TPG deal highlights Russian opportunity

The largest Russian private equity deal in years could help quell fears of corruption and political risk that have kept investors out of the country for decades.

For private equity managers in Russia and Central and Eastern Europe, TPG Capital’s investment earlier this month in Russian retailer Lenta could not have come sooner.

The firm’s $1.1 billion transaction alongside Russian-state backed VTB Capital and the European Bank for Reconstruction and Development is the largest private equity deal agreed in the country over the past three years and exceeds the total amount of investment in Russia in all of 2010. Last year, the country recorded just eight buyouts worth a combined $124 million in 2010, according to data provider Dealogic.

TPG originally partnered with VTB on the purchase of a 35.4 percent stake in Lenta in 2009. Financial details were not disclosed, though media reports suggested the deal was worth approximately $115 million.

TPG declined to comment.

The firm’s additional investment in the company this month – increasing its stake to more than 50 percent – represents a significant event for Russia’s private equity market, which has failed to capitalise on the country’s strong economic fundamentals and attract private equity interest over the past two decades due to perceptions of political risk and corruption.

Even the deal for Lenta had its fair share of negative publicity. The transaction ended a complicated and ugly dispute over whether TPG and VTB attempted to gain control of the company by appointing a director, defying a shareholder agreement and court decision. To cite the conflict as demonstrative of Russia’s unstable economic environment, however, is to link two unrelated events, says one manager in the country.

“There was a negative angle put on it by several individuals and journalists, saying that this is what happens when you invest in Russia, but most of the wranglings were in courts in the British Virgin Islands and had nothing to do with Russia and were between individuals who weren’t Russian,” the source said. “It could have happened anywhere.”

The successful completion of the deal, meanwhile, could send a signal to potential future investors in the region who previously have shied away, he says.

“I think it’s highly significant for Russia in so much as it demonstrates that problems aren’t what they seem.”

While fears of corruption have kept investors out of Russia for years, other managers in the region have also refuted the claim that financial scandals are more prevalent in the country.

“[There] is this idea that you can’t trust the books in Russia,” Michael O’Flynn, managing director at Moscow-headquartered UFG Private Equity said at a conference in March. “The biggest financial scandals in the world have happened in the US and in India and I’m sure there are some out there in Russia that are waiting to be found…but at the end of the day it creates opportunity.”

Regardless of whether private equity investors warm up to Russia in the future, interest in the country has already been up in 2011, even from other private equity megafunds.

In June, The Blackstone Group chief executive Stephen Schwarzman told CNBC the firm was looking to Russia for new investment opportunities. “The reason we're here … is (because) the government appears to be making a change,” Schwarzman said. “The government is forthright about encouraging foreign direct investment, but the question is are they going to be effective about making change…They have quite a robust consumer economy in Russia, so one doesn't have to be in resources and minerals to do well.”

In January, growth capital investor General Atlantic invested a reported $200 million for a minority stake in internet security firm Kaspersky Labs. It was the firm’s first Russian investment.

“I think it’s the effect of coming to an understanding that Russia does offer very interesting returns,” the source said. “The economy is stable, the government is stable and the future looks reasonably stable.”