Maturing market meets western needs

The equity capital markets (ECM) of emerging Europe are proving to be a welcome source of business for investors and issuers in light of the uneven liquidity in western Europe and the US.

The equity capital markets (ECM) of emerging Europe are proving to be a welcome source of business for investors and issuers in light of the uneven liquidity in western Europe and the US. Russian companies and their thirst for capital market funding have driven recent growth with a series of big volume initial public offerings from the energy sector. Companies in Kazakhstan and Ukraine have also sought equity finance by listing either locally or on the London Stock Exchange via its alternative investment market.

\"Investors like the \'new money\' story,\" explains Mark Martin, managing director, ECM, at ING Wholesale Banking. Investors swarming around emerging Europe\'s IPOs are mostly hedge funds and global emerging market funds, though retail investors, particularly Russia\'s expanding middle class, are being lured by the promise of share ownership.

Rosneft\'s flotation in July 2006 was the turning point. The oil heavyweight raised $10.4bn (€7.2bn, £5bn) in London and Moscow - more than all Russian companies put together in 2005, and prompted president Vladimir Putin to announce: \"Without any doubt, 2006 can be called the year of IPOs.\"

In Russia, the number of IPOs is forecast to exceed 20 by the end of this year (18 in 2006), though any new deals from now until Christmas are unlikely to eclipse Vneshtorgbank\'s (VTB) jumbo $8bn dual-listing in May on the LSE and Moscow\'s Micex. Around 130,000 retail investors bought shares in VTB - $1.6bn of the money raised.

\"With the third consecutive year of strong Russian equity issuance, it\'s no longer about \'IPO years\',\" believes Tom Blackwell, managing director of PBN Company, an international communications consultancy. \"The market has emerged and this year should be seen as the year when Russia cemented its position in the global capital markets.\"

Two of the next Russian companies to float are M.video, a consumer electronics retailer, and Bank St Petersburg.

Eric Obersteiner, head of ECM central eastern Europe (CEE) at Raiffeisen Bank, the Austrian bank, believes Russia is leagues ahead of its neighbours in terms of IPO activity. \"Russia is completely different. There are a lot of really, really big companies and IPO growth has been triggered by the fact that the banking environment is not sufficient in financing growth, so the capital market has taken over as an important funding function in Russia,\" he says.

Hungary and the Czech Republic, where bank funding is available on competitive terms and funding via the capital markets generally more expensive, are good examples of lightweight IPO markets, notes Mr Obersteiner.

But new deals in Kazakhstan and Ukraine mean investors can now gain exposure to equity trades other than via what is an undoubtedly powerful Russian IPO story. \"The quality of financial reporting is a major advantage of Kazakh corporates over other CIS (Commonwealth of Independent States) issuers,\" acknowledges Mr Martin. His capital markets team arranged the $274m IPO of paper manufacturer Kazakhstan Kagazy, when it listed in London this summer.

Mr Obersteiner believes local companies, not just in Kazakhstan but also in Romania and Ukraine, have boosted their corporate governance as the stakes against them for not opening their books to potential investors rise. \"The further east you go, you find that if companies need to fulfil transparency criteria to get funding, they are willing to do it,\" he says.

The pace of change in Ukraine\'s market depends on ongoing pension reform and increasing investor appetite, but political stability and tighter regulation are crucial to its progress.

At the moment, weak corporate governance practices are weighing heavily on the market that is making the most from a growing issuer base. \"It\'s something that really kills me,\" says Brian Best, managing director at Kiev-based investment bank Dragon Capital, \"because regulation could be a huge boost to the capital market\".

Corporate governance has nevertheless come a long way. So far this year, $1.1bn has been raised through 14 IPOs and another four are expected by the end of 2007.

The Ukrainian government will commit around 18.7bn hryvnia (€2.6bn) to state pensions in 2008 as part of a reform of the system.