Belarus: Capitalism's Unlikely Frontier

By Carol Matlack
French software startup Abaxia was hunting for an offshore research and development site in 2006 when one of its employees suggested taking a look at his native country, Belarus. "I had to get out an atlas to be sure where it was," recalls Ongan Mordeniz, Abaxia's R&D chief.

Today, more than half of Abaxia's employees work in the former Soviet republic of 9.5 million, wedged between Russia and Poland on the EU's eastern rim. The company and two affiliates employ 85 engineers at a software development center in Minsk near the former Communist Party headquarters, which is now President Alyaksandr Lukashenka's residence. They're among an estimated 10,000 professionals working for outsourcing operations in what is now the region's No. 3 country for such shops, behind Ukraine and Romania, according to the Central and Eastern European Outsourcing Assn.

Why Belarus? After all, two decades after the fall of the Berlin Wall the country still seems sealed in a time capsule, with a centrally planned economy run by an authoritarian leader who is routinely denounced by Western governments for what the U.S. State Dept. terms "frequent serious abuses" of human rights. Minsk (pop. 1.8 million), a tranquil city of wide boulevards, hulking Stalinist architecture, and Soviet-era factories, is an unlikely place to find capitalism's new frontier.

Yet the Lukashenka government is opening the door to investment as never before. Since 2007 it has enacted regulatory reforms and tax relief measures that have vaulted Belarus from 129th place to 58th on the World Bank's ranking of the "ease of doing business" in 183 countries. (Poland ranked 72nd, Russia came in 120th, and Ukraine was 142nd.) The Belarus government says foreign direct investment more than doubled last year, to $4.8 billion, even as investment plummeted in neighboring countries.

American companies may soon join the wave. In late March representatives of Microsoft (MSFT), Cisco Systems (CSCO), Honeywell (HON), and Navistar (NAV) (formerly International Harvester) visited Minsk for meetings with Lukashenka and top business leaders. "We see great opportunities here," says Veronika Prikrylová, Microsoft's business development manager for Central and Eastern Europe. Microsoft is opening a sales office in Minsk this spring and hopes that having a local presence will help it combat piracy. An estimated 80% of software now used in Belarus is illegally copied, Prikrylová says.

Lukashenka is looking westward as Russia pulls back on aid to its neighbor. Belarus' economy has long been kept afloat by Russia, which has supplied it with below-market-priced energy while soaking up exports from inefficient Belarussian factories. Economic growth over the past decade has averaged 7.1% annually. "We are not rich, but the government takes care of us," says Galina Zorina, a retired piano teacher strolling through Minsk with her sister, carrying a spray of willow branches for the Russian Orthodox version of Palm Sunday. Russia has subsidized Belarus to keep it as a buffer against EU and NATO expansion.

The nation has been a high-tech magnet since Soviet times. Minsk was one of the Communist bloc's computer-science capitals, and local universities still turn out 4,000 information technology grads every year. Salaries, which average $1,200 a month for Abaxia's engineers, are only slightly above the $1,160 average for engineers at India's IT outsourcing companies. Yet while some graduates emigrate, the low cost of living in Belarus keeps many at home. "I thought about moving to the U.K., but it's easier to support my wife and kids here," says Alexey Balushkin, 27, a senior software designer at Abaxia.

Belarus also produces world-class specialists in mathematics and physics. That's an attraction to companies such as Invention Machine, a Boston-based group that in 2004 acquired the assets of a Belarus software company. Invention Machine now runs an 80-person lab in Minsk, including a team of computational linguists who develop "semantic engines" capable of extracting and analyzing key concepts from documents in multiple languages. "They have taken the field of natural language processing to a new level," says James W. Todhunter, the company's chief technology officer.

Invention Machine is one of 78 tenants in a high-tech park the government established in Minsk in 2005. All benefit from generous incentives, including exemption from Belarus' 24% corporate income tax and a provision that lets expatriate managers work without having to obtain work permits. "No other country in the region has done this much" to attract IT investment, says Arkady Dobkin, CEO of EPAM Systems, a Newtown (Pa.) outsourcing company with over 2,000 employees in Minsk and a client list that includes Microsoft, Oracle (ORCL), and SAP (SAP).

For now, the outsourcing boomlet is still in its infancy; the estimated $300 million it generates each year is dwarfed by the $2.5 billion in annual oil subsidies Russia has provided. Russia, pushing to get its crisis-hit economy back on track, said in January that it would end most of the subsidies this year. "It's going to get much harder for us," says Georgy Egorov, chairman of Belvnesheconombank, a leading bank in Minsk. To raise cash for the government, Lukashenka has restarted a long-stalled privatization effort. In the past two years the government has sold controlling stakes in two mobile-phone companies to Mobilkom Austria Group and Turkcell (TKC) and has said it will privatize banks. Strategic investors are also moving in. In December, Italy's Finmeccanica agreed to partner with Belarusian companies on engineering, transport, and aerospace projects. "There are few investment opportunities like this left in the world," says Tom Mundy, an economist at Moscow-based Renaissance Capital. Belarus' proximity to Europe, well-educated population, and solid infrastructure add to the appeal, he notes.

Whether global companies are ready to do business with Lukashenka is an open question. Although U.S. and EU sanctions imposed on Belarus in 2006 have expired, he still draws criticism from the West. On Mar. 30, EU Foreign Affairs Minister Catherine Ashton expressed "grave concern" about harassment of opposition figures in the runup to regional elections on Apr. 25.

Companies remain cautious. Navistar, for example, has considered supplying engine technology to MAZ, a Soviet-era producer of trucks and buses. "They need some kind of Western partnership," says Steven Hyde, Navistar's vice-president for international business development. But, he predicts, doing business in Belarus will remain an unappealing sell "as long as there is a high dependence on political personalities instead of the rule of law."