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Business Watch: June 4, 2002


4 June 2002, Volume 2, Number 22
OIL & GAS
LUKOIL TO CUT PRODUCTION COSTS (27 May)
LUKoil, Russia's biggest oil producer, pledged on 27 May to cut costs by $330 million in 2002. LUKoil suffered a 9.2 percent decrease in profits in 2001 as a result of lower oil prices, Reuters reported. According to Russian accounting standards, LUKoil company profits fell to 87.52 billion rubles (roughly $2.8 billion) from 96.43 billion rubles in 2000. "Despite an 18 percent drop in the price of oil, we kept our financial results in positive territory in 2001," said LUKoil Vice President Leonid Fedun at a news conference. In an effort to streamline the company and improve efficiency, LUKoil plans to cut staff, subsidiaries, and oil-extraction costs. Profits should also increase along with LUKoil's increased hydrocarbon reserves. Due to the discovery of new resources in the Caspian Sea, LUKoil was able to increase its reserves by 11 percent, or 16.6 billion barrels, in 2001. According to Anatolii Novikov, also a LUKoil vice president, "We had an incredible year because the discovered amount [of reserves] was larger than our annual output." On 27 May, LUKoil was upgraded from "buy" to "hold" by United Financial Group (UFG). UFG said that LUKoil is undervalued among Russian oil stocks. (TGP)

YUKOS LEGISLATION BACKED BY LITHUANIAN GOVERNMENT (27 May)
At a cabinet meeting on 27 May, the Lithuanian government agreed to approve draft legislation that would allow the Russian oil producer, Yukos, to acquire over 25 percent of the Lithuanian oil firm, Mazeikiu Nafta, Reuters reported. In April, a deal was reached between Yukos and U.S. Williams, which owns one-third of Mazeikiu, to exchange a 26.85 percent share in the oil refiner for $75 million, an additional $75 million loan, and a guaranteed 5 million tons of oil annually for 10 years. The Lithuanian government, which owns 59 percent of Mazeikiu, sought legislation that would clarify the rights of shareholders as well as provide a clause allowing Yukos to sell its shares back to the firm through 1 January 2004. Implementation of the agreement is expected to breathe new life into Mazeikiu. The $150 million in cash and loans will be used to modernize the 20-year-old operation, which has a current capacity of 140,000 barrels per day. (TGP)

BUSINESS ALERT
RUSSIAN ALUMINUM TO ISSUE EUROBONDS (27 May)
Russian Aluminum (RusAl) spokesman Aleksei Prokhorov told Reuters that Russia's largest aluminum producer intends to issue Eurobonds in the amount of $200-$300 million over the next two years for the purpose of financing investment projects. According to Prokhorov, "The company's investment committee will decide which project to allocate money to...and there is no decision at the moment." Possible investment projects can be found in Guinea and Australia. RusAl may also use the funds to upgrade smelters at Bratsk, Krasnoyarsk, Sayansk, Novokuznetsk, and the Mykolayiv plant in Ukraine. In 2002, RusAl expects to produce 2.47 million tons of aluminum, slightly higher than the 2.46 million tons produced in 2000. (TGP)

HARBOR GLOBAL SUBSIDIARY SELLS RUSSIAN TIMBER BUSINESS OFFSHORE (29 May)
It was announced on 29 May that Harbor Global Company Ltd. subsidiary Pioneer Forest completed the sale of its Russian timber business to a British Virgin Islands company, Successful Union Ltd. The business sold for $7.55 million, $5.55 million of which is to be paid up front with an additional $2 million to follow in the form of a 12-month promissory note, according to a Business Wire announcement. (TGP)

MOLDOVAN WINE PRODUCER ENTERS CHINESE MARKET (29 May)
Independent Moldovan wine producer Asconi Corporation announced on 29 May that it will enter the Chinese market. Company President Constantin Jitaru said, "Asconi is the first company among all of the exporters of Moldovan wines to enter China.... We are pleased to announce that the first lot of 36,000 bottles has already been shipped," according to a Business Wire release. Asconi has signed a one-year contract for the sale of its bottled wine with the option to extend at the end of the period. "We consider the Chinese wine market a great opportunity to expand the sales of our wine into Asia. A positive factor in this regard is the treaty between the governments of China and Moldova on trade promotion between the two countries," Jitaru said in the statement. (TGP)

RUSSIAN BUSINESS ABROAD
RUSSIA TO INCREASE WEAPONS SALES TO ARMENIA (29 May)
During a visit to Yerevan on 29 May, Russian Security Council Secretary Vladimir Rushailo said that Russia will increase weapon sales to Armenia and increase military cooperation with the country, AP reported. Russia's announcement comes amid growing U.S. influence in the Caucasus. Currently, U.S. troops are in neighboring Georgia training the military in antiterrorism tactics. The U.S. has also recently signed a treaty with Armenia agreeing to rearm the country's military and help modernize equipment. In addition to announcing Russia's intention to strengthen ties to Armenia, Rushailo also brought a message from Russian President Vladimir Putin. The message outlined Russia's recent agreements with the U.S., including a treaty to reduce the numbers of nuclear weapons, and also expressed Russia's concern about the ongoing conflict in Nagorno-Karabakh. (TGP)

ECONOMIC NEWS & BUSINESS STATISTICS
VIMPELCOM TAKES OVER MOSCOW MOBILE SYSTEM (30 May)
Russian mobile operator VimpelCom, which trades under the "BeeLine" brand name, controls 51.5 percent of the Moscow mobile market. MTS has another 45.1 percent, while MegaFon controls 1.4 percent of the market, according to RosBusiness Consulting. The number of VimpelCom's subscribers in the central regions of Russia has reached 183,000 users. VimpelCom currently has four base stations in Kostroma, plans to set up another two stations there in June, and expects to have nine in that city by September. The company also plans to launch its mobile services in the Tatarstan and Bashkortostan republics in 2002. VimpelCom's net profit reached $28 million in the first quarter of 2002, more than five times that of the same period last year. Earnings before interest, tax, depreciation, and amortization (EBITDA) was about 43.6 percent, against 35 percent in the first quarter of 2001, at $63.3 million. (IAM)

WHO IS IN? WHO IS OUT?
SBERBANK AND SVYAZINVEST MAKE DEAL (30 May)
Russia's Sberbank Chairman Andrei Kazmin and fixed-line operator Svyazinvest's chairman, Valerii Yashin, signed a cooperation agreement on 28 May, "Izvestiya" newspaper reported. One of the first results of the agreement was Sberbank's decision to grant a 4-billion-ruble ($127.9 million), five-year credit to Svyazinvest. The money will be spent on the company's investment program, including the installation of new telephone lines. Yashin said his company invested some $685 million in 2001. Communications Minister Leonid Reiman announced that more than 2.5 million new phone subscribers are expected by the end of 2002. Sberbank is providing financing for another major telecoms venture, Russian Space Communication Company (RSCC), and its first satellite launch, scheduled for 10 June. (IAM)

WHAT'S UP? WHAT'S DOWN?
GASOLINE PRICES ON THE RISE (30 May)
The Russian State Statistics Committee said gasoline prices began rising in April after a decline in wholesale sales, "Izvestiya" newspaper reported. Prices on the wholesale market rose by 3 percent in April, while retail prices increased in 26 regions of Russia. Novosibirsk Oblast experienced the highest retail price surge, of 35 percent. According to the Russian Fuel Association, prices continued to rise in May. In the wholesale sector they climbed 8 percent last week. The retail price rose form 10-30 percent at the beginning of May. According to analysts, gasoline and diesel prices will continue to rise this summer, when the demand for fuel will grow, "Izvestiya" reported. Prices for the most popular gasoline brand, AI-92, may rise by 10 rubles (about $0.32) per liter by August, the paper reported. (IAM)

EBRD CONSIDERING $45 MILLION INVESTMENT IN RUSSIA FUND (27 May)
The European Bank for Reconstruction and Development (EBRD) may invest $45 million in a new Russia fund, Reuters reported. The fund, to be managed by Quadriga Capital Russia, would invest in company stakes as well as in Russian medium-sized businesses. In order for the EBRD to proceed, the fund will be required to raise money from investors. "The project will further catalyze the concept of equity finance by supporting one of the more efficient fund management teams in Russia until such time as they can raise third-party capital," according to the EBRD. The fund, if approved, would be the third EBRD-sponsored regional venture capital fund run by Capital Russia. (TGP)

PROFILE
NAZIR KHAPSIROKOV: FIXER OR MALEFACTOR? (Part 1)
Before the mid-November summit between Presidents George W. Bush and Vladimir Putin, "The Moscow Times" on 6 June printed an editorial headlined, "It's Time To Toss The Old Guard Aside." The English-language daily listed a group of Putin cronies as part of a "Hall of Shame." One of the first names on that list was that of Nazir Khapsirokov. The editorial pointed out that Khapsirokov "has been implicated in numerous corruption schemes over a period of years, but has avoided serious investigation or prosecution reportedly through his connections in the prosecutor's office." In February 2001, when it was announced that Khapsirokov was appointed as an aide to Putin's chief of staff, Aleksandr Voloshin, speculation was intense as to the purpose of the appointment and what it meant. Voloshin, well-known for his close connections to the Yeltsin "family," has been engaged in a running feud with the new St. Petersburg clan members that Putin brought into the Kremlin's inner circles.

The Jamestown Foundation's "Monitor" report on a 2 February 2001 headline captured one theory of the day: "Khapsirokov Appointment: Another Sign Of Putin's Lingering 'Family' Ties?" The article referred to Khapsirokov as the former "property manager" for the Prosecutor-General's Office and described him as "both a shadowy figure and a controversial one." According to "Kommersant," he was removed from his position in the Prosecutor-General's Office due to suspicion that he quashed a corruption investigation of former Deputy Prime Minister Vladimir Petrov for a bribe of $1 million. Khapsirokov then went to work at Mezhprombank (MBP), which has close ties to the Kremlin. Sergei Pugachev, co-founder of the International Industrial Bank, or Mezhprombank, and now a Tuva Federation Council representative, is widely viewed in the Russian press as the 'ideologist' or 'eminence grise' of a group of security service staffers and former intelligence officers ("chekists") seeking influence and control of Putin's Kremlin.

Some media reports further speculated that Khapsirokov was being positioned to provide "kompromat" (compromising material) he had collected to protect Yeltsin "family" members, "Moskovskii komsomolets" reported on 5 February. Khapsirovkov has held numerous positions, both in and out of government, and apparently is considered a reliable person to defend or comply with the wishes of the powerful figures to whom he owes his position. A year after the publication of "The Moscow Times" editorial, Khapsirokov remains in his presidential administration position but is maintaining the low profile that is part of the new rules of the game.

Khapsirokov's career -- from "family" man to Kremlin aide -- illustrates how continuity between the Yeltsin and Putin administrations is an important element of the stability Putin has brought to the Kremlin. Khapsirokov also epitomizes the way the line between business and politics remains clouded and difficult to define. His career also shows how people in sensitive positions, especially in the Prosecutor-General's Office, can be used to either reward friends or punish enemies. He reportedly played an important role in protecting some of the most influential members of the "family," such as embattled oligarch Boris Berezovsky in the Aeroflot investigation conducted by the Prosecutor-General's Office. Khapsirokov has also been linked to Russia-Belarus Union State Secretary Pavel Borodin and the elections in Borodin's old stomping grounds of Yakutia.

Khapsirokov is from the Karachai-Cherkessiya Republic in the North Caucasus. Born in 1952, he is a philologist who got his legal training through a correspondence course and is married with two sons, according to the 19 September "Moskovskii Novosti." His career followed a typical soviet Communist Party path of military service, raion-level Komsomol leadership, a construction firm, and eventually the Prosecutor-General's Office. One of the most widely reported incidents involving Khapsirokov was that of "vodka king" Yurii Shefler. The continuing "vodka king" saga provides a case study in influence-peddling and demonstrates how a well-intentioned executive order can be hijacked by private interests. Unfortunately, the legal system remains highly susceptible to bribes and can be used as an instrument to obtain desired results: It is a new twist on Putin's concept of "dictatorship of law." The 4 June 2001 issue of "Novaya gazeta" reported in detail on how Khapsirokov assisted "vodka king" Shefler in taking control of the best-known Russian vodka trademarks. Allegations of connections with Berezovsky and the Putin government's attempt to wrest control of the trademarks for the state are detailed as well. This case continues to spark charges and countercharges and continues to be played out as millions, if not billions, are at stake. An article in "The Moscow Times" on 11 March, "The Spirits Of War," provides an excellent summary of the vodka-trademark fight. Khapsirokov has arguably proven that money and power go hand-in-hand in today's Russia: If the allegations are true, bribes can engender or kill investigations -- and knowing how to wield that power can serve any master. (PMJ)

IN FOCUS -- ECONOMY
EU-RUSSIA AS MARKET ECONOMY
During the Russia-European Union (EU) summit in Moscow on 29 May, EU Commission President Romano Prodi told Russian President Vladimir Putin, "I am delighted to announce to you today that we are going to grant full market-economy status to Russia," Reuters reported. The decision will provide Russian exports relief from antidumping duties and will bring Russia closer to its goal of joining the World Trade Organization (WTO). The United States has not yet recognized Russia as a market economy, though President George W. Bush announced at the U.S.-Russian summit that a decision on Russia's status would be forthcoming in June. The European decision comes in stark contrast to the U.S. Senate's refusal to lift trade restrictions imposed by the Jackson-Vanik amendment and grant market-economy status to Russia.

The decision to recognize Russia as a market economy demonstrates the European Union's interest in promoting economic cooperation and trade ties with Russia in hopes of opening new markets for services and products. High-level European officials attended the EU-Russia summit, which reflects Europe's regard for Putin and belief in the benefits of deeper business and trade ties. It also serves to underscore the differences between Europe and the U.S. and implicitly makes the case that the EU is more reliable than the United States in economic matters. Prior to the start of the EU-Russia summit, the EU officially opened a new office in Moscow across the river from the Kremlin. During the opening ceremony, Prodi commented that the move "symbolizes the upgrading of our economic and trade relations that began 11 years ago and which have now developed into a strategic partnership that links the European Union and Russia today," AP reported. EU-Russian trade is expected to increase as the European Union embraces Russia's trade partners to the east. At present, Russia exports 35 percent of its products to the European Union. This number could grow to 50 percent following EU enlargement.

The EU-Russia summit, which followed President Bush's visit to Moscow and Leningrad, is seen as critical "given the actively developing new relations between Russia and the United States and the qualitatively new level of relations with NATO," according to Russian Foreign Ministry spokesman Aleksandr Yakovenko said, according to AP. "We wouldn't want our relations with the EU to lag behind these processes."

Russia not only hopes to increase trade and investment with the European Union, but it also wishes to use the summit as a platform for addressing the issue of Kaliningrad. The Russian exclave will be surrounded by EU states once Lithuania and Poland enter the Union. Russia is seeking visa-free travel for Kaliningrad citizens, a position rejected by the EU at the summit on 29 May, Reuters reported. The issue of Kaliningrad has become increasingly significant as the EU moves closer to an eastward expansion slated for 2004. President Putin has denounced the EU's decision, declaring that the move will leave Kaliningrad geographically isolated once Poland and Lithuania join the grouping.

The EU has so far refused to create what in fact would be an extraterritorial corridor. This corridor is unacceptable to both Lithuania and Poland, given fears of a spillover in criminal activity and health risks associated with the high HIV-infection rate in the Russian territory. Putin called the EU's approach to Kaliningrad "at the very least incomprehensible." In remarks made to Russian news agencies, the Russian president said, "It is not [an] exaggeration to say that our overall relations with the European Union depend on how the issue of vital importance to Russians is resolved." The EU has proposed alternatives to visa-fee travel that could include flexible visa prices, multiple-entry visas, and expanded consular services in Kaliningrad. Moscow is being urged to begin cooperation with Lithuania in preparation for EU membership by issuing passports to Kaliningrad residents and identifying regular travelers. Gleb Pavlovskii, the Kremlin political consultant known for his public-relations skills, said, "Russia will never tolerate restrictions on the future of movement of its citizens in Kaliningrad," according to "RFE/RL Newsline" on 28 May. Foreign Ministry spokesman Yakovenko has criticized the EU's position on Kaliningrad and challenged the EU to take practical steps to ensure a strategic partnership with Russia.

Whether President Bush can deliver on his pledge to grant Russia market-economy status by June remains an open question. Many issues and economic interest complicate that decision -- from Senator Joseph Biden's (D-Delaware) concern for the poultry industry in his state to the legal-trademark fight over the famous Stolichnaya vodka label. Responding to the U.S. Senate's refusal to lift the 1974 Jackson-Vanik amendment restricting Russian access to U.S. trade markets, President Bush told Putin, "I am determined to work with Congress to remove Russia from the Jackson-Vanik amendment." Bush further stated at a Kremlin news conference, "It is time our Congress responded to my request, to President Putin's desire, that the Jackson-Vanik amendment be removed pertaining to Russia," Reuters reported on 24 May. The decision, expected by 14 June, could aid Russia in its bid to join the WTO. Russian Economics and Trade Minister German Gref told AP that a favorable decision would provide major opportunities "for exporting Russian goods to the United States."

Many questions remain. Increasingly, the heavy-handed techniques used to silence the media, increased instances of religious persecution, various legal battles including the trademark fight over well-known vodka brands, and the import ban on U.S. poultry products have all led to the questioning of whether the time is right to remove leverage on Russia by granting trade status. "The Moscow Times" on 11 March accused the Russian government of a "relentless campaign to retake control of the country's best-known vodka trademarks, which are worth millions of dollars a year." Counsel to SPI Spirits (the maker of Stolichnaya vodka) Richard Edlin, from law firm Greenberg Traurig, testified before the U.S. House of Representative Subcommittee on Trade of the Ways and Means Committee on 11 April that "the conduct by the Russian government brings into serious question Russia's ability to act as a reliable trade partner, to respect law, and to conduct itself in accordance with the practices we associate with free-market economies and reliable trade partners." He went on to accuse the Russian government of reverting to the "tactics and policies" of the Soviet era. On 21 May, 18 members of the U.S. House of Representatives signed a letter to U.S. Trade Representative Robert B. Zoelick urging action against the Russian government's attempt to "renationalize the vodka industry." Other industries in Russia have testified to similar complaints.

While competition between Europe and the U.S. to develop preferential economic ties with Russia is intense, the growing chorus of political and business complaints against Russian practices of ignoring the rule of law will no doubt make any attempt by President Bush to confer "market economy" status to Russia difficult at best. (PMJ/TGP)

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