04

Privatisation

The Russian state is seeking to reduce its level of ownership in the economy over the next few years. While some people appear sceptical, the government has always claimed that privatisation is the plan.

BEN ARIS

RUSSIA NOW

In contrast to the prevailing hegemony further west, pri- vatisation remains a dirty word for many Russians. The chaos following the collapse of the Soviet Union, the eco- nomic shocks of sudden mar- ket liberalisation, and the privatisation rackets that created the oligarch clans have left a nation trauma- tised. Yet it is only the latter – which saw state assets worth billions swapped for loose change in the Nineties – that still taunts from the TV and front page on a daily basis. The current political leader- ship has always claimed that it believes private companies should dominate the econo- my, even as it has overseen expansion of state owner- ship. Hence, the announce- ment in late autumn of a wave of privatisation, kick- ing off in 2010, is consistent with stated intentions, even if it signals a distinct policy shift from the last decade. In September, first deputy prime minister Igor Shuval- ov predicted as many as 5,500 companies could be priva- tised (at least partially) over the coming years, with 449 due on the block in 2010. Last month, he announced that the privatisation plan for this year is to be substantially ex- panded. It’s worth noting that the original numbers include a host of barely functioning enterprises that have been on the table for years – without any takers. While a selection of more interesting assets are now also about to come up for grabs, the investment community will have to wait to get their hands on a larger slice of the crown jewels they covet: the oil and gas, bank- ing and other blue-chip com- panies.

Of the most attractive com- panies that are now defi nite privatisation targets (for ex- ample TGK-5 and three large insurers), the government will be relinquishing no more than minor interest or block- ing stakes, suggesting the sales may do little to improve free floats or liquidity. Of those with full state owner- ship certain to go under the hammer, perhaps only con- struction company Mosmet- rostroy will be able to pro- voke any great interest. However, a second list of names has also been made

public. This includes a hand- ful of the largest shipping and transport infrastructure companies in Russia. The po- tential of this segment stems from the economy’s reliance on bulk exports – not only oil, but metals and mining prod- ucts, grain and timber, to name but a few – and hence the stakes in Murmansk and Novorossiysk ports and the Sovcomfl ot shipping line are likely to provoke the most in- terest among investors. Yet these currently sit on the list of strategic assets in which foreign ownership is restrict-

Privatisation is one of the few levers that can help attract FDI into Russia at the moment. This was not always the case: state owner- ship in Russia has in- creased substantially since 2004

ed. It’s the task of president Dmitry Medvedev to get these stricken from the list – a task he’s yet to achieve. As ever, the gap between pol- icy and implementation ap- pears wide. Ivan Ivanchenko, chief strategist and econo- mist at VTB Capital suggests the political leadership had to pause while it consolidat- ed the breadth of political power needed to push through unpopular moves, such as privatisation. “The crisis only strengthened the authorities’ urgency to es- cape the oil hook,” Mr Iv- anchenko says. Hence, in February Mr Medvedev re-

leased a list of initiatives and deadlines aimed at improv- ing the investment climate in Russia. This includes de- mands for penalties against officials who obstruct invest- ment policy and projects, as well as a mid-March dead- line for suggestions of further “major and strategic” com- panies to be included in the privatisation drive. Privatisation is one of the few levers that can help attract FDI into Russia at the mo- ment. This was not always the case: state ownership in Rus- sia’s economy has increased substantially since 2004; from 25-30pc to over 50pc according to most estimates. To a large extent this has been the result of efforts to reclaim assets lost to the oli- garchs – although the cam- paign was carried out ruth- lessly and with little pretence of even-handedness. This process accelerated dur- ing the recent economic cri- sis, as the government bailed out over-leveraged corpora- tions. On a practical level, however, this action was lit- tle different to the bail-outs seen across the globe. Once again, prime minister Vladimir Putin insisted that the state had absolutely no interest in nationalising the assets. More recently, fi nance minister Alexei Kudrin has pledged that state interest in the enterprise sector will shrink to 30pc in the coming years. The challenge is to push this past vested inter- ests in the Kremlin, bureauc- racy and business world. Some believe that rather than a commitment to loosen the state’s grip on the econo- my, it’s simply current fi nan-

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BOOKMARKS

government.ru/eng Russian government website www.minprom.gov.ru/eng Ministry of Industry and Trade www.scf-group.com JSC Sovcomflot www.rosmetrostroy.ru Moscow Metrostroy website

Asset sales Plans are afoot to release a new wave of state-controlled companies on to the market. But, as Moscow steps back, will foreign investors step in?

Welcome to the privates on parade

cial straits fuelling the latest privatisation drive. Kudrin anticipates a budget defi cit of around 6.8pc this year, fol- lowing 5.9pc in 2009. While every little may help, the $2.4bn income targeted from privatisation in 2010 will not make much of a dent in the $100bn deficit. The theory looks even less convincing in the light of Russia’s prepara- tions for its first overseas bond issue since 1998 (al- though few expect to see the full $18bn debt raised men- tioned in the 2010 budget), while it also holds the third highest volume of sovereign wealth funds in the world, with around $400bn tucked away. However, a need for cash looks like a viable driver for the inclusion of several trans- port assets from the strategic enterprises list. In the boom years immediately prior to the crisis, the state’s empha- sis was fi xed fi rmly on Rus- sia’s ailing infrastructure, with promises of a gigantic $1tr investment. The electric- ity sector was the priority, with cash desperately needed to renew grid infrastructure and build extra capacity; lo and behold, the sector saw significant privatisation in 2007. While Russian and for- eign corporations were tus- sling to get their hands on these power assets, the state- ments issuing from the au- thorities turned the spotlight onto transport.

The crisis turned these plans to dust. The private owners of power-sector assets are now facing increasing pressure from the state to honour the massive capex pledges they made at the time they bought;

Companies on off er in 2010

The Russian government has said it hopes to sell stakes of some $2.4bn in 2010. Despite a return to economic growth, the state engaged in heavy deficit spending (in the form of bailouts, subsidies and other stimulus programs) during the economic crisis and now hopes to cover a part of the financial losses.

Among the most interest- ing companies named thus far are the transport and shipping concerns – although these will need to be struck off the of- ficial list of "strategic assets" in which foriegn investment is limited. As Ivan Ivanchenko of VTB Capital points out, Russia hopes to develop its potential as a transport hub and bridge between Europe and the Far East. Sovcomflot, Russia’s largest shipping company, has plans to

invest $5.5 bn over the next six years – much of it intended for the oil and gas tanker fleet and offshore services to support Russia’s large-scale projects such as the Shtokman gas field in the Arctic. At the end of 2008, the com- pany claimed to own the larg- est icebreaker fleet in the world, a cornerstone in the state’s quest to open up an eastwards transport route along Russia’s Arctic coast in order to feed the energy hun- gry East Asian markets. With this in mind, there is little chance of the government re- linquishing control over the coming years. Overall, Sovcomflot could be viewed as a proxy for Rus- sia’s giant energy projects – which have had global oil and gas majors battling to clamber aboard (or keep their seats in

some cases) over the last five years. That said, Shtokman in particular poses an enormous challenge, the offshore Arctic location requiring the develop- ment of new technologies.

Novorossiysk Commercial

Sea Port’s greatest advan- tage is its strategic posting on the Black Sea between south- ern Europe and Asia: most of Russia’s large ports are on the Baltic and Pacific shores. The company has strong links and partnerships with state-owned Russian Railways and Transneft (oil and gas pipelines), which dominate land-based trans- port, as well as exports. However, with increasing num- bers of pipeline routes in the area, the port’s heavy depend- ence on crude shipments (51pc of volume in 2009) may leave it exposed to increased risk in the coming years. A strong

cargo mix in revenue terms (led by oil products, grain and metals) saw turnover remain resilient last year, despite the downturn in global commodi- ties. Given that it has an estimat- ed free float of 30pc, and the stake to be privatised is no more than 20pc, the NCSP stake is one of the few heading for the public markets. Russia’s fourth largest port (second in the north-west), Murmansk CSP, sits above the Arctic circle, but remains open year round. Traditionally an ex- port route to north-west Eu- rope, coal has always been king for this harbour. However, shipments are now also head- ed east, with pipes being deliv- ered to the Shtokman gas field and possibilities of expansion to serve the massive project are under scrutiny.

Sovcomflot, Russia’s largest shipping company, has plans to invest $5.5 bn over the next six years

meanwhile, state spending has been diverted to ensure social, and therefore politi- cal, stability. Investors are to be invited to start the ball rolling again on rebuilding the country’s infrastructure. At the same time, the politi- cal leadership knows that

money on its own won’t be enough. As a government source told local media re- cently: “It’s obvious to every- one that they [the enterprises under government control] are excessive. It’s impossible to manage this huge mass ef- fectively.”

Private management, as well as foreign expertise and tech- nology, are cornerstones of the Kremlin’s struggle to di- versify and modernise the economy.

This tallies with the specula- tion of Angelika Henkel of Alfa Bank that most of the

Privatisations now

Company

2008 rev-

enues, RUB mln (RAS)

TGK-5

Rosgosstrakh Ingosstrakh

State own- ership (pc)

Brief description

15,354 25.1 Electricity generation 3,010 13.1

Insurance 42,146 0.06 Insurance

RESO-Garantia 30,132 0.001 Insurance Moscow Metrostroy 26,886 100 Construction Iskitimcement

Tyretsky Solerudnik 414

Severtruboprovod- stroi

Murmansk Com- mercial Sea Port Sovcomflot

Novorossyisk Com- mercial Sea Port

Tolmachevo Airport

4,305 25.5 Cement production 100 Salt production

2,317 25.5 Construction and main- tenance of long-distance pipelines

From the list of strategic JSC

2,972 n/a Docks and port services

2,652 100 Tanker transportation, port services

8,305 20+1 Docks and port services

Koltsovo Airport 6,698 n/a Management, sale of POL Anapa Airport

1,113 n/a Management, sale of POL

3,642 n/a Management, sale of POL

SOURCE: ROSIMUSCHESTVO, ALFA RESEARCH

named companies “are better candidates for buy-out by strategic investors that al- ready have a signifi cant in- terest in them”. The 25.1pc government stake in TGK-5 for instance is widely expect- ed to end up in the hands of major stakeholder KES- Holding, while the 25pc stake in shipping company Sov- comflot is another likely to head to a working partner. In fact, few of the named companies look set to fl oat on the Russian or international bourses, despite Mr Kudrin’s claim in December that the majority of coming privati- sations would be via IPO. For example, while a company such as Mosmetrostroy could prove attractive, the 100pc the government is looking to unload would stretch the ca- pacity of fund infl ows to Rus- sia, and struggle to compete with established publicly traded companies. Therefore, although the gov- ernment clearly hopes to score PR points from its pri- vatisation drive (the FT quotes a government official suggesting that the move will “show the world the liberal- ism of the government”), many in the international in- vestment community appar- ently remain underwhelmed (see box). How quickly the state will put the bigger prizes on the table is a major question. The invite to become more deeply involved in Russia’s state gi- ants and other attractive as- sets will have to wait until the political leadership manages to push it past vested inter- ests – including amongst their own ranks – as well as necessary restructuring. It also won’t come until invest- ment fl ows and risk appetite perk up. With governments across the globe now holding major as- sets, the Russian authorities have no intention of letting them go on the cheap. What isn’t under discussion is that the government will give up majority control in the country’s largest compa- nies in the near future. This issue gets commentators stewing like few others: in- deed, minority shareholder rights are commonly ridden roughshod over in Russia. In response, Mr Ivanchenko claims that legal action by in- vestors is meeting more suc- cess recently: “Things are get- ting better, slowly.” Russia’s state behemoths offer such steady and attrac- tive returns that few fund mangers can summon the idealism to blacklist them. Besides, in a country in which businesses are often stalked by corruption and criminal- ity, perhaps the safest place is in bed with the state.

Privatisation Stakes in Russia’s blue-chip companies to be released

Awaiting the crown jewels

In October, finance minister Alexei Kudrin claimed that more of the country’s blue- chip companies would be made available to investors in the near future. For the moment, however, they are still not available.

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SPECIAL TO RUSSIA NOW

This appears to irk investors, who are disappointed with the list of named privatisa- tion targets thus far. In late February, Vedomosti news- paper reported that the gov- ernment plans to poll the in- ternational investment com- munity as to which assets they’d most like to buy into. “We'd like to know every- thing,” said Alexei Uvarov of the Economic Development

Ministry. “The sectors inves- tors are most interested in, what specifi c companies and stakes they would like to ob- tain. We'll be taking [this] into account when preparing privatisation plans for 2011 and the following years.” In a canvass of opinion among various investors by the paper, the overwhelming (and predictable) response was that they want more of the blue chips, particularly the energy and banking gi- ants, several of which launched IPOs of minority stakes over the last few years. There’s every indication from the Kremlin that investors will get their wish, but it will take a little time. In the first place, obstacles among political circles will need to be overcome. While

Russian Railways, state-owned railway company of Russia, may be privatised in the next couple of years, experts believe

ideological and nationalist sentiments play a part, so too do vested interests, which would not welcome the asso- ciated improvements in transparency and corporate governance. However, “the

president and prime minister are quite confi dent they can overcome internal resist- ance,” according to Ivan Iv- anchenko of VTB Capital, “and if they want to draw on international expertise, then

they have to open up. At the moment, it’s only market con- ditions delaying this.” Not only are the markets still recovering from the blood- bath of the last year or so, which saw, for instance, the dollar-denominated RTS plummet to 80pc below its record high in May 2008, but much of the money that has returned is short term and speculative, and so very sen- sitive to new floats. There’s also a social stability element involved, according to Iv- anchenko. During the 2006/07 “people’s IPOs”, the government persuaded the population to become retail investors in the country’s ‘na- tional champions’. Not fully understanding the nature of this investment, many were devastated when values crashed. The state will wait to see greater stability before releasing further stakes in the biggest companies. That said, Ivanchenko anticipates “major announcements over the summer.”

The sectors under scrutiny for future blue-chip sell-off s

Infrastructure/transport

Analysts such as Angelika Henkel of Alfa Bank expect the immediate focus of the privatisation drive to remain on infrastructure. “Russian Railways and Aeroflot may well be privatised in the next couple of years,” she sug- gests, pointing out that these huge companies face a large task in preparing for an IPO: “The preferable variant of pri- vatisation for big companies.” In the meantime, the nation- al rail operator announced in late February that it plans to sell off stakes in several sub- sidiaries before 2012.

Banking

Speculation of a forthcom- ing SPO from Sberbank rose in January when chairman German Gref suggested the

government could reduce its 57.6pc stake, even down to a blocking stake. It’s unlikely he would have been so outspo- ken without clearance. How- ever well-managed and -fund- ed, Sberbank does not appear a priority. Kudrin suggested VTB as a more pressing case. The additional government stake recently procured in re- turn for a $6bn capital in- jection into VTB may be the ideal starting point. But the banks are not only vulner- able to reduced risk appetite following the financial crisis: they have an important stra- tegic role in the recovering economy, and so may need to wait before opening up fur- ther to international investors.

Oil and gas

Russia’s energy giants re-

main the economy’s driving force and will not be leaving government control. Howev- er, they are also at the fore- front of the government drive to reverse Russia’s declining production of oil and gas, and have challenging projects on their hands – both in terms of investment and technical capability. Rosneft has regu- larly been suggested as a tar- get for further privatisation, although official statements have proved inconsistent. The strategic weight of Gazprom and Rosneft is often over-es- timated, but remains a reality. Neither more so however than Transneft. Any privatisation would be a serious statement of intent regarding the drive to liberalise the economy. But few investors are holding their breath.

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