Bear market

Arrests, oligarchs and an election round the corner. Can things get any more turbulent for Russian business? Jon Robins asks if the rule of law is under threat

Western lawyers based in Moscow for any length of time have long since become inured to life’s vicissitudes in the most tempestuous of legal markets. It takes a lot to unsettle them: even the political crisis ignited by the arrest and imprisonment of Mikhail Khodorkovsky, the former head of Russian oil company Yukos, they take in their stride.

Over the three decades he has been doing business in Moscow, Robert Starr, a partner with US firm Salans and a veteran observer of the Russian legal scene, has seen a lot of what he calls “zigs and zags” in the fortunes of lawyers and their clients. The US lawyer takes a historical view of the recent Yukos saga, comparing it with three distinct danger periods in recent history that his firm has survived.

“The greatest period of uncertainty was in the late 1970s during the Soviet invasion of Afghanistan, where US multinationals were suddenly no longer in the game,” Starr recalls. “Salans was the first law firm to be licensed in the former Soviet Union by the Ministry of Justice, shortly after the ministry disappeared. Then we had the early 1990s, when the Soviet Union fell apart and there were tanks on the streets.” The third major crisis was the 1998 banking crisis, and it is this most recent episode that burnt many a City firm which set up in Russia. When foreign investment dramatically dried up, they were left to survive, if they could, on a rather meagre offering of insolvencies and debt recoveries.

Dark days indeed. Starr believes that it remains to be seen whether the current situation will snowball into a fourth crisis period. Nevertheless, he insists that his firm will weather any storm that is brewing. “The Yukos affair is still playing itself out,” Starr reflects. “But whatever happens, we see no reason for concern about our practice. The firms that might downsize will be those with a small handful of major oil company clients. We’ve never laid anyone off in all these years.”

While the doom-mongers forecast grim times ahead, Dominic Sanders, a partner in Linklaters‘ Moscow office, reports that work has not slowed in recent weeks. “A lot of deals are trying to close by the year end and in a way the presidential election [in March 2004] seems to have only reinforced a tremendous momentum on the corporate and financial side,” he says. “Many of the big corporate projects are very long term and you might expect them to be pulled, but very little by way of adverse impact has hit the market.”

Sanders also believes that should the present problems get worse, Linklaters’ nine-strong Moscow office can ride it out. “One does have ups and downs, but we’ve tried to build a model that’s resilient,” he says. “That said, we aren’t in a position to know where this episode will finish yet.”

Despite the dire headlines in the Western press, the Yukos debacle seems to have had little effect on the wider business community. “What they would say is ‘business as usual’. With the exception of those guys who are really worried, those hoping to buy into the major oil companies and who are directly in the firing line, everyone else will just carry on,” says one lawyer in the region.

The attacks on Yukos started in July with the arrest of Platon Lebedev, effectively the second-in-command, who remains in jail. At the end of last month, Khodorkovsky, Russia’s richest man, was grabbed at gunpoint on a Siberian runway by the Prosecutor General’s Office, on charges which included personal income tax evasion, corporate tax evasion and embezzlement to the tune of $1bn (£599.6m).

It was when the Russian authorities took the unprecedented step of freezing shares in the oil company last month, though, that tremors were sent through the international financial community. There has been much speculation about a tougher climate for big business and the possibility that they would revisit some of the 1990’s privatisations. It was those deals that made huge fortunes for the dozen or so oligarchs, such as Khodorkovsky, who now control an estimated 60 per cent of the Russian economy.

The billionaire’s lawyer, Robert Amsterdam of two-man Canadian law firm Amsterdam & Peroff, alleged a series of human rights abuses by the Kremlin against Yukos executives last week.

“Mikhail Khodorkovsky is a political prisoner. There has been a systematic violation of human rights in Russia and an attack on the rule of law,” says Amsterdam. “Political corruption is the biggest non-tariff barrier to trade with Russia. We’re trying to draw attention to all of this. This is just the beginning of the campaign.”

Amsterdam also presented a dossier which included an allegation that one of Khodorkovsky’s two jailed associates, Alexei Pichugin, was tortured using psychotropic drugs in an effort to force a confession that could be used against Khodorkovsky.

So what do foreign lawyers make of the charges? “You can always find a law in Russia that will justify an action,” comments Calvin Walker, an Allen & Overy partner who used to head up its Moscow office. However, Walker adds that the indictment is “wholly believable” and could amount to “a strong case”. He says: “But what’s really shocked the legal and investment community is the extension into the corporate sphere and the freezing of the shares.”

Linklaters’ Sanders believes that this fallout is not the result of “an individual spat with Mr Khodorkovsky”, but rather a reassertion of more authoritarian figures within the Putin administration. “It’s a reminder to all those less serious investors who’ve tried to cash in on the party that Russia isn’t necessarily like another European Union aspirant economy. It’s an unpredictable place,” he argues. “In some ways it’s a healthy reminder, because as a manager of a law firm practice you don’t want this enormous bubble to then go ‘pop’.

“One hopes that whatever solution is reached, it will be one that doesn’t destabilise the economy further.”

Walker takes a similar line. “It’s not going to stop the economic steamroller, but it’s a serious blip and a reminder that Russia remains a fragile economy,” he says. In particular, he is heartened by news that Deutsche Bank, despite the Yukos affair, has signed a deal for a 40 per cent stake in the United Financial Group, the Moscow-based investment bank, which is worth some $70m (£42m).

Walker believes that the Yukos saga is an isolated event and not an indicator of a wider clampdown. Khodorkovsky has ventured into the political arena in breach of an unofficial deal struck with the ruling elite in 2000. Apparently, the billionaires were allowed to keep their dubiously acquired fortunes so they long as they upheld their side of the bargain by staying clear of politics. Khodorkovsky clearly reneged on that deal by being an increasingly vocal critic of the regime, as well as being a provider of finance to opposition parties in what has been seen as a way of building a support base in the duma. He also stood down as chairman of Yukos, which was interpreted as a move to clear his way to stand as a presidential candidate.

As Doran Doeh, head of the Moscow office at Denton Wilde Sapte, puts it, Russia’s ruling elite bought the “crown jewels for a fraction of their value”. They did this mainly through insider trading, fixed auctions and corrupt Kremlin ties. “But if you start raking over these deals this will unsettle the whole country, as the property rights of a lot of people are founded on these rather murky deals,” Doeh adds.

Sanders says it is too early to assess whether recent events are a one-off or reflect a new hard-line approach by the Kremlin. He believes the real test will be if investigations spread to Siberian oil company Sibneft (owned by Chelsea FC owner Roman Abramovich) or Norilsk Nickel (owned by Vladimir Potanin). That would have a destabilising impact and really rock the boat, he adds.

So what do the past few weeks reveal about the track record of Putin the law reformer, who has pledged to introduce a ‘dictatorship of the law’? Prosecutors arrested Lebedev while he was in hospital and kept him in custody in what has been seen as an attempt to pressurise him into attacking Khodorkovsky. It was reported that he was denied access to a lawyer both when charged and later on, and hearings took place in closed courts. When prosecutors raided the offices of Anton Drel, the lawyer to both Lebedev and Khodorkovsky, it was described as “an unprecedented violation in Russia of lawyer-client privilege”. Drel was due in court to defend Lebedev at the time and the prosecutors refused to show him a search warrant. “This is unprecedented, even in Nazi Germany or Stalin’s Russia,” one prominent independent Russian lawyer told the Financial Times recently.

One expert in Russian law flags up the possibility that a criminal conviction would serve the Putin administration well and is in keeping with the Russian legal tradition. “Russia has a history of using laws in a way that serves the state rather than binds it, and the law under Soviet times was used as a form of state control and certainly never meant to bind its discretion,” he says. “In this instance, once Khodorkovsky has a criminal conviction he couldn’t run for president, and you can be sure that if a conviction is in it will be in place by next March [for the elections].”

Foreign lawyers all have stories of the heavy-handed way in which the state has conducted its investigations in the past and believe that little has changed in recent weeks, despite the Western media’s present concerns about a deterioration of legal standards.

“There’s always an excessive amount of muscle-flexing and the legal procedural niceties are often used as a pretext rather than any kind of barrier,” comments Sanders. “It can be quite scary for investors, and we’ve been visited completely unannounced by the tax authorities, for example.”

The tax police (or “balaclava hit squads”, as one lawyer puts it) are known for using strongarm tactics, and one magic circle firm has found itself subject to their attentions in recent times. “It’s a fact of life in Russia that you can suddenly find yourself a target of what can seem like a paramilitary attack,” comments Walker.

That aside, Starr believes there has been significant progress on law reform and bolstering of the rule of law in recent years. “Modern laws have been put in place during the 1990s for Russia to operate as a market economy, and that shouldn’t be overshadowed by the recent headlines,” he says. “Without that, business would have a much harder time operating, but obviously implementing the law and enforcing the rights can be more problematic.”

However, the problems foreign businesses tend to confront are mafia-related, in certain discrete sectors of industry and through their dealings with the state.

So how might a new period affect the fate of firms in Moscow this time round? Post-1998, the watchword for foreign law firms in Moscow has been ‘caution’. Mark Campbell, global finance practice area leader at Clifford Chance, says his firm is “in Moscow for the long term. I agree this may be a development of significance, but it remains to be seen how significant; and if something like this had a big impact on our strategy, then that would suggest our strategy was wrong in the first place,” he continues. “You have to accept that in a country where a financial market is developing, as it is in Russia, it will be a relatively bumpy ride.”

Sanders argues that Linklaters is “resilient”. “We’re trying not to overexpand when the market heats up and not sack everyone when it cools down, but have something reasonably stable that can withstand the shocks,” he says.

Salans’ Starr also emphasises how his office is designed to withstand shocks. “We aren’t heavily reliant on capital markets, corporate finance, M&A or oil and gas,” he says. “We do all of that, yet none of it’s a dependency.” That is what caught firms out in the last crisis and, he argues, it could well do so again.