Professional Documents
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This presentations is intended for educational purposes only and does not replace independent professional advice. Statements of fact and opinions expressed are those of the author and, unless expressly stated to the contrary, are not the opinion or position of the OAO Mechel, its shareholders, affiliates or its management. OAO Mechel does not endorse or approve, and assumes no responsibility for the content, accuracy or completeness of the information presented. The author does not in the ordinary course update, revise or correct any of the information contained in these presentation, or edit or otherwise correct any portion of any presentation, and the information contained in this presentation may no longer be accurate. FULL DISCLAIMER IS LOCATED IN APPENDIX 1
Mechel at a Glance
Mechel is a Russian vertically integrated mining, steel, ferroalloys and power group. Shares are listed on New York Stock Exchange, MICEX, RTS;
Mechel has a successful track record of acquisitions. Assets located in Russia, USA, Romania, Lithuania, Bulgaria, Kazakhstan. Business strategy envisions additional acquisitions and continued integration;
Serghei Vahnovan May 2010 page 2
Economic Risks
High Inflation;
was experienced by the whole region since the early 1990s, and especially by C.I.S. after the 1998 financial crisis;
Unstable Currency;
usually the sales are not in same currency as costs and liabilities;
Loss-Making Enterprises;
continue to operate due to the lack of effective bankruptcy proceedings or being subsidized by state;
Possible Solutions: contracts pegged to hard currency, currency hedges, local branches of Western banks, avoid state-run industries;
Political Risks
Immature Democracies;
are inherently unstable, because without real political alternatives, force citizens to seek redress outside the law (orange, rose and tulip revolutions);
Secessionists Territories;
are out of control of central government. Companies may and do have assets in Kosovo, Transnistria and Nagorno-Karabakh;
Possible Solutions: Political Risk Insurance by O.P.I.C., M.I.G.A., your export-credit agency or bank, C.D.S., or make your own research (U.S. Department of State). Risk lower in E.U. members;
Social Risks
Official Data Sources;
were a political issue, so may be not accurate, late, substantially less complete or produced on different bases than those used in Western countries;
Aging Infrastructure;
needs significant improvement and investment. Particularly affected - rail and road networks, power systems, communication systems;
Possible Solutions: double check data, prepare a personnel retention policy, rely on your own infrastructure;
Economic Opportunities;
Economic Growth;
still high, by standards of developed countries. Poland is the only country in E.U. to avoid recession in present crisis;
Low Competition;
in many areas, still undeveloped, leaving place to grow;
Available Incentives;
Subsidies, tax breaks, preferentially priced land, special infrastructure; Non-financial assistance and advantages.
F.D.I. often given preferential treatment;
In C.I.S. countries - state aid - adhoc, and individual. Possible Solutions: negotiate with multiple countries, obtain a clearance from E.U., structural and cohesion funds;
Serghei Vahnovan May 2010 page 8
Legal System:
Political immaturity;
some societies didnt made a definitive choice of values, so the regulatory framework is changing with electoral cycles;
Possible Solutions: cover yourself with papers, ask for guidance, in E.U. members rely on principles outlined in Directives;
Judicial precedents;
generally, have no binding effect;
Possible Solutions: pay very high attention to secondary norms, often these are applied. Obtain written explanations in vital areas;
Serghei Vahnovan May 2010 page 11
Judicial System
A lack of judicial independence;
even if courts are declared independent, in reality, they may be not; judiciary functions may be subject to terms, revocation, retrogradation or suspension by executive power; judges may be financially dependent on executive branch or even local authorities; in some countries, pressure from political, social and commercial forces;
Bankruptcy procedures;
are not well developed and are subject to abuse
Possible Solutions: whenever possible, choose arbitration. Note that in some countries arbitrazh may mean a public court, but with commercial competences. Maintain a bulletproof balance sheet;
Serghei Vahnovan May 2010 page 12
Legal Enforcement
Regulation may be subject to selective enforcement;
leading to a competitive disadvantage for complying companies; a right that's selectively enforced, is not a right;
Possible Solutions: get money in advance, insure credit risks, check the treaties, pay close attention to case-law;
Due Diligence:
Local Flavors
Shareholders Identity
Often concealed, through nominees or shell companies.
always check for ultimate beneficial owner, some have colorful past;
Investigative powers ;
rarely prescribed, except anti-monopoly cases; but usually, made ineffective, by privacy provisions in offshore jurisdictions;
Possible Solutions: obtain voluntary disclosure, legal opinions from all the jurisdictions involved;
Serghei Vahnovan May 2010 page 15
Joint Ventures
May be mandatory;
in some countries and/or industries;
Possible Solutions: if possible, avoid joint ventures. Otherwise use charter provisions, make the joint-venture in holding companies;
Serghei Vahnovan May 2010 page 16
Titles Clearance
Most companies have been privatized;
in some countries, privatization still regarded as immoral and thievery, partly because of communist ideas, partly because of corruption that surrounded it; legislation is vague, internally inconsistent and in conflict with other elements of legislation, as result of moral anguish and cutting corners; as a result, many privatizations are arguably deficient and may be subject to challenge, at least on technical grounds, including through selective action;
Assets acquired in bankruptcy procedures, may be challenged; Assets may be subject of communist nationalization, in the past;
privatization of old enterprises, may be subject to challenge from pre-communist era owners and their heirs; land and buildings are under disputes, in many countries; legislation and case-law remain inconsistent;
Possible Solutions: extinctive prescription (statute of limitations), settlements with or declarations from former partners and pre-communist owners, check various registers;
Serghei Vahnovan May 2010 page 17
In many countries, state retains the ownership of strategic assets, such as land, subsoil, radio frequencies, beach and infrastructure.
as consequence access to these assets, shall be licensed; inconsistent and vague legislation, as a result of moral anguish, may lead to revocation or invalidation; considerable discretion in issuing and renewing such licenses, because the state remains the owner; considerable mess in defining public and private state property;
Possible Solutions: written confirmations from regulators that the licenses are in force, ask for guidance in compliance with their terms, start renewing your licenses early, make sure its private state property;
Serghei Vahnovan May 2010 page 18
Taxation
Tax legislation may be subject to;
frequent change; varying interpretation; inconsistent enforcement;
Possible Solutions: ask for tax audit, cover yourself with papers, ask for guidance, delay partially the payment until first tax audit;
Serghei Vahnovan May 2010 page 19
Taxation - continued
Tax-optimization is wide-spread; Effective tax rate, may be higher than declared;
due to severe limitation in deductibility of certain expenses and non-deductibility of others; non-consolidation of financial situations;
Tax audits;
may last longer than envisaged; do not exclude the possibility of subsequent claims relating to the audited period;
Internal Control;
may be less developed; and may not spot the problems at the early stages;
Possible Solutions: double check data, retain key personnel, consider expatriates;
Key Personnel
Ability to compete and even survive, can depend on key personnel;
real payments may be not fully accounted; some employees may appear as self-employed, for tax reasons; connections are very important, especially on local level ; rainmakers remain essential; director & officers liability, life insurance may be missing;
Possible Solutions: make sure the real payment is fully accounted, noncompeting agreements with departing shareholder, retain them as consultants, consider expatriates, always retain rainmakers;
Serghei Vahnovan May 2010 page 22
Operations
Currency risk - very important;
exporters have the costs in local currencies.; often, liabilities in hard currency due to high interest in local currencies and weak banking system;
Insurance;
insurance industry may be not very well developed; companies may lack coverage of normal risks; and even mandatory insurance, may be missing; risk of non-payment of insured claims;
Connections;
often, more important than contracts;
Possible Solutions: check the reserves for currency risks, double check insurance, make sure the material contracts will continue;
Trade Barriers
E.U. Law prohibits any kind of barriers between states; Candidates countries, have special arrangements with E.U.;
check if your industry is covered by them;
Non E.U. companies may face protective tariffs, duties and quotas
that reduce their competitiveness in, and limit its access to E.U.; may face trade barriers from other markets, lacking the E.U. negotiation force; may face new trade barriers, in the future;
Possible Solutions: E.U. members or candidates, semi-finished products that historically never faced protective measures, prepare early for future competition;
May be unreliable;
often irresponsible and slow, but in many cases the only alternative;
Possible Solutions: when possible, rely on your own services, check the government action plans, discount tariff increases to market rates;
Compliance
Health, safety and environmental standards;
are likely to become more stringent; and the enforcement of the existing one more vigorous; clean-up costs may be huge;
Intellectual Property;
still an issue, in many countries; software piracy; trademarks; patents; employee inventions;
Possible Solutions: assume E.U. norms, check the reserves for environmental liabilities, plans for reductions of pollution, implement disclosure standards, double check IP;
Serghei Vahnovan May 2010 page 26
Social Issues
Political and social considerations;
may prevent from doing whats permitted legally;
Possible Solutions: whenever possible, transfer them to local authorities, even for free. Otherwise, discount these expenses as taxes;
State registration;
is generally required, for such pledges, to be valid and/or opposable;
Possible Solutions: discount collateral heavily, retain non-registrable pledge in hand, or at least original documents;
Serghei Vahnovan May 2010 page 28
Material Litigation
Privatization Challenges; Litigation against main shareholder;
even in exotic jurisdictions;
Possible Solutions: check all the jurisdictions involved, settle anything could reasonably settled, delay a part of payments until resolved;
Methods of privatization.
Mass privatization - vouchers;
Direct - when majority of citizens received shares in various companies, without any payment. Didnt bring new capital or know-how; Indirect - through managed investment funds, in which citizens received shares. Often pose corporate governance issues. May present interest, because usually available at discount to their net value;
M.E.B.O.;
Management and employees buyout. Often degenerates to just Management Buyout;
Strategic investment;
When the controlling stake is sold to an investor, deemed as strategic.
Possible Solutions: just the last one suitable for M&A. M.E.B.O. may also be regarded as an option, but its difficult to held anyone accountable for the liabilities that may arise;
Serghei Vahnovan May 2010 page 31
A lot of technicalities;
in order to avoid thievery. Usually leads to even higher corruption;
Specifics
Status of personnel: public servants or not? Special rights may be assigned to privatization body;
that exceeds the ones for a normal seller, such as: the right of inspection; the right of unilateral termination; non-accountability for the hidden liabilities;
Investments are always assumed, and often more important than price;
but pay close attention to the meaning of term investments;
Possible Solutions: check special legislation, use local counsels, check the status of vital assets, put in agreement as much as possible;
Serghei Vahnovan May 2010 page 33
Post-Privatization
Special provision, usually exists;
in order to monitor the execution of the privatization contract;
Usually done on early basis, but may be sudden; May impose some restriction on:
selling assets; changing the business; laying-off employees;
Drafting
Drafting shall be done by or closely with;
the team that conducted the due diligence;
But take in account that in some area you cant escape local Law;
in such areas as Corporate Law and Compliance, Insolvency; check the local Conflict Rules, for mandatory provisions (public order);
Thank You!
Questions?
vahnovan@gmail.com
Appendix 1
Global Disclaimer The information and opinions in this presentation are believed by author to be reliable and have been obtained from public sources believed to be reliable. However, the author makes no representation as to the accuracy or completeness of such information. The author may be have an interest in and open buy or sell proprietary positions in securities mentioned in this presentation. Opinions, estimates and projections in this presentation constitute the current judgment and opinion of the author as of the date of this presentation. They do not necessarily reflect the opinions of OAO Mechel and are subject to change without notice. The author has no obligation to update, modify or amend this presentation or to otherwise notify a reader thereof in the event that any matter stated herein, or any opinion, projection, forecast or estimate set forth herein, changes or subsequently becomes inaccurate. This presentation is provided for informational purposes only. It is not to be construed as an offer to buy or sell or a solicitation of an offer to buy or sell any financial instruments or to participate in any particular investment strategy in any jurisdiction or as an advertisement of any financial instruments. The investments discussed in this presentation may not be suitable for all investors and investors must make their own investment decisions using their own independent advisors as they believe necessary and based upon their specific financial situations and investment objectives. If a investment is denominated in a currency other than an investors currency, a change in exchange rates may adversely affect the price or value of, or the income derived from the investment, and such investor effectively assumes currency risk. In addition, income from an investment may fluctuate and the price or value of investments described in this presentation, either directly or indirectly, may rise or fall. Furthermore, past performance is not necessarily indicative of future results. The information contained in this presentation does not constitute the provision of investment advice. The information, interpretation, opinions and advice submitted herein are not in the context of an investment consultancy service. Investment consultancy services are provided by brokerage firms, portfolio management companies and banks that are not authorized to accept deposits through an investment consultancy agreement to be entered into such corporations and their clients. The interpretation and advices herein are submitted on the basis of personal opinion of the relevant interpreters and consultants. Such opinion may not fit your financial situation and your profit/risk preferences. Accordingly, investment decisions solely based on the information herein may not result in expected outcomes. The information, interpretation, opinions and advice submitted herein are not in the context of, and do not constitute, any appraisal or evaluation activity requiring a license in the Russian Federation. This presentation may not be reproduced, distributed or published by any person for any purpose without author's prior written consent. Please cite source when quoting. Copyright 2010 Serghei Vahnovan May 2010