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Russia & CIS Express Quarterly bulletin from PwC’s Russia & CIS Business Centre Autumn 2009Special Feature – Retail & Consumer Industry

In this issue

Welcome •

Retail and consumer industry•

The rewards of Russian retail•

Retailing in Russia, hit hard by the crisis, •but a good time for foreign entrants

Deal activity in Russia looks set to increase•

Cyprus: Gateway for Russian and CIS •companies to the London Capital Markets

pwc

PricewaterhouseCoopers in Cyprus•

Prospects for Russia•

Doing business in Russia’s regions: •An exciting challenge or a slippery slope?

Doing business in the UK•

Key facts and figures: Armenia•

News from the Russia •& CIS Business Centre

Welcome

Russia & CIS Express 2

In recent months, the impact of the financial crisis on countries around the world has become clearer. Some political leaders and economists are reporting evidence of the so-called green shoots of recovery. At first glance Russia does not appear to be amongst the leaders in the recovery having experienced a substantial fall in economic activity year-on-year. However, the last quarter gives reason for measured optimism with improvements reported in industrial output, and stabilisation of unemployment. The more optimistic are now forecasting that Russia will be back on a growth path at the end of 2009 or by the first quarter of 2010.

In the last 10 years, Moscow has developed from a retail nightmare to a retail paradise; smart trendy boutiques now occupy premises that in the Soviet days were bakeries and bookshops.

The ring road encircling the city of Moscow is now home to many shopping centres (or malls) where only 10 years ago the vast Russian wilderness appeared to begin. In this edition of the Express we have a focus on the retail sector with contributions from experts in our London and Moscow offices.

As those familiar with investing in Russia will know Cyprus is a near mandatory stopover for investment passing in and out of the country. But many people know surprisingly little about Cyprus and its economy; we have an article that provides readers with some background on this strategically situated island in the Mediterranean.

On the back cover we are promoting our online survey designed to assess attitudes towards investing in Russia. The survey may be accessed from the PwC website and takes only a few minutes to complete. We would be grateful if you would provide your responses and encourage others to do the same.

We hope you enjoy this edition and look forward to continuing to work with you as you evaluate and implement investment in Russia and the CIS region.

by the editor of Russia & CIS Express

Nick Page PricewaterhouseCoopers LLP (UK) [email protected]

Russia & CIS Express3

As the head of the UK Retail and Consumer team, I’m rather more at home in the UK High Street than the Russian retail park, but when I look at how the sector functions in Russia the unexpected similarities are often more striking than the predictable differences. After all, it wasn’t that long ago that this was a market characterised by outdoor markets and kiosks, and the long queues that were the inevitable consequence of erratic distribution and chronic supply shortages. These days every big Russian city boasts state-of-the-art retail parks and edge-of-town malls, which offer restaurants and entertainment, as well as an array of Western brand names, both inside the store and over the door.

That said, looks can still be deceptive. The names may be the same but the infrastructure that that supports them is far more challenging to manage than in a typical Western European market, and the sheer size of the country means that distribution logistics are complex and often unreliable. UK and European retailers have already had some notable successes in Russia, but many of them have done this by working in close partnership with local operators. Choosing that partner is often the single most important success factor for the whole endeavour

In the UK the High Street is still struggling with the effects of the downturn, and it’s interesting to see how this is playing out in Russia. Some commentators had predicted that Russian retail spending would be buoyed by low levels of consumer debt, and a deep distrust of the banking system, which have tended to encourage spending rather than saving in the past. However, a combination of a sharp economic downturn and falling oil and commodity prices have hit the market hard, and one result has been the same sort of shift to value-for-money operators that we’ve seen in the UK, especially in food. Retailers in Russia are also facing exactly the same need to improve like-for-like performance as their peers in the UK. But just as we’re seeing in the UK, the strongest operators are likely to come out of this recession even stronger.

Special Feature

Retail and consumer industry

Mark Hudson, Partner, Head of Consumer & Retail PricewaterhouseCoopers LLP (UK) [email protected]


An exciting opportunity

The Russian retail market is exciting and dynamic despite the financial crisis. It has the potential to be the largest in Europe with a population of around 142 million consumers. The unconsolidated nature of much of the retail market provides ample opportunity for foreign entrants, with Moscow and St. Petersburg being the most popular locations for starting out. More established foreign players are now also expanding into the regions.

How to enter such a market?

There are a number of models that can be used to access the Russian market. Choosing the correct one depends mainly on the size and scale of the operation.

The franchise model is favoured by many foreign retailers, especially in the clothing sector as this reduces costs and risks, but gives access to local knowledge through the franchise partner. This route is not however without risk and appropriate due diligence of the partner should be carried out initially.

An owned and operated model has been used by many of the big box operators such as Metro and IKEA. They operate large retail units, which due to the size often work best when owned by the multiple. Wal-Mart is rumoured to be entering the market by acquiring some of the smaller domestic food retailers. This route to market allows the access to valuable local market knowledge and economies of scale from the start which is vital for these larger organisations. It buys a retail footprint from the start.

Barriers to entry

There are many pitfalls to be aware of when retailing in Russia. The country is notorious for its lack of

transparency, bureaucracy and often inconsistent legislative framework especially around new store openings, product certification and advertising taxes. Some companies hire security firms who deal with all payments required to remain operating and use partners to lead complex local negotiations.

Staff recruitment can be problematic, even though the general standard of education in Russia is good. In particular obtaining managers for retailers is an issue as domestic retailers are able pay many times the market rate to snap up the limited supply of good people.

One of the largest issues to growth in Russia, especially for national expansion is the aging infrastructure. With 11 time zones and a land mass larger than Europe, moving goods across the country can take a week with temperatures ranging from minus 40 degrees to plus 40 degrees. Some retailers choose to outsource this function, whilst others will develop in-house capability. In September 2008 Metro opened its first logistics centre near Moscow to supply its Cash and Carry, Real hypermarkets and Media Markt electricals outlets.

Success stories

It’s useful to look more specifically at companies that have entered the market successfully.

IKEA first launched in Russia in 2000 and had a bumper first year with sales over $100m putting it in the top ten grossing retailers in the country. IKEA now has 11 stores including three in Moscow, two in St-Petersburg and the remainder in cities with more than 1 million inhabitants such as Kazan and Nizhniy Novgorod. The future strategy is to focus on smaller cities in the regions, especially by being an anchor unit in the Mega Mall shopping centres

The rewards of Russian retail Walking down the main shopping streets and retail parks in the Russian Federation the Western European shopper can often feel more at home than expected, with a host of foreign retail entrants including Metro, Karen Millen, Auchan, Castorama, Jane Norman, Peacocks, Topshop and River Island.


around the country (which IKEA owns). Despite some difficulties with a lack of regulatory transparency and bureaucracy, Russia remains one of the most successful markets for IKEA.

Metro entered the market in 2001 in Moscow and now has 74 stores nationwide under its Cash and Carry, Real hypermarkets and Media Markt fascias. Metro was one of the first foreign retailers to enter Russia and has maximised on the first mover advantage, with its previous experience of operating in Eastern Europe and elsewhere worldwide, Russia was a logical next step. Wholesaling, through Cash and Carry, has proved very successful for Metro and its main vehicle for growth. Media Markt, its consumer electronics chain, was the latest brand to be launched in December 2006 in Moscow. Further stores quickly followed in St Petersburg and now in the regions of Rostov-on-Don and Samara. To do this they are leveraging off the supply network established with Cash and Carry.

Future

Much of the future pipeline of retailers entering Russia is concentrated on the clothing sector. The Spanish fashion giant Inditex has seen sales growth of 64 percent since its first store in 2008. This is without a franchise partner which is in contrast to the usual route for clothing retailers. Gap opened Gap and Banana Republic fascias in late 2008 under a partnership deal with Fiba Holdings, who they already have a successful agreement with in Turkey. Fast Retailing’s Uniqlo and Hunkemöller, part of the Dutch Maxeda Group are also looking to expand into the Russian market.

In grocery, the European hard discounters are yet to enter the market due to expected tough competition from local players. Giants Aldi and Lidl are both contemplating a move but with no plans yet in place until the market recovers.

In conclusion, the Russian retail market represents an exciting opportunity right now for foreign players in all sectors, particularly clothing. There are many pitfalls to entering the market with the complex legislation that exists, but for those who overcome them the rewards are definitely worth it.

Andy Garbutt is Retail and Leisure Director at PricewaterhouseCoopers LLP (UK) and has worked with over 60 UK and European retail and leisure companies. He can be contacted at [email protected]

Retailing in Russia, hit hard by the crisis, but a good time for foreign entrants

The Russian retail paradise

The Russian retail market was considered to be a retailer’s paradise. Russian consumers like to spend, they were rapidly becoming wealthier and over 70% of the 142 million live in urban areas, making them accessible for retail chains. As a result there was strong growth across all retail segments driven by rising incomes, low retail penetration, especially outside of Moscow and St. Petersburg and low consolidation in most segments (e.g. food retail top 5 below 10%).

This resulted in revenue growth figures of more than 50% per year due to both strong like for like sales growth and rapid store roll-out. In addition, profitability of retailers was relatively high with 6-10% EBITDA margins for the largest grocery retailers like X5 Retail Group and Magnit mainly as a result of limited competition. The modern trade format especially hypermarkets quickly became popular among Russian consumers.

All non food segments also showed tremendous growth, for example the DIY segment or the consumer electronics retail sector, which has been growing on average by 20% per annum between 2000 and 2008 driven by disposable income growth and increased consumer credit availability as well as residential real estate development.

As a result of low consolidation in most of the segments, expected longer term growth, potential efficiency gains and a relatively liberal market environment, the retail


segment seems very attractive for larger foreign entrants and was receiving significant interest from international private equity players who also noticed this.

Surprisingly the presence of large international retail chains has been relatively limited to date. The DIY and furniture segments are dominated by internationals like Castorama, OBI and IKEA, all with very successful formats and financial results. However, in food retail for example the share of foreign players is relatively small with only Metro, Auchan and the Rewe Group having significant positions with larger own developed formats (C&C and hypermarkets) and to date the consolidation that has taken place in the food retail segment has been driven by the Russian market leader X5. A number of foreign retailers have been testing the water over the years without coming to a final entry to date, partly due to high prices for existing retailers and real estate.

Impact of the crisis, bad for retailers, good for entrants?

The financial crisis in combination with the fall in oil and other commodity prices has hit Russia exceptionally hard. Most Russian retailers were expanding aggressively in a race to penetrate the market, entering a significant part of larger cities as soon as possible. This expansion was financed with debt and from the moment that Lehman Brothers failed, access to capital dried up and interest rates doubled. With leverage of 5-6 times EBITDA this had an immediate impact on the retailers. At the same time, the at least temporary fall in oil prices, driving rouble devaluation and rising unemployment, had a significant impact on consumer expenditure.

This became a real bump in the road for a Russian retail success story. Retail turnover went down by more than 8% in July 2009 (yoy in volume terms) with some retail segments like consumer electronics and DIY have been hit tremendously with declines in first half of 2009 of 15-30% and the speed of store roll outs has slowed down significantly.

Recent studies also show that in 2009 consumers started to trade down and switch retailers while becoming much more selective and price-sensitive. For example, the discount chain of the multi format X5 Retail Group became stronger and continues to gain market share, supported by their price leadership campaign while supermarkets of the same retail chain face a decline in customer traffic. For electronics retail the online sales channel is becoming increasingly important and key players already announced significant sales growth through their online stores, although not nearly enough to compensate for their losses in the stores.

Long term potential has not changed materially

In spite of the dour current conditions, stronger retailers show that they can still show healthy growth figures even in the current conditions, benefiting from weak competitors and the penetration potential. Market leaders are going

through turn-around, cutting costs, closing down inefficient stores, but still investing into market share expansion.

In addition, hardly anyone has doubts about the long term potential of the Russian retail market. The large customer base, low penetration of modern retail formats especially in Russian regions and strong longer-term growth make Russian retail one of the most promising sectors still to explore.

Furthermore, in terms of efficiency, there is still a lot of progress to be made, especially if you compare Russian retailers with their international peers. Typical issues for example are very high stock outs and an assortment that is too high; partially this is driven by a historic focus on revenue growth instead of areas such as cost and inventory management, store optimisation or private label development. Partially there is less experience in the local market with running larger retail operations. Therefore international retailers have the opportunity to bring in best practises, optimise the operations of existing chains and improve their margins.

In Russia this crisis will lead some retailers to significantly expand while the others will go bankrupt or loose their position. Most likely, the winners will be the current market leaders who have better access to credit and more stable businesses. In addition international companies could act as industry consolidators.

Entering after the crisis or now?

Although short term growth forecasts have gone down and financing may be more difficult to attract, this might be as good a time as ever to enter the Russian market. The willingness of Russian owners to sell their business has increased, sometimes encouraged by their banks and price expectations are coming down rapidly. In addition real estate has become cheaper and better available. As a consequence both the options, either to acquire or to develop have become more accessible and the choice between them will depend on the segment, the format and the risk appetite (and need for speed) of the foreign entrant.

Although it is clear that managing a retailer in Russia brings significant challenges, most of these challenges are not different from any other large emerging market, with still a significant unmet potential for years to come.

By Martijn Peeters, Strategy Director, PricewaterhouseCoopers Russia. Martijn advises both local and international corporates and private equity firms on organic and inorganic growth strategies in Russia and the CIS region. [email protected]


This turnaround had a direct impact on deal activity – deal activity slowed in the rest of the world, but fell off a cliff in Russia; the general consensus was that no-one knew how bad the situation in Russia would get, and investors simply shied away from taking the plunge.

However, in recent months the macro-economic environment in Russia has been stabilising and has shown signs of improvement, albeit with some fragility:

The Rouble has stabilised against the US Dollar and •Euro

The oil price stabilised•

RTS has stabilised•

Rouble to US Dollar and Euro exchange rates

Source: CBR

Brent Crude price and RTS Index

Source: http://tonto.eia.doe.gov/dnav/pet/hist/rbrted.htm and http://www.rts.ru/en/index/stat/dailyhistory.html?code=RTSI

Whilst Russian GDP has yet to stabilise, however many •commentators believe that the bottom has now been reached.

GDP - in current market prices (RUR in billions) % change Q on Q

2008 Q2 10,193.3 14.6%

Q3 11,639.5 14.2%

Q4 10,944.2 -6.0%

2009 Q1 8,482.8 -22.5%

Q21 7,558.2 -10.9%

1 Please note that the number highlighted has been calculated based on the 10.9% drop in the second quarter as reported by Reuters and Bloomberg, based on preliminary statistics from the Federal State Statistics Service.

Source: Federal State Statistics Service

Deal activity in Russia looks set to increase

It has clearly been a tumultuous nine months for the Russian economy – four key characteristics that have characterised the Russian economy in recent years (rising oil price, rising GDP, rising stock market, rising rouble) have been turned on their heads.

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The “bottom” of each of the metrics shown above was in the February and March 2009 time frame; since then the position has clearly improved.

Deal activity (measured by the number of announced date, and excluding state-backed deals) has followed these macro-economic indicators; deal activity has fallen considerably since mid 2008.

Deal activity – June 08 to Aug 09

Source: Mergermarket and PwC analysis

During the crisis, Russian deal activity has fluctuated at around 5-10 deals per month. Deals have taken placed across most sectors with some concentration, unsurprisingly, in the oil & gas sector.

Whilst the macro-economic environment is clearly better, the number of announced deals has not yet increased. However, we are aware that some investors have been keeping a watchful eye on Russia, waiting for things to stabilise, before taking their plans forward.

We are now seeing anecdotal evidence that investors are beginning to re-enter the market – particularly those investors who see the long-term opportunity of being in Russia. These investors believe that this may now be a perfect time to buy in Russia:

Andrew Cann, Transaction Services Director, PricewaterhouseCoopers Russia [email protected]

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After a turbulent period the macro-economic •environment is stabilising;

Sellers’ price expectations are lower than before the •crisis;

There is less competition than before for good •assets; and

Deal time lines have shortened. •

For those used to doing deals in Russia, the characteristics of lower sellers’ price expectations, less competition for good assets and shortened deal times are certainly unusual; deals in the past have been difficult to sign and close, largely due to awkward sellers seeking to extract the best price and best terms (sometimes unrealistically) during a sales process.

In the current environment sellers are now more keen to close deals in order to secure terms – anyone who has tried to do a deal in Russia during the boom times will know how much of a turnaround this is. Buyer’s interests are also aligned to closing quickly – they realise that there is a real threat from an improving economic environment driving price expectations up again.

Should the macro-economic situation remain stable, we are expecting to see a pronounced increase in deal activity in the next few months.


The implementation of wide ranging structural and legal reforms has provided more credibility and transparency to Cyprus and has strengthened its relevance in the European, and more specifically to the London, capital markets scene.

With its strategic location, favorable tax regime and business environment, well developed commercial infrastructure, strong banking sector and multilingual and highly skilled manpower, Cyprus has rightly emerged as one of the most favoured holding company jurisdictions worldwide.

Russian and CIS companies traditionally reap these benefits by selecting Cyprus to host their investment holding company. The next step is to use it as a gateway to efficiently and effectively access the European Capital Markets, especially London, the most important and lucrative one. This is even more relevant and feasible now with the integration and harmonisation of the European Capital Markets to which Cyprus is an integral part.

The main characteristics of Cyprus that establish it as a gateway for Russian and CIS companies to the London Capital Markets are outlined below:

An excellent tax regime for holding companies

As a holding company location, Cyprus is a natural choice since it is possible for income to be collected by a Cyprus company tax free. In addition Cyprus offers very effective and quick tax free exit route to investors.

The Cyprus tax system offers full participation exemption on dividend income and on gains on disposal of shares without the imposition of any conditions.

An investor can therefore invest in Russia and the CIS through a Cyprus holding company. Profits can be distributed to the Cyprus company from the Russian and CIS subsidiaries with the very low withholding taxes permitted under the beneficial bilateral tax treaties. In

Cyprus dividend income will be exempt from taxation and, repatriation from Cyprus to the EU investor will be tax free since Cyprus does not levy withholding taxes on distributions to any persons outside Cyprus. The reverse, is also possible, a non EU investor wishing to invest in the European market, taking advantage of the EU Parent-Subsidiary Directive to eliminate withholding taxes from the EU subsidiaries on dividend payments to the Cyprus holding company.

In summary the main benefits of the Cypriot tax system include:

Lowest corporate tax rate in the EU – 10%; •

Full tax exemption of disposal of titles (shares, bonds, •debentures etc) and rights thereon (options, futures etc);

Full participation exemption on dividends and profits •from permanent establishments outside Cyprus;

No thin capitalisation rules (companies can be funded •by 100% debt) and no Controlled Foreign Corporation rules (CFC rules);

Unilateral tax relief for foreign tax credits (and possibly •underlying tax);

Losses carried forward indefinitely;•

Group relief available (companies that are part of a •group, can consolidate their results, thus allowing losses of one company to be set off against profit of another company);

Mergers, acquisitions and spin offs, can be effected •without tax cost;

Zero withholding taxes to non-residents;•

No exit costs;•

Fully compliant with EU and OECD rules;•

Application of all the EU Directives; and•

A wide network of double tax treaties with countries in •the CIS region as well as some favourable treaties with Eastern European countries.

Cyprus: Gateway for Russian and CIS companies to the London Capital Markets

Strategically located at the crossroads of three continents (Europe, Asia and Africa), Cyprus has always played a major role as an international business and financial services centre. Following its accession to the European Union (“EU”), in May 2004, this position has been enhanced further.


A transparent and reputable financial centre

Tax legislation is fully EU and OECD compliant and anti money laundering legislation, data protection laws and competition laws are in line with EU law.

Cyprus is on the OECD list of countries that fully implement the internationally agreed tax standard published on 2 April 2009.

Cyprus’ economy and infrastructure

Economy

The existence of a healthy economy and public finances always reduces the pressure on any government to increase taxes. Cyprus enjoys a healthy and robust economy displaying comparatively better economic indicators than the EU average.

In 2008, Cyprus’s real GDP growth was 3.7%, compared to the EU average of 0.8% (Source: Eurostat). Despite the global economic downturn, Cyprus is expected to continue to show real GDP growth in 2009 at 0.3%, compared to the expected contraction of the EU average by 4% (Source: Eurostat).

Despite applying a lower uniform tax rate of 10% in 2003, Cyprus has managed to gradually decrease the Central Government Deficit, which stood at €763 million (6.5% of GDP) in 2003, even achieving a surplus of €537m in 2007 and €167m in 2008.

Cyprus also boasts low unemployment, which at 5.4%, as at June 2009, is below the EU average of 9.4% (Source: Eurostat).

The main economic indicators for Cyprus are shown in the table below (see Table 1)

Transportation

Currently Cyprus is served by 33 international airlines offering over 1,100 scheduled flights per week, not including charter flights. This will increase in the near future with the opening of the new airport in Larnaca in November 2009. There are daily direct flights to a number

of major international destinations including London, Moscow and Dubai.

Telecommunications

Being served by a number of advanced technology submarine cables and seven satellite earth stations, Cyprus is connected globally with an advanced and reliable communications network. This allows businesses located on the island to pursue their everyday international activities with ease.

Foreign Direct Investment (“FDI”)

Cyprus has developed into a major player in relation to FDI into countries of the CIS region and Eastern Europe. As at 2008, Cyprus was the number one investor in Russia and Ukraine with 22% of total FDI in both countries. Statistics relating to 2009 show that Cyprus maintains its position in terms of being the number one investor in Russia and Ukraine. Cyprus also ranks high in terms of FDI in countries like Belarus (4th), Bulgaria (6th) and Slovakia (7th).

“Cyprus is the biggest investor in Russia and Ukraine”

Financial reporting

International Financial Reporting Standards (“IFRS”) have been the Generally Accepted Accounting Principles (“GAAP”) in Cyprus for over three decades and there is substantial local expertise in this area. In addition, the preparation of financial statements in the English language is common practice. This provides more transparency and efficiencies to international users of the financial statements.

The recent developments requiring all public listed European entities to prepare their financial statements in accordance with IFRS give an advantage to Cyprus registered entities since:

Cyprus holding companies can list their shares in any •European stock exchange without any conversion work, which is usually costly and creates delays; and

Cyprus subsidiaries of listed entities are not required •to keep two sets of records (one in local GAAP and one in IFRS).

Table 1: Key economic indicators 2005 2006 2007 2008 2009*

Inflation rate 2.0% 2.3% 2.2% 4.4% 0.9%

Unemployment rate 5.3% 4.6% 3.9% 3.7% 4.6%

Gross Domestic Product (€ millions) 13,462 14,435 15,596 16,948 17,203

Gross Domestic Product (real Growth) 3.9% 4.1% 4.4% 3.7% 0.3%

Gross Domestic Per Capita (€) 17,765 18,683 19,860 22,268 22,401

General Government Balance (€ millions) (326) (173) 537 167 (177)

General Government Balance (% on GDP) (2.4%) (1.2%) 3.4% 1.0% (1.0%)*Figures for 2009 represent estimates made by the International Monetary Fund.

Source: International Monetary Fund, World Economic Outlook Database, April 2009.


In addition to the above, many accounting professionals in Cyprus are UK trained and members of either the Institute of Chartered Accountants of England and Wales or the Association of Chartered Certified Accountants.

Auditing

Auditors in Cyprus apply the International Standards on Auditing (“ISAs”) in carrying out audits of financial statements. Similarly to IFRS, ISAs have been the auditing standards in Cyprus for over three decades and substantial local expertise has been accumulated over the years.

On a note specifically relating to the London Capital Markets Scene, local accounting professionals are familiar with the Standards for Investment Reporting used in the London capital markets.

Favorable legal and regulatory environment

The Cypriot legal system has been structured on its English counterpart and is based on common law. English case law can be used as precedent in Cypriot courts since they have persuasive effect, especially in areas of law where there have not been any previous decisions made by Cypriot courts.

Cyprus company law and all statutes regulating business matters and procedures are based essentially on English laws. In addition a significant number of legal professionals that practice law in Cyprus are UK trained providing an insight and deep understanding of the UK legal regime.

The application of EU laws and regulations, known as the Acquis Communautaire, as well as the harmonisation of the European Capital Markets regime provide great additional prospects for Cyprus by giving it credibility as an international business centre and the opportunity to act as a gateway to the European Capital Markets.

Cyprus’ capital markets legislation is fully in line with the EU framework due to the adoption of the relevant EU directives, like the Transparency, the Market Abuse, and

the Prospectus Directives. The Cyprus Regulator, the Cyprus Securities and Exchange Commission, is a member of the Committee of European Securities Regulators (“CESR”) and follows all of CESR recommendations on the application of the Prospectus Directive.

European Court of Justice decisions are binding in Cyprus and local laws are in line with Data Protection, Competition and Anti Money Laundering laws and regulations of the EU.

The aforementioned facts and the changes that occurred to the Cyprus legal and regulatory environment, since the accession of the island to the EU in 2004, have provided more credibility and transparency to the local legal system which is now at par with its EU counterpart.

Cyprus companies listed on London capital markets

In recent years, a number of Cyprus companies have successfully listed on the London Stock Exchange (“LSE”) and Alternative Investment Market (“AIM”) in London. This trend is expected to continue and even be enhanced in the future. The table above illustrates examples of Russian and CIS companies, incorporated in Cyprus, that have listed on LSE and AIM in recent years: (See Table 2)

Conclusion

Since its accession to the EU in 2004, Cyprus has matured as an International Financial Centre. With greater credibility and transparency Cyprus provides a gateway for international businesses investing in Russia and the CIS, and for Russian and CIS companies accessing the international capital markets.

Table 2: Russian and CIS companies, incorporated in Cyprus, listed on the London Capital Markets

Company Stock Exchange

Date of joining

Main countries of operation Industry

Globaltrans Investment Plc LSE 08/05/2008 Russia and Ukraine Freight rail operator and rail card leasing

AISI realty Public Plc AIM 01/08/2007 Ukraine Real estate holding

AFI Development Plc LSE 11/05/2007 Russia, Ukraine and CIS Real estate holding and development

Mirland Development Corporation Plc AIM 08/12/2006 Russia Real estate holding

Teleset Networks Plc AIM 12/10/2006 Russia Fixed lines telecommunications

XXI Century Investment Public Limited AIM 16/12/2005 Ukraine Real estate holding and development

Urals Energy Public Company Limited AIM 09/08/2005 Russia Exploration and production of oil

Source: www.londonstockexchange.com

Cleo Papadopoulou Tax Partner, PricewaterhouseCoopers Cyprus [email protected]


PricewaterhouseCoopers in Cyprus

The main business areas in which PwC Cyprus advises are the familiar areas of audit and assurance, corporate and personal taxation and consulting services. In addition, PwC Cyprus has two further active areas of advice: Global Compliance Services (GCS) and Corporate Support Services (CSS).

GCS and CSS have developed in response to client demand and effectively include any assistance international clients may need in setting up and operating Cyprus-based as well as offshore investment and holding companies. These areas have grown rapidly in recent years, especially following the EU entry in 2004, which helped establish Cyprus as one of Europe’s most attractive jurisdictions. The services offered (summarised below) are likely to be of particular interest to businesses investing in the Russia and CIS region.

The firm has invested heavily in the two above areas – client service teams are diverse and comprise professionals from many different countries and backgrounds, including chartered accountants, lawyers specialising in corporate law and other business matters, tax specialists and corporate financiers with extensive deal experience, all working together with colleagues from other PwC firms to help international clients achieve their objectives. As some of you know, Tony Hadjiloucas, until recently with Advisory in London, is now a GCS partner in Cyprus and focuses on helping clients in facilitating cross-border investments between the UK and Russia/CIS via Cyprus structures.

Global Compliance and Corporate Support Services

Corporate Statutory Compliance: Assisting in the selection and formation of the appropriate business entity or trust, providing registered office facility and maintaining statutory records and control of filing deadlines, handling minutes of directors’ and shareholders’ meetings, corporate changes and statutory filing requirements, preparing powers of attorney, contract drafting and support in connection

For more information about PricewaterhouseCoopers Cyprus, please contact Cleo Papadopoulou [email protected] or

Tony Hadjiloucas [email protected]

Or visit pwc.com/cy

with commercial agreements, including mergers and acquisition, real estate transactions etc.

Accounting and Administration Services: – Bookkeeping, bank reconciliations, logistical support on bank and cash, sales and debtors and purchases and creditors functions, periodic financial statements and reports for management and statutory purposes, assisting with tax and VAT returns.

Payroll Services: Registration of the company (as an employer) with the relevant authorities, effecting payments to employees and authorities, preparing tax and various other forms and returns, advising on regulatory and taxation issues affecting expatriate employees, employment contracts and employment law issues and assisting in obtaining work and residence permits.

Interim Staffing: Supporting the accounting, finance, and payroll functions in times of special need and substitution, on a temporary basis, of middle management in the financial and administrative areas.

Investment funds, schemes and firms: Supporting clients in preparing the constitutional documentation of such structures, applying to the Central Bank of Cyprus and implementing appropriate corporate structure and internal controls, where required, and assisting with ongoing regulatory reporting.

PwC Cyprus is an integral part of the global PwC Network and is an important linkage for investment into the Russia and CIS markets.

PricewaterhouseCoopers Cyprus is one the largest professional services firm in the country with approximately 1000 partners and staff. The firm has offices in four cities with the main offices in Nicosia and Limassol.


Exposure

Amid the global downturn, Russia has experienced the sharpest shock of the BRIC countries. It has primarily been hurt by the drop in commodity prices, especially for oil and gas, which are the lifeblood of its economy. As a result, Russia’s GDP has contracted sharply, with a 10.2% year-on-year decline in the first five months of the year; unemployment is close to 10%; and real wages and incomes are in a slump. The percentage of nonperforming loans could reach 12% of total loans by the end of the year, according to the central bank, and private analysts warn that the rate could go as high as 20%. High corporate debt levels suggest that widespread defaults are possible later this year.

Response

Maintaining social stability and preserving political capital are the primary objectives of Russia’s leadership. In order to achieve these goals, Moscow is focusing on stabilizing the banking system and spending for social programs. It has already pledged tens of billions of dollars to support the largest state banks. The Kremlin is also focusing on unemployment benefits, the pension program, and support for the regions (mostly in the form of social programs). But the Kremlin has not emphasized support for corporations. Economic liberals who control Russia’s response to the crisis recognise their limited resources and are willing to risk corporate defaults.

The Russian response involves a tradeoff that prioritizes short-term spending over longer-term growth. Budget

Prospects for Russia

The degree of economic distress in Russia is compelling Moscow to make short-term spending choices that are not optimal for the country’s long-term position.


categories that have neither grown nor been cut include infrastructure and high-technology, precisely the areas that Russia planned to emphasise during President Dmitry Medvedev’s term.

The Russian environment for foreign investment—marked by rigorous resource nationalism in the extractive industries, but relative freedom in the consumer and retail-oriented sectors—has not yet meaningfully changed because of the crisis. However, a shift to profits-based taxation for greenfield oil and gas production is on the horizon. Also, discussions are underway on loosening the terms of the strategic sector law and possibly reviving some form of production sharing agreements. To a modest degree, the economic downturn may, at least in the short term, alleviate the resource-nationalist model that Russia has pursued since the start of the Putin era.

Risks to watch

There are a serious number of risks for corporations that operate in Russia. First, the government will probably increase its role in a number of sectors. In the metals sector, for instance, the state may use the financial crisis to obtain long-coveted assets, such as Norilsk Nickel. Defaults will likely leave the state with a role in many sectors. And the state will closely regulate “vital” sectors such as the food industry. When the opaque Russian state is involved, risk goes up for private corporations. State-backed firms will probably have a competitive advantage and non-market regulations such as price controls could appear.

Second, the siloviki faction could win additional influence and take a more active role in policy formation. Leading members of this faction could, if the crisis is long and deep, gain more traction in elite circles. This scenario would produce a state-centric economic environment that is more opposed to, or at least uninterested in, foreign investors.

Third, Russia’s modernisation has been postponed. Infrastructure is old, most of it dating from the Soviet period. Roads, ports, and airports are generally in very poor condition, increasing transaction costs for business.

Finally, there is a small but real chance of social unrest in Russia if the government’s attempts to maintain stability fail. Already there have been protests, the most serious of which was in the company town of Pikalyovo near St.Petersburg. Several company towns in the regions are likely to experience unrest this year, which could disrupt supply chains. But Russia’s political temperature depends on the situation in major urban centers—especially Moscow, but also other cities with a population of more than 1 million. Given that there is no sign of discontent in these areas, the risk of unrest that would affect most corporations is minimal.

This material was produced by Eurasia Group in collaboration with PricewaterhouseCoopers. This is intended as general background research and is not intended to constitute advice on any particular commercial investment, trade matter, or issue and should not be relied upon for such purposes. It is not to be made available to any person other than the recipient. No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic or otherwise, without the prior consent of Eurasia Group. © 2009 Eurasia Group

Eurasia is a geo-political risk consultancy covering a broad range of emerging and frontier markets; it works closely with PwC on advising clients on monitoring and mitigating political risk.

For more information please contact Philip Worman [email protected]

Extract from: Eurasia Group Global Trends Quarterly, Third Quarter 2009. Published September 2009.


Many people who talk about doing business in Russia are sub-consciously thinking “Moscow”, as if the Russian capital were the equivalent of the whole country. But although Moscow is the heart of the Russian Federation, there is a large body around it. As Russian film director, Nikita Mikhalkov, once said to me, “Moscow is like a locomotive, but it is pulling a long train behind it”.

The carriages of this Russian train are in varying states of repair. Those which are rich in oil and gas, such as Komi or Tatarstan, have flourished since the collapse of the Soviet Union, especially in the pre-recession, high-oil-price years of the twenty-first century. Others, notably agricultural areas, must feel as if they have been de-coupled from the main train.

The Russian authorities have their own agenda for improving the lot of the less well-off regions, notably through the Priority National Projects, for Healthcare, Education, Housing and Agriculture. But those regions which are doing well, economic crisis notwithstanding, should act as magnets for foreign companies and capital.

In 2007, I visited the capital of Tatarstan, Kazan, for the first time in 15 years. The city was almost unrecognisable from the run-down, post-Soviet place I had been to three times around the time that the USSR disappeared. As well as the huge mosque which dominates the view of the Kremlin across the Volga River, new housing developments and the proliferation of expensive Western cars were testimony to the new prosperity.

But it is not only regions which are rich in mineral wealth which can be attractive to foreign investors. Earlier this year I visited a neighbouring republic to Tatarstan, Chuvashia. In 35 years of travelling to and in Russia I have never been anywhere so clean and tidy; its capital, Cheboksary, clearly a city whose population have a genuine pride in their home and a belief that a bright future is genuinely just around the corner.

The key factor in Chuvashia is the vision of the Republic’s President, Nikolai Fyodorov, shared by his Prime Minister, Sergei Gaplikov: show the people that we believe in them and are there to help them achieve their ambitions and together we will prosper. To take one vivid example: not only does the city boast a thoroughly modern medical

centre (by world standards, modern; constructed thanks to the Priority Project for Healthcare); the health system throughout the whole republic is computerised to an extent which would make a doctor in the UK’s National Health System green with envy.

Part of the problem for a British company to do business in the Russian regions can be knowing where to start. Local knowledge and contacts are essential, something which the Russo-British Chamber of Commerce can help to establish.

Nevertheless, a handy analogy when looking at the Russian business scene can be to compare it to skiing. If you are going to export, you have first to learn the basics; just as you have to be able to balance on skis before you can tackle a slope. Once you have the basic confidence, Moscow and St Petersburg are rather like the green slopes on which beginners learn how to go downhill whilst avoiding obstacles.

The next stage is to try the regions – oblasts – around Moscow and St Petersburg and the ten other cities which have a population over one million; these are like blue ski slopes. The more confident businessmen can move on to doing business in smaller cities and towns in European Russia, with the kind of challenges presented by red runs when skiing. And when you have the nerve for the black slopes, try to tackle Siberia and the Russian Far East!

Incidentally, even the most experienced skiers still have the odd tumble, and sometimes get hurt in the process. But the adrenalin rush from skiing, as from doing business with Russia, means that once you’re bitten by the bug you’re likely to keep coming back for more!

Stephen Dalziel is the Executive Director of Russo-British Chamber of Commerce. The role of the RBCC is to promote trade and cooperation between Russia and UK, helping companies in both countries to find trading partners and representing the interests of its member companies.

For more information please contact Stephen Dalziel at [email protected] or visit rbcc.com.

PricewaterhouseCooopers Russia currently has six offices: Moscow, Saint-Petersburg, Ekaterinburg, Yujno-Sakhalinsk, Kazan and Vladikavkaz. The firm also works closely with the administrations of Novgorod, Karasnodar and Sverdlovsk regions and issues investment guides to help investors understand the benefits and risks related to the investments in these regions.

For more information please visit pwc.com/ru

Doing business in Russia’s regions: An exciting challenge or a slippery slope?


Doing business in the UKDoing Business and Investing in the UK is now online

An essential guide by PricewaterhouseCoopers for overseas companies and individual investors considering or planning to do business or invest in the UK.

The guide provides insight into the key aspects of undertaking business and investing in the UK, from establishing an entity to dealing with employees. It has been designed so that you can go directly to any section that is of interest to you, or alternatively you can download the complete document. The sections, featuring in the guide include:

Legal matters

A review of the different types of legal presence, how to establish an entity and the duties of a UK director.

Taxation

An exploration of the UK tax regime as it applies to companies and individuals.

Regulation

An examination of aspects of compliance with UK and EU regulations.

Employees

A consideration of the obligations of employers in the UK, employment contracts, benefits, pensions and immigration matters.

Acquisitions

Reviews the various processes for acquiring shares in a public or private company and for acquiring assets and liabilities of a business.

Listing

Looks at the process for listing on the London Stock Exchange.

Other practical considerations

A brief examination of a range of practical issues from opening a bank account to dealing with intellectual property. It also explores the opportunities for attracting Government grants for your investment in the UK, where you can potentially get up to 50% cash injection.

Additional information

Useful checklists for the purchase of a ‘new’ company, UK grant initiatives and UK tax datacard 2008/2009 and budget changes 2009/10.

The guide will be updated periodically with the latest version available on investingintheuk.com


GeographyArmenia occupies a territory of 29.74 thousand square km. Armenia is a land-locked country. It borders with Georgia to the North, Azerbaijan to the South-West, Iran to the South and Turkey to the West.

Capital Yerevan, population 1.2 million

Population The population of Armenia is 3.08 million people (2008 census)

Language Armenian

CurrencyArmenian Dram (AMD) 1 USD = 385.88 AMD (28 September 2009)

Foreign trade

Armenia’s main trading partners are Belgium, Georgia, Germany, Iran, Netherlands, Russia, Switzerland, USA.

Exports include precious, semiprecious stones and metals, non-precious metals (i.e. aluminium, scrap), mineral products and processed agricultural products.

Imports include natural gas, petroleum, grain and consumer goods.

Leading industry sectorsIT Sector, Electronics & Precision Engineering, Mining, Chemicals & Pharmaceuticals, Jewelry & Diamonds Processing, Textiles & Clothing, Food Processing & Drinks, Tourism.

Inbound Foreign Direct Investment (FDI)

US$582.3 millions in 2007

Tax rates

Corporate Income Tax: 20.0%VAT: 20.0%Personal Income Tax: • Monthlytaxableincome0–80,000AMD:10%;• Monthlytaxableincome>AMD80,000:8,000AMD+20%oftheamountexceeding

80,000 AMD ( = USD 212.106 )

PricewaterhouseCoopers presence

Office in Yerevan since 2007

Good to know

According to the Bible (c. 1450 BC), Noah’s Ark landed in this region on the “mountains of Ararat or Urartu”. Extensive research has taken place on Mount Ararat (the highest mountain peak in Armenia) to locate the remains of Noah’s Ark, but its believed that its is buried under the ice cap or lava. There have been many expeditions, accounts, alleged sightings, anomalies, and claims of discovery involving Mount Ararat.

Source: Embassy of the Republic of Armenia, Armenian Development Agency

For further information about doing business in Armenia, please contact Alina Listopad at the Russia & CIS Business Centre.

This section features a different CIS country each time.

Next edition: Tajikistan

Key facts and figures: Armenia

Yerevan M O N G O L I ANORTHKOREA

SOUTH KOREA

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R U S S I A

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Khabarovsk

Harbin

Changchun

Beijing

Tokyo

Paris

Frankfurt

Prague

Nizhniy Novgorod

Kazan

Samara

Magnitogorsk Chelyabinsk

Yekaterinburg

Kirov

PermNizhniy Tagil

Orsk

Riga

Tallinn

Arkhangel’sk

Murmansk

Helsinki

Oslo

Donetsk

Yaroslavl’Smolensk

KaragandaSemipalatinsk

Dublin

Berlin

Krasnoyarsk

Tomsk

Irkutsk

Ulan-Ude

Ulaanbaatar

Yakutsk

MagadanPetropavlovsk-Kamchatskiy

Anadyr’

Nordvik

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Amderma

Tobol’sk

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Salekhard

Bratsk

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NagasakiQingdao

Shenyang

Vladivostok

Kyoto

Hakodate

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Baotou

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The Russia and CIS Business Centre has again been active in the last quarter and the following is a brief summary of selected activities.

Our Russia & CIS Business Centre is expanding

Executive forum on Increasing the Effectiveness of Russian Boards: the Role of Non-Executive Directors (NED’s)On 8 December 2009 the International Business Leaders Forum (IBLF), PricewaterhouseCoopers LLP and the London Stock Exchange will hold a forum for NED’s of Russian companies. The event will allow directors to explore the issues of transparency, management culture and the compatibility of business traditions with international standards. These are all crucial in contributing to the effectiveness of NEDs, influencing decision-making, minimising risks and enhancing reputation for both for the company and the NEDs. The participants will also have an opportunity to network, exchange ideas and learn from each others’ practical experience in Russia.

The meeting is open to NEDs of on boards of companies registered in Russia or by personal invitation from the organisers. If you are interested in the event, please contact Ekaterina Chernova.

News from the Russia & CIS Business Centre

Alex Bertolotti Russia & CIS Business Centre Leader PricewaterhouseCoopers LLP (UK)

020 7213 1253 [email protected]

Alina Listopad Russia & CIS Business Centre Manager PricewaterhouseCoopers LLP (UK)

020 7804 9398 [email protected]

For more information please email [email protected] or contact:

Ekaterina Chernova

[email protected]

Ekaterina joins us from PricewaterhouseCoopers Russia where she has been working in Marketing & Corporate Communications for over six years. Ekaterina will help the business centre work even closer with PricewaterhouseCoopers Russia for the benefit of our clients.

Diana Kull, LLM

[email protected]

Diana joins us from PricewaterhouseCoopers Germany, where she has been working within the Russian Business Centre for three years. Diana is both an Estonian and German lawyer and has also worked in the Legal Service of the Council of the European Union, dealing with taxation and financial issues. In Berlin, Diana provided legal advice to German and Russian clients in tax, company and commercial law with regards to their investment in Russia or Germany.

This publication has been prepared for general guidance on matters of interest only, and does not constitute professional advice. You should not act upon the information contained in this publication without obtaining specific professional advice. No representation or warranty (express or implied) is given as to the accuracy or completeness of the information contained in this publication, and, to the extent permitted by law, PricewaterhouseCoopers LLP, its members, employees and agents do not accept or assume any liability, responsibility or duty of care for any consequences of you or anyone else acting, or refraining to act, in reliance on the information contained in this publication or for any decision based on it.

© 2009 PricewaterhouseCoopers LLP. All rights reserved. “PricewaterhouseCoopers” refers to PricewaterhouseCoopers LLP (a limited liability partnership in the United Kingdom) or, as the context requires, the PricewaterhouseCoopers global network or other member firms of the network, each of which is a separate and independent legal entity.

Design hb04929

pwc.co.uk/emergingmarkets

Investing in Russia: full stop or full steam ahead?

You are invited to participate in the PricewaterhouseCoopers on-line survey aimed at understanding the attitudes and perceptions of UK and continental European companies towards investing in Russia in the current environment.

You will be able to read the results of the survey in the winter issue of the Russia & CIS Express in January 2010.

To complete the questionnaire, please go to pwc.co.uk/russia before 11 December 2009. For more information, please contact [email protected].

Is it easier to do business in Russia now than five years ago?

Will you develop business in Russia further?

Are you still considering investing in Russia?

Do you see new opportunities arising?

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