Financial & Legal Services

An Expert's View about Banking and Finance in Russia

Last updated: 28 Feb 2011

Russia has a young financial & legal services sector that offers a range of opportunities for international and domestic companies, particularly in the light of Russian Government plans to develop International Financial Centre in Moscow.

Sector Briefing   Financial & Legal Services Opportunities in Russia Produced by Tatyana Kononova, UK Trade & Investment Adviser, Financial and Legal Services, British Embassy,  Moscow, Russia  Last revised 01/02/2011 Why Russia? Russia has a young financial & legal services sector that offers a range of opportunities for international and domestic companies, particularly in the light of Russian Government plans to develop International Financial Centre in Moscow. Like all major economies, Russia was affected by the recent global financial crisis. However it is widely agreed that the Russian government handled the crisis in the banking sector well, moving quickly to provide timely loan guarantees and, unlike in other countries, state support for the banking sector did not involve the acquisition of equity stakes. Only a small number of banks were taken into state ownership during the crisis. system is set to benefit immensely from integration into world markets. However, Medvedev himself has On 21 April 2010 Russian President Dmitry Medvedev pointed out some roadblocks that may hinder the called on the government to speed up the opening of progress of the project. These include an opaque and an international financial centre in the country's politically dependent judiciary; incapacitating state capital Moscow. The President stressed that the centre bureaucratic red tape, rampant corruption as well would have an important role to play in the country's as the necessity of boosting the development of economic development as well as for the global credit and banking system. Against this background financial system. The new project has a number of the Russian government has a mammoth task as it has goals to achieve. Firstly, it aims to attract foreign to not only complete this project but also oversee much finance and carve out a place for Moscow in larger reforms across the country. international finance. Secondly, the project will boost the Russian rouble, which ultimately it is hoped UK Financial Services, aided by will become one of the world's trusted currencies that UKTI, has a good story to tell. other countries may choose as a form of foreign reserve. Thirdly, if Moscow succeeds in emerging as Cumulative British investment in Russia was worth one of the world financial centres, the financial nearly $20 billion - and that of Russia in the UK $2.8 billion. Russia would welcome more British investment in Russia, and not just in the natural resource sector. ? UK banks are among the most successful British investors in the Russian market. Many are here already (HSBC, Barclays, RBS), and they are all growing their operations. ? The Big Four dominate the accountancy market ? London remains to be the first place of destination for Russian companies? IPOs. UK Trade & Investment Sector Briefing: Financial Services opportunities in Russia     Moscow into an international financial centre. The ? Russian market is dominated by international government is considering legislation to modernise law firms because the most popular law in Ru banking legislation, encourage a greater use of ssia is English Law. IFRS, and measures to increase transparency. Structural Risks and Problems. To achieve its growth Opportunities potential however, the banking system has many There are opportunities for UK companies in banking, obstacles to overcome. On many standard measures, insurance, pensions, legal services, capital markets, much of the sector is inefficient. The central bank has accountancy sectors and PPP. stepped up efforts to monitor the activity of banks, and The top priorities for Russian Government now are is slowly reducing the total number of banks (by Russian financial markets and establishment of raising capital requirement ratios). As a result around International Financial Centre in Russia. The 100-200 are expected to exit the market each year, but experience of London in promoting financial services, at this rate it will still be 5-10 years before the total and its history of openness in terms of welcoming number of banks is close to the consensus of what is business are of great interest for Russia. UK experience a sensible number of banks for Russia (around 200). on issues ranging from alternative dispute resolution The crisis demonstrated the risk of non-performing and arbitration; derivatives markets and its integration loans (NPLs), particularly the difficulty of into stock exchange; to business process integration on measuring their extent. Russian Accounting two or more exchanges in different jurisdictions, and Standards (RAS), under which banks report, mean that dual listings are of particular interest to Russia. only the portion of the loan that is non-performing needs to be reported. Thus the full scale of exposure to problem loans remains hidden. Banking While liquidity is now plentiful, most banks are Russia has a lot of banks, 1124 by the central struggling to get this into the real economy. The fall- bank?s last count, but of these the top 100 account out from the crisis means that many companies are not for 90% of the total banking sector assets; the top yet investing again. Furthermore existing loans are 30 account for 75%. The central bank has been being paid back early by firms who no longer want reducing this large number of banks by raising the funding, decreasing the overall volume of ?good? minimum capital requirements year on year, loans a bank has, and so worsening the quality of its causing smaller banks to either be bought out, or to exit book. the market. Aside from these smallest banks, on the Other firms are eager to borrow (particularly whole most Russian banks are well capitalized, already SMEs). But Russia?s banking sector is ill-equipped exceeding the higher capital requirements brought in to accurately estimate risk. This tends to lead to under Basel III regulations. However, other elements under-lending, exacerbated by the crisis, and the of the Basel II (and III) regulations Russia are less well ensuing problems with NPLs. While some small implemented. Russia is likely to try and implement entrepreneurs can borrow against personal collateral, it Basel II and III regulations jointly over the next few is practically impossible for firms to do the same. years. The central bank runs a number of pilot projects, Implications for the UK. UK banks are among the including with some of the largest banks, as most successful British investors in the Russian preparation for full implementation. market. Many are here already (HSBC, Barclays, Enormous Opportunities. Prior to the crisis, Russia was RBS), and they are all growing their operations. the fastest growing banking sector in the world, and Despite the difficulties of operating here, all view there is still huge potential for upside growth ? both Russia as a key growth market.. providing banking services to the majority without The UK is also a good potential source of expertise. accounts, and expanding services for those who do. A lack of products and technology holds the banking Experts estimate that banking assets could grow by sector back. But there is no native expertise to develop nearly 22% year on year to 2013, with returns on them. UK financial services experts are well placed to equity reaching pre-crisis levels of 20% by this provide this, as well as investment expertise, legal, point. back office, products and more. There is huge potential for increases in productivity. The moves from many banks, and the state this year, to It takes 1.6 minutes to make a cash withdrawal in the issue bonds on the international market also US, but 6-8 minutes in Russia. Total labour provides opportunities. The UK remains the first port productivity in the banking sector in Russia is ten times of call for most Russian companies. Although lower than the US. competition is emerging (especially in Hong Kong and Lending to the SME sector could be a particularly Frankfurt), most Russians continue to view the UK as strong growth area. At present bankers understand that the best centre for expertise and capital. the SME sector is crying out for affordable and accessible credit but lack the tools to adequately assess the risk. Pensions Some parts of the Russian government are keen to At present total pension assets in Russia stand at seize on this potential, with ambitious plans to turn 2.8% of GDP ($47 billion, $331 per capita). The UK Trade & Investment Sector Briefing: Financial Services opportunities in Russia     world average is around 70% of GDP showing just companies from 30million to 120million roubles and how underdeveloped the pensions market in Russia is. 480 million for reinsurance companies. With the recent government reform of the pension Opportunities. Penetration rate of insurance remains system, private pensions market is now becoming low on both private and corporate levels compared to the biggest opportunity. A boom in private pensions more developed economies and the market represents would also be a gain for Russia. The economy enormous growth opportunities for insurance desperately lacks long money to invest domestically players. Moreover, the financial crisis will have some rather than relying on the often fickle global markets. positive impact on the sector as unqualified and A deep and liquid domestic pension market would be undercapitalised players will fail, leaving those that an ideal source of this, and a vital part of any modern remain more transparent and customer friendly. The international financial centre ? something to which total amount of premiums collected grew at a Russia aspires. Compound Annual Growth Rate of around 24.5% Opportunities. The potential gains in the pensions between 2005 and 2008. It is expected that the market are huge. Chile underwent a major pension introduction of laws on compulsory property insurance reform in the 1980?s, providing the model from which will boost the overall insurance market in future, as Russia based its own 2002 reforms. From a low base well as government support, economic growth and Chile?s pension assets today are around 68% of GDP, rising income level. There will be limited demand for representing around $110 billion of private sector insurance products in the short term because of the money (for a much smaller population). Were Russia global economic crisis, but the market holds strong to follow Chile's path, by 2030 this could be a potential for the medium term as real income begins market worth over $1 trillion (the one trillion figure to recover. is if Russia followed Chile's path exactly, an unlikely Many factors holding back the market are being outcome in the near future, but even so, a moderate addressed, albeit slowly, such as: non-risk insurance increase from the current 3% of GDP that pensions ?schemes? have been attacked by regulatory make up would be a huge opportunity) authorities. Regulatory requirements for insurance Barriers to entry. There are significant barriers to entry. company capital and solvency are being raised, Bureaucratic listing and accreditation requirements scarcity of skilled personnel (actuaries, underwriters, take a huge amount of time, money and leg work to claims, handling specialists, top managers) is less acute clear. Russian accounting standards, used as well as than in the past. IFRS, add to operating costs. And the lack of Continuing Concerns. Some of the factors holding awareness of pension products in the general back the market still remain: ownership structures population make realising these opportunities an are not transparent and corporate governance is still uphill struggle. weak, under-developed broker sector, unfavorable tax Opportunities for UK business. For many Russians treatment for brokers, lack of efficient distribution private sector (pillar 3) pensions will need to networks, lack of trust in financial institutions more become an increasing part of their retirement plans. generally. The personal investment funds set up by the state, provide some opportunities for UK firms. While Legal Services individuals are free to invest this money in a range of The Russian market is dominated by international products, in practice only 5% do so leaving 95% in the law firms, mainly because the most popular law in default, low yielding, government account. With Russia is English Law. In M&A 80- 90 per cent of around $4 billion accrued so far in these individual large transactions use UK law. Loan agreements accounts, better education and utilisation of this could are often in English Law. So UK law advice is in big provide a fair income stream to the private sector as a demand. Foreign firms brought knowledge, improved relatively easy win. standards and a sense of bigger picture but this has also led to market saturation. There is a tendency for things Insurance to be overcrowded in Russia. There are over 700 insurers but the top 10 collect Opportunities. The Russian market generates many up to 54% of Gross Written Premium. In 2009, the large contracts utilizing English law to facilitate number of insurers reduced from 786 to 702 - one international transactions and arrangements. There are reason being that the requirements of minimum therefore significant opportunities for UK legal firms capital have been raised. Interfax states that the new to enter the Russian market or to form alliances with requirements to the minimal size of the charter capital existing domestic players. of insurance companies will leave only 45-50% of Restrictions. Discussion currently underway in the companies in the market, although this will not have Russian Ministry of Justice concerning rights of a depressing impact on the insurance market as a audience could create previously unseen restrictions whole because a little over half of the companies on international lawyers in Russia. The nature of the secure 92% of the aggregate premium collection. The proposal is opaque, but new regulations are expected to bill (passed on 14 April 2010) increased the minimal stipulate that lawyers with rights of audience be required size of the charter capital of general insurance advocates and register with the local bar. The measure UK Trade & Investment Sector Briefing: Financial Services opportunities in Russia     is being billed as improving regulation in Russian legal issues in coming 6 mths in Russia: one for a foreign profession. company and one for a Russian company. Sberbank is UK legal companies in Russia. Legal companies such actively engaged in preparing those projects and as Allen & Overy, Clifford Chance, Freshfields, believes issuance of RDRs will be a key step in Linklaters, as well as other major legal firms, e.g. SNR creating an international financial center in Russia. Denton, Lovells, Herbert Smith, Baker & McKenzie all have significant presence in Russia. In February 2011 it was announced by the deputy minister of finance that Russia is preparing a RUB 60bn (USD 2bn) RUB-denominated Eurobond issue Capital Markets in the nearest future due to favorable conditions on Capital markets in Russia are between 1/2 and 2/3 the foreign debt market. The Ministry?s goal for the of the size of emerging market peers, therefore there Reserve Fund and National Welfare Fund should are considerable opportunities for growth. remain untouched in 2011, while federal budget deficit There are two main stock exchanges in Russia: RTS is covered from foreign and domestic borrowings. In and MICEX. RTS is privately owned, while MICEX is 2010 Russia issued USD 2bn worth of five-year owned by the Central Bank of Russia (30%) and the Eurobonds yielding a coupon rate of 3.625% and rest of private investors. On the 1st of February a USD 3.5bn worth of ten-year Eurobonds yielding a Letter of Intent was signed between shareholders of coupon rate of 5%. Russia placed the sovereign RTS Stock Exchange and MICEX indicating in a non- Eurobond on the international market for the first time binding way the intention of the MICEX shareholders after almost a 12-year break. Experts believe the bond to acquire a controlling stake in RTS. The LOI issue is a key test of foreign investor appetite for provides for fixing legal and business terms of the deal Russia. subject to approval by all the interested parties by the Opportunities for the UK. Promotional opportunities: 15th of April 2011. By this time a plan will be drawn possible development of the international trading of up setting a timeline for the deal stages and detailing Bonds via London; possible development of cross how the joint entity will look like. A prospective border 'over-the-counter' derivatives markets between merger of the two major market operators is called for London and Moscow. by the ambition to build a powerful exchange infrastructure in Russia that would meet the needs of mark Accountancy et participants and would be competitive on the international level. With the strengthening of the regulatory regime as Current topics. The key issues are currently: Equity well as increased business activity, auditing services IPOs: London remains to be the first choice of are in greater demand. Russian accounting rules destination for Russian companies to raise money (?RAR?) are not yet in line with international financial abroad. In November 2010 London Stock Exchange reporting standards ? there is gradual harmonization. welcomed Russia's largest rail freight operator, An annual statutory audit is mandatory for all Transcontainer to its Main Market. Transcontainer, companies meeting certain criteria, including banks and which raised $400 million at admission, is the third other credit institutions, insurance companies, Russian company to join the Main Market just in one commodity and stock exchanges, investment funds, month (November 2011), taking the total money charitable and other (non investment) funds. However, raised by new Russian companies in November to in contrast to Western norms, consolidated accounts over $1.7 billion. Leading food retailer O'KEY and are treated as secondary to stand-alone statutory Internet company Mail.ru, also both conducted financial statements of a company and are often not successful IPO's that month, raising $420 million and prepared; consolidated accounts are also not subject to $912 million respectively. It is a clear sign of recovery mandatory statutory audit. from the crisis. As for International IPOs in Moscow, International Presence. Aexander Voloshin, the head of the working group in The Big Four dominate the accountancy market. In charge of creating the International Finance the professional training arena, the Association of Center in Russia expects large international IPOs in Chartered Certified Accountants (?ACCA?) is the Moscow within the next couple of years, maybe a most well known and established organisation in little earlier. Moscow is a city where no large Russia. Other organisations, such as the Chartered international-level IPO has ever been held. A lot Institute of Management Accounting (?CIMA?) and remains to be done to develop the financial sector in the Institute of Chartered Accountants of England and Moscow. Russian Government is taking the following Wales (?ICAEW?) have begun to establish themselves steps: plan to improve the legislation, regulation, in Russia. develop financial infrastructure, and improve corporate governance, plan to improve tax PPP legislation, judicial system reform as applicable to In order to meet the infrastructure improvements the financial industry. required by the Russian government and its population, In September 2010 the major Russian bank the implementation of Public-Private Partnerships Sberbank announced its plans to organize two RDR UK Trade & Investment Sector Briefing: Financial Services opportunities in Russia     (?PPPs?) is becoming increasingly important within   social and industrial infrastructure projects at the federal, regional and local levels. The Russian UKTI contacts government is keen to develop PPP projects, given the major infrastructure projects planned for the next UKTI Moscow: decade. The next step for Russia is to utilize PPP for smaller projects and in new sectors; education and Fiona Kushvid health (particularly kinder gardens and school). Team Leader, Financial and Legal Services Four such projects are currently on the implementation British Embassy in Moscow stage. Tel: 007 (495) 956 7458 Opportunities Email: Fiona.Kushvid@fco.gov.uk There is an opportunity to share UK experience and expertise in this sector. Tatyana Kononova St Petersburg is piloting the only current PPP UK Trade & Investment Adviser, Financial and Legal projects in Russia as part of the city?s drive to Services develop its economic capacity. The latest PPP project British Embassy in Moscow approved in St. Petersburg was the Yanino PPP waste Tel: 007 (495) 956 7214 processing plant (a Greek company won the tender).. Email: Tatyana.Kononova@fco.gov.uk Among other PPP projects in St.Petersburg are: Pulkovo airport, Light Tram, West Speed Diameter. UKTI St. Petersburg: Those projects are on the implementation stage. The bidding for those projects involved construction Tatyana Raudson companies from Europe, the United States and Senior Trade & Investment Adviser, Financial and Australia; UK involvement has been mainly within the Legal Services legal and technical advice arenas, although a UK British Consulate-General in St. Petersburg company was awarded the architectural remit to design Tel: 007 (812) 320 3227 Pulkovo airport in September 2007. E-mail: Tatyana.Raudson@fco.gov.uk Major events and activities UKTI Ekaterinburg: Lord Mayor visit to Russia Yulya Alekseyeva The Lord Mayor of the City of London, Alderman Senior Trade & Investment Adviser, Financial and Michael Bear, will vist Russia 26 June ? 1 July Legal Services 2011. Seminars, high-level meetings and British Consulate-General in Ekaterinburg networking events will take place throughout the Tel: 007 (343) 2535604 visit. If you would like further information on the Email: Yulya.Alekseyeva@fco.gov.uk events planned or are interested in applying to join the accompanying business delegation please contact a member of the UKTI Russia team. UKTI London: Financial & Legal services seminars and visits. Jeff Sinclair Major activities coming up include: a visit by Strategy Manager (Europe, Russia & CIS) Richard Alderman, Director of the UK Serious Financial Services Sectors Group Fraud Office (May 2011); English Law Week in UK Trade & Investment, London Russia (June-July 2011).   Tel: 020 7215 8406 Email: Jeff.Sinclair@ukti.gsi.gov.uk Please contact a member of UKTI Russia team if you would like further information on speaking and sponsorship opportunities.         UK Trade & Investment Sector Briefing: Financial Services opportunities in Russia    
Posted: 24 February 2011, last updated 28 February 2011

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