Business leaders keep a close eye on rivals in Russia. "If your competitor buys a Mercedes, you'll buy a Mercedes," says Yuri Kotler, spokesman for the Federal Commission for the Securities Market. "If he hires a western chief financial officer, so will you. And if he issues a Eurobond..."
Since the Russian Federation's debut $1 billion Eurobond last November, many companies have said they'll follow suit. So far none has. The state Eurobond "had the gestation period of an elephant", as one banker put it (it took nearly a year to launch the deal) so there should be little expectation that Russian companies would be right behind it. And the City of Moscow only managed to launch its $500 million debut Eurobond at the end of May. St Petersburg and Nizhny Novgorod are due to come to market by the end of this month.
But there are many companies large enough to tap international capital markets. And as a result of privatization none has large debts left on its books. With so much restructuring and investment needed, and no domestic bond market, there is a big demand for international capital.
Yet the municipalities and regions (oblasts) are issuing first. This is perhaps surprising given that these issuers are more restricted in the possibility and timing of issues than corporates. For a municipality to issue, it must be a net contributor to the federal budget, must not borrow more than 30% of its revenue in any one year, and must not spend more than 15% of revenue on servicing debt. None of the municipalities coming to the market has an explicit government guarantee. But the finance ministry is aware that default would have serious consequences for its own debt programme, so only the most financially healthy are allowed to issue.
So municipalities must secure a licence to issue international debt from the central bank, the securities commission, the ministry of finance and the tax service. Corporates need an all-clear from only the first two.
This has led some to wonder if there could be so many corporates issuing as to flood the market with Russian paper and stifle demand: "Many of these firms have too huge an appetite for capital, and some of their investment plans are so big that they would soon find themselves up to their necks," says a Moscow-based consultant. James Dannis, managing director, Russia and the CIS, at Salomon Brothers' Moscow office, is more upbeat: "Will there be a bunching of supply? Absolutely - it happens in most new markets, but I don't foresee this causing many problems. And at present we're only looking at the top five or 10 firms which are prepared to issue and service debt."
Some are taking steps to inform corporates about the process of issuing Eurobonds, and the asssociated risks. In mid-June the Federal Commission for the Securities Market is holding a conference for 40 top Russian companies. "We'll be advising them on the whole process, from the importance of getting international accounting standards to choosing a lead manager and getting a rating," says Kotler.
There are other obstacles to corporate issuance. The biggest is withholding tax. All Russian borrowers have to withhold 15% tax on interest payments going to investors outside Russia, but for its two issues so far the federation crafted an exemption for itself: if the debt is issued through an offshore trustee depository, this is deemed to be the owner in the case of the two sovereign Eurobonds it is Morgan Guaranty and Deutsche Bank.
The ministry of finance has agreed to this being applicable, on a case-by-case basis, to Moscow and the two other municipalities that want to issue. But companies cannot enjoy the exemption. Some attribute this to the Russia habit of waiting to see who hammers on the door hardest before any decision is reached. Others identify a clearer reason. "I would suggest that the ministry of finance is worried about having too much competition for international funds," says a Moscow-based banker.
Either way it leaves corporates with less palatable choices: withhold the tax, or set up pass-through accounts and offshore subsidiaries to issue the debt and therefore avoid the tax issue. The first choice will not be popular with investors, the second will be expensive for the companies, and will deter many. Indeed, Rostelecom has already shelved plans for a Eurobond. Having mandated Merrill Lynch, the costs of dealing with withholding tax forced it to opt for a more expensive syndicated loan. Uneximbank, on the other hand, set up a Netherlands subsidiary, Unexim International Finance, to issue its $50 million FRN in January.
Some larger corporates are likely to follow this route. And estimates on Russian issuance as a whole this year appear to allow for a large chunk from corporates. Patrick O'Brien, executive director of debt capital markets at SBC Warburg, says: "After the dollar deal I thought we might see $3 billion to $8 billion issued by Russian entities as a whole in 1997, and that's still likely." The Federation is due to issue two more Eurobonds this year, taking its tally to $3 billion, and the three municipalities will probably account for over $1 billion, so there is plenty of room for corporates in O'Brien's estimates. In addition to conglomerates such as LukOil and Gazprom, Mosernerga has said it will issue, as has Moscow City Telecom.
"The market will be very demanding on such issuers," says Christopher Granville, economist at United City Bank, the Moscow outlet of MC-BBL Securities. "Each will be a challenge and accepted on its own merits, but the outlook is positive and the market could develop rapidly for all issuers." Not too rapidly, whisper the sceptics. Antony Currie