Caveat Emptor on Russia Stocks

Today Alexander Temerko, the former vice president of Yukos, has a column running in the Wall Street Journal. Excerpts:

Russian capitalism is not an imperfectly evolved version of that practiced in developed countries. Russia has created a form of capitalism never seen before. Unless you have your own private mole in government, you will never be able to predict your returns with any confidence. Directly or indirectly, corporate authority ultimately rests with the state in Russia. Take Rosneft, the recently floated oil giant. Attentive readers will recall that I strongly criticized of the Rosneft flotation in this column last May. Some might even think that my warnings were ill-founded, and that the IPO was a great success. Far from it. With the government’s full support, Rosneft strong-armed BP and other strategic investors eager to operate in Russia into buying large blocks of shares. As a consequence, Rosneft has a free float — i.e. tradable shares not owned by insiders and direct investors — so thin that, were it a British company, it would be in serious breach of U.K. trading rules. In the U.K., trading rules require a free float of at least 25%. Yet Rosneft’s free float is a fraction of 1%. How can this be? Well, the rules apply only to shares that can be traded in London. In Rosneft’s case, and that of nearly all other London-listed Russian stocks, shares traded outside Russia are global depository receipts, which represent only 10% of Rosneft’s total shares issued. The 25% rule is applied only against GDRs and, by that meaningless measure, Rosneft passes the test. As a consequence, Rosneft’s share price is almost entirely insulated from international investor sentiment. The only shareholders who count are in Russia. And of those, the dominant players are the state-controlled banks, especially Vneshtorgbank and Sberbank. … In short, Moscow — an “insider” to almost any major share transaction in Russia — can do virtually whatever it chooses to do with share prices. But state involvement does not stop there. Corporate governance is directly supervised by the government, which vets all board and senior management appointments for companies with direct or indirect state ownership. Ministers and leading bureaucrats also serve as executives or board members of the biggest companies under direct or indirect state control, and all are paid supplementary stipends. … All this should be of grave concern to international investors. Having raised more than $17 billion in 2006 — 50% more than was raised over the past five years combined — Russian companies coming to market in London should have been heralding bigger opportunities. Instead, they represent the ruling elite’s bet that Russia Plc can exploit capitalism for its own purposes.