Photographer: Andrey Rudakov/Bloomberg

Diamonds Are Putin’s Best Bet to Entice Wary Investors to Russia

  • Government needs to sell stakes in assets to plug budget hole
  • World’s largest miner of diamonds is less risky for foreigners

President Vladimir Putin is trying to woo foreign investors into the battered Russian economy by offering a chunk of the world’s biggest miner of diamonds.

Russia needs cash to help fill a hole in its budget, the result of a collapse in revenue from plunging oil prices. Putin has proposed selling stakes in state-controlled companies including banks and oil producers. At a time when global money managers remain wary, the one asset that may hold the most appeal is a stake in Alrosa PJSC, valued at more than $860 million.

The company, owned 44 percent by the federal government, is the world’s largest producer of rough diamonds and had record profit of 49.2 billion rubles ($750 million) in the first quarter. The shares are up 23 percent this year. While the timing of the sale hasn’t been announced, Economy Minister Alexey Ulyukaev says Alrosa is a “good candidate” to be one of the first on the auction block.

“Alrosa is a really unique asset in the state portfolio,” said Konstantin Yuminov, an Raiffesenbank JCS analyst in Moscow.

Deutsche Bank AG on June 8 recommended investors buy Alrosa, which sold a 16 percent stake in its 2013 initial public offering mostly to foreign investors. The central government plans to sell another 10.9 percent. Regional governments own 33 percent.

Other assets the government may unload include a controlling stake in oil producer Bashneft PJSC and 10.9 percent of VTB Bank, though those are less intriguing for foreign investors, according to Yuminov.

Russia got about 30 percent of its budget from oil and natural gas in the first quarter, from about 50 percent before crude prices slumped by half in the past two years. U.S. companies have backed away from the sector after earlier efforts to buy assets were thwarted, said Alexander Nazarov, an oil and gas analyst at Gazprombank in Moscow.

Houston-based Schlumberger Ltd. aborted a $1.7 billion bid last year for a minority stake in Eurasia Drilling Co. after Russian regulators delayed approvals. In 2014, Irving, Texas-based Exxon Mobil Corp. halted drilling in the Arctic with Moscow-based Rosneft OJSC after the U.S. imposed sanctions meant to punish Russia for escalating a conflict in Ukraine.

Probably Local

For Bashneft, where the government is selling control of the company and expects a premium, the buyer will probably have to be local, Nazarov said.

VTB Bank, like any Russian financial institution, may have less appeal to foreigners because of the punitive measures linked to Ukraine, said Tim Love, a money manager who helps oversee $130 billion at GAM UK Ltd.

Investing in Russia, which began opening its economy after the fall of the Soviet Union more than two decades ago, has been considered too risky for some investors. In the 1990s, President Boris Yeltsin oversaw the transfer of swaths of state oil, metals and mining wealth to hand-picked businessmen at fire-sale prices. That spawned the era of the oligarchs, many of whom still hold sway today. The state has since reacquired some assets.

Yields Tantalize

While the economy has more than tripled in the past decade, aided by a surge in oil prices and production, Russia is having trouble attracting money from overseas. The ruble has tumbled 17 percent in the past year. The economy will contract 1 percent this year, with a budget deficit at 3.2 percent of gross domestic product, the highest since the aftermath of the global financial crisis in 2010, a consensus of economists’ forecasts compiled by Bloomberg shows.

There are also dangers related to U.S. and European sanctions. Just last month, American authorities discouraged some investors from participating in Russia’s first Eurobond sale since sanctions began, said Alfa Bank Chief Economist Natalia Orlova in Moscow. Foreign banks and clearing companies stayed away on concerns over the attitude of U.S. and European officialdom to their participation. Similar risks may also apply to Alrosa’s offering, Orlova said.

Still, the diamond company will be appealing. Net income in the first quarter more than doubled from a year earlier as the company raised sales and cut costs. It also has been a beneficiary of the weak ruble, which boosts revenue in the local currency from selling diamonds in dollars.

That offers tantalizing prospects for returns. Pressured by a government hungry for revenue, Alrosa this year promised to pay half its net income in dividends, above the 35 percent it is obliged to offer under company policy.

Investor Meetings

The Finance Ministry supports the Economy Ministry’s position that it’s possible to sell the stake in Alrosa by this month, Interfax has reported. The miner and Sberbank PJSC, which is managing the sale, have met investors, including in the U.S., who "expressed interest," Alrosa said June 1. Oppenheimer Funds Inc. in New York is a minority investor, owning about 3 percent of Alrosa. The fund’s press office declined to comment on any interest in the new share sale.

“It’s a positive-surprise story,” Love, the Gam UK fund manager, said after meeting with Alrosa executives last week in London. Gam holds shares in Alrosa, which remains attractive as diamond sales grow and the company’s cash flow improves, he said.

In a world bereft of decent returns, where mine operators such as Anglo American Plc have been canceling payouts, Alrosa will deliver a dividend yield far above 10 percent, according to Oleg Petropavlovskiy, an analyst at BCS Global Markets. A further sale of shares may act as a catalyst for increasing dividends, Deutsche Bank said.

“There is risk in everything in the world,” said veteran investor Jim Rogers. “But many are less and less worried about sanctions. I own some Russian companies and am looking for more.”

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