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14.10.2008 - MDM Comment: VEB money, NorNickel, RBC

Russian stocks are this morning surging in lockstep with markets across the rest of the world. More bidders are seen in ruble bonds, but they restrict themselves to top quality paper. Russian sovereign USD bonds and CDS spreads are rapidly recovering after a massive widening at the end of last week (Russia 5yr CDS around 450bp vs 660bp back on Friday). The ruble is slightly stronger against the basket this morning on the back of generally improved risk appetite as well as the more intense currency sales by locals as part of pre-arrangements for the upcoming tax payments. Below are the three news items we see as being of most interest today:

1. More details have been released on the criteria VEB will apply when helping Russian corporates refinance external debts. According to Kommersant and Vedomosti, VEB’s limits for each borrower will vary from USD100 mn to USD2.5 bn. The latter figure makes up 25% of the bank’s capital and is therefore the maximum exposure the bank can take on 1 client according to the regulation. The bank will reportedly help only companies that operate in the ‘real sector’ (we are uncertain if banks meet this criteria) and have importance to the national economy. The borrower or its shareholders should ideally put some of their own money into the ‘debt repayment pool’.

We believe that it is far too early to speculate about which companies will or will not be able to get refinancing at VEB. Ultimately we believe that decisions will be discretionary, and most companies and banks of material size with Russian shareholders will in the end be supported in their refinancing efforts if they fail to find money elsewhere. Some of the borrowers may be partially of wholly nationalized as part of the process, but from creditors’ perspective that is not a bad thing.

2. Mikhail Prokhorov, who still sits on Norilsk Nickel’s board, says that the company’s USD2 bn share buy-back scheme may put it ‘on the verge of bankruptcy’. The share buy-back was recently initiated by management without any authorization from the board or shareholders, since it was positioned as allocation of cash in short-term investments.

We believe that Mr. Prokhorov’s statement is certainly a significant exaggeration. Norilsk’s financial metrics are too strong to be damaged by a USD2 bn transaction, even taking into account a correction in precious metal prices. In 1H08 the company earned USD4 bn in EBITDA (48% margin), had less than USD7 bn of debt and almost USD5 bn of cash and equivalents. We see the short-dated GMKNRU 09 Eurobond as an excellent bargain at current levels (17%). The company is currently rated Baa2/BBB-/BBB-. We do not rule out a downgrade, given that the rating agencies have proved to be ‘overly sensitive’ in the recent weeks, but we stick to our position that Norilsk Nickel is one of the strongest credits in Russia.

3. S&P downgraded RBC, one of Russia’s largest media holdings, from B+ to B and put the rating on a ‘Negative’ CreditWatch. Initially it sounded to us as a surprise, given that at the end of 1H08 the company reported having USD232 mn of cash vs. USD158 mn of debt and was generally a conservatively run company.

However, as we read through the S&P commentary, we learned that over 50% of cash-like assets were actually financial investments (both bonds and equities, according to RBC), and that the company most likely lost some money in Q308 on the back of a market crash, leaving the rating agency less confident in the liquidity position of RBC. S&P also seems to be concerned with the fact that RBC has not yet released an audited version of its 2007 IFRS report. S&P wants to hear how RBC will manage its liquidity and profitability going forward, as well as to see the IFRS report, before making any further rating action.

We believe that RBC will avoid another downgrade. Assuming that 60% of the company’s liquidity position was invested in financial instruments and a 50% mark-to-market loss, RBC’s net debt position should still be not far from zero. Further, the media group was one of the first Russian companies to cut its staff in anticipation of reduced economic activity. Concerning the 2007 IFRS report, we have been told this morning by an RBC representative that it will be released this week.

One thing that S&P did not comment on is the indebtedness at the shareholder level. Vedomosti recently wrote that RBC’s founders and key stakeholders had raised an unspecified amount of debt, backed by the company’s shares, and are now facing margin calls. On the one hand, this is credit-negative given the risk of cash being pumped out of the company and up to the shareholders. On the other hand, Vedomosti reports that the shareholders are now looking for a strategic partner, so it could well end up being a credit-positive development, with a strong new investor being shoehorned into the capital structure of RBC. By the way this year the company plans to earn USD270 mn in revenues and USD80 mn in EBITDA.

14.10.2008 14:12
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