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CENTRAL EUROPE'S BEST COMPANIES (int'l edition)

Few of their names are familiar, but these enterprises are tomorrow's likely rivals to the multinationals

Tucked deep in the sleepy southeast corner of Poland, the Stomil Sanok factory looks like a communist relic. But its shabby gray walls belie the bustling operation within. As workers at high-tech molding machines churn out rubber parts for Fiat and Daewoo Corp., Chief Executive Marek Lecki, 43, talks excitedly of Stomil Sanok's surging exports, its plans to supply General Motors Corp.'s new Polish plant, and its $4 million offering on the Warsaw Stock Exchange. Before Lecki was hired in 1990 to turn the bankrupt state company around, he helped run a state-owned bus factory and had no Western management experience. ''It's amazing how well people can adapt to a new situation,'' he says.

Never mind that its products are mundane and its sales are only $51.5 million. Stomil Sanok is one of corporate Central Europe's hot prospects. Its profits grew 86% last year, to $4.8 million, and the company is expanding rapidly into Western Europe. Throughout Poland, Hungary, and the Czech Republic, hundreds of companies such as Stomil Sanok are gaining in strength. Many former state enterprises have staged surprising turnarounds as socialist-era managers have retired or transformed themselves into hard-nosed capitalists. A growing number of start- ups, founded in the early 1990s on the kitchen tables of cramped apartments, are now beating Western rivals at home. Some, such as Polish cabinet maker Forte, are expanding in markets as far away as China.

For the first time, BUSINESS WEEK is taking the measure of Central Europe Inc. Based on interviews with dozens of fund managers, analysts, and consultants, BUSINESS WEEK has targeted a group of companies recognized as among the best managed in the region. They are boosting sales or profits, increasing exports, or capitalizing on new technologies. Many have issued shares on their local stock exchanges or floated corporate bonds. Only a few, such as Czech auto maker Skoda or Hungarian software designer Graphisoft, are known outside the region today. But over the next few years, more are likely to emerge as credible rivals to U.S., European, and Asian multinationals.

Not all companies in Central Europe will prosper, of course. Making big gains in productivity will become harder as wages creep up and the quick fixes from layoffs and other cutbacks have been made. Hundreds of state companies are doomed to collapse as governments push them off the books. Moreover, the pace of corporate restructuring varies from country to country. Poland and Hungary were the quickest to allow corporate dinosaurs to go bankrupt or be bought out by investors after communism crumbled eight years ago. Reformers also spurred privatization, waged war against inflation, and took steps to encourage entrepreneurs. As a result, Poland's gross domestic product is growing at a 5.5% clip, while Hungary's economy is expected to rise 2.5% this year. Both countries boast vibrant corporate sectors.

The Czech Republic, by contrast, has been slow to revamp its industry. It was reluctant to allow bankruptcies or encourage foreign strategic investors, who would have forced out ineffective managers. ''Czech companies are now paying the price'' for the government's mistakes, says Zdenek Bakala, chairman of Prague investment bank Patria Finance. The Czech economy is not expected to grow at all this year. Unemployment will likely rise as unproductive enterprises scale back.

Yet in all three countries, successful companies abound. Many are low-cost manufacturers of industrial products such as axles, tires, or lathing machines that get snapped up by multinationals struggling to stay competitive themselves. These companies thrive thanks to Central Europe's low wage costs, roughly one-eighth of Germany's $31.44 an hour in manufacturing. Yet they must also meet tough standards of Western owners such as General Electric Co., which ships lightbulbs from its GE Lighting Tungsram unit in Hungary all over the world.

Other Central European winners are catering to the booming consumer culture. Newly prosperous Poles, Hungarians, and Czechs are spending more these days on food, luxury goods, home improvements, and entertainment. Czech jazz pianist Martin Kratochvil, who started out with $10,000 earned writing television jingles for a year in Boston, has built up a $38 million entertainment conglomerate, Bonton. It owns multiplex cinemas in the Czech Republic and is building a network of music mega-stores throughout the region. Meanwhile, credit cards and payment plans are making it easier for shoppers to buy big-ticket items, from new $200 Mastercook ovens built by Poland's Wrozamet to the flashy Skoda Octavia sedan, which costs $11,190.

At the same time, a handful of companies are drawing on the brainpower of the region, known for its 98% literacy rate and skilled mathematicians. High-tech startups are building strong businesses in architecture software, computer network integration, and testing machines for customers such as Texas Instruments Inc. and Sharp. Central Europe has yet to produce its equivalent of a Microsoft or Netscape--companies that start small, create markets, and eventually become billion-dollar giants. But ''the New Age companies will come about over the next five years,'' predicts John Palicka, director of research for Eastbrokers International, a brokerage that specializes in the region.

TALENT POOL. The groundwork is being laid. A new generation of professional managers is seeping into the power structure. Some have Western business degrees or work experience, but many are now trained at their own universities. Maturing capital markets are allowing startups to raise funds for expansion. Polish entrepreneur Michal Solowow sold $2.7 million in shares of Echo Press, which owned a newspaper he bought in Kielce, his hometown, and used the money to develop property for luxury apartments. Although investment risks remain, venture capitalists and foreign companies are pumping billions into the region, bringing technology and setting cost and quality standards for locals to meet. By early next century, ''they'll be on a level playing field with much of Europe,'' says Bela Kos, a consultant with Coopers & Lybrand in Budapest.

That may be optimistic. But since Poland, Hungary, and the Czech Republic are keen to enter the European Union by 2002, their companies must drive hard to ready themselves for open markets. ''If they can't cut it in the West, they aren't going to cut it, period,'' says Dan Lubash, director of European emerging markets for Merrill Lynch & Co. in London. The companies may have a historic edge over rivals in other emerging markets. After all, the region's engineering, pharmaceutical, and auto industries were all thriving before World War II while many Latin American and Asian economies still depended heavily on agriculture. ''Central Europe is not an emerging market, it's reemerging,'' says Justin Jenk, a principal with McKinsey & Co. consultants in Moscow. ''And its companies are playing the game of catch-up incredibly fast.''

Take Raba Hungarian Railway Carriage & Machine Works. Its 52-year-old CEO, Barnabas Zalan, is a 30-year veteran of the company. When he took over the top job in 1991, Raba had debts of more than $50 million. In a crisis mode, Zalan slashed the workforce from 25,000 to 6,200, selling off factories to Audi and General Motors. He switched from making trucks for Russia to producing axles for Volvo and Daewoo as well as axle parts for companies such as Eaton and Rockwell International. Last year, profits jumped 52%, to $5.6 million, on sales of $153.9 million.

These days, the silver-haired Zalan globetrots from Cleveland to Canberra cutting deals with truckmakers. ''If we look at the worldwide vehicle industry, we can always be competitive,'' Zalan declares. His customers seem to agree. ''Their edge [is] in price. That's what gave them entry,'' says Craig E. Pryor, Rockwell Automotive's vice-president of procurement for heavy- vehicle systems. But Raba can also match its rivals in quality and service, Pryor adds. Indeed, the company is now one of Rockwell's top 20 suppliers--up from zero sales eight years ago.

Raba, like many Central European industrial leaders, is not only looking westward to expand. With growth returning to economies to the east, they are renewing old contacts in the former Soviet Union. Raba recently picked up a 20% stake in a bus factory in Likono, 200 kilometers from Moscow, and has invested in two joint ventures in Russia to assemble engines. Zalan's goal: to boost sales by buying into state-owned factories as they are privatized in Ukraine and Kazakstan.

MERGERS AHEAD. Another dramatic turnaround is ZPS Zlin, a maker of lathing machines. Although the company is located in the Czech Republic, where industrial restructuring has been slowest, Chief Executive Radomir Zbozinek didn't waste any time refocusing his strategy and revamping his product line. In December 1995, Zbozinek set up a joint venture with Okuma Corp. of America, the U.S. subsidiary of the Japanese machine tool maker, to produce machine centers for the U.S. market. While Okuma supplies the control systems, ZPS Zlin provides mechanical parts and handles assembly. Result: ZPS Zlin earned half of its $195 million in sales in export markets last year.

Such ventures will become more common as Central European companies gain strength. Indeed, some analysts predict a wave of mergers as Czech, Hungarian, and Polish companies fight for their niche in domestic and global markets. ''In the next five years, it will be either eat or be eaten,'' says Eastbrokers' Palicka. As time goes on, he argues, there will be fewer strictly Czech, Hungarian, or Polish corporations and more combinations of industrial or service companies working with each other or with foreign multinationals to market their goods across borders.

Consolidation is already picking up. In the past three years, for example, Hungary's Graboplast has transformed itself from a maker of artificial leather to a specialist in home furnishings, wallpaper, and flooring, mainly through acquisitions. In quick succession, CEO Peter Jancso bought domestic companies producing carpets, sheets, and tablecloths. With $81.8 million in sales, Graboplast competes against Germany's Tarkett to supply retailers such as Ikea. And Graboplast is planning to spend $28 million over the next three years to acquire and build more manufacturing capacity, some outside Hungary. ''Our main aim is to be the home-improvement materials maker in the region,'' says Jancso, 47, who headed the company's

textiles manufacturing division before taking over in 1988.
Other suppliers are cashing in on the construction boom. Fund managers cite makers of building tiles, particleboard, kitchen cabinets, and even household radiators as rising corporate stars in Central Europe. The Czech Republic's Korado, a maker of radiators, has seen its sales soar from less than $1.5 million to $36.6 million in just six years. Under central planning, Korado never had to worry about finding customers. When Bedrich Brabec and three partners bought the radiator factory in 1991, they set up a sales network from scratch. ''We knocked on doors, we sat in waiting rooms for hours,'' says Brabec. Now, the company has sales representatives in every major European country.

SECOND STAGE. As Central Europe's economy matures, however, its corporations must move beyond low-cost manufacturing and trendy consumer products. The region's manufacturers will lose their cost advantage as wage, transportation, and utility costs edge toward the levels of those in Western European. Companies will come under more and more pressure to develop sophisticated products and services, at a competitive price, to stay in the game. ''They'll have to spend more money on training, R&D, and other noncore business activities,'' says James Lister-Cheese, Central Europe expert with Independent Strategy, a consulting company in London.

Part of the challenge will involve enhancing existing products. PWN Publishing, for example, is already moving from books into electronic publishing. But demand will also increase for high-tech products and services. Compared with Western Europe, Central Europe still lags far behind in telecommunications and Internet access services. This is a major disadvantage for business. But companies are racing to build integrated networks of personal computers, and the market is picking up. Poland spends just 1% of GDP on information technology now, but that is expected to grow to 3% by 2000, the equivalent of $6 billion in spending a year. Demand will likely propel sales at domestic Polish computer producers such as Optimus.

One tech highflier in the region is Computerland Poland. Its 37-year-old CEO, Tomasz Sielicki, was once a franchisee of the now defunct American company Computerland. He no longer pays royalties and has obtained the rights to use the logo in Poland. After buying four software companies in the past year, Sielicki can now operate as a systems integrator. His aim: to be Poland's alternative to Electronic Data Systems Corp. by supplying clients with all they need for their in-house networks. Sielicki hopes to offer his services throughout the region. Indeed, he expects sales, which grew 70% to $54.9 million in 1996, to keep surging at least 20% a year. ''We're still in the pioneering phase. There's so much to be done in Poland's information technology market that one plus one equals five here,'' Sielicki says.

Technology companies are also springing up in Hungary. Semilab, for example, was born in 1989 in the industrial outskirts of Budapest when the entire semiconductor department of the Research Institute for Technical Physics quit. Winning a $400,000 interest-free loan through a government program to spur private enterprise, the scientists developed their ''lifetime scanner.'' The $150,000 device tests disks of silicon for use in computer chips and is used by customers such as Philips Electronics. Semilab's profits grew 182% last year, to $1.6 million on $3.7 million in sales. Now, CEO Tibor Pavelka is looking for a strategic investor to help the company grow.

Across town from Semilab, software maker Recognita has already traveled down that path. The company, which was also set up in 1989, designed character-recognition software that easily adapted the accents and other markings in written Hungarian to 107 languages. Recognita's founders gained the backing of the Hungarian-American Enterprise Fund, which bought 74% of the company a few years ago. Last December, they sold the company, which had sales of $2.5 million in 1996, to U.S. rival Caere Corp.

Now, Recognita will serve as an R&D lab for Caere as well as its platform for expanding through Central Europe. Being scooped up by a competitor doesn't seem to bother Recognita CEO Akos Reszler, who says he likes being part of an international team. ''There's a big pile of money you can [tap] if you have a good idea. If you know what you are doing, you can find someone to back you,'' he says.

As Central Europe's technology companies gain in strength, more will likely be snapped up by foreign investors. Others will grow by raising money on the capital markets, either locally or internationally. But governments in the region must do more to ensure the health of Central Europe Inc. As Poland, Hungary, and the Czech Republic lobby to become full-fledged members of the European Union, they will have to push more companies to adopt Western standards, from accounting practices to quality control. And companies themselves will have to focus on growing their profits. Says consultant Lister-Cheese: ''They are embracing the idea of an equity culture.''

Central Europe Inc.'s best companies have made extraordinary strides in just eight years. Many of their shareholders--whether Western investors, venture capitalists, or local citizens--have been winners, too. As other companies learn from their example, they'll infuse Central Europe with more dynamism and enhance the living standards of ordinary Czechs, Hungarians, and Poles.

By Karen Lowry Miller in Sanok, Poland, with Peggy Simpson in Warsaw, Christopher Condon in Budapest, and James Drake in Prague



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