Still bullish

IFR National Champions ECM 2008
11 min read

After a half-decade under siege by international bulge-bracket competitors, Russia’s local investment banks are finally fighting back - and scoring hits, reports Benjamin Seeder.

Unperturbed by the global credit squeeze and choppy financial markets, Renaissance Capital, Troika Dialog, VTB Capital and Kit Finance are all planning to expand. And growth is expected across new markets and in product areas, as well as by bulking up existing businesses.

Brushing off the market downturn and the increasingly bearish investor sentiment towards Russia, Troika and Renaissance are meeting the growing threat from global banks by beefing up equity teams. Both have poached senior staff from competitors, and are willing to meet fast-growing salary demands.

Russia’s share market defied the global trend until May this year, when it collapsed from its peak on the back of falling oil and government assaults on steel maker Mechel, and British-owned company TNK-BP, by its Russian joint venture partners. The benchmark RTS index is now down 40% from its May peak, stirred on by the conflict in Georgia.

The result: Russian equity issuance has all but disappeared. The volume of IPOs in the first half of this year plunged to just over US$400m - one deal - against 10 IPOs worth US$15.83bn in the first half of 2007, according to the PBN Company.

Even secondary offerings by Russian companies have been hit: only US$3bn was raised in the first half of 2008, 69% less than the US$9.6bn raised in the same period last year.

Meanwhile, Ukraine’s national investment banking leader, Dragon Capital, said it’s planning to ride out the storm of plunging markets, equity and debt issuance in the former Soviet country. Only three Ukrainian companies braved plunging investor sentiment to list a total of US$540m in shares on the LSE in the first half - beating the total out of Russia for the first time.

Despite the financial market wobbles and the resultant effect on capital markets, none of the investment banking giants of the former Soviet Union have revealed plans to scale back yet.

A temporary setback

According to Ruben Aganbegyan, the CEO of Renaissance Capital, Russia’s most successful, home-grown investment bank, the fundamentals of the Russian economy are unchanged. The current fall in issuance is only a temporary phenomenon, he said. Renaissance plans to continue increasing its equity and research businesses, despite the market downturn, in response to the fierce competition for talent from international majors.

The bank’s strategy now is to focus on maintaining its lead in equity sales and trading, ECM, and M&A advisory, while simultaneously pushing into new areas, he said. These include structured debt, derivatives, and what he terms “complex corporate solutions” - such as providing financing to M&A clients.

“Equities has always been a strong business for us, right from the start. We were involved in 12 of 22 deals in Russia last year; M&A has also been strong for us, as well,” said Aganbegyan.

“We are developing further our debt business – that is our priority.

Plain vanilla and also structured debt [are] areas of growth for us.

DCM is another area where we are active, but we want to be doing more, once the market returns, in rouble bonds, credit lined notes.”

Yet it may take a long time for capital markets to bounce back. “ECM will continue to grow as companies will continue to grow, and debt won’t be able to accommodate all of it,” he said. “There will be a lot of secondary offerings, and companies coming to the market anew.”

M&A business was plentiful last year, but has currently – though, he said, temporarily – dried up.

It hopes to stave off foreign competition by maintaining a lead in its on-the-ground presence. “The key in the business model is local presence - where clients are located,” said Aganbegyan. “When Russian companies want quick access to capital markets, who do you turn to? Someone who lives in NY, or someone who lives in Moscow? A lot of people have started to grow their businesses here, but I think it’s not that easy ... there’s a limited supply of professionals, it’s not easy to build a team.”

From debt to equity

Second-tier bank KIT Finance, which is 63%-owned by St Petersburg businesman Alexander Vinokurov, is in the opposite position to Renaissance Capital: “They’re strong in equities and want to move into debt. We’re strong in debt and moving into equities,” said KIT Finance’s head of investment banking, Sergei Grechishkin.

Since 2001, KIT Finance has punched above its weight in all types of fixed income - rouble bonds, municipal debt, and structured products. Along with MDM Bank, it was an early mover into credit-linked notes - managing a US$150m issue in 2005. It was also a pathfinder in Russian securitization, and in 2007 became a top player in Russian M&A, with 24 deals worth US$29.7bn.

Although its M&A business is likely to benefit further this year from more business with state electricity concern RAO UES, Grechishkin said the bank’s other businesses are suffering. With the Russian market down some 40% since its peak in April-May, Kit Finance’s much-vaunted retail brokerage has suffered. Unlike other Russian champions that were buffered from the global downturn for most of the first half, Kit’s bond business - the part of the bank - turned down last year.

The fundamentals of Russian mortgages and other assets remain unchanged, yet the fledgling Russian securitisation market is now firmly shut; even plain-vanilla bond issues are difficult and expensive for Russian companies to pull off. “We are not doing so well in that area, but that is more to do with the global situation,” Grechishkin said.

Yet Kit Finance remains determined to expand its equities business. This year it hired Caius Rapanu, formerly a senior analyst at Uralsib, as head of equities. He plans to hire a team of 15 analysts. “I recognise it is hard to compete against the more established equity players,” Grechishkin said. “For now, our goal is to be the leading player in 2nd and 3rd tier issuers.”

It is spending money upgrading its brokerage business to allow international investors access to an internet-based trading system, and will bring the number on its equity sales and trading desk to 15.

The bank has changed beyond recognition in three years. Then, 70% of the company’s revenues came from debt sales and trading. Now it is more diversified, with business coming from derivatives, corporate finance, and equities. Overall, Kit is looking to increase its headcount by 10%-15% annually, from its current 230. “Revenues will grow faster than this, though,” he added.

Hitting the ground running

Meanwhile, a year after its successful IPO, state-controlled VTB is ploughing money into VTB Capital - the investment banking arm that it formed in March this year.

According to VTB CEO, Andrei Kostin, the bank will invest US$500m in VTB Capital over the next three years, and hire up to 400 employees for its subsidiary. Things currently look good: “Although we started building our team in April 2008, we can already boast a 20-strong research team, as well as global banking department co-headed in Moscow and London by outstanding investment bankers,” said Yury Soloviev, the CEO of VTB Capital, who himself joined in March, along with a large team poached from Deutsche Bank’s Russian office.

“We have attracted talent in the M&A and capital markets arena, as well as in infrastructure and structured products, commodities trading, and asset management, which have seen strong growth and demand in Russia.”

He confirmed the company could seek to expand beyond the CIS, and is considering offices in the world’s key financial centers, EMEA and elsewhere.

The future is derivatives

Troika Dialog is also thinking about expanding its headcount as foreign competition intensifies. It recently hired Douglas Welch from Citigroup as head of equity derivatives, and Nick Harwood as deputy head of global markets from Citibank.

The market for plain-vanilla derivatives will grow rapidly in Russia, predicted Jacques Der Megreditchian, head of investment banking at Troika, as futures and options trading on government debt and commodities is introduced.

In Ukraine, an obstinate bear market has damaged many of the country’s investment banks. Equity issuance and IPO numbers have flatlined after a promising 2007. Debt issuance has been undermined by the credit crisis.

No shrinking violet

Despite this, Tomas Fiala, CEO and founder of Dragon Capital - Ukraine’s most successful home-grown bank – will not scale back - unlike competitors.

“The downturn is hurting a lot of the smaller competitors quite hard, so we are actually increasing market share in some areas [as competitors exit],” he said. “We never used leverage, so we have good, safe cash reserves. But some other companies tried to catch up using leverage, and in this market it’s turned against them very badly.”

Despite its low margins, Dragon is considering entering DCM. “It isn’t very profitable, but I think there are strong synergy benefits to be had with our ECM business, so we are thinking about entering that area,” Fiala said.

Debt markets in Ukraine are currently dominated by two foreign-owned players - ING Bank, and Unicredit-owned Ukrsibbank.

Dragon hired a fixed income trader in June, and may make more hires if the talent becomes available.

M&A advisory has been more resilient to the downturn than other business areas. Like Renaissance Capital’s Aganbegyan, Fiala said the current Ukranian downturn doesn’t reflect the fundamentals. “The Ukrainian economy is strong, there is lot’s of room for growth,” he said. “Companies are still expanding rapidly and they need access to capital ... so I think this fall in IPOs and other activity can not last indefinitely.”