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Business Watch: July 15, 2003

15 July 2003, Volume 3, Number 26
Gazprom and Turkey remained at loggerheads over gas shipments through the Blue Stream pipeline despite five hours of talks between Gazprom CEO Aleksei Miller and Turkish Energy Minister Hilmi Guler on 10 July, AP reported the next day. The unsuccessful discussion -- described as "tense" by "Finansovye izvestiya" on 11 July -- was intended to settle differences over how much gas, and at what price, will flow through the $3.5 billion pipeline. Turkey halted shipments in April, hoping to renegotiate for a lower price and scale down delivery volume in the face of slumping demand. On 1 July, the contract entered its "take or pay" phase, meaning that Turkey is technically obligated to pay for the contracted amounts of gas -- 800 million cubic meters by the end of 2003 -- whether or not it accepts the deliveries. To make matters worse, the disputed contract includes a galling misprint in the price calculation formula, casting a possible pall over the contract's validity. ("Yes, it's true, we should admit that we didn't spot this when we concluded the contract," Gazprom spokesman Sergei Kupriyanov told "Nezavisimaya gazeta" of 11 July.) Gazprom fears that renegotiation would set a pernicious precedent for other long-term contracts, but the company needs the revenue to recoup debt-fueled investment in the costly project. An anonymous source in the Russian government told "Vremya novostei" of 9 July that the only solution is to "accept virtually any reasonable conditions from Turkey that fill Blue Stream up with gas again, since 'drying out' the pipeline would be a catastrophe." Gazprom, which has thus far offered only minor concessions, insists that it will continue to press its case in future negotiations. DK

Oil major Yukos moved ahead with its planned merger with Sibneft against a backdrop of unrelated scandal (see In Focus below), announcing on 7 July that it will buy up 10 percent of its own shares at a price of 505 rubles ($16.67) per share, ABN reported the same day. The buyback offer, a 15 percent markup on the stock's 4 July closing, values the 10 percent stake at $3.7 billion. Should all shareholders opt to take part in the buyback, Yukos will allow them to do so on a pro rata bases, distributing the shares proportionally among shareholders. "The buyback program is a form of cash distribution," Troika Dialog analyst Valerii Nesterov told "The Moscow Times" on 8 July, "the company could have distributed the cash in the form of dividends." The company also announced in a 7 July press release that its board of directors approved the issue of 1 billion additional shares. Both the buyback and additional share issue are part of the YukosSibneft merger. Under the terms of that merger, Yukos agreed to pay the owners of 92 percent of Sibneft $3 billion for a 20 percent stake in the company. Sibneft's main shareholders will then trade in their remaining shares for a blocking stake in YukosSibneft. DK

Nationwide utility Unified Energy Systems (EES) announced the publication of its 2002 financial results to international accounting standards in a 7 July press release. The company reported a net profit of 35 billion rubles ($1.15 billion); year-on-year comparisons were skewed by a one-time deal with the Czech Republic that pushed 2001 net profit up to 48 billion rubles. Revenues rose 10 percent year-on-year to 503 billion rubles, and operating expenses jumped 8 percent to 485 billion rubles. Accounts receivable fell 11 percent to 93 billion rubles, although the company's allowance for doubtful accounts rose to 12 billion, suggesting that the company's chronic debtors are becoming more numerous. Some analysts noted that EES's higher-than-expected profits benefited from a deferred tax on profit. Aton analyst Aleksandr Korneev told "Vedomosti" on 8 July that without the deferred tax on profit (45 billion rubles), shifts in the ruble's buying power (9 billion rubles), and exchange rate variations (1.6 billion rubles), the company's billion-dollar profit would fade to a $520 million loss. Others questioned the relevance of financial results for a company in the midst of a restructuring intended to reform it out of existence. Sergei Arinin of Finance-Analitika told RosBusinessConsulting on 8 July, "We don't feel that the publication of international accounting standards financial results will have any significant influence on the market or on the price of EES shares since the company will only exist for two or three more years in its current form." DK

Oil majors LUKoil and Yukos announced the publication of financial results to U.S. Generally Accepted Accounting Principles for the first quarter of 2003 in virtually simultaneous 7 July press releases. LUKoil's revenues rose to $5.1 billion from $2.8 billion for the first quarter of 2002, with net profit jumping to $820 million from $243 million. Yukos's revenues rose to $3.9 billion from $2 billion, and net profit to $1.3 billion from $462 billion. Yukos ran a leaner operation, spending $1.46 to produce one barrel of crude ($1.31 in 2001) against LUKoil's $2.65 ($2.63 in 2001). Ivan Mazalov, an analyst with Commerzbank in London, told "The Moscow Times" on 8 July, "The gap between the two companies remains with Yukos being on top in terms of profitability by a margin of roughly 50 percent." Alfa-Bank analyst Konstantin Reznikov told "Vedomosti" on 8 July that the companies are unlikely to duplicate these results in the near future: "I think that this is the historic maximum for oil company results. The fact is that world prices for oil and petroleum products in the first quarter of this year, on the eve of the war in Iraq, were at record highs." DK

The Russian Central Bank announced in a 9 July press release that exporters will henceforth be obligated to exchange only 25 percent of their hard-currency revenues for rubles. Under current rules, exporters must exchange 50 percent of the hard currency they earn abroad for rubles at home. New currency regulation legislation, signed into law by President Vladimir Putin on 7 July, allowed the Central Bank to set the level of mandatory hard-currency sales at anywhere up to 30 percent. Deputy Central Bank Chairman Oleg Vyugin told "Vedomosti" on 9 July that mandatory revenue repatriation could eventually be pegged as low as 5-10 percent, "but if we see that the market is becoming unstable...we'll raise it to 30 percent." Aleksei Mamontov, head of the Moscow International Currency Exchange, told "Gazeta" on 9 July that the reduction "is economically meaningless," since most exporters sell about 60 percent of the hard currency they earn. The new regulations will go into effect as soon as the law is officially published. In another liberalizing move, the Central Bank posted new instructions for exchanging money on its site ( on 9 July. Exchange points will now issue receipts only when customers request them and will accept more than just passports as identification. "Kommersant-Daily" reported on 9 July that banks "warmly welcomed" the simplified procedures, which they hope will increase efficiency and reduce expenses. DK

Amid fears that oil major Yukos's ongoing difficulties with law-enforcement and tax authorities (see In Focus) could signal a wider campaign against big business, the benchmark Russian Trading System (RTS) stock exchange fell 9.21 percent for the week ending 11 July to close at 462.20. The plunge below the recently breached 500-mark represented the fifth-worst one-week drop in the exchange's history. According to the exchange (, the week's biggest losers were, unsurprisingly, Yukos (down 13.06 percent to $11.65) and its merger parter Sibneft (down 15.47 percent to $2.35). A 3.81 percent single-day tumble on 9 July prompted "Finansovye izvestiya" to call the drop "added proof of our stock market's fragility and dependence not only on economic indicators, but also on the investigative activities of law enforcement." Ruslan Buslov, manager of Pallada Asset Management, told "Kommersant-Daily" on 14 July that attention is shifting from balance sheets to ballot boxes: "There won't be an influx of money onto the market before the Duma elections [in December]. If everyone expected before that the new Duma would conduct a pro-presidential policy, now they're afraid that it will initiate new investigations to take another look at privatization." DK

Management-Center's Mediainvest mutual fund purchased a 38 percent stake in the newspaper "Izvestiya" from LUKoil for 24.8 million rubles ($826,000) earlier this year, "Kommersant-Daily" reported on 9 July. According to the newspaper," Izvestiya" majority shareholder Prof-media, a part of Vladimir Potanin's Interros financial-industrial group, initially expressed an interest in the stake but balked at LUKoil's $20 million asking price. Management-Center Director Sergei Mikhailov told "Vedomosti" of 10 July that the two sides closed the deal in late June, too late for any Management-Center representatives to be elected to the "Izvestiya" board of directors at its 10 June annual shareholders' meeting. "Vedomosti" also reported that some sources describe the relationship between the formally unconnected Management-Center and LUKoil as "friendly," noting that Mikhailov sits on LUKoil's board of directors. "Sreda" Editor Aleksei Pankin told "The Moscow Times" of 10 July: "LUKoil has always been a strange investor. It always bought things without really understanding why it needed them, then it got rid of them. It's one of those oligarchic empires that always tries but never manages to use their media resources as a means of PR." DK

Moscow-based holding company AFK Sistema announced in a 9 July press release the publication of financial results to U.S. Generally Accepted Accounting Practices. The numbers were all up, with revenues rising 23.7 percent to $904 million, net profit 22.7 percent to $166 million, and EBITDA (earnings before interest, taxes, depreciation, and amortization) 23.2 percent to $370 million. Sistema's holdings run the gamut from telecoms to oil companies, with telecoms making up 64 percent of its assets. Sistema cellular operator Mobile TeleSystems (MTS) is the largest in Eastern Europe, with more than 10 million subscribers. President Yevgenii Novitskii told reporters at a 9 July press conference that Sistema plans to pump $1.75 billion into its telecom business in 2003, "Vremya novostei" reported the next day. RBC reported on 10 July that $1.45 billion will go to developing MTS, a substantial increase on 2002 investments of $980 million. Sistema is also casting its gaze beyond the Russian market: to India. Sistema Vice President Levan Vasadze told "Vedomosti" on 10 July that the company sees great potential in the Indian cellular and IT markets. Deutsche Bank analyst Yulii Matevosov told the newspaper that the expansion makes sense, as it would allow MTS to maintain its dynamic growth even after the Russian market reaches saturation. DK

Investment company Brunswick Capital is gearing up to invest up to $500 million in Russian joint ventures over the next five years, "The Moscow Times" reported on 10 July. The money will go toward class-A office space in Moscow, investment banking, leasing, and, somewhat unexpectedly, railway cars. Brunswick Capital Chairman and chief executive Christopher Mackenzie explained to the newspaper that impending railway industry reforms inspired the move: "We would not have done this a year ago, but the timing is dictated by the fact that the market is opening up." Aleksei Belyukov, who will direct Brunswick's railway project, told "Vedomosti" of 11 July that the company has already purchased 1,000 used railway cars to transport oil, aluminum, and coal and will begin leasing them in October. Reaction was mixed, with a Yukos representative telling "Vedomosti" that the oil company would be interested in leasing railway cars, a Rusal representative explaining that the aluminum producer did not need such railway cars, and an oil transport company representative describing the market as too crowded for Brunswick to make easy inroads. DK

The genesis of Russian capitalism requires its own theology. Its creator and original sin are one and the same: privatization. What had once belonged theoretically to the people, and practically to the Communist Party, was parceled out, divvied up, and handed over, sometimes for a song, sometimes for considerably less. A nation of unpropertied apartment-dwellers birthed a handful of billionaires and a gaggle of millionaires. The majority were left dazed in their apartments, trying to understand how it could have happened so fast.

But the country moved on. With Vladimir Putin's assumption of the presidency in 2000, the unwritten rules of the post-privatization era hardened into something more lasting. Conventional wisdom viewed it as a pact: Those who had benefited most from the redistribution of wealth in the 1990s -- the so-called oligarchs -- could keep what they had. So long as they kept out of big-time politics. The two most "political" oligarchs -- Vladimir Gusinskii and Boris Berezovskii -- sealed the deal when they fled Russia for the West amid intensifying probes of their domestic affairs.

Soon the watchwords were consolidation and profit. A December 2001 study by Peter Boone and Denis Rodionov of Moscow-based investment bank UBS Warburg found that 85 percent of the 64 largest privatized companies in Russia were controlled by a mere eight shareholder groups (for more on financial-industrial groups, see "RFE/RL Business Watch" 13 May 2003). And for many of those groups, particularly those with holdings in the oil business, the early 2000s were a full-throttle boom. When "Forbes" drew up its 2003 list of the world's billionaires, Russia added 10 in a year for a total of 17.

The conflation of creation and original sin makes for an ambivalent theology. The more observers focused on the perceived successes of Russian capitalism, the less interest they had in its dubious origins.

Those dubious origins are back in the news. Yukos is the Russian oil company that had come to symbolize the promise of Russian capitalism through a potent mix of profit, progressive management, and forgetting. Yukos is today the unexpected focus of an unexpected scandal. "RFE/RL Business Watch" reviews the main events and interpretations.

The Investigations
The most important Yukos-related investigation involves Platon Lebedev. A longtime business associate of Yukos CEO and top shareholder Mikhail Khodorkovskii, Lebedev heads the Gibraltar-registered Group Menatep Ltd. that controls 60.5 percent of the oil company Yukos. Lebedev himself holds a 7 percent stake in Group Menatep Ltd.

Lebedev stands accused of fraud in the 1994 privatization of fertilizer producer Apatit. A firm called Volna paid $225,000 for a 20 percent stake in Apatit after promising to invest $280 million in the enterprise. The promised investments never materialized, and the local government sued to get the shares back in 1996. Volna claimed a third party had purchased the shares but agreed to pay $16 million in 2002 to bury the hatchet. Lebedev, who denies any involvement in the Apatit privatization, was the head of Khodorkovskii's Menatep Bank at the time. The General-Prosecutor's Office now claims that Lebedev caused the state $283 million in damages.

Other Yukos-related cases are simmering on the back burner. Aleksei Pichugin, head of a security department at Yukos, has been in jail since 21 June on charges of organizing a double murder in 2002. Prosecutors announced on 2 July that an international warrant for former Yukos executive Ramil Burganov was issued in January on charges that he stole 1 billion rubles ($30 million) worth of shares in Eastern Oil Company. And prosecutors announced on 3 July that they are looking into a Yukos connection in a 1998 attempt on the life of oilman Yevgenii Rybin.

Two other investigations target Yukos itself. The Prosecutor-General's Office announced on 8 July that it will launch an investigation into Yukos's alleged theft of a 19 percent stake in oil company Eniseineftegaz, "RFE/RL Newsline" reported the next day. Sergei Bodganchikov, president of state-owned oil company Rosneft, charges that Yukos made off with the 19 percent stake. The two companies are locked in a fight for control of Eniseineftegaz, which holds the license to develop the Vankor oil field in Western Siberia. On 9 July, the Prosecutor-General's Office revealed that it will start an investigation in response to a request by State Duma Deputy Mikhail Bugera, RBC reported the next day. Bugera alleges that Yukos underpaid its 2002 taxes by 90 million rubles ($2.95 million) using "numerous tax evasion methods."

The Events
2 July

Platon Lebedev detained.

3 July

Lebedev appears before a district court in Moscow. The court rules that he is to be jailed while facing charges of embezzlement, fraud, and failure to comply with a court decision.

Interfax reports that the Prosecutor-General is investigating a Yukos connection in a January 1998 attempt on the life of East Petroleum Handelsges head Yevgenii Rybin.

4 July

Yukos CEO Mikhail Khodorkovskii and former Yukos executive Leonid Nevzlin arrive at the Prosecutor-General's Office to testify on the Lebedev case.

Representatives of the Federal Security Service (FSB) confiscate documents from the offices of M-Reestr, which holds the share registry for both Yukos and Apatit.

A Moscow city court strikes down an order banning the publication of the May 2003 issue of muckraking magazine "Kompromat," "Moskovskie novosti" reported on 8 July. Yukos's lawyers had obtained a court order blocking the appearance of the May issue, which consists entirely of anti-Yukos materials. All 10,000 copies will now be available for sale.

8 July

Prosecutors open an investigation into Yukos's acquisition of a 19 percent stake in oil company Eniseineftegaz.

9 July

Prosecutors begin a probe into charges that Yukos underpaid its 2002 taxes.

The Arbitration Court of the Krasnoyarsk Krai rules that the pro-Yukos Eniseineftegaz board of directors elected in March is illegitimate, "Kommersant-Daily" reports on 11 July.

10 July

Investigators from the Prosecutor-General's Office search the head offices of Khodorkovskii's bank Menatep St. Petersburg.

11 July

Investigators from the Prosecutor-General's Office search Yukos's Moscow archive until the early morning on 12 July.

Searches continue at Menatep St. Petersburg.

Khodorkovskii flies to United States to attend the Sun Valley business mogul conference, vows to return to Moscow after the weekend.

14 July

The Prosecutor-General's office announces the discovery of weapons and surveillance equipment during the 11-12 July search of Yukos's archive.

The Prosecutor-General's Office confirms the receipt of a request from State Duma Deputy Nikolai Daikhes for an investigation into possible tax evasion by a Yukos affiliate in the Sverdlovsk Oblast.

The Context
Mikhail Khodorkovskii engaged in a bit of verbal sparring with President Putin at a 19 February meeting between the president and members of the Russian Union of Industrialists and Entrepreneurs. Khodorkovskii alluded to rumors of a kickback in state-owned Rosneft's $600 million acquisition of oil company Severnayaneft; the president responded with an allusion of his own, to Yukos's past. Their exchange, as reported by "Kommersant-Daily" the next day:

Khodorkovskii: "Let's take, for example, Rosneft's purchase of Severnaya Neft. Everyone feels that this deal had, so to speak, an additional level. The president of Rosneft is here, I don't know, will he confirm this? ... Yes, corruption is spreading in the country. And you can say that it began with us. Well, it started, and sooner or later we'll have to stop it!"

Putin: "...Rosneft and its deal with Sevneft.... This is a state-owned company that needs to increase its reserves. Some companies, like Yukos, for example, have super reserves, and here's a question: How did it get them?"

The National Strategy Council, a Moscow-based political think tank, released a report in June warning of a "creeping oligarchic coup" involving Roman Abramovich, Mikhail Fridman, Oleg Deripaska, Khodorkovskii, Vladimir Potanin, and Andrei Melnichenko. Some observers felt that the report represented a Kremlin-sponsored attempt to pave the way for a populist, anti-oligarchic theme in upcoming election campaigns. Yuliya Latynina characterized the report as follows in "Yezhenedelny zhurnal" (No. 22):

"[The oligarchs] are all bearers of an 'anti-national system of values.' They rely on the 'resources of other states to guarantee their interests on the political and economic territory of Russia. They espouse hedonism and a cult of money, dooming Russia to 'technological degradation.' Officials they have privatized -- such as [deputy head of the presidential administration Vladislav] Surkov, [presidential chief of staff Aleksandr] Voloshin, [Prime Minister Mikhail] Kasyanov -- 'reject in defeatist fashion any strengthening of state regulation in the economy.' Most importantly, the oligarchs want to place significant limits on the president's power."

Salavat Karimov, the investigator currently in charge of the Yukos case, has overseen a number of politically volatile, high-profile investigations, though none has ever gone to trial. "Kommersant-Daily" on 5 July listed the subjects of some of Karimov's previous investigations: Vladimir Gusinskii's Media-Most (June 2000); former Railway Minister Nikolai Aksenenko (October 2001); and oligarch Boris Berezovskii and carmaker AvtoVAZ (August 2002).

Chukotka Governor Roman Abramovich recently achieved worldwide notoriety with his purchase of England's Chelsea soccer club. He also controls Sibneft, currently being merged with Khodorkovskii's Yukos to create the world's fourth-largest oil company. RBC reported on 10 July that tax authorities are turning their gaze to Sibneft as well. Recent moves by Abramovich to divest himself of his Russian holdings have led to speculation that he might consider a move abroad in the event of a concerted anti-oligarch campaign at home. Kirill Rogov wrote in on 11 July: "People close to Abramovich have hinted recently that he will sell his part of the car business, hand over the oil business to Khodorkovskii, and the aluminum to Deripaska. In short, the sensitive oligarch is packing his bags."

Meanwhile, aluminum tycoon Oleg Deripaska might soon have problems of his own. The Prosecutor-General's Office on 14 July reopened a criminal investigation into insurance company Ingosstrakh, Interfax reported the same day. Andrei Andreev alleges that Deripaska used extortion and fraud to force him out of the company and seize control. "Kommersant-Daily" wrote on 15 July, "After the events surrounding Yukos, the authorities may try to use this old conflict as a pretext for going after well-known entrepreneur Oleg Deripaska."

The Quotes
"I'm not questioning [law enforcement's] right, but I think that arrest is an excessive measure for suspects in economic crimes. There are plenty of other crimes where arrest is indispensable." -- Prime Minister Mikhail Kasyanov on the decision to hold Platon Lebedev in prison (8 July, as reported by the BBC Russian Service)

"I think that the prosecutor and Audit Chamber should examine the phenomenon of where dollar-denominated billionaires came from in Russia over eight-to-nine years. In nine out of 10 cases, these billions appeared because Russian law was broken." -- State Duma Chairman Gennadii Seleznev (8 July, as reported by ABN the same day)

"We need to change the situation with the collection of taxes from our largest oil that the money the oil companies make goes...not for buying the football team Chelsea." -- Audit Chamber head Sergei Stepashin (7 July, as reported in "Vedomosti" the next day)

"I think that we're dealing with a power struggle between various wings of Vladimir Vladimirovich Putin's entourage. This is the beginning of the power struggle that is supposed to end after [presidential] elections in March [2004].... Putin will win and get a second term. The question today, of course, is who will make up the second level of the team." -- Yukos CEO Mikhail Khodorkovskii (5 July interview with Tomsk television station TV-2, as reported in "Kommersant-Daily" on 7 July)

"I think that [Khodorkovskii] will try to make a deal. Absolutely. He'll believe, or he'll convince himself that he believes, what Putin or his people are saying. And in the end, he'll lose, of course. Because the authorities' mission today is to shut him up, so that he's not just quiet, but so that he stops acting independently in politics. The next step, if Putin is re-elected, will be to take away the property." -- Oligarch-in-exile Boris Berezovskii (9 July interview with "Kommersant-Daily")

"Of course, I'm against arm-twisting and prison cells. I feel that this isn't a means of solving problems where economic crimes are concerned. We need to fight these crimes, but not with the help of prison cells." -- President Vladimir Putin (11 July, as reported by state-owned ORT television)

"Sooner or later wee need to draw a line and from a certain period onward act only in accordance with current legislation. We need to keep to a minimum any reexamination of what happened before that time. Otherwise, we'll either have to review all the deals, which would be a catastrophe, or law enforcement will use double standards and act selectively, which is what's happening now with Yukos." -- Presidential economic adviser Andrei Illarionov: (14 July, as reported by RBC)

The Theories
Two main theories have emerged to explain the sudden raft of Yukos-related investigative activity. The first holds that Khodorkovskii's political ambitions have spooked the Kremlin, which views his actions as a violation of the no-politics-for-oligarchs pact and intends to use the General-Prosecutor's Office to take him down a peg. The second holds that Khodorkovskii has fallen victim to a struggle between two groups within the Kremlin as they battle for supremacy in the lead-up to State Duma and presidential elections. Neither theory provides a satisfactory explanation.

Proponents of the first theory point to Khodorkovskii's open sponsorship of pro-Western political parties Union of Rightist Forces and Yabloko, his outspoken stance in favor of the U.S.-led war in Iraq, and his conflict with state-run companies over the route for a planned Siberian oil pipeline. The flaw in this view, which is especially prominent in Western press accounts, is that it overestimates the significance of Khodorkovskii's political involvement and focuses on Yukos and Khodorkovskii to the exclusion of other actors and factors.

Proponents of the second theory note a split between two groups in the Kremlin: the Yeltsin-era officials and oligarchs who control most of the country's financial-industrial groups, and the up-and-coming dark horses who followed Putin to Moscow from St. Petersburg and/or the intelligence and security services. With its murky motives and elusive events, this theory reveals how little we know about the inner workings of the Kremlin, but little else.

The "Yukos scandal" still has a chance to fizzle. Indeed, many more investigations have slunk off to the archives with a whimper than set off for court with a bang. But a great deal hangs in the balance this time -- Russia's largest privately owned corporation, Western investors' increasing conviction that Putin-era Russia's clearer rules make it a place they can "do business," and the baseline stability that obtains from a "for better or worse" refusal to open the Pandora's box of privatization. And with each new revelation, investigation, arrest, charge, countercharge, and scandal, that balance grows more precarious. DK