A year ago, it was possible to describe the strategy of Russia's aluminum barons as "grab the cash and run."

Oleg Deripaska promised to be the exception. He said he intended to put the cash back into the business.

The cash referred to a combination of factors that produced the largest cash pile Russian producers had ever seen. Smelters were working at, or just over, full capacity. Production had grown by 4.7 percent; exports of primary metal by 4.8 percent; exports of semi-fabricates by 55 percent.

World prices for Russian A7E had started the year 1999 at $1,229 (Fob St. Petersburg), and ended the year at $1,655 – a dollar gain of 35 percent. At the same time, the domestic cost of producing the metal had fallen in dollar terms because of the four-fold devaluation of the ruble in August 1998.

The story of what happened to that cash can be seen more clearly now than then. A year ago, the cash was mobilized to generate a new round of battles for shareholder control of the smelters. These battles proved to be less violent and lethal for their participants than had been the case in the mid-1990s. But the rivals were no less predatory.

Viewed from outside Russia, the control shift appeared to be a natural consolidation of property in a sector that was experiencing consolidation on a global scale.

To the economic rationalist, the battle for control of Russia's smelters, as well as the electric utilities and alumina refineries that supply them, was bound to lead to at most two or three vertically integrated producers capable of competing against the international combines of Alcoa-Reynolds and Alsuisse-Alcan, and Pechiney.

Viewed from inside Russia, however, the battle of 1999-2000 looked more like much of the same turmoil that has dominated the industry since the collapse of the Soviet administration in 1991. From this perspective, the abolition of tolling privileges in December 1999, followed by the fight for control of the Nikolayev alumina refinery; the bankruptcy claims by electricity suppliers against Krasnoyarsk Aluminum Works (KrAZ) and Novokuznetsk Aluminum Works (NkAZ); the eviction of the Trans World Group and Lev Chorny from the sector; and the takeover of majority shareholdings in KrAZ and Bratsk Aluminum Works (BrAZ) – those developments had more in common with smash-and-grab raids to change the beneficiaries of Russia's aluminum cash flow, but not the underlying cash character of the industry.

Such beneficiaries, it seemed a year ago, depended for their survival on political patronage. Although the figures are secret, it is a safe guess that Russia's smelter proprietors have already invested more in political support than in production or marketing of their metal. But with the election of a new parliament in December 1999 and a new president in March 2000, the need for heavy spending on political-risk insurance diminished.

LITTLE INVESTMENT PLANNED

With small exceptions, it was reasonable to forecast a year ago; little of the industry's cash was planned for investment in increased smelter capacity or in improvements of downstream milling. Overall output growth, analysts concluded, would be constrained between 4-6 percent, peaking at 3.3 million tons.

The production data now available for 2000 show that growth slowed down in aggregate, at least for primary metal, and so did exports. In aggregate, Russia produced 3.1 percent more primary metal for the year. That is almost 98,000 more tons on top of last year's output of 3,146,000 tons. The 2000 total of just over 3.2 million tons is fractionally less than was forecast for last year.

Russian Aluminum's three smelters (excluding NkAZ) went from 2,085,824 tons to 2,136,445 tons – a gain of 2.4 percent.

Sayansk, the smelter of Siberian Aluminum, controlled by Deripaska, was the biggest gainer at 402,796 tons, up 4.2 percent. KrAZ, where the shareholder battle has been fiercest, was the slowest with production at 838,377 tons, up 0.2 percent. BrAZ reached 895,272 tons, up 3.7 percent. Exports of primary metal were slowing at the nine-month mark, according to State Customs Committee statistics. These indicated a total for export of 1,934,400 tons, a decline of 1.5 percent on the same period of 1999. Preliminary figures for the year suggest that export volume shrank 3.6 percent to 2,543,596 tons.

The shift to higher-value production and trade continued through the year. Aggregate output of semi-fabricates and rolled products grew 28 percent for the year. Exports of rolled products and extrusions (excluding cans) rose from 111,300 tons to 187,000 tons, up 68 percent. Exports of secondary aluminum alloys grew to 406,500 tons, a gain of 31 percent.

The price trend was not uniform. From the start of the year, Russian A7E dropped downward to hit bottom in the week ending April 17 at $1,496. It then recovered to a high of $1,768 five months later in the week ending Sept. 18. From then, the picture has been one moving steadily downward, the price reaching $1,590 at year's end, and $1,540 on March 16. Inflation in Russia in 2000 slowed to 21 percent, compared to 84 percent in 1998, and 37 percent in 1999. But the ruble was relatively firm, retreating by 11.3 percent. So real costs for the metal producers grew.

It is impossible to say whether the cash surplus of the producers expanded or contracted in the period, first of all, because of the price volatility; and secondly, because of the dramatic change of control at KrAZ and BrAZ. That eliminated the trading firms associated with the shareholders of those smelters, replacing them for the past six months of the year by Glencore and Gerald Metals.

The shift in Russia's shipments of metal to China from the Hong Kong-Guangzhou maritime trade to the Manzhouli rail junction into northern China, also affected volumes and margins in the single largest market for Russian exports. In June, shortly after the announcement of the formation of Russian Aluminum, Alexander Bouligin, the chief operating officer of the group and Deripaska's closest associate, said that the new group he had helped form would try to operate in something like the normal Western way, providing transparency to the trade. Gone, he said, were the old shell companies acting as collection agents for the smelter shareholders.

"They were not traders in the normal sense," Bouligin said. "They were scheme companies. It would not be reasonable to distribute metal through these shareholders."

It is now nine months since that promise was made. Unfortunately, there is a lack of hard evidence the promise has been kept.

Russian Aluminum has declined to describe the trading arrangements it has negotiated for this year, following the transition trading arrangements with Glencore and Gerald that ended on Dec. 31. Siberian Urals Aluminum (SUAL), the second major Russian aluminum producer, is not more transparent.

More troublesome, a lawsuit filed in December in New York against Russian Aluminum and its shareholders by companies associated with Mikhail Zhivilo, onetime owner of NkAZ, claims that the schemes of the new shareholders are no different from those of the old ones. This calls into question whether the industry has entered a new phase of consolidation and normalization, as company executives like to claim.

Over the past year, there has been an extraordinarily rapid acquisition, not only of smelters, but also of auxiliary alumina and bauxite supplies and rolling-mills inside Russia and near its borders. In addition, the Deripaska group has embarked on an ambitious automotive venture, acquiring a bus and a car producer in Nizhny Novgorod, to become the second largest automaker in the country in a matter of weeks. This, plus the acquisition of most of Russia's molybdenum production, and a takeover bid for cheap power at Irkutskenergo, suggests that far more cash is being spent by the Deripaska group on upstream, downstream and horizontal integration than on investment in core metal production.

SPECULATION

This can only be an impression, because Deripaska's spokesmen will not reveal how much cash has actually been spent on the automobile companies. Some industry sources believe the size of the liabilities of Pavlovsk Bus and Gorky Automobile Works (GAZ) that have been assumed, but not paid, is far greater than the outlays. Others closer to the Kremlin believe the deals were arranged with the government on use-or-lose terms: Either the money would be spent, or else it would be taxed.

As can be estimated from the list of acquisitions in the public record, if cash has been paid up front, then Deripaska's group may have spent between $200 million-$300 million on acquisitions last year. If losses at the aerospace company Aviacor are counted, as well as investments in upgrading the existing core properties, then the capital outlay side of the balance sheet should be closer to $400 million – without counting costs of production, trade commissions, and debt service.

Omitted altogether from this calculation is the figure the Deripaska group has paid, or has promised to pay the equal shareholder in Russian Aluminum, Roman Abramovich's group. If, as both sides have announced, the two groups own 50 percent each of the shares of the new company, then Deripaska with just one 403,000-ton smelter must have paid Abramovich to balance his two smelters with 1.7 million tons. The compensation is likely to be about $1 billion.

On the income side, it is only possible to guess, because there are no public accounts: the shareholdings are kept secret; and there is no telling whether shareholders take their dividends directly from trading transactions. Primary aluminum sales should have exceeded $600 million for the year, while semi-fabricates and other product sales probably fetched over $500 million. A reasonable estimate then for revenues of Siberian Aluminum would be $1.2 billion, most of which was earned through exports.

Bankers close to the group say they assume an operating margin of between 20-30 percent, so one may guess that it cost Siberian Aluminum at least $700 million to produce its goods for sale. That should have left gross earnings of $500 million. If investments amounted to $400 million for the year, and tax was not negligible, then it may be supposed that cash reserves were being tapped. The payment to Abramovich makes that obvious.

Where the money came from is anybody's guess. The New York court claims by the Zhivilo group allege that the Novokuznetsk's sales (274,000 tons in 1999, worth over $420 million in 2000) were milked for the benefit of the Deripaska group.

The public attack on Deripaska in November by fellow shareholder Mikhail Chorny, claiming he was speaking also for another shareholder, Iskander Makhmudov, might have been a signal that Deripaska's acquisitions were coming from cash flow his partners believed was theirs to control.

Chorny claimed he and Makhmudov controlled the majority of shares in Siberian Aluminum, and had the power to decide whether Deripaska remained in executive control of the company. Deripaska has yet to reply to the claims. He had earlier told the press he and unnamed associates controlled from 60-75 percent of Siberian Aluminum. This January, he told a group of European banks that Chorny controlled just 20 percent.

WESTERN CONFIDENCE

For the moment, Deripaska enjoys the confidence of the 12 Western banks whose announcement of a loan of up to $130 million in trade finance will be made shortly. The banks include Societe Generale, Credit Lyonnais, Natexis and Standard Bank London. Their new commitment comes on top of $100 million already agreed to by Westdeustche Landesbank and $50 million from Raiffeisen Zentralbank.

The bankers do not know what the shareholding arrangements are at Siberian Aluminum or Russian Aluminum. While concerned by the risks of court action and legal violations that have been identified in the Zhivilo lawsuit, the bankers have concluded that the trend of Deripaska's management is in the direction Bouligin promised; and that the shareholding of Russian Aluminum between Deripaska and that of Abramovich is stable enough to anticipate no unsettling change six months at a time.

The size of the group's metal trade – second only to Alcoa in global terms – is simply too great to be ignored by the financial community. Consequently, financing has been contracted on carefully crafted terms that reduce the risks and add to the profitability of lending.

If the financing is sustainable, the risks continue to shrink, and the accounts of Russian Aluminum become less guesswork, more transparency, then it can indeed be concluded that the Russian industry has begun the move into normality.

When that becomes the conviction of the international industry, then foreign investment, both debt and equity, will start to flow into the Russian groups and their projects. At the moment, none of the internationals – raw material suppliers such as Comalco, technology developers such as Pechiney, and competing producers such as Alcoa or Clan – is ready to contemplate such a move.