Flight of foreign capital from Russia: should it be withheld or nationalised?

The ongoing sanctions war against Russia is causing a significant blow to foreign capital in the Russian economy. In fact, the initiators of this war expected that foreign investors would be the first to respond to the sanctions. And that their reflexive reaction to sanctions can create a trigger effect and bring down the entire Russian economy.

Apparently, by giving foreign capital a signal to leave Russia, the initiators of the sanctions also counted on a social effect. The elimination of jobs when foreign companies stop working and the disappearance of many vital goods (both imported and produced by foreign capital within the country) in domestic retail trade can cause citizen protests and social unrest that will weaken political power in Russia.

The presence of foreign capital in the Russian economy is quite difficult to assess. Previously, Rosstat provided much more detailed statistics on foreign capital, for example, figures on the participation of non-residents in the share (authorised) capital of companies located in Russian jurisdiction.

Currently, only some fragments of the picture are publicly available on the Rosstat website. For example, there is an indicator of the share of foreign capital in investments in fixed assets of the Russian economy. Thus, in 2000, this share was equal to 1.5%. In addition, the share of joint Russian and foreign companies in fixed capital investments amounted to 12.2% in the same year. And here are the values of these indicators for some other years (%): 2005 – 8.2 and 11.2; 2010 – 5.9 and 7.9; 2015 – 8.3 and 7.4; 2019 – 5.8 and 7.0.

In fact, the dependence of the Russian economy on foreign capital is much higher than the above figures suggest. For example, because some of the investments in fixed assets that are carried out by purely Russian companies are financed by loans received from foreign banks. So, according to the same Rosstat, at the expense of such loans, investments in fixed assets were financed in 2017-5.4%; in 2018-4.4%; in 2019-2.1%.

Another source of information on foreign investment is the Bank of Russia. According to its data, as of October 1, 2021, assets generated by foreign investors and creditors in the Russian economy amounted to $1,180.2 billion. This total amount includes (USD billion): foreign direct investment - 596.0; portfolio foreign investment (including investments in financial derivatives) - 308.4; other foreign investment (mainly loans, loans and credits) - 275.8.

According to the calculations of SKB Kontur, based on data from the state register, as of September last year, the number of companies with foreign participation in Russia amounted to 28,400 (three years earlier it was 47,100; a decrease of 40%).

It should be borne in mind that control over a company from abroad can be carried out not only through direct investment (participation in equity), but also through other tools. Such as providing a Russian company with technologies based on licensing agreements or trademarks ("brands") based on a franchise agreement.

Technologies and brands not only allow you to control the company, but also receive an annuity, called "royalties". Inactive forms of foreign capital presence in the Russian economy became increasingly important, as they insured non-residents against possible sanctions (primarily asset seizures).

An example of how foreign companies have minimised their assets in Russia can be the American IT corporations that pump billions (not rubles, but dollars) out of the country, but sometimes do not have fully-fledged "subsidiaries", branches and even representative offices in our country. Often there can be only flashy signs, behind which there are very few real assets. Here is one recent example.

On March 3, the Public Consumer Initiative filed a lawsuit against Apple in the Presnensky Court of Moscow. The plaintiff demands to recognise as illegal the actions of the defendant, who suspended the import, sale and maintenance of products in Russia. In this regard, they demand to force the company to fulfil its obligations, and also offer to seize the accounts and property of the "daughter" by the name “Apple Rus” as a response.

However, according to experts, the prospects for satisfying the claim are not high. It is not clear what assets of the Russian Apple can be seized in principle, Apple's mono-brand stores in Russia belong to its partners, its offices are rented, the seizure of accounts is meaningless, since deliveries are frozen and payments from Russian retailers are not received.

The sanctions organisers' calculation of the reflexive reaction of foreign investors working in the Russian economy was partly correct. Many of them began to make statements saying that they either suspend their activities in Russia (in whole or in part), or leave Russia altogether. Sometimes it is difficult to understand whether a statement is official or just an expected decision (which can be revised).

There is no exact number of foreign companies that have decided to suspend their activities or leave. At the same time, approximate figures are given. The Russian newspaper Kommersant, for example, reported on March 5:"... to date, several dozen foreign companies in the Russian market, mainly trading, have announced the suspension or termination of business in the country."

The website "sravni.ru" keeps lists of foreign companies that have been preparing to flee Russia since the end of February. As of the morning of March 9, there were 340 companies and brands on this list. Here are some excerpts from this list.

In the financial sector: Visa Mastercard (banned issuing cards to banks under sanctions); Google Pay and PayPal (restrict their work); American Express (ceases its activities).

In the automotive sector, deliveries of cars, components for assembly, as well as (in some cases, spare parts) are completely suspended: Volkswagen; Skoda; Mazda; Toyota; Mercedes-Benz; Ford; Audi; BMW.

In the field of office equipment and electronics, the supply is stopped: Apple; Dell; Intel; Siemens; HP.

In the oil, gas, energy and industrial sectors: BP; Shell; Equinor; TotalEnergies; ExxonMobil; Fortum; BASF; Kinross Gold; KONE; Komatsu; OMV; General Electric; Sandvik; Alcoa, etc. Everything is different here. For example, the British oil and gas company BP said that it will sell 19.75% of its shares in the Russian state oil company Rosneft. TotalEnergies will not invest in Russian projects. ExxonMobil will withdraw from the Sakhalin 1 project.

In some cases, CEOs of foreign companies explicitly declare that they are curtailing their activities in Russia for "political reasons", as a sign of disagreement with "Russia's military invasion of Ukraine", etc. In other cases, decisions to wind down operations in Russia are motivated by growing uncertainties and risks in the business sector due to the sanctions policy of the West and Russia's response. Finally, in some cases, decisions of foreign companies are announced without any explanation.

Of course, for a number of companies, the decision to leave Russia is a difficult decision. For some of them, Russia was a very large chunk of their business. For others, such decisions are not a tragedy. Especially for large multinational corporations, where Russia is only a part of their global business, and the loss of this part is not fatal.

Take, for example, American IT corporations. Russia is estimated to account for a very small share of their profits: even if Apple, Google, Meta and Netflix withdraw all their services from the Russian market, they will lose a total of about 1-2% of all profits generated from their global business.

I do not rule out that some people leave Russia with a sense of deep satisfaction. Satisfaction with the fact that they managed to make good money here. It's a shame to leave the country when there are still assets that did not have time to pay for themselves. Another thing is when they have paid off many times over. Then the fate of these assets is not so concerned about their owner.

And how much did foreign investors manage to earn in Russia? To answer this question, please refer to the balance of payments of the Russian Federation. There is a position called "Investment income payable" - the income of foreign investors withdrawn from the country.

I will give the values of this indicator for the last 28 years (billion dollars): 1994 – 5,11; 1995 – 7,18; 1996 – 9.26; 1997 – 12,49; 1998 – 15,63; 1999 – 11,39; 2000 – 11.26; 2001 – 10.54; 2002 – 11,75; 2003 – 23,27; 2004 – 23.31; 2005 – 33,07; 2006 – 52,51; 2007 – 64,48; 2008 – 90,15; 2009 – 60,92; 2010 – 73,00; 2011 – 89,66; 2012 – 99,64; 2013 – 104,25; 2014 – 100.86; 2015 – 66,31; 2016 – 70,49; 2017 – 82,23; 2018 – 85,85; 2019 – 99,75; 2020 – 75,07; 2021 – 110,8.

As we can see, the flow of investment income withdrawn from Russia by foreigners tended to increase during the period under review. For the first three years, it did not exceed $10 billion. And in recent years, the budget has approached $100 billion, and 2021 has become a record year – almost $111 billion. The total amount of income in the form of dividends and interest withdrawn by foreign investors from Russia for 28 years amounted to $1,942. 57 billion. Almost two trillion dollars.

In fact, foreign businesses have withdrawn much larger sums from Russia. They just pass through other items in the balance of payments. For example, in the form of payment for financial services. I will give data for this article in recent years (billion dollars): 2017 – 2.24; 2018 – 1.83; 2019 – 2.34; 2020 – 2.44; 3 quarters of 2021 – 1.62.

And here is another withdrawal channel, it is masked by a balance of payments item called "Payment for the use of intellectual property". Here is the data for this article in recent years (billion dollars): 2017 – 5.98; 2018 – 6.29; 2019 – 6.87; 2020 – 6.81; 3 quarters of 2021 – 4.91.

Everyone also knows the article called "Payment for consulting services". This is a great cover for withdrawing funds abroad. Purchase of "bagel holes". Here is the data for this article in recent years (billion dollars): 2017 – 5.41; 2018 – 5.75; 2019 – 6.00; 2020 – 5.78; 3 quarters of 2021 – 5.12. For these three items alone, $15.03 billion was withdrawn from Russia in 2020.

And in the balance of payments there is an article called "Errors and omissions", which, as experts know, in Russia is not a "technical article", but reflects the illegal withdrawal of money from the country. Partly residents, partly foreigners. Taking into account all the "little things", according to my estimates, foreign capital from Russia has withdrawn funds worth at least $2.5 trillion over 28 years.

It seems that the rapid financial flow that drained the Russian economy of blood is stopping before our eyes. Decisions were taken to ban the transfer of dividends and interest in foreign currency abroad. According to the Bank of Russia's regulations, the ruble income of foreign investors is transferred to special accounts, which investors from unfriendly countries will have access to only after the lifting of sanctions against Russia.

The above figures show that foreign business has had a very plentiful financial harvest throughout the years of the Russian Federation's existence. It has more than recouped its investment and is now leaving the robbed country.

Of course, it leaves behind depleted mineral resources, polluted natural environment, equipment with a high degree of depreciation and various kinds of receivables. The promised new technologies and high-tech industries are not visible. Can we allow such an "investor" to slam the door and leave? I don't think so.

On February 26, Deputy Chairman of the Russian Security Council Dmitry Medvedev said that against the background of new sanctions against Moscow, he does not rule out nationalisation of the property of persons registered in the United States, the EU and other unfriendly jurisdictions.

In the State Duma, deputies from various party factions are in favour of nationalising the assets of foreign companies leaving Russia. Such a proposal, in particular, was announced on March 7 by the Secretary of the General Council of “United Russia” Andrey Turchak. He called this proposal a "last resort", but noted that in response to Western sanctions, "tough retaliatory measures are needed, acting according to the laws of war”.

The government headquarters for countering economic sanctions (established on March 1) is preparing proposals for our actions against foreign companies that declare their withdrawal from the country. There is no final document on this issue yet. But its general contours are already visible.

This is evidenced by reports in the Russian media covering the headquarters meetings. Including the statements of the First Deputy Prime Minister cited in the reports Andrey Belousov, who, apparently, is the main ideologist of reforming the Russian economy in the context of the sanctions war. The approach to foreign capital, according to A. Belousov and his colleagues from the headquarters, should be differentiated.

Those foreign companies that have worked and continue to work in Russia without any applications to leave the country will not only not be discriminated against in any way (compared to Russian businesses), but will even receive all possible support from the government.

There are also foreign companies from countries that do not participate in sanctions against Russia, but which are forced to suspend or restrict their activities in our country due to threats of secondary sanctions from the United States, Great Britain and the European Union. Such companies may be subject to so-called "friendly nationalisation".

The state can buy back shares (equity interests) of such companies for the duration of the sanctions and with a guarantee that a foreign investor can restore their rights to capital and management of the company in the event of lifting the sanctions.

There may also be an option to replace a foreign investor with a Russian one by repurchasing shares (equity interests) at "fair prices". It can be applied to those foreign investors who have previously demonstrated conscientious fulfilment of all their obligations to the Russian Federation, do not express their negative attitude to the current policy of Moscow and are ready (to the extent possible) to continue cooperation with Russia. For example, to supply components and parts to the company in Russia, which previously belonged to this foreign investor.

The most stringent option is for those foreign companies that declare their immediate withdrawal from Russia and the closure of their Russian-owned enterprises. Even without trying to sell your assets to some other investor. The option can be as tough as possible if a foreign company defiantly declares that its departure is dictated by "political motives".

In this group, we see large and large multinational corporations whose legal registration address is just the main initiators of the sanctions war – the United States, Great Britain, the European Union, Canada, Australia, New Zealand, etc. The list of such "unfriendly countries" was published by the Russian government on March 6 and includes 48 states and territories.

Deputy Prime Minister A. Belousov called the option of immediate closure of the enterprise "deliberate bankruptcy". And in relation to such enterprises, the government proposes to apply "accelerated bankruptcy" procedures. The details of such a procedure have not yet been worked out (and the very concept of "accelerated bankruptcy" is not included in Russian legislation).

Some lawyers suggest that this may be an ordinary bankruptcy procedure, but with a shorter time frame. The same transition to external management and bankruptcy proceedings, which involves replacing the company's management with an arbitration manager to establish full operational control over the enterprise (under the control of creditors and the court).

Some lawyers believe that the proposed option involves simplified bankruptcy procedures: an immediate transition to bankruptcy proceedings without prior supervision and management procedures. In place of the liquidated enterprise (if the minimum assets and the minimum number of employees are retained), a new enterprise is established and shares of the new issuer are placed.

Of course, when making decisions on each specific case, many problems and questions will inevitably arise.

Firstly, the authorities may have a dilemma regarding the repurchase of shares (equity interests) of a foreign investor. Provide a buyout to private capital (Russian or, say, Chinese) or buy out at the expense of the treasury in favour of the state. I.e., change the private owner or carry out nationalisation.

Secondly, the same "accelerated bankruptcy" of foreign companies can be carried out only if there are appropriate amendments and additions in Russian legislation. The adoption of such amendments and additions by the State Duma in one day or even in one week is quite problematic.

Thirdly, when making decisions about a foreign company, one needs to have a clear idea of its country of origin (whether or not it is included in the list of "unfriendly states"). Often companies come to Russia under the flag of some offshore jurisdiction, which hides the true origin of capital.

Fourthly, the state should determine the source of funds at the expense of which it could repurchase shares (equity interests) of foreign capital. The government decided to allocate 1 trillion rubles from the National Welfare Fund (NWF) to support the Russian stock market.

But there are no details about the procedure for spending these funds yet. It would be wrong to "spread" this big money all over the stock market. The main objective of this measure should not be to maintain stock prices of Russian companies, but to nationalise foreign enterprises of strategic importance.

Fifthly, the question arises as to the terms and conditions for repurchasing shares (equity interests). At current market prices or at prices set by the state. However, the option of nationalisation is also possible without any compensation.

Sixthly, so far we are acting reflexively, i.e. the Russian authorities and the public react only to statements made by the heads of foreign companies (they make lists of such companies and their statements "on their knees"). So far, this is still a very small part of all foreign companies operating in Russia. The others lay low.

We should have acted ahead of schedule, i.e. the government should have prepared a letter and sent it to the addresses of foreign companies. The letter should contain a request that would allow you to get an answer about what position the foreign company has taken (or plans to take) in the conditions of the sanctions war.

It’s possible to go on and on. But in the solid residue, there are three simple thoughts.

Firstly, it is necessary to make decisions on foreign capital in Russia today quickly and ahead of schedule.

Secondly, one should follow the rules and methods, which should also be developed very quickly. If to try to fight sanctions without rules, this struggle can result in voluntarism, create chaos and additional corruption, and ultimately weaken the Russian economy even more.

Thirdly, we need to take into account the Soviet experience in the current situation. At the turn of the 1920s-30s in the history of the Soviet Union, there was a transition from the NEP (model of a liberal market economy) to a new model of the economy, which can be called mobilisation. Back then there was a radical revision of the state's policy towards foreign capital. As a result of this revision, by the end of the first five-year plan, almost no traces of foreign capital remained in the Soviet economy.

P.S. Our public is already acting ahead of schedule. On March 10, it became known that the non-governmental organisation "Public Consumer Initiative” (headed by Oleg Pavlov) sent to the government and the Prosecutor General's Office a list of foreign companies that should be nationalised due to the termination of their work in Russia.

O. Pavlov stated: "So far, the list includes 59 companies, but it will expand depending on new applications from foreign businesses. Among those who have already appeared in the document: Volkswagen, Apple, IKEA, Microsoft, IBM, Shell, McDonalds, Porsche, Toyota, H&M and others."

He also added: "The total amount of obligations of these companies to citizens, the state and counterparties is more than 6 trillion rubles. Exactly this amount is equal to their revenue in Russia over the past three years. Being included in the anti-sanctions blacklist means that the offending company and its management face the following risks: seizure of accounts and assets, introduction of external management, and nationalisation of property. Also, the management of these enterprises can be brought to criminal responsibility for deliberate bankruptcy and fraud on a particularly large scale."