Rostec / Rostechnologii / Rostekhnologia

If you need a Kalashnikov rifle, Sergey Chemezov is your man. He would also like to sell you a dual-screen smartphone, neonatal incubators, heavy-duty trucks or a few tons of titanium. He controls the state-owned third of the country's military-industrial complex.

The State Corporation for Promoting Development, Manufacturing and Export of Russian Technologies High-Tech Industrial Products, also known as Rostec, is a Russian government-controlled corporation established to promote design, manufacture and exports of high-tech manufacturing products for civilian, dual civilian/military and exclusively military use. In accordance with Rostec’s development strategy, the corporate governance system involves increasing the independence of holding companies and establishing stable, world-class industrial companies on their foundation.

A holding company is a company whose primary activity is holding the financial assets of other companies. A holding company is a widely recognized corporate form under the laws of the US and foreign countries. Some of America’s most successful companies, such as Procter & Gamble and Johnson & Johnson, operate as holding companies. A holding company is a legal entity that usually does not perform operative business activities, but whose main purpose is holding and managing holdings in other subsidiaries.

A holding company is a company that controls a partial or complete interest in another company, and it can be a useful tool in consolidating the operations of several smaller companies. Rostec is a holding company on top of a holding company, such that a holding company is twice removed from the operating companies.

There may be instances where a holding company is engaged in more than passive stockholding. A holding company is a form of business organization consisting of a parent company and its subsidiaries. The parent company exercises control over its subsidiaries through the ownership of the stock of the subsidiaries. This control is enhanced through the parent company’s appointment of the subsidiaries’ directors and officers and the creation of service agreements which bind the separate subsidiaries to the parent company determined overall corporate goals such as profit maximization. Since affiliated companies share common ownership, these transactions lack arm’s length bargaining.

Rostechnologii was one of only seven state-owned corporations that receive money directly from the federal budget. Rostechnologii received $5 billion in the fall of 2008 and in 2009 sought another $7.22 billion in government capital contributions and state guarantees.

Rostec booked more than 1 trillion rubles ($27.5 billion) in revenue for 2013, up from 931 billion rubles in 2012. About 60 percent of that was defense-related. “Our target is to have at least 50 percent of our combined revenue coming fr om civilian goods by 2015, so we’re not so dependent on military orders,” Chemezov, 61, said in an interview in Moscow in March 2014.

The industrial conglomerate was created at the height of President Vladimir Putin’s state capitalism to consolidate and support strategically important companies. Under Dmitry Medvedev’s more liberal presidency, it faced calls to be dismantled for swallowing billions of dollars’ worth of state money. But with Putin's return to the Kremlin for a third term, Chemezov emerged from the shadows to promote his holding’s strategic importance.

Rostec companies employ more than 900,000 people – approximately 1.2% of the entire Russian workforce. Social corporate responsibility is a key priority for Rostec, which places particular emphasis on towns and cities dominated by a single large company (“mono-company towns” or “mono-towns”, aka "town forming enterprises").

Before Rostec took over, many of them were at subsistence level. The corporation designed an individual crisis-management program for every core company of these mono-towns. As a result, mono-town Verkhnaya Salda, the site of 30% of the worldwide titanium production, has an unemployment of just 0.6% - one of the world’s lowest. Tolyatti, the home city of AVTOVAZ, implemented a strategy during the crisis that made it possible to avoid mass unemployment – the automaker’s former employees could be reassigned to the corporation’s other companies and organizations.

Rostec’s size and presence in several industries enable the corporation to implement a unique personnel policy. Among other things, it can optimize its staff quickly and efficiently without letting anyone go, but rather transferring them to other companies within the group; possible valid reasons for this may include the employees’ personal wishes.

Rostec was incorporated on November 23, 2007 under the Federal Russian Law No. 270 “On the Rostechnologii Government Corporation”. The Russian government transferred ownership stakes in 437 companies to the corporation as its contribution to its share capital as late as 2009, at the height of the financial crisis.

When the military-industrial conglomerate Rostechnologii was formed in 2007, it not only absorbed the assets of the state arms exporter, Rosobnoronexport, but acquired 450 additional entities, including 180 state corporations, mostly in the defense, machine building, aviation, auto manufacturing and metallurgy sectors.

Most of the assets transferred to the corporation were in a poor, unsatisfactory state. In 2009, Director General of Rostechnologii, Sergei Chemezov, stated that many of the conglomerate's constituent corporations would likely close owing to the economic crisis. Thirty percent of Rostechnologii's defense plants were on the verge of bankruptcy, and half of them would eventually shut down. On the other hand, Rostechnologii would receive sufficient government support (mostly in state guarantees and interest rate compensation on bank loans) to sustain its major enterprises, such as the car manufacturer, Avtovaz.

In 2009, Rostechnologii included 546 companies and over one million employees. The corporation was divided into 26 holding companies, 19 of which were defense related, including radio-electronics and aviation equipment. The remaining seven holdings are non-defense, including such industries as metallurgy, automobile manufacturing (Avtovaz), biotech, pharmaceuticals and medical equipment. Thirty percent of the defense plants were on the verge of bankruptcy, and about half of those plants would eventually be closed.

As many as 148 companies were either approaching a critical state or already in the throes of crisis, bankruptcy proceedings were under way at 28 companies, 17 did not have any operations, 27 either lost some of their assets or were facing a significant risk of such a loss. Most of them had opaque ownership structure, with some assets even controlled by organized criminal groups. Key problems of all these assets included: destruction of supply and production chains, wear and tear of fixed assets and production equipment, poor access to markets, and poor management quality.

Chemezov said that many of Rostechnologii's constituent enterprises would have to be closed,"causing pain" for many workers. Driving this process was not just the downturn, but $800 million in debt Rostechnologii had inherited when it assumed control of these enterprises, and which was continuing to mount as many of these firms lost value. Enterprises in the single company towns, i.e., Avtovaz, would continue to operate and receive state funding. However, smaller enterprises that did not contribute significantly to Rostechnologii's major product lines would have to close.

By 2009 Rostechnologii needed to conduct an auditing of the acquired assets in order to establish their real value and prepare many of them for public auction; a process that could take up to two years. In order to speed up the auditing process, Chemezov sought legislation from the Duma allowing Rostechnologii to assume immediate management of the 100 percent owned state corporations (unitarniye predpriyaiya) that had been handed over to it. The state corporations were under the control of the government State Property Agency.

A lot of effort went into taking stock of the assets the corporation received from the government, aligning them along uniform corporate standards and evaluating their prospects going forward. The 2008-2009 credit crunch made the already poor financial condition of many companies even worse. However, the corporation weathered successfully this difficult time. In 2009, Rostec started building its management system, developing an overall growth strategy streamlining its production processes, refining cooperation with key domestic and international customers and business partners.

To prevent corruption and protect the interests of the state, joint working groups were organized with the Russian Interior Ministry, the Investigative Committee, the Prosecutor General Office, and the Russian Federal Security Service (FSB). Approximately 30 instances of abuse of authority were identified, with criminal investigations launched into a majority of them. Criminal charges were pressed against nine former executives of companies within Rostec, resulting in convictions. Assets worth more than RUB 1 billion have been recovered.

Rostec’s primary objectives included not only an actual consolidation of production assets assembled under the corporation’s umbrella, but also creation of an effective management system for its constituent and subsidiary companies, many of which had not been united into any industry or geographic clusters. The Corporation chose the approach of creating integrated holding companies that would combine their subsidiaries by their industry and function, which should streamline significantly the operating and strategic management processes.

Rostec is building management (holding) companies, to which stock in its subsidiaries are being transferred, along with the powers to manage their operations and development. The corporation currently comprises 663 organizations, grouped under 13 holding companies, including eight in the defense industry and five in civilian manufacturing sectors.

The corporation achieved RUB 511 billion in output sales in 2009, paying RUB 62 billion in federal, regional and local takes; sales per employee did not exceed RUB 1 million. The corporation ended that year with a net loss of nearly RUB 61 billion. The corporation earned RUB 27 billion in net income in 2010, on revenues of RUB 631 billion, boosting the net income to RUB 46 billion on RUB 817 in revenues in 2011. Average paycheck at the Rostec companies also increased (up 40%), as did sales per employee (which nearly doubled). The corporation paid almost RUB 100 billion in taxes in 2011. The 2012 revenues exceeded RUB 963 billion, including RUB 240 billion in export sales revenue, the corporation would pay nearly RUB 120 billion in taxes for the year, and would have invested RUB 112 billion in upgrades and development of its production assets. The average monthly paycheck of the corporation’s employees is projected to reach RUB 26,200 in 2012, while sales per employee should stand at almost RUB 2 million. By 2020 the State Corporation planned to increase the revenues to 2.1 trillion roubles and double the profits.

AVTOVAZ would be making more than 1 million vehicles per annum by 2020. However, situation was very different at the company as the global credit crunch pushed AVTOVAZ to the brink of bankruptcy in 2009. The company had more than RUB 14 billion in outstanding debts to suppliers. Production volumes were shrinking at a catastrophic rate. The company started staff layoffs. Rostec had a direct role in developing a crisis management program for AVTOVAZ, which provided for production optimization, cost cutting, product quality improvements and sales expansion. The Renault-Nissan Alliance was brought in as a strategic partner. The parties signed an agreement in December 2012 to set up the Alliance Rostec Auto BV Joint Venture. The international partners plan to invest US$ 742 million in the venture. This would make the AVTOVAZ-Renault-Nissan group the fourth largest automaker in the world.

VSMPO-AVISMA [as of 2015] produced 30% of the world’s titanium. This result would have been impossible to achieve without Rostec. The company was going through a very difficult stage in 2004-2007. Lack of coherent management very nearly resulted in a complete halt to operations, the company had stopped investing in upgrades and maintenance of fixed assets, while the global credit crunch only served to exacerbate the situation. Rostec decided to expand VSMPO-AVISMA’s links with international partners. The ultra-modern new joint venture of Rostec and Boeing – Ural Boeing Manufacturing – started operations in 2009, machining titanium stampings for Boeing aircraft.

When taking over VSMPO-Avisma Chemezov’s team used tax police inspectors came to the company and began checking its financial and economic activity. The audit of VSMPO-Avisma resulted in tax due claims of almost 2.5 billion rubles. In such circumstances all the major shareholders, except Vyacheslav Bresht, thought it best to sell their stakes to Rosoboronexport. Bresht, who controlled about 30% of the enterprise, continued to play for time. But soon a criminal case was filed against one of his relatives. As a result Beshet quickly sold his shares and left the country. On November, 8, 2006 Rosoboronexport completed the acquisition of 66% of shares in VSMPO-Avisma. Rosoboronexport paid about 1 billion dollars, one point five times lower than the market price. Immediately after that all tax claims against the company were lifted and the criminal cases were closed.

The US aircraft manufacturer gave VSMPO-AVISMA a contract backlog until 2018. Current cooperation plans with Airbus cover the period through 2020. VSMPO-AVISMA exports 65-70% of its output, meeting 40% of Boeing’s titanium needs, 60% of Airbus’ needs and 100% of Embraer’s titanium requirements. VSMPO-AVISMA’s net income expanded from RUB 173 million in 2009 to RUB 7.1 billion in 2012 – a more than 40x increase. The company has achieved financial stability, has a solid contract backlog and excellent growth prospects. Rostec announced the sale of a 45.42% equity stake in VSMPO-AVISMA to the company’s management on whose watch the company increased its output and expanded international connections. Rostec would retain a blocking stake in the company.

Commercial vehicle manufacturer KAMAZ cut its sales by half at the height of the financial crisis. Rostec assisted the heavy truck maker in developing a program to boost management efficiency and upgrade the production facilities. These measures have helped KAMAZ to join the ranks of leading global manufacturers of commercial vehicles. The company sold 45,000 heavy trucks in 2011, boosting its net earnings to RUB 1.8 billion, with the 2,000,000th KAMAZ truck rolling off the assembly line on February 15, 2012. Major German manufacturer Daimler became a strategic partner, other companies collaborating with KAMAZ are the well-known Brazilian bus manufacturer Marcopolo A.S. and US manufacturer of agricultural equipment CNH Global N.V. KAMAZ generated RUB 4.3 billion in 2012 RAS earnings on revenues of RUB 111 billion (a 5.3% year-on-year increase).

RUSSIAN HELICOPTERS’ had contracts in place for deliveries scheduled through 2020. In 1H 2012, the corporation’s portfolio of firm orders more than tripled on 2011 – to 820 helicopters worth a total of USD 12 billion. The holding company was winning bidding contests against Sikorsky, Bell and Eurocopter, and has become the world’s largest source of military attack helicopters by sales.

The United Engines Engineering Corporation (ODC), which combined 85% assets of engine designers and manufacturers in 2008, has opened a new chapter in the history of Russian engine manufacturing. The key project it is actively working on is the PD-14 engine for the MS-21 airliner. This is the first completely Russian design of a civilian aircraft engine in 20 years. The new engine consumes less fuel, is less expensive to operate and offers lower noise levels versus available comparable engines from international manufacturers. It is already undergoing a series of successful bench tests, with series production expected to commence in 2016. ODK revenues increased from RUB 74 billion in 2009 to RUB 95 billion in 2011.

SKARTEL (operating the Yota brand) unrolled its WiMAX network, Russia’s first, in 2008, to support data transfer speeds of up to 10 mbps. By 2010, Yota had 700,000 subscribers, becoming one of the largest WiMAX network operators globally. Yota was one of the first providers in the world to make the transition to the LTE communication standard in December 2011, to capture data transfer speeds of up to 100 mbps. By October 2012, Yota became the world’s first company to launch the LTE Advanced mobile telephony technology on a commercial network, offering truly mind-blowing data transfer speeds of up to 300 mbps.

A new stage in the Government Corporation’s development was announced in December 2012. Rostec would manage its assets under an entirely new model: its 13 holding companies, which have nearly completed conversion to joint-stock company status, would become the growth centers. They would assume the key management functions. Rostec’s corporate HQ would focus on matter of strategy. All the key procedures required for transferring the fundamental management functions from the corporate HQ to the holding companies have now been completed. Development strategies have been approved for Radioelectronic Technologies, Russian Electronics, RT-Chemical Composites. Work on new strategies for Russian Helicopters, RT-Biotechprom, ODC, Aviation Equipment, Schwabe and others is approaching completion.

Radioelectronic Technologies Concern (KRET) has become the first holding company within Rostec to receive equity stakes in companies in its industry. KRET has announced an additional RUB 50 billion stock issue to be transferred to Rostec Government Corporation, the Concern’s parent company. In lieu of payment for the newly issued stock, KRET would receive from Rostec equity stakes in radioelectronics companies focusing on production of electronic counter-measures, friend-or-foe identification equipment, electrical connectors and avionics. The Concern has already received stakes in 18 radioelectronics companies. All in all, Rostec intended to transfer 46 companies (not counting subsidiaries and affiliated companies) to KRET ownership. After completion of the reform, Rostec would retain direct control over 25 organizations not counting the holding companies’ parent companies and infrastructure companies.

The plan as of 2015 was to transfer equity stakes in 278 organizations, including 243 defense companies and organizations and 35 companies in civilian sectors. The holding companies would be managed exclusively through the Boards of Directors which would include Rostec representatives. A management-by-KPI system has been designed to keep the holding companies’ managements duly motivated. Disposal of Rostec’s non-core assets would also be completed in 2013. Shares in more than 118 organizations worth over RUB 34 billion in book value are to be sold. Attractive social assets would be transferred to city halls and local governments.

Some of the essentially non-core assets may be transferred to other holding companies and combined to form new value-adding chains. Assets that remain “unclaimed” by Rostec companies would be sold on the open market, with the proceeds going towards improvement of financial health of Rostec companies, financing their R&D, innovative projects and facility upgrades. As of September 2012, RUB 2.8-billion worth of non-core assets had been sold. The new strategy envisages near-doubling of Rostec’s annual revenue by 2020 to RUB 2.1 trillion. Revenue per employee is also expected to more than double from RUB 1.9 million to RUB 4 million. Implementation of the strategy would require a total of RUB 1.5 trillion in investments through 2020.

Rostec has prepared IPOs for six of its holding companies: Russian Helicopters, Schwabe, Russian Electronics, Radioelectronic Technologies (CRET), ODK (Engine Engineering), and Biotechprom (“Biotech Industries”). It is hard to name specific dates for these IPOs just now, because the timing would depend on the stock market and on when the companies themselves would be ready for this step. Stock market flotation of their stock was tentatively expected over a four-five year horizon.