Monday, May 13, 2019

Uzbekistan Awakes

In my research and investing I stress three things: people, structure, and value.  I look for companies that are controlled and managed by quality people, have corporate structures that align minority and majority shareholder interests and trade at valuations that are below fair value if not outright cheap.

This post is about Uzbekistan, which is possibly the fastest reforming country in the world today.

Bold Reforms 

Since the passing of long-term leader Islam Karimov in 2016 Uzbekistan has undertaken far-reaching political and economic reforms. This includes never before seen levels of increased transparency and public involvement in regulations and administration, increased emphasis on civil society and human rights, and restructuring many ministries and government bodies including the state-owned enterprises.

The government’s current five-year plan details a radical change in the government’s role in the economy -  from command and control to market-based, from public-sector to private, and from isolationist to trade-oriented and outward-looking.

Perhaps the most significant reform for investors was the freeing of its currency in September 2017 with the value of the Uzbek Som virtually halved to its widely used black market rate of USDUZS 8,100 (1).  Overnight, Uzbek assets became half priced for USD investors.

The reforms are likely to stick as the leader of the process, President Mirziyoyev, has reportedly reshuffled Uzbekistan’s’ ruling elite. The January 2018 replacement of the powerful National Security Services (2) head Rustam Inoyatov, who ruled the organization for almost 23 years, was perhaps the clearest sign that reformers are in charge.

It can take time for reforms to trickle down. Foreign exchange is perhaps the best example. Despite the government freeing the Som, it took about 1.5 years for capital invested in Uzbek stocks to be freely convertible into foreign exchange and repatriated. The first such deal was done just a few months ago. According to local brokers, these deals are now commonplace.

Attractive Economy

Near and long-term economic basics and outlook are promising. Uzbekistan has low levels of debt, good infrastructure, and near 100% literacy rates.  It has ample natural resources, especially gold, natural gas, copper, and uranium. Current GDP growth of 5.1% in 2018 is expected to accelerate to the 6% level over the next few years according to the IMF. 

Uzbekistan issued its first ever Eurobonds in February 2019, and Uzbek officials have reportedly said that two of its banks and state-owned energy company, Uzbekneftegaz, may also issue international bonds. Between 2011 and 2019 it moved from 164th place to 79th place in the World Bank’s Doing Business Report. A July 2018 presidential decree set a goal of making it into the top-20 by 2022.

Most importantly it has solid human resources. I met many switched-on, outward-looking, and reform-oriented government and corporate leaders in Tashkent, Navoiy and Samarkand.  Not everybody’s on board, but I got the impression that with an average age of 29 years Uzbekistan’s population is open to new ideas.

There’s been a trickle of overseas Uzbeks who have returned and can help the double-landlocked country access foreign markets. There are a lot of Uzbeks holding senior positions around the world, and there’s no reason they can’t do the same or probably more in their home country.

Foreign investors are making a beeline for the country. The ERBD (3) has returned after a decade’s hiatus and invested in over 21 projects since September 2017. General Motors, Peugeot, Lukoil, Gazprom and a host of other multinationals and regional corporates have invested or announced plans to invest in Uzbekistan. Locals say that grade A and B office space in Tashkent is hard to find.

Revitalized Stockmarket
Tashkent’s main board, the Republican Stock Exchange (RSE) has been virtually dormant since the 2008 ‘global financial crisis’ and government clampdown on foreign portfolio currency repatriation. Like the rest of Uzbekistan this is changing, and its young leaders are keen to learn what foreign investors want and how they can upgrade and promote the market. 
"Securities Market" magazine
circa Nov 2001. A few years
before the market's 2004-2006
heyday. Courtesy of Igor
Butikov, the first Chairman
of the Republican Stock
Exchange. Igor is now Director
of the Center for Research of

Problems in Privatization,
Development of Competition,
and Corporate Governance

It’s still small with a total value of some USD3b. But with companies trading at low valuations its market capitalization could rapidly grow. It’s not hard to find "Triple 6s" (4) here.

There is decent sector representation on the exchange including building materials, banks and insurers, food and beverage producers, miners, oil and gas servicing companies and others.

Liquidity is a problem. Of the 104 listed companies at the end of April 2019, only 52 had one or more transactions during the month. Total trades amounted to USZ33.4b (USD4.0m).  Most of the activity was off-limits to foreigners as 88% of the trading was in banks (5).  Uzbekistan’s largest cement company - Qizilqum - was the second most liquid, accounting for 9.1% of total turnover. This leaves the 40-odd other companies that traded with just USD120k in turnover. 

While liquidity is low, it’s improving. Total turnover in 2018 was more than double that of 2017. A buy order that took several days to fill a year ago, now happens in an afternoon.

Uzbekistan also has an OTC stock market.  Known as the Elsis-Savdo, it has lower fees and liquidity requirements. All of Uzbekistan’s remaining 600+ joint-stock companies that are not on the main board are here. 

Inexpensive Stocks
Uzbekistan’s small and illiquid market appears to be inexpensive, especially compared to what direct investors are doing.

So far in 2019 two Chinese companies - Huaxin and Anhui Conch - received government approval to build new cement plants. Both are planned to have the same capacity of 1.2m tons per annum and both are expected to cost USD150m. This puts each one’s expected greenfield cost at USD125 per annual ton of cement produced. This compares to the listed Qizilqum Cement who’s 3.4m ton capacity operation is trading at an enterprise value per ton of about USD20. Simply put the listed company is trading at a valuation that is about 84% less than the investments by two of China's top ten cement companies (see here and here).

Republican Sock Exchange
Another example is in the banking industry. Foreigners can only buy stakes in Uzbek banks with prior approval of the government. This means that listed bank shares can’t be bought and sold by foreigners on the stock exchange, unless they go through a lot of paperwork. This only makes it practical for large and very long-term investors. In November last year Swiss based responsibility Investments did just this.  For a 7.7% stake in Hamkor Bank, they paid USD7.9m which values the entire bank at some USD103m. While I’m writing this in mid-May, Hamkor Bank’s market capitalization is UZS364b (USD43m), meaning that the foreign direct investors value the bank at more than double the price that Uzbek investors and traders can pay when buying the same shares through the stock exchange (see here).
Long Way To Go
While impressive, Uzbekistan's reforms also indicate how bad things were in the past - forced child labor to harvest cotton, some 10,000 political prisoners, bad relations with their neighbors. Longer term Central Asian journalists and human rights workers see progress, but caution that it’s too early to be positive and that more can be done (see here and here).

Uzbekistan’s regional importance and changes were best summed up by the former Prime Minister of neighboring Kyrgystan, arguably the most politically advanced and open country in the region.

“Uzbekistan is very important, the key country for Central Asia, because it's located just in the middle of Central Asia but is the most populous with 32-35m people. During Soviet times all infrastructure were built around Uzbekistan, the roads, energy pipelines, etc. But up to now Uzbekistan is not (cooperating regionally) indeed a new president is going to open the country.  He made very clear statements that cooperation with Central Asia countries is going to be his priority and he's (making) concrete steps. ...", Djoomart Otorbaev, ex-Prime Minister of Kyrgyzstan, 13 October 2017, bne Intellinews Podcast (link is here).  


[1] Since then the Uzbek Som has fluctuated between UZS7,780 to 8,470 to the US Dollar
[2] Also known by its acronym MXX, the National Security Services is the main successor of the Soviet-era KGB in Uzbekistan
[3] European Bank for Reconstruction and Development. They are like a European IFC.  Website is here:
[4] 6x or lower PE, 0.6x or lower PB, and 6% or higher dividend yield.  A metric attributed to Peter Cundill in his biography by Christopher Risso-Gill, “There’s Always Something to Do: the Peter Cundill Investment Approach”
[5] Uzbekistan-based brokers are hopeful that foreigners will be able to trade bank shares in the not too distant future


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