Russia enters its second round of privitization

Andy Verich in Sochi

Last week while attending the 2009 International Investment Forum in Sochi, Russia, I managed to obtain a glimpse of where the Russian economy is heading for 2010 and beyond.

The aim of my visit to the Russian resort city on the Black Sea, was to participate in the Forum in order to have a clear view of the opportunities that the Krasnodar region and Sochi will offer for a business client. Of interest was the short term / mid term economic developments and opportunities in the Krasnodar region linked to the Sochi Olympics in 2014.

Prime Minister Vladimir Putin, opened the forum’s first session where he participated in a forum discussion along with Jeffrey Immelt, the Chairman & CEO, of General Electric; John Mack, Chairman of Morgan Stanley; and the founder and President of Texas Pacific Group Investment Fund, David Bonderman which represents the largest private equity investment firm in the world.

Putin made several announcements regarding new mechanisms for economic recovery to attract investments in the construction of infrastructure, power stations, roads, railroads and residential housing.  He also announced the lowering of interest rates at the central bank.  Morgan Stanley’s CEO remarked that since the crisis, there are $5 trillion in the US and $7 trillion in Japan now waiting on the sidelines. As this money moves into the investment market, Russia will be a “huge benefactor of that capital.”   Because of the rising BRIC (Brazil, Russia, India & China) economies, the CEO of General Electric announced that already 80% of their operations are outside of the U.S. which partly includes Russia. The CEO’s presence in Russia was an initiative to further increase GE’s presence in Russia to take advantage of Russia’s vast opportunities.

Most of the above mentioned forum participants noted a reduction in corruption and an increase in transparency, specifically in the Krasnodar region. Krasnodar Governor Tkachev was congratulated for his efforts to improve the business climate in Krasnodar.

According to public information, the Russian government conservatively estimated last year that the 200 construction projects for the 2014 Olympics would cost $12 billion. The state promised to inject up to $7.5 billion, with the rest coming from the private sector. With the accounting of ruble losing against the dollar, the total amount has been reduced to $9.2 billion. The government estimates at least $2.5 billion will be invested by the private sector in Sochi alone.

According to the Forum organizers, 112 agreements amounting to €13.8 billion were signed at the forum:
- 64 agreements among them to the amount of €8.4 billion were signed by 11 Russian regions.
- The Governor of Krasnodar signed 35 agreements amounting to €4.4 billion.
- Krasnodar Region presented 1,500 investment projects totaling €27 during the forum

I also got the chance to meet privately with officials from the Construction Department of the region of Krasnodar, where much of the construction is ongoing. They also noted that there are opportunities in this region that are unrelated to the Olympics in infrastructure, logistics, and agriculture. International contractors are welcomed and needed to assist the local construction sector.

According to the Krasnodar officials, decisions can be and are made locally. I also heard from some other Russian government officials that they are encouraging the decision making process to take place locally and to not rely on the government or Moscow.

One of the complaints among Russian business participants was regarding business credit and financing. Russian banks were previously charging interest rates as high as 20% . Putin suggested that the banks should lower their rates eventually down to 6%.   According to one of my contacts at U.S. EXIM Bank, some previous recipients no longer need to rely on U.S. export products due to their success in Russia. However, foreign companies selling U.S. content in Russia can rely on U.S. EXIM products to reduce risk utlizing some of the stronger local Russian banks. As of this week, the Central Bank of Russia announced it will slash its rates to 10% and further rate cuts are predicted to follow.

Driving along the road from the Sochi seaside to the Krasnaya Polyana Olympic village where I was staying, there was much evidence of extensive construction, new roads, tunnels, bridges, power plants/electrical lines, and the beginning construction of a high-speed rail. Also interesting was the evidence of opportunities in the Krasnodar region not related to the Olympics. Besides the need for affordable residential housing, roads and infrastructure, Krasnodar offers tremendous opportunities in wine production, agriculture and timber.

Interestingly, other regions within and outside of Russia were also being promoted at the Investment Forum from Armenia, the Crimean region of Ukraine, Kalmyk Republic, and Caucuses.

I also heard from other Russian businessmen who reported movement in the construction sector was starting up again in the Moscow and St. Petersburg regions due to government intervention during the economic crisis.

In conclusion, Russia offers tremendous opportunities in construction, agriculture and infrastructure development which will offer long-term opportunities for investors. The forum portrayed optimism that Russia and the neighboring region will be a magnet for investment as the global economy recovers. Already Russia is in 5th place for foreign direct investment inflows according to the U.N. Conference on Trade and Development only behind the U.S., France, China, and Britain.

Despite the global economic fallout, Pepsi, Boeing, and John Deere have announced substantial large scale investment plans in Russia for 2010. As energy prices stabilize to normal levels, and demands increase on Russian commodities from China and India, new opportunities will open up in 2010:

• New wave of privatization – Experts predict that since the economic crisis, over 50% of the Russian economy is at least temporarily under state control. As major developers and retailers went bust and construction projects came to a halt, Russia’s top largest banks were forced to step in and take stakes in these indebted companies converting more debt into equity. However, experts believe this is a short-term trend. Recent government announcements indicate a new wave of privatization is taking place as the government offers stakes in these companies to private investors in order to close the gap on the deficit and to avoid heavy reliance of energy prices to maintain normal levels in the state coffers. This trend is also expected to follow with a new wave of mergers and acquisitions as private investors take advantage of lower prices, especially in the real estate sector.

• Krasnodar Region – Sochi will host the 2014 Winter Olympic games marked by heavy investment and construction of the Krasnodar infrastructure systems, Casinos and Black Sea resort developments.

• Energy – Russian oil production output this year has reached record highs since the fall of the Soviet Union. Russia’s Gasprom reports that gas exports to Europe have finally stabilized since the last year’s gas issues. Merrill Lynch Russia predicts oil will rise to $82/bbl before the end of 2010.

• Agriculture and Forestry Sectors – Russia, Ukraine and Kazakhstan contain the world’s largest land areas for agriculture and forests. At the height of last year’s economic crisis, Russia reported the largest grain harvest since 1990. This sector continued to grow in 2009 and vast untapped lands will attract even further agricultural development.

The presence of Morgan Stanley, GE and other US heavy weights support this conclusion.

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