Graham Stack and Ben Aris -

Russian companies have borrowed heavily in the last few years to grab market share and milk the boom while it lasted. But the speed of the turnaround in market conditions after a financial typhoon blew through global markets in the last few weeks means the most heavily indebted could face collapse.

Sistema HALS tops the list of Russia's most financially endangered real estate companies in the wake of the financial storm that has swept from Manhattan to Moscow. "All real estate companies are having problems due to the financial crisis, but [Sistema] HALS are right out in front with $1.2bn debt, and only $30-$40m on its books. Hals in in trouble," says Uralsib real estate analyst Eldar Vagabob.

Confirming the developer's difficulties, Sistema Hals announced Wednesday, September 17 that it would sell almost a quarter of its illiquid projects to raise up to $500m cash. Sistema HALS stock has fallen 66% since the beginning of the month. "They're in danger, but they won't go bust," argues Renaissance Capital's Alexei Yazykov, pointing to the Sistema parent holding's deep pockets.

Sistema HALS is a subsidiary of Sistema AFK, owner of Russia's largest mobile phone operator MTS. "Sistema automatically covers for them, so they will find finance on a holding level if need be," says Yazykov.

According to Vagabob, Hals has not only strong financial support, but powerful political patrons. Sistema holding owner, oligarch Vladimir Yevtushenkov, is a close friend of long-serving Moscow mayor Yury Luzhkov, and the conglomerate was created in the 1990s on the back of Moscow's fixed-line operator and other municipal assets.

Critics says it's precisely this powerful backing that's created the moral hazard allowing Hals to run up mountainous debt without any real cash flow. In particular, Yevtushenkov's appointment of his 26-year-old son Felix as president of the real estate division in 2006 raised eyebrows. Such apprehensions only increased at the end of May, when Yevtushenkov junior announced immediate plans to raise a further $600m debt despite the credit crunch. Six weeks later, his father removed him as CEO, replacing him with the experienced Sergei Schmakov. But the move now seems to have come too late.

Sistema HALS specializes in high-end commercial properties, including building the Moscow headquarters for German industrial giants Siemens and Daimler Benz, and launching projects for the Sochi Winter Olympics in 2014. If Hals ran into real trouble, it would be highly embarrassing for Moscow city hall and the local Moscow development sector, coming as it does shortly before Mayor Luzhkov is due to depart office and is looking to secure his succession.

Even if all the real estate companies survive, analysts expect the heady rise of property prices to stop and probably reverse in the near future.

Storm clouds around the PIK

Storms clouds are also seen gathering around major residential developer PIK. Fitch Ratings put PIK on 'Negative' watch on Friday, September 18, estimating that half of the company's total gross debt matures before December 31, 2008. It is not clear if the company has the means to meet its payments.

Some analysts believe the company will cope. "According to our information, PIK has total debts of $1.5bn, $900m of which is short term. But by short term we mean within 12 months. They may have difficulties funding future projects, but they won't go bust," Renaissance Capital's Alexei Yazykov says.

Vagabob also argues that, compared to Sistema HALS, PIK has "stronger balance sheets and greater exposure to residential projects with pre-sales supporting cash flows." As recently as September 15, PIK was able to draw a $230m Sberbank loan to finish payment on a $350m project. The loan also points to PIK's good links to the largest Russian banks.

PIK does not have the same level of political backing of Sistema HALS. But, as Yazykov and Vagabob point out, as Russia's largest developer of mass residential housing, it has political significance nonetheless. Accelerating mass housing construction is a key plank in President Dmitry Medvedev's programme. "Big state banks would be told to rescue it should anything happen," argues Yazykov.

But even if none of the large companies were to go bust, many projects will now be put on ice. Sergei Polonsky, chairman of non-listed Mirax, one of the main builders of Moscow's prestigious City project, says his company would not "start any new construction work nor take a single credit nor buy any new projects," according to Vedomosti.

Supermarket sales

Some Supermarket chains are also in trouble. Organised retail made up only 8% of the entire retail turnover in 2004 in a business that is clearly going to be worth many billions of dollars a year. All the major retail chains have rushed headlong into a race to grab as much market share as possible before these shares are set in stone by consumer habits.

On the back of double-digit growth, retailers have made heavy use of the ruble bond market. However, the short-term nature of the notes issued and the longer time supermarkets have to wait until their businesses start turning over billions of dollars has created a mismatch: everything is fine as long as the shopping chain bond issuers can roll over their bonds at about the same cost.

But credit conditions have tighten fast over the last month, driving up interest rates. When the financial storm struck two weeks ago, some retailers were caught with their trousers down, unable to their repay bonds. Two supermarket chains have already defaulted, including discounter Marta; others have either sold assets to cover their commitments or been forced to accept a doubling of interest rates, report bankers.

"Companies with a critical debt burden, such as Pharmacy Chain 36.6, are now among the riskiest ones," Natalia Smirnova of Uralsib says. "Now that the debt markets are almost closed to the retailers (especially in the Russian regions), M&A will likely be postponed. We believe the Russian retailers will need to find a better balance between growth and profitability as the fast growth of the retail market has led to rising operating costs, such as a 30% average salary increase over the past year - clearly a dangerous trend."

Fitch said in a report released in early September that in spite of promising prospects for the Russian retail market, a number of mid-sized retailers are facing liquidity strains due to high leverage and limited financial flexibility. "Some local retail operators are facing financial problems, mainly because of their highly geared balance sheets and lack of financial flexibility," says Johnny Da Silva, director in Fitch's Corporates team. "Therefore, business risks in the Russian retail market should not be underestimated. Despite the market's strong growth, a lack of financial control has left smaller retail networks vulnerable to liquidity strain."

Investors are going to have to pick and choose a lot more carefully gowing forward, says Alfa Bank's Elena Mills, who points out that individual business models vary hugely from company to company within the sector.

According to Natalia Oreshina of commercial real estate agency Art Property, smaller speculative operations will suffer. "Every second company has been trying to invest in real estate without doing the calculations. There has been a lot of speculation."

Now speculation is focused on who will go under first.

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