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Business Watch: July 9, 2003


9 July 2003, Volume 3, Number 25
ENERGY
SISTEMA BUYS INTO BELKAMNEFT
AFK Sistema announced in a 30 June press release that it has purchased a 33 percent stake in oil company Belkamneft. "Kommersant-Daily" reported on 28 June that Sistema bought the shares from the Udmurt Property Relations Ministry. Sistema, a holding company best known for its telecom business and ties to City Hall, described the acquisition as part of a policy to pump up its oil-production assets. Belkamneft produced 2 million metric tons of crude in 2002, substantially more than Sistema's other oil producers -- Nedra (143,000 tons) and Severnoeneftegaz (5,100 tons). In a 1 July article, "Gazeta" linked the Belkamneft buy-in to the city of Moscow's newly created Moscow Oil and Gas Company (MNGK), which needs production assets. The newspaper suggested that Sistema might do Moscow Mayor Yurii Luzhkov a favor by selling its newly acquired Belkamneft stake to MNGK. Troika Dialog analyst Kakha Kiknavelidze also foresaw a sale, although he specified no potential buyer. The analyst told "Vedomosti" on 30 June that Sistema will likely sell its stake in Belkamneft for the simple reason that small companies face tough economic conditions that make it hard to fight off acquisition by major players. DK

GAZPROM APPROVES 10 BILLION-RUBLE BOND ISSUE
Gazprom's board of directors approved a 10 billion-ruble ($330 million) bond issue on 30 June, the company announced in a press release the same day. The three-year bonds will carry a semiannual coupon of 4 percent and have a minimum issue price of 94.69 percent of face value, corresponding to a required return of 10.5 percent. The final price will be determined on the issue date. According to the company, funds raised from the bond issue will go to maintaining current production, carrying out new projects, and refinancing short-term debt. DK

YUKOS NAILS DOWN HUNGARY CONTRACT
Russia's Yukos and Hungary's MOL inked a 10-year oil-supply contract on 3 July, Hungarian news agency MTI reported the same day. Signed in the presence of the two countries' ambassadors, the contract provides for deliveries of up to 7.2 million metric tons per year, making it worth $10 billion at an average price of $20 per barrel. "Vedomosti" noted on 4 July that the contract, which will account for 20 percent-25 percent of Yukos's total exports, fits in with the company's policy of increasing the share of long-term contracts in its export business from 55 percent to 80 percent. With Yukos currently weathering a barrage of negative publicity (see In Focus below), the contract came as a welcome bit of good news. Troika Dialog analyst Valerii Nesterov told "The Moscow Times" on 4 July, "This is another success story for Yukos and its fast-growing production, which grew 20 percent last year. It may stop the fall of the company's share price or at least soften the negative consequences of the arrest of Platon Lebedev." (Lebedev is chairman of Yukos's financial arm, Menatep, and is accused of embezzling some $300 million from the state in 1994.) DK

COMPANIES
BOILER ROW THREATENS $1.4 BILLION CONTRACT
A dispute between St. Petersburg shipbuilders Baltiiskii Zavod and Severnaya Verf might endanger a $1.4 billion contract to build two destroyers for China, "Finansovye izvestiya" reported on 4 July. The feud has been simmering ever since Severnaya Verf was awarded the original contract in 2001. Aleksandr Nesis, head of the IST group of companies that controls Baltiiskii Zavod, announced on 3 July that Severnaya Verf is violating the contract terms by "installing 15-year-old equipment and passing off this garbage as new," "Kommersant-Daily" reported on 4 July. Baltiiskii Zavod is refusing to deliver boilers it claims it cannot guarantee if they are to be embedded in aged components. Aleksei Romanenko, director of the destroyer project at Severnaya Verf, told "Vedomosti" on 4 July that Baltiiskii's concerns are unfounded and any warehouse materials used in the ships' construction meet all necessary technical specifications. With Baltiiskii Zavod the only producer of the boilers, the refusal to deliver them could deal the project a fatal blow. "Kommersant-Daily" noted that IST group, which is affiliated with the MDM financial-industrial group, is looking to gain control of Severnaya Verf, currently controlled by Mezhprombank, in order to create a "super shipyard." Rosoboronexport, Russia's state-owned arms-export monopoly and the contractor ultimately responsible for the destroyers, had no immediate public comment on the conflict, which could damage Russia's reputation as a reliable supplier of affordable, advanced weaponry. DK

REGULATION
FISH AUCTIONS ON WAY OUT
A government commission on fishing legislation recommended on 2 July that the practice of auctioning off industrial fishing quotas be ended, "Kommersant-Daily" reported the next day. Introduced in 2001, quota auctions netted the government 15 billion rubles ($495 million) in 2001-2002 and an equal sum in the first five months of 2003, "Vedomosti" reported on 3 July. Critics charged that the scandal-plagued auctions abetted corruption in an industry already famous for unsavory collusion between government and business. Deputy Premier Aleksei Gordeev criticized the auctions as an "ineffective mechanism that doesn't stimulate the development of honest business," but proposed in their stead only "new mechanisms for receiving industrial quotas for catching marine resources," "Vremya MN" reported on 3 July. Industry representatives who testified at the 2 July commission hearing suggested divvying up quotas on the basis of average catches over the last three to five years, "Vremya novostei" reported. Such an approach, which would freeze the current status quo, is unlikely to please everyone in the industry, however. Representatives from Russia's Far East, where the country's fishing industry is concentrated, will review the commission's proposals next week before cabinet considers them at its 17 July meeting. DK

INVESTMENT
ICN SELLS OUT TO PROFIT HOUSE
U.S.-based ICN Pharmaceuticals Inc. announced the sale of the company's Russian operations, ICN Russia, on 30 June, the "Los Angeles Times" reported on 1 July. The purchaser was investment company Profit House. "The Moscow Times" reported on 1 July that Profit House, which manages a drug factory in Ufa and a chain of pharmacies in Moscow, was acting on behalf of Millhouse Capital, the investment firm that manages the assets of oil tycoon and Chukotka Governor Roman Abramovich. Numerous press reports put the purchase price at $55 million. United Financial Group analyst Aleksei Krivoshapko told "Vedomosti" on 30 June that the amount is a "fair price." "Vremya novostei" reported the same day, however, that ICN had originally hoped to sell ICN Russia for no less than $150 million. ICN Russia includes five factories, a distribution network, and 96 pharmacies and kiosks; it generated revenues of $100 million in 2002. Millhouse Capital Chairman Yevgenii Shvidler announced that the company has ambitious plans for its new acquisition, explaining that "ICN prepared a solid foundation on which we intend to build the largest pharmaceutical company in Russia," "Vremya novostei" reported on 1 July. "Nezavisimaya gazeta" reported on 2 July that Millhouse Capital will likely use its fabled lobbying muscle to usher in an era of consolidation on the Russian pharmaceuticals market, where name-brand drugstore networks have yet to capture a significant market share. DK

SHELL EYES MOSCOW FILLING STATIONS
Royal Dutch/Shell announced on 2 July that it is considering a plunge into the Moscow filling-station market, "Vedomosti" reported the next day. Shell East Europe Ltd. Development Director Edgars Zalitis made the announcement after the company became a member of the Moscow Fuel Association (MTA) at the organization's annual meeting. Although Shell operates 56,000 filling stations in 90 countries, the company currently has only six in Russia, all in St. Petersburg. Shell originally planned to open 25 stations in Russia's northern capital but scaled down its plans after the 1998 financial crisis. MTA Vice President Aleksei Nebolsin told "Vremya novostei" on 3 July that Shell faces a crowded market in Moscow in which it can count on building or buying no more than 50 stations. Industry sources told "Vedomosti" that Shell will probably need a local partner in order to follow through on its plans. The only foreign players on the Moscow filling station market at present are Italy's Agip, with one station, and Anglo-American BP, with 30. DK

AROUND THE CIS
BRITISH FIRM LOOKS TO UKRAINIAN GAS MARKET
Britain's JKX Oil & Gas is looking to acquire a stake in Eural TransGas, a little-known Hungarian company with significant contracts to transport gas from Turkmenistan to Ukraine, the "Financial Times" reported on 30 June. According to "Nefte Compass," JKX is acting in concert with Benam Holdings, a company with interests in Ukrainian and Central Asian gas markets. "Vedomosti" reported on 30 June that JKX entered the scene after Gazprom declined a proposal from Ukraine's Naftohaz Ukrainy that would have given each of the companies a 40 percent stake in Eural TG. (A Gazprom representative told the newspaper that the Russian monopolist would be interested in a "minimum of 50 percent" of Eural TG.) The "Financial Times" estimated Eural TG's contracts at $275 million annually; "Vedomosti" put their value at $130 million-200 million, with revenues of up to $1 billion in the case of exports to Western Europe. Gazprom and Naftohaz Ukrainy have said that tax optimization explains Eural TG's role as the operator for Turkmen gas -- the Hungarian-registered company pays a mere 3 percent tax on profit -- but some investors have questioned the less-than-transparent arrangement. DK

IN FOCUS
'CHAIR, TABLE, YUKOS'
If the world's suit-wearing, bottom-line-watching, boardroom-dwelling optimists could condense all their hopes and dreams for Russia into a single word, that word would almost certainly be Yukos. From its early adoption of international accounting standards to its introduction of independent board members to its glossy annual reports holding forth in unaccented English on corporate governance and environmental awareness, Russia's premier privately owned oil company has forged an image as the standard-bearer of Western ways in the once Wild East. It doesn't hurt that it rakes in scads of swag to boot, of course. Enough, in fact, to make chairman and top shareholder Mikhail Khodorkovskii Russia's richest man, and a respectable No. 26 on the "Forbes" 2003 list of the world's wealthiest people, with a personal fortune estimated at a cool $8 billion.

And Yukos has been on a roll this year, gearing up for a merger with fellow Russian oil major Sibneft that will make YukosSibneft the fourth-largest oil producer in the world, and second only to ExxonMobil in oil and gas reserves. With Khodorkovskii at the helm, YukosSibneft will be the first Russian company to join the global elite of multibillion-dollar megacorporations.

But Yukos hit an unexpected, man-made bump in the road last week. On 2 July, representatives of the prosecutor's office roused billionaire Platon Lebedev (No. 427 on the "Forbes" "World's Richest People" list with $1 billion) from a hospital bed, hauling him in to face fraud charges on a 1994 fertilizer-plant privatization. A longtime associate of Khodorkovskii, Lebedev is the chairman of the holding company that controls 61 percent of Yukos. Other cases, some of them predating the Lebedev arrest, involved more obscure figures. Aleksei Pichugin, head of a security department at Yukos, was arrested on 21 June on charges of organizing a double murder in 2002. Ramil Burganov, a former Yukos executive, has been sought since January 2002 for embezzlement. Finally, prosecutors announced on 3 July that they are investigating a Yukos connection in two attempts on the life of oilman Yevgenii Rybin in 1998 and 1999, "Vremya novostei" reported the next day.

The charges against Lebedev go back to the distant days and dark dealings of 1994, when Lebedev headed Khodorkovskii's Menatep Bank and Russia's future billionaires were busy privatizing the onetime fiefdom of the Communist Party. According to summaries published in "The Moscow Times" on 4 July and "Kommersant-Daily" on 7 July, a firm called Volna -- allegedly linked to Lebedev -- bought a 20 percent stake in fertilizer producer Apatit in 1994. Volna paid $225,000 and pledged to invest $280 million. In 1996, the regional government successfully sued Volna for reneging on its investment promise. The firm did not return the shares, however, claiming a third party had already bought them. The dispute finally ended in a 2002 voluntary settlement that saw Volna shell out $16 million to make amends. The new charges ignore the previous settlement and up the ante, claiming damages to the state of $283 million.

The flurry of legal activity set off a firestorm of speculation over the causes and timing of the campaign, seen everywhere as directed primarily against Yukos Chairman Khodorkovskii. Khodorkovskii's numerous fans in the West found themselves in a bit of a bind, their desire to defend the forward-thinking oilman brought face to face with their distaste for the milieu in which he made his first millions. A 4 July editorial in the "Financial Times" nicely captured the ambivalence, moving from the merely ambiguous -- "Beneath the calm created under President Vladimir Putin lie risks that those who deal with Russia ignore at their peril" -- to close with the positively Delphic -- "History teaches that most very wealthy families clean their fortunes, as the robber-baron dynasties did in the U.S. But the process takes years and cannot be rushed."

Russian observers generally focused on the increasingly popular topic of warring factions in the Kremlin. Khodorkovsii himself suggested as much in a 5 July interview with Tomsk's TV-2 television station: "We're dealing with a power struggle between various wings of Vladimir Vladimirovich Putin's entourage." Though Khodorkovskii, fresh from a trip to the prosecutor's office the previous day to answer questions about the Lebedev case, maintained a tactful silence on specifics, others were quick to fill in the blanks. The Kremlin struggle is widely seen as pitting the Yeltsin-era oligarchs and their political allies against the "St. Petersburg secret policemen"(not all of whom hail from Petersburg or the secret police) who rode into Moscow on President Putin's coattails. The oligarchs, of whom Khodorkovskii is a prime example, have more money and moxie; the policemen have better access to the repressive mechanisms of the state.

Aleksandr Privalov presented a thumbnail sketch of how Yukos fits into the conflict between the "old Kremlin" and "new Kremlin" wings of the presidential administration in "Ekspert" (No. 25). In going after Yukos, Privalov explained, the "new Kremlin" wing does not want money "from Yukos or from those who are supposed to draw conclusions about their own behavior from Khodorkovskii's misfortunes. They have money. They want Yukos and its ilk to stop financing the other side. They want to pull the plug on the opposing wing of the presidential administration. And they chose Yukos as their whipping boy because it's the richest and most ambitious."

In his Tomsk TV-2 interview, Khodorkovskii consistently downplayed his company's political influence, claiming that "in Russia, economic structures have never had the political power and influence that such structures have had, for example, in the United States." When asked whether Yukos's growing economic muscle had set alarm bells ringing, Russia's richest man was dismissive: "I think that it's not the economic power as such. It's just one of the factors in tomorrow's, or today's struggle for tomorrow's power. In this struggle, we're not one of the subjects, but one of the objects: chair, table, Yukos."

The larger problem, of course, is that while we may have a clear picture of the objects -- be they chairs, tables, or multibillion-dollar oil companies -- we must often make do with foggy guesses about the subjects. The gist of l'affaire Yukos, which could easily fade away like so many scandals before it, is precisely this problem of visible objects and invisible subjects.

Much of the optimism about Yukos arises from how much people know about the company. Last week's outburst of prosecutorial zeal comes as a reminder that a great deal remains unknown -- about the not-so-distant past of Russia's business elite and about the forces that may greatly influence that elite's not-so-far-off future. DK

POLITICAL FOOTBALL
It started out as one of those lightweight, double-hook stories that revolve around an intriguing combination, as in "heavy metal group Iron Maiden completes $30 million bond issue" (which actually happened in 1999). The headlines on 2 July matched "Russian oligarch" and "English football club" as oil tycoon, metals magnate, and Chukotka Governor Roman Abramovich paid $233 million of his give-or-take-$5 billion fortune to purchase Chelsea ($130 million for the club's debts and the rest for the team itself, RFE/RL reported on 3 July).

The press had a field day. British newspapers tried to figure out whether "rich," "Russian," and "reclusive" boded ill or well for what is most important, which is to say Chelsea's chances at a national championship. Russian newspapers tried to figure out whether the pleasing prospect of Russian ownership of a big-name European football club outweighed the somehow unpatriotic act of investing hundreds of millions of dollars in another country.

More importantly, the news gave everyone a chance to tut-tut over the sorry state of the game itself. A 3 July op-ed by William Langley in the "Sunday Telegraph" dismally averred that "football parodies everything that is gross, ugly and inadequate about modern Britain." "Football is rotten to the core," Langley thundered, blaming the "spivs and shysters who control English football." Pity the poor Abramovich, who "says he is buying Chelsea for the fun of it, in which case he has got a big shock coming." In Moscow the same day, the editors of "Izvestiya" one-upped Langley as they explained why Abramovich scorned Russian teams in favor of Chelsea: "Because football in Russia remains a criminal, or half-criminal, business. And it doesn't bring investors money; it takes it away." In Russia, the editors wrote, "you can spend millions on good players and coaches, build stadiums and training camps, and then have it all destroyed by two whistles from a referee who was bought or bullied." Abramovich wisely chose to become a club owner "in a country where being a 'football oligarch' is an honor, not a crime. Where people who invest their money and energy into football are respected members of society, not camouflaged or made-over gangsters."

But the lighthearted banter came to a chattering halt on 7 July in St. Petersburg, when Audit Chamber head Sergei Stepashin lashed out at Abramovich and his new toy. Speaking at a seminar for the Audit Chamber's regional subdivisions, Stepashin announced that Abramovich's oil company, Sibneft, stiffed the taxman to the tune of 10 billion rubles ($330 million) in 2001, "Kommersant-Daily" reported the next day. "That's where the extra money for Chelsea came from," Stepashin fumed, calling the purchase a "politically demonstrative challenge to the entire country." Lest anyone miss the message, Stepashin summed up, "The money from oil companies should go not to buy football teams, but to drill new wells and develop the Russian economy."

Stepashin's remarks raised eyebrows less for their content than their context. Recent days have seen a spate of official and semi-official anti-oligarchic statements and actions:

* In June, a group of political scientists in the Moscow-based Center for National Strategy issued a report full of dark mutterings about a "creeping oligarchic coup." "Ekspert" (No. 25) reported that "everyone is saying that the report was ordered up by the 'Petersburg' faction of the presidential administration."

* Platon Lebedev, a top shareholder in oil major Yukos and a long-time business associate of Yukos head Khodorkovskii, was arrested last week on charges stemming from a 1994 privatization deal (see In Focus above). The case is one of four that involve Yukos, adding up to what many see as the groundwork for a possible anti-Khodorkovskii campaign.

* Federal Security Service (FSB) Director Nikolai Patrushev announced on 7 July that the FSB should oversee issues of industrial privatization, especially where defense facilities are involved, Interfax reported the same day. Patrushev added significantly, "We are concerned about a number of deals."

* State Duma Chairman Gennadii Seleznev treated journalists in Rotterdam on 8 July to a tirade on oligarchs and ill-gotten gains, ABN reported the same day. "I think that the prosecutor and Audit Chamber should examine the phenomenon of where dollar-denominated billionaires came from in Russia over eight-nine years," Seleznev said. "In nine out of 10 cases," he concluded, "these billions appeared because Russian law was broken."

Threat, innuendo, bluster, and even a whiff of prison gruel have always been a part of the Kremlin's standard repertoire for communicating with its citizens, even the richest among them. And with elections looming on the horizon -- to the State Duma in December and the presidency in March 2004 -- an anti-oligarchic salvo comes as a well-timed warning shot aimed at those who might consider making mischief in the upcoming electoral reshuffle.

Will the potential mischief-makers agree to lay low? Will they decide to fire back with a salvo of their own? The longest, hottest days of summer are still ahead of us. DK

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