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. Last Updated: 07/27/2016

Taking Stock at Gazprom

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Last May, the administration of President Vladimir Putin sent out a strong signal to investors regarding its commitment to improve corporate transparency and the investment climate in this country when Gazprom CEO Rem Vyakhirev was replaced by Alexei Miller -- a St. Petersburg man with no connection to the entrenched "Gazprom clan," which had ruled the public company as its own personal fiefdom for the previous decade.

What has changed since then?

After a relatively slow start Miller has, since October, started to gain momentum despite resistance from the old guard.

There have been several milestones to date.

First there have been the actions undertaken vis-a-vis Purgaz and Sibur, in both cases attempts to recover stripped assets -- Purgaz being a former Gazprom subsidiary that was sold to Itera for a laughable, nominal sum, and Sibur a petrochemicals group that Gazprom lost control of.

Second has been the presentation of a major program to divest the company of non-core assets, with plans this year to dispose of assets that stand in the balance sheet at 9 billion rubles but that in reality are worth much more. There are more than 100 companies in which Gazprom has a significant stake and which are priorities for sale, including stakes in Media-MOST and National Reserve Bank.

Third has been the change of management in all key departments of Gazprom and its main subsidiaries -- in particular Gazprombank, Mezhregiongaz, which handles domestic sales, and Gazexport, the principal export sales subsidiary.

Fourth has been the investigation of gas exports, which are a huge black hole. We now have data from internal audit showing that numerous suspicious intermediary companies in Poland and some other countries benefited to the tune of hundreds of millions of dollars per year from our gas exports.

Fifth has been the fairly successful lobbying of the government to raise the tariff on gas. It is all well and good to say that costs should be cut, but freezing the tariff for years while inflation continues effectively means providing a subsidy to other companies, such as Unified Energy Systems, in the form of cheap gas while Gazprom itself is bled dry. The agreed tariff increase of 20 percent is not enough but is better than nothing.

All these and certain other actions have contributed seriously to improving the efficiency of Gazprom, and for this reason I would assess the performance of the new management team as being better than satisfactory.

However, it is still early days and it would be premature be to draw any definitive conclusions as to the effectiveness of the new team.

There have been a number of articles in the press of late questioning PricewaterhouseCooper's record in auditing Gazprom's books.

First of all, review of the auditor's appointment is already under way in Gazprom and has nothing to do with the recent noise in the press. And second, my position on this issue was stated in detail last year, and now the same analysis is being repeated.

What is interesting, however, is that certain people, such as William Browder, managing director of Hermitage Capital Management Fund, who kept their heads down during my fight with the old Gazprom management team last spring, have all of a sudden started to shout about the shortcomings of PwC and call for its replacement. I would like to remind people that Browder refused to contribute any money when Deloitte & Touche was hired by some minority shareholders last year in an attempt to conduct an independent audit of the relationship between Gazprom and Itera. And he has never contributed anything to the expense of defending minority shareholders' rights in Gazprom in general. This is why I view Browder's recent "campaign" as an attempt at self-promotion that has nothing to do with the genuine promotion of shareholders' interests or those of the company.

As far as PwC is concerned, I am not enthusiastic about the results of its auditing work, and indeed, nobody has done more than I have to publicize asset-stripping and other serious problems at Gazprom. I think that a fresh look is needed by a new auditor and, in fact, regularly changing a company's auditor is standard practice. Even the government was not particularly keen to uncover the truth last spring. It did not support my fight to change the auditor and for too long ignored clear facts of mismanagement. We did not see the Prosecutor General's Office acting on Sibur before now. And let's be honest: Only the personal intervention of Putin changed the course of events. That is why I believe that changing the auditor is not going to be easy while the government has a majority on the board of directors. One thing is certain however: The best way of preventing a change of auditor is to demand it publicly in the form of an ultimatum and with the threat of lawsuits.

Finally, my advice to Western accounting firms would be that if they are not sure management wants full disclosure, they should not undertake to audit a company in the first place. Everybody wants to earn fees, but there should be a point beyond which it becomes a question of losing reputation.

So far, my views on Gazprom's corporate strategy broadly coincide with those of the management and the government board members, the major exception being the issue of the board's composition.

I think that now we have got rid of the old management, the government should not insist on total control of the board. Ministers are busy and do not have time to properly analyze company issues, moreover the majority of them have no clue about how to manage a commercial company. That is why Gazprom would be more efficient with more independent directors, and it is in the government's interest to get such people elected using its votes. If it did this, I estimate the capitalization of the company -- and the wealth of the state as shareholder -- would increase by at least $1 billion immediately.

Furthermore, I believe a more aggressive approach is needed in the following areas:

First, in the liberalization of domestic trading of Gazprom shares and the abolition of the two-tier system that limits foreign investors to buying American Depositary Shares. So far, virtually nothing has been done, and this is a huge handicap for the company. However, strictly speaking this is the responsibility of the government, and I intend in the immediate future to make a formal request to the government to explain why progress on this issue has been so slow.

Second, waste in the company should be cut ruthlessly. The main areas here are: eliminating stealing on exports (by cutting out intermediaries and making public the terms of trade), disposal of non-core assets, cutting staff, etc. Something is being done here but not enough.

Third, the initiation of radical tariff reform to make the company better insulated from the vagaries of government policy. There should be some kind of formula linked to the general inflation level, world gas prices, etc. that would lead to the automatic changing of tariffs on a quarterly basis. So far, nothing of this kind has been proposed, and without serious pressure and lobbying from Gazprom, our government will most probably do nothing.

Fourth and finally, it is very important to begin preparations for major restructuring of the company in two to three years' time. That means hiring consultants today, and opening discussion with experts and investors so that the ground will be properly prepared. In this area, unfortunately, I do not see other people agreeing with me as yet.

Boris Fyodorov is a former finance minister and member of the board of directors of Gazprom.