Moscow. – A WALK through Moscow reveals the threats to Western companies of Iran-style sanctions on Russia: Renault cars fill the streets, Zara and Louis Vuitton shops pull in consumers and Carlsberg brews the beer of choice. Now foreign companies face the prospect of untangling from a country that’s become a key trading partner with close financial ties to the West, as US President Barack Obama and German Chancellor Angela Merkel threaten economic retaliation for Russia’s moves to annex the Crimean peninsula.
Western companies have flocked to Russia since the Soviet Union collapsed in 1991, lured by vast natural resources, a growing middle class and infrastructure upgrades after decades of neglect. European Union companies sold 152 billion in goods and services to Russia in 2012, up 14 percent from the previous year, European Commission data show, highlighting the importance of a neighbouring export market as their domestic economies emerge from a three-year recession.
While the US and EU prohibit almost all trade with Iran and North Korea, Russia isn’t viewed the same. Sanctions as strict as those faced by Iran are considered an unlikely worst-case scenario, though companies must be prepared for any eventuality, said Eugene Nivorozhkin, a lecturer in economics at University College London.
Initial penalties are likely to include travel restrictions on individuals connected to the Kremlin, Mr Nivorozhkin said. That could escalate to freezing Russia’s foreign reserves and banking assets — though severe measures would face resistance from European countries with strong trade ties with Russia.
“It’s a matter of Europe being willing to face the cost of these sanctions, and the costs are unavoidable,” he said.
European banks had $136 billion in claims on Russian borrowers at the end of September, the most recent data available at the Bank for International Settlements. UK banks have $14,1 billion in claims on Russian borrowers, and US banks have lent $27,2 billion, the data show.
In Russia, domestic and foreign companies are grappling with a slide in the value of the ruble. Russia’s currency has slumped 9,8 percent against the dollar this year, the worst performer after Argentina’s peso among 24 emerging-market currencies tracked by Bloomberg. Continued decline in the ruble would further hurt an already troubled Russian economy, which slowed to 1,3 percent growth last year from 3,4 percent in 2012. Expansion is set to slow to 1 percent this year amid tensions in Ukraine, Citigroup said.
“Right now, it’s the devaluation of the ruble that worries us the most,” said Oxana Nazarova, a spokeswoman for French carmaker Renault in Russia.
The company, whose Renault-Nissan car-making alliance controls the Soviet-era brand Lada and produces about one in three cars sold in Russia, raised its prices 3 percent in January and about as much again in March as the ruble has fallen.
French rival Peugeot Citroen learned the hard way how sanctions can bite. The car maker was shut out of Iran because of sanctions imposed in response to the country’s nuclear programme.
In 2011, before the restrictions, Peugeot sold 458 000 vehicles in Iran. The next year it sold none, cutting 10 million euros a month from operating profit.
For Russian companies, sanctions would present an even greater threat, from more expensive international financing to difficulties maintaining overseas operations, said Kirill Chuyko, head of equity research at BCS Financial Group.
While that would surely hurt Russian companies as they seek to repay debts, it would also hit the foreign financial institutions that loaned them money, Mr Chuyko said. Citigroup and Bank of America, for instance, helped co-ordinate $31 billion of loans to finance Rosneft’s acquisition of TNK-BP a year ago.
ING Groep NV has about 7 billion of loans in Russia and 1,5 billion in Ukraine for its banking unit.
Retail and industrial production form a vital element of Russia’s economic renaissance since the end of the Cold War. Carlsberg is the largest brewer in Russia, the source of a quarter of its total revenue. Spain’s Inditex, which owns the Zara clothing chain, has more than 300 outlets in Russia.
Siemens supplies trains for the country’s nascent high-speed rail network. The German engineering firm’s ties with Russia go back more than a century, when Siemens established an office in St Petersburg to handle construction of the first state telegraph network.
Airbus Group has in its backlog 20 A350s on order from Aeroflot, valued at about $6 billion at list price. Boeing planes not yet delivered to Russian customers include four 747-8 planes and 12 737-800s valued at about $1 billion.
For Russian companies, one potential solution is a merger with a rival based in Europe or the US, which offers a base of foreign shareholders and employees. VimpelCom, the wireless carrier controlled by Russian billionaire Mikhail Fridman, in 2010 merged with Weather Investments, a holding company controlled by Egyptian tycoon Naguib Sawiris. VimpelCom is listed in New York and headquartered in Amsterdam.
Many Western companies have similarly set up operations in Russia in an effort to benefit from regulations that favour domestic producers. Three years ago Volkswagen and Ford Motor signed joint ventures with local manufacturers, joining Toyota, Hyundai and General Motors in Russia. At the time, the government predicted vehicle sales there would soon top 3 million a year, surpassing Germany as Europe’s largest car market.
Researcher LMC Automotive sees Russia’s car market contracting by as much as 10 percent this year in the event of strong sanctions.
Volkswagen has a factory in Kaluga producing VW and Skoda vehicles with billionaire Oleg Deripaska’s GAZ in Nizhny Novgorod.
For energy producers, sanctions would threaten long-term plans to invest billions of dollars. BP owns a 20 percent stake, worth about $13 billion, in state-backed oil giant Rosneft. Exxon Mobil holds drilling rights to 11,4-million acres in Russia, which it was scheduled to soon explore with Rosneft. An Exxon spokesman declined to comment.
Royal Dutch Shell is two months into an effort to use drilling and rock-fracturing in a gigantic oil deposit in western Siberia. A spokeswoman said the company is hoping for a peaceful conclusion to the dispute.
BP already has felt some pain. The London-based oil producer lost $849 million in one day on its investment in Rosneft, which accounts for almost a third of BP’s global production. As for any eventual sanctions, BP spokesman Toby Odone said the company has few options for now. – Bloomberg.