| 26 OCTOBER 2011
In an effort to deal with a widening budget deficit in the face of its economic stimulus program, Russia is now focused on outreach to foreign investors through the implementation of a 39 billion ruble privatization program. Under this recent privatization program, which is the essence of economic restructuring and a very critical consideration for foreign direct investment and loans into the Russian economy, the Russian government has indicated its intent to sell minority stakes in state controlled enterprises such as Rosneft and the major banks VTB and Sberbank. To understand Russia’s current effort at privatization, it is important to consider the country’s recent history of privatization.
In Russia, initial privatization occurred under Mikhail Gorbachev with the establishment of private/co-operative commercial banks and the creation of a domestic securities and commodities exchange. The main goal at that time was building up capital to prepare the country for subsequent privatization programs. Farmers were encouraged to lease land for agricultural production outside of the collective farm system and businesses were encouraged to trade directly with foreign companies, thereby ending the state’s historical monopoly. However, production remained closely tied to the state and when confronted with political pressures dealing with the scope and extent of private property, Mikhail Gorbachev waffled and began to lean more towards the arguments of the proponents of traditional central planning. However, despite these aborted efforts, most scholars and analysts view the real privatization process in Russia as being divided into three major phases with the goal of increased privatization in Russia based on the promotion of policies that are designed to achieve market based systems that improve the social welfare and lead to integration into the world economy.
The mass privatization program from 1992-1994 was considered the first phase of Russia’s modern privatization. In October 1992, voucher investment funds called “Check” Investment funds were created under Presidential Decree #1147. To create these vouchers, the State Committee for Property Management, Goskomimushestvo, decided to value all state properties at 150 billion rubles using 1991 prices, and then divided that figure by Russia’s population of roughly 150 million at that time, resulting in a share worth 1000 rubles, the voucher’s face value, according to a report prepared by economist Williamson in 1998. In October 1992, the Russian government began to distribute a voucher to every Russian citizen with a nominal value of 10000 rubles. The goal was to make all Russian citizens owners of private property with the least amount of upheaval or conflict. These vouchers could be used to bid and buy shares in companies at various privatization auctions designated by the Russian government and became a compulsory means of payment in the privatization of roughly 29 percent of the state’s shares.
The voucher program was scheduled to conclude on July 1, 1994, and in the 20 months of this voucher program, the price of the voucher fluctuated, reaching a low of $4 and a high of $20 according to economists. Under this mass privatization program, most enterprises fell under the control of existing managers and insiders. The voucher program succeeded in transferring ownership of 70 percent of Russia’s large and medium sized enterprises to private hands and in privatizing roughly 90 percent of small enterprises. By July 1, 1994, 96 percent of the vouchers issued in 1992 had been used by Russians to buy shares in firms directly, invest in a myriad of investment funds or sell on other markets. According to Russian proponents/organizers of the voucher system, about 14,000 firms - employing about two thirds of the industrial labor force - had moved into private hands.
Conversely, opponents of this program argued that while it was indisputable that mass privatization in Russia managed to shift ownership to the private sector, most privatized firms by the end of the period still operated like state owned enterprises. Instead of investing in companies to make them more competitive, the main aim of the new managers or “Red Directors” was to forge a deal with their worker-shareholders to ensure that they would not be terminated as long as business continued as usual. Few companies changed their product offerings in response to the needs of the market and most of the factories continued to produce for inventory to maintain employment even though scholars have documented that the workers were repeatedly not paid on time.
The second phase of Russian privatization or cash privatization occurred from 1994-1997. This type of privatization called for direct cash sales of shares in remaining state enterprises and the emphasis shifted to sales of larger, higher value businesses/enterprises and financial/industrial groups and included a “loans for shares initiative.” The goal of the Russian government was to complete the transfer of state enterprises and add to government revenue. It has been alleged that the end result of the program was the transfer of share ownership at “knockdown prices” to a privileged class of people, who had inside connections with the government, resulting in the loans not having to be repaid until 2000. Consequently, there was strong criticism accompanying these privatization efforts which was exacerbated after Boris Yeltsin implemented his privatization efforts by decree in July 1994. Furthermore, Yeltsin removed Anatoly Chubais, a 36 year old economist and former professor with the Leningrad Institute of Economics and Engineering, from his position as the head of the State Committee for the Management of State Property and a major proponent of privatization in Russia. Instead, Yeltsin appointed a less business savvy and staunch command economy politician, Vladimir Polevanov, after Russia’s monetary crisis in 1994. In the ensuing eighteen months, Yeltsin made two more changes in the chairmanship position, thereby calling into question his commitment to privatization.
In 1995 and 1996 with political conditions and influential command economy politicians in Russia hammering away at Yeltsin’s privatization program, as well as corruption scandals harming the program’s public image, privatization had gained a very negative reputation with the Russian people who developed the slang term “prikhvatizatsuja” which is the combination of the Russian word for “grab” or take” and the English words “privatize,” resulting in the term “grabification”. This term reflected the belief that the privatization process shifted control away from state agencies to groups of powerful people with connections in the Russian government or the Russian organized crime syndicate. Such vehement distrust of the privatization system by the Russian people led to growing cynicism and mistrust of Yeltsin and Russia’s economic and political leadership at the time, and severely hampered Yeltsin’s economic reform efforts to improve the quality of life of the middle class Russian.
While the loans for share type transaction characterized this second phase of privatization, with banks providing the Russian government cash based on the collateral of enterprise shares that banks could presumably sell later on, most of the twenty nine state enterprises which were originally scheduled to participate withdrew for a myriad of reasons. The banks that ended up receiving the shares apparently had a conflict of interest based on their own role in setting the parameters of the bidding procedure. The Uneximbank of Moscow, in a highly publicized case, received a 38 percent interest in the giant Norilsk Nickel Joint Stock Company at roughly half of a competing bid. Consequently, other banks and commercial enterprises joined influential opponents of privatization in criticizing the loans for share program, and in 1996, Yeltsin’s government was forced to admit that the program was not handled properly and the State Duma formed a committee to review the privatization program.
Given that Yeltsin’s privatization programs had many faults and became a major issue in the 1996 presidential election platform of the Communist Party, Yeltsin’s campaign strategy focused on trying to eliminate privatization as a campaign issue. His strategy was to shift the privatization program from Moscow to the rural areas. In February 1996, Yeltsin issued a presidential decree which granted shares in roughly 6,000 state controlled firms to regional governments which had the option of auctioning the shares and keeping the profits.
After Yeltsin’s re-election in July of 1996, Yeltsin’s representatives announced that the privatization program would be continued. There was a new focus on selling ten to fifteen large state enterprises, including the joint stock company of the United Electric Power System of Russia, the Russian State Insurance Company (Rosgosshokh), and the St. Petersburg Maritime Port. Furthermore, the Communications Investment Joint Stock Company (Svyazinvest), the sale of which had failed in 1995, was then offered to Western telecommunication companies in 1996. The new post-election privatization effort was to reduce the role of “enterprise” workers in shareholding. During the first years of ownership, most of the workers shares had been sold at rock bottom/depressed prices, devaluing all shares and cutting state profits from sales of enterprises. Therefore, in order to reach the necessary budget targets of the Russian government based on profit from privatization sales in 1996, distribution was meant to target recipients/shareholders who would hold shares for the long term rather than sell the shares almost immediately.
During the second stage of privatization, many international scholars believe that despite delays, inept administration of Yeltsin’s privatization efforts, and some corrupt transactions involving enterprise and financial structuring, Russia’s privatization effort at that time was judged to be successful. The movement of capital assets from state control to private individuals and companies continued to progress without a major reversal, despite repeated calls from influential command economy politicians in the State Duma for re-establishing state control of certain kinds of assets. This process paved the way for the creation of a new class of private entrepreneur among Russia’s growing middle class.
As a result, the third phase of privatization, otherwise known as case by case privatization (1998-present) has seen the Russian government trying various measures to make the privatization process more fair and transparent. Once Putin and Medvedev came to power, the commitment to strong privatization of state owned enterprises has been a major priority. Medvedev recognized that building a strong and flexible economic base is crucial for Russia to be competitive with China and the United States in the global economic arena. The Russian government has dropped onerous restrictions on foreign participation and has instituted the valuation of assets by international advisors. However, it has been alleged that the Russian government has met with little success in selling blue chip companies at the targeted price through case by case privatization.
In 1997, Russia received $4.2 billion in privatization revenues based on findings by the World Bank’s Global Development finance report and in 1998 it was determined that Russia’s level of foreign direct investment reached only $1.5 billion. Once the World Bank decided to launch Privatization Link Russia in an effort to use internet technology to facilitate continued privatization and to increase the involvement by foreign investors in developing Russia’s private sector, this was met with support by the Russian government in an effort to encourage an equitable and transparent process for future case by case privatization efforts in Russia. Consequently, one of the most innovative efforts at privatization in Russia took place at the municipal level involving the World Bank program in Nizhy Novgorod. This program mandated the forced sale of assets of companies undergoing privatization and occurred through the de-regulation of trucking where state trucking co-operatives were each required to sell roughly twenty percent of their fleet in an open auction. The resulting effect of this program produced a group of private truck owners capable of competing with established enterprises.
Since agriculture was one of four industries being privatized by the Kremlin in an effort to overturn the negative effects of Stalin’s forced collectivization, Nizhy Novgorod also experimented with agricultural reform. This program involved the dismantling of collective farms and occupants were issued certificates which permitted them to acquire both land and equipment in auction. Preference was given to current occupants at the time; valuation of the land and equipment was transparent; and decisions on how to organize production was left to the bidders in auction. This was designed to ensure that Russia would be one of the only countries in the world with the potential to sharply increase grain production. This program has not been applied on a national basis as it has tended to run counter to other government programs involving large subsidies and a continued leading role for collective and co-operative farms in the agricultural sector. Furthermore, critics of privatization in Russia were quick to point out the failure of Nizhy Novgorod during the wildfires, because a new Forest Code enacted in 2006 dismantled an agricultural and federal forest safety system, thereby transferring governance and responsibility to regional authorities. The farmers and forest tenants, such as privatized logging companies, failed to live up to their obligations as stewards of the land and performed very badly, even as the severe impact of the fires - which caused more than fifty deaths and destroyed more than one third of Russia’s wheat crop - brought Russia’s centralized political and fiscal system to the forefront of the country’s domestic agenda.
The Russian government must continue to make the commitment to withdraw subsidies on various industries in an effort to support privatization and encourage free and fair trade, discourage the growth of monopolies and encourage price competition. Taxes should continue to be transparent and less burdensome to small businesses in Russia, especially when these Russian entrepreneurs come to the United States seeking foreign partners and have to make the case as to the benefits of doing business in Russia. It will be imperative for the Russian government to continue to recognize that when converting state-owned enterprises to private sector companies, there must be strong emphasis placed on corporate management and directors be held accountable to their shareholders by increasing percentage ownership of foreign shareholders in these privatized companies. Medvedev must recognize that a major impediment to privatization and entrepreneurship in Russia is a perception that these concepts are linked to industrial corruption, economic inequality and enhanced criminal activity. In order to create an economic and regulatory framework/environment that promotes and encourages private sector growth, Medvedev must continue to exert strong personal and political leadership through the whole process and increased transparency can influence public perception in Russia that privatization will create jobs and economic opportunities for the working public.
While coordinating privatization measures has taken time to achieve a measured degree of success in Russia, Medvedev and the Russian government have been eager to understand how its neighbor and competitor, the People’s Republic of China, has been able to rapidly absorb and utilize Western know-how and entrepreneurial business activity. Medvedev recognizes that China has successfully integrated and implemented a free market economic system within its communist hierarchical structure and wants his country to have the ability to privatize Russian state owned companies who can work together with Western companies to develop, refine and control capitalism. It has been argued repeatedly that Russia’s economy is unstable, unmanageable, and unworkable due to the interrelation of organized crime with Russian political leadership and nationalization of successful foreign businesses. By contrast, in China, this model of converting state owned enterprises into private companies, seeking a joint venture with a foreign partner has been relatively successful. It has required the Chinese corporate officers to allow the foreign partner to have a greater percentage of ownership (up to 49 percent) in an effort to grow the company, ensure profitability and create an understanding among the Chinese about how to become better capitalists in a global market. Furthermore, Medvedev and the Russian government clearly recognize that this system has achieved a level of peace, prosperity, and stability, and engendered strong support for the Chinese government which was lacking as recently as twenty years ago and led to massive demonstrations. As many members of the Russian politburo have strong ties with oil and gas companies seeking to expand their presence into Asia, many people associated with these firms are former high ranking Russian military officers, including ex-KGB, who were among the most professionally trained in the former USSR. These people seek out profitable joint venture business opportunities and recognize that a well-conceived privatization program, designed to create an independent, broad based and self-sustaining private sector will lead to the ability of the Russian government to maintain control, order and stability and the quality of life for the Russian people will improve dramatically.
The creation of Russia’s new Silicon Valley (Skokovo) is a direct effort on Medvedev’s part to stimulate and encourage the growth of privatization in Russia and create opportunities for Russian entrepreneurs to partner with foreign corporations in this economic development zone. Medvedev has invested a tremendous amount of political capital in pushing for the creation of a Russian high tech sector based on the successful model of California’s Silicon Valley and China’s high tech parks which have focused on the mutual collaboration between small and medium size companies involved in the venture capital industry and multi-national companies. The stated goal is for Russia to attract billions of dollars in foreign direct investment, new technologies, and research and development in an effort to mentor and train the next generation of Russian entrepreneurs, and improve and modernize Russia’s antiquated infrastructure and move the country away from a commodity based system which has permeated the Russian economy since 1991. While several internationally recognized companies like Cisco Systems and Nokia have agreed to take part in Russia’s Silicon Valley and the US private equity fund, Sigular Gruff, has pledged to invest 250 million US in the high tech park, many companies and private equity firms, like Draper Fraser, have openly expressed concerns regarding age old stereotypes confronting Russia, These include, bribery, corruption, and the method that companies would be selected to benefit from the incentives claimed to be provided by the high tech zone. Furthermore, at the recent Reuters Russian Investment Summit, corruption is still widely seen as the main stumbling block to attempts by the Russian government to attract foreign direct investment into many sectors of its $1.5 trillion economy, including Skolkovo. The lack of such investment continues to hamper Russia’s efforts to reduce reliance on energy revenue and engage in aggressive privatization strategies, contributing to higher taxes and a growing budget deficit. Now that President Medvedev has appointed Russia’s twenty-third richest man, Viktor Vekselburg, chairman of the board of directors of Renova Group, as the manager of Skolkovo, Vekselburg and his foreign co-chairman will have the unenviable task of convincing internationally recognized multi-national companies to make the commitment to investing in Skolkovo to support Russia’s privatization efforts as well as mentor and train the next generation of Russian entrepreneurs.
Russia has recently announced the largest privatization program since the post-communist sales of state assets in the early 1990’s. This part-privatization scheme will see the Russian government offload minority stakes in 11 state run companies before 2013, including banks VTB and Sberbank, shipping giant, Sovcomflot, well-renowned oil pipeline company Transneft, oil company Rosneft and hydropower utility RusHydro. The process is being run concurrently with a broader privatization drive in which hundreds of small and medium state owned businesses will be sold off or part privatized as the Russian government seeks to address Russia’s rising budget deficit and transform the country’s reputation as a global financial center. The wide ranging privatization plan is intended to raise more than 20 billion worth of shares in state companies during the next three years. Given the fact that Russia is entering an election cycle next year with a growing budget deficit and the Russian government is reluctant to raise taxes or cut social benefits before the elections, the Kremlin decided to sell state property. However, the Russian Federation is not looking to relinquish control and will retain a firm foothold, selling minority stakes in state controlled companies and only releasing up to twenty five percent in Rosneft, VTB, SberBank, SovComflot, TransNeft and RusHydro.
While Russia has nearly $500 billion in gold and foreign currency reserves, largely from oil and gas assets, Russia’s economy shrank by eight percent last year which was the worst performance among all of the BRICs (Brazil, Russia, India and China). Furthermore, it is readily apparent among analysts that state control of Russia’s economy may have hit the high water mark with the high oil prices of 2008. Medvedev has increasingly stated that time and again that the state owned companies have too big a role in Russia and that state ownership is far less effective than private ownership. Given the fact that foreign investors are wary of Russian state companies, claiming that their balance sheets are “black boxes” and that their treatment of minority shareholders can be oppressive, in a major policy reversal, Medvedev declared a goal of cutting the state portion of the Russian economy from 50 percent today to 30 percent ten years from now. Meanwhile, highlighting the risks of investing in Russia, Conoco Phillips said that it would divest its investments in Lukoil, valued at approximately $10 billion. Lukoil was Russia’s largest private oil company in 2004 when Conoco Phillips made the investment.
Given Russia’s widening budget deficit in the wake of its economic stimulus program, Russia’s recently enacted 33-60 billion, three-year privatization program is an example of the effort of Russia to remove obstacles to investment and entrepreneurship. According to Igor Shuvalov, Russia’s first deputy prime minister and investment ombudsman, “Sometimes people doubt progress is taking place. But, step by step, things are starting to change. Red tape is being removed in every sector and procedures for obtaining permits and investing in joint venture projects are being streamlined.”
According to Alexander Uvarev, who heads the state agency overseeing the latest privatization program, the goal of Russia’s privatization program is to turn over as many of the badly run state-owned companies to the private sector as possible in order to balance the federal budget as the financial crisis of 2008-2009 put an end to years of Russian budget surpluses. From a surplus of 4.0 percent of GDP in 2008, the budget swung to a deficit of 5.9 percent of GDP in 2010 with a comparable figure expected this year.
It will be very important for the Russian government to ensure that these privatized companies are open and transparent in order to attract foreign investment and allow Russia to become a liberal market economy. Under the three-year privatization program, more than 1,400 companies, which ended up in government hands during the transition of the last ten years and 90 percent of which are small and medium size companies, are to be privatized. The top 10 percent of the companies that are scheduled to be privatized may be of interest to international investors since these are big strategic companies that the government plans to sell off gradually through 2013 and raise 1 trillion rubles ($33 billion) in the process. The Russian government expects to raise RUB 200 billion this year with the sale of shares in Russian Shipping giant, Sovcomflot and Sberbank.
Companies will be sold based on a variety of methods which include IPO’s and direct negotiation with foreign investors. There is no universal recipe as the size of the package will depend on the corporate structure of the company itself. For example, a controlling package could be sold via IPO’s in chunks with a subsequent issue of shares of stock. The Russian government has wisely decided to hire several investment banks which are currently doing a review and analysis of all the companies slated to be privatized and will advise accordingly.
While the infamous “loans for shares” auctions in the mid-1990s have generated mistrust and suspicion among the Russian people and international investors alike, the Russian government maintains that the auctions will be open and transparent. Unlike the auctions in 1995, which were not really based on a transparent privatization program because they were linked to the loans, today all anyone has to do in Russia to participate in the auctions is to pay the deposit. Thus, the auctions in 1995 cannot really be considered an example of true privatization as compared with the new Russian model which the Russian government asserts has transparency as an integral component.
It has been alleged that while there are a few companies on the list that will generate interest among foreign investors, most of the companies will be hard to sell. This was evidenced when the attempt to sell Murmansk port back in May failed as there were no bidders. However, according to Alexander Uvarov, while the Russian government expects that about a one third of the companies will not be sold at the first auction, the Russian government plans to set up a “Dutch auction” where the auction starts at a high price and the price is gradually reduced until there is a ready and willing buyer. In 2010 and 2011, Russia has sold many of the companies put up for auction despite the failure of Murmansk. This year look for several major companies to be sold such as Sovcomflot and a 7.5 percent interest in Sberbank. In 2012, some of the major companies to be sold include, FSK, RusHydro and another 10 percent stake in VTB Bank. Since Sovcomflot is one of the largest shipping companies in the world and conforms to international practices and standards, it is ready to be sold at a competitive price. Sovcomflot will be sold at 25 percent minus one this year and it will probably be sold as an IPO, purchasing its shares through the stock market.
While some of these companies are very expensive and the market has only a limited ability to be able to absorb these kinds of offers, which could lead to the danger of flooding the market with shares, the Russian government recognizes that the valuation of some of these companies is very high so there is an ability to sell all of the companies at once. However, the privatization program being undertaken in Russia must necessarily compete with privatization programs currently being carried out in other countries. Thus, there is a lot of activity in the international markets at this time with a variety of companies to choose from even with limited funds available. The Russian government firmly believes that it will be possible to raise 1 trillion rubles in the next three years so it will be very important to monitor Russia’s progress in this area.
As some companies on the list which are scheduled to be privatized are included under the “strategic investment law” that was passed in 2008 and exclude foreign investors from certain sectors, it will be important for the Russian government to clarify how these companies will be sold. According to Uvarov, the Russian government will allow companies that included in the “strategic investment law” to be sold to foreign investors provided that a state commission will review the sale. However, it can be correctly pointed out that there a only a few companies on this list such as the Murmansk Port. The deal was reviewed by the commission and the attempted sale was allowed to take place.
Furthermore, while the Russian government may have a schedule for the sales, market conditions remain highly volatile given the uncertainty of the European Union and the US market. Therefore, it will be important not to engage in privatization of state owned companies irrespective of the price. However, the Russian government is committed to selling these companies over the next three years and, while Russia will not sell them cheap, getting a good price is not the top priority. While the Russian government is planning to sell Sovkomflot and Sberbank this year, the official position is that if the market conditions are very bad, the sale will be delayed.
Accordingly to Andrew Chulack, head of global banking for Russia at Deutsche Bank, “There will be plenty of opportunities for banks to advise on how to structure deals, how to price them, how to target investors, whether to split the sales into tranches and so forth. The program is good for banks, but also good for the capital markets in Russia and for Moscow’s place as a financial center.”
Ranked number one for investment banking revenue in Russia by Dealogic, Deutsche Bank is one of a handful of global investment banks with an established presence in Russia that could assist the Russian government in the privatization and sale of its state owned companies and at the same time benefit from the new wave of business. Other banks that are strong in the region include JP Morgan which was an underwriter on the $11 billion IPO of Rosneft in 2006 and the $9 billion right issued by SBE bank in 2007, Credit Suisse which worked on Sberbank, OGK5, and the follow on by Lukoil in 2001, Morgan Stanley which was an underwriter on Rosneft, Lukoil, and Gazprom in 1996, and Citigroup which was involved in the VTB IPO and the sale of the oil group Slovneft in 2002.
Given the fact that privatization of Russia’s two largest lenders, Sberbank and VTB could be complicated by tough market conditions, a desire to get a good price and concerns over the impact on domestic deposits based on a recent analysis by several bankers and former market regulators, it is not surprising that some Russian companies want slower privatization. Recently, Vladimir Yakunin, head of Russian Railways, advised the Russian government that Russian Railways should start its privatization with a sale of 10-15 percent to a strategic investor after 2013, not the 25 percent minus one share as originally proposed by the Russian government. Yakunin feels that his company should “sell less than a blocking stake” as it is better to sell a small stake at first while Transportation Minister, Igor Levitin, has said it would be reasonable to offer up to 10 percent of Russian Railways shares to investors by 2015. Perhaps Yakunin is concerned that if the state announces and follows through on its plans to leave Russian Railways, major shareholders could take their money out and put it into foreign banks functioning in Russia. This is a major concern expressed by Oleg Vyugin, chairman of Russia’s privately owned MDM bank, regarding the fact that the sale of the Russian government’s stake in Sberbank may cause shareholders to withdraw before such a sale occurs to safeguard and protect their interests. In terms of “selling” the idea of the new privatization drive to the Russian people, the Russian government would greatly benefit from articles in independent media outlets and analytical reports which praise profitable assets sale.
The real question about Russian privatization is whether the new ownership structure is having positive effects on enterprise performance. Private owners may be more likely to restructure and to increase profits and productivity compared to the state. Private owners who are insiders in the firm also may behave differently from those who are outsiders as may those who play different roles, such as managers versus workers and individuals versus various types of institutional investors. Each type of owner may have different objectives and may face different challenges compared to others. Finally, the implications of total ownerships by outsiders is very different if the outside owners consist of few entities with large holdings as compared with a situation where outside holdings are dispersed among a large number of individuals.
One of the difficulties in analyzing the ownership performance relationship in Russia is finding an appropriate and feasible measure of firm performance. The corporate governance structure in the West has adopted a number of alternative measures of enterprise performance: accounting profits, abnormal stock, price increase and Tobin’s Q ratio (the market value of the firm divided by the replacement cost of its assets). However, applying such performance indicators to economies in transition like Russia is problematical. Relatively little reliable measure of firm value are available in Russia where stock markets are controlled by the government and the arbitrariness of prices and depreciation rules implies that historical valuations of capital are meaningless, rendering it practically impossible to estimate production functions. It has been alleged that in Russia, Western accounting systems are poorly developed and inconsistently applied while reported profits are unreliable. A popular saying in Russia is that “the good manager will achieve zero profits,” implying that it would be ridiculous to report profits since these profits would then be listed as tax payments or as dividends to the state or to outside owners.
Furthermore, corporate governance institutions have in the past functioned very poorly. Russian managers have found it quite easy to disregard internationally accepted norms and violate explicit laws on information disclosure, shareholder registries, voting procedures and board composition and compensation. A determined and powerful manager with an interest in maximizing the value of the firm has traditionally been able to overcome obstacles to restructuring and the recent privatization efforts by the Russian government must continue to focus on transparency and accountability to ensure foreign direct investment and joint venture opportunities for recently privatized Russian firms. Consequently, the Russian Bank for Development (RDB) which was established in 1999 as a national development bank will go a long way in helping Russia’s recently privatized small and medium size enterprises by assuring fair and equal access to capital.
The Russian Bank for Development has several eligibility requirements for SME’s seeking commercial credit. A business should: 1) have no more than 250 employees; 2) have been in business no less than 6 months; 3) be current on tax payments; 4) not be affiliated with regional banks; 5) not have a derogatory credit rating; 6) have a good credit history; and 7) located in the Russian Federation. It is unclear how Medvedev’s three-year privatization will impact small- and medium-size enterprises that have recently been privatized by the Russian government because of the inability to accurately assess the range and availability of joint venture participation with foreign companies who provide access to new markets.
As Vladimir Putin attempts to return to power as Russia’s president after elections next March, there is much speculation as to whether he will continue on the path to privatization started by Medvedev. Putin has indicated that he will push for more accountability and efficiency, and companies like Russian Railways may use us this argument as a way to slow the pace of privatization in order to ensure that the company remains profitable in the face of market uncertainty. Putin’s return will send a signal of clarity and stability not only to members of the Russian government, but to the businessmen involved in Russia’s state owned enterprises as well as foreign investors who may decide to buy into recently privatized Russian companies. In order for privatization in Russia to be a success, the economic order must not change dramatically such as nationalization of major industries during a downturn in the market. Putin will continue to move Russia on the path to economic reform and will continue the verbal shift towards selling off shares of state owned companies which he views as a money maker for the country.
Even though Russian lawmakers are relying on the country’s small- and medium-size enterprises to generate jobs through a small scale privatization program, a 2010 regulation to extend a law giving SME’s the property right to privatize or buy premises leased from state and municipal authorities, has regional and municipal authorities very angry about having to loosen their grip on municipal properties since local authorities themselves were engaged in business on the side by renting out such properties. While the law contains provisions on the pre-emptive right of an SME to acquire rented property, the inability to actually enforce the law could hamper efforts by SME's to take advantage of the opportunity to expand and develop their business in an effort to boost the Russian economy. This would be a severe blow to Medvedev’s privatization efforts as the Russian people would lose confidence in the program and view it as part of an insider scheme to make money for a certain privileged class of people.
Conversely, Mikhail Gorbachev feels that even if Putin institutes some of Medvedev’s privatization programs, Putin will eventually take Russia backward and will not institute the fundamental changes that are necessary to make Russia a player in the global community. Gorbachev is worried that Putin will not institute a new model of development to ensure that Russia is on sound financial footing and that he may allow Russia to be exploited by other powers interested in taking advantage of the country’s raw materials.
In conclusion, privatization is the key to ultimate economic prosperity. For US businesses, the prospect of doing business in Russia will be based on the success of privatization started by Medvedev and likely to be continued by Putin. The key is for U.S. firms to clearly understand the mechanics of the privatization programs currently being enacted by the Russian government so that the CEO’s of U.S. firms can make more informed and accurate business decisions about the extent of their business role in the Russian Federation. Conversely, President Medvedev recognizes that a well-conceived economic program, designed to create an independent, broad-based, and self-sustaining private sector will improve Russia’s position as a global superpower. The improvement in the quality of life for the average Russian is also an essential element, both economically, politically and socially for the Russian Federation. In Russia, the continuing development of privatization must be part of an overall reform package involving continuing de-regulation, progressive taxation, and a strong and viable monetary policy.
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