Magazine Aviatransport Review
Infrastructure development requires large, long-term investments and infrastructure projects should be financed on special terms. There isn’t a bank in Russia, which is specializing in the transport sector, but this function is performed by Bank for Development and Foreign Economic Affairs (VEB). Specifically, VEB finances the development of as many as five airports: Sheremetjevo, Pulkovo and airports in Sochi, Yekaterinburg and Vladivostok. VEB’s Infrastructure Department Director Mikhail Poluboyarinov is telling us about the specifics of financing such projects, their current status and prospects.
CORR: Mikhail Igorevich, what is the proportion of transport projects in VEB’s loan portfolio?
M.P.: In total, transport projects account for almost a fourth of Vnesheconombank’s loan portfolio and 15%, that is, 32 billion rubles are directly linked with aviation including infrastructure of airports, aircraft construction, and air transportation. Moreover, we invest funds under a certain strategy agreed upon with the government and line ministries. And I’d like to add that we have our memorandum on VEB’s financial policies along with the Federal Law “On the Bank for Development” that sets forth our bank’s activity.
In accordance with our main sectoral priorities we establish centers of competence within the Bank, that is, departments and directorates. In particular, we have our infrastructure department and transport directorate that are also involved in aviation projects. We have qualified experts specializing in the air transport sector or to use a Western term an aviation team.
VEB’s activity is based on special principles set forth by the Law and different from any other legal entity. So, with our special legal competence we are in a position to finance long-term transport projects with low loan pricing.
CORR: What’s the money worth to VEB? Does it have any exclusive conditions?
M.P.: We have a mixed funding structure, we have our charter capital we also borrow some funds on the market as an ordinary bank. We have no exclusive conditions, besides the state’s contribution to our charter capital and it has already been distributed among projects. So, now we fund almost all projects through using borrowed funds but as Vnesheconombank is a large state-run bank with a sovereign rating, we can borrow at lower rates than others and lend on better terms and for longer periods than commercial banks and in doing so, we can finance projects that commercial banks are not willing to fund at all because they are not ready to assume project risks.
What the borrower cares about is an interest rate at which it can get money; it doesn’t care what the money is worth to VEB. The Law states that VEB is not a commercial institution and our interest rates are set to be only at a break-even point. Moreover, the cost of money is influenced by two more factors.
First, these are project risks. A large company, a shareholder of a major project, can take credits on its own on the international market but it very often carries a great debt burden and is not ready to assume additional risks. In this case, an issue of the so-called project financing comes to the fore, in which case a bank does not require this major shareholder to provide it with any sureties and guarantees and if a project fails, we won’t be alble to lay claims to anybody. Project financing involves very complicated transactions, especially infrastructure ones, that is why, it is pretty expensive all over the world as a bank has to assume higher risks and envisage higher interest rates.
The second factor is a tenor of credit. At present, there are no commercial banks in Russia that are prepared to finance infrastructure projects which take 10-15 years to implement. This is the case because commercial banks have short liabilities. And under the Central Bank’s regulations, banks are to proportion their liabilities to their assets. In other words, commercial banks do not extend long-term credits due to their ill nature –they simply have to work under such conditions and these regulations are designed to protect depositors’ money. A unique and remarkable feature of VEB as an infrastructure bank is that we are completely separated from natural persons. We are not limited by the Central Bank’s regulations and we risk only our own funds.
As a result, with due regard to a complicated nature of project financing transactions and tenors of credits we can’t say whether VEB extends inexpensive or expensive credits. It does extend log-term credits and other banks do not do it at all. It makes no sense to compare our interest rates with those of other banks as we operate in absolutely different fields of activity.
CORR: Putting the state’s money at risk, VEB assumes a certain responsibility. There is no doubt that there are many of those who wish to gain access to this money?
M.P.: We managed to put together a very good team of specialists capable of funding projects on the basis of project financing and guaranteeing recoverability of funds. And we can make it happen not only due to our highly qualified team but also due to our unrestricted access to the Government. We are in direct contact with the Transport Ministry, the Russian Government Office. We’ve got all the reference data which we can analyze.
It is up to the Government to decide what projects should be implemented. The Bank is not supposed to decide what kind of airport should be built and where it should be built. Nevertheless, we examine projects, look into passenger flows, calculate cash flows and then come to a conclusion that the Bank can extend a credit, hypothetically saying, of 10 rubles rather than 100 rubles, otherwise the funds would be irretrievably lost. Where can we get the remaining 90 rubles? Therefore, not everything is determined by cash return as is the case in a bank, the government also gives high priority to social objectives. If required, it can somehow subsidize a project, but in any case the Bank’s expert examination makes us take a more sober look at things. An airport is always a point of growth but the budget is not limitless and the government has to decide as to what extent this point of growth is prioritized in a given place. And in this respect, our main role as an investment adviser is to tell the government what can be done to guarantee recoverability of funds and what can’t be done. So, we have an agreement with the Transport Ministry on investment consulting.
CORR: What are the criteria for selecting projects?
M.P.: All requirements are specified in our memorandum and other documents. Most importantly, a project must be of high quality. If a business idea is not substantiated by project calculations, a project is not suitable to us. You should do preparatory work before offering a project. Some even get surprised saying that as a development bank, we must support them instead of acting as an ordinary bank. But any airport project is worth tens of billions of rubles; we can’t play a lottery and just put the money at risk. As of today, the number of unsubstantiated applications is diminishing as people can see that VEB is not a source of easy money. So, VEB is not ready to consider some projects in principle and not because of its ill nature but because sometimes there isn’t a project as such – there is only a sort of business idea.
CORR: Let’s move from business ideas to the reality. What’s the current status of the most significant projects?
M.P.: As far as Sheremetjevo is concerned, First Vice Premier Igor Shuvalov said that the airport should be a unified complex. Now we are considering options of how to do it, our preliminary basic concept is a merger between OJSC Terminal and OJSC International Airport Sheremetjevo. Together with consultants, which are being chosen now, we are going to work on preparing an optimal financial model of merging the companies. This merger is a benefit for us as credits extended to OJSC Terminal would be passed over to a large legal entity with great financial flows. The development of a merger model is to be completed within three months. The main prospects for Sheremetjevo are to increase its terminals’ capacity and build the third runway. This is a task set by the Transport Ministry and it is being fulfilled now. So, an issue of drawing a management company into the Sheremetjevo Airport has come up. It is to assume investment obligations for the construction of a new major complex on the northern side.
In technical terms, the Sochi Airport project had to be reworked to a greater extent and made us rehabilitate the financial situation. There is some insignificant schedule overrun but the problem can be sorted out on a routine basis Basel Aero put together quite an active management team. There are two problems there which have to be addressed: a delimitation of land is to be carried out as it wasn’t carried out in the course of privatization and the construction schedule is to be adjusted taking into account the airport’s Olympic status. The fact is that requirements for servicing the Olympics provide for such a peak capacity that the airport would never need operating on a routine basis. This airport’s excessive capacity makes neither us as a financing bank nor shareholders happy but this can’t be helped. The airport’s Board of Directors suggests that the date of starting the construction of an additional gallery with jet ways should be moved to 2011 and we go along with this suggestion. It will be completed by the end of 2012 and there will be no need to freeze investments.
Active work is also going on in Pulkovo. As planned by the schedule, we’ll close a financial transaction by the end of April. VTB acts as a shareholder in this transaction and is not seen as a creditor. VEB acts as a creditor from the Russian side and the European Bank for Reconstruction and Development together with the European Investment Bank act as leaders of the pool of foreign banks including commercial ones. A distinguishing feature of the Pulkovo airport project is that it is the first project that is being funded by so many international financial institutions. Half of the project is funded by VEB in rubles and the other part - by foreigners in foreign currency, with due consideration of exchange rate risks as one of the airport’s non-aviation lines of activity, leasing floor space on the terms of commercial concession, is denominated in foreign currency. We have already carried out all mandatory inspections and are very optimistic about this project. It should become an exemplary project for Russia.
CORR: Will the project be influenced by the recently announced plans to place GTK Rossiya under the jurisdiction of Aeroflot? What impact will it have on passenger flows as it’s not going to be economically feasible for Aeroflot to build the second hub in Saint-Petersburg?
M.P.: You are quite right. GTK Rossiya accounts for 40% of the Pulkovo airport’s traffic. But we, together with EBRD and EIB, prepared an extremely conservative forecast in order to make the project attractive to foreign commercial banks because they are very timid. So, our financial model works even in the worst case scenario and it would be a good thing if Aeroflot succeeds in encouraging the development of GTK Rossiya.
CORR: The next project in the list is Yekaterinburg.
M.P.: Just before the SCO summit, Renova commissioned in Koltsovo an international terminal that we had financed and we can say that the active stage of the project has come to an end. But it should be noted that we have another strategically important project linked with Koltsovo, which is aimed at supporting Region-Avia Company. We regard Koltsovo as one of Russian hubs where pretty large passengers flows are concentrated including transit one. Now about 18 flights are made from Koltsovo to Moscow per day. For this airport to be cost-effective and for the region to develop, the airport should handle regional flights of up to 1000 km that would cover cities located around Yekaterinburg. This would keep Region Avia busy ad it would concentrate additional regional flows and after entering into relevant code-sharing agreements with Urals Airlines, Koltsovo’s basic airline, it would be transferring passengers to it.
We also help to finance an infrastructure project in so far as it relates to purchasing Embraer aircraft by Region-Avia - 50 turboprop aircraft with a seating capacity of up to 50 passengers. Due to a marginal nature of regional air transportation, this project is a long-term one and commercial banks view it negatively because turboprops bought on the secondary market have rather low collateral value, and if the business fails they would be of no use to anyone. To some extent, this project is risky for us, but being aware of our mission we support it. Someone should make a start. The regional air transportation sector is in a difficult situation and our aviation industry has almost nothing to offer to this sector. So, if the regional air transportation network proves to be successful in the future, regional aircraft might be assembled here and an aircraft factory might be built with our help and this is also an infrastructure project as it creates new jobs and builds up business. At present, this project enjoys the support of the Transport Ministry and the regional administration. If regional transportations prove to be unprofitable at an initial stage, the region might somehow subsidize the project and if the project is a success it might be expanded to other regions.
CORR: What other projects is Vnesheconombank interested in?
M.P.: A new project is already under way in the Vladivostok airport; a new terminal to be completed in time for an APEC Summit is being built. We are also talking with the Novosibirsk and Samar airports about possible options of our participation in their reconstruction. Another infrastructure project that we regard as very interesting and important is an interchange transport hub at Kalanchevskaya station that would connect three airports. At the moment, this project is at an initial stage but it’s difficult to overestimate a synergy effect from its implementation for the entire Moscow air hub. We are also considering our participation in leasing Russian-made aircraft. The Bank might purchase an additional stake in IFK Leasing Company for its further capitalization. We haven’t made a decision yet but the plan is under consideration.
CORR: Did the financial crisis somehow affect VEB’s activity in infrastructure development?
M.P.: We are trying our best to prevent any negative changes. If we stop lending it will deliver a heavy blow to our economy, that is why, the Government has always insisted that we should not reduce infrastructure lending rates. In the period of the crisis, commercial banks commercial banks were largely involved in rehabilitating their projects simply trying to rescue whatever was left and so, they didn’t have any long money to invest in infrastructure development. So, in the period of the crisis we continued conducting current lending transactions and took positive decisions on new projects, for example the Vladivostok airport project.
CORR: To what extent is it true to say that there is more money in the world than quality projects to invest it in?
M.P.: This was the case before the crisis. To a large extent, the crisis was caused by irresponsible and incomprehensible lending. There is an excess of short-term money available for lending for a period of up to three years in the economy and not only in the Russian one. But there isn’t any long-term money now as there wasn’t any before. But there are initial signs now that the situation is improving and the Russian market two-three years from now might see at least 7-10-year money if not 25-year money. But so far, only VEB is capable of extending credits for such long periods. Buy the way, there all kinds of projects but we are specializing in the transport sector and view the situation this way. And if there emerges a quality, proper project and if we prove its efficiency the state could finance it through increasing our charter capital. This is an instrument the government has at its disposal and it’s not just budget financing but financing of projects on a repayable basis. The Bank keeps track of such projects. All infrastructure projects are very complicated, there are no easy ones. It is commercial banks that are interested in easy projects.
Interviewed by Alexei SINITSKY
Vnesheconombank Chairman Vladimir Dmitriev’s Interview to The Banker magazine
writer Philip Alexander
State-owned development bank Vnesheconombank became a vital tool for the Russian government to combat the financial crisis, not only at home but also in neighbouring countries. The bank’s chairman explains how it is exiting the assistance phase and preparing a long-term role in the economy.
Since Vnesheconombank (VEB) was reorganised in June 2007, absorbing Russian Development Bank and Roseximbank, its chairman, Vladimir Dmitriev, has barely had time to catch his breath. As the global financial crisis took hold in the third quarter of 2008, the bank became a vital policy tool for government intervention.
VEB took over a wide range of assets, including two distressed banks, Globex and Svyaz-Bank, and lent $4.5bn to Oleg Deripaska’s Rusal group (see Team of the Month, page 44). And beyond Russia’s borders, it bought Prominvestbank out of administration in Ukraine. Since the end of 2009, Mr Dmitriev has been able to take stock and plan an exit from the emergency assistance phase.
Visiting the bank’s London office, he turns to discussion of its post-crisis activities and how to fund them. He has just finished meeting bankers who provided a $700m and E100m three-year syndicated loan in January 2010. To continue diversifying the bank’s funding, the next step is a debut Eurobond, for which the bookrunners were chosen in February.
“We are looking forward to seeing how the sovereign will be met by investors, and then considering our own opportunity of tapping international capital markets,” says Mr Dmitriev.
Legacy ass ets
In December 2009, the bank’s supervisory board approved the creation of a new vehicle, VEB-Capital, to manage residual assets held by the bank following its rescue efforts. These include stakes in construction companies and real estate, and 100% of Amurmetall, the major steel plant in far eastern Russia, purchased in July 2009 to avoid its bankruptcy. Mr Dmitriev is keen to hire staff with investment banking and crisis management expertise to run these companies appropriately.
“The activity of VEB-Capital will be aimed at upgrading the added value of those assets, which will then be presented to the market or bought back by previous owners – as is the case with Amurmetall,” says Mr Dmitriev.
In contrast, the 3.15% stake that VEB purchased at the initial public offering (IPO) of Rusal in January is a strategic commitment in line with the bank’s status as the company’s largest single creditor. VEB has a seat on the Rusal board, although Mr Dmitriev does not rule out an eventual sale of the stake. He believes financial discipline and corporate governance at Rusal have already improved due to government assistance and the requirements of the company’s international creditors’ committee.
“Since we were engaged with this company, it was worthwhile to talk about marriage while refinancing its external indebtedness… Being a strategic investor at the company’s IPO, we have created additional strength in our relationship,” says Mr Dmitriev.
VEB has also worked hard to resurrect the banks it bailed out – Globex returned to profit by the end of 2009. The rescue operation costs VEB Rbs13bn ($444m) in interest payable annually on deposits from the Central Bank of Russia used to restore capital and liquidity to the two Russian banks. Consequently an IPO or sale to a strategic investor is definitely part of the plan.
The two banks will be repositioned to have sustainable business models, a process which Mr Dmitriev believes will take up to five years. As Svyaz-Bank already distributed products via Russia’s post office network, VEB has started tendering for a strategic partner to develop a full-service postal bank, which would have a vast nationwide retail presence.
Conversely, Globex had focused on large industrial and project lending, and it may now work more closely with VEB’s own clients. “In accordance with the law on Vnesheconombank, we are limited to funding major investment transactions, not to extend daily banking services like salary systems or financing working capital. So Globex activity might be a complementary business for the group,” says Mr Dmitriev.
There is a similar complementary intention behind the January 2009 purchase of a 75% stake in Ukraine’s Prominvestbank, which was later increased to 94% as part of its recapitalisation. The bank served about 40% to 50% of Ukraine’s core industrial companies, many with Russian trading links.
“We look at the transaction from this angle, to support Russian and Ukrainian companies to upgrade their co-operation and economic integration… and to gradually come over to bilateral transactions in roubles,” says Mr Dmitriev.
Mr Dmitriev is now able to renew his focus on VEB’s core activities, such as export promotion and investment in infrastructure and new technologies. VEB also manages about Rbs480bn in state pension funds, and has been authorised to diversify these from government bonds into assets such as infrastructure bonds and mortgage-backed securities.
The bank’s anchor investment in the Macquarie Renaissance Infrastructure Fund is another key vehicle that he hopes will attract foreign investors. “We are looking at potential partnerships with sovereign wealth funds and development institutions in the Middle East and the Far East, and some private investors who are interested in diversifying their investment activity and are keen to come to Russia, but still too cautious to do it without support, assistance and guidance from such an institution as VEB,” he says.