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Analysis & Opinion
28.01.09 The Time To Shop Abroad
By Sergei Balashov

It wasn’t that long ago that the Russian economy was booming. The ample wealth primarily generated by the energy sector was pouring over the national boundaries and into foreign markets, sending companies on a wild spending spree in order to complement their production lines with foreign assets. Between 2004 and 2007, Russian businesses quadrupled their foreign assets, doubled their turnover, and tripled their staff. The total value of assets reached $90 billion, placing Russia ahead of other emerging economies in this field.

This winter, reports in the media are radically different from what they were just a year ago. Norilsk Nickel announced last week that it will be getting rid of its assets in Australia, Botswana and South Africa, amid expectations of a 50-percent decline in the company’s revenue this year. Russia’s largest diamond company ALROSA, which has been deeply involved in diamond mining in Africa, said that its Catoca venture in Angola would not resume exploration this year, also citing sharp declines in demand. This week, the Wheeling News-Register reported that the major steel producer Severstal would be shutting down its Severstal Wheeling plant for the entire month of March. Severstal’s business in the United States has already seen massive layoffs, with employees working on a week-to-week basis since October.

When buying foreign assets, Russian companies have targeted production capacities that would complete their production cycle and allow selling the end product with a greater added value. The strategy proved a successful one, turning overseas purchases into a strong trend that showed no signs of slowing down. Russians ended up owning gas station networks in Europe and the United States, oil refineries, mines and about ten percent of the entire U.S. steel industry.

Now the demand for raw materials, especially those used in construction, has fallen considerably. This has severely impacted metallurgic, mining and steel companies, while those involved in the energy sector have been suffering from the low commodity prices. The first alarming signs from Severstal and Norilsk Nickel, likely to be followed by others, only confirmed the trend and raised questions about the possibility of a looming fire sale.

Something drastic, however, is unlikely. The profitability of the assets went down, but so did their market value. “It wouldn’t make much sense to sell, the owners will hardly get a reasonable compensation,” said Alexander Mansilya-Kruz, a researcher at the SKOLKOVO Business School, which regularly compiles ratings of Russian transnational corporations.

Oleg Deripaska’s Basic Element has been the only major investment holding to have been sold. Back in October it lost its 9.99 percent share in the German construction company Hochtief, which saw its shares decline more than threefold. The 25 percent stake in car parts producer Magna was also sold to pay off a debt around that time. These assets, however, were not integrated with Basic Element’s Russian operations, and the stakes were not anywhere close to put the Russian owner in control. “This was relatively painless and pretty much an exception,” said Mansilya-Kruz.

At the latest meeting dedicated to “external economic activities,” the Economic Development Ministry actually saw an opportunity in the declining market, and suggested that Russian businesses adopt an aggressive strategy and boost spending to push their foreign expansion forward. “Minimizing losses is a priority, but the global crisis should be taken advantage of to ensure further growth and development. The environment is favorable for advancing Russia’s participating in markets, buying discounted assets and partaking in infrastructure projects,” commented the Economic Development Minister Elvira Nabiullina in a statement issued by the ministry.

The government’s point is clear, as an economic slowdown not only means a decline in revenues, but also brings the market down, enabling businesses to snatch assets with a vast discount. The call for action made even more sense, as the profits that some of the exporters are enjoying might allow for acquisitions. Energy companies, which own 80 percent of Russia’s foreign assets, have actually been deriving considerable gains from the ruble devaluation.

Vedomosti reported oil and gas companies to have earned over $30 billion, with Rosneft alone gaining more than $6 billion from the decline in the ruble’s exchange rate. But that money can only be spent domestically, while expenses on paying off foreign debts, which are all in foreign currencies, have risen after the depreciation. “At the same time, they have lost from the fall in commodity prices and it pretty much evens everything out. The point of the gradual devaluation was to serve as a cushion and absorb the blow that came from the outside,” said Mansilya-Kruz.

However, the fact that companies aren’t selling doesn’t mean that they’re buying. There have been some purchases, but just like the sales they’ve been minor and nowhere close to the frenzy of the last five years. Those have been made by large transnational companies like Gazprom, which bought a Serbian oil refining monopoly this month. Others might not be as free in their choices and might have to rely on the banks’ support to get enough cash to spend. And today, that might prove to be a major problem.

The only feasible strategy for the time being will be switching the existing assets into survival mode in order to preserve them, and hope for a rebound to either get them back on track or at least find a suitor willing to offer an agreeable price. But even that is going to take time, at least until the end of this year, the time for which the World Bank has forecasted a global economic rebound. Pacing up the foreign advances to the previous levels appears to be an insurmountable task, which is expected to take much longer to happen, if it does at all. “This group constitutes the majority, their only hope is to get money from the state-owned banks or again from the state-owned corporations; it has gotten much harder to get returns on mergers and acquisitions,” said Mansilya-Kruz.
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