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On July 20 a group of Spanish funds won a $2.6 million arbitration award that cost nearly $15 million in unawarded fees, and may well be vacated by a Swedish court. Good investment? Hell yes, from the viewpoint of the oligarchs who used to control Yukos Oil Company and fronted the fees.
Five friends of Yukos founder Mikhail Khodorkovsky owned about three-quarters of the company when it was driven into bankruptcy by Russian tax authorities in 2004. The oligarchs are pressing $102 billion in Energy Charter Treaty claims against Russia, and heading to trial in November before an arbitral panel chaired by L. Yves Fortier. The Spanish funds owned only a few Yukos shares, but through the Spanish-Russian investment treaty they were able to present a similar claim for expropriation.
In effect, the Khodorkovsky crew spent $15 million to secure an advisory opinion from the arbitrators (Jan Paulsson, Toby Landau, and Charles Brower). Indeed, the Spanish case might be seen as the third of three rehearsals for the megabillions main event.
In September 2010 a minority investor called Rosinvestco, in an unsuccessful attempt to make money for itself, won another token treaty award with reasoning helpful to Yukos. And in September 2011, in a case advanced by Yukos's managers-in-exile, the European Court of Human Rights gave a mixed evaluation of the same facts, which pleased Russia enough that it didn't ask for a grand chamber to reexamine the case.
From Yukos's standpoint, none of these cases was about money, or even about valid precedent. Rosinvestco won only $3.5 million in Rosinvestco v. Russian Federation because the arbitrators didn't wish to give a distressed investor a windfall, and the investors didn't even bother to defend a challenge to the award in Swedish court. The Swedish courts in fact vacated Rosinvestco's win on jurisdictional grounds, and this makes the Spanish award vulnerable. The ECHR panel has yet to decide damages, but realistically the range is low.
What the oligarchs hoped the Spanish case would do is to frame their story for the main trial. It was a risky approach, but it succeeded brilliantly. Now that two arbitral panels have accepted Yukos's narrative where the dollar stakes are low, it can only be easier for the Fortier panel to award billions to the oligarchs.
The panel in the Spanish case ( Quasar de Valores v. Russia ) concluded that Russia used tax enforcement as "a pretext for seizing Yukos assets and transferring them to [Russian statecontrolled] Rosneft." Echoing Rosinvestco , it found that Russia "rigged" the auction of Yukos's main asset. It called Russia's position on VAT especially ugly. How could Moscow attribute the profits of its shell companies to Yukos, while refusing to attribute to Yukos the paperwork that would exempt it from the tax?
"To try to have it both ways would surely bespeak unprincipled hostility toward the taxpayer," the panel held. The ECHR, it lamented, "entirely missed" this point. The simplest argument, which has always been stressed by the Spanish funds' lawyers at Covington & Burling, is that Russia didn't act like it cared about collecting tax.
"The failure of a tax authority to respond to multiple settlement offers by the state's largest private taxpayer is . . . highly suspicious," the panel agreed. "Had Yukos been given a moment to catch its breath . . . it could have paid its tax bills, since its fundamental asset portfolio was sound. That is how a legitimately operating tax authority would have proceeded."
The arbitrators in Rosinvestco also held that Russia aimed "to destroy Yukos and gain control over its assets." But unlike the Quasar panel, they accepted that Yukos contributed to its demise by responding belligerently to Russia's tax enforcement, and scaring off bidders who might have paid higher prices for its assets. Rosinvestco noted that these considerations might lower damages in the main case.
In calculating the Spanish damages, the Quasar arbitrators implied a value of $62 billion, before interest, for Yukos as a whole. These calculations were intentionally loose, and Russia chose not to engage on damages, but Quasar and Rosinvestco both found that the company should be valued according to asset prices in 2007, when the Yukos bankruptcy was winding down and oil prices were soaring.
Yes, the ECHR was kinder to Russia. It refrained from second-guessing Moscow on most tax questions, and it concluded that the tax levies were legitimate and nondiscriminatory. But the Yukos camp argues that the ECHR was applying a more deferential standard of review, and still reached plenty of damning conclusions.
And let's get serious: Who is more predictive of the arbitrators in the main eventa panel of faceless regional judges, or six acclaimed peers who all move in the same circles? The arbitrators apply similar law in the same style of analysis. Russia and its lawyers at Baker Botts and Cleary Gottlieb Steen & Hamilton may argue all they like that there is no such thing as precedent in arbitration, or that we're dealing with a vacated award. But the minority shareholder awards will frame the trial.