Putin Ports Grab Hurts Bondholders as Novorossiysk Borrows: Russia Credit

Russia’s push to extend state control over oil shipments is hurting investors as the country’s biggest port increases its debt fivefold to fund expansion.

OAO Novorossiysk Commercial Sea Port bonds tumbled eight of the past 10 days, sending yields to the highest level over sovereign debt since May. The Black Sea terminal will request shareholder consent to borrow $1.95 billion to help finance the $2.15 billion purchase of Primorsk Port in the Baltic Sea, Novorossiysk said in an Oct. 18 statement. Once the deal is complete, OAO Transneft, the state-owned pipeline monopoly will partner with Primorsk’s shareholder, Ziyavudin Magomedov, to buy a 50.1 percent stake in Novorossiysk, the port operator said.

The transaction “raises worries about an opaque non-listed state company taking over a privately owned and efficiently run operation,” said Chris Weafer, chief strategist in Moscow at UralSib Financial Corp.

Prime Minister Vladimir Putin’s government cut the energy shipments industry from its $59 billion asset sale program announced last week, after Finance Minister Alexei Kudrin said on Oct. 10 the state will keep control of industries linked to national security. The price Novorossiysk is paying for Primorsk, Russia’s largest oil terminal, is 25 percent above the valuation for its global peers, VTB Capital said in a report last week, citing enterprise value, or the sum of stock and debt minus cash, relative to earnings.

Novorossiysk’s $300 million of bonds due in May 2012 dropped to a three-month low on Oct. 21, increasing the yield by 33 basis points, or 0.33 percentage point, since Oct. 12 to 4.93 percent, prices compiled by Bloomberg show. The yield is heading toward the level of Dubai-based DP World bonds that mature five years later in 2017, with the gap shrinking to 202 basis points today from 358 basis points three months ago.

DP World

Borrowing for the acquisition will increase Novorossiysk’s total debt to $2.5 billion from about $50 million now, resulting in net debt after cash reserves of about 4 times Ebitda, according to Deutsche Bank AG. The multiple is about the same as China Merchants Holdings International Co., which owns stakes in ports that move a third of China’s cargo containers, and is lower than DP World’s ratio of 5 times earnings before interest, tax, depreciation and amortization, Frankfurt-based Deutsche Bank data show.

The company faces potential credit rating downgrades because of the additional debt, Standard & Poor’s and Moody’s Investors Service said. Novorossiysk is rated Ba1 by Moody’s, one level below investment grade, and the same as DP World. S&P assigns an equivalent rating of BB+ to Novorossiysk.

Two-Part Deal

“The acquisition could have a very substantial impact on NCSP’s financial profile if it’s debt-financed,” S&P said in a report on Sept. 17. “Our ratings could be lowered if NCSP’s financial profile deteriorates significantly because of the transaction.”

The acquisition is conditional on more than 50 percent of Novorossiysk being sold to Transneft and Summa Capital, a Moscow-based holding company controlled by oil and mining businessman Magomedov, according to the company’s Sept. 15 statement. Magomedov owns 50 percent of Primorsk.

Putin said Novorossiysk will benefit from Transneft’s takeover, in an answer to questions from investors at a conference in Moscow on Oct. 5. The deal doesn’t imply “nationalization or any other aggression” from the government, said Putin. He said he had tried to talk Novorossiysk’s owners out of selling their holding. The government owns a 20 percent stake in Novorossiysk, which it intends to sell as early as next year as part of its privatization program, according to First Deputy Prime Minister Igor Shuvalov.

‘Transformational’

The Primorsk purchase will be a “transformational transaction” for Novorossiysk, making it one of the biggest port operators in Europe, the company said an Oct. 18 statement.

Novorossiysk Chief Executive Officer Igor Vilinov declined to comment on the effect the deal would have on the company’s financial standing, during a conference call with analysts and journalists on Sept. 29. Mikhail Schur, investor-relations manager in Moscow for Novorossiysk, declined to comment beyond citing company statements. Transneft spokesman Igor Dyomin in Moscow declined to comment.

The yield on Russia’s dollar bonds due in 2020 added 1 basis point today to 4.350 percent. The yield on the country’s ruble notes due in August 2016 rose 1 basis point to 7.15 percent.

The extra yield investors demand to hold Russian debt rather than U.S. Treasuries fell 5 basis points to 206, according to JPMorgan’s EMBI+ indexes. The difference compares with 148 for debt of similarly rated Mexico and 186 for Brazil, which is rated two steps lower at Baa3 by Moody’s, 176 for the Philippines and 154 for Colombia.

Default Swaps

The so-called yield spread on Russian bonds is 55 basis points below the average for emerging markets, down from a 15- month high of 105 in February, according to JPMorgan indexes.

The cost of protecting Russian state debt against non- payment for five years using credit-default swaps fell 1 basis point to 142, down from this year’s peak of 217, according to prices from CMA. The contracts pay the buyer face value in exchange for the underlying securities or the cash equivalent should a government or company fail to adhere to its debt agreements.

Credit-default swaps for Russia cost 6 basis points more than contracts for Turkey, which is rated four levels lower at Ba2. Russian swaps cost as much as 40 basis points less on April 20.

Downgrade Threat

While Novorossiysk may be downgraded one level at most, bondholders will need to give consent for the transaction to go ahead, Cornel Bruhin, who helps manage $3.5 billion of emerging market assets at Swiss private bank Clariden Leu AG.

The acquisition may be “even positive when you take the consent into account,” Bruhin, who holds Novorossiysk bonds, said in a telephone interview from Zurich Oct. 22. “Generally in Russia you want to move with the government not against the government. The government involvement via Transneft increases the appeal rather than decreases it.”

Putin’s government has been increasing state influence in the oil and gas industry, which accounts for about 25 percent of the country’s gross domestic product, while reducing dependency on neighboring countries for energy exports.

OAO Rosneft, chaired by Deputy Prime Minister Igor Sechin, became the country’s largest oil producer by purchasing the production and refining assets of Yukos Oil Co. when it was broken up and sold after Mikhail Khodorkovsky’s arrest in October 2003. Royal Dutch Shell Group Plc was forced to sell control of its $22 billion Sakhalin-2 venture in 2006 to state- run OAO Gazprom after regulatory threats to shutter the project on environmental grounds.

Export Routes

The Novorossiysk deal will give the government control of more than 60 percent of seaborne crude and oil product exports, according to Troika Dialog.

The world’s largest energy exporter is seeking to diversify its export routes. Russia has about 80 percent of its oil products going through ports in the Baltic countries, according to Transport Minister Igor Levitin.

The government is developing pipelines and ports to enable deliveries of crude and oil product exports to bypass the Baltics and Belarus. Transneft aims to complete construction of a link bypassing Belarus to the Baltic Sea port of Ust Luga next year, sooner than planned, Chief Executive Officer Nikolai Tokarev said last month.

The state’s increased role in the energy shipment industry contrasts with steps to sell stakes in 900 companies including OAO Rosneft, Russia’s largest oil producer, and the country’s two largest banks. The announcement spurred the biggest bond gains in three months for Moscow-based VTB Group, Russia’s second biggest lender, based on its dollar notes due 2018.

‘Excessive’ Price

Novorossiysk’s bond price fell the most in four months on Oct. 19, the day after Primorsk’s valuation was announced.

The price “we don’t think is justifiable given that the business is stable rather than growing,” said Elena Sakhnova, an analyst at VTB Capital in Moscow.

The price for Primorsk is “excessive” and may be “value dilutive” for Novorossiysk minority shareholders, said George Buzhenitsa, a transport and metals and mining analyst at Deutsche Bank in Moscow. “We expect markets to attribute a higher risk premium to the combined entity in the future.”

Novorossiysk bonds are underperforming Russian corporate notes, losing 0.2 percent this month as prices for company debt climbed by an average 1.5 percent, according to JPMorgan Chase & Co. indexes. The yield on Novorossiysk’s 2012 dollar bonds was 259 basis points higher than similar-maturity notes from Transneft on Oct. 21, the biggest gap since May 21.

‘Fair Premium’

The “fair premium” is “no more than” 150 basis points, Sergey Goncharov, an analyst at Trust Investment Bank in Moscow said by phone on Oct. 22. The spread was at 247 basis points on Oct. 22 compared with as little as 149 on Sept. 22.

Novorossiysk’s borrowing to buy Primorsk would justify the “perception of higher risk” associated with Russian assets and “the very cheap discount” relative to emerging-market peers, UralSib’s Weafer said.

To contact the reporter on this story: Paul Abelsky in Moscow at pabelsky@bloomberg.net.

To contact the editor responsible for this story: Gavin Serkin at gserkin@bloomberg.net.

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