The country is currently undergoing a period of rapid change on three fronts: on the macro level spurred by the falling oil price; in the new geopolitical environment amid international sanctions and on a company level, argued Levy.
Following the collapse of communism, the ‘old’ Russian business environment where many Russian corporations were controlled by the state, and built to benefit the state, for example Gazprom, is now increasingly giving way to “new Russia”, explained Levy.
Today, privately owned examples of the new Russian economy are evident across sectors. Created from scratch without state help, these companies have started expanding he says, adding: “The bigger you are the more profitable you can be. The pool of labour in Russia is very highly educated and there is a lot to draw from.”
Sanctions and weakened currency
This transition does, however, face a number of issues, including international sanctions, slower GDP growth, higher inflation and a weakened currency, but Baring is of the view that the Russian authorities are managing them well and there are silver linings.
For example, the international sanctions have led to import substitution, which in turn has increased competitiveness for a variety of Russian companies, noted Levy. He mentioned three Russian companies that will do particularly well in the future: Yandex, Magnit and MD Medical Group.
Growth potential
The investment manager said that the companies with the most potential are the ones that offer strong earnings growth potential and exhibit the most innovation, strong franchise potential and long-term structural growth opportunities.
The first company, Yandex, has developed its own version of the taxi-app Uber and has a leading market position in Russia. Due to the country’s structural transition to digital advertising still being at an early stage, Yandex is expanding its market share and has already captured 60% of Russia’s internet ad market, said Levy.
Second, Magnit, a food retailing company, is expected to benefit from long-term growth opportunities as retail structures mature. “Through its logistical capability, they have become Russia’s number one food retailer, in terms of geographical coverage, and the company continues to deliver the strongest profitability amongst Russian retailers,” said Levy.
The final example is the private women’s and children’s healthcare company MD Medical Group, which is benefitting from tax incentives to use private alternatives to public healthcare.
“MD Medical Group has acquired significant market share and are regarded as one of Russia’s leading private healthcare providers. The company is benefiting from the growing trend amongst middle and upper class Russians to pay privately for healthcare,” said Levy, who expects it to benefit both organically and through acquisitions from a growth perspective.
But are they competitive?
There are some, however, that aren’t quite as enamoured with this section of the Russian economy.
As Kirill Yankovskiy, director of equity sales at Russian bank Otkritie Capital International, points out: “None of these companies pay dividends.”
While the economy continues to recover, he says, the easy ‘land grabs’ have happened. And, he points out “these ‘new Russia’ companies need to compete with Google”.
However, he does concede that while that is the case, “They are domestically oriented, and chances are Russia will be going thorugh a renewed period of consumption.”
With regards to the risks always inherent when investing in Russia, Levy said these are “already reflected in the valuations”. But, he noted, the main risk that remains is the oil price, “as Russia is a major producer of hydrocarbons”.
