Governance concerns remain despite cosmetic improvements

Jason Corcoran

Financial News: Focus on Russia

Companies chasing international investment are trying to improve their image

Hostile takeovers, asset stripping, threats of imprisonment and violence have long been unpalatable features of doing business in Russia. Corporate governance was a little known concept even five years ago.

Critics claim it remains a myth and that reforms are cosmetic. However, Russian companies seeking international investment say they are responding to demands for greater accountability, independent directors and transparent corporate structures.

Stanislav Vartanyan, former chief executive of the Investor Protection Association, a Russian shareholder group, said: “The corporate world and the stock exchange here have made a quantum leap from the wild days when it was the law of the jungle. We now have a more civilised investor oriented culture.”

Vartanyan, who heads investor relations at Russia’s largest shipping company Fesco, is realistic about the extent of change required, but points to the declining influence of Russia’s oligarchs as being key to reform. Fesco has seen its share of controversy.

It was accused of extortion by a British investor and board member, and it was alleged that its ships spied on the US Navy and blinded pilots with laser beams.

Fesco’s main shareholder, the investment vehicle of former Energy Minister Sergei Generalov, has made several changes since buying a controlling stake in 2002 after a two-year campaign by the state to end shareholder conflict and stabilise management.

Vartanyan said: “One of the first things the new owners had on their agenda when they accumulated the controlling stake was to improve the company’s corporate governance, which at that time was typical for most Russian companies of that era – meaning there was no corporate governance at all.

“The new owners hired a new chief executive and a new chief financial officer, they introduced internal control procedures reporting to shareholders, the decision-making process was streamlined and the board of directors has become an efficient element of the company’s governance.”

Further changes have been made ahead of the Fesco’s initial public offering planned next year in London. Generalov has diluted his group’s shareholding from 80% to 64% while William Owens, former Colorado Governor and a friend of US President George W Bush, joined the ranks of independent directors.

Investors also point to improvements at aluminium producer Rusal since its merger with Sual, and at steelmaker Severstal since its IPO last year, as evidence that governance is improving.

Elsewhere, mining company Suek has created a internal audit management structure and oil group TNK-BP is introducing an anti-corruption programme.

Progress remains slow. A report this year by Standard & Poor’s found its transparency index of Russia’s 50 largest companies had risen from 50% in 2005 to only 53% in 2006.

“Corporate governance in Russia is generally becoming more transparent and more information is being disclosed, thanks to increasing pressure from international investors. Improvements in these two categories are particularly imperative for Russian companies and banks that seek more foreign listings,” said S&P.

Western investors remain wary of Russian companies coming to market and argue that changes barely scratch the surface of the problem. Vadim Kleiner, head of research at Hermitage Capital, one of Russia’s biggest foreign investors, said: “From my experience with Russian IPOs, an investor always has to ask the question of why management has chosen to sell out and go public.

“In many cases there may be something negative lurking beneath the surface that makes it a good time for these people to cash out to the public markets.”

Indeed, negative western perception of Russian corporate standards prevails. Calpers, the California state pension fund known for its focus on governance, continues to exclude Russia from its permissible equity investments, while UK manager F&C Asset Management refuses to invest in the country.

The Edelman Trust Barometer for 2007 described Russian business as the least trusted in the world because of a lack of corporate governance, lack of transparency and poor business ethics.

Investors point to the incarceration of oil tycoon Mikhail Khodorkovsky, and the final dismantling of his oil company Yukos in May, as a sign that little has changed. They also highlight how Russian tax inspectors and environmental watchdogs are squeezing western energy companies from production-sharing agreements.

A recent reminder of the bad old days is the case being undertaken by Russian investigators against Mikhail Gutseriyev, the head of Russneft, the country’s largest privately held oil company.

In echoes of the Khodorkovsky case, the interior ministry has charged Gutseriyev and his colleagues with tax evasion and illegal business activities. Reports suggest the political pressure on Gutseriyev stems from his alleged refusal to negotiate on the sale of Russneft to a state-controlled entity.

Stephen Jennings, chief executive of Renaissance Capital, claimed such incidents were rare and had not dissuaded foreign investors.

Jennings said: “Most people believe the risks are quite low. Otherwise, you wouldn’t have seen the kind of investment and development that we have seen.

"There is a definite sense that these incidents can be quarantined. If those incidents had been broader or more random, they would have had a bigger economic consequence.” Article tags: