Features: Annual Survey: Russia’s Roller Coaster Runs On Oil

After a difficult year, Russia’s fortunes look set to improve. The country is still too dependent on oil for its future prosperity, though.

By Nick Kochan

While analysts tend to compare Russia with the other BRIC countries-Brazil, India and China-it is actually very different. Although its economy has flourished in recent years, now it looks even more exposed to global turmoil than its peers. Despite its recent progress, many of its industrial and financial structures are in great need of reform. Few would now hazard a guess as to the timing of its eventual recovery. But many would assert that when it comes, it will be steep.

Russia’s addiction to oil has never been more sharply evident than recently. The fall of the oil price last year sent the country into a maelstrom of despair. Recent oil price rises have increased hopes of a recovery. While the oil price languished, consumers stayed away from the shops, investors wrote the country down, and many Russian industrialists were forced to take hits on their locally held assets as equity markets fell precipitately.

Russia’s woes were further increased by falling metal prices, as these contribute a significant element to gross domestic product. Many oligarchs in the metals sector, notably Oleg Deripaska, the owner of Rusal and Basic Element, have suffered a harsh revaluation of their assets. The impact on the Russian economy has been dramatic, with gross domestic product in the first quarter of 2009 9.5% lower than it was in the same period of 2008. Figures for industrial production in April were even worse, with a 16.9% fall on the previous year.

Oil is the key determinant to a rebound in the Russian economy, says Alexandra Evtifyeva, the senior economist at Moscow-based VTB Capital. “With oil prices at $60 per barrel, some stability is returning. The last quarter of last year and the first quarter of this showed that Russia was very dependent on oil prices and had little resilience to oil prices. There was a shock to the capital account.”

Morgan Stanley is moderately bullish, says one of its Russia experts: “Things are picking up. Two things are driving this. First, the financial sector is being restructured. Second, there is some evidence of consolidation to meet the downturn. The country remains heavily dependent on the oil and gas sectors.” Morgan Stanley is a strong supporter of Russia’s efforts to diversify the economy from its over-reliance on metals and oil and gas.

Kingsmill Bond, the London-based senior Russia analyst at Russian investment bank Troika Dialog, says any future recovery can be expected to be quicker in a country whose business culture is equipped for instability. “Russian corporates are used to handling volatility and difficult times. They can adapt quite quickly,” he says. “Other countries are not used to such dramatic changes in the economic landscape. Russian firms are used to being thrown around and rebounding very quickly. They have had periods of high growth and high inflation in the past, and they have recovered.”

The financial crisis in 1998 sent the Russian economy into an even sharper tailspin, points out Bond. But now “Russia is better positioned to bounce back when markets return. Russia will bounce back harder and quicker,” he predicts.

Yet a number of factors undoubtedly remain that could yet spoil the Russian party. The most worrisome is the amount of toxic assets lurking in the Russian banking system. The country has some 900 banks, but the largest carry the greatest systemic risk, and central bank attention is focused on the quality of their investments. “Russia’s big problem is how to deal with bad assets in the banking system,” says Evtifyeva. “The government is re-focusing on bank lending. They are doing everything possible to encourage banks to lend.”

In a bid to stimulate lending, the Russian central bank cut interest rates twice in less than three weeks in April this year. This has put the refinancing rate at 12% and the seven-day repo rate at 9%. Analysts believe these have further to fall, as it becomes clear that the country is moving into a deflationary period. Troika Dialog’s senior director Howard Snell says that “inflation runs at 12% and will fall further.”


Evtifyeva believes that a major restructuring of bank credit portfolios is inevitable. “They still need to do a lot on cleaning of banks’ balance sheets. Non-performing loan levels are rising quickly,” she says. Most estimates put the proportion of non-performing loans in the system at between 10% and 20%. “There will be a major shakeout of Russia’s 900 banks,” she adds. “Risks are quite concentrated in the largest banks. The smallest banks don’t take risks. We expect some restructuring in the banking sector.”

Some figures produced by Trust Bank confirm the seriousness of the danger. They show that payment arrears on corporate debt increased 11% year-on-year in March after expanding on average by 23% in the early months of the crisis. Leading bankers have talked about their fears of bankruptcies and collapses.

Emergency measures to protect the banking system through the crisis include a $75 billion refinancing of banks. The government has also provided funds directly to borrowers to stimulate spending. Large conglomerates in the manufacturing and resource sector, both private and state-owned, have benefited from government funds. Many were saved from defaulting on their international and domestic loans.

While the Russian government has been working to contain the crisis, many believe it does not have a clear strategy to deal with what many fear will be a toxic-assets implosion. “The country needs to produce a good-bank/bad-bank structure,” one analyst says, “but politicians appear to be shying away from the big decision.” Such a lack of clarity mirrors the early reluctance of Russia’s politicians to admit that the country was facing any sort of crisis.

It may take a second wave of recession, perhaps following another oil and commodity price collapse, to produce this wholesale change. The government will be forced to dip further into its reserves, which were once understood to amount to $500 billion.

As for the immediate economic outlook, retail consumption is unlikely to grow significantly until the second half of this year at the earliest, says Evtifyeva, as the economy comes to grips with unemployment, which official estimates put at 9.5% but analysts believe to be rather higher. “Retailing will remain in a bad position. First, we had a drop on the equity market, then on the financial market, then a drop in industrial production, and that led to a rise in unemployment. Currently we are seeing weakening consumption. The second quarter will see the weakest consumption,” she says.

The recovery may be yet further off, says Lars Rasmussen, an analyst at Danske Bank. On the basis of manufacturing figures published in April, he warns that “the Russian economy is not going to stabilize in the second quarter, unlike the economies of other BRIC countries.”

And much as it would like to diversify its economy, Russia will still be relying on oil to dig it out of its current hole. Few analysts would disagree that the rising oil price will in due course work its wonders on Russia’s beleaguered industrial base. The question for investors, home and abroad, is when, not if.



Baltika Breweries

Baltika is Russia’s largest brewer and has recorded a continual increase in market share. It operates 11 breweries in Russia and has a wide portfolio of national and regional brands. It is also the largest beer exporter, selling beer in 50 countries. Baltika has maintained a gross margin of around 50%. Its efforts at streamlining advertising and distribution costs have produced an ebitda (earnings before interest, taxes, depreciation and amortization) margin in 2008 of 30%. Some 40% of output is distributed through in-house facilities, decreasing dependence on third parties. As of January 2009 the company had a market capitalization of $2.13 billion. The implications of ruble depreciation pose the biggest threat to Baltika as it has extensive foreign currency-denominated debt. At the end of last year Baltika had $64.4 million of euro-denominated debt and $233.1 million of dollar-denominated debt.

Anton Artemiev, president




Magnit is Russia’s largest retail chain, with 2,579 stores open at the end of last year. It operates mainly in the Southern, Volga, Central, Northwest and Urals federal districts. Regional exposure allows Magnit to enjoy exceptional organic growth rates. Each store generates on average $1.6 million of revenue per year, and the company is thought to have plans to open as many as 500 stores a year. Market capitalization as of January 2009 was $1.5 billion. Its projected revenues for the coming year are $6.26 billion, and ebitda is estimated to hit $452 million. It has a net margin of 3%. The company announced its first-ever dividend of R6.22 ($0.19) per common share at the end of April 2009.

Andrey Arutyunyan, chairman




Optimistic expectations for Novatek’s long-term production growth are based on sound underpinnings. For example, operating leverage is high, the taxation environment in the gas industry is likely to remain benign, and the regulated gas prices are not linked to the falling market price for gas. Analysts predict revenue growth of 62% and ebitda growth of 107%. Falling local and European gas consumption in a recessionary environment presents the greatest threat to Novatek. If Russian consumption declines, too, there is the possibility that the company will miss its 2010 forecast of 45 billion cubic meters. However, the company is impressively well managed and looks set to withstand some difficult market and regulatory conditions.

Alexander Natalenko, chairman



Rambler Media

Rambler Media’s flagship asset is the Internet portal rambler.ru, which is among the five most visited web properties in the country. Rambler’s management has followed through with its pledge to make the portal “an open gateway to the web” through launching a new version of the homepage and an open communications platform called Rambler Friends. Rambler is estimated to have revenues in 2009 of $108 million, ebitda of $18 million and a net margin of 7%. Revenues are expected to grow at 2% in a recessionary environment when many media companies are experiencing severe contraction.

Olga Turischeva, chief executive


Non-Ferrous Metals & Mining

Polyus Gold

Polyus Gold is the leading gold producer in Russia and the only Russian company among the world’s largest gold producers. It has a portfolio of around 100 development assets in many regions of Russia, including flagship assets like Olympiada, Blagodatnoe, Verninskoye and Natalka. The company has $1.3 billion in cash and is looking for mergers and acquisitions in the CIS. Projected revenues for 2009 are $1.06 billion. Its net income is projected to be $159 million. Polyus Gold shares are traded on RTS and Micex in Russia, and Polyus Gold ADRs are listed and traded on the London Stock Exchange. Polyus Gold ADRs are also traded in the over-the-counter market in the United States.

Evgueni Ivanov, CEO




Rosneft is Russia’s leading oil producer, thanks largely to its Yuganskneftegaz subsidiary. It was the only integrated major to see its output of Russian oil grow in 2008. Estimated revenues for 2009 are $36 billion, with a net margin of 8%. Rosneft took on significant debt in 2007 to buy Yukos’s assets and by the end of 2008 had $19.6 billion of debt. However, its credit lines secured from the Russian government are strong. In 2007 Rosneft was included in the Russian government’s list of strategic enterprises and organizations, and the state holds a little over 75% of the company, while approximately 15% of shares are free-floated.

Sergey Bogdanchikov, president




TMK is the second-largest steel pipe producer in the world, with the majority of production facilities located in Russia. The company already dominates the Russian market in terms of oil and gas pipes, and its $1.5 billion investment program will boost its future prospects. Last year its revenue grew 36.2% to $5.7 billion, partly on the back of its acquisition strategy. Gross profit in 2008 was $1.4 billion, an increase of 11.6% on 2007. Ebitda increased 10.8% to $1 billion.

Alexander Shirayev, CEO




Mobile TeleSystems (MTS) is the largest mobile operator in Russia, with 93.9 million subscribers. MTS launched 3G networks last year in 10 Russian cities. Expansion in some 24 cities is planned for the short to medium term. MTS has higher margins and a lower level of debt than competitors. Estimated revenues for 2009 are put at $9.93 billion, ebitda for 2009 at $4.66 billion and net income $1.27 billion.

Mikhail Shamolin, CEO



Novorossiysk Commercial Seaport

Novorossiysk Commercial Seaport is a multi-purpose Russian stevedoring and port services company and Russia’s largest commercial seaport operator. It handles approximately 20% of Russia’s exports and imports shipped via sea. It has seen revenues grow on the back of higher-than-expected tariff rate increases. Projected revenues for the coming year are $784 million, with an ebitda of $402 million and net income of $130 million. Revenues are projected to grow by 19%, driven by rising commodity prices. Its shares are traded on the London Stock Exchange and Russia’s RTS and Micex exchanges.

Aleksandr Ponomarenko, chairman




Mosenergo is the largest and most fuel-efficient thermal generating company in Russia. Its power plants boast electricity capacity of 10,600 megawatts and thermal capacity of 39,000 MW. Gazprom controls the company, but the central government holds a blocking stake. The company had a share issue in 2008 that covered 40% of its investment program, and Mosenergo has said it has no plans for a further share issue. The company had revenues of $3 billion in 2007, and estimated revenues for 2008 and 2009 are $3.86 billion and $4.15 billion, respectively. Revenue growth is predicted to be 26% for the coming year.

Vitaly Yakovlev, CEO



Domestic Bank

VTB Group

In the fourth quarter of 2008, thanks to its stronger market presence and trusted brand, VTB was one of a few banks in Russia that saw net deposit inflow with a substantial increase in the number of new accounts being opened. In 2008 retail loans were up by 71.5% to $13.2 billion. Overall, its market share of loans increased to 8.8% (from 5.9% in 2007) while the share of deposits grew to 5.7%, from 4.8% in 2007. After a three-year branch-opening program that brought its total number of branches to 504, VTB now has the second-largest retail banking network in Russia. It has also introduced new technologies and expanded the capacities of its online offering for individuals and now has one of the largest Internet banking systems in Russia. In 2008 the bank’s retail arm, VTB24, installed 1,230 cash machines, increasing the number of machines by 160% to 2,577.

Andrei Kostin, chairman and chief executive


Foreign Bank

ZAO Citibank

ZAO Citibank has consolidated its position as the leading foreign bank in Russia, and according to Central Bank of Russia statistics for 2008, Citi was the fourth-most-profitable bank in the country, outpaced only by the largest state banks. Citibank Russia was among the first international banks to enter the Russian market when it established a local bank in Moscow in 1993. ZAO Citibank has become one of the country’s largest banks, offering a full range of products and services to corporate and consumer customers. Over 3,000 employees work in the bank, and its distribution network includes more than 55 retail branches, 350 ATMs and representative offices in 12 Russian cities including Moscow, St. Petersburg, Samara and Ufa.

Zdenek Turek,
head of Citi in Russia and CIS


Regional Bank

Uralsib Financial Corporation

Uralsib is one of Russia’s most striking recent banking success stories. While only the 11th largest Russian bank, with assets of $18 billion, Uralsib has a particularly large and efficient regional branch network. The bank has over 17,000 employees serving more than 3.3 million clients through over 623 offices in 47 regions across Russia and beyond. It has both a commercial banking subsidiary and a leasing company in Azerbaijan and investment bank representative offices in the United States, the United Kingdom and Cyprus. Some 28% of Uralsib’s loan book is retail, while the majority of its lending is focused on small and medium-size enterprises.

Nikolai Tsvetkov, president


Investment Bank: Domestic

Troika Dialog

Troika Dialog’s investment banking business has an impressive track record of raising capital through organizing IPOs, private equity placements and bond issues. It also provides consulting on mergers and acquisitions and restructuring deals for leading Russian and Western companies. The company’s deal roster for the past 18 months includes five public offerings with a total value of $3 billion. In 2008 Troika Dialog implemented 12 M&A; deals totaling more than $12 billion and was ranked first in M&A; deals involving Russian targets in 2008.

Ruben Vardanian, chairman


Investment Bank: Foreign

Credit Suisse

Credit Suisse has stuck by its belief in Russia’s recovery by maintaining a full-strength operation on the ground, despite the turmoil of the past year when many banks have cut back staff dramatically or quit the country. Credit Suisse runs a fully integrated platform across equities, fixed income, investment banking and private banking with more than 170 employees in Moscow. The bank has advised nine of the largest Russian corporations including Lukoil, Evraz, Sistema and Rusal/Basic Element.

Fawzi Kyriakos-Saad, CEO for Russia



Commercial Bank


Sberbank is the largest commercial bank in Russia. It is controlled by the state and has a strong loan/deposit ratio of 103%. The credit squeeze has placed less strain on this bank than many others in Russia, and it continues to maintain strong liquidity. Sberbank has a 13% tier one capital ratio, although analysts note that its tier one ratio could fall below 8% if provisions and loans rise to over 9%. Nevertheless, the bank will be a beneficiary of depositors’ flight to security.

Herman Gref, chairman of the board


Consumer Bank

ZAO Raiffeisenbank

ZAO Raiffeisenbank has over 1.6 million active consumer clients and an ATM network with more than 1,300 ATMs in 45 regions of the Russian Federation. By the end of 2008 the total number of cards issued by ZAO Raiffeisenbank reached 1.4 million-40% more than in 2007. ZAO Raiffeisenbank’s mortgage portfolio rose by 50% last year against 2007 and reached nearly R32 billion. ZAO Raiffeisenbank’s car loan portfolio rose by 21% in 2008 and reached R37.1 billion by the end of the year. The total volume of car loans granted in the past year reached R21.3 billion.

Pavel Gurin, chairman of the managing board


FX Bank

VTB Group

Commercial lending is a core business for VT Group, which has developed a large corporate client base in the local currency market. The group works closely with VTB Capital, VTB Group’s investment business, in developing a proactive approach to managing FX exposures. The group boasts “seamless execution and consistent market making” during recent volatile markets. VTB Capital concentrates on providing liquidity and innovative infrastructure for spot trading.

Andrei Kostin, chairman and chief executive



Domestic Trade Finance

VTB Group

VTB provides trade finance services through its country-wide branch network and its subsidiary banks in Europe and the CIS. Despite difficult economic and capital market conditions, VTB’s trade finance business showed strong growth in 2008. Total volume of trade finance transactions (excluding one-off items) increased around 30% year-on-year to $2.6 billion. The key competitive advantages of the VTB Group are its wide network of correspondent banks, excellent credit profile and strong franchise in Russia and CIS.

Andrei Kostin, chairman and chief executive


International Trade Finance

Deutsche Bank

Deutsche Bank is one of the leading providers of export finance to Russian clients. It also supports Russian intra-CIS trade with innovative long-term finance for Russian corporates and Western exporters. Its local expertise and broad network help it deliver structured trade and documentary solutions to some of the largest Russian and multinational companies. The bank has taken lead roles in major US dollar pre-export financing deals for Rosneft, Severstal and Metalloinvest.

Igor Lojevsky, CEO, Deutsche Bank Russia


Asset Manager

Troika Dialog

Troika Dialog Asset Management (TDAM) provides wealth management services to investors in Russia and abroad, including pension funds, insurance companies and private investors. Since its founding in 1996, TDAM has achieved and maintained leading positions in mutual funds and managed accounts. Troika Dialog Group has more than $5.9 billion in total assets under management, including a consulting mandate from the Russian Corporation of Nanotechnologies, Rusnano.

Ruben Vardanian, chairman


Fixed-Income Sales & Distribution

ZAO Standard Bank

ZAO Standard Bank is a leading player in fixed income in the Russian market. The bank, which is a subsidiary of Standard Bank Group, was founded in 2002 and is based in Moscow. Standard has a wide product offering including treasury services, foreign exchange, money market, corporate banking, structured and trade finance, advisory and corporate finance, mining project financing, precious metals trading, pre-export financing and hedging, acquisition financing, structured transactions and syndicated loans. Standard has cemented its position in the Russian market with the acquisition of 33% of Russian broker Troika Dialog.

Yuri Voitsekhovsky, chairman and president


Syndicated Loans

J.P. Morgan

J.P. Morgan is recognized as one of the most innovative arrangers of syndicated loans in Russia. Despite difficult market conditions, the bank has stayed the course in the sector. For example, it was part of an oversubscribed $3 billion syndication last year for Rosneft, the oil and gas company. An indication of the bank’s high standing in Russia is the fact that the government of Mongolia has hired it (alongside Deutsche Bank) to sell up to 49% of a $7 billion project to upgrade Mongolia’s railways.

Jamie Dimon, CEO



Bookrunner / Primary Equities

Morgan Stanley

Morgan Stanley’s commitment and profile in Russia is underlined by the size of the Russian transactions over the past year where it has been the bookrunner. For example, it was joint bookrunner in a two-tranche $1.5 billion eurobond transaction where the client was Gazprom. It was also joint bookrunner and joint global coordinator for Magnit, the largest food retailer in Russia, in a $490 million offering on the London Stock Exchange. Morgan Stanley was joint bookrunner in an IPO launched in 2008 for GlobalTrans, the privately owned rail freight operator.

John Mack, CEO


International M&A; Arranger

Morgan Stanley

Morgan Stanley has shown great competence in winning top clients in the Russian M&A; sector and pushing through deals. Notable clients include Aricom, which recently merged with Peter Hambro Mining in a £433 million deal; LVMH, which acquired Russian perfumery chain Ile de Beauté in October 2008; PromSvyazCapital Group, which sold its insurance business to Eureko; and Sibur-Russian Tyres, which merged with Amtel-Vredestein in a $916 million deal. Morgan Stanley represented the PromSvyazCapital Group in one of the few transactions closed after the collapse of Lehman Brothers.

John Mack, CEO


Equity Research

Troika Dialog

Troika Dialog has maintained its research strength in Moscow, despite the economic downturn. It is generally accepted that no firm can match its 37-strong team of researchers in depth or competence. These cover 150 of the most important listed Russian, Ukrainian and Kazakhstani firms. Its clients have full access to analytic materials, periodicals and monthly strategic summaries.

Ruben Vardanian, chairman


Domestic Bond Research

Troika Dialog

Troika Dialog was an early bear on ruble-denominated instruments as soon as it realized that the ruble would face sustained devaluation pressure in early autumn 2008. Its team was consistent in the coverage of all corporates throughout the crisis, providing detailed analysis of structural changes in the Russian corporate landscape. In-depth individual sector reports have laid the framework for these challenging times. Calls Troika made include turning negative in September on all overleveraged companies or those in sectors exposed to economic cycles, including metals and mining, and construction. It remained positive on cash-generative credits such as oil and gas companies.

Ruben Vardanian, chairman


Eurobond Research

Deutsche Bank

Deutsche Bank’s coverage of the eurobond market in Russia has focused on sovereign eurobonds, approaching the market from a global perspective. In 2008, despite market uncertainties, Deutsche made a significant investment in the market by increasing coverage to include corporate credits across the CIS. The bank’s commitment to Russia in a particularly difficult market has cemented its client relationships in the country.

Peter Tils,
CEO for Central & Eastern Europe