We wonder how many explicit warnings from prominent Western business publications like the Economist and the Wall Street Journal foreign investors will have to read before their interest in Russia dries up completely. It will certainly be quite difficult indeed to feel any sympathy for anyone foolish enough to put funds in to Russia when those funds slip down the rathole of nationalization. Forbes magazine reports:
Russia’s former president Vladimir Putin has spent the last few years expanding the state’s interest in industries ranging from diamonds to aviation. A new fund for the construction of much needed roads and bridges will be largely funded and overseen by the state. Rosoboronexport, the massive arms-trading entity owned by the government, bought the country’s largest titanium concern and has taken control of a carmaker that has a joint venture with General Motors.
In Russia, entrepreneurs don’t just compete with each other, they have to watch that the government isn’t lurking around the corner, planning to seize the fruits of their hard work. Many large natural-resources companies are partly owned by the government–or at the very least, are vulnerable to the government’s whims. But there is a separate sector, made up of fast-growing consumer products companies, telecoms, pharmaceuticals and others, that operates mostly without government interference.
The danger, though, is that this divided economy could result in stagnation. There is an ever-present fear that the government will arbitrarily choose another sector to sink its teeth into. As the newly minted president, Dmitry Medvedev, takes over from Putin, many in Russia are anxious about which way the economic and political winds are blowing.
This all has its roots not in the gangland crony capitalism of the 1990s, but in the latter years of communism. At the time of the Soviet Union’s collapse in 1991, there were no companies as we understand them, and there was no competition. In the late 1980s, Mikhail Gorbachev introduced glasnost and perestroika to loosen controls on society and commerce. This move resulted in well-connected people (such as those who had been active in communist groups or the Party) forming semi-private companies, many of which were simply auxiliaries of state-owned companies and were used to siphon profits into their owners’ pockets.
After 1991, state enterprises, which before had received orders concerning how much steel to produce, how much coke and iron to requisition and where to send products or materials, were abruptly left without customers, suppliers or distributors.
As these companies began to go bankrupt, a few canny people, such as Mikhail Fridman and Vladimir Potanin, saw opportunity. They seized the chance to buy shares of privatizing companies on the cheap. Some provided a market for Soviet-era factories’ products or convinced company managers to turn control over to them. And some hired armed guards and simply took the companies with force.
These men and dozens of others (including government officials), benefited from the chaos that ensued in the early 1990s and quickly became the country’s richest people.
By the mid-1990s, most of Russia’s prime assets had been claimed and divvied up. Suddenly, the tycoons realized that to grow these businesses, they needed to introduce Western accounting practices, corporate governance and personnel management. And they also wanted to monetize the assets they had grabbed. Hello, capital markets.
Mikhail Khodorkovsky, who acquired oil giant Yukos from the state for just $350 million, restructured the company and began to comply with generally accepted accounting principles. He actively lobbied members of the Russian legislature and reportedly met with U.S. officials about a merger with an American oil major. In 2003, just as Yukos was becoming globally competitive, Khodorkovsky was arrested for tax evasion, money laundering and fraud. But perhaps his biggest sin: nearly embarrassing Russia by pursuing a partnership with a big foreign company. Khodorkovsky lingers in prison to this day.
As other large Russian companies flourish thanks to rising oil prices, their major shareholders–mostly tycoons who made a name for themselves in the early 1990s–have been mindful of Khodorkovsky’s fate. The billionaire Russian shareholders of TNK-BP, a joint venture with BP (nyse: BP – news – people ), are said to be negotiating the sale of their share to Gazprom or Rosneft, both government-controlled concerns. Billionaires Vladimir Potanin and Mikhail Prokhorov recently split up their holdings in nickel and diamond companies, probably out of fear of government harassment.
Putin, angered by these men’s seizure of state assets for nothing, has implemented his own plan–a new (old) economy, reminiscent of the Soviet era. Certain sectors, though benefiting financially from the capital markets, would be “nurtured” by government oversight. Other sectors could operate freely–at least for now.
The result? An economy divided into two classes: massive, government controlled natural-resources companies and scrappy private-sector consumer-focused ones.
The larger companies are aware that the state could–as with titanium–suddenly decide that a particular industry is “strategic” or remiss in obeying environmental rules or taxes. So, management often consults the Kremlin before pursuing a big merger. To hedge their political risk many, like the steel giant Mechel, list their shares in London and on the New York Stock Exchange.
Still, companies find themselves in the Kremlin’s cross hairs. Russneft, founded by billionaire Mikhail Gutseriyev, had been one of Russia’s few independent oil companies. But Gutseriyev, faced with a claim that he owed millions of dollars in back taxes, sold out to a Kremlin favorite, metals billionaire Oleg Deripaska–and fled the country.
Below this layer of massive, billionaire-controlled concerns are newer companies, focused on consumer goods, real estate, pharmaceuticals and technology. Some are publicly traded, while others have managed to access foreign and domestic private equity.
New York Stock Exchange-listed beverage maker Wimm-Bill-Dann Foods (nyse: WBD – news – people ), formed by entrepreneurs in the early 1990s (now billionaires) and led by former Coca-Cola (nyse: KO – news – people ) exec Tony Maher, is feverishly developing new products and cutting costs. Sergey Petrov, owner of Rolf, the country’s largest chain of imported-car dealerships, has become a billionaire.
But it the fun-house world of Russian capitalism, Petrov doesn’t need to fear his nominative competitors as much as he needs to fear his own government.