In late October, the leaders at Irkut Research and Production Corporation, Russia’s largest private defense manufacturer controlling about 12% of defense export (it produces and exports Su-30 fighters), officially announced its planned public floatation of 20% of its stock simultaneously on two Russian trade floors, MICEX and RTS. Shares from Irkut’s management will make up half this stake, and shares from an additional issue will form the remaining part.
The event sets a precedent for the Russian market. A Russian defense company has never entered the public capital market so far. Irkut is setting an excellent example for other Russian defense companies, strangled by a shortage of investments, to follow.

According to Mikhail Leshchenko, Vice-President at MDM Bank, which is acting as a consultant and underwriter of the deal, an Irkut shareholders meeting will take place in November, when they are expected to approve the issue of additional stock, and a prospectus of the issue will be registered with the Federal Securities Committee as early as December. MDM Bank financiers intend to hold a road show, not only in Moscow but also in London and New York. At the moment, only 2% of the corporation’s stock is publicly circulated. After the stock offering, this figure will rise to 22%. The exact amount of funds the Irkutsk-based defense manufacturers stand to make from selling its shares is as yet unclear. However, based on Irkut’s current capitalization ($370 million), one can assume that a fifth of the company will be sold for at least $70 million.
After Irkut’s debut on the Russian stock exchanges, the corporation’s top management will retain the controlling stake in the company for a short while. Irkut President Alexei Fedorov told Expert that, “In the long term, we are considering the possibility of reducing our share to 25-30% and only keeping the blocking stake.” This will occur exactly a year after offering Irkut stock in Russia. According to Fedorov, his corporation intends to obtain a listing on the London stock exchange early in 2004. This is unprecedented in the history of the domestic defense establishment. Until now, none of the Russian defense companies has thought about entering the world capital market, nor have they even ventured to create financial statements according to international standards.

In 2001, a new team of managers at Irkut made radical changes in the company’s management strategies. According to Irkut Senior Vice-President Sergei Tsivilev, they aimed to build a transparent public company that could use its advantages on the market. “I believe that today investors undervalue Irkut by at least 2-3 times,” Tsivilev stated.
Obviously, it would have been very hard to increase the company’s capitalization and make it transparent without international auditing. The audit, conducted by PricewaterhouseCoopers, met with difficulties, however. The main problem that arose in the course of the assignment was the lack of access to information related to state secrets. Under Russian law, a foreign company auditing a Russian defense enterprise must have a license issued by the Federal Security Service, or FSB. PricewaterhouseCoopers has no such a license. The solution was found through a simple scheme. PricewaterhouseCoopers enlisted the services of a Russian company, Auditor, as a sub-contractor, which in turn received all the required permits from the FSB to work with state secrets.
According to US GAAP financial accounts, Irkut demonstrated good growth in 2002. The company’s sales volume increased by nearly 162% versus 2001 and amounted to as high as $562 million. According to Expert RA, this is the largest revenue growth rate among all Russian companies in 2002. A $2-billion contract with India to supply 164 Su-30MKI fighters and license their production until 2017 was a crucial element in Irkut’s impressive growth. The production of combat fighters remains a priority for Irkut. The company is currently fulfilling another big contract, 18 Su-30MKMs for Malaysia to the tune of $900 million. Irkut orders for Sukhoi heavy fighters total over $4.2 billion. However, the sales of Russian fighters will fall before long, when US 5G combat aircraft make their appearance in 2008. Their analogues are even not under development in Russia at this time. In a conversation with Expert, Fedorov admitted that until 2010, the demand for 4G fighters of the Su-27/Su-30 family currently produced by his company is estimated at several dozen planes. Nevertheless, the Irkut CEO believes that his corporation is in a position to reach an annual sales volume of $1.5-2 billion within the next few years. Fedorov thinks this will happen due to an increase in production output and sales of civil and multipurpose products, whose share in total output will rise from 10% to 50%. Irkut’s management is betting on this development to keep the company growing (See Graphs 1-3).

As Fedorov told journalists, approximately half of the funds from Irkut shares within Russia will be spent on acquiring a 75.46% interest in the Yakovlev Defense Design Bureau, one of the most depressing aircraft enterprises in the country. The Bureau currently employs around 800 people, whiles sales range from $5-10 million every year. Nevertheless, the Yakovlev Yal-130 won over MiG-AT at the competition arranged by RF Air Force for the next training airplane for the Russian army. This was largely due to efforts made by the former head of the Ministry of Industry and Science, Alexander Dondukov, who after his resignation went to the helm of Yakovlev. In the coming years, about 100 Yak-100s will be built for the army and about 60 more sold to India. The total capacity of the training airplane market is estimated at 800-1,400 units totaling $8-15 billion.
But Irkut’s main plans are focused on joint work with Yakovlev on unmanned aircraft and medium-range passenger jets. Only one unmanned scout plane, Pchela (“the Bee”), developed by Yakovlev employees during the Soviet era is currently manufactured in Russia. Meanwhile, Boeing and Lockheed Martin are already working on unmanned aircraft, expected to form the core of developed countries’ front-line aviation by 2010. To all appearances, the Yakovlev unmanned plane will be used as the basis for a future combat aircraft.
Together with the Yakovlev Design Bureau, Irkut intends to develop a new medium-range passenger plane, the MS-21, to replace the already out-of-date Tu-204s and Tu-214s, which never became widely used airliners. The MC-21 project, which Yakovlev is implementing with the Ilyushin Aircraft Complex, is attractive, as about $200 million will be allocated to its development from the federal budget over the next 10 years, the best funded civilian aircraft project in Russia.
The acquisition of the Yakovlev Design Office will enable Irkut to diversify its R&D considerably and establish mass production of a product that will really be in demand in the future. Until recently, Irkut believed this would be an amphibious craft, the Be-200. Last summer, they even purchased a controlling stake in Beriyev TANTK. However, it became clear after market research that only very limited sales (no more than 3-4 planes in each country) are possible on the global market. The planned sale of 300 Be-200s over twenty years appears to be insignificant compared to the potential demand for the Yak-130 and MC-21. Potential demand for these planes is estimated at over 1,000 units per model.

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