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Business Watch: December 31, 2002

31 December 2002, Volume 2, Number 41

The next issue of "RFE/RL Business Watch" will appear on 14 January 2003.
Rosneft President Sergei Bogdanchikov announced at a 25 December press conference that the state-owned company is readying a lawsuit against the Russian Federal Property Fund over its exclusion from the 18 December Slavneft auction, "Kommersant" reported on 26 December. Last-minute court decisions barred two Rosneft-affiliated entities from participating in the sale of the 74.96 percent stake. Sibneft and Tyumen Oil Company purchased the stake for $1.86 billion through a company called Investoil. Bogdanchikov claimed that Rosneft had been willing to pay up to $3.1 billion for Slavneft through Promproekt, a company created especially to circumvent the ban on participation by state-owned companies in privatization auctions. The announcement provided some insight into the murky structures that auction participants chose as "investment vehicles" in bidding for Slavneft. Bogdanchikov revealed that Promproekt was founded by five companies, each founded by a private individual and funded by a consortium of banks. "Kommersant" speculated that Rosneft's financial backer might have been Sergei Pugachev's Mezhprombank. Trust Investment Bank analyst Vladislav Metnev told "Gazeta" on 26 December that only Western banks could have provided the necessary funds. "Vremya novostei" referred to unnamed "experts," writing on 26 December that Bogdanchikov, Gazprom head Aleksei Miller, and Mezhprombank founder Pugachev stood behind Promproekt. Bogdanchikov told journalists that Rosneft will file suit "after New Year's," "Izvestiya" reported on 26 December. DK

Yukos inked a six-year contract with Poland's PNK Orlen to supply 3 million tons of crude oil a year beginning in 2003, "Gazeta" reported on 24 December. Under the terms of the contract, shipments will increase to 3.6 million tons a year in 2004 and 5.2 million tons a year in 2006. The contract can be extended for three years when it runs out in 2009. Although the parties involved disclosed no numbers, "Kommersant" estimated on 24 December that Yukos will receive "no less than $350 million" for its shipments to Poland next year and will capture 7 percent of the Polish market in 2003-09. "Vedomosti" noted the same day that the contract could open the door to a Yukos-PNK Orlen alliance to take part in the upcoming privatization of the Gdansk Refinery (RG). Aton analyst Stephen Dashevksii told "Vedomosti" that in cinching the deal Yukos outmaneuvered LUKoil, establishing a strong foothold on the Polish market and demonstrating "an ability to find compromises and come out on top." DK

State-owned Rosneft signed a contract on 18 December to deliver 2.5 million tons of oil products to Afghanistan in 2003, Interfax reported on 20 December. Estimated to be worth $500 million, the contract will satisfy half of the Afghan economy's demand for oil products, "Gazeta" reported on 23 December. The deal is structured around a joint venture called Afghan-Rosneft, created in early December by Rosneft and an Afghan firm referred to variously as Zohed Valid and Zahed Walid. Shipments will include gasoline, diesel fuel, jet fuel, and liquefied gas, "Vedomosti" reported on 23 December. Some industry analysts saw potential difficulties with supply routes across Central Asia to Afghanistan. Sergei Lukyanov, director of Petroleum Argus's Russian bureau, told "Vedomosti" that government-controlled structures in Uzbekistan and Turkmenistan are actively exporting their own oil products to Afghanistan and might feel little inclination to offer Rosneft advantageous transit rates if they see the Russian company as a threat to their business. DK

Standard & Poor's adjusted its outlook for Sibneft and Tyumen Oil Company (TNK) on 20 December in the wake of those companies' $1.86 billion acquisition of Slavneft, "Izvestiya" reported on 23 December. The rating agency lowered Sibneft from "developing" to "negative" and removed TNK from its CreditWatch list. The two companies' long-term credit rating remains B+, while Sibneft's national-scale rating slipped from ruAA to ruA+. In lowering the ratings, S&P noted that the two companies increased their debt loads to acquire Slavneft, took on the company's estimated $631 million in debt, and have not yet presented a coherent plan for dividing up their joint purchase. S&P analyst Elena Anankina also expressed uncertainty over the actual worth of the acquisition, telling "Vedomosti" on 23 December, "We don't know the real state of affairs at Slavneft." TNK expects that the acquisition will increase its debt burden from $1.9 billion to $3 billion, while Sibneft's debts will climb to $2.2 billion by the end of 2002, "The Moscow Times" reported on 23 December. Still, United Financial Group analyst Dmitrii Dmitriev shrugged off the rating adjustment, telling "Vedomosti" it is "purely technical." For their part, Sibneft and TNK representatives promised to provide S&P with additional information to assuage any worries over the acquisition. DK

The long-running struggle between paper and pulp holding Ilim Pulp and aluminum tycoon Oleg Deripaska heated up on 26 December when representatives of Deripaska-affiliated Continental Management made an unsuccessful attempt to seize control of the Bratsk Timber Mill, "Vedomosti" reported on 27 December. A Promconsultinvest representative told the newspaper that only the intervention of the local militia prevented violence, as Ilim Pulp gathered hundreds of mill workers to keep Continental Management out of the facility. Both sides in the conflict claim to hold controlling stakes in the mill, although recent court decisions have favored Ilim Pulp. The struggle has garnered attention as a barometer of property rights and dispute resolution. "Izvestiya" wrote on 24 December that while the Russian timber industry now plays a minor role in the country's economy, the Deripaska-Ilim Pulp row could determine "what Russia's image will be in the eyes of the world." Parliament formed a commission to study the situation on 1 November, "Novye izvestiya" reported on 19 December, and Aleksandr Belyachkov, head of the parliamentary committee on natural-resources management, commented, "The very fact of such conflicts is a terrible evil." The commission meets next in late January. DK

Switzerland's RUAG dealt Oleg Deripaska's Basic Element a blow when it acquired the maintenance division and Airbus-parts manufacturing arm of bankrupt German aircraft maker Fairchild Dornier on 20 December, the "Frankfurter Allgemeine Zeitung" reported on 21 December. Acting in conjunction with Irkutsk Aircraft Production Organization (IAPO), BasEl had expressed interest in Fairchild Dornier for its 728 passenger-jet program, which would give BasEl a jump on competition for financing to build Russia's next-generation regional jet. Fairchild's creditors decided to break up the company after failing to find a buyer for the entire enterprise. Bankruptcy administrator Eberhard Braun offered BasEl and IAPO a chance to buy the 728 program in isolation, "Sueddeutsche Zeitung" reported on 21 December, but they failed to obtain outside financing for the buy. BasEl may get a last chance, however. "General-Anzeiger" reported on 21 December that BasEl and IAPO will be able to decide in January whether they want to opt for a six-month buy option on the 728 program. DK

Second-place cellular operator Vimpelcom announced in a 24 December press release that it paid $26.5 million to acquire Vostok-Zapad Telecom, giving it a GSM-1800 license for the Urals Federal District. Vostok-Zapad Telecom also holds a GSM-900/1800 license in six regions within the district, which has a population of 24.3 million people and includes the cities of Yekaterinburg, Chelyabinsk, and Perm. While noting that the deal aids Vimpelcom's regional expansion plans, industry analysts found some aspects of the acquisition troubling. Vimpelcom applied unsuccessfully for a license in the district in 2001, but Vostok-Zapad Telecom's application sailed through shortly thereafter. A source in the State Committee on Radio Frequencies told "Vedomosti" on 25 December, "Vostok-Zapad Telecom representatives did not hide the fact that they wanted to obtain a license for subsequent resale to Vimpelcom." An analyst for a "large investment bank" who wished to remain anonymous told the newspaper the same day, "I'm shocked that this even happened at a time when we were starting to think that the market was becoming more civilized. It's just a scheme for getting money from Vimpelcom." DK

AFK Sistema is considering a five-year, $1 billion telecommunications investment in India, "Global Wireless" reported on 20 December. The report, which does not indicate its sources, claims that Sistema has contacted Finnish venture capital firms CapMan, Aboa Venture, and Nordea Capital in connection with the project. Industry and Science Minister Ilya Klebanov talked up a possible $1 billion Russian-Indian high-tech agreement involving AFK Sistema on 4 December, "Kommersant" reported on 5 December. The newspaper reported on 23 December that representatives of Sistema-Telecom, which manages Sistema's telecommunications interests, confirmed their interest in the Indian telecommunications sector. Initial reports indicated that Sistema was focusing on joint ventures with Indian software and telecommunications firms. Sistema-Telecom President Aleksandr Goncharuk told "Kommersant" on 23 December that the company is looking into possible operator projects on the Indian market and that details will be forthcoming. DK

Leading cellular operators such as Vimpelcom and Mobile Telesystems (MTS) are beefing up their collections departments and going after nonpaying customers, "Vedomosti" reported on 27 December. Vimpelcom, which offers customers credit-based billing options, was forced to write off $16 million in bad debts last year. Venera Kasatova, who heads Vimpelcom's credit-risk department, told "Vedomosti" that 1.68 percent of the company's clients are more than 60 days behind in payments. In addition to filing suit to recover the debt, the company relies on profiling nonpaying customers to prevent them from reregistering under another name or with false documents. As the cellular market has grown, so have accounts receivable, totaling 5 percent of revenue for MTS and 15 percent of revenue for Vimpelcom, "Vremya novostei" reported on 25 December. While both companies insist that nonpayment of charges is a minor problem and that they are rarely forced to turn to the courts, the phenomenon bears watching as one facet of Russia's slowly developing market of consumer credit. DK

Germany's Metro AG plans to invest $600 million in its Metro Cash & Carry (MCC) and Real SB hypermarkets in Russia by 2007, "Kommersant" reported on 23 December. Herbert Zlabinger, Metro's general director in Russia, explained at a 20 December news conference that the company hopes to add eight stores to its three outlets in Moscow and expand with eight additional stores in other parts of Russia by 2004, "Vedomosti" reported on 23 December. Zlabinger admitted, however, that Metro has had its share of "problems adapting to Russian conditions" in the form of overzealous tax inspectors and litigious competitors. The announcement of Metro's investment plans caps a booming year in the retail sector, especially in Moscow. Muscovites are earning more, spending a large percentage of their earnings on consumer goods, and switching their allegiance from open-air markets to traditional stores. "Russkii focus" reported on 23 December that, according to the State Statistics Committee, average annual income in Moscow is expected to rise from $6,650 in 2001 to $7,500 in 2002. Moreover, Muscovites on average spend 85 percent of their earnings on food, clothing, and services. DK

Afghan President Hamid Karzai, Turkmen President Saparmurat Niyazov, and Pakistani Prime Minister Zafarullah Khan Jamali signed an agreement in the Turkmen capital of Ashgabat on 27 December to build a gas pipeline through the three countries, UPI reported the same day. Intended to create a 1,448-kilometer link from the rich Davletabad gas field in southern Turkmenistan through Afghanistan to Pakistan, the $2 billion-$3 billion Trans-Afghanistan Pipeline (TAP) will require increased stability in the currently volatile region to become a reality. The Asian Development Bank will take until June to complete a $1 million feasibility study on the TAP, which could bring Pakistan $300 million annually in transit fees and create 12,000 jobs in war-torn Afghanistan, AP reported on 27 December. A 27 December editorial in "Vedomosti" noted that Turkmenistan, currently limited to doing business with Russia and Ukraine, has been desperately seeking alternate outlets and higher-paying customers for its vast reserves of natural gas. DK

Austria's Raiffeisen Zentralbank Oesterreich (RZB) became the first Western financial institution to enter the Belarusian banking market, paying $30.6 million euros ($31.94 million) for a 50 percent stake in Priorbank, the "Wirtschaftsblatt" reported on 21 December. With assets of 202 million euros, 400,000 clients, and 2,730 employees, Priorbank is the third-largest bank in Belarus and the country's largest privately owned bank. RZB intends to increase its stake to 53 percent, "Finansovye izvestiya" reported on 24 December. The European Bank for Reconstruction and Development (EBRD) holds a 27.6 stake in Priorbank; EBRD officials did not have any immediate comment on the acquisition. Herbert Stepic, RZB's director of foreign operations, told the "Frankfurter Allgemeine Zeitung" on 20 December that Belarus is the "connecting link" between Russia, Poland, and the Baltic states. Under autocratic and quarrelsome President Alyaksandr Lukashenka, Belarus has been increasingly isolated from the international community. But with majority stakes in 14 Eastern European banks, RZB has substantial experience in the region. According to "Wirtschaftsblatt," its most recent acquisitions are Slovenia's Krekova Banka and the second-largest financial institution in Kosova. DK

The Financial Action Task Force (FATF) imposed sanctions on Ukraine on 20 December for failing to take active measures to combat money laundering, "The Moscow Times" reported on 23 December. The Paris-based group, which blacklisted Ukraine in September for its lax policies on dirty money, deemed an anti-money-laundering law passed by Ukraine's Verkhovna Rada in early December insufficient to stave off sanctions. Although FATF leaves the precise nature of sanctions up to its 29 member nations, it recommends that Ukrainian clients and banks be subject to tougher identification requirements and heightened transaction scrutiny. The U.S. government responded immediately to the call for sanctions, using the post-11 September 2001 PATRIOT Act to require U.S. banks to impose strict record-keeping controls on business with clients and banks from Ukraine, "Vedomosti" reported on 23 December. FATF will review Ukraine's status at its 12-14 February meeting in Paris, leaving little time for the passage of new anti-money-laundering legislation, especially in light of an ongoing standoff between President Leonid Kuchma and opposition politicians in parliament. Nadra Bank currency broker Dmitrii Reznichenko suggested a more immediate solution, joking to Interfax-Ukraine on 25 December, "It's time to move assets into gold or Chinese yuans." DK

A Russian joke from the days of the planned economy and missiles in Red Square asks "What will next year be like?" The answer: "Middling. Not as good as this year, but better than the year after." Times have changed since then, several times in fact. Knee-jerk popular pessimism served as an antidote to the Pavlovian official optimism of the stagnant Brezhnev years. Perestroika ushered in the universal optimism of the early 1990s, which gave way to universal pessimism after the economic crash of 1998. As evaluations of 2002 and prognoses for 2003 rolled in last week, the keynote was qualified optimism among officials and equally qualified pessimism among observers.

Prime Minister Mikhail Kasyanov and Economic Development and Trade Minister German Gref delivered their verdicts on the Russian economy and its prospects, Kasyanov after the cabinet's final meeting of the year on 26 December and Gref at a 24 December press conference. Strong vital signs gave both men some cause for good spirits. Both GDP and industrial production grew by approximately 4 percent, while real earnings rose by 8.9 percent; all is well with hard-currency reserves and payments on the nation's external debt; the long-suffering ruble shows no inclination to take any plunges; and inflation exceeded official predictions by a single percent, coming in at 15 percent for the year.

A more nuanced, and ambiguous, picture emerged from the Gref press conference and the reactions it evoked. Gref set the tone, commenting, "It's not entirely satisfying; more could have been achieved," "Izvestiya" reported on 25 December. In addition to the positive fundamentals noted above, the minister -- who in American political parlance of an earlier decade would surely have been termed the "economics czar" -- gave a nod of approval to the recognition of Russia as a market economy, progress in talks with the World Trade Organization, and tentative steps toward reining in tariff hikes and investment appetites of the so-called "natural monopolies" (gas, electricity, and railroads). He expressed concern, however, over the economy's reliance on the energy sector, the slow pace of reform, and insufficient investment. In an effective sound bite and plea for greater openness, Gref told journalists, "The economy is like a parachute; it only functions when it's open," "Vremya novostei" reported on 25 December. Mustering all optimism, he even predicted that in 2012-13, conditions for doing business will be no worse in Russia than in Europe (although he allowed that standards of living might take somewhat more time to catch up).

The two greatest causes for concern remain the economy's dependence on the "favorable external economic situation" -- officialese for "high oil prices" -- and the stalled reform of the natural monopolies. The "favorable external economic situation" accounted for 50 percent of GDP growth, a fact noted by all and sundry with varying degrees of malice and worry. "Konservator" stated the majority view on 27 December, writing, "The Russian economy grew primarily thanks to dependably high prices for oil throughout 2002." "Moskovskii komsomolets" expressed the same sentiment with greater flair on 25 December: "Expensive oil allows the cabinet to rest on the laurels of indifference."

The natural monopolies -- Gazprom, Unified Energy Systems, and the railways -- are bound up with the politically explosive issue of introducing market principles into the so-called housing and communal sector, or how much people pay for their housing and utilities. The energy and transportation monopolies are holdovers from the Soviet past that have proven too dangerous to dismantle: vast, state-run companies that provide basic services like power at subsidized rates. The ripple effects of these concealed subsidies coalesce into an undertow that prevents the Russian economy from scrabbling up onto the shore of the market. Yet the monopolies have proved exceptionally resistant to change, and this year was no exception: Any real reform has already been postponed until 2003. "Izvestiya" described the difficulty succinctly on 25 December: "The reform of electrical energy determines the course of reform in rail transportation, but depends entirely on the pace of reform in the gas sector. Meanwhile, the government has no coordinated plan for liberalizing the gas market and the restructuring of Gazprom makes no sense without creating a market sector in housing and utilities. The authorities have chosen to rein in the socially explosive reform of housing and utilities on the eve of elections. For now, no one knows how to break out of this vicious circle."

The fear is that the monopolies, and the subsidies they provide, could conceal deadly inflationary potential. Igor Nikolaev of Financial and Accounting Consultants told "Konservator" on 27 December: "Enormous inflationary potential has built up in these sectors. It could be unleashed after liberalizing the gas, rail transit, and electrical energy markets. The sooner the government frees prices in the monopolies, the smaller the burst of inflation will be." But with many Russian voters convinced of a causal connection between reforms and hyperinflation in the 1990s, and with Putin's team zealously husbanding the president's approval rating as elections, however uncontested, near in 2004, chances of movement in this crucial area seem minimal for now.

The insoluble issues of Russia's dependence on natural resources and the seeming impossibility of reforming the monopolies lent a certain despondency to evaluations of 2002. Drawing additional dismay from reports of slowing growth, most editors stressed stagnation and decline in headlines: "Investments Near Zero" ("Gazeta," 25 December 2002); "Our Parachute Hasn't Opened Yet" ("Novye izvestiya," 25 December 2002); "No End In Sight To Economic Stagnation" ("Vedomosti," 27 December 2002); "Apocalypse Now" ("Konservator," 27 December 2002).

Does the joke still hold? In all fairness, there are bright spots beyond high prices for oil: an increasingly lively retail sector, booming telecommunications, the emergence of consumer credit. The extreme pessimism of so many Russian observers, though rooted in well-founded doubts about the future and magnified by a time-honored journalistic penchant for extreme pronouncements, points to another factor as well.

The assumption of transition guarantees a modicum of hope for the future no matter how disastrous the present might seem. Since Peter the Great, transition in all its guises has always aimed to catapult Russia above and beyond the West -- if not in prosperity, at least in power. Faced with the loss of empire and a sharp reduction in geopolitical clout, Russia turned its gaze from power to prosperity. Observers today survey an economy that is heavily dependent on the export of natural resources, largely controlled by a small clique of murky financial/political groups, saddled with inherited inanities, and incapable of creating the financially secure and politically empowered middle class that distinguishes true Western nations (as Russians see them) from the hardscrabble penury of the developing world.

The pessimism in the air does not stem from this particularly dim view of the Russian economy, a view that many would reject. The grim feeling some clearly have is that after years of assuming that the Russian economy is still in transition, it might finally have arrived.

(P.S. It would hardly be fitting to ring in the New Year without some cheer. Minister Gref voiced the hope that Russia will soon enter a time when "things aren't as bad as the papers say," "Nezavisimaya gazeta" reported on 25 December. For our part, we hope that this has already happened.) DK