The plenary session of the State Assembly of Yakutia (Il Tumen) held on December 15, 2010 debated and adopted the law “On amendments to the law of the Republic of Sakha (Yakutia) on management and disposal of shares issued by the ALROSA Closed Joint Stock Company, which are a state property of the Republic of Sakha (Yakutia).” The new law includes two key provisions saying that "state authorities of the Republic of Sakha (Yakutia) shall take care to preserve a stake of at least 25 percent plus one voting share of the company’s capital in state property of the Republic of Sakha (Yakutia)" and that "local government bodies in municipal areas Anabarskiy National (Dolgan-Even) Ulus (District), Verkhnevilyuisk Ulus (District), Vilyui Ulus (District), Lensky District of the Republic of Sakha (Yakutia), Mirny District of the Republic of Sakha (Yakutia), Nyurbinsky District of the Republic of Sakha (Yakutia), Olenek Evenki National District of the Republic of Sakha (Yakutia), Suntarsky Ulus (District) of the Republic of Sakha (Yakutia) shall possess, use and dispose of the company’s shares on behalf of these municipalities and in accordance with the Russian Federation legislation."
Thus, now there is nothing to stop either Yakutia itself or the above mentioned uluses to sell some part of ALROSA’s shares, which they currently own, on the free market after ALROSA will be transformed into an open joint stock company. Today, the uluses totally have an 8-percent stake in the latter, whereas 32% of shares are held by Yakutia which means that a maximum of 15% minus 1 share from Yakutia’s stake may be put on the market. If guided by the assessment of ALROSA’s prospective value deduced via multipliers of listed lookalike companies (Gem Diamonds, Petra Diamonds, Harry Winston), then the price of a 15-percent stake will reach approximately $1.26 billion prior to IPO ($30,700 per share).
The scenario under which ALROSA after "going public" will venture an IPO is now seen as the most likely. According to this scenario, in 2012 the company is expected to issue additionally 20-25% of shares, which, according to the company management estimates, will be instrumental to attract about $2 billion needed to complete the program aimed at finishing underground mines construction, reducing its debt burden and funding investments into iron ore project Timir. The latter argument, however, is far from being perfect. ALROSA, similarly to its historical predecessor Yakutalmaz, has always been a single-product company and has no experience in any way successful in diversification. An attempt to start a massive non-core project, the capital cost of which is comparable with or possibly exceeds the current value of ALROSA, may have a very negative impact on the company’s value during an IPO, precluding targeted fundraising. And conversely, selling this ambiguous asset will clearly increase the company’s would-be capitalization. But in case Timir will be disposed of successfully, then selling the 15-percent block of shares from Yakutia’s stake may solve all the pressing problems of the company without any IPO.
Under certain conditions, the sale of the 15-percent block of shares may turn out to be extremely beneficial for Yakut shareholders. Indeed, in 2009 each ulus in the “diamond province” received $83,000 in dividends as an ALROSA shareholder. In accordance with the above estimates, a one-percent stake in the company is roughly worth $83.7 million. If this money were trivially put as a bank deposit under 3% per annum, the ulus would have netted over $2.5 million of annual income - thirty times more than the income gained from just owning ALROSA shares. A bank deposit is the most reliable collateral of a credit line for ALROSA to be extended on the most favorable conditions; the funds received by the Yakut shareholders from selling the 15-percent stake may well play the role of such a collateral.
It is easy to see that even using a much more conservative estimate of ALROSA given by IFC Metropol ($16,345 per share as of the end of 2011), the value of 1% of shares put as a three-percent bank deposit will generate an annual income exceeding more than 16 times the amount of dividends received by each ulus following the company’s 2009 results.
Of course, only a strategic investor associated with the diamond business will be able to pay $1.26 billion for the 15-percent stake in ALROSA. Let us consider the options in the order increasing this probability:
1. De Beers. The least likely buyer. The company is in a precarious financial situation and is right now unlikely to be able to accumulate necessary funds. It has had a negative experience in attempting to enter the Russian diamond mining industry (the Lomonosov Diamond Field and Grib Diamond Pipe). The strategy of vertical integration and attracting sightholders to the company’s marketing programs promoting its goods inevitably require a careful and flexible control over the amount and assortment of recovered rough diamonds, which is practically impossible to implement in Russia. On the other hand, the company’s actions aimed at reducing total output will obviously be unacceptable to the Russian side.
2. A consortium of diamond dealers. ALROSA’s major clients tied to the company by long-term contracts are of course interested in getting leverage on the flow of Russian rough diamonds and they have necessary resources for such investments. But at the same time they happen to be sightholders of De Beers and in this case a conflict of interest is obvious.
3. Chinese and (or) Indian investors enjoying strong government support. It is hardly doubtful that such an investment may indeed be of interest to Chinese and Indian parties, as well as the fact that any entry of such investors in ALROSA is of low probability. It is unlikely that the Russian state as a shareholder of ALROSA will agree to let “the most rapidly growing" buyers of rough diamonds into diamond mining.
4. The Leviev Group. It appears to be a very likely contender for an attempt to enter ALROSA. The group is the only major operator in the diamond market which is long- and well-established in Russia at all the levels of the "diamond pipeline": mining, cutting, jewelry manufacturing and retail. The Leviev Group has extensive capabilities of lobbying their Russian projects politically. It maintains good working contacts with the Russian government, Yakutia (in the early 2000s OAO Nizhne-Lenskoye and OAO Almazy Anabara sold virtually 100% of their production to Lev Leviev’s Group) and ALROSA. The Group takes an obvious interest in developing its "mining" component; it has ingenious marketing programs and may attempt to convince ALROSA in its ability to realize a strategy of vertical integration for the Russian company.
Sergey Goryainov, Rough&Polished
