Westernization continues

Legislation will be passed, probably within months that will increase fines and provide for sentencing of up to 15 years in prison for the manufacture of unlicensed or pirated medication. This is an essential move to not only protect public safety and of course corporate profits, but it could, if enforced have significant consequences other than just the creation of intellectual property law. Russia is having success attracting major international names to invest in R & D development as well as encouraging the nurturing of domestic companies. With all the success they are having it gives one pause to consider what could be possible if entrepreneurs are given the protection of law in what they invent. There is a long list of Russian contributors to technology industries in countries such as the U.S., UK, and Israel. If even a fraction of that inventive genius was kept home, one wonders what could be possible. In a related story, the government is going to fund the growing nanotechnology with over 3 Billion USD from one of the recent Yukos auctions, after billions invested in this venture, laws will have to be developed to protect their investments, laws which may benefit everyone.

No 3rd term?

It has been a busy couple of days in Russia. Firstly, Putin is stating, emphatically that he will not seek a third term in office. A short-term problem for the markets because it creates uncertainty but it is the right thing to do in terms of symbolism and rule of law. Putin has the votes in the legislature to bypass the constitution if he really wanted to. VTB bank is going to be offering its IPO, attempting to raise over 8 Billion USD but we feel it is too richly valued, not that they may not find enough people purchase the price they are asking. A P/E ratio of 27 for a company of this nature is just too much, how fast can earnings really grow? True, it is large, stable, and liquid, but 27 is too much even for most technology companies let alone state controlled banking giants. We would examine our position again however, on any dips. A law was advanced to reduce the VAT on R & D development, a crucial step for corporate invention.

Watch out for Novatek, Imperial Energy, Victoria Oil & Gas and others.

Disturbing report regarding many Russian and Foreign energy companies indicates that they tend to inflate the size of discovered reserves of natural resources. All these companies are selling stocks and bonds on Moscow and Foreign exchanges.

Many Western companies do it too but in this case, it could be a “total fraud”, according to Russian Committee of Natural Resources.

GR Investments will keep "an eye" on this. Please contact us for a complete list of companies.

Russian petrochemicals

There are few big players on Russian Petrochemical market. One of them is TAIF (Tatar-American Investment Fund). Found in 1995 by President of Tatarstan, Mentimer Shaimiev and his trustworthy lieutenants, TAIF, step by step, was grabbing pieces of oil and petrochemical companies under its control. Petrochemical industry in Tatarstan has been enjoying the difference between cheap oil prices and high profit margin petrol products during 90s and early 2000s. Other players, such as Sibur or GazProm want a piece of this lucrative market now. The first indication was a natural gas supply shortage from OrenburgGas (Part of SiBur). However, TAIF’s team proved to be competent and competitive. So we would be worry about TAIF’s near future as well as its bonds.

IPO’s boom troubles Russian Central Bank.

More than 70 big Russian companies are planning IPO’s in foreign exchanges in 2007-2008. That means a lot of non-taxable capital would come to Russia and make ruble even stronger or increase inflation.

According to Deputy Central Bank, Mr. Korishenko, “government doesn’t have a mechanism to neutralize an increase in capital accounts”. Conservatively speaking, 30 bln dollars, only banks could get more than 10 bln, would flow in 2007-2008. This problem is usual for Emerging markets, for instance, Ukraine and Kazakhstan had similar concerns in 90s.

Ru gov might issue bonds to offset the inflow of capital. We guess we’ll see a slight increase in FED bond’s APY in a near future.

Steady growth

Russia continues to develop and function as a normal economy with minimal government interference. Corporations continue to diversify and invest overseas by offering bonds bought by global investors and just recently Evraz steel company has indicated it may be interested in purchasing an Illinois steel corporation. Going the other way, Russian IPOs raised over fifteen billion U.S. Dollars, the bond market is growing exponentially, and the number of international financial institutions in Russia continues to grow at a meteoric pace.

Gas OPEC

At the recent conference in Qatar of major natural gas producers, no agreement was reached on forming an organization similar to OPEC. We view this as a positive for Russia, whether the government realizes it or not. They could have driven the price up on the short-term just by signing agreements, but, as the saying goes, “you can shear a sheep many times, you can only skin it once”. This likely would have caused a distress in Europe and prompted drastic action on their part such as constructing nuclear reactors at a rapid pace, thus becoming less dependent on Russian gas in the long-term. It would really be a law of unintended consequences.

Railroads

Putin once again is encouraging the development of the national railroad system. He is encouraging private investment and public stock offerings to provide the needed capital to maintain and expand the system already in place. Given the vast distances that make up Russia and the reliance the population and industry have on the railways, we believe this is something that our customers can make money in the long-term. Managed with just the slightest amount of competence, they should be safe investments in Russia as well. Putin is hinting at breaking up the current system and replacing it with smaller corporations, we’ll let you know which one is the best.

Karelia Bonds

This week’s featured bond is from the Republic of Karelia, located in Northwest Russia, near Finland. It matures in 360 days and has a YTM of 10.78%. It has a rating of B+/Positive by Fitch. This security is an excellent way to gain superior returns over anything the EU or United States has to offer. Russia promises to enjoy some of the largest reserves in the year ahead and the budget that has been prepared makes sure expenditures will not exceed revenues. This coupled with the fact of a status-quo before Federal elections, makes this security a safe bet. Economically, Karelia enjoys timber as well as various ore resources. Both heavy and light industry have been increasing in recent years for many reasons, one of which is proximity to Finland.

More news regarding NKNH (see previous blogs).

Russian Federal Security Market Commission (analog SEC) declined an additional stock issue of NKNH’s class A shares in the amount of $1 bln last week. As a result the stock rose from $0.9 per share to $1.3.

A little history. The additional shares were announced and approved by annual shareholder meeting last October. Many tried to stop the issue because a nominal capital was supposed to increase 16 times and most of minority shareholders would have lost a significant portion of voting power. Management explained that company needed a serious financing to launch new product lines. As a result, minorities started selling their stock and the company’s capitalization dropped to a record low $350 mln. A few big Russian brokerage houses were buying at the same time.

It’s not clear at this moment whether it was an “intentional play” of the NKNH’s owner (president of Tatarstan and Co) to consolidate a bigger stake of company and “shake out” minorities or NKNH just wanted financing. It will be hard to prove either theory.

To be continued…