St Petersburg opens investment route for infrastructure funds

Financial News: Focus on Russia

Jason Corcoran
30 July 2007


Kremlin hopes the world’s largest investors will participate in the country’s first PPP project

Infrastructure investments in Russia could grow to as much as $200bn (€145bn) over the next three years as the Kremlin seeks new funding sources to improve the country’s crumbling roads, bridges, ports and airports. The Government estimates private investors will stump up $30bn to finance Russia’s first large public-private partnerships.

The Kremlin also hopes the world’s largest international infrastructure funds will participate in Russia’s first landmark PPP project, a ring road encircling St Petersburg. A roadshow showcasing the project for investors will be held in London during September.

Macquarie Bank, the Australian infrastructure pioneer, is working with local brokerage Renaissance Capital to provide financing for the $3bn high-speed diameter motorway. The two banks are also expected to announce a formal joint venture to participate in infrastructure projects all over Russia.

Stephen Jennings, chief executive of Renaissance, said: “There will be hundreds of billions of dollars of projects. The infrastructure financing requirement is massive. Russia will be very pragmatic at adapting private sector solutions. There will be a lot of projects and a huge range.”

Yuri Soloviev head of global markets in Russia and the Commonwealth of Independent States at Deutsche Bank, said it would participate in PPPs through its advisory and corporate financing arms, as well as its infrastructure and property management unit Rreef.

He said: “Russia is too big for global or niche players to ignore. The big funds are looking at investing and we are going to be involved in as many ways as possible, through the advisory route or from the financing in terms of the equity or debt perspective, or from the investing angle.”

Deutsche Bank is also planning to launch infrastructure bonds in Russia next year to help finance the groundswell of state-backed and private infrastructure projects. Half of the cost of the high-speed road around St Petersburg is to be met by the Government’s Investment Fund, and the remainder by private investors and the city.

The International Finance Corporation, the European Investment Bank and the Nordic Investment Bank have expressed interest in financing the project.

The European Bank for Reconstruction and Development may invest up to $250m in the construction of the road, which is to be Russia’s test case for PPPs. The EBRD’s remit in Russia is to invest in transport infrastructure, municipal infrastructure and infrastructure in the power sector.

Natasha Khanjenkova, deputy director of infrastructure and energy in Russia at the EBRD, said the bank was looking to increase its investment significantly.

She said: “In 2006, we invested over €300m ($412m) in these sectors. However, we are working to increase significantly our investments in transport, municipal infrastructure and the power sector. Our strategy for Russia is to increase over the next few years the share of these sectors to between 35% and 45% of the bank’s annual commitments.”

A survey published earlier this month by Merrill Lynch indicated that infrastructure spending in Russia would amount to $195bn over the next three years. Other estimates suggest the figure could be closer to $300bn.

The Merrill report said the overall investment on projects in Russia and the Gulf would eclipse spending in China and India. The focus in Russia will be on improving the energy distribution network, as well as electricity and road projects. Real estate, especially in Moscow, is also booming.

Michael Hartnett, global emerging markets equity strategist at Merrill, said the private sector and Russia’s oil wealth and large budget surplus would meet the projected spend. He said: “The private sector will account for the bulk of the spending. This is because we estimate that energy-related spending will account for roughly 70% of total spend and this will be undertaken by energy companies such as Gazprom. Residual spending on transportation, logistics and housing will be by the Government.”

Threats to funding would chiefly come from political instability in Russia and a collapse in energy prices, according to Hartnett. Soloviev believes the chronic economic and social need for new infrastructure will over-ride any political change at the top.

He said: “However, there are additional risks not present in the west, such as the issue of property rights and the differences between federal and sub-federal law.”

For the first 10 infrastructure projects it has selected for tendering, the Ministry of Economic Trade and Development will invest $30bn of private money, a 20:1 ratio on the Government’s initial commitment of $1.5bn. Some industry experts believe this is a little ambitious. Public finance initiative projects in the UK are typically financed with 10% equity and 90% debt.

Other potential obstacles for PPP investment in Russia are the lack of practical experience and unresolved tax issues such as the laws governing concessions, which form an important legal framework for private investment in public utilities.

• Such is the scale of investment in St Petersburg that analysts are suggesting President Vladimir Putin wants his home city to become Russia’s capital once again.

The former imperial capital, the Russian empire’s seat of power for more than 200 years, is regaining some of its old lustre after high-profile infrastructure projects costing an estimated $15bn (€11bn) were agreed.

Chris Weafer, chief strategist at Alfa Bank, said: “These showcase projects suggest the Government may be looking to move the capital. They could be looking at moulding it into Russia’s Washington as a way of setting up an alternative power base to Moscow.”

Government financing is in place for works such as the Orlovsky tunnel under the Neva River and the Western High-Speed Diameter toll motorway around the city. Other projects in the pipeline include a high-speed toll road to Moscow, a sea passenger terminal, a football stadium, bridges, an airport and the reconstruction of the New Holland Island in the city centre.

Natasha Khanjenkova of the European Bank for Reconstruction and Development said the bank would consider entering into public-private partnership schemes such as the high-speed motorway and Orlovsky tunnel.

She said: “We hope this will be a success that will lead to other big PPPs in Russia. Because it is the first high-profile project involving PPPs, the western high-speed motorway will certainly prove a test case. Private sector firms interested in the project want it to succeed, but they are also seeking to share risks with the Government in order to structure a viable project.”

Arthur Rakowski, a director at Australian investment banking group Macquarie, said there could be an appetite from global funds if the first large PPP does well.

St Petersburg is not the only area to benefit from spending on infrastructure. Winter sports resort Sochi won the right to host the 2014 Winter Olympics last month, which should attract investment to the Krasnodar region of southern Russia.

Yevgeny Muravyev, its deputy governor, said private investment in the region could exceed $20bn in the run-up to the games. “There are plans to establish more than 3,000 investment sites and European investors have started showing great interest,” he said.

Main construction projects planned include 11 large winter sports facilities, an airport terminal, 200km of motorways and railroads, and the construction of hotels.