The Russian state-controlled oil company Rosneft is aiming to raise $20 billion in the world’s largest ever initial public offering (IPO) later this year – and with an ocean of liquidity available in a bull market, no one doubts the deal will succeed.
Less certain are corporate Russia’s chances of maintaining its current sky-high valuations. Economic development minister German Gref (see box) is among those warning that a bubble is forming. In less than 12 months, the Russian equity market has grown in value from $325 billion to $857 billion. Gazprom, Russia’s largest company, has escalated in worth to $215 billion since the “ring fence” limiting foreign share ownership was abolished last December. The steel producer Evraz Group, last year’s largest Russian IPO-er, has nearly doubled its market capitalization to $9.5 billion.
There is plenty to support Russian equity prices: sky-high oil, magnificent macroeconomics and extra rouble liquidity made available by the Central Bank as it tries to maintain the currency’s competitiveness. Nevertheless, the market is vulnerable to rises in US interest rates and other external factors that could influence the demand for Russian stocks.
Opportunities today
For Russian corporates, that is tomorrow’s problem. Today, they want the access to international capital markets that were closed to them for what many consider was far too long, and a queue of would-be IPOs is forming.
Retailers and commodity producers are prominent among those planning issues. Noticeable, too, are the state-controlled banks and companies. These include Gazprombank, which in April achieved a record-breaking interest rate of Libor + 0.5% on a $500 million, three-year syndicated loan; Vneshtorgbank, Russia’s second-largest bank; energy generators; and a rolling stock company to be set up by state-owned Russian Railways, which its CEO Vladimir Yakunin expects to achieve a market capitalization of $6.5-$9 billion.
Observers reckon that the markets, in their rush for exposure to Russian oil, will push aside obstacles to the Rosneft IPO. If it raises $20 billion as planned, it will surpass the record for volume set by the $18 billion 1998 debut of NTT DoCoMo of Japan. Investors do not even seem deterred by western politicians’ fears that the Kremlin regards Rosneft and other energy assets as strategic weapons.
a double-edged sword
Cliff Kupchan, director at the Eurasia Group and a former adviser to the Clinton administration on the CIS, tells Emerging Markets: “In Washington, Rosneft is seen as a double-edged sword. It is a state champion and will benefit from state support in raising production to 3 million barrels per day by 2015. The other edge of the sword is that the company is run by the top echelons of the siloviki [security services chiefs].”
The money markets appear unconcerned about that, Kupchan says. “No matter how the international community speaks politically about Russia, and to Russia, the markets are sending different messages.”
“Right through the Ukrainian gas affair, the oil majors were tripping over themselves to get into the Shtokman [gas] project [in the Arctic]. Right through that time, the RTS [Russian stock exchange] kept going up and up. I expect to see the same with the Rosneft IPO. On the other hand, markets care about transparency and value, and Rosneft going public helps on those issues,” he says.
The markets’ appetite is not lost on Rosneft itself. In March it took a $2 billion loan from a syndicate headed by Barclays Capital, ABN Amro, JP Morgan and Dresdner Kleinwort Wasserstein, equal in volume to the Russian record for a corporate bank loan set by Rosneft itself last year, and priced at a record narrow margin of Libor + 65 basis points (bp).
No sooner was the ink dry on the loan agreement than Rosneft approached holders of last year’s debt, which was priced at Libor + 185bp, and urged that it be refinanced at the lower rate.
Barclays Capital chairman Hans-Joerg Rudloff, who personally championed this year’s transaction, tells Emerging Markets: “This loan should be seen as the first step towards the IPO. Going forward, Rosneft and Gazprom will dominate the Russian market, and yes, they will be the instruments of Russian energy policy. So people should consider Rosneft credit on a technical level, but also look towards the future and consider it on a strategic level.”
risks
Rosneft has gone some way to addressing the largest risk that analysts have associated with its IPO: litigation surrounding Rosneft’s largest production subsidiary Yuganskneftegaz. This was confiscated from Mikhail Khodorkovsky’s oil holding Yukos during its break-up by the Kremlin, and in December 2004 bought by an opaque shell company for resale to Rosneft.
The threat of one legal action – from a banking syndicate headed by Societe Generale, over outstanding payments on a $1 billion loan to Yukos that had been guaranteed by Yuganskneftegaz – was lifted in March when the loan was restructured. Then a challenge to the confiscation of Yukos assets in the US courts was rejected. However, some other cases remain.
Another outstanding issue is the terms to be offered to minority investors in Purneftegaz and Sakhalinmorneftegaz, two Rosneft subsidiaries, to clear the way for consolidation. The unexpected departure in February of Rosneft CFO Sergei Alekseev also raised eyebrows. In his place the company recruited a western banker, Peter O’Brien from Morgan Stanley.
Adam Landes of Renaissance Capital, the Russian investment house, says that initial talks
with minority shareholders in Purneftegaz and Sakhalinmorneftegaz, two Rosneft subsidiaries, have been “botched”, and that post-Yukos litigation risk has to be watched. “But on the other hand, Rosneft is in the top league not only on reserves, but on how they will be replaced. It offers growth on oil and, not so visibly, on gas. This is a very positive starting point,” he adds.
Are there limits?
Beyond the wave of IPOs, economists and analysts are trying to see where the limits are to the Russian boom, which embraces not only the rampant stock market but also a huge expansion of corporate debt, M&A transactions, consumer finance and mortgages. Economics minister Gref’s publicly-expressed concerns are shared. Roland Nash, chief strategist at Renaissance, has recently argued that there is a “real danger” that the market is moving “towards the birth of a bubble”.
Hannes Loacker, senior analyst at RZB in Vienna, tells Emerging Markets: “The market is not cheap any more. But neither is it overvalued. In Russia itself there is huge rouble liquidity. Money has to go somewhere; it is going into equities and there is no sign that that will stop in the near future. The Russian economy is growing strongly. There is political risk, of course. There are also risks of a substantial decline in oil prices and interest rate hikes.”
Until then, corporate Russia – and the Kremlin – are enjoying the party.