With volumes reaching record levels and a raft of new names from less well known sectors able to raise funds internationally, Russia's corporates are reinforcing their position in the Eurobond markets. By Kathryn Wells.
With three months to go before the end of 2003, Russia's corporates have already issued nearly $5.5bn of new paper - $2bn more than in the whole of 2002.
And, if market conditions remain stable, bankers estimate that the markets may absorb at least another $2bn before the year is out.
"2003 has been an exceptional year for issuance of Russian corporates, with a wide variety of companies able to access the market," says Andrew Dell, head of emerging market syndicate at ING in London. "We see this continuing to expand in 2004."
The Eurobond market in Russia is going through a period of consolidation, where existing issuers are taking the opportunity to return to the market for bigger, longer deals, while second tier names away from the traditional oil and gas sectors are gaining new favour with investors.
"The companies that have issued debut bonds will be back at some point to entend tenors as the market improves," says Tim Hall, head of debt capital markets at ING in London. "We will also see a number of new issuers coming to market, as investors have demonstrated a growing desire to invest in transparent, well managed Russian companies."
It is not just Russia's corporates that are becoming more capable of issuing bigger bonds. Vneshtorgbank (VTB) is setting up a $3bn EuroMTN programme, and is planning an issue in the region of $500m from this before the end of the year (see MTN chapter).
This would dwarf issuance from any other financial institution since the 1998 crisis. Zenit and UralSib - the only two banks to debut on the international bond markets so far this year - both sold deals of $125m, while Alfa Bank has a $175m deal and MDM a $200m bond outstanding.
Gazprombank brought a Eu150m three year bond in September last year and tried to return with a $200m offering earlier in the summer, but this has since been postponed. Moscow Narodny Bank priced a $150m five year bond in June via UBS, taking advantage of its position as a Ba1/BBB- rated UK bank that counts Russia's central bank as its majority owner, to bring the first five year issue from Russia's banking sector since 1998.
As a result of the groundbreaking BP-TNK and Yukos-Sibneft merger agreements announced earlier in the year, the Eurobond spotlight in 2003 has turned away from the country's dominant oil and gas market.
Only Gazprom has maintained the sector's presence with two record breaking new issues. After a $1.75bn 10 year issue to 144A standards in February, the largest ever emerging markets corporate Eurobond, the gas giant followed this up with a Eu1bn seven year issue in September, the inaugural deal off a newly arranged EuroMTN programme.
As well as being the Russian gas company's first ever bond denominated in euros, the issue also broke records as the largest ever emerging market corporate bond in the currency, and the longest ever euro denominated bond from Russia.
"Gazprom had always expressed a preference for euros, given that 40% of its export receivables are in euros and its dollar curve is quite well developed, although it was willing to have included a dollar tranche if necessary," says Caroline Kuhnert, executive director of emerging market origination at UBS in London, which jointly lead managed the offering with Deutsche Bank.
"But once we began the roadshow, we saw that there was strong demand for a purely euro denominated transaction."
Additionally, its success has helped to re-open the markets after the summer lull for a growing pipeline of Russian corporates that had briefly looked under threat as a result of political wrangles at Yukos. "Strong credits like Gazprom give confidence to investors," says Kuhnert. "The overwhelming order book [of Eu3.2bn] demonstrates that there is continued demand for Russian corporates."
Unusually for a first issue in a new currency, Gazprom was able to price the euro denominated bond flat to where its dollar curve was trading. "Gazprom did not have to pay a new issue premium to bring a benchmark deal in a new currency," says Stuart Young, head of emerging market syndicate at Deutsche Bank in London.
Gazprom benefited from the pent-up demand that had accumulated over the long summer break. "There was not a single emerging market deal brought between August 1 and September 2," Young explains. "Investors had accumulated lots of cash during that time and markets had recovered from their July sell-off. With September being a strong month for coupon payments in emerging markets, the market technically was in very good shape."
In addition, the issuance that had taken place in emerging markets during September had been almost entirely in dollars rather than in euros.
Oil major Yukos had originally been expected to be the first Russian corporate to re-open the market after the summer break. But after the arrest and imprisonment this summer of Platon Lebedev, chairman of MFO Menatep (the majority shareholder in Yukos) and a close associate of Yukos chairman Mikhail Khodorkovsky, on allegations of stealing state property, the company opted to bring a $1bn syndicated loan instead.
Yukos is understood to want to bring the bond later this year, conditions permitting, and has mandated four banks - Citigroup, CSFB, Morgan Stanley and UBS - to arrange the issue.
The situation at Yukos caused Russian bond spreads to gap out over the summer, but they have mostly since returned to levels on a par with those before the summer, apart for those on companies directly related to the dispute. "While many secondary levels are returning more towards pre-summer levels, Sibneft, which is regarded as a Yukos proxy, is still 6bp-7bp off its high," says Dell.
Local bankers and investors got to grips with the dispute at Yukos before international players did. "The Yukos situation settled much faster in Moscow than it did internationally, mainly because those people on the ground have a higher level of knowledge about what was going on," Dell says.
But London-based bankers are more bullish on prospects for the remainder of the year than their Moscow counterparts. "The market is very different now to earlier in the year," said one Moscow banker. "A number of deals that were brought successfully in the first half would struggle now."
Opinion is divided on whether the Yukos bond will make it to market later this year, although this is more because of its price sensitivities than a case of the market being shut to it. "Yukos could have done a deal at any point during the process, even in the first few weeks," says one London banker.
"The fact that they didn't suggests that they had internal pricing requirements, and it is likely that they will have very ambitious pricing targets, as they will wish to price alongside the crème de la crème of international oil companies."
Although Gazprom's Eu1bn deal has effectively set a benchmark for other Russian corporates considering the option of issuing in euros, the majority of borrowers are expected to remain loyal to the dollar market for the time being.
"We do not expect to see many other issuers looking at the euro rather than dollar markets in the near future," says Kuhnert at UBS. "At the moment, this is only possible for state owned credits or a few quality names. This is emphasised by the quasi-retail nature of a portion of the Gazprom book."
But the Gazprom transaction may be evidence of a trend that will develop further in the coming years. "There is little incentive in general for Russian corporates to consider issuing in euros over dollars, as very few have euro denominated revenues, although this will change as Russia integrates more with western Europe," says Dell at ING.
A number of new names have already debuted on the international bond markets in 2003. As well as Bank Zenit and Ural-Sib Bank, dairy producer Wimm-Bill-Dann issued a $150m five year bond via UBS in May.
One month earlier, diamond monopoly Alrosa brought a $500m five year transaction via ING, and holding company Sistema, which owns a 50% stake in mobile operator MTS, priced a $350m five year bond via Deutsche Bank and ING.
The most recent debutant was EvrazHolding, the country's leading producer of long steel products such as rails for train tracks, which brought a $150m three year Reg S deal via ING at the end of September. Fellow steel producer MMK which, by contrast makes flat steel products, is also readying itself for a likely $300m seven year offering via ABN Amro and UBS before the end of the year.
|Russian Corporate Eurobonds issued in 2003 to date|
|28/7/2003||MTS||$300m||5/8/2004||3 month Libor+4%||CSFB|
|17/6/2003||Ural-Siberian Bank||$125m||6/7/2006||8.88%||ABN, UBS|
|21/2/2003||Gazprom||$1.75bn||1/3/2013||9.63%||DrKW, Morgan Stanley|
Russia's metals and mining sector is growing in visibility and looks set to become a staple provider of Eurobonds in the coming years, especially as the sector begins to consolidate. "We are seeing an increase in M&A activity in Russia, and there is likely to be further internal consolidation in natural resource-based sectors such as metals and mining," says ING's Hall.
"In addition, a growing number of Russian companies are seeking to make acquisitions abroad. Eurobonds are an attractive means of raising finance for acquisitions, as they offer long tenors and complement other forms of financing including bank loans."
Hall believes that as the Russian corporate market evolves, the main players will develop sophisticated funding strategies: "packages of bond, bank and equity financing which produce the lowest cost of capital", he says.
A number of financial institutions, including Nikoil and Trust Bank, have awarded mandates for debut issues that may be launched before the end of the year if conditions permit. Alfa Bank, which is setting up a EuroMTN programme via UBS, is expected to bring a first issue from the programme before the end of the year.
Russia's telecoms sector is becoming a regular source of bond mandates for bankers, with MTS likely to be first to market with a $500m seven to 10 year offering via CSFB and ING scheduled for October.
This will follow a $400m five year bond that the company issued via CSFB in January, and a $300m one year FRN, also via CSFB, in July. The FRN was chosen after MTS postponed plans for a R5bn three year issue because of volatility on the domestic market. MTS opted to issue its $400m Eurobond in January to 144A standards. "We were able to achieve 38% distribution to the US, a level that very few Russian corporate deals have been able to achieve," Chris Tuffey, managing director and head of investment grade corporate and emerging market syndicate in London, said at the time. "MTS's management particularly impressed US investors on the roadshow."
Russia's domestic corporate bond market is in the throes of a correction, after a bumper start to the year, which may persuade some issuers to look to the Eurobond markets instead as the year progresses.
"The rouble bond market is dead at the moment and we are likely to see some issuers that would have looked to raise funds there look at the Eurobond market instead," says Dell at ING.
The majority of Russia's issuers still look to the Reg S over the 144A market, in particular for debut offerings. "It makes sense for companies to look at the 144A market when they want to bring longer dated issues to market," says Hall at ING. "However, the Reg S market is an obvious choice for shorter maturities, especially for debut issuers."
Few corporates are yet in the position where it would make sense to set up an EuroMTN programme. "It only makes sense for frequent issuers to set up an MTN programme," says Kuhnert at UBS. "In Russia, this equates to Russian banks, such as Alfa, MDM and Gazprombank, and the oil and gas companies."
Fees on Russian corporate bond issues continue to offer investment banks rich pickings compared to those achievable elsewhere in the region, and there is evidence that those banks that have not been active in the Russian market so far are beginning to beef up their operations there. "Naturally there were a lot of doubters after 1998, but many are slowly coming back, drawn in by the heavy issuance," says one banker in London.
"With a few exceptions, European banks have been the main players so far. Companies want to award Eurobond business to creditor banks, so banks wishing to get more involved must show up with the ability to lend."
This extra competition may lead to spread compression. "As the market gets more competitive, fees will inevitably fall," the banker says. "The risk is that the new entrants to the market try to buy market share by undercutting considerably."
To get the best local knowledge, international banks may look to form alliances on different levels with some of Russia's leading investment houses.
"Although Russia's indigenous banks have not really yet tried to move across into the Eurobond business, they are growing in prominence and will probably look for some way into the market," the banker continues. "As a result, informal alliances may be formed between domestic and international players, where the domestic name delivers the clients and the international bank delivers the deal."
The first such link-up is likely to be a long-rumoured alliance between Deutsche Bank and United Financial Group (UFG). Neither has commented directly on the speculation, although those familiar with the two sides expect to see Deutsche buy at least a blocking stake in UFG.