Renaissance cuts its teeth on a meaty deal

The flotation of a 28% stake in Cherkizovo, Russia’s biggest meat-producing company, nearly ended in disaster when Morgan Stanley pulled out of the management team on the eve of the initial public offering (IPO). Renaissance Capital, a domestic Russian investment bank, was left in the driving seat and, despite investors’ jitters and a frothy market, it managed to place the stock successfully in the first ever IPO on the London Stock Exchange managed exclusively by a local Russian bank.

A wave of Russian IPOs has hit both the domestic and international markets in the past 18 months after a soaring stock market drove up valuations to the point where owners have begun to tap their equity for investment capital.

The number of offerings has doubled every year since 2003. Last year, 13 Russian companies raised $5bn and this year at least 20 companies are due to debut in an estimated $17.5bn-worth of IPOs.

Consumer stocks welcomed

The huge increase in supply and ballistic rise of the Russian index has started to cause some “Russia fatigue”, warns Chris Weafer, head of strategy at Alfa Bank. But in a market that is traditionally dominated by oil companies, investors into Russia have welcomed the wave of consumer-orientated stocks that allow them to diversify away from the cyclical boom-bust of the commodity producing companies.

“The consumer sector in Russia is on fire. Despite investors’ indigestion with the number of supermarket deals, the sector is burgeoning on the back of rising incomes and spending,” says Andrew Cornthwaite, co-head of investment banking and finance at Renaissance Capital, who led the Cherkizovo IPO team.

The hype surrounding consumer company flotations has caused its own problems. Investors have been disappointed with the poor performance of some recent consumer company floats that were very aggressively priced. Lacklustre performance has been aggravated amid growing concerns that some companies are cutting corners on their corporate governance and financial reporting to boost their value artificially. At the same time, a massive sell-off in emerging markets that started in the second week of May has taken some of the hot air out of Russian valuations.

Cherkizovo raises chickens and pigs to produce the cold meats and kolbasa (sausage) that is a staple on every Russian dinner table. Igor Babaev, the patriarch of this family-run business, had an ambition to become the first agricultural business to IPO during Russia’s last boom in 1997, but the plans were abandoned a year later when the financial system went into meltdown.

Anton Cherny, director, investment banking and finance, Renaissance Capital

Although he missed out on the honour of having the first agricultural company to float, Mr Babaev’s ambition was reborn last year as Russia’s second stock market boom got under way. He approached several banks and, despite interest from Goldman Sachs, Morgan Stanley was the obvious first choice as a lead manager because the bank holds a very small equity stake in Cherkizovo, which is otherwise completely controlled by the Babaev family.

Renaissance Capital, Troika and Gazprombank were brought in as local partners, with Renaissance taking on most of the hands-on preparatory and restructuring work.

Management expertise

“We were on the look-out for quality consumer companies with a real business and a growth story. Meat is not the most glamorous business and I know that investors can be wary of family-run businesses, but Cherkizovo’s management team is one of the best I have seen in Russia,” says Mr Cornthwaite, who joined Renaissance from Credit Suisse First Boston, where he organised IPOs around for the world for more than 12 years.

Renaissance spent the next year restructuring Cherkizovo to get it ready for IPO. By Russian standards, the company was relatively simple to remake in a form recognisable to foreign portfolio investors: it is a Russian company, registered in Russia with Russian bank accounts, none of which is typical among Russia’s leading companies.

“This work is time-consuming in Russia and that is the advantage of working for a local specialist bank. With 400 people on the ground who have been at this for years, not only do they know the rules, but they know why the sometimes crazy rules are like that,” says Mr Cornthwaite. “This context makes all the difference because once you know what the authorities are trying to protect against, it makes complying with the rules much easier.”

The process came to a head at the start of this year when Cherkizovo made a nominal listing on the Russian Trading System – a prerequisite for Russian companies wishing to list abroad, though it is soon to be dropped. This is also when the problems started.

Both Morgan Stanley and Renaissance produced analysts’ reports. However, their valuations of the company differed significantly: Morgan Stanley put a $500m price tag on Cherkizovo whereas Renaissance maintained its value was between $900m and $1.5bn.

The difference between the two valuations blew up into a row and Morgan Stanley threatened to quit if the lower number was not adopted. After talking with both sides, Mr Babaev decided to stick with Renaissance’s higher valuation.

Difference of opinion

“Two things were going on in this deal. First, Morgan Stanley was under pressure to bring a company to market cheaply because investors were disappointed with the performance of [classified-advertising publisher] Trader Media East, after its float earlier in the year,” says a banker involved in the IPO who did not want to be named. “And the second thing was that Morgan Stanley’s analyst came over from London to make the assessment and simply couldn’t believe that a Russian company could be more expensive than a western European agricultural company.”

The departure of Morgan Stanley would put Renaissance’s reputation on the line. Now in the driver’s seat, it would have to produce buyers for the stock from the international market. Not only would it be the first time a Russian specialists bank led an IPO of a Russian company on the London Stock Exchange, but Renaissance had also challenged a major international bank’s ability to price a Russian company.

Things became even more complicated when Troika Dialog began to put pressure on Renaissance, says another banker. Troika said it wanted a significant increase in its share of the fees if Morgan Stanley quit the team, despite having done little of the preparatory work. But, more importantly, Troika wanted to be acknowledged as co-lead manager. It threatened to quit the team, which would do even more damage to what was being billed in the press as a “troubled” IPO.

“We were prepared to share more of the fees with Troika, but not the co-manager [role],” says Mr Cornthwaite. “We talked to Mr Babaev about it and to him it should make little difference – the cost remains the same. However, he saw that the concession of co-manager was not right.”

Morgan Stanley officially quit the team on April 26, a little less than a month before the slated IPO, and Troika announced its departure the following day.

The stakes had become really high. Investors, especially in the US, were unsettled by the departure of Morgan Stanley and the obvious disagreement among the management team over price. The Cherkizovo IPO had turned into a litmus test for Renaissance’s boast of being the “best investment bank in Russia”.

Oversubscribed

Cherkizovo was priced on May 9, fetching $15.25 per global deposit receipt (GDR) at the top of the asking price range. The issue was 10 times oversubscribed with total demand of more than $1bn for the $300m eventually sold, including the greenshoe. More than 80% of the buyers were international investors, with Russian investors making up the rest.

The issue price implied a market valuation of $904m for the company – the bottom of Renaissance’s range but way above Morgan Stanley’s estimate. On the first day of trading, the price rose 3%-5%, suggesting that the market agreed that Renaissance’s higher valuation was right on the money.

“What do you need an international bank for? We have an extensive sales team and top class research,” says Mr Cornthwaite.

“And Cherkizovo proved that we, as a local specialist, can also sell stock in the international markets,” he adds.