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Issuer: Gazprom Joint global co-ordinators Morgan Stanley and Kleinwort Benson scored a considerable success last month by leading the largest international equity offering by a Russian company, a $430 million sale of stock in giant gas group Gazprom. A deal has been in the works for well over two years, with Kleinwort Benson initially retained to advise on the sale of up to 9% of the company’s stock through several transactions. This deal marks a first step, comprising just 1.15% of the equity. Western bankers and accountants working with Gazprom are awe-struck by its size and usually trot out a gee-whiz list of statistics. Essentially the successor to the Russian ministry of gas, the company supplies 50% of Russia’s primary energy. It controls one third of world gas supplies. It employs 375,000 people. It has gas reserves to last 80 years at current levels of production; few western companies’ reserves stretch to 20 years. Total reserves are at least 150 billion barrels, nine times those of Royal Dutch/Shell, the nearest comparable western company. Its net assets, including the largest pipeline network in the world, have a book value of around $65 billion, analysts estimate. Carried away by their hyperbole, analysts have in the past suggested that if the company were entirely privatized it would be the biggest in the world with a market capitalization well over $100 billion. (In fact this deal implies a total value of $37.4 billion.) Investors have always been intrigued by the Gazprom story. In November 1994, Kleinwort Benson organized a presentation in New York. With just a week’s notice, this attracted 140 investors representing funds under management of $3 trillion. But investors are also wary of the Russian market, of Russian political risk, and of other problems the company faces, particularly late payment by Russian customers and the need for huge capital expenditure to recover those massive reserves. In 1994 and 1995, the company was reluctantly considering a convertible bond. Investors were demanding such huge discounts on straight equity, to compensate for Russia risk, that it could only sell shares very cheaply, depressing the valuation for all succeeding issues. There was a precedent for the convertible route. In 1995, Lukoil distributed $70 million of convertible bonds with international investors on the back of a $250 million placement with strategic investor Atlantic Richfield Co. But Gazprom set its heart on something more ambitious. Says James Knowles, equity syndicate manager at Morgan Stanley, “when looking at this deal, it is vital to bear in mind that the company’s primary objective was to establish itself as a high-quality issuer with institutional investors rather than simply to raise money.” The offer of treasury stock took the form of London-listed GDRs. The company chose London over Luxembourg, to give investors confidence that it could meet the UK’S more stringent regulatory and transparency rules. An army of up to 50 Price Waterhouse accountants has been working with the company to produce an international accounting standard (IAS) balance sheet this year. It does not yet report its profit and loss accounts. It quickly became clear to investors that Gazprom has financial problems. Like many Russian companies it finds that many of its domestic and former communist state customers can’t or won’t pay their bills. Last year it was paid for just 61% of gas supplied. This damage to its earning capacity in turn raises doubts about its ability to fund up to $40 billion of capital expenditure over the next five years. Another consideration is the company’s place in Russian politics. It is regularly attacked by conservatives, who want to renationalize it, and by liberals, who want to break it up. For the moment, it has clear allies in prime minister Viktor Chernomyrdin, a former head of the gas ministry, and through him president Yeltsin. Gazprom is still 40% directly owned by the Russian government (prior to this deal, 34.11% of shares were held by Russian individuals, 24.19% by Russian institutions, 0.83% by foreigners, 0.87% by the Russia Federal Property Fund and 10% by Gazprom’s treasury). It is the single largest payer of taxes to the Russian government and its single largest earner of foreign currency through gas exports. Hence the refrain repeated by Gazprom’s management during the roadshows: “What is good for Gazprom is good for Russia and what is good for Russia is good for Gazprom”. If investors were reassured, there was still the question of price. Shares were marked on an indicated range of $14 to $16, some five times the price at which they change hands on the domestic market in Moscow. But these local shares have their own special risks. Every 30 days the Russian government can exercise the right to buy them back at any price it cares to name. And settlement time can be a distinctly unsettling three weeks. As the deal swung into its most intensive phase in October, a team of Gazprom financial staff installed themselves in the offices of the lead banks, spending much time closeted together calling Moscow on their mobile phones. Apparently investment banks’ practice of taping phone calls unnerved the Russian visitors. They had much to talk about. A story broke that Gazprom’s bank accounts were being frozen in a dispute with the government over non-payment of taxes. After the visitors checked with head office, the truth appeared less dramatic. One provincial government had taken a lien over a $14 million building owned by a Gazprom subsidiary in a dispute over local taxes. The company and its banks found some success initially with specialist Russia funds. These provided early momentum and led in more generalist investors, including wider emerging market funds as well as resource and energy funds. There was another anxious moment towards the end of investor presentations when rumours came out of Moscow that security chief Alexander Lebed, a clear rival to Chernomyrdin, was preparing some kind of military coup. President Yeltsin then publicly sacked Lebed. This kind of incident might have scuppered many emerging market deals. But the Gazprom offer continued to draw interest. Knowles reckons it served only to keep speculative buyers out of the order book. Finally the deal was four-and-half times subscribed, implying demand of nearly $2 billion, which compares with total foreign portfolio investment in Russian equity estimated at between $2 billion and $3 billion. There was one last heart-stopping moment. On the final day of the book building, news emerged of a presidential decree completely changing the regulatory regime for Russian gas prices and addressing taxation of the company. By the time an English translation was received, order books had closed. Bankers working on the deal had a flash-back to the announcement by electricity regulator Stephen Littlechild on the day after the sale of stock in UK power generators in 1995 which scuppered their share prices. They need not have worried. The new regime says that instead of having one price for gas across Russia, in future customers nearer to gas fields will pay less for gas than those further away to reflect the high cost of gas transportation. That should help the company. Its most notorious non-payers are smokestack Russian industrial companies, usually based nearer the gas fields. Another bonus is that the government will stop basing its tax bills to Gazprom on 100% of invoiced gas sales. Instead it will tax it on the revenue it actually collects. The company could afford to be selective on allocations, favouring investors that diligently attended meetings and presentations as well as those willing to pay higher prices. These top-ranked investors received 50% to 60% of their orders. Some 40% of investors placing orders for stock did not receive a single share. US buyers accounted for 50% of the deal, which may help with the longer-term aim of listing in New York, with 35% going to the UK and the rest to Deutschmark-block European investors and Asia. |
