Even funds sour on Russia stay sweet on Magnit

By Ross Kerber and Maria Kiselyova

BOSTON/MOSCOW, Sept 17 (Reuters) - Would you believe one of the West's favorite Russian stocks is a provincial grocery chain?

Western fund managers have stockpiled shares in Russia's largest food retailer, Magnit OAO, betting that it will do better than other firms in Russia in the midst of trade restrictions stemming from the conflict in Ukraine.

Magnit sells local produce, has a CEO who meets with investors, and targets ordinary Russians. Many expect its Wal-Mart-like focus on rural and suburban locations to protect sales even as the Russian economy slows.

Fund investor concerns about Russia have led to some selling of Magnit lately, and fund managers warn that small investors might find the risks of investing in Magnit too big.

But its shares appeared in 257 mutual funds at mid-year, second-highest among big Russian companies after retail bank Sberbank, according to Thomson Reuters' Lipper unit.

Sammy Simnegar, manager of the $3 billion Fidelity Emerging Markets Fund, said he likes that Magnit founder and Chief Executive Sergei Galitsky remains a top Magnit shareholder, controlling roughly 43 percent of the company, and often visits with investors.

The company's record is "fantastic," Simnegar said, and he has maintained a roughly $23 million holding in Magnit while selling out of other companies with Russian exposure this year on expectations of an economic downturn.

T. Rowe Price Emerging Europe Fund Manager Leigh Innes said investments in the region face "huge" geopolitical risk and that she has cut back on Russian energy holdings.

But "even in an economic downturn, people still need to eat," Innes said, and the $270 million fund is over-weight Magnit.

In August Russia banned imports including fruit and vegetables from Europe, in response to Western sanctions imposed over Russia's support for rebels in Ukraine.

Magnit responded by making changes like importing apples from Serbia instead of Poland, said director of investor relations Timothy Post. About 3 to 4 percent of its revenue came from the sale of imported items now subject to the ban, he said. That compares with 10 percent for O'Key Group SA and around 7 percent for Dixy Group OAO, according to those companies.

Magnit's chief financial officer, Khachatur Pombukhchan, has said he does not expect the sanctions to have a financial impact on the company.

SMALL TOWNS

Based in the southern city of Krasnodar, Magnit grew from the first store Galitsky opened in 1998. Avoiding big cities like Moscow or St Petersburg, the chain grew across Russia's far-flung regions, including Siberia. As of Aug 31 Magnit had 8,899 stores, up from 7,555 a year earlier, and about two-thirds of which were in cities with fewer than 500,000 people.

[ For a graphic showing Magnit's store locations and same-store sales, click here: http://reut.rs/1shx2qq ]

The stores range from "hypermarkets" of 7,000 or so square meters to small convenience stores in tiny towns.

Magnit's strategy has been compared to that of Wal-Mart in the United States. Magnit serves lower middle-class or low-income consumers. Even Magnit's slogan "Always low prices" echoes a theme often used by Wal-Mart.

On July 23 Magnit said second-quarter net income rose 34 percent to $356.3 million, up from $265 million a year earlier, beating analyst expectations it would earn $310 million for the quarter.

Shares (Frankfurt: DI6.F - news) in Magnit have risen 8 percent for the year, compared with a flat performance for the ruble-denominated Micex index. Three of nine analysts who follow Magnit currently recommend it as a "strong buy" and six as a "buy", according to Thomson Reuters data.

Still, funds sold about 9 percent of their shares in Magnit in the first six months of this year, relatively more than at other companies, according to Lipper. Many sales were likely forced, as investors moved $5.7 billion from mutual funds focused on Russia and Eastern Europe in the period, said Lipper Americas Research head Jeff Tjornehoj.

Even (Taiwan OTC: 6436.TWO - news) after the sales, mutual funds, largely based in the U.S. and Western Europe, owned 11 percent of Magnit's publicly traded shares, according to Lipper. By comparison funds owned just 8 percent of Sberbank and 2 percent of natural gas exporter Gazprom.

Derrick Irwin of the Wells Fargo Advantage Emerging Markets Equity Fund, said he liked Magnit's strength in smaller markets but cautioned that Magnit shares remain less than 1 percent of his broadly diversified fund and might be too risky to make a large bet for an individual investor. Besides the slowing economy, he noted the volatility of Russia's currency, and that retailing can be a choppy sector.

"To put all your eggs in Magnit would be tough," he said.

(Reporting by Ross Kerber in Boston and Maria Kiselyova in Moscow; editing by Linda Stern and Peter Henderson)