#6150
#9
Hermitage’s Browder Says Being An Activist Investor
Pays in Russia
By Pete Gallo, Editor
March 20, 2002
MOSCOW (HedgeWorld.com)—Being a hedge fund manager in Russia within walking distance of the Kremlin has given William Browder a front-row seat for the country’s ongoing reforms and equity rally, which put the country on the top of the emerging-markets charts last year.
Mr. Browder’s Hermitage Fund, as of mid-March, was up nearly 15% with assets closing quickly on the US$500 million mark. And emerging markets hedge funds have been stronger of late with the emerging markets component of the CSFB/Tremont Hedge Fund Index picking up an additional 2.9% in February, pushing year-to-date returns to 5.7%, representing the strongest showing for any individual segment of the alternative benchmark.
But Mr. Browder isn’t sitting idly just hoping that Russia’s public companies will rise off their incredibly low P/E ratios. Two-thirds of Russian stocks still trade at under six times earnings. In some ways, Mr. Browder is helping make that rally happen.
“In Russia, you have to be an activist investor,” Mr. Browder said. “We run a concentrated portfolio with about 10 positions forming our core holdings. We like to invest in undervalued companies with problems and get very involved in the portfolio’s companies to try to fix those problems. That can mean taking a seat on the board, pursuing legal action or even exposing corporate graft to the news media.”
Mr. Browder is not kidding about exposing corruption. He says that on a number of occasions he has worked with major western and Russian press to highlight criminal and corporate shenanigans by top executives at companies he invests in.
A Hedge Fund Spearheading Russian Reform
“Russia is a very different market from other places in the world,” Mr. Browder said. If you have an Enron-style accounting scandal in the U.S., the share price often drops dramatically when the information is publicized. In Russia, the situation is entirely different. We have regularly seen share prices rising after scandals are exposed.”
Why would exposing scandal encourage investment?
“Because it often signals a beginning of the reform process at the company. What happens is that once you expose what is going on, investors realize that the company will have to reform,” he said. “In many cases you are identifying problems that others vaguely knew existed, and that’s why their p/e (ratios) were so low. But once the problems are publicized and properly spelled out there are a number of interested parties, including the government, who are spurred into action because of the publicity. This stimulates investor interest.”
“Sometimes, I have to laugh when I hear about a scandal in the U.K., when you hear that shareholders are complaining that a CEO should be making $2 million a year instead of $3 million,” he said. “In Russia, you can find yourself dealing with companies whose executives are stealing billions.”
In addition to the outright embezzlement, Mr. Browder said he often sees companies issuing securities to friends and families of executives at ridiculous discounts to the market price of those securities. Not surprising, these issues wind up diluting value for other shareholders, and Hermitage has in a number of instances prevented this from occurring.
In one of the most high-profile of these cases, Hermitage blasted “corruption” at Gazprom, the country’s biggest company the world's largest gas company which accounts for 25% of the world’s natural gas reserves and more than half of Western Europe’s supply of such fuel. Hermitage did more than just go after Gazprom. It targeted Gazprom’s auditor PriceWaterhouseCoopers for allegedly failing to disclose the problems.
The scandal was covered in some 200 articles in Russia and abroad, Mr. Browder said. “You could call it Russia’s Enron scandal,” he said.
“In many cases, we’re actually helping to establish standards that will become the norm in Russia,” he said. “And, we’re not opposed to agitating in a way that increase the level of scrutiny. The goal is not causing trouble for its own sake, but to shake things up to bring positive change and make the next guy think twice about making the same mistake.”
Because of the company’s size, the Gazprom scandal over insider trading was pivotal and has left foreign investors more confident that Russian companies and their top executives would be held more accountable for their practices and lead to greater reform on a national scale.
Still, progress is sometimes one-step forward one-step back. Only this week, Gazprom was accused by Moscow of being Russia’s biggest tax dodger.
Mr. Browder and Hermitage are not just activists in the boardroom, but also on the political scene. He says that the firm has successfully lobbied for legislative reform in Russia aimed at improving business practices. One success has been in getting recent legislation passed that stops the issuance of dilutive shares issues.
But things are far from being all doom and gloom in Russia. The country’s reforms have exceeded what many investors such as Mr. Browder had hoped for. “If two years ago, you had asked me what reforms I would have liked to see in Russia, I would have said tax reform, judicial reform and business de-regulation,” he said. “Largely thanks to President Putin, Russia has gotten all of that ahead of schedule—plus more. There have been at least nine major reforms put forth and this has translated into real growth for the Russian market and equities.”
“Putin is batting nine for nine in my book,” he said. “Just today he sacked Russia’s central banker, whom a number of people internationally had identified as the worst central banker in the world.”
“It’s been a bumpy ride sometimes, but the reforms are real,” he said.
Ample Opportunities in Low P/E Environment
Much of the investment being done in Russia these days is in the oil-and-gas sector, which is one of the country’s biggest industries. Improvements in companies fiscal fitness combined with trends in the sector worldwide have made it a hot spot, according to Mr. Browder.
But opportunities exist in other sectors as well. One of Hermitage’s best plays last year was in Sberbank, a banking interest that holds 75% of deposits from individual Russians. Mr. Browder said that Hermitage gathered up 10% of the proxies to demand for the resignation of the chief executive after he put forward a dilutive share issue instead of cutting costs.
Sberbank’s equity has rallied nearly 400% in the last year, and Hermitage still owns a sizable stake in it. But at three-times earnings and ) 0.9 times book value he believes it is still cheap.
With valuations like that in the public arena, there is really no need to stray into private equity deals—and Hermitage doesn’t. On the macro level, Mr. Browder sees the Russian markets in a place where Russian government bonds trade at a premium to emerging markets bonds, but Russian P/E ratios are the cheapest in the emerging market universe. “That would suggest that either bonds prices have to fall or equity prices have to rise,” he said. “My view is that the latter is more likely.”
Russia’s markets haven’t been hurt by Argentina’s default either. Mr. Browder says that the slow unveiling nature of Argentina’s problems allowed the market to slowly absorb the information preventing the kind of contagion seen in 1997 and 1998 due to Russia’s woes.
So are investors leading a gold rush in Russian markets? “There has definitely been an increase in the number of investors in Russia,” Mr. Browder said. “For individual investors—or for that matter institutional (investors)—looking for absolute returns there have been opportunities.”
“But the fund of funds tend not to get involved for good reason,” he said. “If a fund of funds has a goal of reigning in volatility for a portfolio, Russia probably isn’t the place they want to be.”
Back to the Top Next Article
- Back to the Top -