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By John Helmer in Moscow

In the Kingdom of Russian fertilizers, there has been the Power and the Glory of hugely profitable export margins and high-flying share prices. But there is only one Will which can be done.

Prime Minister Vladimir Putin visited Acron’s Novgorod chemicals plant last Sunday, January 25, and he appeared to give his personal blessing to a string of costly financial and industrial blunders by Vyacheslav Kantor, the Geneva-based founder and controlling shareholder of the company. Putin was accompanied by Deputy Prime Minister Igor Sechin, who is currently reviewing several plans to consolidate Russian mining companies, including the principal potash and phosphate producers.

At the Acron plant, Putin is quoted by Bloomberg as saying: “The owners of this enterprise not only keep jobs in quite difficult conditions, they also develop the social sphere. Owners of the enterprise are not poor people. If those who deal with real production also have a feeling of social responsibility, we will support such people.”

The list of Acron’s supervisory board and senior management, and the disclosure of shareholders, do not include Kantor, who owns almost 72% of the company. But it isn’t difficult to determine how much of Acron’s profit, and Kantor’s wealth, derives from what can be termed “real production”. An experienced kabbalist might be needed, however, to interpret why substantially more “real” producers in the fertilizer sector than Acron have failed to qualified for Putin’s nod.

Kantor’s company Acron (ticker AKRM:RM) is Russia’s leading producer of complex fertilizers. These are a combination of the three basic chemical nutrients for plant growth — nitrogen, potassium, and phosphorous; or a combination of urea, phosphate, and potash, referred to by the acronym NPK. Nitrogenous fertilizers are derived from natural gas; potash and phosphates are mined. Acron mixes the ingredients and trades the NPK product in higher volumes than any other fertilizer producer in Russia, earning a higher margin on the spot price than the individual fertilizers which comprise it. But Acron doesn’t produce — that’s real production — the feedstocks which comprise the product it sells. It has bought licences to start mining the real stuff. But it is years away from that — and if what Kantor told Putin is the truth, Acron has no hope of ever getting there.

Denis Manturov, a deputy minister of industry and trade, also with the Putin delegation, is reported on the Acron website as backing the idea of “using state-owned facilities, assets, stakes or subsoil and production licenses to establish integrated companies. Manturov noted that Acron has already voiced a similar initiative, and said that the ministry will soon draw up specific proposals for the plan. The deputy minister also said that his ministry is trying to help producers reach consensus with raw materials suppliers and achieve long-term contracts.”

Exactly what Manturov meant was the proposal Kantor gave Putin. This puts himself in control of a state-financed company that would take over mining licences for development of the Talitsky potash deposit and the Oleny Ruchei-Partomchor phosphate deposit. It tacitly concedes that Acron paid and borrowed more for the Talitsky licence ($704 million) than it can now afford; and lacks the money to mine Oleny Ruchei, for whose licence just $7.5 million was paid. Kantor’s plan calls for a bailout of $700 million in debt, and a credit line from a state bank of up to $2 billion to undertake mining at both sites. The capex for Oleny Ruchei is estimated at $350 million. The state equity stake in exchange would be a non-controlling one.

Putin is not only prime minister. He is also chairman of the state bailout vehicle, Vnesheconombank (VEB). Kantor’s plan is designed to get Putin to arrange state financing for a company that isn’t Acron, in order to mine the products Kantor can no longer afford to produce for himself.

The story of Kantor’s Talitsky bid is worth reminding. It happened on March 12, 2008, at a competitive auction run by a branch of the federal Ministry of Natural Resources. Competition from rival fertilizer producers is what drove up the price. From the government’s point of view, at the time, the competitive bidding was a big financial success. Altogether, $2.35 billion was paid by three Russian fertilizer companies — Acron, Silvinit, and Eurochem –for several deposits. The one Acron needed, and Kantor bid for, Talitsky, has potash reserves estimated at 681 million tonnes.

It was Acron’s second mine bid. In October 2006, Acron had bought licences for two apatite-nepheline (phosphate) deposits called Oleny Ruchei and Partomchor, which are located in the Murmansk region of northwestern Russia. In five years’ time, Acron claimed, and with an investment of between $300 and $350 million, Acron’s North-Western Phosphorus Company (NWPC) might be expected to produce 1 million tonnes of phosphates; and another 1 million tonnes of nepheline (for processing into alumina). That is, if Kantor had $350 million to spend on such a thing.

On February 29, 2008, Acron’s share price reached a historic high of Rb2,120 ($83.30); this gave the company a market capitalization of $4.2 billion. Kantor’s attributable wealth was thus $3 million. A month later, on March 28, his company issued a financial report, calculated according to Russian Accounting Standards, which indicated that Acron’s consolidated revenues for the full year 2007 had been Rb30.9 billion(then $1.2 billion), up 28% on 2006; cost of production and sales had risen less rapidly by 21% to Rb24.1 billion ($951 million); and earnings before income tax, depreciation and amortization was up 62% to Rb8.7 billion ($344 million).
On July 7, Acron’s share, having continued rising, hit Rb3,037; its market cap was the equivalent of $5.6 billion. Kantor was worth almost $4 billion.

In retrospect, this was the peak, and the start of a steep slide that reduced Acron, and Kantor, by 94%. But at the time, there seemed to be plenty of money, and Kantor wanted more — more of other people’s money. Acron commenced investor presentations with a target to sell between 10% and 20% of its share issue, in addition to the freefloat of shares not already owned by Kantor. But Kantor’s problem was that the investment markets of Moscow, London, and New York rated Acron less “real” than Uralkali, a pure potash producer, which had launched its IPO in London the year before — at a premium price. Acron’s vulnerability to the volatility of feedstock prices not only threatened its cost of production, and profit margin, but it forced a discount in the price of its shares, and took a slice out of Kantor’s wealth.
To convince the market it could handle volatile gas prices, Acron said it had a 5-year price and supply agreement with Gazprom. This set a combination of state regulated and commercial market prices for gas over a 12-month period for 2008, and then for six-month intervals until 2011, when it was expected that the gap between the state and market prices would have closed. Acron also held on to a 21% stake in Sibneftegaz, a Gazprom subsidiary, with 300 billion cubic metres of gas reserves. This asset, Acron executives announced, was on offer by Acron for either cash or an asset swap, to further protect Acron’s nitrogen fertilizer supply side.
Did Acron’s dependence on Gazprom for the gas to produce its ammonia and nitrogen fertilizers make it less “real”, and oblige Kantor to concede that his shares should be priced at a risk discount? Alexander Popov, Kantor’s chief operating officer, responded: “We consider this as a dependence on the state, and the state is the regulator and stable guarantor of supplies and pricing.”

In retrospect, Popov, like Kantor, was speaking religiously. For the subsequent slide of Acron’s share price led to an epiphany — another religious discovery that the only way of conserving his wealth would be to beg Putin for $2.7 billion — and so he has. The Kantor plan is what Putin is calling “real production”.

A report from Uralsib Bank has noted that “this step [is] a potential approach towards the creation of a National Champion in the fertilizer industry. The State could later add other assets to the joint entity, including licenses and deposits, as well as stakes in other fertilizer companies (20% of Apatit, for example). Other industry participants could also become shareholders in the new entity (including EuroChem, Silvinit, etc.). For instance, this entity could form the base for the potential consolidation of Silvinit, Uralkali and Apatit assets under one umbrella (another scenario of industry consolidation, which was discussed last December).”

While the Russian media have reported Kantor’s offer, and Putin’s apparent acceptance, Acron is not commenting.

It is also unclear why the heavily leveraged Kantor has been singled out for official approval, while Dmitry Rybolovlev, also Geneva-based and the controlling shareholder of Uralkali, has been targeted for a hostile government investigation over the past three months. Even more hostile treatment has been meted out to the Geneva and London-based Makhlai family, which controls Togliatti Azot, the largest ammonia producer in Russia. Sechin, who is in charge of the Uralkali investigation, and directed the attack on the Makhlais, does not respond to questions at his office.

According to UralSib analyst, Anna Kupriyanova, “Acron appears to be the only clear publicly traded beneficiary of the potential consolidation, at the moment; as, under the above scenario (1) the company could resolve its current problems with financial liquidity, (2) it could receive state support that would guarantee no delays to development of its raw materials base (necessary for the company to become self-sufficient), and finally (3) Acron could receive direct access to the raw minerals bases of existing industry players (Apatit, Silvinit) should these companies also join the entity.”

In the same interview in which Putin endorsed Acron and Kantor, the prime minister responded to a question about mining and mineral asset consolidation. “There are no final decisions here,” Putin declared. “Second, what you’re speaking about was suggested by the owners of these companies. But you know that if you get two poor people together, it won’t be a richer family. So it all depends on the specifics. Where there can be any positive synergy from consolidation – say, when one party has mineral resources, the second has financial possibilities, and the third has access to the markets – it will be in demand. You don’t need a lot of brains to combine debts with debts, and it won’t bring any results. That’s why we’ll keep a balanced, careful approach to this problem. Once again, the main goal here is to increase competitiveness.”

So far, Acron has not claimed that its debt relief scheme adds to the competitiveness of the Russian fertilizer market. It can ‘t.

An analysis by Troika Dialog analyst Mikhail Stiskin argues that the only competition Kantor has won is to have made more mistakes than his Russian peers. “Some decisions made by the company have only served to make matters worse: an audacious foray into the potash segment by acquiring the Talitsky potash license for a hefty $700 mln in spring 2008; the refusal to conduct an IPO (with the sale of some Acron shares by Dorogobuzh) at what is now understood to have been the peak of the market in summer 2008; and refinancing its seven-year, $600 mln credit line with Sberbank into a series of short-term loans in early autumn 2008.”

According to Stiskin, Kantor isn’t a real producer, but rather a price arbitrageur, making profit between the low domestic price of his feedstocks, and the high export price of NPK. Nor, according to Stiskin, is Kantor a resource developer. Without raiding assets from other companies, or selling out, Stiksin reports that Acron is non-competitive in the long term. “The company does not possess a sustainable competitive advantage and acts as a de facto processing plant, acquiring domestic gas to producer nitrogen fertilizers, and mixing them with domestically purchased phosphates and potash to make compound fertilizers. From this perspective, its future financials are particularly dependent on feedstock prices. This point is especially important for Acron, considering its strained relationships with some suppliers – most notably, PhosAgro – and the disparity between domestic and international prices that feedstock suppliers are so keen to eliminate over time. The company is in essence performing a highly profitable arbitrage between domestic and international feedstock costs, and we argue that the situation is not sustainable because the price differential will gradually decrease over the course of the next five years.”

Acron’s revenues for 2008 are estimated to have come in at $1.8 billion; net income at $426 million. For this year, Troika Dialog is forecasting a 68% decline in revenue to $900 million, and an 85% decline in income to $64 million. In terms of net margin as a measure of competitiveness, Acron’s 2008 performance indicates 24%, dropping to 7% in 2009. By comparison, Uralkali’s net margin for 2008 is estimated at 48%, rising to 54% this year. Silvinit’s net margins are estimated at 52% and 54%, respectively.

If profit margin is a blessing, Acron has missed out. But it’s Putin who gets to say amen.

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