Consolidate debt links resource

Heavy metal titans clash in turf war

COUNTRY FOCUS

RUSSIA

Russia's metals companies are cleaning themselves up as they seek new capital to makeover a key national resource. They are preparing for a wave of consolidation. By Oonagh Leighton

Big Oil has led Russia's industrial renaissance in the past couple of years, with companies such as Yukos grabbing headlines and investor attention in equal measure. But another Russian success story is beginning to emerge from the shadows of the hydrocarbon giants: the country's booming metals industry.

Like the oil industry, Russia's heavy metals titans are shedding a grubby image to consolidate, restructure and address corporate ownership and governance questions. And like Big Oil, they're looking for foreign capital.

"There have been enormous changes, both macroeconomic and microeconomic," says Mikhail Noskov, the finance director of Severstal, one of Russia's leading steel companies. "The most important thing is that the rules of business have changed. There is now a strong legal framework in place; fiscal and exchange rate policies have also changed for the better." Adds Noskov, "The business environment today bears little resemblance to what it was in 1997-1998."

That's true, to a point. Metals form 20% of Russia's GDP, and the industry as a whole is the country's second-largest exporter. Those potential riches made metals companies eagerly fought-for prizes in the dirty world of the mid-1990s' privatization program. Russian Aluminum CEO Oleg Deripaska put together his aluminum behemoth with a series of ruthless moves on rivals. Norilsk Nickel long served as a poster boy for the tangled links between Russian business and politics.

Russian business is less slugfest now, more a fencing match. But empires are still coalescing. In the aluminum industry two big operators have emerged: Russian Aluminum and Siberian-Urals Aluminum Company, the second- and eighth-largest in the world respectively.

That consolidation is being played out elsewhere, say analysts. "We are on the verge of a wave of consolidation within the ferrous metal industry," says Vasily Nikolaev, metals and mining analyst at Moscowbased brokerage Troika Dialog.Three big players-- Severstal, Magnitogorsk Metal Works and Navolipetsk Metal-each control some 20% of the steel market in Russia. They'll likely gobble up smaller operators-or even merge at the top.

"At the moment everyone is talking to everyone [about M&A], but so far there are no definite results," says Severstal's Noskov. "M&A is a fundamental necessity within the steel industry, but there are so many factors to consider-not only managing the economics but also individuals!

But it's numbers that count as companies hunt fresh capital for expansion and modernization plans.

Slava Smolianinov, metals analyst at Nikoil brokerage in Moscow, says that the capital markets could provide one answer. "I think that we will see RusAL, Norilsk Nickel, Severstal and many more go to the public markets soon.As membership of the World Trade Organization draws closer and competition increases, they will need to access capital:'

Unsurprisingly, investment bankers are flocking from the sidelines to offer their assistance. "Investment bankers are pitching us on many different issues," says Norilsk Nickel's head of investor relations, Sergey Polikarpov. "Equity, equity-linked, debt, syndicated loans and many variations of these-we are considering our options."

For many, debt financing is the first choice. "Russian Aluminum is ready and waiting to launch its capital market activities, but market conditions must improve before it considers a listing," says Brunswick Warburg's Alexander Andreyev. "I think that the company will launch a eurobond first." Magnitogorsk Metal Works launched a $100 million three-year eurobond in January this year, arranged by Deutsche Bank.

Once reserved for only the most lucrative oil and gas companies, the syndicated loan market is also opening up. Banks began to lend to the metals sector for almost the first time 18 months ago.

Nikoil's Smolianinov points to a $125 million syndicated loan for RusAL in July last year as an example of what can be achieved. "This was a revolving credit structure and was one of the most sophisticated syndicated loans of the year. This is just one sign of how quickly this market has matured," he says.

As conditions improve in the equity markets, several companies have announced their intention to list on foreign exchanges-Severstal, RusAL and Norilsk Nickel, among them. To date Norilsk Nickel is the only major Russian metals company to be partially listed on an international exchange. Last year the company issued Level I American Depositary Receipts, allowing foreign investors to access its equity base for the first time.A full listing is expected by 2004, once accountancy firm Deloitte & Touche has completed the necessary two years of audited accounts.

Norilsk's Polikarpov says that the company is currently considering where to list. "It is a difficult question, and investment banks are giving us different options. However, we are mindful of the fact that most global mining companies are listed in London," he says.

International listings necessarily propel corporate governance to the top of the agenda. Oil company Yukos has seen its share price triple in three years, at least partly on the back of cleaning up the way the company is run.

That's catapulted majority shareholder Mikhail Khodorkovsky into the 2002 Forbes rich-list as the wealthiest man in the world aged under 40. Londonbased Edward Robertson, fund manager responsible for central and Eastern Europe at Lloyd George Asset Management, says,"This just shows that [Khodorkovsky] has realized that there are more benefits in treating shareholders well."

Norilsk's Polikarpov calls the opening up process "Yukosification' He says his company has hired a specialist to focus just on corporate governance.That's not gone unnoticed. "Norilsk Nickel is the nearest equivalent to Yukos," says Brunswick Warburg's Andreyev."It has made efforts to strengthen minority shareholder rights, put independent directors on the board, articulate a clear dividend policy and has a good investor relations department."

The improved corporate governance and business environment is sparking interest not only from portfolio investors but also from foreign direct investors. Chris Beauman, industry specialist at the European Bank for Reconstruction and Development, points to the deal signed in April this year between Severstal and the French steel company Usinov.The companies will work together to construct a steel galvanization line at its Cherepovets base.

"This is our first joint venture with a foreign partner, and that partner is one of the leading international players in its field," says Severstal's Noskov. "This is a very significant step.'

But the traffic is now two-way, with Russian metals companies mulling the possibilities of overseas expansion. RusAL, for one, is looking at opportunities in Indonesia and Eastern Europe.

Oonagh Leighton is a London-based and contributor to Global Finance. Email: mailbox@gfmag.com