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By John Helmer in Moscow

Sergei Pugachev, the owner of Northern Shipyard and Baltic Plant, two leading St. Petersburg yards, is closing a deal to sell the properties to the state, following pressure from creditors on Pugachev’s holding, United Industrial Corporation (OPB), and its associated bank, International Industrial Bank (IIB).

Yesterday, Fitch Ratings issued a negative warning for Pugachev’s bank, expressing concern that it lacks the liquidity to meet repayment obligations to Eurobond holders and the Central Bank of Russia. Fitch’s report intimates that Pugachev was borrowing heavily from the bank during the crisis, which commenced in 2008, and having exhausted the bank’s capacity to lend another kopek, must now pay out of his own pocket to save the bank from default.

The rating action, says Fitch, “reflects heightened concerns regarding the bank’s current liquidity position, including its ability to repay a EUR200m Eurobond (RUB7.2bn equivalent) maturing on 6 July 2010, and the weaknesses in its funding profile. The bank’s liquid assets (cash and net short-term interbank position) comprised a small RUB3b, or just 3% of liabilities, at end-May 2010.”

The bank management, according to Fitch, “considers support from its main shareholder, Sergey Pugachev, as the primary potential source of additional liquidity to support repayment of the eurobond. Fitch has been informed that such liquidity might be raised through the sale, or pledge, of assets of the shareholder’s OPK group. Without shareholder support, the bank’s access to liquidity seems to be limited, given apparently low cash generation from the loan book, reduced borrowing opportunities on capital markets and the already full utilisation of the bank’s limit for unsecured lending from the Central Bank of Russia (CBR). The latter already comprised 33% of total liabilities at end-May 2010, and at end-Q110 IIB’s unsecured borrowings from the CBR represented a large 56% of the sector total.” Altogether, Mezhprombank’s debts to the Central Bank add up to Rb32 billion ($1 billion). The Central Bank’s total unsecured loan portfolio amounts to Rb57 billion.

Alexander Danilov, a Fitch banking analyst in Moscow, explains what that last number means. More than half – 56% — of the Central Bank’s entire unsecured lending to Russian banks is currently outstanding to Pugachev’s bank. That’s quite a friendly hand-off for Pugachev. Whether anyone on the Central Bank board, or in the Russian government, wishes to own up to endorsing it, now that it is in peril, is another matter.

The Fitch report goes on to explain that Pugachev’s bank “continued to grow its loan book through the global financial crisis, with the gross portfolio adding 10% in 2009, and the net loans/assets ratio was a high 87% at end-May 2010. The reported level of non-performing loans (overdue by more than 90 days) has been historically low, making up less than 1% of the loan book at end-2009, while reported rolled-over loans stood at 14% at end-Q110. However, the significant build up of accrued interest during 5M10 (at 6.5% of gross loan book or 30% of statutory equity) suggests that loan performance may not be as good as these numbers suggest. Furthermore, Fitch notes that, although contractually IIB’s loan book is predominantly short-term, the portfolio’s flexibility (ie the ability of the bank to deleverage and generate cash from amortisation of the loan book) has yet to be demonstrated. The high proportion of unsecured loans (87% of the book at end-2009) raises questions about loan quality and the robustness of underwriting procedures.”

When the Fitch analysts asked IIB to explain what parts of the Pugachev empire, especially the shipyards, owe how much of the bank’s non-performing loan portfolio, what share of the rollovers they have absorbed, and how much of the interest repayment is overdue from the shipyards, there was reluctance to disclose. The questions were repeated today. Again, no response from the bank.

The loan portfolio details released for the rating analysis are not comprehensive; and it is suspected that by dividing the shipyard loans into smaller credits to Pugachev company vehicles, the full extent of the shipyard liability is kept in the dark. For the Fitch phrase, “robustness of underwriting procedures”, bankers have pithier assessments. When Pugachev’s new partner, Alexandra Tolstoy, told The Times of London last January that “money is a problem that’s gone”, she might have meant that the problem of paying it back had gone.

It is suspected by bank analysts that the reason IIB remains so heavily indebted to the Central Bank, long after other Russian banks have repaid the Central Bank’s crisis funding with commercial bank loans on better terms, is that IIB has been finding it difficult, or impossible, to borrow elsewhere.

Fitch reports that Pugachev controls 81% of the bank. In 2005, in a bond prospectus for the bank, Dresdner Kleinwort Wasserstein suggested that Pugachev controlled IIB through a New Zealand registered family trust. It is unclear how Pugachev’s separation from his first wife, and alliance with Tolstoy, may have affected the family trust arrangements.

In February 2008, before the collapse, Standard & Poors issued a ratings announcement for Pugachev’s bank, warning that IIB’s lending and capital were highly concentrated among related parties, especially United Industrial Corporation, Pugachev’s holding. S&P said the bank was characterized by “the absence of an accurate strategy for attracting finance; an unclear strategy of development, in particular concerning retail business; insufficiently developed systems of risk-management and high level of risks.” S&P said it wasn’t sure what might happen to the bank’s capital if the financial markets turned “adverse”.

Seven months later, that is exactly how the markets turned. But Pugachev kept lending and borrowing. With hindsight, it now appears that the wealth Pugachev and Tolstoy have been boasting of in the English media, may be evaporating at Twitter speed. If the Fitch estimate is correct, Pugachev’s bank currently has less than $97 million in cash, and more than $3.2 billion in liabilities.

According to Tolstoy, as reported in The Times in January, the cash has been carefully spent. Pugachev, she told the newspaper, has been “ ‘very generous, but he’s also quite strict with me.’ Diamonds twinkle about her throat and wrist as she enthuses about the yacht, a ‘very cool sports yacht rather than a floating palace’. Pugachev, she insists, is quite unlike some of the better-known oligarchs and is not at all interested in being ostentatious: ‘That’s why you won’t really have heard of Sergei before. He’s very discreet and very anonymous. In Russia people won’t recognise him, whereas they’ll all recognise [Roman] Abramovich and [Oleg] Deripaska because they’re much more flamboyant.’ She describes Pugachev as a ‘politician’ but is vague about what exactly this involves, describing Russia’s politics and economics as ‘complete mayhem’. He was elected senator for the eastern Siberian region of Tuva and is known to be a member of the inner circle of Vladimir Putin, the prime minister.”

Those last two attributes are a trifle exaggerated. Pugachev was named a week ago in a report by the Public Chamber, a Kremlin advisory body, as having one of the worst absentee records in the Russian parliament. The Chamber report was withdrawn from public release.

As for the friendship with Putin, that appears to be half of what it used to be, if it used to be. According to the United Shipbuilding Corporation (USC) — the state-owned holding which is taking over Pugachev’s shipyards — the deal has been executed on Putin’s order, and at something less than half Pugachev’s asking price.

In public announcements released today, USC says the transaction should be completed by June 20. The price, according to UMC, is not more than Rb25 billion ($833 million). This is reportedly one-third of the valuation Pugachev has put on the assets.

Pugachev bought control of Northern and Baltic in 2005 from Alexander Nesis’s ICT group, after a struggle in which ICT failed to get Kremlin and Defense Ministry approval to consolidate both, along with Admiralty Shipyard, in a single commercial structure. When Nesis owned the yards, he argued that “there are several players on the Russian [shipbuilding] market, who are not strong enough, and for whom it is difficult to compete with the main competitors – foreign companies. The weaker Russian producers should not compete against each other, but should concentrate their resources. This will help solve the problem of pre-financing in developing their products. We want to establish situation of an absolute technological advantage, when noone else besides the holding will be able to fulfill the contract.”

Pugachev paid Nesis roughly half the price he is now selling for; but he is getting much less than he had been asking from USC, as he joins Nesis in failing to make the loss-making yards profitable. Pugachev also failed to convert part of the Baltic yard’s territory into a massive real estate project, after that was vetoed last year by the St. Petersburg government.

That veto in Putin’s hometown was a signal that the terms of the state bailout for Pugachev’s debts might not prove to be generous. This week, it seems that Pugachev’s shipyards have been taken over for a price that leaves Pugachev with several hundred million more dollars in debts still to repay.

According to the residential asset disclosures Tolstoy has been reporting this year to the media in London, the Chelsea town house she and Pugachev occupy appears to have been bought for £2.25 million in 2006 by Hallway Investments, a firm based in Panama. There is also a country estate classified as “expensive” in Herefordshire, near Malvern; an apartment in Monaco, reported by The Times to be “a cathedral of art deco”; the yacht identified by Tolstoy; and a jet plane reported elsewhere. Four months after The Times reported from the Monaco apartment, the Tatler’s April issue and the Daily Mail reported from “their chateau in the hills overlooking Monte Carlo”.

Tolstoy has confided to the Daily Telegraph her concern that the asset inventory and valuations may not be accurate. “We have very good lawyers who have crushed all those things that weren’t right,” she said.

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