The companies that Russia keeps

By bne IntelliNews March 17, 2010

Tim Gosling in Moscow -

After a decade-long hiatus, the Russian government has restarted its privatisation programme. The goal is not just to raise badly needed cash to plug an estimated 7% deficit due by the end of this year - the first in 10 years - but to get the state out of the economy after it was forced to carry out a round of de facto nationalisations to save struggling Russian industry during the economic crisis just past.

Privatisation remains a dirty word for most Russians. During the early 1990s, they watched as a voucher privatisation programme that was supposed to transfer the ownership of Soviet-era companies to the ownership of the people was hijacked by local management and oligarchs. A few businessmen became multimillionaires almost overnight, while the workers got at best a few bucks or a bottle of vodka for their shares.

After the Russian economy ran into a brick wall in 2009, the state announced last autumn that it would put a slew of companies under the gavel this year. In September, First Deputy Prime Minister Igor Shuvalov predicted as many as 5,500 companies could be (at least partially) sold to private investors, with 449 due on the block in 2010. In February, he followed up by saying that the privatisation plan for this year is to be substantially expanded.

Most of the companies on the docket for sale are dysfunctional has-beens, but sprinkled in amongst the dross are a few gems. However, the real industrial crown jewels that have been included as potential auction items - the oil, gas, banking and other blue chips - are unlikely to go under the hammer until market conditions improve significantly over the next few years. No one wants to sell them off cheaply.

Amongst the most attractive companies that will be definitely sold soon are power generation company TGK-5 and three large insurers. The government will be relinquishing no more than minority interests or blocking stakes in these companies, suggesting the sales may do little to improve free floats or liquidity, but the Kremlin's plan is to bring in professional management - both domestic and foreign - and get these companies off the state books. More shares will be sold later as the economy recovers and the prices go up. However, of those with full state ownership certain to go under the hammer, perhaps only construction company Mosmetrostroi will garner any great interest.

But Shuvalov has added a second list of names of companies for sale that is a lot more interesting and includes a handful of the largest shipping and transport infrastructure companies in Russia. The potential of this segment stems from the economy's reliance on bulk exports - not only oil, but also metals and mining products, grain and timber to name a few - and hence the stakes in Murmansk and Novorossyisk Sea Ports and the Sovkomflot shipping line are likely to provoke the most interest amongst investors.

To whet investors appetite for future sales, the best plan would be to sell this second list of companies first. But that won't be easy, as most of these companies are still listed as "strategic" and so covered by the "strategic company" law passed in 2008 that limits foreign investors' stakes in companies deemed to be important to the country. President Dmitry Medvedev's job is to get these names off the strategic company list - something he has yet to achieve.

Crisis opportunity

But analysts believe the crisis has fundamentally changed the Kremlin's attitude about the need for the state to play a big role in Russia's economy. "The crisis only strengthened the authorities' urgency to escape the oil hook," says Ivan Ivanchenko, chief strategist and economist at VTB Capital.

In February, Medvedev took up the baton and released a list of initiatives and deadlines aimed at improving the investment climate in Russia, which includes demands for penalties against officials that obstruct investment policy and projects, as well as a mid-March deadline for suggestions of further "major and strategic" companies to be included in the privatisation drive.

And it is hoped that privatisation will provide a shot in the arm for the flagging levels of foreign direct investment, which collapsed from the 2008 level of over $49bn to about $16bn in 2009.

At the same time, the political elite has woken up to the fact that regardless of the strength of oil companies, the government is rubbish at running businesses. State ownership in Russia's economy has soared from 25-30% in 2004 to over 50% now, according to most estimates. Still, this rise in the state's role is not just a Russian phenomenon, as most governments around the world have reacted with similar de facto nationalisation plans to stave off economic collapse. Everyone - Russia included - says the rise in the state's role in the economy is a temporary thing. Prime Minister Vladimir Putin has repeatedly insisted that the state has absolutely no interest in managing commercial companies and more recently Finance Minister Alexei Kudrin has pledged that state interest in the enterprise sector will shrink to 30% in the coming years. The challenge is to push this past the vested interests in the Kremlin, bureaucracy and business world.

The government's assurances that they want to sell for reasons of efficiency are bolstered by the fact that the privatisation won't actually bring in that much money: Kudrin anticipates the budget deficit will be around 6.8% this year or about $83bn, but the privatisation sales this year are expected to bring in only $2.4bn in 2010 - a drop in the bucket. In other words, the only reason the Kremlin wants to sell these companies is to return them to private ownership.

And there are plenty of precedents of this. In the early noughties, the state wanted to fix the ailing phone system and managed to sell it off in a reform that was so successful no one has commented on it; the functioning telecommunications system is now one of those things you take for granted, just as you do in the West. More recently, the need to reform the electricity sector and build more power plants was becoming acute in the second half of the last decade and - lo and behold - the government pulled off another super successful privatisation in 2007. Transport is probably high on the privatisation list, as more efficient transport is one of the quickest ways to boost Russia's economy available to the Kremlin.

Whether these stakes will end up on stock exchanges or in the hands of new investors is an open question.

Angelika Henkel of Alfa Bank points out that most of the named companies, "are better candidates for buyout by strategic investors that already have a significant interest in them." The 25%-plus-one-share government stake in TGK-5, for instance, is widely expected to end up in the hands of major stakeholder KES-Holding, whilst the 25% stake in shipping company Sovkomflot is another likely to head to a working partner.

Only a few will be floated on stock markets. For example, whilst a company such as construction company Mosmetrostroi could prove attractive, the 100% that the government is looking to unload would stretch the capacity of fund inflows to Russia, and struggle to compete with established publicly-traded companies.

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