Ever since the December 1991 piece to implosion of the USSR, Western investors have hungrily eyed the post-Soviet space as a prime ground for plunder.
Two decades later, Western investors have shed their star a-high optimism about being able to enter the post-Soviet space and practice Wall Street's most buccaneering principles of “buying cheap and selling dear.”
Despite the Russian Federation's and Nance riches, particularly in the form of its vast hydrocarbon reserves, bitter experience has shown that the post-Soviet Russians very quickly learned the fundamentals of capitalism, and while major profits have been made by Western firms invest in Russia, they have been forced to adapt to local conditions, rather than imposing their Wall Street free-market principles on the largest of the former republics of the USSR.
Amongst the many problems that dimmed Wall Street ideas of cashing out for immediate profits are the Russian Federation's legacy of a still largely unreformed Soviet-era bureaucracy, corruption, and a court system that still largely favors indigenous partners over their new foreign “best friends.”
Many Western energy companies have discovered to their grief a post-Soviet Russia is hardly what they originally envisaged, a defeated post-Soviet nearly Third World country ripe for exploitation.
Grudgingly however, the government of Prime Minister Vladimir Putin has acknowledged that in certain circumstances Western-style capitalism can actually be of benefit, much less being more efficient, then current practices.
This awareness has led to a most interesting development, a growing dispute within the various ministries of the Russian Federation about the possible privatization of one of the country Soviet-era financial crown jewels, the Transneft pipeline monopoly.
Even in the darkest days of former Russian President Boris Yeltsin’s massive fire sale of Soviet industrial assets, Moscow retained its grip on the Transneft monopoly of the vast skein of Soviet-era oil and natural gas pipelines strung across the country.
One of the reasons for the downfall of former YUKOS chairman Mikhail Khodorkovskii was his insistence to then Russian President Vladimir Putin that his company be allowed to build a private oil pipeline to China. Such a pipeline now exists, but it is Transneft property.
Now a fascinating, largely behind-the-scenes dispute is roiling Kremlin politics. The Russian Federation's Ministry of Economic Development is insisting on the company's privatization, a move that is staunchly opposed by Russian Energy Minister Sergei Shmatko.
The Ministry of Economic Development is insisting on the heretical concept of selling 10 percent of Transneft's shares in 2012 and another 18.1 percent in 2013, with the Russian government ultimately retaining a controlling interest of 50 percent plus one share.
Aware of the violent controversy surrounding such a concept, the Economic Development Ministry is ready to discuss restricting investor access to buying the company's shares. The Economic Development Ministry is also ready to introduce some kind of measures that would ensure the state a majority during any voting.
The very idea is anathema to the Ministry of Energy, which has come out categorically against the Economic Development Ministry's proposals. Ministry of Energy sources, speaking on condition of anonymity, say that Sergei Shmatko's department explains its position asserting that Transneft's privatization will turn into large financial losses both for the company and for the state budget.
The reality is that Transneft is already financially overextended. The company has already borrowed $19.1 billion for the construction of pipelines, some of it in the form of issuing bonds and bond prospectus has a clause that permits buyers to demand an early payoff should the state's shareholding be reduced. With privatization, Transneft could be required in 2012 to pay up to $4.46 billion early.
Secondly, the Ministry of Energy is afraid of the participation of minority shareholders in the company's management, labeling such a possibility as corporate risk. Last but not least, Shmatko's department fears that the private owners will insist that large profits go to the payment of dividends, and then there will be less money left for repairs and laying pipes, increasing the probability of a manmade disaster. Given that most of Transneft's pipelines date back to the Soviet period, this is not an unwarranted assumption, and massive amounts of investment will be needed both to secure and upgrade the pipeline network.
The company now pays dividends that are less than one percent of its net profit.
So, the bickering continues.
But the reality at the end of the day is that the company needs substantial investment, and this is currently not coming from the Russian state, which instead regards the company's profits as a cash cow.
So foreign investors may yet, 20 years after the collapse of Communism, get to realize one of their bondage dreams, acquiring a stake in one of the Russian Federation's energy crown jewels.
That said, two pieces of advice - bring much more cash than you think you might need, and secondly, unless you are lucky or have Russian “partners,” and don't expect a legal and bureaucratic playing field anything like you've encountered in Wall Street or London.
By. John C.K. Daly of OilPrice.com