News

It was 2006 and Russia was flush with petro-dollars, pride and industrial ambition. Vladimir Putin, then president, now Prime Minister, picked a high-profile investment to showcase his country's resurgence – Airbus owner EADS, the world's biggest aerospace company.

Big mistake.

When the Germans and the French learned that Russia, through state-controlled VTB Bank, had snapped up 5 per cent of EADS and wanted more, they vibrated with fear. German Chancellor Angela Merkel and France's then-president Jacques Chirac told Russia that EADS, a strategically sensitive company, didn't need a Russian partner.

Mr. Putin seemed shocked by the Franco-German response.

After meetings with Ms. Merkel and other German officials, he said in a speech in Bavaria: “Where does the hysteria come from? European legislators have to get used to the fact that this is not the Red Army coming, but Russian businesses with money to invest.”

Scroll forward three years. Germany's recession is the deepest among the European Union's economic heavyweights. Businesses everywhere are failing or being bailed out. One big victim is Opel, the German division of bankrupt General Motors. Opel needs a rescue, and guess who is invited to do the rescuing?

Roll out the red carpet for … Mr. Putin.

In a deal that bears the marks of Ms. Merkel and Mr. Putin, Kremlin-controlled Sberbank has agreed to take 35 per cent of Opel. Canadian auto parts maker Magna International would take 20 per cent, with the balance split among GM and Opel employees. The deal is not certain. Both GM and the German government are leaving the door open to three other potential partners – Italy's Fiat, Belgian investment firm RHJ International, and Beijing Automotive – in case Magna and Sberbank trip over the fine print.

Friday, Beijing Automotive, which is controlled by the Chinese government, made a non-binding offer to buy a stake in Opel for €660-million ($1.1-billion), the Financial Times reported.

While the Chinese are coming on strong, British business minister Peter Mandelson said he expects Magna to prevail and that his government is prepared to backstop the deal to keep Opel's Vauxhall division in Britain running.

Opel may not be EADS, which makes military products as well as commercial airliners. But it is one of the best-known auto brands in Europe and a huge employer, with more than 50,000 employees, half of them in Germany.

“This does show you how much the world has changed,” said Roland Nash, the chief strategist in Moscow for Russian investment bank Renaissance Capital. “Here we have a Russian bank bailing out a German car manufacturer. A few years ago, no one would have thought this could happen.”

Russia is in recession, of course. But rising oil prices and still-hefty foreign currency reserves, last estimated at $400-billion (U.S.), mean the country is regaining some of its pre-crunch financial firepower.

A quality German auto maker such as Opel would be a catch for Russia; last year autos landed on the country's list of “strategic” industries – big businesses deemed essential to Russia's long-term global competitiveness. The auto industry made the list not so much because it's a critical industry (like banking and pipelines), but because it's a large employer that, if nurtured, could hire more workers and make a bigger contribution to the economy.

Generally speaking, strategic industries qualify for special tax breaks, investment spending and political support. And politics certainly played a role the Opel saga, which saw Mr. Putin and Ms. Merkel taking direct and prominent roles in the file.

One theory says Ms. Merkel supported the Russian Opel grab partly because she wants to ensure that Germany remains Russia's favoured natural gas customer. Russia supplies about 40 per cent of Europe's fuel imports.

Another theory says Mr. Putin pushed hard for Opel because he wants to show the world that Russia has the talent to turn around ailing industries. If Russia, with Canada's Magna at its side, can fix Opel, other Russian bids for Western companies might be taken more seriously.

Analysts and economists say Opel won't be the last big-name Russian investment in the West. Industries in Western Europe and elsewhere need help and are suddenly cheap. Russia has the bucks and will, opportunistically, put them to good use beyond its frontiers. “We would expect to see more of these deals, in industries in crisis, over the next 12 months,” says Chris Weafer, chief strategist for Moscow's Uralsib Capital.

Motown On The Neva

Russia has always wanted a domestic car industry and has used every method, including confiscation, to get it. None of the efforts could be considered a resounding success. Well aware of their own automotive shortfalls, the Russians have often relied on foreign car companies to assist their ceaseless efforts to produce popular cars.

The country's oldest auto maker is GAZ, which began life as the Gorky Automobile Factory after the 1917 October Revolution. The Soviets were experts at bashing out battle tanks and trucks like so many blini pancakes but knew nothing about cars and called upon Ford to lend a helping hand. Ford supplied parts and technical assistance. The first vehicle produced, starting in 1932, was a knock-off of the Ford Model A, known locally as the GAZ-A.

GM, which had bought Germany's Opel in the late 1920s, did its unwitting part to help the Soviets. After the Second World War, the Soviet Union seized the entire Opel Kadett factory in Brandenburg, Germany, as war reparations. The Kadett sedan, relaunched as the Moskvitch 400, proved fairly popular.

Then came Fiat. In the late 1960s, the Soviet government and Fiat launched the AvtoVAZ car company to produce a local version of the boxy Fiat 124 sedan, known as the Lada. The primitive, inexpensive car and its derivatives were sold in the millions in the Soviet Union and its client countries, and were even exported to Canada between the late 1970s and the 1990s (Q: How do you double a Lada's value? A: Fill the tank). Ladas are still ubiquitous in Russia, but are rapidly shedding market share as foreign brands fill the dealerships.

A couple of years ago, it was GAZ's turn to play the foreign rip-off game. GAZ, now part of Oleg Deripaska's crumbling industrial and resources empire Basic Element, bought the old Dodge Stratus assembly line from DaimlerChrysler. But the Siber, as the Russian version of the Stratus is called, has been a flop.

The Siber is symbolic of the country's auto industry's woes. Russian cars are unloved. While Russian sales of all new passenger cars and light commercial vehicles fell by almost half in the first five months of this year, against the same period in 2008, domestic models were in freefall – despite their cheaper prices. Between January and April, their production was only 90,500 units, slightly less than a third of the tally a year earlier.

The streets of Moscow and St. Petersburg (two cities with some of the worst traffic jams on the planet) are plugged with Nissans, Renaults, Daewoos, Mercedes and other foreign marques. In June, Nissan opened a $200-million (U.S.) plant in St. Petersburg to supply the market with about 50,000 cars and SUVs a year.

General Motors, Ford and Toyota also have plants in and near St. Petersburg (rather unfortunately called “Russia's Detroit”) and Magna is to open one next spring.

All of this means that the Russian auto industry is not competitive and thousands of workers are losing their jobs. “They cannot produce quality,” says Georg Thilenius, of Dr. Thilenius Management, a Stuttgart fund manager that follows the European auto industry.

Just when things looked their bleakest, the global recession produced a potential godsend in the form of Opel. The quality German brand has the potential to make or break the Russian auto industry. “The government is looking for ways not just to save the auto industry, but to make it competitive,” says Dmitry Dmitriev, an analyst at Moscow's VTB Capital.

Putin's plan

When the financial crisis was in full swing, GM slapped a “For Sale” sign on General Motors Europe, better known as Opel. GM was on the brink of death – it filed for U.S. Chapter 11 bankruptcy protection on June 1 – and couldn't finance Opel's cash-bleeding operations.

Fiat, which in June took management control of the post-Chapter 11 Chrysler, was the early favourite to save Opel. The company's Italian-Canadian chief executive officer, Sergio Marchionne, wanted to merge Fiat and Opel to reap more than €1-billion a year in synergies. The savings would come from closing factories and launching new cars from shared platforms.

The Russians and Canadians had other plans. Canada's Magna formed a partnership with Kremlin-controlled Sberbank to stop Fiat in its tracks. The German government, which is providing Opel with €1.5-billion in short-term loans to keep Opel alive, announced in late May that the Magna-Sberbank group was the preferred bidder.

How did that happen? Mr. Putin's fingerprints are all over the deal.

The Russian Prime Minister seems something of a car nut. Last summer, when GAZ's first Chrysler-inspired Siber rolled off the assembly line, he showed up to test the car. In May he invited reporters to see his new AvtoVAZ Niva, a rugged SUV in camouflage garb, at his house on the Black Sea. Last month, he drove Nissan boss Carlos Ghosn around in a Nissan Teana sedan when the Japanese company opened its St. Petersburg plant.

Cars are more than toys for Mr. Putin. They are part of Russia's new industrial strategy, one that will rely less on resources and more on industry and technology. “[President Dmitry] Medvedev and Putin reported that Russia has to get income not only from the export of oil and gas, but also from developed industry,” said Sergey Udalov, deputy director of Russian automotive consultancy Autostat. “Opel is a step in this direction.”

Mr. Putin said as much in early June, when he told a ministerial meeting in Moscow that “the Russian government has a strategy to develop the auto industry and this deal we are talking about must be incorporated into [that] strategy.”

In many ways, Opel would be a dream come true for Russia. While ailing, Opel makes quality cars that would appeal to middle- and low-income Russian drivers. The brand is well established, fairly fresh (meaning there would be no immediate need to overhaul the product range), and carries a shiny German veneer; Europeans do not consider it an American machine.

Assuming Opels are eventually built in Russia, their technology would help modernize Russian auto factories and provide employment. Mr. Deripaska's empty GAZ factories would be retooled to make Opels.

Better yet, Opel comes loaded with rescue money, care of the German taxpayer. While Sberbank and Magna intend to invest about €500-million into Opel, the Russian government is not directly providing bailout loans, though that could change as competition to own the Opel brand heats up.

Russians know that Mr. Putin was the driving force behind the Opel deal because of Sberbank's role.

Sberbank, the country's biggest bank, is majority-owned by the Russian government and is led by German Gref, the economist who was Mr. Putin's economics and trade minister between 2000 and 2007. Sberbank has more retail branches than any other bank and is run conservatively – big investment bets are not its style.

So why is Sberbank buying a car company with a risky future? Because it has no choice, say economists and strategists: Sberbank is following Mr. Putin's instructions.

“The bank is acting on behalf of the state,” says Uralsib Capital's Mr. Weafer. “If Opel fails, Sberbank would be compensated by the state immediately. You could also assume that Sberbank will pass the Opel investment on to some sort of automotive holding company.”

Indeed, Mr. Gref is saying all the right things. He was quoted in the Russian press as saying that the Opel deal is Russia's chance to get “one of the most technologically European car makers at an unprecedented low price” and that Opel would “make it possible to restructure the Russian car industry.”

He added that “Sberbank does not intend to become a strategic partner of Opel,” implying the company is being temporarily parked in Sberbank's portfolio until a suitable owner is found. That could be GAZ or AvtoVAZ, or a new holding company that might include Opel and some or all of the big Russian auto makers.

The Russians Are Coming

Opel's future seems barely more secure now than it was under GM's ownership. Magna has engineered and developed some models for auto makers. But neither it nor Sberbank is primarily in the business of car development and marketing.

Magna brings little in the way of synergies to the deal and is under pressure from the German, Belgian, British and Spanish governments to keep Opel factories running. The new Opel will be launched into the worst automotive downturn since the Second World War.

Hanging over all this is the risk of massive production overcapacity. The PwC Automotive Institute expects the European Union to produce 14.6 million cars this year. Potential production is 21.7 million, meaning excess capacity is 7.1 million units. Some analysts expect car makers to offer massive discounts to keep the factories running.

The excess capacity does not bode well for Opel's future, notes Garel Rhys, director of the Centre for Automotive Industry Research at Cardiff University in Wales. Opel, he said, should endeavour to create new demand within Russia by blanketing the country with a network of dealers. “They'll need a degree of luck to pull this off,” he said.

While Opel may not take off in the European and Russian markets, at least not in the short term, one thing seems sure: Russia will do more deals like this.

“I think you'll see a lot more outward investment from Russia, full stop,” says Mr. Nash, of Renaissance Capital.

Russia has already served notice that it wants to diversify its foreign assets. Its central bank recently said it would sell some of its $140-billion of U.S. Treasuries to buy International Monetary Fund bonds. Mr. Nash thinks Russia will also load up on hard assets. The prices, thanks to the credit crisis and the recession, are cheap, lifting the potential returns.

Mr. Weafer of Uralsib thinks Russia might invest in any Western industry in crisis, from steel to resources. “They see this crisis in Europe and it opens up a window of opportunity to allow Russia to invest in the West,” he said.

Beggars can't be choosers, in other words. The Russians are coming and they might be driving Opels on the way.