The Inner Workings of Rostec, Russia’s Military-Industrial Behemoth

Pavel Luzin, wilsoncenter.org, April 1, 2019

BY PAVEL LUZIN

Pavel Luzin is Senior Lecturer at the Faculty of History and Political Science at Perm University. This article first appeared in Riddle and has been lightly edited here for style.

Russia’s arms industry comprises over 1,300 companies employing around two million people. These employees and their families form one of the key pillars of support for the Kremlin. A major player in this field is Rostec, Russia’s military-industrial behemoth, which incorporates over 700 companies and employs over half a million people. This state-owned corporation oversees the research and development of military technologies and owns several production facilities, which play an instrumental role in putting those technologies into operation on the battlefield. Rostec and its subsidiaries produce a dizzying array of military equipment, from helicopters and armored fighting vehicles to Kalashnikov rifles and night vision goggles. If the Russian military can use it, Rostec has had a hand in making it.

These are important times for Russia’s booming military-industrial complex. The threat of using military force in the future is an increasingly important instrument of Russian foreign policy; this year alone, Moscow is spending approximately 1.5 billion rubles on purchasing arms and military equipment. Therefore, the development of the military-industrial complex has a huge influence on the political evolution of Russia’s regime. And to understand precisely what that means, we need to take a deeper look at the inner workings of Rostec.

Rostec’s Bosses and the New Russian Nomenklatura

Sergey Chemezov is the CEO of Rostec; more than that, he is a former colleague and an old friend of Vladimir Putin. In fact, he is a leading member of his patron’s inner circle. In 1999, Chemezov became head of the state-owned arms exporter Promexport, and then head of the newly created Rosoboronexport. This state-owned company quickly gained a monopoly over Russian arms sales on the international market, and soon began to acquire its own production facilities inside Russia. In 2007, this growth culminated in the appearance of Rostec, another state-owned corporation originally known as Rostekhnologii. Chemezov has clearly gained a great deal of political influence; remarkably, this influence has not come at the cost of beholding himself to any particular group, not even his own partners.

Of course, Rostec counts among its leadership a number of people who have worked with Chemezov for many years. These associates include Deputy General Director Vladimir Artyakov and one of the company’s managing directors, Vladimir Litvin. Another close associate of Putin’s chief military industrialist is Mikhail Shelkov, who today owns more than 60 percent of the titanium company VSMPO-Avisma. Other trusted members of Chemezov’s team include Rostec’s executive director, Oleg Yevtushenko, and Dmitry Lelikov, another deputy general director of the corporation. Even this parade of influential people, however, does not begin to hint at the influence of “Chemezov’s circle” in Russia’s halls of power.

A deeper look at the leadership of Rostech and the many companies under its wing unearths a number of people with close connections to Russia’s secret services, or at least very colorful biographies. Sergey Abramov, for example, had quite a career: he graduated from a university in Tashkent, Uzbekistan, in either 1996 or 2001, after which he worked in the banking sector and even served as finance minister and prime minister of Chechnya in the early 2000s. Abramov then worked for several years as the head of the station management department of Russian Railways alongside Vladimir Yakunin, an erstwhile heavyweight from Putin’s inner circle. In 2015, Abramov joined Rostec as an industrial director, overseeing the development of conventional weapons.

Denis Manturov, Russia’s current minister of industry and trade, is often described as a protégé of Chemezov. However, this view is mistaken. Although Manturov did work at Oboronprom, of which he eventually became general director, his involvement with the military industry (specifically with helicopter production) began in the early 1990s. Manturov’s rise owes to his father, who held various diplomatic posts representing the Soviet Union in India, Sri Lanka, and at the UN.

The examples of these individuals suggest that Rostec’s management is formed not according to closeness to Chemezov or on the basis of professional qualifications but, with a few rare exceptions, according to the principle of nomenklatura. In essence, the decisive role in career advancement is played by professional history and origin, a readiness to obey orders at any given moment from whoever those bosses happen to be, and absolute loyalty to those superiors and their decisions. Possession of all these attributes, coupled with an ability to quickly adapt to periodic changes in the rules of the game, is euphemistically known as having “political literacy.” Thus this state corporation, in particular the role of the functionaries who make it run smoothly, provides a good illustration of the Russian political system as a whole.

In several respects, today’s Russian nomenklatura is markedly different from that of the Soviet period. It is a stable, fairly closed, and multitiered network that developed around the mid-2000s. The word “network” is used advisedly: today’s nomenklatura cannot be described as one of the Kremlin’s “bastions” or as an alliance between coherent “interest groups” within the Russian elite, for the only fully consolidated political group at such a high level is embodied by Putin’s inner circle. So when today’s nomenklatura lobbies for its interests, it does so as a managerial strategy, as well as to leverage the more familiar tactic of competing for the state’s graces and resources. That is to say that the head of, for example, a state-owned company such as Rostec fights for more than his personal interests. He also has to fight for the interests of his subordinates so that he does not lose his authority over them (which would eventually spell the loss of his own position).

In this sense, while different sections of Rostec may well have competing interests, Chemezov must play the role of moderator to maintain his politically influential position. He must also take into account the interests of those whose positions depend on the state-owned company, such as local elites in the more than fifty regions where Rostec has a presence.

An Illusory Market

Rostec  was initially created as an umbrella organization to administer hundreds of Russia’s state-owned arms companies. But very quickly, in the name of “Russia’s strategic interests,” it began to consolidate control over some civilian industries, too. These included parts of the automobile companies AvtoVAZ and KAMAZ, several airlines, and the titanium company VSMPO-Avisma.

On founding the company in 2008, the Russian government transferred 439 state-owned enterprises to Rostec. The total number of employees of these companies at the time was 788,000. As Rostec’s management was eager to make all these various enterprises as competitive and efficient as possible, it began to amalgamate these new acquisitions into specialized holdings (in everything from aviation to ammunition and radio electronics). A further step was to sack redundant personnel. Thus in 2014, when Rostec owned more than 500 companies, it had only 443,000 employees. Over the next three years, Rostec’s holdings grew to more than 700 companies, but its managers started to be wary of large staff cuts in the context of the economic downturn. By the end of 2017, Rostec employed 512,000 people. After completing its takeover of United Aircraft Corporation (UAC), this number will exceed 600,000.

Roster grew in other ways, too. Since 2011 the company has been a beneficiary of an extensive state program for the development and procurement of weapons, one that was been enhanced by the import substitution policy of 2014. If in 2009 the revenue of the entire Rostec corporation, including its subsidiaries, amounted to 511 billion rubles ($16 billion at the average annual rate), between 2011 and 2017 its total revenue increased from 817 billion to 1,589 billion rubles. However, the ruble’s devaluation led to a decrease in dollar earnings from $27.8 billion in 2011 to $27.3 billion in 2017.

Nevertheless, because the corporation had ended 2009 with a net loss, its net profit from 2011 to 2017 still increased from 46 billion rubles ($1.57 billion) to 121 billion rubles (more than $2 billion.) This underscores that Rostec increased its ruble revenues and generated profits only because of a sharp growth in weapons purchases by the government, and grew only thanks to the takeover of a large number of companies.

When arms purchases stabilized (probably only temporarily) in 2017 at 1.5 trillion rubles a year, Rostec had to consolidate its military production accordingly. So at the end of 2018, Putin decreed a takeover of UAC, which was the world’s fourteenth-largest defense company though far from the world’s most cost-effective (it is worth remembering that many such companies and factories in Russia are unprofitable despite their size).

Alongside its other revenue figures, Rostec declares that in 2017 alone, the monopoly arms exporter Rosoboronexport delivered military products worth $13.4 billion to the international market. It is hard to say whether this entire figure can be factored into Rostec’s own income stream insofar as Rosoboronexport also sells products from other enterprises.

However, since 2012 Rostec has also started to reduce its stakes in a number of companies. In 2014, 49 percent of the shares in the Kalashnikov concern were sold to TKH-Invest, which is jointly owned by Alexey Krivoruchko (a former employee of Rosoboronexport and the current deputy defense minister for armaments) and the businessmen Iskandar Makhmudov and Andrey Bokarev. In 2018 they increased their stake in the business to 75 percent minus one share.

That same year, Kalashnikov acquired a 60 percent stake in NPO Molniya, a manufacturer of rockets and missiles, from Rostec. In 2018, Rostec and the Marathon Group also merged their pharmaceutical assets. The co-owner of Marathon Group is Alexander Vinokurov, son-in-law of Russian Minister of Foreign Affairs Sergey Lavrov.

These sales and mergers have continued into 2019. Just a few months ago, the banker Viktor Grigoriev acquired a 75 percent stake minus one share of Tekhnodinamika, a manufacturer of aviation, aerospace, and nautical equipment. Grigoriev’s NK Bank has worked with Russia’s military industries since the early 1990s, while he himself once worked for Oboronprom as a deputy to Manturov. In 2019, Rostec and Sistema merged their production  of microelectronics. Also in the cards is the sale of a controlling stake in Uralvagonzavod (UVZ), a manufacturer of tanks, railway locomotives and carriages, and construction equipment (Rostec bought the company in 2017 to save it from bankruptcy).

All these moves seem to suggest that Rostec has several longer-term goals in mind. First, the corporation wants to create a reliable source of profit in VSMPO-Avisma. Second, Rostec’s managers want to be compensated for the corporation’s losses (such as bailing out unprofitable companies) by developing a more flexible approach to military production; this will be achieved thanks to conditional investment from the private Kalashnikov and Technodinamika corporations. Finally, Rostec wants to secure further monopolies in those sectors of the military industry that the Russian government supports through protectionist policies. These sectors, which include electronics and pharmaceuticals, will see guaranteed demand-driven growth over the coming years as a result of import substitution programs.

Under Russia’s current economic and political conditions, the most likely scenario is that the government continues to dismantle what remains of a market economy. The Kremlin has already made clear its desire to nominate certain defense companies as exclusive suppliers of equipment to mining and energy companies, and has even issued a directive stating that consumer products should account for 50 percent of the military industry’s revenue by 2030. Rostec’s latest financial report, in contrast, puts that share at 29.1 percent of revenue, or 462.4 billion rubles. However, the same report also claims that civilian industries production amounted to 548 billion rubles. Without factoring in the possibility of misleading data, this discrepancy suggests that in 2017, 86 billion rubles’ worth of civilian production was actually not sold at all.

All this leaves Rostec management and employees with a clear collective interest in furthering the Russian government’s protectionist measures, rooting for the adoption of even tougher measures to protect Russia’s civilian and military industries alike from competition.