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. Last Updated: 07/27/2016

Old Contacts Pay Off as Banks Vie for Clients

bloombergBarclays Capital CEO Hans-Joerg Rudloff came to Russia in the early 1990s.
LONDON -- Barclays Capital chairman Hans-Joerg Rudloff met Sergei Bogdanchikov in 1993, when the Russian oilman was developing fields on Sakhalin Island, eight time zones east of Moscow. With a fresh oil boom now gripping Russia, Rudloff has parlayed that contact into $9.5 billion of loans to state-owned Rosneft, where Bogdanchikov is now president.

Barclays Capital, the investment banking arm of London-based Barclays, and competitors such as Citigroup and ABN Amro Holding are tapping old contacts, slashing fees and cutting interest rates to win clients in Russia, seven years after the government defaulted on $40 billion of domestic debt.

"There will be loan losses, there will be difficulties, and there will be problems we can't predict," says Rudloff, who ran Credit Suisse First Boston in the early 1990s, when the firm expanded into Eastern Europe. "You've got to believe."

Record oil prices are driving a seventh straight year of economic growth in the world's second-biggest producer, increasing demand for finance as companies such as gas exporter Gazprom and supermarket chain Perekryostok expand. Russian companies have raised $61 billion in the international loan, bond and stock markets this year, more than double the 2004 figure, according to data compiled by Bloomberg.

"The Russian potential is unlimited," Rudloff says. "Only now is that starting to become evident."

Barclays Capital ranks sixth in organizing Russian debt deals this year, after winning its first-ever loan in the country in February. The firm now has 3.8 percent of the $55 billion market, trailing No. 1 ABN Amro, which has organized 24 percent of the loans and bonds for Russian companies this year.

Amsterdam-based ABN Amro has been aided by its own Russian connections. The firm has helped arrange $10.8 billion of loans for Moscow-based Rosneft since Sergei Alexeyev left the bank in January 2004 to become chief financial officer at Russia's second-biggest oil producer. Alexeyev had been a vice president at ABN Amro in Moscow since 1997.

New York-based Citigroup, No. 1 in Russian debt deals last year, now ranks fourth.

In addition to loans, banks are also arranging share sales and mergers in the country. Russian companies have paid about $143 million in fees to five banks this year for managing share sales, according to Bloomberg data. Acquisitions involving a Russian company have climbed to $36 billion this year, 10 times the amount four years ago.

"Today, whether you are a major lender, a bond, equities or M&A house, you can't ignore Russia," says Bob Foresman, head of Russian investment banking at Dresdner Kleinwort Wasserstein in Moscow. "It's one of the most attractive and lucrative markets for banks."

Citigroup, which is also building a branch network in Russia, has doubled its work force in the country to 2,000 during the past year. New York-based Morgan Stanley, which has climbed to fourth place in Russian corporate finance this year from 12th in 2004, has tripled the number of bankers it has in the country to 50 in less than two years.

A head of corporate finance in Russia can earn $4 million a year, says Taru Oksman-Ison, director of emerging markets at executive recruitment firm Principal Search in London.

"It hasn't been this busy since just before the 1998 crash," she says. "But it's a healthier market now. There's a different caliber of person, they're more experienced."

Rudloff led the charge of international bankers into Eastern Europe in the early 1990s, setting up offices for New York-based CSFB in cities from Moscow to Budapest. International Financing Review, a London-based capital markets magazine, had named the firm eurobond house of the decade in 1990, after Rudloff built the investment banking arm of Zurich-based Credit Suisse Group into the world's biggest manager of eurobond sales.

Rudloff left CSFB in 1993 and later set up his own firm, London-based MC Securities. The venture failed and Rudloff joined Barclays in May 1998, three months before Russia's default caused some banks to leave Russia.

Renewed competition is now reducing profitability as borrowers take advantage of investor appetite to lock in record low interest rates and drive down fees on bond sales.

State-owned Russian Railways, or RZD, in July picked Barclays, Dresdner Kleinwort, HSBC Holdings and Raiffeisen Zentralbank Oesterreich to arrange its first international loan -- a three-year, $600 million deal. It paid an interest margin of 0.75 percentage point more than the London interbank offered rate on half the loan, the lowest ever for a Russian company, says Alexei Kaminobrodsky, who advises RZD on borrowing. Three-month Libor is currently 4.39 percent.

In August, Citigroup undercut ABN Amro and Dresdner Kleinwort on rates offered on $13.1 billion of loans to Gazprom, bankers said at the time. The banks syndicated $2.5 billion of the total at interest margins of 0.7 percentage point to 0.9 percentage point.

ABN Amro and Dresdner matched Citigroup's rate. CSFB, Morgan Stanley and Goldman Sachs Group were also picked to help arrange the deal, which will be partly repaid by selling bonds.

In September, Citigroup, Frankfurt-based Deutsche Bank and New York-based JPMorgan Chase agreed to sell as much as 410 million euros ($483 million) of bonds for Moscow for a fee of 0.07 percentage point, less than a quarter the rate it paid last year. The banks were picked from among 15 bidders.

"Competition to win our business was fierce," says Sergei Pakhomov, 53, chairman of the city's debt committee.

Interest margins on loans for some companies have narrowed by more than 50 percent in the past two years. Supermarket chain Perekryostok sliced the margin on a two-year, 125 million euro syndicated loan to 2 percentage points from the 4.75 points it paid on a 75 million euro deal in 2003.

The company may sell eurobonds next year, says chief financial officer Vitaly Podolski.

"Investment banks harass us all the time," Podolski says. "I have more banks surrounding me than I know what to do with."

Banks shouldn't let the financing frenzy blind them to the risks in Russia, says Konrad Reuss, deputy head of sovereign ratings at New York-based Standard & Poor's.

"Russia has weak judicial institutions; there's corruption and there's unpredictable government interference," says Reuss, who works in London. "Between now and the presidential election in 2008, power struggles between vested interests in the Kremlin will put the breaks on reform efforts."

President Vladimir Putin is already tightening his grip on the energy industry, creating state-run companies big enough to compete with ExxonMobil and BP. Rosneft in June bought 10.7 percent of Gazprom, giving the government a majority stake.

Rosneft last year acquired Yukos' main production assets after the government seized them to cover part of a $28 billion claim for back taxes. In May, a Moscow court sentenced Yukos' former chief executive, Mikhail Khodorkovsky, to nine years in jail for tax evasion and fraud.

Citigroup, Paris-based Societe Generale, Deutsche Bank and a dozen other banks are fighting for the remaining $475 million of $1 billion they loaned Yukos in 2003.

Russia's booming economy is being fueled by oil prices at close to $60 per barrel. In 1998, the government defaulted on domestic debt and devalued its currency when the price of oil plunged to $10 a barrel. Foreign exchange reserves shriveled to $13 billion, compared with a record $165 billion today.

Barclays wrote off more than $400 million in Russian investments after the crash. CSFB said it lost at least $250 million, and Russia fell off the radar screen for many banks.

S&P in January became the last of the three rating companies to give Russia's international bonds an investment-grade rating, boosting its ranking one step to BBB- because of what Reuss calls "conservative" fiscal and debt policies. New York-based Moody's Investors Service rates the country Baa2, one step higher. Fitch, also based in New York, has a comparable BBB rating on Russia.

"We've all learned from our old mistakes," says Moscow-based Irackly Mtibelishvily, Citigroup's investment banking head for Russia and the CIS. "Being successful in Russia is about making relationships work for your business."

That's what Rudloff is trying to do at Barclays by keeping in touch with executives such as Rosneft's Bogdanchikov. In September, Rosneft picked Barclays as one of five banks to arrange a $7.5 billion loan to be repaid with an initial public offering next year. A month earlier, Barclays joined ABN Amro in arranging a $2 billion credit for the company.

Rudloff was one of a dozen business leaders whom British Prime Minister Tony Blair invited to a champagne reception for Putin at No. 10 Downing Street on Oct. 4. Later that evening, Rudloff hosted a black-tie dinner at Annabel's nightclub in London's Mayfair district to raise money for a children's hospital in Kiev.

"Relationships matter more in Russia than in most countries," Rudloff says. "That's because Russians by nature distrust the system, they distrust the legal framework, people in power, institutions. But they trust people, if they know them well."