political focusParadise lost in a post-Putin world?Expect the Russian bear to bare its teeth well after Vladimir Putin retires, as itsresource wealth becomes increasingly important, experts tell David Walker. Oh,and if you have a spare fiver, maybe place it on Putin making a come-back...While eyes may be set on 2008,when presidential elections installVladimir Putin’s successor, expertsnote whoever follows him will keepusing the country’s vast commoditieswealth to Russia’s global politicaladvantage.Stephen Capon, head <strong>of</strong> countryand credit risk management withinthe risk and credit division <strong>of</strong> ACEInsurance Company <strong>of</strong> NorthAmerica, says: “We believe therewill be a smooth transition, andif you look at the Budget put up(recently), it’s quite clear that withthe implementation <strong>of</strong> that Putinwill leave quite a legacy behindhim and will have tied the hands<strong>of</strong> his predecessor (by) movingtowards a three-year budgetaryprocess rather than an annual one.”Few would argue Putin has notleft Russia in a stronger economicposition than when he gainedpower in 2000.With the global influence thatstems from ownership <strong>of</strong> commodityprices, Putin and the Statehave sought international influenceusing gas and oil, and usingcompanies such as Rosneft (oil)and Gazprom (gas) as projections<strong>of</strong> this power, Capon says.Sberbank, the State-owned bankthat has 60% <strong>of</strong> Russia’s retailbusiness, or Gazprombank, couldbe used similarly in the bankingsector, Capon notes. The State ownershipwould clearly obviate anyneed to go after oligarchs such asMikhail Khodorkovsky <strong>of</strong> Yukosfame, to bring corporate Russiainto the government’s fold.Capon understands the risks<strong>of</strong> renationalisation in Russia,working for ACE Insurance Company<strong>of</strong> North America, which providespolicy cover for events suchas renationalisation and expropriation,among other event risks, <strong>of</strong>private companies.He numbers hedge funds amonghis clients seeking protection cover,and consulting advice.While the renationalisation <strong>of</strong>gas and oil concerns is proceeding,Capon also notes Putin’s moves tocreate a “centralised holding companyfor the nuclear sector andthose companies who buy andexport capabilities around it.”nervous trepidation?Many observers express at leastsome trepidation about post-PutinRussia. Standard & Poor’s, normallysanguine on its pronouncements,says <strong>of</strong> Putin’s rule: “Asthe Kremlin has extensively centralisedpower during Putin’ssecond term in <strong>of</strong>fice, a changeat the helm comes with aboveaverageuncertainties and risks topolicy continuity.”Centralisation has included inS&P’s views, “ending the directelection <strong>of</strong> regional leaders, tightermedia control, and the introduction<strong>of</strong> a restrictive law regulatingthe activities <strong>of</strong> non-governmentalorganisations. A <strong>new</strong> president willbring risks for prudent economicmanagement.”This will occur, S&P says, if theincoming, who is widely expectedto be a recipient <strong>of</strong> a Mexican-styleel dedazo (the ‘big finger’ wherethe incoming is designated by theincumbent), cannot wield powerand respect as Putin has, and sohas to “buy” respect and favour,loosening fiscal strings to do so.far from perfectHailing Vladimir Putin’s achievementsis not to say Russia is perfectas it stands.The World Bank’s GovernanceIndicators show in Standard &Poor’s analysis, that “Russia hasthe weakest institutional environment(<strong>of</strong> its peers), (and) also thatit has actually deteriorated duringVladimir Putin’s second administration.The sub-categories ‘voiceand accountability’ and ‘politicalstability/no violence’ have deterioratedparticularly sharply,” the ratingsagency says.(Stephen Capon says simply <strong>of</strong>Russia’s corporate environment, itis “abysmal.”)Indeed, one large Russian hedgefund notes in its monthly fact sheetthat one major listed firm’s <strong>new</strong>issue was beset by “a series <strong>of</strong> contradictory,and apparently uncontrolled,announcements by several<strong>of</strong> the parties involved in the issue,and the consequent volatility inthe share price suggested attemptsat price manipulation may have“Governmental, legal, andeconomic institutions andaccountability remain veryweak (and) energy assets areincreasingly concentrated in Statehands and used as a political toolin Russia’s foreign policy.”standard & poor’s, the russian federation report, 11 January, 2007been afoot.” Another major foreigninvestor makes little secret that,when he first began investing indomestic stocks back in the 1990s,bodyguards were an importantpart <strong>of</strong> any activist hedge fund’sbusiness plan for Russia. (He distanceshimself from such daysnow, prefering the rule <strong>of</strong> law.)Nevertheless, Russia scores particularlypoorly in the period 2002-2005against its peers in the World Bankstudy – South Africa, Malaysia,Kazakhstan, Poland, Saudi Arabia,is russia’s end-game iran?If Iran is bombed in 2008, whatdoes this mean for Russia, whichis believed to supply much <strong>of</strong> thatcountry’s scientific expertise?Russia could block any UN vote onfurther sanctions against Iran underPresident Mahmoud Ahmadinejad,with China abstaining, leavingAmerica, and possibly allies, toimpose its own penalties on Iran.If it then comes to bombing Iranfor fear <strong>of</strong> a developed, <strong>of</strong>fensivenuclear programme, Russia couldprove the ultimate beneficiary, nothaving got Tehran <strong>of</strong>fside by votingfor a blockade against it.Oil would spike while Iran’soilfields closed temporarily, butthereafter it is a fair bet AmericaBulgaria, Thailand and Mexico – on‘control <strong>of</strong> corruption,’ ‘rule <strong>of</strong> law,’‘regulatory quality’ and ‘governmenteffectiveness.’Standard & Poor’s also noted,not without some concern that“governmental, legal, and economicinstitutions and accountabilityremain very weak (and)energy assets are increasinglyconcentrated in state hands andused as a political tool in Russia’sforeign policy.”So much for Aussenpolitik.On the front <strong>of</strong> Innenpolitik,Standard & Poor’s adds: “It is alsodoubtful whether Putin’s successorwill be equally able to balance therival factions <strong>of</strong> technocrats on theone side and the so-called siloviki(politicians from the security or militaryservices) on the other.“These uncertainties increase therisks to the policy outlook.”So, by 2009, Putin will be goneand the world will have to adjust toboth the domestic and foreign policystance taken by his dedazo Kremlinsuccessor. Oh, really?Not so fast: Stephen Capon saysPutin could be headed for a leadershipposition in the Duma, and notone without political influence.the comeback comrade?And after that? Place your bets forPutin Mach II. “There’s always thechance Putin could make a comeback,”Capon says. “If Belarussiais absorbed into Russia in time, youwould need a <strong>new</strong> Constitution,and that could be a trigger...”would not receive contracts to drill ordevelop Iran’s oilfields. If not the US,then who?Experts say Russia and China.Russia’s regional influence wouldthen be strengthened, and alsocontrol over much <strong>of</strong> the world’s oilproduction (including, <strong>of</strong> course, itsown) affirmed.While Vladimir Putin has left Russiain a stronger position than it wasin 2000 – partly due to Crude oil’sand commodities’ prices – and ifthis scenario delineated above playsitself it, his successor could leavethe Kremlin having put Russia in astronger position still.(Just in time, then, for VladimirPutin to enter [again], stage right?)
fund pr<strong>of</strong>ile: auroraExpanding horizons with AuroraAurora Russia seeks pr<strong>of</strong>it by investingin small to mid-sized Russian firms.In doing so it is not alone, but itsmanagers’ combined 24 years’experience in Russia’s markets givesthem an edge, as one <strong>of</strong> the founders,John McRoberts tells David WalkerWhat was the reason behind settingup Aurora?Aurora Russia was established toacquire interests in small and midsizedprivate growth companies inRussia in the financial, business andconsumer services sectors.Financially, Russia is in a goodposition at the moment. The macroeconomicenvironment has stabilisedand the economy continues toexperience strong growth.Over the past few years, the Governmenthas instituted significantreforms making it easier to operatebusinesses, raise funds and obtainlicenses to invest in certain industriessuch as in the financial servicessector. Russia is finally gettingrecognition by the West as a marketwhere multinational companiesneed to have a presence.We believe now is the ideal timefor private equity companies likeourselves to invest, particularly inthe service sector, which we believetracks the strong economic growththat the country is experiencing.Why the focus on financial, businessand consumer services sectors?We have considerable investment andoperational expertise in these sectors,which puts us in a good positionJohn McRoberts (left), and James Cook (right), Aurora Russia Ltdto identify and invest in high-growthcompanies operating in them.What is the reason for seekingblocking or board representation?As a significant shareholder, we areable to provide hands-on operationalsupport and develop a strong partnershipwith the other shareholders.It is important to us that bothmanagement and other shareholderssee us as partners ratherthan as portfolio investors.What IRR are you targeting frominvestee companies?In our view, the internal rate <strong>of</strong>return should reflect the perceivedrisk that strategic investorsattribute to Russia. We target superiormarket returns.Do you expect your average holdingperiod to be 2-4 years for each company,and is there an investor lock-in?We do look for viable exit opportunitieswithin two to four years. Theestablishment <strong>of</strong> a lock-in period isdependent on the nature <strong>of</strong> the exit.If we were working towards an IPOand the market told us that we hadto agree to a lock-in, we obviouslywould consider it.Our philosophy is to act in a waywhich makes an exit most effectiveand provides the highest return toour shareholders.Do you expect most exits to be viainitial public <strong>of</strong>fering or trade sale?It is difficult to say at this point aswe are still at quite an early stage inthe investment process. It obviouslydepends on valuation and interestfrom strategic investors at the time<strong>of</strong> exit and how buoyant the IPOmarket is.The advantage <strong>of</strong> the IPO processis that it allows you a certain degree<strong>of</strong> control over the process.Could you run through the duediligence you look to conduct oninvestee companies, and the investmentprocess?We initially carry out in house duediligence to produce a preliminaryinvestment proposal which takesinto consideration a variety <strong>of</strong> factorsincluding IRR, the strength <strong>of</strong>the market, competition, financialprojections and the route to exit.
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