Russian M&A - Cross-Border Opportunities

Russian M&A

Cross-Border Opportunities

May, 2010

NORTHSTARCORPORATE FINANCE M&A in Russia: General Outlook

M&A deals breakdown by industry

Source: KPMG, M&A Journal, Mergermarket

20092008

Source: KPMG, M&A Journal, Mergermarket

Number of dealsUSD bn

19.3 22.8

40.5

63.5

159.4

46.1

122.4

344

486

228

380

273238

180

0

20

40

60

80

100

120

140

160

180

2003 2004 2005 2006 2007 2008 20090

100

200

300

400

500

600

Value of deals (L-axis), USD bn Number of deals (R-axis)

10%

9%

19%

9%9%

44% Oil & Gas

Telecom

Metals & Mining

Consumer & Retail

Finance

Other industries

50%23%

9%

5%4% 9%

Oil & Gas

Telecom

Metals & Mining

Consumer & Retail

Finance

Other industries

NORTHSTARCORPORATE FINANCE

The M&A market crumbled as the financial crisis ushered in higher levels of uncertainty about future economic development, increased risk aversion, a larger gap in valuation expectations between buyers and sellers, and a liquidity crunch that made it difficult to fund deals.

Among the sectors most influenced by the crisis — and therefore showing the largest declines in M&A activity — were consumer goods and retail, financial services and metals and mining, which were all down by about 80 percent.

Relative bright spots were the oil and gas sector, as well as communications and media, which were the best-performing parts of the Russian M&A market.

Topping the list of big consolidations last year was the merger of VimpelCom and Kyivstar, worth $5.5 billion.

The transactions that took place in 2009 were relatively small in size and limited in number. Many of the deals that occurred included on the buy side either government-affiliated entities, or cash-rich companies that could take advantage of distressed situations.

Mergers and Acquisitions in 2009

NORTHSTARCORPORATE FINANCE Largest M&A Deals by Foreign Acquirers in 2009

Source: Mergermarket

Bidder Target Stake, % Value, EUR m Sector

Weatherford International Ltd

TNK BP International Ltd (Oil field services) 100 % 346 Oil & Gas

Viktor Pinchuk (private investor) OSAO Rossija 100% 241 Finance

Standard Bank Group Troika Dialog Group 33% 237 Finance

Solvay SA OAO Bereznikovsky Sodovy Zavod 97% 155 Consumer & Retail

Central European Distribution Corporation Russian Alcohol Group 12% 109 Consumer & Retail

European Bank for Reconstruction and Development

Promsvyazbank 12% 107 Finance

TPG Capital OOO Lenta 35.4% 77 Consumer & Retail

China Investment Corporation Nobel Oil 45% 67 Oil & Gas

Colussi SpA Infolink 100% 54 Consumer & Retail

NORTHSTARCORPORATE FINANCE Largest Foreign Acquisitions by Russian Acquirers in 2009


Bidder Target Stake, % Value, EUR m Sector

Vimpelcom Kievstar GSM 100% 3,637 Telecom

Surgutneftegaz MOL Hungarian Oil and Gas Public Ltd Company

21.2% 1,415 Oil & Gas

Lukoil OAO Lukarco BV 46% 1,094 Oil & Gas

Lukoil OAO Total Raffinaderij Nederland NV

45% 431 Oil & Gas

Mechel Mining OAO Bluestone Coal Group 100% 410 Energy

TMK NS Group Inc 49% 396 Industrial services

OJSC Polyus Gold KazakhGold Group 50.1% 358 Mining

Sberbank BPS-Bank 93.3% 191 Finance

Gazprom Neft Sibir Energy Plc 7.8% 172 Oil & Gas


Some Finnish-Russian M&A Deals


Year Bidder Target Stake, % Value, EUR m Sector2009 Tikkurila Oy Polimerbyt 30 n.a. Industrial

2007 Fazer Bakeries Ltd Volzhsky Pekar n/a n/a Bakery2006 Tikkurila Oy Gamma 70 n/a Paint manufacturing

2006 Rautaruukki Oyi Ventall 100 128 Steel construction

2006 Norilsk Nickel MMC (Russia) OM Group Inc (Finland) 100 318 Metallurgy2006 Nordea AB Orgresbank 75 246 Banking

2006 Fortum Oyi St Petersburg Generating Company 12.5 120 Energy

2008 Itella Mail Communication Connexions 100 n.a. Advertising2008 Atria Oyi CampoMos 100 75 Consumer & Retail2008 CapMan Group Norum Russia Fund 100 7 Finance2008 Itella Corporation National Logistic Company 90 200 Logistics

2007 N-Trans Group (Russia) Multi-Link Terminals Ltd (Finland) 50 140 Logistics

2007 Fortum Oyi TGK-1 26.3 243 Energy2007 KONE Corporation RSU5 90 n/a Engineering2007 Sanitec Oy Della 60 n/a Ceramics

2008 Oriola-KD Corporation Vitim & Co, Moron Ltd 75 85 Pharmacy2008 Poyry Plc Giprobum - Poyry 30 n/a Engineering2008 Puukeskus Oy Intekso n/a n/a Building materials 2008 Fortum Oyi TGK-10 up to 76% 2100 Energy

Recently a new market in Belorussia has opened up for Finnish companies:Ingman Ice Cream – Gomel Ice Cream Factory in 2009

Olvi – Lidskoe Pivo in 2008


European M&A environment Russian M&A environment

1. Current levels of activity

Relatively subdued given economic uncertainties and low economic growth rates

Substantial growth (but from a low base) given continued domestic consolidation and foreign direct investment

2. Time frames Transaction timeframes are relatively quick (usually up to 6 months)

Transaction timing can often be in excess of a year; building relationships is important

3. Transaction process

Established history and usage of M&A; ‘standardized’ transaction procedures

Russian parties being unversed in deal-making, and frequently do not seek professional advice

4. Deal structures

Predominantly ‘clean’ transactions with a single purchaser selling a 100% stake

Structures more complex, often with the use of off-shore vehicles for tax, ease of exit, financing considerations

5. Financing A variety of financing options availableMostly cash consideration;

Sophisticated financing instruments emerging, yet legislation lagging behind

6. Market dataMarket data (in terms of market size, growth, market shares etc) readily disclosed and available

Market data less readily available and is often out of date given rapid changes in market place

Russian vs. European M&A Environment


European M&A environment Russian M&A environment

7. ValuationLiquid M&A market facilitates benchmarking to comparable transaction multiples

Focus on earnings / cash flow multiples

Minimal disclosure of deal details complicates benchmarking valuation

Traditional focus on book values (slowly changing)

8. Financial data

Strong financial / management information systems in place; reliable historical data

Analytical review and performance monitoring along a range of key performance indicators

Rigorously assessed future projections

Mid size companies do not have IFRS and quite often run on management accounts

Generally weak finance functions

Analytical review and performance monitoring focused on a small number of key performance indicators

Future projections are rarely forecast in detail and are often not fully thought through

9. Negotiation Tend to be commercially focused and ‘result-driven’

Negotiations may concern objectives which are not purely commercial

10. Regulatory Environment

Minimal interference on private deals

Regulations highly transparent

Usually easy to enforce

Rapidly improving, but still opaque by international standards

Numerous regulatory and corporate compliance requirements (antimonopoly approval of transactions, Federal Financial Markets Service filings etc.)

Low level of enforceability

Russian vs. European M&A Environment (con’d)


Type Pros Cons Balance

Greenfield Control…

Control…

And Control!

Time required for licenses/utilities

Need to handle government relations/ administrative issues

Financial and operational risks

Need to recruit labor

Was major entry strategy for MNCs in 1990s

Now slowly replaced by M&A

JV Financial risk sharing

Russian partner handles administrative/license issues

Ready source of skilled labor

Corporate governance risk

Technology and brand transfer issues

Control may be lacking

Not frequent except for PSAs

Control is a difficult issue

M&A Time saved

Buying established company

Could still be reasonably cheap

M&A market becomes better established

Ready source of skilled labor

Difficult to negotiate transfer of control

“Skeletons in the closet”

Post-integration difficulties unless Russian target was built and operated to Western standards

Corporate governance and counter-party risk

M&A increasingly used entry strategy in recent years

A lot of due diligence needed, nothing could be taken for granted

Quite often easier to do an asset-based deal

Greenfield Versus M&A: Pros & Cons


As of 2010, Russia has a 20 year history of foreign direct investment

− …with most of the required elements in place, and with important lessons learned

These elements include:

− Fairly sophisticated investment and joint-stock company legislation

− Established business services industries such as auditors, strategic consultants and headhunters (including both domestic and international names)

− Dynamic corporate finance and M&A advisory industry

− Large selection of legal firms with M&A and investment experience

− Offshore holdings with strict shareholder agreements could prevent greenmail and other minority shareholder threats that would be otherwise present in the Russian company

Depending on whether your investment is a “greenfield” project or acquisition or joint venture with an existing company the roadmap is different

Where do you start?


NSCF: “No we will not be able to sign a deal tomorrow”

Do deal without (or with limited) due diligence

Do deal quickly

Lack of understanding: Quite often fuzzy differentiation between debt and equity

Mostly limited understanding of procedures, lawyers, due diligence, closing etc.

Distrust of due diligence, as it is regarded to be just an opportunity to learn more about a competitor

Local companies often change their minds every other day. Lack of ability to concentrate on long term strategy

Fire fighting: Will only become active when there is a crisis

Expectations of Target Companies


A very subtle blend of confirmed interest with caveats which arenot too strong

Ability to get over lack of trust and get beyond statutory company documents to actual operating data & management accounts

Confidentiality agreements in Russia are perceived as meaningless

Trust factor most important

Dogged Detective Work Market knowledge is key, but contacts on the right level are critical

Information gathering is a very difficult and time-consuming process

Role of financial advisor:

– Identify and approach potential targets/buyers

– Advise on the basic structure of the Transaction and tentative terms

– Prepare valuation of the Target and the underlying financial model

– Coordinate, and (where necessary, instruct) other professional advisers, including lawyers, accountants, “background check”agencies, PR -advisers, etc.

– Assist in the negotiation of final transaction terms, documentation and closing of the Transaction

Confidential inquiries W

althe

r PPK

AK-47 Soviet Assault Rifle

“Dust off Your Walther PPK” (AK47s are better)


The gap between Russian and foreign partner’s view of value is typically greater than in the West

Often the seller declares a fixed price at the very beginning: either take it or leave it

Non-transparency of M&A market makes comparison of the deal value difficult

Under-valuation of Russian assets is well-known, therefore the seller usually starts with a higher price

Readiness to pay 30–40% control premium is often desirable

Brand, IT, investments in management processes (especially in banking), sales chains and client base are often over-valued

Use the traditional techniques:

Multiples (P/E, EV/EBITDA, EV/EBIT, EV/Sales)

– Multiples (Comparable transactions) – Emerged vs. emerging markets

– Multiples (Comparable traded) – Emerged vs. emerging markets

DCF methods, WACC and/or APV

______________________________________________________

Bottom Line: Valuation is maximum price that can be paid.

Price Assessment


Due Diligence

Objectives of Due DiligenceSeller:

“Fresh Look” at the Company

Obtaining Possibility for “Pre-sale Preparation”

Use of the Report in Negotiations with Potential Buyer

Preparation for Due Diligence on the part of the Buyer

Buyer:

Obtaining Objective information and identification of Legal Risks

Adoption of a Decision on the Visibility of the Transaction and its terms

Arguments for Negotiations

Transaction Structuring

Determination of Conditions Precedent of the transaction

Specific Risks Emerging From the Due Diligence Process

Legal issues in privatization documents / Legal issues in the previous acquisitions

Most companies were involved in aggressive tax optimization schemes over recent years. Significant tax risks may be inherited

Long outstanding receivables with insufficient allowance for doubtful accounts

Poor inventory management and stock obsolescence problems

Some companies have significant volumes of off-book transactions

In most cases the companies do not follow debt covenants

No detailed and thoughtful budget for capital expenditures often indicates inadequate future development planning

Some companies incur significant expenditures on the maintaining of social infrastructure and have unrecorded social obligations


Understanding of cash flows, profit and cost centersIdentification of liabilitiesAccounting impact

Financial/Accounting

Identification of risk areasRing-fencingTax

LegalSubsidiaries ownership & title, licences, permitsRelated party contractsLitigation

Social Costs Restructuring restrictionsOn-going cost structure

Environmental Legacy issues/related liabilitiesBenchmarking of Russian/Western practices

Time consuming process due to unreliability of information and a need to cross check from multiple sources

Key Due Diligence Issues


CORPORATE ISSUES

Establishment of the Company

Privatization

Reorganization

Amendments to Foundation Documents

Authorized Capital

Securities

Shareholders/ members

Corporate Governance

Approvals for Transactions

Net assets

Greenmail Risks

ASSETS PRODUCTION

Licenses/Permits

Certification

Environmental Issues

Employment Relations

Social Obligations

Other Industry-Specific Information

Purchases

Sales/Distribution

Logistics

Credits and Loans

Cross-Border Operations;

exchange regulation

customs issues

Antimonopoly Requirements

Other Business Activities

COMMERCIAL ACTIVITIES

Key Due Diligence Issues

Real Estate:

buildings, facilities

land

Mineral Licenses

Production Assets

Intellectual Property

Investments

NORTHSTARCORPORATE FINANCE Tax Issues

Historic tax risks bounded by three years of statute of limitation affect the purchase price, as well as distort the target's financial performance as shown in the statutory accounts

Buyer is usually indemnified against previous misdemeanours by escrow/pledge/ collateral structure as a part of consideration. Some cases require non-standard indemnification e.g. personal liability of seller

Cessation of tax optimisation schemes may make the company uncompetitive against less honest rivals meaning that extensive due diligence is priority procedure for foreign buyers.

NORTHSTARCORPORATE FINANCE Contractual Rights & Incentives

Contractual protections are sought, as is common in the West, usually under a foreign law jurisdiction

However, difficult to rely purely on contractual protections. Appropriate structuring of transactions – such that economic incentives are aligned – is of major importance

Such incentives may take different forms:

– Payment overtime/milestone payments/earn-outs

– Cash vs. non-cash consideration

– Sharing of economic benefits/costs

– Management incentivisation schemes

– Etc.

Example: Rautakesko, (subsidiary of Kesko), acquired Stroymaster, the Russian chain of DIY stores in the St. Petersburg area, from TECS, for a maximum consideration of EUR 19.6m, including a maximum earn out payment of up to EUR 6.9m. contingent upon the 12 months revenue of Stroymaster. (March 2005)


Foreign investor must form a view on the environment which drives optimal participation strategy

They must also be aware of alternative scenarios in order to structure their investment to be as robust as possible keeping in view the range of potential outcomes

Ow

ners

hip

Impl

icat

ions

Western businesses strongly

disadvantaged. Loans and operating

environment cannot be relied upon

Cha

ract

eris

tics

Local and Western partner can work in

balanced partnership. Contractual rights can

be enforced

Westerners can compete on merit. All

local expertise achieved by hiring

staff, consultants, etc

Zero to small minority

Blocking minority

(25% +1)%

ca. 50% with detailed

agreements sharing control

Control75% 100%

1 2 3 4 5

Western businesses may be discriminated

against but legal environment provides

some protection

Westerners can explicitly lead Russian operations but material

involvement of Russian partners still

valuable

Scenarios


NorthStar Corporate Finance LocationsEstablished in 1998 as joint venture between British and Finnish investment banks;

Since 2006 NorthStar has been independent and privately owned corporate finance advisory firm;

Since 2008 NorthStar has been a member of Mergers Alliance (global network of independent advisors);

Currently one of the leading cross-border M&A boutiques in Russia;

Unique blend of local expertise and market knowledge with top-tier international customer relationships and premium investment banking products;

Main geographical focus on transactions between Russia & CIS and Northern Europe.

NorthStar Corporate Finance in Brief

Moscow, Russia,Main Office

London, United Kingdom Stuttgart, Germany

Moscow

LondonStuttgart


NSCF Corporate Finance Services

Identify and approach potential targets/buyers

Advise on the basic structure of the Transaction and tentative terms

Prepare valuation of the Target and the underlying financial model

Coordinate, and (where necessary, instruct) other professional advisers, including lawyers, accountants, “background check” agencies, PR -advisers, etc.

Assist in the negotiation of final transaction terms, documentation and closing of the Transaction

Mergers and Acquisitions

Private equity

Bank financing

Structured and project finance

Fundraising

Market research

Analysis of competitive environment

Financial modeling

General advisory on Market Entry


Selected References

ADR-Haanpää, M&ANorthStar CF acted as financial advisor to ADR-Haanpää, the leading haulier of liquid chemicals in Scandinavia and the Baltic Region, in the acquisition of the business of Rona Trans, a Russian liquid cargo transportation company. January 2008

Holcim, M&ANorthStar CF advised Holcim, one of the world's leading suppliers of cement and aggregates, on the acquisition of minority stakes in OAO “Volskcement” and OAO “Shurovsky Cement”, Russian cement companies. 2007

Mitsubishi Corporation, M&ANorthStar CF acted as financial advisor to Mitsubishi Corporation, the major Japanese trading house on a global basis, in the acquisition of Vis Nova Trading GmbH, German pellet producer. July 2008

Itella Mail Communication, M&ANorthStar CF advised Itella Mail Communication in its acquisition of OOO Connexions in Russia, the core competence of which includes consulting and campaign management services for customer relationship marketing (CRM). October 2008

Atria Plc, M&ANorthStar CF acted as financial advisor to Atria Plc in its acquisition of 100% shares of Vastse-Kuuste, an Estonian meat producer in June 2008

Olvi Oyj, M&ANorthStar CF acted as financial advisor to Olvi Oyj in its acquisition of 51% shares of Lidskoe Pivo, a Belorussian brewery in October, 2008

Aladdin Oil & Gas Company ASA, Financial AdvisoryNorthStar CF has advised on an initial $ 25 m investment commitment by an intenrational investment group in Norwegian publicly traded oil company ALADDIN, focused on Russia. November 2008

Ingman Ice Cream OY, M&ANorthStar CF advised Ingman Ice Cream Oy on its acquisition of Gomel Ice Cream factory, the fourth largest ice-cream producer in Belarus, through joint venture with a local partner - the state-owned diary holding Rumyantsevskoye. May 2009


Selected References

Nokian Tyres, Structured FinanceNorthStar CF acted as financial advisor to Nokian Tyres, a Helsinki listed tyre manufacturer, in arranging lease finance for the company's Russian joint venture with Amtel Tyres. February 2004

Orkla Foods, M&ANorthStar СF advised Orkla, one of the largest listed companies in Norway, on the acquisition of a minority stake in OAO Volzhanka, a Russian confectionery company belonging to the Sladko Group. December 2004

Mint Capital, Placing AgentNorthStar СF acted as the exclusive placement agent for MINT Capital, a $66 million Russia-dedicated private equity fund focusing on investments in media, internet and new technology. April 2005

Fazer, M&ANorthStar СF advised Fazer Group on its acquisition of OAO “Experimentalnyi Konditersko-Bulochny Kombinat ”Zvezdny”, a Russian bakery operating in the Moscow area. Fazer Group operates in three business areas; Amica (catering), Fazer Bakeries (bakery products) and Candyking (confectionery), in a total of nine countries. April 2005

ABB, Financial AdvisoryNorthStar СF advised ABB, a global leader in power and automation technologies, on the sale of 1.4 million shares in ChEAZ, one of the largest electrical engineering companies in Russia. May 2005

Atria Plc, M&ANorthStar СF acted as financial advisor to Atria plc, Finland's leading meat processing company, in its acquisition of 100% of the shares of Pit Product Group, one of Russia’s largest meat producers in St. Petersburg in June 2005

Baltic Commerce, Financial AdvisoryNorthStar СF advised Baltic Commerce, a St. Petersburg based development company focusing on construction services and real estate development in Russia. In the fundraising, Baltic Commerce raised funds for the development of an 85,000 m2 shopping center in St. Petersburg. 2007

Hansastroi, Financial AdvisoryNorthStar СF advised Hansastroi, a Finnish construction company focusing on construction services and real estate development in Russia, on fundraising of EUR 20 million of equity and more than EUR 30 million of debt. The equity investors are Quadriga Capital Russia, EBRD, DEG and private investors. March 2007

WestCall, Financial AdvisoryNorthStar СF advised WestCall Telecommunications on the sale of a minority stake to Russia Partners II (a Russia-focused private equity fund of US-based Siguler Guff & Co) and on fundraising of USD 30 million in the next three years for the development of WestCall’s operations. July 2007


NorthStar Corporate FinanceAmbassador Office CentrePrechistenski per. 14, bld. 1 Moscow 119034 Russia

Internet: www.northstar-cf.ru

Contact Information

Mark BondChairman, Managing [email protected]

Contact persons:

Petteri PekkanenSenior [email protected]

http://www.northstar-cf.ru/

mailto:[email protected]

mailto:[email protected]

Russian M&A - Cross-Border Opportunities

Economy & Finance

Transcript of Russian M&A - Cross-Border Opportunities