Graham Stack in Berlin -

This is the fifth in a series of pieces by bne that look into the development and structure of ZAO Kremlin, the Russian state conglomerate that the Kremlin is creating.

Yury Yarov, the 66-year-old director of St Petersburg Northern Design Bureau, got the nod on October 23 to head up Russia's United Shipbuilding Corporation. It should have been a plumb job, but instead the Kremlin has hung an albatross around his neck.

United Shipbuilding Corporation (USC) was hyped as a ready-made national champion in the spring of 2007 - but six months later and the holding company has yet to be bolted together and the Kremlin's plans to create a single shipper to represent Russia's interests in international waters is still floundering in the shallows of indecision.

Originally, Alexander Burutin, a military adviser to the president, was selected to lead the corporation. But Burutin only lasted three months in the job - he failed to cope with the Herculean task of fusing 40-odd shipping companies in various states of disrepair and mutual hostility, and walked the plank in September.

Nor were top officials in a hurry to be associated with the enterprise. "Minister of Diversification" Sergei Ivanov, who had publicly championed the idea of USC, quickly moved on to grand green-field projects like nanotechnology and dodged becoming chairman of the board. So did the new defence minister, Valery Serdyukov. The albatross finally landed with Deputy Prime Minister Sergei Naryshkin.

It then took over a month to find a replacement for Burutin. Again, the original candidate for the job, Andrei Dutov, jumped ship to head the State Industry Agency. The next best candidate turned out to be of retirement age - Yury Yarov, a former cabinet minister and the boss of current PM Viktor Zubkov during the 1980s.

Launching Ivanov

USC was launched impetuously earlier this year, shortly after Ivanov, then defence minister and still a potential successor to President Vladimir Putin, was promoted to first deputy prime minister and entrusted with the mysterious, but obviously important, portfolio of "Diversification." On March 9, Putin signed a decree, "On the Establishment of the United Shipbuilding Corporation," providing for all state shareholdings in the shipbuilding branch to be united into a holding with 100% state ownership.

The initiative chimed with Ivanov's suddenly heightened profile as a potential presidential successor. The decree to create USC was a hasty measure that didn't appear to have been the object of much in-depth consultations with companies from the branch. "The whole plan was very political and very connected with pushing Sergei Ivanov," says Ruslan Pukhov of the Centre for Analysis of Strategies and Technologies, Moscow's most authoritative independent research centre on the defence sector.

The template for USC was the United Aircraft Corporation (UAC) established in 2006 for the aviation industry, but there were substantial differences - the main one being that UAC will have to compete in a global market for orders, whereas USC will be fighting to win mostly Russian orders for new ships. And UAC is a dream team of successful Russia aircraft makers (thanks to the booming military exports of jet fighters), while most of USC's companies are near bankruptcy.

The aviation national champion was easier to put together as aircraft companies, both state-owned and private, had already finished much of their sector's consolidation, which took place from the bottom up thanks to the export business cash. The consolidation of USC, on the other hand, has had to be a top-down bundling together of existing state shareholdings, as none of the companies were making money and so had no incentive to add the problems of other companies to their own. "They should not have gathered all the companies together," says Pukhov. "They should have included only the best, and closed some companies that have no future."

The plan was hatched so hastily that there wasn't time for consultations with private companies, such as St Petersburg's Baltiskie Zavody and Severnaya Verft, both owned by oligarch Sergei Pugachev's Mezhprom group - and among the most successful in the sector. "The plans might easily still change - after the elections," says Pukhov.

Building the shipbuilding corporation is proving a fiendish task - and going badly, as Burutin's dismissal shows. The USC will unite over 40 companies across Russia, ranging from federal unitary enterprises (FGUPs) to joint stock companies in which the state is a minority shareholder. Alone, the process of inventorying FGUP's assets and converting them into joint stock companies is, Sergei Ivanov has admitted, extraordinarily laborious.

But is it all worth the effort? Burutin says: "There would be no need to embark on such a complex process alone for military shipbuilding: the state rearmament programme is already cleared for naval yards through to 2015. The USC goal is to revive commercial ship-building."

Call of the Arctic

The grand plan for the shipbuilding sector is to build ships for the development of the Shtokman gas field and the Pacific shelf projects, and to cash in on Arctic shipping lanes opening up as the ice melts. This is how USC hopes to occupy, in Putin's words in his annual address to parliament, "a decent niche on the global shipbuilding market."

Currently, Russia is quite simply invisible on the global shipbuilding market: 80% of shipyard capacity is for military purposes; and 80% of Russian shipping companies' growing orders go to foreign shipbuilders. So put two and two together to get four. "Sovcomflot is predicting a four-fold increase in Arctic shipping over the next 10 years and there is currently no competition," says Oleg Sudakov, transport analyst at Ak Bars Finans.

Ice-class tanker

Offshore energy projects, LNG shipping and Arctic shipping will all generate demand for special ships capable of navigating the icebound waters. Government estimates put the number of platforms needed for offshore oil and gas production by 2030 at 40 and the number of specialised ships at 80, with more than 140 support vessels. Demand is also set to boom for atomic icebreakers, hydrographic craft for exploration, and pipeline-laying ships.

But the ships really in demand are ice-class tankers of smaller tonnage, as well as the giant tankers for transporting liquid natural gas (LNG). This is the specialist niche that a Russian shipbuilder should be aiming at. "No one is talking about Russian shipyards trying to compete with Japan or China in making Aframax or Panamax tankers," says Sudakov, referring to the common types of super-tankers used by the oil industry.

Thus, USC does have the vision thing: naval yards diversifying into high-tech commercial shipbuilding - and the economy putting added-value on its resource base.

Outgunned by the leftouts

The catch, however, is that market forces are already working quite effectively in shipping without the heavy-handed intervention of USC. The most capable Russian shipyards have already picked up on the growing demand for ships long before government officials got it. In fact, the management of Admiralty shipyards, pioneers in producing ice-class tankers in Russia, had just completed a series of five ice-class tankers for Sovcomflot and was very reluctant to join the corporation, thus putting at risk its right to conclude contracts independently.

Privately-owned St Petersburg yards Baltiskie Zavody and Severnaya Verft - which have also pioneered in building tankers, recently declared they would build LNG carriers starting 2011, and are currently relocating yards from St Petersburg centre to build larger vessels - were not even invited to join.

These yards might have been apprehensive that the national champions in the oil and gas and shipping sectors would favour the national champion among shipbuilders. But, in fact, the private companies are currently doing well. Baltiskie Zavody is a major partner of state-owned shipping giant Sovcomflot alongside Admiralty shipyards. And a huge $2.5bn order to construct drilling platforms for Gazprom's Shtokman field was awarded to the privately-owned Vyborg Shipyard in September.

Cynics point out that both Baltiskie and Vyborg yards are owned by St Petersburg groups both of which are reputed to be close to the Kremlin - Sergei Pugachev's Mezhprom group and the Rossiya bank group, respectively. Optimists say that since - in contrast to aircraft makers - shipbuilders will compete only for the domestic market, it is sensible to retain some competition.

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