneurs secure their survival through existing mechanisms of exchange and patronage networks at their disposal, yet this practice does not improve the governance and market conditions for all. Recent studies on transition economies point out that social networks help businesses emerge and survive but after the initial start-up phase these social network relations might hinder innovative capacity and entrepreneurial success (zcan 1995; Welter and Smallbone 2006). With limited entrepreneurial capacity and weak institutional provisions, collectively businesses lose as enterprise development and growth remains slow. Business opportunities and market expansion become skewed towards those who can handle and benet from uncertainty, contributing to the shortage of successful businesses in a variety of sectors. This in turn distorts the local economies with

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slow business generation, sparse economic relations, low income and under-employment. The importance of patronage and exchange networks for business start-up and survival is undeniable but it also carries the risks of entrenchment in social embeddedness, thus hampering further business development and growth.

NOTES
1. This was also the case in Western economies with heavy industry focused on one or a few companies in a town or city during the rst three-quarters of the last century (such as the Detroit car manufacturing plants in the US), albeit with more exibility in the markets and geographical mobility in society for re-adjustments. See Rama and Scott (1999) for an extensive labour market analysis of Kazakh onecompany towns. There is no study available on the extent of the cotton industry in Osh. The employment estimate was provided by local experts. These include ethnic Russians (9 per cent) concentrated in the north and mostly urban areas and Uzbeks (14.5 per cent) mostly living in the south. Small, but signicant minorities include Tatars (1.9 per cent), Uyghurs (1.1 per cent), Kazakhs (0.7 per cent) and Ukrainians (0.5 per cent). However, due to recent migration and mobility for seasonal work in and out of the country, these percentages only reect approximate gures. Figures from 1926 to 1959 indicate a rapid urbanization in Central Asia. In 1959, the urban population accounted for 44 per cent of the population in Soviet Kazakhstan, 34 per cent in Soviet Kyrgyzstan and 34 per cent in Soviet Uzbekistan. Yet, these gures were still lower than the Soviet Union average which was 48 per cent and dominated by Russians and other Slavs (Menges 2002). According to the 1970 Soviet census data, there were only 72 707 indigenous Central Asian residents in Bishkek compared with 313 601 Russians and Slavs (Allworth 2002, p. 523). Roman Mogilevsky, an economist from the American University in Bishkek, claims that 30 per cent of Kyrgyz GDP used to be subsidized by the USSR. After independence, this was partially replaced by foreign aid, providing 5 to 10 per cent of GDP (personal interview, Bishkek, March 2004). As Pomfret (2006, p. 82) points out, international aid to Kyrgyzstan between 19922000 amounted to $1.7 billion. Assistance started to increase when the Kyrgyz Republic established itself in 199394 as a leading economic reformer and liberal country among the post-Soviet states of Central Asia. Over half of the aid came from the major multilateral agencies: the World Bank provided 23 per cent, the Asian Development Bank, 15 per cent, the IMF, 15 per cent, and the EBRD, 5 per cent. The major bilateral donors were Japan (15 per cent of the total), and Germany, Switzerland and the European Union (4 per cent each). As reported by Orozobekova (2007), the decision to limit non-Kyrgyz workers came after Russias January 2007 announcement banning market traders from other countries. This could lead to up to 100 000 Kyrgyz nationals becoming unemployed in Russia. Interviews with several major tour operators in Samarkand and Bukhara in April 2005. But with some tension; a clash between local Uzbeks and Kyrgyz took place in Uzgen and Osh in 1990. As in Soviet-era upheavals and violent demonstrations, such as the one which took place against the appointment of a non-Kazakh president in Almaty in 1986, the anti-Jewish protests in Andijan in 1989 and ethnic clashes between Meskhetian Turks and Uzbeks in the same year in the Fergana Valley of Uzbekistan, there is a lack of credible information about this incident. However, eyewitness accounts suggest that several hundred people were killed and many were injured.

2. 3. 4.

5.

6.

7.

8. 9. 10.

A business case from Kyrgyzstan


11. 12. 13.

87

A Swiss agency, Helvetas, initiated this network of tourist services and CBT members enjoy good access to Bishkek tour operators. Two of her sons moved to Bishkek and got clerical jobs while another took up cotton farming in Osh. In autumn 2004, a good horse was valued as high as $2000 and a small sheep was valued at $30 in the animal markets of Osh. With the Helvetas credit of $800, the local CBT bought approximately 100 sheep. After the spring breeding, the CBT would get around 200 sheep in return; selling them at $30 per head would bring a substantial income.

REFERENCES
Airey, D. and M. Shackley (1997), Tourism development in Uzbekistan, Tourism Management, 18 (4), 199208. Aldrich, H.E. and C.R. Zimmer (1986), Entrepreneurship through networks, in D. Sexton and R. Smilor (eds), The Art and Science of Entrepreneurship, Cambridge, MA: Ballinger, pp. 223. Allworth, E. (2002), The new Central Asians, in Edward Allworth (ed.), Central Asia: 130 Years of Russian Dominance, A Historical Overview, 3rd edn, Durham: Duke University Press, pp. 52772. Bal, H. (2004), Geis lklerinde Yoksulluk ve Kayt Ds Ekonomi: Krgz Bavul Ticareti rnegi [Corruption and shadow economy in transition countries: the case of the Kyrgyz shuttle trade], Iktisat Is letme ve Finans, June, 72. Buiter, W. (2000), From predation to accumulation?, Economics of Transition, 8 (3), 60322. okgezen, M. and G.B. zcan (2007), Coping with uncertainties through personal enterprises: Turkish entrepreneurs in Kyrgyzstan, paper presented at the International Conference on Business, Management and Economics, ICBME, Yas ar University, Izmir. Curran, J., R. Jarvis, R.A. Blackburn and S. Black (1993), Networks and small rms: constructs, methodological strategies and some ndings, Small Business Journal, 11 (2), 1325. DEncausse, C.H. (2002), Systematic conquest, 1865 to 1884, in Edward Allworth (ed.), Central Asia: 130 Years of Russian Dominance, a Historical Overview, 3rd edn, Durham: Duke University Press, pp. 13151. EBRD (2006), Transition Report Update May 2006, European Bank of Reconstruction and Development, London. Granick, D. (1960), The Red Executive: A Study of the Organisation Man in Russian Industry, Garden City, NY: Doubleday. Granovetter, M. (1985), Economic action and social structure: the problem of embeddedness, American Journal of Sociology, 91 (3), 481510. Gubin, O. and O. Kostiouchenko (1997), Review: Sociology in Russia: studies in social stratication, Sociological Forum, 12 (1), 13542. Ilkhamov, A. (2004), The limits of centralisation: regional challenges in Uzbekistan, in P.J. Loung (ed.), The Transformation of Central Asia: States and Societies from Soviet Rule to Independence, Ithaca: Cornell University Press, pp. 15981. Ledeneva, A. (1998), Russias Economy of Favours: Blat, Networking and Informal Exchange, Cambridge and New York: Cambridge University Press.

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Loung, P.J. (2002), Institutional Change and Political Continuity in Post-Soviet Central Asia, Cambridge: Cambridge University Press. MacWilliam, I. (2006), Karakol: a Russian town in remotest Central Asia, Steppe, 1, 9097. Madi, M. (2004), Drug trade in Kyrgyzstan: structure, implications and countermeasures, Central Asian Survey, 23 (34), 24973. Menges, K.H. (2002), People, languages, and migrations, in E. Allworth (ed.), Central Asia: 130 Years of Russian Dominance, a Historical Overview, Durham: Duke University Press, pp. 6091. Nazpary, J. (2002), Post-Soviet Chaos: Violence and Dispossession in Kazakhstan, London: Pluto Press. Orozobekova, C. (2007), Kyrgyzstan: foreign labour ban sparks controversy in Bishkek, Institute of War and Peace Reporting (RCA No. 479, 24-Jan-07). zcan, G.B. (1995), Small business networks and local ties in Turkey, Entrepreneurship and Regional Development, 7, 26582. zcan, G.B. (2006), Djamilas journey from kolkhoz to bazaar: female entrepreneurs in Kyrgyzstan, in F. Welter, D. Smallbone and N. Isakova (eds), Female Entrepreneurship in Transition, Aldershot: Ashgate, pp. 93115. zcan, G.B. (2008), Building States and Markets: Enterprise Development in Central Asia, Basingstoke: Palgrave Macmillan (forthcoming). Park, A.G. (1957), Bolshevism in Turkestan 19171927, New York: Columbia University Press. Pomfret, R. (2006), The Central Asian Economies since Independence, Princeton: Princeton University Press. Rama, M. and K. Scott (1999), Labor earnings in one-company towns: theory and evidence from Kazakhstan, World Bank Economic Review, 13 (1), 185209. Robertson, M., J. Swan and S. Newell (1996), The role of networks in the diusion of technological innovation, Journal of Management Studies, 33 (3), 33359. Sabol, S. (2003), Russian Colonisation and the Genesis of Kazak National Consciousness, New York: Palgrave. Szarka, J. (1990), Networking and small rms, Journal of International Small Business, 8 (2), 1019. Tartakovskaya, I. and S. Ashwin (2006), Who benets from networks, in S. Ashwin (ed.), Adapting to Russias New Labour Market: Gender and Employment Behaviour, London: Routledge, pp. 16492. Triglia, C. (1989), Small-rm development and political subcultures in Italy, Strategic Management Journal, 7, 3751. Welter, F. and D. Smallbone (2006), Exploring the role of trust in entrepreneurial activity, Entrepreneurship Theory and Practice, 30 (4), 46575. Welter, F., D. Smallbone and N. Isakova (2006), Conclusions and policy perspectives, in F. Welter, D. Smallbone and N. Isakova (eds), Female Entrepreneurship in Transition, Aldershot: Ashgate, pp. 20317. Werner, C. (1998), Household networks and the security of mutual indebtedness in rural Kazakhstan, Central Asian Survey, 17 (4), 597612. Wheeler, G. (1960), Racial Problems in Muslim Soviet Central Asia, Race Relations Institute, London: Oxford University Press. Ykseker, D. (2003), Laleli-Moskova Mekig i: Kayt ds ticaret ve cinsiyet ilis kileri [The Laleli-Moscow Shuttle: Unregistered trade and gender relations] Istanbul: Iletis m Yaynlar.

6. How to be successful in an adverse business environment: Knitwear Factory in Moldova


Elena Aculai, Natalia Vinogradova and Friederike Welter
INTRODUCTION
Considerable changes in Moldova in the last 15 years have had their eect on every aspect of life. One of the most remarkable of these changes was the transformation of forms of ownership, which resulted in private entrepreneurship. However, while there have been positive business developments overall, such as an increasing share of private businesses, the competitiveness of private enterprises and their innovativeness changes only slowly. This is to a large extent a result of the business climate. This chapter will illustrate the development of private business at dierent stages through the example of a typical successful entrepreneur and her business in Moldova, in order to analyse those factors which encourage and challenge enterprise growth in Moldovas turbulent business environment. First, we present a brief review of business development in Moldova, followed by a review of the link between the business environment and business development. We then present the case of a successful business in Moldova, before developing conclusions.

A BRIEF REVIEW OF BUSINESS DEVELOPMENT IN MOLDOVA


The Republic of Moldova borders the Ukraine in the east and Romania in the west. Moldova occupies a territory of 33 800 sq. km and has 3.9 million inhabitants. The market reforms of the 1990s exerted a pronounced negative inuence on the economy in Moldova. For example, in 2004 real GDP amounted to a mere 44 per cent of that of 1989; the rate of ination was 12 per cent annually from 2003 to 2005. As a result Moldova is one of the
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2000

2001

2002

2003

2004

2005

Start of year

Sources:

DSS (2005b, 2003, 1997).

Figure 6.1

Development of the number of private enterprises

poorest countries in Europe with GDP per capita equalling US$2170 in 2004 (EBRD 2005). Since the start of market reforms, there has been a positive trend with regard to the number and share of private enterprises (Figure 6.1). Over the last ve years annual rates of growth in the number of registered economic units have averaged 46 per cent (DSS 2005b) of which more than 90 per cent are private enterprises. However, the share of mixed enterprises with foreign capital is still small, amounting to a mere 3 per cent, and as a consequence the application of up-to-date technology, access to new markets, and exposure to the eective management experience that foreign participation could bring remain restricted. However, despite the growth in the number of private enterprises, private entrepreneurship still contributes little to overall business development in Moldova. Its share of GDP amounted to 60 per cent in 2005 (EBRD 2005). The sectoral structure is still distorted; and trade remains the most popular business activity, occupying more than half of all registered economic agents (Figure 6.2). Entrepreneurs choose trade not only because it is easier and quicker to realize prots but also because these activities can easily be liquidated. This reects the continuing insecurity felt by entrepreneurs regarding the future of their enterprises and the stability of the business environment. Moreover, many enterprises are not protable: in 2004, only 41 per cent of enterprises generated prots, while 46 per cent incurred losses (DSS 2005b), although ocial statistical data do not take into account the

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Other types of activity 18.4%

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Agriculture, hunting, forestry and fishery 6.6% Processing industry 11.9%

Transport and communications 5.3%

Hotels and restaurants 2.9% Wholesale and retail trade 52.0%


Source: DSS (2005a).

Construction 2.9%

Figure 6.2 Moldovan enterprises by types of activity (at the beginning of 2005) signicant role that the shadow sector plays in entrepreneurship development in Moldova. Again, both low incomes and the importance of the shadow sector reect an unstable and hostile business environment. Therefore, although we can observe a growing number of small businesses and private enterprises in Moldova, with regard to competitiveness and innovation at the rm level there have been few improvements. This is the result of an unfavourable business climate, and it also indicates the negative impact of state policy on the overall business environment.

THE BUSINESS ENVIRONMENT AND ENTREPRENEURSHIP DEVELOPMENT


No enterprise can function in isolation. Enterprises exist within a business environment, and they have to cooperate with that environment. Small new enterprises in particular have few opportunities to manipulate environmental factors. With regard to business environments, research distinguishes between benign and hostile environments. The hostility of an environment is reected in threats arising in the macro-institutional environment, for

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example, institutional underdevelopment with a high risk of conscation of property, corruption, selective discrimination, regulatory restrictions, physical destruction of property and even physical injury (Carney et al. 2006). A hostile environment is also often characterized as displaying a low level of trust, collective social capital or civil traditions (Lanza 2001; Welter and Smallbone 2006). The concept of the hostile business environment is often referred to when characterizing either new business elds or emerging economies and new democracies; thus it is seen as a distinctive feature of transition processes (Aidis 2005; Smallbone and Welter 2001a). The level of institutional development reects the degree of hostility in a transition environment, in particular in those countries where market reforms have been stalled or are progressing slowly (Smallbone and Welter 2006b). In Moldova, we can identify many of the parameters which are said to determine a hostile business environment, although authorities and entrepreneurs evaluate the business environment dierently, often contradicting one another. The government is aware of and has admitted that the Moldovan business environment does not encourage the development of private business. For example, the Economic Growth and Poverty Reduction Strategy Paper (GRM 2005), which is the main ocial paper currently determining government policies, lists the major barriers that private businesses face, including unstable legislation, high levels of bureaucracy and compliance costs, excessive custody of the controlling institutions, ineective tax legislation, insucient working capital and lack of access to nancial resources, complicated access to both internal and foreign markets, a lack of marketing services, a lack of management skills, a decient business support system, and corruption. From a formal perspective, the policy targeted at business regulation seems purposeful and logical, apparently representing an active approach to business development. In reality, most entrepreneurs nd no positive changes. In a survey of entrepreneurs carried out in 200103, nearly twothirds of the interviewees claimed that conditions for business development were unfavourable, 34 per cent evaluated them as neutral and a mere 3 per cent believed the business environment to be favourable (Aculai et al. 2003). According to the IBRD (2006), Moldovas overall rank fell from 88 to 103. Notwithstanding reform progress in many areas, barriers for entrepreneurship are substantial (Fomin 2006). The cost of starting a business amounts to 13.3 per cent of per capita income, and 165 per cent of GDP per capita is needed to deal with licences. On average, the hiring of an employee costs 29 per cent of annual salary and the ring of an employee costs 28.8 weeks of wages. Moldovan entrepreneurs need to pay 44 dierent types of taxes, which comprise around 48.8 per cent of prot. Contract enforcement costs consist of 16.2 per cent of the debt, and closing a business costs 9 per

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cent of the estate (Fomin 2006). Overall, changes in policy and legislation are slow and inconsistent. For example, income tax for legal entities was reduced from 28 per cent in 2001 to 15 per cent in 2006; but entrepreneurs still complain about the high level of non-wage labour costs (for example, Kovalenko 2006). Frequent changes in laws and regulations, a serious implementation gap and a lack of information on new rules all add to this, fostering corruption and the development of a shadow economy. Surveys conducted by Transparency International cited limited access to public information as one of the major reasons for corruption in Moldova (Pinzari et al. 2000). In 2005, Transparency International registered 600 incidents of corruption made by state ocials of dierent ranks (ibid.). About 77 per cent of managers of Moldovan rms paid bribes in order to conclude purchase contracts, 61 per cent paid bribes to avoid being punished for tax evasion, and 54 per cent paid for dierent services that are rendered by government personnel when issuing licences, applying to cadastral bodies, arranging sanitary or epidemiological checks and so on (Pinzari et al. 2005). A businessman from Turkey, who has been working in Moldova for eight years, stated that regulatory authorities are indefatigable in their fault-ndings and ocials preconceived and arbitrary (Kalak 2006). It is because of the hostile business environment that the shadow economy has become so signicant, both reducing the state budget and worsening business conditions for those working legally. A survey of owners and managers of small enterprises revealed that 59 per cent believed the main reasons for working in the shadow economy were unstable legal rules and regulations and the taxation system, which includes not only high levels of taxes and duties, but also the compliance costs of dealing with complicated procedures and the absence of information about changes in the system. Even those entrepreneurs who would choose to work completely legally often cannot aord this luxury because their business partners work illegally. In such situations, payments are made in cash and without any supporting documentation (Aculai et al. 2003).

HOW TO BE SUCCESSFUL IN AN ADVERSE ENVIRONMENT: THE CASE OF KNITWEAR FACTORY


Brief Characteristics and History of the Enterprise Janna, who is in her mid-forties, told us the story of her rm, the Knitwear Factory. She is general manager and co-owner with her husband Petru. The rm was founded in 1994 as a small family enterprise and registered in

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Chisinau, the capital of Moldova. Its main activities, which have not changed since 1994, are sewing and selling clothes. Initially, Knitwear Factory oered knitted linens and tracksuits, later it added knitted garments (blouses and pullovers). When the enterprise was registered in 1994, the venture reected push motives which were specic to the transition situation in Moldova at that time. Janna and Petru had both lost their jobs at a state factory, which forced them to look for income-generating possibilities in order to feed themselves and their three children. The desire to provide family income was thus the most powerful push motive for them to start the business. However, they also showed initiative and entrepreneurial drive in choosing to open their own business rather than looking for new jobs in a privatelyowned rm. Initially, both contributed equally to the business. They did not formally set down their responsibilities, but were both involved in all necessary tasks. From time to time, they were assisted by their children and other relatives. As the enterprise grew, more management duties were performed by Janna, and by the end of the 1990s she could solve most of the problems. Since 1999, Janna has been the general manager. Petru, while still continuing to work at the enterprise, was also in search of other income sources, and he set up yet another business with friends. He has been moderately successful, but has not yet managed to contribute any income to the family. At present, Petru occasionally helps his wife if needed. The same holds true for their children, who are not otherwise interested in their mothers business. Family support of the entrepreneurial activities of the mother seems to be one of the factors underlying the success of this rm. Janna herself described the rm as a family business where everyone is ready to help out if needed. Currently, 78 persons are employed at Knitwear Factory, which means that the enterprise is classied as a medium-sized rm according to Moldovan legislation. Most employees are Jannas relatives, both close and distant, friends and acquaintances, or people recommended to her. Janna has never dealt with an employment agency. She feels that it is both useful and convenient to employ friends and relations as she can ask them to perform tasks other than those in their work description when needed or to work at weekends. Also by employing relatives and close friends she has more exibility in managing the sta. But most valuable is the high degree of trust enjoyed by Janna and her employees, something which is especially important for small and medium-sized enterprises (SMEs) in a transition context (for example, Clarke and Kabalina 2000; Welter and Smallbone 2003). However, Janna does not believe that her sta generally possesses signicant potential, nor is she very active in developing the business, which

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reects the downside of employing trusted friends rather than people qualied for the job. Apparently she can only rely on ve or six people. This suces under normal circumstances, also taking into account the fact that she can ask family members for assistance. Jannas Background Janna has a college degree but not in the eld in which she is working. Formerly she worked as a technologist in a machine-building enterprise. Nevertheless, Janna considers that her higher education has contributed to her business success, as she developed analytical skills to solve complex problems. To date, she has never taken any special courses in management and entrepreneurship because she does not believe that they would give her any useful or practical knowledge. In Soviet times, she obtained some leadership experience while working for a state enterprise in which as a factory shop manager she was responsible for organizing both production and labour. Janna believes that both her higher education and the previous experience in management have brought helpful skills to running her own business. Janna is sociable and easygoing, which facilitates her interactions with people and consequently contributes to the development of the rm. Her nature is another positive factor together with education and experience in initiating and maintaining business contacts. She is able to undertake a variety of roles in her enterprise and can do most jobs herself, such as that of a sales associate or a warehouse employee. If necessary, she will do whatever kind of work is needed, although this happens less often now than used to be the case. When we asked Janna to evaluate her personal qualities and their impact on her business success, she pointed out that she is neither strict nor assertive. She puts this down to her upbringing in the Soviet system, where parents taught their children to be humble and obedient, and initiative was frowned upon. These are certainly not the characteristics needed for entrepreneurship and running a business. Janna attaches much importance to public opinion and her reputation, not only when it comes to business but under any circumstances, claiming: I would rather lose money than stain my good reputation. She tries to be completely honest with her customers and business partners and expects them to act in the same way. Trust appears to play a crucial role in her business undertaking, as is apparent in the way she selects employees. She maintains longterm business contacts with individuals that she trusts, but she emphasized that while she can trust some of her business partners and customers, she can never trust state authorities, thus displaying a lack of institutional trust

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which is a frequent phenomenon in a transition context (Smallbone and Welter 2006a). Janna explained this lack of institutional trust by the fact that ocials do not keep their promises, and that regulations and rules are not respected, which reects the implementation gap known to be a problem in transition environments (Smallbone and Welter 2001b).

BUSINESS DEVELOPMENT IN A HOSTILE ENVIRONMENT


The Start-up Stage Until the mid-1990s clothing manufacture was widespread among small privately-owned production rms, as it was a business that could be initiated without a large amount of capital. Moreover, before 1991, Janna, like many women in the USSR, used to sew clothes for her family. She enjoyed doing it, and produced high-quality and fashionable items. Therefore, when she started a clothing manufacturing enterprise, Janna was condent that she could address the main issues related to clothing and tailoring technology without much eort. Another factor which encouraged her to start the business was the tremendous demand for clothes in the early 1990s. At that time, shuttle traders1 imported large quantities of usually cheap and poor quality clothes to Moldova, and for that reason, high-quality clothing and clothes manufactured from natural materials were in demand. Before the enterprise was created, Janna was a shuttle trader herself, importing dierent types of goods, including garments. She perceived a demand for high-quality and original clothes, which resulted in her initial decision to buy natural knitted fabric abroad, followed by her decision to tailor clothes in Moldova. This way, goods could be easily varied according to demand, and she could provide high-quality goods at low prices because of cheap labour. Janna borrowed funds from relatives and close friends in order to set up the business. According to Janna, the period in which the enterprise was founded inuenced its future development. It was easier to establish and develop a business in the early 1990s than after the mid-1990s, as competition was minimal and it was easy to realize huge prots. Markets Knitwear Factory mainly serves the Moldovan market, with a considerable proportion of the output being sold in the regions. For that, Janna uses dierent methods to promote her goods. For example, she oers her goods

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to retailers from the regions on preferential terms (with delay of payment), and she participates in most regional trade fairs. She has also exported her products, although this was always the result of taking opportunities as they arose, rather than being the result of an active search for export markets. Nonetheless, this further demonstrate Jannas entrepreneurial skill, as she was quick to recognize these opportunities. One such opportunity came about when an old acquaintance of Janna, now a shop-owner in Israel, came to Moldova on business. When he visited Janna, he was impressed by her high-quality goods and bought a large quantity to be sold in his own shop. However, this one-time export did not develop into a longer-term cooperation, which Janna puts down to this activity being not protable enough for her friend. Jannas own attempts to export her goods to neighbouring countries such as the Ukraine, Russia and Romania have proved generally unsuccessful. Although she negotiated with wholesale buyers, shopping centres and later on also participated in exhibitions and trade fairs abroad, nothing came of her eorts. She considers the small size of her business to be a key obstacle to exporting, as prospective business partners always appeared to be satised with the quality and assortment of her products. She oered a particular example illustrating the diculty for a small rm in exporting to the Ukraine or Russia. Trading rules require that a company which wants to trade in these countries needs to have a storehouse in either Ukraine or Russia stocked with ready-made goods in a certain volume and variety a requirement that she cannot meet. In this regard, Jannas rm is typical of successful and growth-oriented Moldovan rms where the small home market restricts further business development, and the small size of the rm hinders business development through exporting. In the case of Knitwear Factory, this could probably be overcome if Janna was willing to take risks and accept that external funding is necessary for her business to grow and develop, but she is psychologically unprepared to borrow that much because she considers it would be a huge risk which could involve the loss of the business. She concedes that this fear is not based on an in-depth analysis of the risks connected to external funding for exporting, as she has never collected information on that issue. In part her fear is related to political factors: while the Moldovan government is keen on maintaining good relationships with the neighbouring states these relations are unpredictable and subject to frequent change. Development of the Business since 1994 Since it was started in 1994, Knitwear Factory has been constantly developing: sales and prots have grown, the equipment has been updated and

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new jobs have been created. Yet the development is a discontinuous process, as Janna describes: We think about what our goals are for the next years and consider strategies to reach the objectives. After that we search for opportunities to realize our objectives and prepare for any changes needed at the enterprise. After that the business experiences a small but signicant development step, followed by a stage where we stabilize our achievements. Janna emphasizes that this development process is the result of a lack of external support and access to nancial resources, as she has to retain earnings in order to grow the business. When considering whether she could draw on external support in growing her rm, she stressed several times that the rm will never get any sort of help from any resource. In this, she is typical of Moldovan entrepreneurs who prefer to be left alone by government, demonstrating the deciencies in the business support environment. For example, Janna established the rm using old machinery bought at very low prices from reorganized and privatized former state-owned enterprises. However, this equipment restricted the volume of production as well as the variety of goods which could be produced, which in turn aected the exibility of the enterprise as regards changes demanded by the consumers. Slowly Janna managed to modernize her machinery and to buy new equipment, relying on borrowed funds from acquaintances and on her own savings. These investments considerably boosted sales, as Janna was able to broaden the variety of goods and to improve the design and quality of earlier products. Another example concerns the purchase in 2003 of the premises where the enterprise is located. This greatly enhanced possibilities for further expansion. For several years, Janna invested hardly anything in business development in order to save enough funds to be able to buy the property. She also had to apply for a substantial bank loan, with the bank accepting the property as security. Although the loan has not yet been repaid, Janna considers the decision to buy the property as one of the most important she has made to ensure further business growth, not least because rents have been skyrocketing more recently. Moreover, it would be dicult to negotiate a long-term lease of the same property, because rising rents mean that property owners are not interested in long-term contracts. At present, the production site, the warehouse and oces are all located on the premises. If needs be, Janna could rent out part of the premises, thus providing her with nancial exibility and an additional source of income. When we interviewed Janna, her enterprise was at the stage of stabilizing these new achievements. For her, the main task at the moment is to retain Knitwear Factorys market niche and to keep the customer base. This is not easy as costs for raw materials, energy and labour have all increased recently, resulting in higher prices for her products. This in turn is deterring

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customers. Janna has therefore determined that some products can still be sold cheaply to hold on to her customer base. At the same time, she recognizes that she cannot maintain her initial strategy of producing inexpensive goods for much longer, and that she has to try to attract new customers who are more interested in quality than in low prices. In this however, she faces strong competition from other rms. The Main Problems for Business Development Jannas strategy for Knitwear Factory can best be described as growthoriented. However, the hostile business environment in Moldova prevents her from realizing her ambitions. In this regard, Janna pointed out several major problems in achieving business growth, two of which are related to the business environment. First, she referred to the unstable economic system in Moldova. This concerns legislation, but also many other aspects, including the situation on foreign markets, the political orientation of the country and so on. Entrepreneurs have to be constantly alert to the frequent changes in rules and regulations sometimes even anticipating them and changing business procedures accordingly. This process consumes both time and resources. According to Janna, entrepreneurs need good analytical skills and an ability to handle open-ended situations and to prepare for dierent scenarios, while acting in a very insecure and hostile environment where it is sometimes a lot easier to pay bribes to government ocials than to follow the (changed) rules. Janna also pointed out that almost every enterprise in Moldova (including hers although she did not admit this openly) is more or less involved in the shadow economy, which is also a result of corrupt state structures. According to her, entrepreneurs are unable to change the existing business environment, and most have chosen to follow the unfair and illegal rules of the game which have been established instead of attempting to change them. However, in the long run, the widespread tolerance of shadow and illegal operations may have a serious negative eect on Moldovas economic development once the ethical consequences of such behaviour are felt. Even if the business environment is going to improve, learned habits are slow to change. A second barrier to growth is connected to this. Janna told us that if her business was to exceed a certain size, criminal organizations would be likely to become interested in the rm. In that case they would either force her to sell the business to them or would simply take it over. Another problem which gained importance recently concerns the availability of skilled labour. Janna experiences increasing diculty in hiring skilled labour, which is partly due to her limited searching within the wider

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circle of friends and acquaintances, but is also a result of the transformation process. For the past 15 years in Moldova very few people have been trained as professional workers, while the workforce trained in Soviet times has retired, emigrated or lost their skills as a result of losing their jobs back in 1991. Janna has not succeeded in solving any of these problems so far and she does not believe that they are soluble. According to her, one has to adjust to the existing conditions and look for a balance between what you want and what you actually can achieve. Another problem, distinctive to her own business, is that they deal with only one raw material supplier, who is Turkish. Janna has a good relationship with her supplier, which extends to her personnel; they can discuss problems and rely on his assistance, and he is willing to accept delayed payments for his material. However, recently prices in Turkey have been increasing, as a preparatory step for Turkeys anticipated membership of the European Union. This will aect the prices of the raw material for Knitwear Factory and in turn aect prices of products on the Moldovan market. The problem is aggravated by the fact that Janna cannot change her supplier easily as she is in permanent debt to him. She emphasized that if she were to repay this particular debt, she would have no funds to continue her business, once more illustrating the diculties of working in an environment where lack of (access to) resources require enterprises such as hers to develop innovative strategies in order to survive.

DISCUSSION AND CONCLUSIONS


The Moldovan government has recently taken steps to improve the business environment and to foster business development. Changes include reduced income tax rates and regulatory reform. However, entrepreneurs are still hassled by government ocials and corruption, which leads most of them to conclude that the environment has not changed much. In this regard, businesses such as Jannas Knitwear Factory display considerable entrepreneurial spirit and alertness, showing how in the Moldova of today enterprises can be started and develop despite the government and an unfavourable business environment. The case study points to several factors inuencing business development in such an environment. One important element is that of assistance and support from the wider family, which apparently substitutes for the decient business support infrastructure. Janna emphasized that in a united family it is natural to support each other. Family members lend money to the business, or a car to ship goods; they oer assistance as to

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where to obtain information or advice. As a consequence and only partly due to the lack of adequate services, Janna is reluctant to turn to external assistance, which might restrict business development in the long run in those cases where she would need to obtain professional help. Another condition for business survival and development concerns exibility in order to deal with unpredictable changes. In the case of Knitwear Factory, this is reected in internal exibility concerning the assortment of goods the company can produce. However, exibility needs to be considered in a wider sense in relation to a hostile business environment, where it includes relationships with state ocials and local administrations in order to deal with complicated regulations and the like. However, this has a negative inuence on business development in Moldova and its prospects. The hostile business environment hampers business development not only because there is a lack of resources, but also because entrepreneurs are less interested in investing in their businesses. Moreover, younger people are not interested in becoming entrepreneurs. Instead they search for more protable careers, such as working with international donor-nanced projects, emigrate or study abroad. This in turn restricts business succession and will hamper entrepreneurship development as a whole, especially as it is not common in Moldova to sell and buy small private businesses. Additionally, many business owners and managers, like our interviewee, lack specialized business training and know-how in managing and operating a business under market conditions. Thus, previous experience and the personal drive and motivation of entrepreneurs are important factors in starting and growing a business in an unfavourable business environment. In our case Janna always wanted to run her own business, despite the push factors she and Petru stated for initially starting the business, and she has always shown considerable entrepreneurial alertness, combined with risk consciousness. Nonetheless, the push situation in Moldova in the early 1990s did have some positive eect on the development of entrepreneurship. Irrespective of past failures or successes, the transition towards a market economy forced people to accept changes as part of life, to be alert and to search for new opportunities, and to adjust to a new economic system. Another factor helping entrepreneurs to overcome the obstacles of doing business in an adverse environment is high levels of education, which is a consistent theme emerging from many transition studies (Smallbone and Welter 2001a). Higher education in the Soviet system implied a broad eld of studies and a variety of subjects. This (as well as the conditions of daily life in a Soviet system) might have trained people in being creative in solving problems. Previous management experience would have added to

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this individual exibility: Janna told us that this did develop her abilities to manage her employees, but more importantly, it taught her how to deal with business problems where resources are scarce or not available. However, one might question whether the factors so far contributing to the Knitwear Factory being a relatively successful business will also contribute to its longer-term positive business development. Most of the strategies applied by Janna and the factors which have positively inuenced business growth may have a transient, transition-specic component, working well in a hostile and adverse environment, but restricting sustainable business growth once the business environment has matured. This includes the reluctance of entrepreneurs such as Janna to accept external professional assistance and funding or further training. Additionally, the risks inherent in working illegally might aect the entrepreneurs health and willingness to continue in business. To summarize, Knitwear Factory is a typical small and relatively successful business in Moldova, not least as a result of its owners resourcefulness and alertness and her ability to cope with unforeseen problems and to craft innovative strategies that work in an adverse environment. What makes this rm a typical small business in the Moldovan context are features that are also visible in mature market economies supplemented by distinctive elements contributing to business success in a transition environment. The former include a business start without any external support, while characteristics typical for a transition environment might include a lack of previous working experience in private rms, a high level of education with the eld of study not matching current entrepreneurial activities and the push motive of job loss through privatization. Knitwear Factory and its success story also illustrate the contextual element of entrepreneurship (in a transition economy) which can only be understood if studied in its particular time and country context.

NOTE
1. In Russian language, petty traders are called chelnoki, which is the name for the shuttle in a weaving frame.

REFERENCES
Aculai, E., N. Rodionova and N. Vinogradova (2003), Female Entrepreneurship in the Ukraine, Moldova and Uzbekistan, in F. Welter and D. Smallbone (ed.), National Report on Survey Data for Moldova, Essen: RWI.

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Aidis, R. (2005), Entrepreneurship in transition countries: a review, Centre for the Study of Economic and Social Change in Europe (CSECSE) working paper No. 61, http://www.ssees.ac.uk/publications/working_papers/wp 61.pdf, accessed 12 November 2005. Carney, M., M. Dieleman and W. Sachs (2006), Years of living dangerously: family rm advantage in hostile environments, www.lusm.leidenuniv.nl/content_docs/ Marleen/carney_dieleman_sachs_nal_jbv.pdf, accessed 20 July 2006. Clarke, S. and V. Kabalina (2000), The new private sector in the Russian labour market, Europe-Asia Studies, 52 (1), 732. DSS (1997), Anuarul statistic al Republicii Moldova, 1996, Chisinau: Statistica, Departament statistica si sociologia. DSS (2003), Anuarul statistic al Republicii Moldova, 2002, Chisinau: Statistica, Departament statistica si sociologia. DSS (2005a), Statisticheskii byulleten, yanvar-dekabr 2004, Chisinau: Departament statistiki i sociologii. DSS (2005b), Anuarul statistic al Republicii Moldova, 2005, Chisinau: Statistica, Departament statistica si sociologia. EBRD (2005), Transition Report 2005, http://www.ebrd.com/pubs/econo/6520.htm, accessed 25 November 2006. Fomin, I. (2006), Otsenka biznes-klimata i izderzhki metodologhii, Ekonomicheskoe obozrenie Logos-Press, 34, 12. GRM (2005), Law on economic growth and poverty reduction strategy (20042006), Government of the Republic of Moldova, Monitorul Ocial, 5, 18135. IBRD (2006), Doing Business in 2006: Creating Jobs, The International Bank for Reconstruction and Development / The World Bank, www.doingbusiness.org, accessed 20 November 2006. Kalak, D. (2006), Uznavaemyi oblik, nechetkie kontury, Ekonomicheskoe obozrenie, 31, 8. Kovalenko, I. (2006), Partnery govoryat na raznyh yazykah, Ekonomicheskoe obozrenie Logos-Press, 33, 6. Lanza, A. (2001), Beyond pioneers and followers: a typology of entrepreneurial behaviors for hostile environments, http://www.aoef.org/papers/2003/lanza.pdf, accessed 5 July 2005. Pinzari, S., L. Carasciuc and I. Spinei (2005) Diagnosticul mitei in afaceri, www.transparency.md.Docs/2005/Diagnosticul_mitei_in_afaceri_ro.pdf, accessed 21 September 2006. Smallbone, D. and F. Welter (2001a), The distinctiveness of entrepreneurship in transition economies, Small Business Economics, 16 (6), 24962. Smallbone, D. and F. Welter (2001b), The role of government in SME development in transition countries, International Small Business Journal, 19 (4), 6377. Smallbone, D. and F. Welter (2006a), Conceptualising entrepreneurship in a transition context, International Journal of Entrepreneurship and Small Business, 3 (2), 190206. Smallbone, D. and F. Welter (2006b), Institutional development and entrepreneurship in a transition context, in C. Styles and C. Galbraith (eds), Developmental Entrepreneurship: Adversity, Risk and Isolation, Amsterdam: Elsevier, pp. 3753. Welter, F. and D. Smallbone (2003), Entrepreneurship and enterprise strategies in transition economies: an institutional perspective, in D. Kirby and A. Watson

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(eds), Small Firms and Economic Development in Developed and Transition Economies: A Reader, Aldershot: Ashgate, pp. 95114. Welter, F. and D. Smallbone (2006), Exploring the role of trust for entrepreneurial activities, Entrepreneurship Theory and Practice, 30 (4), 46575.

7. Integrating cutting-edge chemical knowledge and entrepreneurial drive: the case of New Substances in Ukraine
Nina Isakova
INTRODUCTION
During the 1990s, Ukraine underwent signicant political, economic, social and cultural change caused by the collapse of the socialist bloc and the former Soviet system. In the transition to a market economy, which was one of the most important objectives of transformation, the biggest challenge was developing an ecient private business sector and innovative capacity. Ukraine has no history of private enterprise and this sector of the economy had to be developed from scratch. The overall crisis in politics and the economy as well as a lack of adequate state support policies in Ukraine added to the diculties in the formation of a small and medium-sized enterprises (SME) sector, which was developing not due to but inspite of government policies. The national innovation system of Soviet Ukraine was not conducive to technology transfer and required radical transformation. The Ukrainian scientic community constituted part of the former Soviet Union science system; it was highly defence-oriented and restricted from international cooperation (Egorov 1995). The following assessment given by Pavitt (1997) holds true for Ukraine. According to this Western expert, the transformation of national systems of science and technology in the formerly centrally planned economies of Central and Eastern Europe has been no dierent from transformation in other spheres slow, messy, disappointing, and much inuenced by country-specic factors. More specically radical changes in institutions and in the incentive structures that they face have required competencies well beyond those readily available (Pavitt 1997, p. 43). The Ukrainian innovation system is characterized by a number of deciencies that are hindering successful technology transfer and implementation of innovations,
105

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including insucient state nancial support for research and development (R&D), inecient organization and management of scientic activities, the low level of demand for innovation in the production sphere, and weak relations between R&D producers and R&D customers. Despite an environment unfavourable for the emergence and evolution of innovative private businesses, by the beginning of the new millennium the numbers of successful technology-based companies in Ukraine became larger. The case of the innovative company described below serves as an example. This chapter examines those factors enabling an innovative private company to survive and grow in Ukraine. It begins with a description of the country context with regard to general conditions for entrepreneurship development and innovation. The chapter then focuses on a case study of a Ukrainian innovative company operating in the eld of research and production of new synthetic substances used in pharmaceutical and agrochemical research. The chapter ends by highlighting the strengths and opportunities that made it possible for the case-study company to be successful in the Ukrainian environment. Through the case study this chapter aims to improve our understanding of the process of an innovative rms emergence, survival and development in the hostile business environment of a transition country.

COUNTRY CONTEXT
Since 1991 Ukraine, one of the so-called post-socialist countries, has undergone fundamental changes in political, economic and social spheres. However these did not result in signicant growth in either the economy or national welfare (Table 7.1). Ukraine was initially viewed as a republic with favourable economic conditions in comparison with other regions of the former Soviet Union, but the newly independent country experienced a deep economic crisis, losing 60 per cent of its GDP and suering ve-digit ination rates. The economy of Ukraine had been the second largest in the Soviet Union and was an important industrial and agricultural component of the USSRs planned economy. In 1991, the Ukrainian government liberalized most prices in order to combat widespread product shortages, and was successful in overcoming the problem. At the same time, the government continued to subsidize state-owned industries and agriculture by the inationary issue of money (not supported by production of products and services). The loose monetary policies of the early 1990s resulted in hyperination. Prices stabilized only after the introduction of a new currency (Hryvna) in 1996. In the early 2000s, the Ukrainian economy showed strong export-based growth of 510 per cent, with industrial production growing by more than

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Table 7.1
Indicators

General information on Ukraine


Ukraine 47.3 604 65 6414 65 14.1 3 57

Population in millions Area (000 sq. km) GDP (billion US$ 2004) GDP per cap in 2004 at current international US$ (PPP) Private sector share in GDP (%) in 2005 Ination 2005 estimation FDI inows (% of GDP) 2004 Est. level of real GDP in 2004 (1989 = 100)
Source: EBRD (2005).

Table 7.2

World Bank Doing Business Indicators, 2006


Ukraine 9.2 186.5 38.8 13 3.4 0 60.3 16 42 Region 14.1 564.9 26.7 26.2 2.7 1.7 56 15 14.3 OECD 5.3 72 21.4 31.3 4.3 8.4 47.8 11.2 7.1

Doing Business Indicators Starting a business (% per capita income) Dealing with licences (% per capita income) Hiring workers (% salary) Firing costs (weeks of wages) Registering property (% property value) Public credit registry coverage (% adults) Total tax rate (% prot) Enforcing a contract (% debt) Closing a business (% estate)
Source: http://www.doingbusiness.org.

10 per cent per year (Osaulenko 2005). In 2005, economic growth temporarily slowed down as a result of unfavourable changes in terms of trade, as world energy (a main import) prices increased and metal (a main export) prices decreased. In 2006 the Ukrainian economy was experiencing a growth rate of approximately 5 per cent. The current Ukrainian economy is a typical example of a post-Soviet era developing economy. The World Bank classies Ukraine as a lower middle-income state (Table 7.2). According to the 2007 assessment of the Heritage Foundation, Ukraines economy is 53.3 per cent free and it is ranked one hundred and twenty-fth of a total 161 countries and fortieth of 41 countries in the European region. Ukraine is stronger in trade and scal freedom and weaker in freedom from government intervention, monetary freedom, investment freedom, property rights, and freedom from corruption (Heritage Foundation 2007).

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A low level of innovation and slow SME sector development is one of the reasons why Ukraine is still lagging behind in reforms. The creation of the private sector, which is the core of the transformation of political, economic and social systems towards a market economy requires an enabling environment. In Ukraine, although a certain degree of freedom in private entrepreneurship is in place, a variety of barriers hampers this. Research analysing SME problems and policies testify that the external environment constitutes one of the main barriers impeding development and growth of enterprises (Table 7.2). High taxes, administrative hindrances and related costs, regulations and corruption, and limited external nance are perceived by entrepreneurs as major barriers to doing business in Ukraine (Lyapin 2003; Smallbone et al. 2001; Welter 2003). Ocial statistical data demonstrate a growth in the number of small enterprises, which do contribute to local economic development, employment and innovation, but the potential of SMEs remains underdeveloped, in particular with regard to innovation (Table 7.3). The unfavourable environment leads to distinctive characteristics within the small business sector, with entrepreneurs preferring sectors with low entry barriers, such as trade (Isakova 1997). Recent years have witnessed a slow shift towards business activities in services and manufacturing, but the level of innovation on average is still very low. Companies that report new products or services admit that they are new to the rm rather than new to industry in Ukraine or to the world, which is veried through surveys of entrepreneurs (Smallbone et al. 2001). The low level of innovation is observed in industrial enterprises of all types of business ownership structures and size classes. However, innovating enterprises tend to be larger in size as is seen from Table 7.4. In addition, a slight decrease in innovation in smaller companies is observed in recent years. Indeed, according to ocial statistics in 2005, innovation1 was pursued by 1193 industrial enterprises, which constitutes 12 per cent of the total number (Kalachova 2006). In contrast, the share of industrial enterprises which reported innovation activities in 2004 was 14 per cent and in 2003 it was 15 per cent (ibid.). The decrease in innovation can be explained by the overall unfavourable conditions for business development discussed below. In their reporting forms to the State Committee of Statistics of Ukraine in 2005, industrial enterprises most often cited the following factors as inhibiting innovation: deciency of own nance (79.5 per cent ); high level of innovation costs (57.1 per cent); insucient state nancial support (54.3 per cent); high level of economic risk (40.7 per cent); deciency of legislation (38.7 per cent); long term of money return (38.2 per cent); and lack of nance from customers (32.1 per cent) (Kalachova 2006). In addition, 19.7 per cent of the surveyed enterprises mentioned that

Table 7.3
1991 1996 1997 1998 1999 2000 2001 2002

Dynamics of small business development in Ukraine


2003 2004

Indicator

109

47084 96270 136238 173404 197127 217930 233607 253791 272741 283398 Number of small enterprisesa % to previous year 100.3 141.5 127.3 113,7 110.6 107.2 108.6 107.5 103.9 SE per 1000 inhabitants 0.9 1.9 2.7 3.4 4.0 4.4 4.8 5.3 5.7 6.0 SE employment, 000 1192.4 1178.1 1395.5 1559.9 1677.5 1709.8 1807.6 1918.5 2034.2 1928.0 % to previous year 104.7 118.5 111.8 107.5 101.9 105.7 106.1 106.0 94.8 Mean number of employees at SE 25 12 10 9 9 8 8 8 7 7 % of SE employment in total 4.9 6.2 7.8 9.0 10.1 10.8 12.0 13.2 14.4 9.5 employment

Notes:

SE small enterprises; a. excluding farming enterprises.

Sources:

Osaulenko (2004, 2005).

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Table 7.4

Industrial enterprises that spent money on innovation in 2004 and 2005, by size groups
Industrial enterprises that spent money on innovation (no.) 2004 2005 85 162 235 281 177 209 44 1193 Industrial enterprises that spent money on innovation (% of total) 2004 4 9 14 20 28 42 63 14 2005 3 7 12 17 30 39 67 12

Number of employees

Less than 50 5099 100199 200499 500999 10004999 5000 and over Total
Source: Kalachova (2006).

131 184 269 337 167 230 41 1359

innovation was hindered by the absence of opportunities for cooperation with other enterprises and scientic organizations; 18.4 per cent mentioned a lack of information about new technologies; 18.3 per cent a lack of information about the markets; 16.7 per cent a lack of skilled personnel; 16.6 per cent a low receptivity of enterprises to innovation; and 15.3 per cent a low demand for innovation (ibid.). There is an understanding in government and society of the signicant role that innovation could play in the economy, which is testied by the fact that the transition of the Ukrainian economy to an innovation model of development was proclaimed in the government programme European choice. Conceptual bases of a strategy of economic and social development in Ukraine in 20022011 (Kuchma 2002). The declarations however were not supported by policy measures to improve the level of innovation or the poor state of the national science system. It is widely believed by Ukrainian economists that the existing gap between the production of knowledge and its practical implementation is the main obstacle to the proclaimed innovation model of development, but that this gap will never be bridged unless a better institutional environment is created for innovating enterprises (Fedulova 2005). Meanwhile Ukraine is not fully exploiting its entrepreneurial potential. Back in 1995 Abetti and Rice stated that Ukrainian entrepreneurs faced a variety of legal, political and social challenges described in the then emerging literature on transition economies, which was aggravated by a collapsing

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economy with hyperination. But even ten years ago in the opinion of the Western authors who visited Ukraine and assisted in the creation of the rst business incubators in Kiev and Lviv polytechnics there were technological entrepreneurs whose enterprises managed to survive and grow, albeit with the nancial help of Western assistance programmes (Abetti and Rice 1995). In Ukraine, science, technology and innovation could have been drivers in economic revival and welfare, but although the government had proclaimed a policy to build a knowledge-based economy and society, these statements were not supported by adequate state science and innovation policy. The literature on the transformation of science systems in postsocialist countries addresses dierent aspects of the process in the rst years of reform (Dyker 1997; Mayntz et al. 1998; Meske 2004). These studies report the typical obstacles faced by research institutes during the transition process, and the approaches used by administrations to preserve scientic potential and to continue research and development activities. The most frequently cited problems included a sharp reduction in state nance, which resulted in a reduction of scientic manpower; the ageing of scientic manpower; the ageing and growing decit of scientic equipment and facilities; and the brain drain. A more recent survey in the National Academy of Sciences has revealed that these obstacles are largely still in place (Malitskiy et al. 2005). Despite all the diculties and deciencies mentioned above, the research institutes of the National Academy of Sciences still possess the greatest science and technology potential in the country and provide the main knowledge spillovers in Ukraine. This view is supported by the existence of a great number of innovative enterprises, which at dierent times have spun o from the institutes and many of which are currently successfully doing business. The case study described in this chapter serves as an example of an enterprise that began on the basis of the entrepreneurs 15 years of experience as a scientic researcher at the National Academy of Sciences, and that utilizes R&D expertise and social capital gained there.

CREATIVITY, SELF-RELIANCE AND THE ABILITY TO ADAPT: THE RISE OF NEW SUBSTANCES2
New Substances is an innovative spino company which emerged in Ukraine in the years of transition. It belongs to the so-called academic enterprises, that is, small, technology-based rms which were founded by researchers from state research institutions. In the early 1990s in transition countries, such entrepreneurial attempts were undertaken by the most active researchers as a solution to the crisis in R&D activities and in order

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to provide income for those who were among the hidden unemployed (scientic sta who received no salary at all or at an insucient level). In many cases these individual initiatives, plunging into the terra incognita of entrepreneurship, oered the only way of preserving scientic expertise and knowledge. Successful innovative companies played a role in the implementation of research results and the formation of the nascent small business sector. New Substances is not unique, but illustrates one of the types of technology-based companies that exist in Ukraine. New Substances was registered in 1997 as a small private enterprise with two co-owners: the present owner and his business partner from Russia a former colleague, whose main task in the new business was to facilitate export operations from Ukraine to Western countries. Background Viktor Petrenko graduated from Kiev State University with a higher education diploma in chemistry. The rst years of his research career were spent in the Institute of Organic Chemistry at the Academy of Sciences of the Ukrainian Soviet Socialist Republic in Kiev. He worked in the institute for 15 years and successfully defended a dissertation to obtain a degree as candidate of chemical sciences.3 From 198595 Viktor worked for the Kiev department (aliate) of the Institute of Reagents in Moscow, which was set up in 1985. By 1991, the year of disintegration of the Soviet Union, the department was working successfully and was fully equipped to conduct chemical research and development. It was working as an independent institute, subordinate not to any Ukrainian ministry but to the Ministry of Chemical Industry of the former USSR located in Moscow. Viktor embarked what could be described in the initial stage as amateur entrepreneurship in 1995. He started to look for customers for the new substances produced by his research unit, although no ocial business was yet registered and he was still working for the institute. A vast reorganization of all central research institutions with aliates outside Russia took place after the collapse of the USSR in 1991. In Ukraine all institutions which were components of Soviet-wide organizations had to break from their former headquarters and obtain a new independent status. They changed their legal status and became subordinate to national ministries. In Viktors view his institute had the chance to become an independent self-sustaining research institution capable of nding markets for its research products worldwide. To his disappointment this vision was not shared by the institutes director and instead the institute joined other industrial institutions under the umbrella of the Ukrainian

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Ministry of Industrial Policy. The opportunity to make use of its unique situation was lost primarily because of the director, who was not prepared to take the responsibility or to use the emerging opportunity oered by private entrepreneurship legalization (such as the Law of Ukraine 1991a, and 1991b). Viktor continued to work for this research institute for two years, but he was dissatised with the directors policy, his own limited inuence on decision-making, as well as with the level of remuneration and overall vague career prospects. Dissatisfaction and disappointment with the management and operational space in the state institute coupled with the prospects of new business opportunities and high professional qualications decided Viktor on starting his own business. He rented premises at the Institute of Organic Chemistry and invited about ten of his colleagues experts in organic chemistry to join the newly established company. His expertise and management skills evidently persuaded his colleagues that he would be a success and they entrusted their professional careers to his business. Given the economic crisis in Ukraine in the mid-1990s, and considering the type of product and prole of the new business, Viktor intended to nd markets for their products abroad. At the inception phase of business, Viktors wife Olga helped him a great deal as she was an English teacher. In fact, the two of them started the business together. They travelled abroad to gather information on future customers and market opportunities. Olga acted as Viktors translator and interpreter during these business trips. Olga is no longer involved in her husbands business and is busy helping her daughter (who is working for New Substances) raise her children. Main Activities and Products By 2006 New Substances was a well-known Ukrainian producer and exporter of organic compounds for high-performance bio-screening.4 Over 100 leading pharmaceutical, biotechnological and agrochemical companies from Europe, North America and Japan are its customers. The main activity of New Substances is described by Viktor as directed synthesis of organic compounds for biological research. The main goal of New Substances is to promote company products throughout the world market using the best R&D results of Ukrainian chemists. The company specializes in organic synthesis for high-throughput screening (HTS). It is currently registered as a private small business (a joint stock company) and is rapidly becoming an internationally recognized producer and supplier of original HTS compounds and related services. Fostering business development, the owner pays special attention to increasing and upgrading production,

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enhancing quality control, and modernizing facilities and equipment to provide rst-class products and services. The small organic molecules database of the company consists of more than 490 000 compounds including diversity and targeted libraries.5 It also should be mentioned that New Substances is among the few exporters of Ukrainian high-tech products for use in pharmaceutical, biotech and agrochemical applications. In 2004 Viktor registered a company in Burlington, Canada, and opened a European oce in Braunschweig, Germany, to simplify communication and contracting with foreign customers by avoiding obstacles set by the authorities for Ukrainian exporting rms. These oces employ only one or two people who work under Viktors direct supervision. The site for all production activities, however, is still located in Kiev. Business Performance and Marketing Searching for customers was a major task at the inception phase of New Substances in 1997. In the mid-1990s there was no market for organic chemistry R&D in Ukraine or elsewhere in the former Soviet Union, so from the outset Viktor was looking for customers in developed market economies. Visiting international exhibitions in advanced European countries was the main strategy used to nd potential clients. Both producers and customers of innovative products in organic chemistry participate in these exhibitions. Gradually, with the development of new information and communication technologies in Ukraine, Viktor and his sta started to use the Internet for marketing. By 2006, Internet resources had become the main method used to expand the customer base. The produced compounds can be searched on the Internet via SPRESIweb6 or the reaction database of InfoChem GmbH, a German software company for chemo-informatics that specializes in storage and handling of chemical structure and reaction information. New Substances undertakes in-rm applied science research with the objective of creating new products with particular characteristics. First, special software is used to conduct virtual screening. They are searching the market to understand the latest trends in demand for their products targets used to produce medicine or agricultural preparations. A structure is created as a base and after that libraries of compounds are made. The level of innovation at New Substances was evaluated by Viktor as products new to the industry. In his view, a breakthrough innovation only occurs at the border of the eld (sub-elds) of science and needs generous investment. The marketing department is supervised by a candidate of chemical sciences, who is uent in English and German. At present New Substances has

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approximately 300 permanent customers and contacts more than 500 customers annually from dierent countries. The main customers are from the US, Canada, the European Union, Japan and Taiwan. They tend to be large and successful companies which are engaged in the development of medicines or agricultural preparations. New Substances sells to international and foreign companies including Bayer CropScience, AstraZeneca, Roche, UCB and Dow AgroSciences. Viktor believes that there are about 20 competitors for his company in the market. The main competitors are in Russia and they tend to have started their business activities before New Substances. Keeping pace with market demands, the company oers mutually benecial terms and competitive prices, thus making the ratio of product quality to cost most attractive for its customers. In order to gain a competitive edge, a special biological laboratory was created that allows in-house screening. Viktor is proud of the high quality, reliability, variety and uniqueness of their products and technical services. He sees this as a solid basis for the current and future competitiveness of his rm. New Substances is a growing company, with a 20 per cent annual growth in sales. The situation in world markets has more eect on their performance than the home market or business environment in Ukraine. Although the business environment in Ukraine is not favourable Viktor has managed to adapt to it. Personnel At start-up, New Substances employed 15 people. By 2006, it had expanded to employ approximately 100 highly-qualied professionals. The company consists of ve core laboratories, a marketing department, and a warehouse of reagents, a brokers unit, and oce management sta. The two brokers are employed by Viktor to facilitate customs clearances of the import and export of chemicals. There is also a logistics group responsible for the timely supply of reagents and support sta such as drivers and construction workers. The professional sta at New Substances are active in research and participate at scientic conferences and seminars, publishing their scientic results in Ukrainian as well as in international chemical journals. Another feature of the high level of innovativeness is indicated by the fact that graduate students willingly do their internships there. As a result, graduate students from the Shevchenko National University and the National Polytechnic University in Kiev are actively participating in research during their studies. This is also used as a method to select new young talent for the company: the owner oers jobs to the best graduates interning at his rm.

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The major problem faced by Viktor with relation to scientic personnel was a lack of medicinal chemistry7 experts in Ukraine. The chairs in this eld were created in Russia at Moscow State University and in Ukraine in Kharkiv. But this scientic eld in the Newly Independent States (NIS) still lags behind the Western centres which started this research about 30 years earlier. To address this shortage, Viktor hired Jan Karlsson, a Swede, and an expert in medicinal chemistry, who graduated from a Dutch university, on a contractual basis. At the same time Juri, a Ukrainian researcher in organic chemistry was hired under the condition that he would master this eld of knowledge. Juri is a candidate of chemical sciences and knows English. Selfeducation is the main method used to become an expert in medicinal chemistry in Ukraine, including participation in scientic conferences and study of periodicals and other scientic literature. Jan Karlssons contacts are also helpful for the business since he is able to access specialized software with an 80 per cent discount price for an annual licence. He has established a longterm cooperation agreement with the software producers and maintains two terminals, one of which is used by the company in Kiev. The professional sta of New Substances is constantly improving the levels of qualication but this growth in R&D competence does not result in new scientic degrees for its employees. The salary of employees depends on their productivity: the more they produce the higher their compensation. That is why the employees do not wish to spend time on obtaining further degrees. Viktor pays attention to personnel training. Travel expenses of employees to participate in seminars and conferences are covered by the company. For instance, the company planned to purchase a microwave for synthesis at about 60 000, but rst, one of the chemists was sent to a seminar in Austria to learn more about such microwaves. This business trip cost about 4000. Networking The company is further supported by connections with other Ukrainian teams of chemists that work together on international bio-screening programmes. Close contacts are maintained with more than 150 producers of organic compounds in Ukraine and contracts with ten chemical laboratories have been signed. This collaboration is based on consideration of the partners interests, the observance of obligations, and progressive and carefully thought out price policy. The company invites all professionals in its line of activity to a mutually benecial cooperation. Normally, cooperation with Ukrainian chemical research institutes is arranged in the form of mutual favours. New Substances is able to help with analytical research which requires equipment the state institutes are lacking

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or to do an Internet search; in return it can buy chemical reagents that are available in Ukrainian chemical research institutes. As discussed earlier, cooperation with higher education institutes is used to supply the company with young researchers. Business performance seems to depend a lot on networking activities and long-term cooperation with foreign suppliers and customers maintained through personal contacts and Internet exchanges. Viktor is also careful to sustain mutually benecial relations with their host institute. He would never hire their host institutes employee without rst consulting his or her boss. He does so only if there are no objections on the part of the institutes management. The institute has gained much from having the company as a tenant, including a regular rental income, renovation of the rented facilities, and numerous small favours, such as Internet searches or access to the companys specialized equipment. The high level of networking on the part of the owner can be regarded as one of the strengths of the company.

CHALLENGES AND THE WAY AHEAD


Problems during Business Development Major challenges for the company stem from the business environment, which continues to be hostile to innovative enterprises. Viktor is aware of the business environment in the advanced economies of Western Europe, and holds a very high opinion of those environments. He compared them to the situation in Ukraine. In his view, in advanced economies, the pharmaceutical business is extremely attractive for investment with a comparatively quick return of capital. Researchers nd a target and decide to start a company. Registration is relatively easy and takes only 23 days. Then a business plan is written and the business idea is advertised to investors. There is no need to purchase equipment as it can be leased for several years with an annual payment of approximately 20 000. The money spent on leasing is earned within ve years. In Ukraine the situation is dierent: the registration procedure is complicated, time-consuming and costly; there are no domestic investors to be found and no leasing facilities are available. You have to buy and import equipment, which increases the original price by 12 per cent VAT and approximately 30 per cent in transportation costs. Viktor elaborated further on the ways in which the hostile business environment in Ukraine aects his business. For example, from the start-up of the company until 2005, the state did not return the collected VAT to the company and remained indebted by 200 000 UAH (31 250) to New Substances. In 2005 promissory notes (bills of exchange) were issued to be

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settled by the state in ve years. As the government was in no hurry to pay the debt, Viktor sold these bills of exchange to a bank at a 20 per cent discount. As a result he lost 20 000 UAH (3125) but the delay was damaging to the business which needed working capital. Bank credits were never used by Viktor because of high interest rates (approximately 2030 per cent) and unfavourable conditions. He used the word robbery to describe bank credit policy and practice in Ukraine. Customs represent another bottleneck for New Substances. Import of equipment and reagents and the export of products are integral parts of the business. In Viktors evaluation, his business performance strongly depends on customs regulations. He illustrated this situation with the following example. Between January and September 2006, the company made approximately 500 dispatches. Customs demand a hard copy of a signed and stamped contract with the client to accompany every dispatch. The substances produced by the company and ordered by clients are often tiny quantities measured in grams. For a Western customer who used to order several grams of one or two items via the Internet it may seem ridiculous and inconvenient to prepare and send a hard copy of a contract for every gram. But such are the Ukrainian rules. Viktor was patient with the customs authorities. In his words: There was a mutual training process. We were teaching the customs ocers; they were teaching us. In the rst years of business activities he had to explain the peculiarities of the export items and eventually an agreement was reached not to declare every single compound but sets of compounds. With regard to contracts with clients, the problem was solved by opening the company in Canada. Although Viktor is also the owner of the Canadian company, they are dierent legal entities and long-term contracts can be signed and export and import operations facilitated. The Kiev company is described as a production site of the Canadian company. Another conict with customs occurred when the customs ocials in Boryspil (Kiev airport) suddenly decided that customs clearance should be fullled not by Kiev customs services but by the Boryspil customs services. This led to new diculties in renegotiating previously agreed arrangements with the new customs ocials. Payments to the pension fund and other social payments related to personnel salaries comprise 60 per cent of salaries and constitute another problem for business development, although this is also a common complaint of enterprises in mature market economies. Viktor confessed that part of the paid salary is not reported, that is, it is paid to sta in envelopes, which is widespread among both Ukrainian and foreign companies operating in Ukraine and other post-Soviet countries (Welter and Smallbone 2003).

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In Viktors opinion, the eciency of Ukrainian companies is too low to pay high Ukrainian taxes and other obligatory payments, such as to the pension fund. He evaluates Ukrainian eciency as three times lower than that of, for instance, Sweden or Denmark. Business and labour conditions, administration, management, and access to nancial instruments all contribute to the low level of eciency and productivity. Inadequate working space also has a negative inuence on performance. The expanding company has been renting premises for its oce and scientic laboratories since 1997 and in 2001 it took over a separate small building not used by the Institute of Organic Chemistry of the NAS of Ukraine (the landlord of New Substances). Viktor rented and renovated this building and moved the companys oce there. However, the problem of the laboratories premises is still an urgent one. The laboratories in the main institute building need renovations, in particular in terms of special ventilation facilities, but Viktor will not invest money in this because he is not the owner. On the other hand, the institute has no legal right to sell the rented premises, neither the laboratories, nor the oce premises, because these are state property. Viktor is currently planning on constructing a new building to house New Substances, laboratories and oce. To spread risk Viktor owns not one but three companies, again a pattern frequently to be observed during transition (Smallbone and Welter 2006). One of Viktors other companies is exploiting a special xed tax scheme, according to which if a company has a turnover of less than 1 million UAH (156 000) and employs fewer than 50 people it pays a xed tax rate. When the company started to grow, Viktor maintained its status and registered a third company which is paying taxes on general terms. There are advantages for business in both cases and Viktor is actively exploring the most conducive conditions. Boris Ivanov, the Russian co-owner of the company at start-up, has troubled the company for some years. At the time the company was started, infrastructure and services in Ukraine were less developed than in Russia; in particular, there was no express post service available, and it was mainly for this reason that Viktor invited Boris to be co-owner of the company. Eventually, the situation in Ukraine improved and there was no longer a need to send dispatches via Russia. Viktor was not satised with his partners contribution, but it was some time before he was able to end the partnership. Viktor referred to his decision to have a Russian partner as a strategic error. He had to learn through his own experience how dicult it is to nd a good business partner and how rare to nd one that contributes equally to the business. The process of dissolving the partnership was painful and expensive. Viktor paid dearly for his mistake.

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Viktor has never applied for any external business support in the form of consulting or advice. His company is not a member of any business association. New Substances did apply for services at the Chamber of Commerce and Industry, but only because the chamber helped to overcome barriers at the customs oce, as this is the institute in charge of issue of certicates of origin for export. Overall, Viktor considers the chamber to be a parasitical organization. Strategy and Future Development Plans The company strategy is to gain competitive advantage through innovation and the development of high-quality products, as the market is extremely volatile. Looking back Viktor concluded that his team had become more competent and specialized; they had started to understand what was needed to be successful. He had also come to understand that you could not put all your eggs in one basket, meaning the time had come for some diversication of business activities, just to be on the safe side if the situation were to worsen in the market. Viktor mentioned that he would like to diversify business activities by a move into the manufacturing sector to produce chemicals for research laboratories. Viktor realizes his speciality was a particular advantage when compared to researchers in other scientic elds. He says, New substances will always be in demand and this is the thing we are qualied to do. In Ukraine many competent researchers, in particular in engineering science, were unable to provide any marketable products when business opportunities opened, but his team found a niche that could protably be exploited. Viktor is planning to further develop his business. Its position in the market and the business performance would allow the company to grow, but the inadequate premises remain an obstacle. This is the main constraint on growth, because there is no room for any increase in the number of sta. It is to deal with this constraint, that Viktor plans to construct a new tailor-made building in a few years time. He is looking with optimism to the future, the more so since his adult daughter is an economist by profession and his son is a specialist in informatics and both are working for New Substances. Viktor also enjoys doing business because he likes to be the master of his destiny and values freedom. SWOT Analysis Based on the case study, the following SWOT analysis summarizes the main issues confronting New Substances (Table 7.5).

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Table 7.5
Strengths

SWOT analysis of the Ukrainian case study


Weaknesses Lack of necessary experts Insucient working space Rented premises Individual decision-making Limited external nance available No intention to apply for/use external business assistance

In-rm R&D and innovation Highly qualied manpower Financial self-sustainability Long-term orientation Entrepreneurial spirit of the owner Good networking skills

Opportunities Market niche New markets possible Networks in the country and abroad ICT development in the country

Threats Volatility of the world markets No domestic market Domestic laws, regulations, taxes Underdeveloped business support infrastructure

The SWOT analysis reects Viktors vision of the management style and approaches necessary to succeed in innovative business in Ukraine. Viktor believes the success of his business rests primarily on the type of innovation, the particular business sector selected and his previous work experience. There are no arguments with this statement. At the same time there is a feeling that Viktors personal characteristics, primarily his entrepreneurial spirit and persistence, have had a still greater inuence on his businesss survival and growth. Under other circumstances, for instance, had he taken up a dierent profession or eld of scientic research, he would still have started doing business the day it became legal in Ukraine. Viktor is fully aware of some of the strengths and opportunities of his company, such as in-rm R&D and innovation, highly-qualied sta, networking and a market niche. His intuition helps him to nd new markets, to use the ICT advantages emerging in Ukraine and to develop professional and business networks. Most of the weaknesses identied are based on an assessment of Viktors current situation, including the lack of necessary expertise, inadequate working space and limited external nance; hence these weak points are already being addressed. The same holds for the threats. The strategies used by Viktor to deal with the volatility of world markets and the limited domestic market are focused on improved quality of products and the future diversication of business activities.

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Viktor is in control of every single issue in his business. He makes all decisions himself and is not inclined to delegate. In terms of employment the case study is a medium-sized company, in terms of management and decision-making it is a one-person company. What is more, Viktor does not perceive this as a weak point in his business management, which could lead to unpleasant surprises in future. In addition, more attention could be paid by Viktor to external business support providers (which he has ignored in the past and continues to ignore), which might have had a positive eect on his businesss potential development.

CONCLUSION
Innovative entrepreneurship is increasingly seen as the engine that could have driven the transition economy of Ukraine to contribute to wealth creation, regeneration and restructuring of the economy and employment creation. Currently, the Ukrainian business environment is not conducive to innovative entrepreneurship development, the business support infrastructure is underdeveloped, taxes are high and business is hampered by administrative hindrances and related costs, regulations and a high level of corruption, and limited external nance. A high level of R&D development in Soviet Ukraine enabled the emergence of innovators in independent Ukraine after 1991, when private business activities became legal. Achievements in some scientic disciplines, including organic chemistry, proved to be competitive in world markets. Despite the absence of a history of private entrepreneurship development in Ukraine, where under Soviet rule private business activities were actually illegal, there were potential entrepreneurs in the country emerging once the transition process got under way in the early 1990s. New Substances is focused on the production of organic compounds for high-performance bio-screening, which is indispensable in contemporary biotechnological and agrochemical research. The directed synthesis of organic compounds for biological research is their main innovation. The wide range of foreign customers is a testimony to the internationally recognized level of innovation of the Ukrainian rm. The innovative products that they produce contribute to innovations in adjacent research areas and ultimately to the creation of new medicines and agricultural fertilizers throughout the world. The company is a pioneer in small business development in Ukraine; an innovator exploring the ways of achieving success in business and setting an example for others. The Ukrainian case study provides evidence that the creation and development of new innovative businesses is not stimulated by government, but

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that companies nonetheless emerge and develop in a hostile environment, primarily due to the individual initiative of their founders.

NOTES
1. The denition of types of innovation used by the State Committee of Statistics of Ukraine include research and development; purchase of new technologies; production design and other types of preparation of production to new types of products; introduction of new methods of production; purchase of new equipment and devices; marketing and advertising and other types of innovation (Kalachova 2006). 2. New Substances is a pseudonym used on the request of the respondent who preferred the name of the company not to be mentioned. All personal names are pseudonyms. The casestudy interview was conducted by the author on 12 October 2006 in the respondents oce in Kiev, Ukraine. 3. As in many other former Soviet Union countries (for example, Russia, Belarus) in Ukraine the Soviet system of scientic degrees is kept. There are two scientic degrees: Candidates of Sciences and Doctors of Sciences. Western experts equate the scientic degree of Candidate of Sciences with a PhD. 4. Bio-screening is a technique used in drug design research to model the biochemical interaction of the drug candidate with the biochemical structures of a biological object. Bioscreening involves the rapid assessment of large libraries of chemical structures in order to guide the selection of likely drug candidates. 5. A library here refers to a set of new substances used in bio-screening. 6. http://infochem.de/en/products/spresiweb.shtml. 7. Medicinal chemistry is a scientic discipline at the interface of chemistry and pharmacy involved with designing, synthesizing and developing pharmaceutical drugs, that is, new chemical entities suitable for therapeutic use.

REFERENCES
Abetti, P.A. and M.P. Rice (1995), Planning and building the infrastructure for technological entrepreneurship part III: eld studies in Ukraine, Frontiers of Entrepreneurship Research, http://www.babson.edu/entrep/fer/ferform.html, accessed 2 March 2006. Dyker, D. (ed.) (1997), The Technology of Transition Science and Technology Policies for Transition Countries, Budapest: Central European University Press. EBRD (2005), Transition Report 2005, http://www.worldbank.org, accessed 1 October 2006. Egorov, I. (1995), The transformation of R&D potential in Ukraine, Europe-Asia Studies, 47 (4), 65168. Fedulova, L. (ed.) (2005), Innovative Development of Economy: Model, System of Management, State Policy, Kiev: Osnova Publishers. (In Ukrainian.) Heritage Foundation (2007), http://www.heritage.org/research/features/index/ country.cfm?id=Ukraine, accessed 14 March 2007. Isakova, N. (1997), Sector-related opportunities and threats for small business starters in the Ukraine, in R. Donckels and A. Miettinen (eds), Entrepreneurship and SME Research: On Its Way to the Next Millennium, Aldershot: Ashgate, pp. 8192.

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Kalachova, I. (ed.) (2006), Science and Innovation Activity in Ukraine, 2005. Statistics Collection, Kiev: State Committee of Statistics of Ukraine. (In Ukrainian.) Kuchma, L. (2002), European Choice. Conceptual Bases of a Strategy of Economic and Social Development in Ukraine in 20022011. Message of the President of Ukraine to Verhovna Rada of Ukraine, Kiev: Information and Publishing Centre of State Statistics Committee of Ukraine. (In Ukrainian.) Law of Ukraine (1991a), On entrepreneurship, of 7.02.1991, No698-XII, www.rada.gov.ua, accessed 2 March 2006. Law of Ukraine (1991b), On Enterprises, of 27.03.1991, No887-XII, www. rada.gov.ua, accessed 2 March 2006. Lyapin, D. (ed.) (2003), Doctrine of Private Initiative, Kiev: Institute of Competitive Society. Malitskiy, B., L. Kavunenko, N. Isakova, O. Krasovska and V. Gryga (2005), Functioning and Prospects of Development of the National Academy of Sciences of Ukraine, Kiev: STEPS Centre. (In Ukrainian.) Mayntz, R., U. Schimank and P. Weingart (eds) (1998), East European Academies in Transition, Dordrecht/Boston/London: Kluwer Academic. Meske, W. (ed.) (2004), From System Transformation to European Integration. Science and Technology in Central and Eastern Europe at the Beginning of the 21st century, Mnster: Lit Verlag. Osaulenko, O. (ed.) (2004), The Statistical Yearbook of the Ukraine for the Year 2003, Derzhkomstat of the Ukraine, Kiev: Konsultant. (In Ukrainian.) Osaulenko, O. (ed.) (2005), The Statistical Yearbook of the Ukraine for the Year 2004, Kiev: Konsultant. (In Ukrainian.) Pavitt, K. (1997), Transforming centrally planned systems of science and technology: the problem of obsolete competencies, in D. Dyker (ed.), The Technology of Transition Science and Technology Policies for Transition Countries, Budapest: Central European University Press. Smallbone, D., F. Welter, N. Isakova and A. Slonimski (2001), SMEs and economic development in Ukraine and Belarus: some policy perspectives, MOCT-MOST: Economic Policy in Transition Economies, 11, 25274. Smallbone, D. and F. Welter (2006), Conceptualising entrepreneurship in a transition context, International Journal of Entrepreneurship and Small Business, 3 (2), 190206. Welter, F. (ed) (2003), Female Entrepreneurship in the Ukraine, Moldova and Uzbekistan: National Report on survey data for the Ukraine (INTAS 00-00843), Essen: RWI. Welter, F. and D. Smallbone (2003), Entrepreneurship and enterprise strategies in transition economies: an institutional perspective, in D. Kirby and A. Watson (eds), Small Firms and Economic Development in Developed and Transition Economies: A Reader, Aldershot: Ashgate, pp. 95114.

Index
academic enterprises 111 academic research, government sponsored, Russia 10 accountability fostering 234 accounting department, IBG 62 accounting requirements, Belarus 44 administrative burdens, Belarus 30 adventure and nature tourism 77 agricultural preparations 72, 106, 115 agrochemical applications 114 aid and indebtedness 72, 73 Alzheimers disease 25 analytical research 11617 antibiotics industry, Soviet Russia 11 asthma 25 authoritarianism 49, 51, 58 permissive, Kazakhstan 60 Babur, Mughal dynasty, India 80 Bank Business Environment and Enterprise Performance Survey (BEEPS) 53, 55 Belarus, technology-based enterprise 2, 2946 bidumbacterin as powder 1415 Biocad, biotechnology company 2, 6, 826 manufacturing plant 17 R&D Centre 13, 18 scientic research centre 16 BioIndustry Initiative Program of US 18 bioindustry, Russia 11 biological research institute 2 biological warfare 1516 biopharmaceuticals 13 import, Russia 1011 bio-screening 4, 113, 116 biotechnical market in Russia 1012 biotechnical products for agriculture 9 biotechnology business 12, 14, 114 global industry, 910 blood products 11 brewing (fermentation) 10 bribery and corruption 548, 93 bureaucracy 923 Belarus 44 business and political elites 74 business aptitude 85 business consulting in Kazakhstan 4867 business development in hostile environment 89102 business environment Belarus 29, 30 hostile 117 business growth problems 99 business networks 789 business strategy problems 69 business support infrastructure, underdeveloped 4 business uncertainty in tourism 77 businesses, lack of association between 59 cash-ow problems, Sinta 37 cell cultures 10 Central Asia post-Soviet 48, 49, 50 source of raw materials 72 Central Europe 1 Centre for Immunological Engineering 1617 manager 19 chamber of commerce and industry (CCI) 60, 64 chaotic governance 49 chemical knowledge and entrepreneurs 10523 chemical research and development 112 China collapse of relations on Sinta 42 competitive advantage for nanodiamonds 40 on eastern border of Kyrgyzstan 71

125

126

Innovation and Entrepreneurship Eastern Europe 1 economic crisis 106, 107 economic development and political uncertainty 69 economic governance, quality of 54 economic growth in Kazakhstan 49, 5960 economic performance achievements 72 economic standing 85 education, high levels 36, 95, 101 election campaign, 2005, Kazakhstan 64 employment of friends and relations 94 lack of opportunities 5 employment relations 36 energy route between Asia and Europe 66 energy supplies 52 entrepreneurial class growing in Kazakhstan 645 loss of 71 obstacles in Russia 26 entrepreneurs, challenges to 11011 entrepreneurship development 913, 101 environmental protection 10 enzyme engineering technology 10, 11 equipment, new 37 ethnic composition changes 71 European market for New Substances 114, 115 exchange and patronage networks 6987 explosives 2, 33 exports of knitwear 97 factory towns with only single factory 70 family enterprise 94 family social activities 63 family support 100101 farming income 83 nance Sinta 36, 39, 42 for technology-based rms 44 nancial problems 923 exibility in duties 95 folkloric nationalism, Kazakhstan 51

Chinese state company, partner for Sinta 41 chrome-diamond hardening of metal 37 civil society action 50 class, a central role 63 clothing manufacture 96 coating technology 34 collective action 58, 59 Commonwealth of Independent States (CIS) 9, 30 communist control of USSR, collapse 74 communist ideological indoctrination 59 Communist Youth and Sport Association 81, 82 Community Based Tourism (CBT) network 80, 82, 83, 84 competition from other rms 99 lack of 38 conict resolution 24 consultancy advice 48, 60, 61 cooperation with research and education institutes 117 corruption 923, 99, 100 in Kyrgyz society 74 in Moldova and in Ukraine 4 in state bureaucracy 83 costs for business 9 cytokines 25 decentralization under Gorbachev 79 decisions, delegating 234 defence-related activities 33, 38 de-industrialization in Central Asia 74 detonation method for nanodiamonds, hazardous 38 development and growth, barriers to 108 diagnostic in vitro products 11 diamonds, synthetic (Sinta) 33, 34 distribution company, Biocad 1415 DNA technology 10 domestic market for nano-diamonds 40 for Sinta 37 drug development 16 drugs, genetically engineered 11

Index foodstu retailers 61, 63 funding at start-up, Sinta 33, 36 funding, external, position on 96, 97 genetic engineering 2, 10, 16 Genferon, suppository 17 government ocials 100 grants from US for research 20 growth, barriers to 99 guesthouse, Aigulas, in Osh, Kyrgyzstan 3, 70, 8084 gulf between poor and rich, Kazakhstan 63 high throughput screening (HTS) 11314 hormones 11 hostile business environment 101 human resource policies 1824 human resources, Sinta 356, 45 hydrolytic industry 10 hyperination in Ukraine 106 IBG Consultancy 5865 illegal extortion 55 illegal working 102 illicit earnings 77 immunity products market 17 immunobiological products 11, 12, 13 impersonal trust 50 Independent Businessmens Group (IBG) 3, 48, 6062 industrial clusters 52 industrial complexes, collapse of, after Soviet-era 73 industrial restructuring 44 industry in Belarus, weak nancial position 39 InfoChem Gmbh, German software company 114 information, lack 110 initiative, unwelcome in Soviet system 95 innovation in transition countries 6 underdeveloped 108109 Institute of Organic Chemistry, Moscow, 11213 insulins 11 intellectual property protection 40

127

international markets and Russian pharmaceuticals 25 internet marketing 114 interpersonal trust, weak in Central Asia 58 investment in Biotech 25 in biotechnology, Russia 12, 14, 15 investors, Russian, for Sinta 42 isolation of poor and dispossessed 85 Issik-Kul region in Kyrgyzstan 77 Iurev, Matvei, research at Biotech 1922 joint-stock company 33 joint venture activity 37 nano-diamonds 41 Kazakhstan 3 business consulting 4867 economy and business 528 KazMunaiGas oil company 53 Kazyna Fund for Sustained Development 52 Kazyna Joint Stock Company 52 kickback payments 54 Knitwear Factory, Moldova 34, 89102 knowledge-based rm, Sinta 45 Kyrgyz Republic under Soviet power 71 Kyrgyzstan business case 6987 and Commonwealth of Independent States (CIS) 72, 73 Lake Issik-Kul, major tourist attraction 80 lateral structure, Kazakhstan 49, 51 law enforcement, arbitrary, in business 48, 49 learning by doing 6 legal infrastructure, underdeveloped 9 legal structures, weakness of 5 legal system imperfections 44 legislation, unstable 923 Leucostim, cancer treatment 17 licensing agreement 37 lobby groups 58 lobbying and collective action 5860

128

Innovation and Entrepreneurship nihilistic attitudes 59 nomadic steppe traditions 50 oil and gas hub between east and west 65 discoveries 52 revenues, Kazakhstan 50 open society 49 organic compounds export 113 organic synthesis 113 Parkinsons disease 25 patents 40 patrimonialism 66 patronage networks 81, 82 in Soviet era 79 80 personnel training, importance of 11516 pharmaceuticals applications, 114 generic 2, 9 products 9 PharmExpert company 18 political instability 49 political power in markets 49 post-Soviet democracy building 51 post-Soviet transition in Kyrgyzstan 714 poverty alleviation 74 power consolidation 49 power structures, diversication 48 private enterprises 5, 8991 private entrepreneurship legalization 113 private sector business 108 privatization of economy 2, 3, 8 and Biocad (Russia) 5 product trading 81, 82 professional assistance, risks of 101 prots and losses 90 prot sharing with scientists 22 property rights 5 on at 82 insecure 59, 69 protection of 77 public service provision, poor 78 R&D activities 10, 11113 Biocad 1718

machinery for knitwear factory 98 macroeconomic management, Belarus 30 management skills, and lack of 923, 95 management uncertainty 69 managers and scientists for Biotech 19 manufacturing with nano-diamond components 34 markets 967 competition 54 economy 49, 84, 105 leaders in biotechnical medicines 10 potential, international 38 Sinta 369 medical biotechnologies 9 medications, popular 13 medicines, new 2, 115 mergers and acquisitions, IBG 62 micro-organism cultures production 10 microscopes for nano-diamonds 38 middle-class ties 85 migration, forced 71 mineral and oil resources, Kazakhstan 52, 53 Ministry of Industry Policy 11213 Moldova knitwear factory 89102 Moldovan government, and business development 100 mono-economies 72 Morozov, Dimitrii banker and entrepreneur 2, 8, 26 business education 13 motivation and reward system 22 Muslim Central Asians 72 mutual trust, lack of 59 nano-diamonds 2, 3, 33, 34 additives, sale to China 43 market 38 production market in Germany 39 technology 39, 41 National Academy of Sciences 111 national consciousness, loss of 71 nationalism 50 natural resources of Kazakhstan 53 neo-patrimonialism 66 New Substances (Ukraine) exporter of organic coumpounds 4, 6

Index large expenditures 45 Russia 12, 15, 16 racketeers and gangs 77, 78 RAO Biopreparat, Russia, research 1516 raw material for nano-diamond production 40 supplies 100 reformist movements, loss of 71 regionalism and territorial power 72 registration procedure, complexity of 117 regulatory environment, changing 6 regulatory interference 4 relationships with colleagues at Biotech 21 research entrepreneurs 35 research scientists as business partners 22 restrictions of foreign traders 74 regulatory 923 revenue sources, Sinta 34 rheumatoid arthritis 25 risk-taking 6 rule of law, deterioration 74 ruling elite, Kazakhstan 49, 50 rural and urban Kazakhs 63 Russian business conditions 9 Russian intervention in Belarus 43 Russian population in Kazakhstan 52 Samruk Holding Company 53 savings scheme 84 science and commercialization of products 24 and nished medication 24 science and technology-based enterprises, Belarus 30, 33 science and technology research, obstacles to 105, 111 scientic community 105 scientic entrepreneurship 2, 5 scientic research and commercialization 2 scientists and managers, Sinta 35 self-governing groups and ruling elite 77 shadow economy, Moldova 4, 93, 99

129

Silk Road tours and border crossings 75 silk route trade 80 single party regime 49, 50 Sinta company, Belarus 2, 6, 29, 3343 development after 2001 413 unfavourable economic conditions 45 skilled labour 99100 ski resorts 77 small and medium enterprises (SME) 1, 53, 61 Belarus 30 sector development 108 in transition economy 94, 96 social networks 69, 789 for business, help and hindrance 856 provider 61, 62, 63, from Soviet period 5, 6 social status, in Soviet system 70 solidarity network 60, 62 Solomons Throne, at Osh 80 Soviet command economy 58 meltdown 69 Soviet rule, legacy of 1, 2, 50 spin-o company 11117 start-up stage 96 state control, top-down 634 state employment policy 64 state inspectors, abuse by 55 state support, lack of 105 summer resorts 77 survival strategy for transition states 69 Tajikistan 50 talent recruitment 23 Tashkent bombings 75 task exibility, Sinta 36 taxation rates, high 44 taxation system 93 taxes, high 4, 108 tax ocials, abuse by 55 technical experts, Sinta 35 technology transfer 10506 Sinta to China 41, 42 technology-based enterprise, Belarus 2946 TEMPO programme 18

130

Innovation and Entrepreneurship uprisings, Georgia, Ukraine, Kyrgyzstan 49, 50 urban economies, distorted 70 urban infrastructure, deteriorating 83 urogenital infections 17 Uzbekistan corruption in bureaucracy 55 drop in tourism 75 vaccine 11 vegetable garden, urban 83 venture capital market 44 vertical connection, important 61 viral diseases 12 vitamins 11 Western investments 52 workers remittances 74 work ethic, weak, Russia 23 World Bank assessment of Commonwealth of Independent States 30, 31, 32

territorial specialization of industrial plants 70 tourism as business in Kyrgyzstan 6978 in Central Asia, decline 745 tourism potential 3 trade as business activity 90 trade unions 58 transition economies entrepreneurship in 45, 6 young 44 transition process 6 Transparency International 93 tribal and family ties 59 trust, and social networks 84 trust, crucial role of 956 Tsentrocredit Bank investment 2, 13, 14 Ukraine, New Substances 10523 unemployment 58 in Kyrgyzstan 70, 74 unique selling point of Sinta 35

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