In the same week that Rosneft symbolically concludes the feeding frenzy on Yukos by acquiring the company’s 22-story Moscow headquarters from the shadowy front company, Prana, we are treated to the utterly surreal news that ratings agencies Fitch and S&P have both upgraded their outlook on this company's business profile to positive.
Such decisions are not only disappointing and reprehensible on a moral level, but actually pose significant dilemmas to the future credibility of global economic institutions.
Fitch and S&P have willingly ignored Rosneft’s long and firmly established record of playing outside the rules, and relying on the Kremlin to use arguably illegal tactics and regulatory/political pressure to advance its interests and outflank competitors. The ratings agencies have identified Rosneft’s recent acquisitions of major upstream and downstream assets as the central motive for upgrading their marks. However, if the acquisition of these assets is not accomplished by competition and managerial competence, than exactly what value are the rating agencies rewarding? Is there any credible analyst that actually believes that the state auctions of Yukos assets were free and fair? Even fewer analysts who are well versed in Russia’s business environment would deny that the seizure and subsequent potemkin auctions to pass the stolen properties to Rosneft were unconstitutional – the state was required under Russian law to sell non-core assets of Yukos first, but its refusal to do so highlighted the government’s role as a direct beneficiary of these measures.
The dilemma posed by these increased ratings is the message that it sends to corporations in emerging economies. Companies live and die on the market by the outlooks produced by these entities, and when certain tactics and decisions are viewed positively, it is an open encouragement to continue down the same path. In the case of Rosneft and Russia, Fitch and S&P have just welcomed the further dismantlement of transparency and rule of law, and the institutional approval of lawlessness and state intervention.
If the principle objective of ratings agencies is to provide shareholders with information and intelligence on how companies are being managed, it would seem to be extremely important that they support transparency measures. The following excerpt from a roundtable neatly summarizes the dilemma as it relates to Russia and state-owned companies like Rosneft:
“In stark contrast with these principles, the study revealed consistent differences in disclosure standards between the state-controlled and similarly sized public Russian companies. This is in line with the notion that transparency of state-controlled enterprises is hampered by the tendency of the Russian government and individual officials to use their influence on such companies to promote political or individual goals that often diverge from commercial motives and investor interests. High standards of transparency and disclosure, on the other hand, are a cornerstone in the foundation of good governance. They provide legitimate stakeholders--whether creditors, minority shareholders, taxpayers, or the general public--with the information they need to be able to begin to hold government decision-makers accountable for their actions.”
So from what source does is this information coming from? From economist Andrei Illarionov or another expert looking to rain on the Russia investing bull’s parade? No, actually this is a quote from a Roundtable hosted in Moscow by the OECD in 2005, prepared by Standard & Poor’s itself titled “Transparency and Disclosure by Russia’s State Owned Companies.” The report found Rosneft to be at the very bottom of the transparency rankings: “Rosneft discloses virtually no information on its basic principles of corporate governance, including its Articles of Association and dividend policy. The company does not file any statutory reports to Russian or foreign regulators that are public.” You may also recall how Rosneft’s prospectus for the IPO famously declared that there would be times in which the company would NOT pursue profitable activities – no wonder BP had to be blackmailed into buying the stock – but a lot of good that did them.
It appears that the ratings agencies are succumbing to Russia’s “new financial architecture” in a similar way to the oil and gas, mining, and accounting companies are: it is apparent that everybody has to change the rules when they do business with Moscow. Is everyone in the business community really so willing to stick their heads in the sand and sacrifice long-term consequences for a few short years of high growth? Giving Rosneft a positive rating is the same as Shell thanking the Kremlin for taking away Sakhalin, the same as Tony Hayward claiming BP’s is better off with a minority position in Kovykta, and the same as PricewaterhouseCoopers withdrawing ten year’s worth of Yukos audits “not because of government pressure” but because of “new information” that they refuse to disclose.
The common thread here is that everyone is denying an inconvenient reality. And by all appearances this same mass delusion has spread across the pond to Kennebunkport, Maine, where President Bush continues to slather Vladimir Putin with obsequious praise while at the same time the Russian president says that the human rights and freedom of press issues in Russia are identical to those of the United States. At the very least, as a courtesy Putin didn’t compare the Americans to Nazis again during the visit. But the entire series of preposterous circumstances demands the question: at what point do we snap out of this mass delusion? When will this exaggerated stereotype of kowtowing politicians and investors topple over on top of itself?
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Sir,
French holders of Russian bonds are in complete agreement with your statements concerning the major rating agencies.
In much the same way that American holders of Chinese bonds are bringing litigation against them for not disclosing the People's Republic of China's liabilities to American bondholders, the Association of French Holders of Russian Bonds (AFPER), representing some of the 316000 individual French bondholders to whom Russia owes a massive US$ 90 billion (as of July 2007) took the main rating agencies to court, in France, for the same reasons. Russia is rated 'investment grade' today, whereas it should quite clearly be rated 'selective default'.
This is obviously the result of extensive collusion which will inevitably, one day, come to light.
In the name of all those who are being misled by these denials, whether they be investors, creditors, and of course the Russian people whose assets are being used and redirected to their disadvantage, thank you for contributing to bringing these facts into the open.
Posted by Karloman![[TypeKey Profile Page]](http://www.robertamsterdam.com/nav-commenters.gif)
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July 19, 2007 7:33 PM
Posted on July 19, 2007 19:33
As a follow-up to my previous post (July 07) on this subject, you may be interested in the letter copied below, which was sent to members of the Commons Treasury select committee recently:
SUBJECT: Financial transparency and stability/rating agencies
Dear Sir,
In the context of recent hearings of the Commons Treasury select committee I believe you may find an interest in the following.
________________________________________
The ongoing sub-prime crisis has caused the main credit rating agencies to come under some scrutiny, on both sides of the Atlantic.
Well-informed observers have pointed a finger at obvious conflicts of interest within the agencies, stemming mainly from the fact that they are unregulated and paid by the very entities they are supposed to rate; these conflicts cast serious shadows upon not only the conditions in which ratings are attributed but also the validity of these ratings, and the agencies have already attracted severe criticism on this score in the past.
When this happens one of their preferred lines of defence, besides invoking the First Amendment (in the US), is to underline that their ratings can only reflect the information which has been disclosed to them, and that they cannot bear any responsibility for negative items which might have been withheld; in this respect the ENRON debacle, among others, was a case in point.
I believe this argument to be fallacious and I would like to describe two very precise, verifiable and irrefutable instances which will prove my point. I realise both instances will appear to be somewhat removed from the matter of asset or mortgage-backed securities, however I believe they clearly illustrate the pernicious effects of the very same conflict of interest which is at the root of the crisis affecting Northern Rock and many other financial institutions throughout the world, which is why I respectfully bring them to your urgent attention.
These instances are the unjustified "investment grade" ratings attributed to the sovereign issues of both the People's Republic of China (PRC) and the Russian Federation (RF), two governments who have consistently refused to honour the debt of their predecessor internationally recognised governments, prior to 1949 in the case of the PRC and prior to 1917 in the case of the RF, in flagrant violation of the successor government doctrine of settled international law.
Both issuers have notoriously defaulted on their obligations, and the notices of both defaults have been officially communicated to the main rating agencies.
All three major agencies publish their rating rules and definitions; in particular they state that their ratings are, among other things, an evaluation of the issuer's willingness to pay his financial obligations, a willingness all too clearly absent in the case of both the PRC and the RF, who may punctually pay both capital and interest on modern-era PRC and RF bonds listed on the Luxembourg stock exchange, but never do on pre-1949 Chinese or pre-1917 Russian bonds (*).
The agencies have a specific rating for such circumstances - which Standard and Poor's call "SELECTIVE DEFAULT" (SD) - and which quite clearly applies to both the PRC and the RF. Yet both issuers have been attributed "investment grade" ratings by all three major agencies.
So, it is blatantly clear that contrary to their argument it is not through lack of knowledge, but on the contrary despite irrefutable knowledge of selective defaults, and in violation of their own published criteria, that the agencies have attributed both the PRC and the RF with unjustified "investment grade" ratings instead of the deserved "SELECTIVE DEFAULT". As a result, past, present and future investors are being very seriously misled on issues worth billions of dollars, as they are in the case of mortgage-backed securities.
Why is this so?
It is common knowledge that both public and private issuers from the PRC and the RF have issued stocks and bonds in increasingly massive quantities over the past decade in international markets. Obtaining an investment grade rating is, for a new issuer, a prerequisite for any significant placing of bonds in international markets; therefore the prospect of these issues, particularly in bonds, has represented massive potential windfall profits for the agencies, whose revenue can in this respect be a percentage of the capital amount of the issues rated.
It is crucial to understand that it is not the custom for an agency to attribute a better rating to any private issuer of a given country than the rating attributed to that country's government. I believe that therefore, had the agencies attributed to both the PRC and the RF governments the "SELECTIVE DEFAULT" ratings they quite obviously deserve, the agencies would as a consequence have forfeited all the anticipated revenue stream from subsequent private issuers of those countries, since by virtue of the above custom these companies would have been rated at best "SELECTIVE DEFAULT"; knowing that in such circumstances they had no chance of attracting foreign investors, the issuers would have refrained from requesting a rating, and the agencies would have been deprived of a revenue stream in the hundreds of millions of dollars.
In the case of the RF the default bears on a conservative estimate of over US$ 90 billion in capital and interest; in the case of the PRC I believe it to be in the hundreds of billions of US dollars.
I have tried to describe this mechanism as concisely as I could. It is very similar to that which has led to what are in my view unjustified ratings being attributed to the massive amounts of asset and mortgage-backed securities at the root of the present sub-prime crisis.
This mechanism is documented in great detail in two extremely well researched and prepared documents from Sovereign Advisers, a firm of independent financial analysts with which I am in contact as a holder of defaulted Russian bonds. They are to be found at the following URLs:
http://www.globalsecuritieswatch.org/Letter_to_the_European_Commission.pdf
http://www.globalsecuritieswatch.org/world-news.pdf
Sovereign Advisers maintain the www.globalsecuritieswatch.org website, where you will find a lot more excellent, verifiable documentation on this matter.
Holders of defaulted PRC and RF bonds strongly advocate for appropriate regulation of the rating agencies in order to put an end to such questionable practices, and that the PRC and the RF should be appropriately rated "SELECTIVE DEFAULT".
You may be interested to know that some holders of Russian bonds have written to European commissioner McCreevy (who is scrutinising the rating agencies for any possible areas of conflicts of interest and has asked the Committee of European Securities Regulators to include the specific matter of conflicts of interest in its report due in April 2008), and also to all members of the European Parliament's Monetary Affairs Committee, which has launched its own hearings of the rating agencies. You will have known that this summer both president Sarkozy of France and German chancellor Merkel voiced their preoccupation on these matters to the European Commission and G8 Finance ministers.
Independently, a group of holders of defaulted Russian and Chinese bonds are considering lodging an official petition with the European Parliament.
I would be delighted to provide you with any further information on this matter should you so require.
Thank you for your attention.
Posted by Karloman![[TypeKey Profile Page]](http://www.robertamsterdam.com/nav-commenters.gif)
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December 7, 2007 4:27 PM
Posted on December 7, 2007 16:27