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Business Watch: November 19, 2002

19 November 2002, Volume 2, Number 35
In a late-day announcement on 15 November, LUKoil stunned industry observers with news that it is selling its 10 percent stake in the Azeri-Chirag-Guneshli (ACG) oil field in Azerbaijan for $1.25 billion to a "large Japanese oil company," "Kommersant" reported on 18 November. LUKoil's press release noted only that the company is reducing its role in projects where it does not have operator status. The operator for the ACG field is British Petroleum (BP), which holds a 34.13 percent stake in a consortium that includes Azerbaijani's state oil company SOCAR (10 percent), Statoil (8.56 percent), Unocal (10.28 percent), ExxonMobil (8 percent), TPAO (6.75 percent), Devon (5.62 percent), Itochu Oil (3.92 percent), and Delta Hess (2.72 percent), according to "Vedomosti." Analysts concurred that Itochu Oil is the likely "Japanese oil company" in the deal, which will require the approval of all consortium members. Industry observers reacted positively to the news. Aton analyst Steven Dashevskii told "Vedomosti" on 18 November, "This is a tremendously advantageous deal for LUKoil.... The amount that LUKoil plans to get is almost 10 percent of its current capitalization." The deal also provided grist for the rumor mill, as LUKoil might be joining the ranks of oil companies pumping up their cash reserves in anticipation of the 18 December privatization of Slavneft. DK

LUKoil signed a memorandum of cooperation in the Caspian with Norwegian Statoil during President Vladimir Putin's trip to Norway last week, "Neftecompass" reported on 13 November. The most likely object of cooperation is the LUKoil-licensed Yalama-Sumur field in the Russian sector of the Caspian, "Vedomosti" reported the same day. The two companies will create a working group to study the project. Preliminary estimates put the field's oil deposits at 150 million tons of oil requiring $1.5 billion-$2 billion in investment to develop. DK

Surgutneftegaz might make an offer for a chain of filling stations in Germany that British Petroleum (BP) will put up for sale later this year, "Vedomosti" reported on 14 November. BP is gearing up to unload a 55 percent stake in a refinery in Ingolstadt and a network of roughly 800 filling stations in order to comply with German antitrust legislation. LUKoil, Russia's second-largest oil producer, had eyed the same network but seems to have lost interest. A Surgutneftegaz spokeswoman told "The Wall Street Journal" on 15 November that the acquisition would give the oil company "the opportunity to engage in the kind of business we're always criticized for not having -- marketing." With some $4 billion cash on hand, Surgutneftegaz is in a strong position to expand, and the company has ties to Germany as an exporter. Still, Troika Dialog analyst Valerii Nesterov told "Vedomosti" that refining and retail sales are a "low-margin business in Europe." United Financial Group oil analyst Stephen O'Sullivan seconded him, commenting to "The Wall Street Journal" that, "I seriously doubt whether many Russian companies will make a good return on assets in downstream Europe." DK

Gazprom petrochemical subsidiary Sibur announced a 4.2 billion ruble ($132 million) loss for the first nine months of 2002, "The Moscow Times" reported on 14 November. According to results calculated to Russian accounting standards, sales decreased to 16.2 billion rubles from 35.86 billion rubles for the same period last year. Company management blamed the woeful tally on a shortage of raw materials and the cost of servicing the company's 49 billion-ruble debt, which gobbled up 2.3 billion rubles in penalties and fines during the accounting period, "Vedomosti" reported on 14 November. Sibur management also discussed a 10-year business plan at the 13 November meeting, "Kommersant" reported on 14 November. Company President Dmitrii Mazepin estimated that Sibur will need some $500 million in investments to develop an energy program aimed at reducing production costs. "Vremya novostei" reported on 14 November that Sibur will likely attract the needed funds either through new loans underwritten by Gazprom or by emitting new shares in exchange for a portion of the debt it owes the gas giant. DK

The Russian Central Bank has given state-run Vneshtorgbank (VTB) and Sberbank until 1 June 2003 to bring their loans to gas giant Gazprom into line with Russian risk regulations, "Vedomosti" reported on 11 November. Regulations stipulate that banks cannot lend more than 25 percent of their capital to any single borrower. The 41 billion rubles ($1.29 billion) and 21 billion rubles ($660 million) that Sberbank and VTB have, respectively, lent Gazprom represent 35 percent and 38 percent of their capital. Aton analyst Steven Dashevskii told "Vedomosti" that the Central Bank's decision is more of a technical matter for Sberbank and Gazprom: "As long as Sberbank has the money and is willing to lend it, and as long as Gazprom is willing to borrow, writing up the deal is less of a problem than if Sberbank didn't have the money and Gazprom didn't have the option." "Kommersant" reported on 11 November that Gazprom and VTB are already taking steps to resolve the difficulty, with VTB acting as the organizer of a syndicated loan to restructure Gazprom's credit portfolio. Meanwhile, new destinations already await VTB's capital. VTB Director Andrei Kostin and Industry and Science Minister Ilya Klebanov recently signed an agreement making VTB the main creditor for the Industry Ministry's development projects, "Nezavisimaya gazeta" reported on 12 November. DK

Prime Minister Mikhail Kasyanov promised that a hotly debated draft bill on currency liberalization will go before Parliament by 1 December after a 14 November cabinet meeting tentatively approved the measure, "Kommersant" reported on 15 November. The law will require banks to obtain new licenses and contribute 0.15 percent of quarterly customer-account balances to a Central Bank-supervised insurance fund. "The Moscow Times" reported on 15 November that the law will provide insurance of up to 95,000 rubles ($3,000) for deposit accounts in member banks. The government will also end 100 percent deposit guarantees for Sberbank deposit accounts by 1 January 2007, creating equal conditions for all players on the banking field. Though Central Bank Deputy Chairman Andrei Kozlov called the law a "tremendous breakthrough," a 17 November editorial by RosBusinessConsulting (RBK) described the proposed $3,000 upper limit for compensation as "extremely modest." (A 1994 directive set deposit-insurance levels for EU banks at 20,000 euros, effective from 2000.) RBK also noted that equal deposit insurance terms intended to encourage customers to entrust their money to private banks may, in turn, tempt those banks to engage in riskier lending policies as they seek to turn a profit on the extra capital. DK

The 13 November meeting of the Federal Securities Commission (FKTsB) left VEO-Otkrytie, Russia's third-largest brokerage, open to possible regulatory sanctions and sowed discord among regulators, "Kommersant" reported on 14 November. The National Association of Securities Market Participants (NAUFOR), a professional, self-regulating organization, allegedly intended to propose suspending Otkrytie's license during the FKTsB meeting, citing violations such as maintaining insufficient capital reserves, insufficient trained staff, and exceeding margin-deal limits. NAUFOR spokeswoman Tatyana Guseva told "Vedomosti" on 14 November, however, that NAUFOR did not consider recommending suspension, as the violations were not "premeditated and systematic." At the meeting, FKTsB head Igor Kostikov harshly criticized NAUFOR for lax monitoring, and the FKTsB initiated a probe that could lead to a suspension of Otkrytie's license. For its part, Otkrytie claimed in a 13 November press release that the objections NAUFOR voiced "have either been dealt with or are in the process of being dealt with." Respected business journalist Yuliya Latynina hinted in a 14 November broadcast on TVS that other forces may be at work, informing viewers, "NAUFOR members speculate in private that there might be a conflict between Otkrytie and one of the oligarchs close to [FKTsB head] Kostikov." DK

Mobile Telesystems (MTS) launched a new prepaid billing plan for subscribers on 14 November, "The Moscow Times" reported on 15 November. The new service, called Jeans, brings MTS up to speed with main competitors VimpelCom and Megafon, which already offer similar services. Despite rumors of a tremendous promotional offer, actual Jeans rates were on average 10 percent higher than competitors' rates. Jeans subscribers will pay an initial fee of $7, with calling rates varying from region to region. An MTS spokesman justified the rate differential to "Vedomosti" on 15 November, saying the company's studies indicate that "subscribers are willing to pay 15 percent more for high quality." Both VimpelCom and Megafon announced rate cuts to parry the MTS initiative. A Megafon-affiliated adviser shrugged off the MTS approach, telling "Vedomosti" that MTS "is seriously overestimating the quality of its services." DK

Norwegian telecommunications group Telenor announced on 12 November that it will join with VimpelCom and Alfa-Group to invest a total of $175.44 million in VimpelCom-Region, Telecomworldwire reported on 13 November. Each party will sink $58.48 million into the regional operator, leaving VimpelCom with a 65 percent stake and Telenor and Alfa-Group with 17.5 percent stakes. Alfa-Group is to invest an additional $58.52 million next November, bringing its stake to 30 percent and reducing VimpelCom's stake to 55 percent and Telenor's to 15 percent. Telenor holds a 29 percent stake in VimpelCom itself, which has more than 4 million subscribers. Deutsche Bank analyst Yulii Matevosov told "Vedomosti" on 13 November that the move comes at the right time for VimpelCom, which needs cash to develop its regional subscriber base and has had difficulty competing with cellular giant MTS in the Russian hinterlands. VimpelCom's latest regional expansion plans focus on St. Petersburg, where the company recently received a license to operate, "Kommersant" reported on 13 November. DK

Revenues from communications services for the first nine months of 2002 rose by 45 percent to 194.5 billion rubles ($6.14 billion) in comparison with the same period in 2001, Communications Minister Leonid Reiman announced at a press conference reported by Interfax on 15 November. According to the ministry's figures, domestic investment in the communications industry rose by 19.7 percent to 28.5 billion rubles, while foreign investment jumped 30 percent to $277 million. DK

Changing course after a major management shakeup, U.S.-based ICN Pharmaceuticals is moving ahead with plans to divest itself of its Russian holdings, "Vedomosti" reported on 15 November. ICN owns five factories and a pharmacy chain in Russia with total annual turnover of $130 million. A yearlong struggle for control of the company ended recently with the replacement of company founder and former chief executive Milan Panic, who was succeeded by Robert O'Leary. A 7 November press release on the company's website announced a new strategic direction that entails "divesting noncore businesses...[including] the company's operations in Eastern Europe." PR Newswire reported on 7 November that ICN's Eastern European region chalked up an operating loss of $81.1 million for the first nine months of 2002. According to "Vedomosti," the investment company Renaissance Capital has been conducting what could be a presale assessment of ICN's Russian operations. DK

Ukrainian retailer Fozzy plans to move into the Russian market with a chain of economy-class supermarkets, "Kommersant" reported on 12 November. According to an 11 November statement by company owner Vladimir Kostelman, Fozzy is prepared to invest as much as $50 million to carve out a Russian niche for itself. Fozzy hopes to found a nationwide chain, to be called Silpo, starting with two stores in Moscow by year's end and an additional 10-12 stores by the end of 2003. Reactions to the move, which would represent the first such Ukrainian incursion on the Russian market, were mixed. Aleksandra Slavyanskaya, general director of RAO Consulting, told "Kommersant" the Ukrainians will benefit from their understanding of the post-Soviet business mentality, close linguistic ties to Russia, and competitively priced Ukrainian products. Moscow retailers, however, scoffed at the idea that a common language and mentality can provide a tangible business edge and noted that their Ukrainian competitors will face an uphill battle with Muscovites, who tend to prefer tried and true, homegrown products. DK

The ChevronTexaco-led Tengizchevroil (TCO) consortium announced on 14 November that it is suspending work on the second stage of its $3 billion Kazakhstan project because of a failure to agree on a budget, the "Financial Times" reported on 15 November. U.S.-based ChevronTexaco controls 50 percent of the consortium; other members include ExxonMobil (25 percent), state-owned Kazakh oil company KazMunaiGas (20 percent), and LukArco (5 percent), a LUKoil-BP joint venture. "Oil Daily" reported on 15 November that the Kazakh government, which now feels it got the short end of its 1993 contract with TCO, was responsible for pushing the funding issue to the breaking point. Despite the current suspension, Chevron Vice President Peter Robertson said TCO is "open to...a mutually agreeable solution to the funding issue." According to "Oil Daily," the dispute is particularly unwelcome for Chevron, which has had high hopes for future earnings from its Tengiz operations. DK

Consider the following two recent statements about Russia: 1) "Investors are dramatically more bullish on Russia.... Russia recorded the biggest positive investment sentiment shift in the Index, as investor confidence grew by 19 percent"; and 2) "Russia is one of the most investor-unfriendly places in the world, according to a recent ranking." The first quote comes from management consulting firm A. T. Kearney's September 2002 Foreign Direct Investment Confidence Index; the second, from a 14 November story in "The Moscow Times" about the Heritage Foundation's recently released Index of World Economic Freedom and the World Economic Forum's latest Global Competitiveness Report.

Theoretically, of course, dismal performance can mark a startling improvement over even more dismal performance. More to the point, however, the reports in question employ varying evaluative criteria to produce their seemingly contradictory rankings. The FDI Confidence Index "tracks the impact of likely political, economic and regulatory changes on the foreign direct investment intentions and preferences of the leaders of the world's largest corporations." To that end, it assigns Russia 17th place among the top 25 countries. To add perspective, Russia inspires less confidence than India (15th place) but more than Austria (25th place). The Index of Economic Freedom bills itself as a "careful theoretical analysis of the factors that most influence the institutional setting of economic growth." It ranks Russia 135th among 156 countries. The Global Competitiveness Report arranges countries in a Growth Competitiveness Index (GCI), which "represents a best estimate of the underlying prospects for growth over the next five to eight years," and a Microeconomic Competitiveness Index (MCI), which measures the "set of institutions, market structures, and economic policies supportive of high current levels of prosperity." Russia ranks 64th out of 80 countries in the GCI, and 58th out of 80 in the MCI.

The reports' divergent assessments of Russian economic data reflect a general divide between investors and economists. Investors are duty-bound by moneymaking intent to be situation-specific optimists; why else would they invest? Economists, and especially those who focus on the overall picture in developing countries, labor under no such obligation and can feel free to fret about systemic deficiencies and pervasive penury. That their evaluations sometimes fail to coincide should hardly come as a surprise. Investors, after all, have been known to reap ample returns in places not otherwise known as economic powerhouses (Nigeria springs to mind).

Institutionally sanctioned rankings fulfill more than one function, of course. In addition to imposing a certain relative order on the economic hurly-burly, they provide a fine opportunity for the chattering classes to reassert cherished positions through affirmation or disputation. The influential Russian business daily "Vedomosti," which has of late been sounding clarion calls of alarm about structural weaknesses in the Russian economy, seized on the World Economic Forum's Competitiveness Report to drive its point home yet again. In a 14 November editorial entitled "Direct Hit," the editors ruefully quote the report's assertion that competitive companies succeed by creating new products and technologies instead of merely relying on cheap labor and resources. "A bullet to the heart," they wince. They continue, "In a rating with such a benchmark, it's strange that Russia actually managed to beat Haiti and not finish in last place."

The newspaper's editors reacted very differently to the Heritage Foundation's Freedom Index. "Vedomosti" has reported in exhaustive detail on the painfully incremental process of liberalizing and rationalizing any and all Russian legislation that influences the business world. A 13 November editorial enumerated recent advances in judicial reform, customs, and taxation, and concluded combatively: "But how do you like this -- in two years, Russia hasn't advanced an iota on any of the 10 'economic freedom' indicators."

Taken together, the reports underscore two prominent prisms for viewing the Russian economy: targeted optimism and systemic pessimism. The optimists point to specific advances and opportunities; the pessimists stress structural flaws. Given such predilections, one can only guess at whether ratings and rankings produce optimists and pessimists, or whether optimism and pessimism themselves generate rankings and ratings. DK

With the privatization of Slavneft drawing near, Russian oil-industry heavyweights intensified their jockeying for position around the state-owned oil company even as recent developments brought new nuances of the upcoming sale to light. The bidding is set to start at $1.3 billion, but analysts have estimated that Slavneft could fetch up to $2 billion when it goes on the block, making this the energy-sector deal of the year. The oil company produced 14.9 million tons of oil in 2001, "Vedomosti" reported on 12 November, with International Accounting Standards consolidated revenues of 87.7 billion rubles ($2.75 billion) and a net profit of 3.65 billion rubles.

The Russian Federal Property Fund (RFFI) owns a 74.95 percent stake in Slavneft, Belarus owns a 10.83 percent stake, and a trust company holds 12.98 percent. The trust company is split into four parts, with Tyumen Oil Company (TNK) and Sibneft officially owning one-quarter each , while two belong to unnamed parties.

In a decision that affects Slavneft's net worth, an arbitration court ruled on 4 November that Vareganneft, which accounts for 15 percent of Slavneft's production capacity by some estimates, must be returned to its original owners. TNK CEO Viktor Vekselberg announced at a press conference that the loss of Vareganneft will reduce Slavneft's value by 15 percent, "Vremya novostei" reported on 14 November. Troika Dialog analyst Valerii Nesterov told the newspaper that the effect could be less drastic, however, as Vareganneft is responsible for only 9.5 percent of Slavneft's production and its oil reserves are costly to recover.

Belarus also did its part to muddy the waters, announcing that it will sell its 10.83 percent stake in Slavneft in a single-lot auction on 22 November, RossBusinessConsulting (RBK) reported on 14 November. Surgutneftegaz, a possible contender for Slavneft, could gain an inside track on the sale when company head Vladimir Bogdanov arrived in Minsk on 18 November for talks with Belarusian President Alyaksandr Lukashenka on the privatization of Belarusian petrochemical enterprises. RBK reported that a $250 million deal between Surgutneftegaz and Belarus for the 10.83 percent stake might be in the works. Aleksandr Korchagin, an analyst with investment company Prospekt, told "Nezavisimaya gazeta" on 15 November, however, that Belarus is unlikely to find a buyer before the main event. After RFFI sells its stake, the Belarusian packet will be cheaper. For now, "no one will risk the $200 million the Belarusians are asking," according to Korchagin.

The top contenders for Slavneft are currently Sibneft, TNK, and Surgutneftegaz. In a seemingly counterintuitive development, they were joined by state-owned Rosneft, which announced on 11 November that it might make a bid for Slavneft, "Vedomosti" reported on 12 November. Since the law forbids a state-owned company from taking part in privatization, Rosneft would have to form an alliance to participate. "Vedomosti" named British BP and U.S.-based Marathon as possible Rosneft partners. "Vremya novostei" reported on 12 November that Rosneft could team up with Gazprom and Mezhprombank in its bid. In a 13 November editorial, "Vedomosti" ridiculed the idea of privatizing one state-owned company to another, calling it an "absurd initiative."

Surgutneftegaz is flush with more than $4 billion in cash and seen as long overdue for expansion. TNK management confirmed its intention to make a play for Slavneft at a 13 November press conference, "Kommersant" reported on 14 November, announcing that it has created a new company to take part in the auction. LUKoil is also reported to be mulling a bid. On 15 November, the company announced that it is selling its 10 percent stake in the Azeri-Chirag-Guneshli oil field for $1.25 billion, cash that could come in handy for an upcoming large purchase.

Many analysts see Sibneft, controlled by politically influential oil magnate Roman Abramovich, as the leading suitor in the Slavneft seduction. Sibneft has established a wholly owned subsidiary called FinTrade to take part in the auction, "Kommersant" reported on 15 November. The company plans to put $1.7 billion at FinTrade's disposal by the time bidding starts. To that end, Sibneft is holding talks with Mikhail Khodorkovskii's Yukos on the possibility of a $1 billion loan, "Vedomosti" reported on 13 November. And Sibneft might already own a substantial chunk of Slavneft. Persistent rumor links a mysterious expenditure on Sibneft's latest earnings report with the purchase of two additional 25 percent stakes in the trust company that controls 12.98 percent of Slavneft. Other rumors hint at a joint Sibneft-TNK bid.

The dismal legacy of earlier privatizations, which saw vast assets parceled out in fixed auctions at fire-sale prices, would inspire some to dismiss the proceeding as so much window-dressing. To forestall such criticism, organizers have this time insisted on open bidding. In an 18 November press conference, RFFI head Vladimir Malin announced that the auction will take place on 18 December with a starting price a shade short of $1.3 billion, reported. Anyone with roughly $2 billion to spend and a desire to test the waters of Russian privatization circa 2002 is encouraged to contact the Antimonopoly Ministry in Moscow for information on participation by 15 December. DK