Issue 2, 2012. April-May

   

NEW VAT EXCEPTIONS COULD BOLSTER DOMESTIC FOOD PRODUCTION

A new program that frees local farms and food production plants from VAT could bolster local production, but sector analysts and producers warn that without more goods and better quality control, domestic production will not be able to compete with imports.

Maia Edilashvili

New program, new hope

A recent change to the tax code exempts fresh agricultural products as well as local livestock from the country's 18 percent value added tax (VAT).

The initiative, signed into law in March, is an attempt to reduce Georgia's dependence on imported foodstuff and bolster the ability of domestically produced goods to compete with imports.

Over the past seven years, the volume of food imports has tripled while the export sector has struggled: in 2011 the trade deficit for foodstuff was $614 million, according to GeoStat, the official body for statistics.

With imports worth around $1.04 billion last year, Georgia's appetite for more fruits, vegetables, grains, and meat products is obvious, noted Esben Emborg, Managing Principal Partner at SEAF, a Washington-based global investment firm.

"Georgia's potential is huge," Emborg said, noting that the new VAT policy should bolster local production and investor interest in the sector.

The policy is focused on improving local production, Manana Manjgaladze, President Saakashvili's spokesperson explained on March 3.

Under the former law, if distributors wanted to use local farmers they were responsible for VAT and had to make investments in quality control, which made buying domestically more expensive than simply purchasing imports.

"Before this legislative change, locally produced products were not appealing for distribution companies or supermarket chains, which is why they used to give preference to imported products," she said.

Sector specialists and investors also believe the initiative will help develop local production in the long term: intermediary players will become stronger, helping the development of small and medium-scale farmers as well.

"Now farmers don't try to produce products in large quantities as they would have to pay taxes. So since VAT [on fresh products] has been canceled, they will expand and see higher profits," commented Florian Biermann, Assistant Professor at the International School of Economics at Tbilisi State University (ISET).

Bridging the gaps between suppliers and producers

In 2010, agriculture represented an 8.4% share of Georgia's GDP; down from 16.7% in 2005. Throughout this period the stake of FDI in this sector has remained below two percent. Last year, however, saw considerable growth: according to preliminary statistics, FDI in agriculture and fishing increased to $13.6 million from $8.6 million the previous year.

Indeed, in Georgia, where 53% of the employed population is engaged in growing fruit and vegetables and cattle breeding, even opening a small factory or market matters. But while villagers worry how to sell their product gainfully, supermarkets and factories have trouble in obtaining a consistent and high quality supply.

The current Georgian market lacks distributors to collect farm products and sell them to processing factories and supermarkets, noted Emborg.

"When you are talking about a supermarket chain where you try to have some unity and conformity, you need to find a local producer who is not just capable of supplying one shop, but 17 shops or maybe 30 shops," he said. The demand for consistently high quality production is increasing, he added, but the local market can't meet the demand fully.

Nunu Porchkhidze, the director of the legal department for the Caucasus at Pepsico/Wimm Bill Dann, noted that the company can only obtain 50 percent of the raw milk it needs domestically. That is much less than they are able to purchase in Russia, where the company is headquartered.

"Our key suppliers in Georgia [are] various peasants and family based farmers with no stable milk output, versus 15 liter/day per cow for WBD farms in Russia," she said.

More investment, more opportunities

For locally based production companies, obtaining raw supplies domestically has meant heavy investment.

WBD has invested around $17 million in its Georgian production since it entered the market in 2007.

Sante GMT Products, a leading dairy product manufacturer in Georgia, has similarly invested heavily to develop the supply network and facilities necessary for its production: over the past five years, the company has put $12 million into the business.

"We buy our milk from up to 10 milk collecting units throughout the Georgian regions, such as Kakheti, Samtskhe-Javakheti and Kartli," Deputy General Director Erekli Gamkrelidze told Investor.ge. He noted that the company, which produces 55 different dairy products, only imports packaging materials and select ingredients, such as concentrates.

Those investments are paying off, however: Porchkhidze noted that 2011 saw a 71 percent increase in the demand for locally produced products.

Supermarket chains have also noticed the potential for locally produced products.

In January, Goodwill, one of the leading hypermarkets in Georgia, announced plans to expand into the food production market.

Mikheil Charkviani, the supermarket chain's general director, said at a press conference that the $40 million project will unite big production lines, wholesale centers and a packaging plant under the new brand Marche. He said they view the entire Caucasus region as potential market.

SEAF invested $3 million in Ioli through its Georgia Regional Development Fund (GRDF), a $30 million risk capital investment fund which focuses on growth-oriented small and medium size enterprises.

"At the moment we have 17 shops in Tbilisi," Emborg noted. "In May alone we will open five new shops in Batumi; and the plan is to have around 30 shops at the end of the year... that is quite a significant success."