UC RUSAL is waiting for a nudge from the state

30.03.2012 — Analysis

UC RUSAL did not present its plan to modernize Bogoslovsk Aluminium Smelter (BAZ) by the promised date. The decision to renovate the facility in the Sverdlovsk region was made in December, 2011, at a meeting with Russian Prime Minister Vladimir Putin after widespread unrest by factory workers. The company was to submit its proposals to the regional government by early March, 2012. But no plan has thus far materialized, and officials can't say when to expect one. Experts suggest that the aluminium monopoly is just playing games and has no intention of following through, because it can't afford to modernize the plant. But the consumers of UC RUSAL's products claim the company has tons of money, although the excessive ambitions of its management prevent it from being used. This columnist of RusBusinessNews spoke to several people who assured him that only the strong arm of the state can force UC RUSAL to pay attention to consumers.

According to an agreement signed before a state commission in December, 2011, BAZ is to be renovated by January 1, 2016. High-tech energy facilities are expected to be incorporated, and a new, energy-efficient Novobogoslovsk thermal power station is supposed to be built. A working group to ensure the stable operation of BAZ was established under the Ministry of Industry and Science of the Sverdlovsk region, and this group was under the impression that UC RUSAL would provide a modernization plan by the end of February. The presidium of the regional government was scheduled to meet in early March, but has yet to do so.

Ilya Maltsev, the press secretary for the Ministry of Industry and Science of the Sverdlovsk region, told RusBusinessNews that the meeting of the presidium had been rescheduled for April. Mr. Maltsev stated, "We hope UC RUSAL's senior managers will present their vision for the development of the Bogoslovsk Aluminium Smelter. I know that some renovation proposals are being developed, but I don't know exactly when the plan will be finished".

But a number of experts are questioning whether UC RUSAL will ever tackle the modernization of the Bogoslovsk plant, because its enormous debt burden, the tenfold reduction in net profits that was seen in 2011, and the internal conflicts within the corporation are not particularly conducive to attracting investment. UC RUSAL is experiencing difficulties with its own funds, and Nikita Krichevsky, PhD, Economics, claims that things aren't so rosy at the company. Production is stagnating, even at the Irkutsk and Bratsk Aluminium Smelters, recipients of the cheapest electricity in Russia. It's clear that only through tolling (processing raw materials from abroad and then exporting the finished products) and registering UC RUSAL on the island of Jersey, with its zero tax rate, will be able to keep the "Russian aluminium giant" afloat.

UC RUSAL's management strongly denies that the company is going under, sending out press releases claiming that the company's businesses are rapidly modernizing, investments in development are increasing, and employee wages are growing significantly. Most notably, Roman Lukichyov, UC RUSAL's public relations spokesman for the Urals Federal District, announced that the company invested more than 400 million rubles in the modernization and technical upgrading of the Bogoslovsk Aluminium Smelter in 2011, which is a 67% increase over 2010. The money was spent to renovate an alumina refinery and to rid the alumina of impurities, which made it possible for the company to produce a broader range of alloys. Investment in the North Urals Bauxite Mine also increased by 25.3%, to 1.5 billion rubles. These funds went toward the construction of the new Cheremukhovskaya-Glubokaya mine and a pay raise for the mine workers, each of whom received an average of 46,677 rubles.

Marina Brykushina, the chairman of the Independent Trade Union of the Gornozavodsky District of the Urals, explained to RusBusinessNews that citing the amount the company spends on wages is like announcing the average temperature of all the patients in a hospital. Those figures include bonuses that aren't always paid, plus managers make far more money than the miners. In addition, one should take into account that the mine administrators force the workers to "voluntarily" come in on Saturdays, when they get double pay. Miners are not permitted to work more than 36 hours per week, and thus the higher wages that UC RUSAL's management is so proud to announce were actually achieved at the expense of the workers' legal protections. Ms. Brykushina confirms that a state commission is already investigating the North Urals Bauxite Mine in connection with this.

A deputy in the Russian State Duma, Andrei Krutov, claims that wages for workers at UC RUSAL's plants in Irkutsk are very low. And it would be very difficult to justify this practice on economic grounds, because the company engages in tolling and is registered offshore, entitling it to huge tax breaks. The following numbers are telling: 65.4% of all the alumina and 60.1% of the bauxite used by UC RUSAL in 2011 was imported under tolling agreements. It is interesting to see how the aluminium company, which has so long been the recipient of significant concessions, has not only not modernized BAZ, it has managed to accumulate a debt load worth $11 billion.

Viktor Vekselberg, the former chairman of UC RUSAL's board of directors, confirmed the worst fears of experts when he slammed the door on his way out, accusing the company's management of incompetence. Analysts claim that he was dissatisfied with both UC RUSAL's manufacturing process as well as its corporate strategy. Vekselberg suggested that a number of plants begin manufacturing products with higher added value, but he was stymied by the company's CEO and principal owner, Oleg Deripaska. Mr. Deripaska designed the company's strategy around the production of aluminium alloys because he felt he had neither the funds nor the trained staff to manufacture products with higher added value.

UC RUSAL's business partners are more likely to take the side of Viktor Vekselberg in this owners' dispute. The aluminium company is quite unwieldy and its managers are rigid and overly ambitious. A senior manager from a plant that purchases UC RUSAL's aluminium told RusBusinessNews that the company would be able to manufacture quite a bit more metal if it focused more on its customers. Three of the largest consumers of aluminium (Kamensk Uralsky Metallurgical Works, Zavolzhsky Engine Plant, and Samara Metallurgical Plant) are located very close to Urals Aluminium Smelter (which is owned by UC RUSAL), but are forced to buy raw materials at the same price as the foreign buyers on the London Metal Exchange. UC RUSAL is refusing to make any concessions and is negotiating from a position of strength, but since they can't come to an agreement, everyone loses. Urals Aluminium Smelter is reducing its output of primary aluminium and its business partners are faced with a shortage of aircraft metal.

Probably its own inflexibility prevents UC RUSAL from being able to significantly increase the share of aluminium foil in its product mix. Experts claim that the market could absorb many items made of aircraft metal, but that might take a bit of hustle. But this doesn't seem to be part of Oleg Deripaska's plans. He is used to reaping the benefits of his cozy relationship with the state, which is generous with its concessions. His purchase of an aluminium complex in Podgorica (Kombinat Aluminijuma Podgorica - KAP) shows once again that this type of policy does nothing to help modernize the industry.

UC RUSAL purchased the plant along with a bauxite mine in 2005 with a promise to Montenegrin officials to overhaul the facilities. For its part, the government of the Balkan country agreed to subsidize 60% of the plant's electricity for two years. But that assistance eventually trickled to a halt. The same scenario repeated itself - KAP, just like UC RUSAL, became mired in debt and in court battles with creditors and business partners. The renovations came to an end before they had hardly begun. Now Oleg Deripaska is working hard to restructure the debt and is demanding that the government of Montenegro compensate him for damages. The state, which was forced to settle the business's debts, is considering nationalizing KAP. But UC RUSAL's owner is resistant, trying to squeeze his investments out of the financially strapped aluminium complex.

It's possible that UC RUSAL plans to repeat these exploits at Bogoslovsk Aluminium Smelter. It won concessionary rates, promised the state to overhaul the facility, and is developing a modernization plan, although few believe that plan will ever be realized, even if it is approved. The first warning was UC RUSAL's reluctance to purchase either Bogoslovsk Aluminium Smelter or the building site for the Novobogoslovsk thermal power station at the market price, as was agreed at a meeting with Prime Minister Vladimir Putin.

The thermal power station belongs to Territorial Generating Company No. 9 (TGK-9), whose shareholders included in the power plant's price the right to conclude agreements to provide power for new cash-generating assets. UC RUSAL's managers thought that appraisal was speculative. But TGK-9's shareholders point to the fact that a guaranteed return on investment is always taken into account when determining an asset's sale price. It was precisely these new opportunities that forced investors to eventually agree to the price of TGK-9's shares during the privatization of RAO UES.

Experts claim that Oleg Deripaska is unlikely to agree with the arguments of TGK-9's minority shareholders. He is not accustomed to paying the market price for electricity, preferring to shift the costs of aluminium production onto the energy industry. He did the same thing in Siberia.

UC RUSAL's partner firms believe that the state should be offering the company a sobering kick in the pants rather than more concessions, because only then will Oleg Deripaska stop pushing everyone around and start negotiating the way normal, market-based companies do.

Vladimir Terletsky