Joint survey by EY and the Russia-China Investment Fund (RCIF), which was established by the Russian Direct Investment Fund (RDIF) and China Investment Corporation (CIC).

1. China and Russia
in 2017: an intricate
path of growth
April 2017
EY in partnership with
Russia-China Investment Fund

2. China and Russia
in 2017: growth
at all levels
2016 marked the 15th
anniversary of the Treaty on Good-Neighborliness, Friendship
and Cooperation between China and Russia. It also meant that 20 years had passed
since the establishment of strategic cooperation and partnership relations between
the two states1
. During 2016, President Putin and President Xi met four times2
to
discuss the development of China-Russia cooperation. Further, in the course of 2015
and 20163
, a range of politicians announced that Russian-Chinese ties had reached
a new historical peak, providing a springboard for further development in 2017.
China and Russia in 2017: an intricate path of growth
1 Signed in July 16, 2001. Original text (in Russian) —
http://www.mid.ru/ru/maps/cn/-/asset_publisher/WhKWb5DVBqKA/content/id/576870
2 June 25, 2016, from the press-release on a meeting in Beijing between President Xi
and President Putin: http://www.kremlin.ru/events/president/news/52273
3 http://tass.com/russia/817796

3. 04 /2017
Russian
trade turnover
Export
from Russia
Import
to Russia
Trade turnover with China
as % of total Russian trade turnover
Source:
Federal Customs Service of Russia
China World
2012 2013 2014 2015
2012 2013 2014 2015 2016
2016
10.5% 10.5%
11.3%
12.1%
14.1%

4. Export to China
as % of total Russian export
2012 2013 2014 2015 2016
January
2016
January
2017
China Russia
6.8% 6.8%
7.5% 8.3%
9.8%
Import from China
as % of total Russian import
China — Russia trade
flow YOY growth
Export growth
in January 2017
YOY
16.6% 16.6%
17.8% 19.1% 20.9%
34% 29.5%
39.3%
China and Russia in 2017: an intricate path of growth

5. 4 https://sputniknews.com/politics/
201603041035761674-russia-china-relations/
5 As per the statement of the IEA in
its Oil Market Report for March 2016:
https://sputniknews.com/busi-
ness/201603111036148349-china-
germany-russian-oil/
6 http://www.reuters.com/article/
china-economy-pmi-services-
official-idUSENNH3S0SM
04 /2017
Apart from the surging cooperation in
sectors such as e-commerce, mining,
agriculture, entertainment and construction
(see Moscow metro stations and above-
ground infrastructure development), the
two countries continued to strengthen their
ties through increasing trade flows. The
scale of cooperation grew in strategic
sectors such as oil and gas, where China
both owns shares in strategic projects
(Yamal SPG) and directly buys oil and gas
from Russia (i.e. “In January [2016], China
imported nearly 60% of all [ESPO brand
crude oil] … leaving Kozmino while teapot
refiners in the north of the country have
recently begun importing crude via train
from Russia” 4,5
). Considerable projects are
also being carried out in infrastructure (i.e.
the high-speed rail connecting Moscow and
Beijing), defense, aviation, and even nuclear
energy (floating nuclear power plants),
generally a highly secretive sector for each
country. In January 2017, Russia became
the biggest crude oil exporter to China,
exceeding Saudi Arabia. According to
Chinese customs data, fuel supplies from
Russia rose by a quarter last year compared
with 2015, up to 1.05m barrel per day.
Early statistics from 2017 identify even
greater progress in partnership between the
two states: in January 2017 alone, trade
flows between China and Russia increased
by 34% YoY.
Interestingly, China-Russia exports in-
creased by 29.5% YoY, up to USD 3.41B in
January 2017, while Russia-China exports
increased by 39.3%, up to USD 3.14B in the
same period. This shows that not only the
volumes, but also the structure and format
of economic cooperation are evolving, in
line with the political courses of both
countries. China intends to take further
steps to diversify its export-oriented
economy (in March 2017: “The official
non-manufacturing Purchasing Managers’
Index (PMI) stood at 55.1”. Throughout
2016 “the services sector accounted for
over half of China’s economy” 6
), reducing
the share of exports. At the same time,
Russia is taking further steps in its “turn to
the East” state policy, aiming to expand
cooperation with the Asian region, and with
China in particular.
However, despite noticeable country-level
progress that each of the two states has
made in respect of economic cooperation
with each other, business-level challenges
still remain considerable for both state-
owned and private enterprises.
03

6. EY Survey
of perspectives
from China
China and Russia in 2017: an intricate path of growth
Strengths
Size of domestic
market
Abundance of natural
resources
Weaknesses
Insufficient knowledge
of Russian legislation
Lack of awareness
of competitors
Access to technology
Infrastructure04
According to the EY survey Perspectives
from China: how concerns about the
Russian market influence Chinese invest-
ment strategies (hereinafter – the
“Survey”), the Russian market remains
“highly attractive” for 28% and “attrac-
tive” for 45% among 142 surveyed
investors. Notably, this parameter is even
higher (48%) with “resident” investors –
those Chinese enterprises who have
already established a presence in Russia
and possess practical experience on the
local market. Also, according to the
Survey, the key challenge is entering the
market without prior knowledge and an
in-depth understanding of how it works —
66% of “residents” confirmed that their
knowledge of Russian legislation is below
average.
SWOT analysis for Chinese
business in Russia

7. 04 /2017
highly
attractive
attractive
not attractive
Opportunities
High return
of investments
Human capital
Threats
Regulatory and tax
environment
Macroeconomic
turbulence
Geopolitical
tensions
Russian market
attractiveness for
Chinese entrepreneurs
that do business in Russia
48%
44%
8%
Within the course of 2015 and 2016,
the Survey was presented at events
hosted by a number of local, regional
and national level Chinese authorities,
including the Regional Tax Authority
of the Heilongjiang province, the
Regional and Local Tax Authority of the
Xinjiang province, as well as an invest-
ment summit held by the Hunan Ministry
of Finance. The Survey was also present-
ed to over 40 Chinese businesses with
projects in Russia. It served as the basis
for a communication on proper structur-
ing of investment strategy and market
entry strategy.

8. China and Russia in 2017: an intricate path of growth
Key trends with
Chinese investors
in Russia, by sector
Energy
It is getting increasingly better in the energy
sector due to active support that the sector
receives from both states as well as the
resilient structure of the oil and gas
industry. We are seeing growth in trade
flows, numbers, scale, geography and
revenues of these projects.
A challenge we have knowledge of, from a
major subsidiary of a key Chinese oil and
gas company running a project in Russia, is
related to purely technical matters. These
concern the international structuring of the
project, financing options, and profit
repatriation (where the revised China-Rus-
sia and Russia-Hong Kong Double Tax
Treaties have been taken very well by
investors). That said, the investor’s actual
view of the investment environment and law
enforcement practices in Russia was quite
positive supported by the advice it received
from another branch of the same group that
has already been running several projects in
Russia for over two years.
Real Estate
For Chinese real estate developers, who are
expanding their global footprint with
investments steadily growing each year, the
challenges have a slightly different nature.
Compared with other sectors, RE suffers
from the deeper and longer-term conse-
quences of economic instability, thus the
stimulation of a stable economic environ-
ment is critical to attracting foreign
investments to the sector. 2015 saw a
significant drop in activities from both
international and domestic investors.
However, new projects are surging in 2017,
including those run by major Chinese RE
developers.
Concerns that Chinese investors have in respect of their
Russian projects often differ from sector to sector.

9. 04 /2017
Infrastructure
A large number of significant infrastruc-
ture projects have been launched recent-
ly. One of them is the construction of the
first ever railway bridge over the Amur
River at the border between Russia and
China. The new bridge will have a capacity
of 21 million tonnes per year and will
connect the Jewish Autonomous Region
of Russia with the Chinese province of
Heilongjiang. Construction of the bridge
will create a new export corridor between
Russia and China to overcome infrastruc-
tural barriers for cargo transportation
from new deposits developed in Eastern
Siberia and the Russian Far East.
The bridge will considerably increase
cargo turnover and the competitiveness
of Russian producers and exporters
in the region, as the transportation
distance to the end user will be reduced
by approximately 700 kilometers com-
pared with operating export railway
routes. The Russia-China Investment Fund
is one of the key investors in this project.
However, sometimes issues still persist.
A major Chinese infrastructure group with
strong positions in Global Fortune 500
has been struggling to enter the infra-
structure market in Russia for over two
years: although open from a legislation
perspective, projects are quite hard to
access in practice due to the dominance
of major local players, who are granted
better contracts compared with foreign
investors.
The investor considered several major
projects starting 2014, but after spending
over six months in just preliminary
discussions with the project owner,
it realized that there were no guarantees
for the planned investment (the type of
tendered contract was less safe than the
one offered to local producers, and it also
covered territories of Russia that are
almost unpopulated, hence the investor
was left with no ability to calculate ROI for
a toll-road project and gain approvals with
headquarters for this investment, or with
potential lenders).
An alternative decision for the investor
was taking on smaller projects that, while
still not being entirely transparent from the
perspective of ROI, were associated with
less financial risk. Upon communication
with the same project owner, whose
position is fairly monopolistic on the
market, and leaving no market leverage
for entities without established domestic
connections (i.e. for foreign investors), the
investor still failed to establish a dialogue,
as most of the projects proposed were
offered “as-is” and the flexibility of the
Russian party was limited.
Thus, over two years on, the investor is
still reviewing the market and is very
interested in injecting money in new
projects, but to our current knowledge
has taken a safer decision to provide EPC
(engineering procurement construction)
services, requiring no investment in
Russia. To a certain extent, the investor
has achieved its goal of market entry.
07

10. It is worth mentioning that the option the
investor did not consider to the moment
of late 2016 was creating a JV with a Rus-
sian partner. Judging from recent
projects, this is a reliable instrument for
both parties and Chinese investors tend to
use it more often today compared with
just one or two years ago.
Situations similar to the above have been
evident in the construction sector in
particular.
E-commerce
We have learned that TMT investors, in the
e-commerce sector in particular, have a
highly positive outlook on working in the
Russian market, and they believe that it has
great potential that can be unlocked at a
fast pace. There is a certain concern,
however, related to tightening industry
regulations in both Russia and China, as the
speed with which certain legislation may
come into effect may sometimes be higher
than the speed of operational restructuring
to adjust to the new rules, which may
render negative effect to ongoing business
operations. Indeed, grace periods may not
always be granted based on recent Russian
lawmaking practice. One example of
lawmaking from another industry is the
following.
Automotive
A major state-owned Chinese automobile
company, which had run operations in
Russia for quite some years and had
accumulated tax losses for six tax periods,
intended to recognize these losses in 2017
to the maximum extent for corporate
income tax purposes. However, amend-
ments to 401-FZ in force from January 1,
2017 amended the tax deduction principles
with wording stating that deductions for
corporate income tax purposes within a
current tax period may not exceed 50% of
the tax base for the given tax period. There
is no grace period granted by this amend-
ment and it may lead to a situation where
not all of the tax loss is utilized, with no
grandfathering provisions covering the
actual tax loss generated by the fully legal
operations of the company in Russia. The
absence of an ability to predict such
changes in Russian legislation is among the
major challenges that the Chinese investor
China and Russia in 2017: an intricate path of growth

11. sees in doing business with Russia – while
legislative updates themselves are a regular
international practice, the structure of their
implementation should be well thought out
to avoid unwanted damage to business.
In addition to that case, interesting statistics
about Chinese investors in the Russian
automotive sector are available.
Similarly to real estate, the automotive
sector is significantly dependent on
economic stability. According to Autostat,
against a background of an overall decline
in the automotive market and sales in
Russia in the past two years, sales of
Chinese automobiles grew 10% YoY in
2016. This figure in an example of the
overall steady growth of Chinese automo-
tive players on the Russia market in the last
two years. We are seeing not only car
imports, but also the construction of new
assembly plants and the creation of
China-Russia JVs supporting the sector and
attracting actual FDI from China. According
to Autostat, one of the leading Chinese
producers is a key player on this market,
while the share of Chinese cars on the
Russian automotive market grew overall
from 1.9% in 2015 to 2.6% last year, leaving
much space for further expansion.
The producer made relatively fast success
on the Russian market and the first news
announcing the producer’s intentions to
build a plant in central Russia spread in late
2014, however no real actions have been
taken so far. According to our information,
key reasons for that are economic instability
and concerns about currency devaluation,
which are shared by all production compa-
nies whose business model includes imports
from China to Russia of already pre-assem-
bled parts. The cost of production of these
parts is calculated in US dollars and Chinese
yuan, whereas sales in Russia bring ruble
revenues, meaning that any currency
fluctuations render damage to the whole
international-level value chain of automo-
tive producers — hence they are inclined to
wait until the situation stabilizes.
At the same time, complete car assembly in
Russia is not a feasible option in current
market conditions due to the absence of
local providers capable of producing the
required high-quality parts under long-term
contracts.
04 /2017
09

12. China and Russia in 2017: an intricate path of growth
OPPORTUNITIES
High return
of investments
Human Capital
THREATSStrengths
Speed of decision
making / Engagement
Prices
Banking conditions /
Funds availability
Working efficiency
Scale of decisions
Weaknesses
Need for a local
partner
Language barrier
Logistics /
Delivery time
Long certification
procedures
Russian
entrepreneurs are
positive to their
perspectives
in China
SWOT analysis for Russian
business in China

13. Opportunities
Size of internal
market
Demand for Russian
products and their image
Focus on innovation
Absence of locally
produced substitutes
Possibility of long-term
planning
Threats
Cultural
differences
Regulatory issues
Authoritarian style
of management
Copyright protection
problems
Uncommon
distribution model
04 /2017
In April 2017, EY held a series of in-depth interviews with Russian entrepreneurs who
had business experience in China. The respondents proved to be very positive and
noted considerable potential in the Chinese market.
11

14. China and Russia in 2017: an intricate path of growth
China-Russia ties:
in the short
and long term
China is the No 1 purchaser of Russian oil
and the No 4 FDI investor in Russia. At the
same time, China is a tremendously
diversified market, the second largest
economy in the world, increasingly dominat-
ing the GF500 list and focusing last year on
outbound investment more than it ever did,
in particular, within the state’s “one belt one
road” initiative. Statistics and the current
level of cooperation prove the rapidly
increasing interest of Chinese business in
Russia. And, importantly, this interest is
already tied up with long-term projects such
as Yamal SPG, the Free Port of Vladivostok,
and the high-speed railroad connecting
Moscow and Beijing.
Thus, there is indeed great mutual
China-Russia investment interest, and it
continues to grow. And to maintain that
interest at the level of an individual Chinese
project in Russia, it is important not only to
have input from local partners and the
government, but also from the investors
themselves. This means that a good
understanding of local regulations, best
practices and required measures is becom-
ing increasingly critical in estimates that the
Chinese investor may make when trying to
forecast the success of their investment in
Russia.
12

15. Contact
information
13
Vladimir Abramov
Partner,
China Overseas Investment
Network, CIS, Moscow
vladimir.abramov@ru.ey.com
Alexander Ivlev
EY, Country Managing
Partner, Russia
alexander.ivlev@ru.ey.com
Ka Yan Pau
Manager,
China Overseas Investment
Network, CIS, Moscow
kayan.pau@ru.ey.com
Pavel Medvedev
Manager, Head of CIS Desk
in China, Beijing
medvedev.pavel@cn.ey.com
Aleksey Rybnikov
EY, CIS Knowledge Leader
aleksey.rybnikov@ru.ey.com
04 /2017

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