Yukos oil company chief executive officer Mikhail Khodorkovsky (R) stands behind a glass wall at a courtroom in Moscow, on December 29, 2010. (Photo by Alexander Nemenov)
Dealing a historic legal blow to Vladimir Putin’s Russia, an arbitration tribunal has held the Russian Federation liable for $50.02 billion for seizing the assets of OAO Yukos Oil Company. The panel held that Russia effectively expropriated Yukos in 2004 without due process or just compensation, in violation of international law.
The men who once controlled Yukos—and its 2 percent of the world’s oil—unveiled the ruling in their favor at a London press conference Monday morning. The July 18 opinion, issued under the auspices of the Permanent Court of Arbitration in The Hague, runs to nearly 600 pages and 2,500 footnotes.
“Russian courts bent to the will of Russian executive authorities to bankrupt Yukos, assign its assets to a state-controlled company, and incarcerate the man who gave signs of becoming a political competitor,” wrote the panel in a typically sweeping passage.
The $50 billion award shatters previous litigation records like so many Faberge eggs. It exceeds the preexisting marks for largest arbitration award, under either contract or treaty, by a factor of 20. Despite America’s reputation as the homeland of jackpot verdicts, the decision dwarfs all U.S. business judgments, with the exception of a tobacco verdict that was vacated. And if the claimants are able to collect on the Yukos ruling, it is likely to stand as the largest meaningful legal judgment in world history. (See where Yukos falls in our rankings of the largest all-time court verdicts, arbitration awards and investment awards.)
Read our full coverage of Yukos’ $50 billion victory against Russia.
Because former Yukos CEO Mikhail Khodorkovsky renounced his shares in the company near the start of his long imprisonment by Russian authorities, the claims were pushed by five close associates of Khodorkovsky who owned the majority of Yukos through two offshore vehicles, Yukos Universal Limited and Hulley Enterprises Limited. (See sidebar: The Winners.) They invoked a regional investment pact known as the Energy Charter Treaty—part of a web of agreements giving foreign investors the right to sue states in arbitration.
“This award shows that investment treaties are effective, and international law has teeth,” said claimants’ lawyer Emmanuel Gaillard of Shearman & Sterling in Paris. “I am particularly pleased the tribunal understood the political nature of the assault.”
Yukos’ standoff with the Kremlin began in 2003, with masked commandos storming Khodorkovsky’s private jet on a tarmac and arresting him at gunpoint. Khodorkovsky went on to lose two criminal trials, and spent most of a decade in a Siberian prison before receiving clemency in December 2013.
Along the way, according to the tribunal, Russia systematically harassed the lawyers for Yukos and its chief. Russia’s actions included denying proper medical treatment for AIDS to Yukos general counsel Vasily Aleksanyan, which, as the panel noted, Russia’s own human rights council called “monstrous.”
The dismantlement of the company, which is the main focus of the ruling, proceeded in parallel. As the tribunal tells it, Russia hit Yukos with a series of heavy fines for back taxes starting in April 2004. By November 2007 it had declared Yukos bankrupt and parceled out its assets, with most ending up in the hands of state-run OAO Rosneft.
The tax authorities rushed to grab Yukos’ prime pieces, the tribunal found, and Russia refused to fairly negotiate with a company that was gushing oil to pay what was demanded. “The primary objective of the Russian Federation was not to collect taxes but rather to bankrupt Yukos and appropriate its valuable assets,” the arbitrators concluded.
The lion’s share of the tax bill that Russia claimed, more than $13 billion, was for value-added tax. Yet the panel found that Yukos clearly qualified for VAT exemption by virtue of exporting its oil. Russia formalistically refused to attribute to Yukos the paperwork that would exempt it from the tax, because the forms were filed by regional shell companies. Russia’s tax expert conceded that the Russian bankruptcy trustee could have—and should have—cured Yukos’ $13 billion “mistake” by simply refiling its VAT returns in the name of the parent company. However, the tribunal held, Russia was determined “to do whatever it deemed necessary to impose massive tax liabilities on Yukos.”
In the arbitrators’ telling, Yukos’ back was broken by the forced sale of its core unit, YNG, which by itself pumped as much oil as Libya. On Dec. 19, 2004, YNG was auctioned for $9,350,000,000 to a maildrop company incorporated two weeks earlier, with a capital of $359, in a provincial office block with a liquor store and a fast-food restaurant. The state-championed Rosneft scooped it up three days later. In defending the move’s legality, Putin said that the state—in words underscored by the tribunal—was “looking after its own interests.” Once Rosneft owned YNG, its tax bill was conveniently slashed. A mere 18 months later, YNG was valued at $56 billion in Rosneft’s IPO. A Rosneft Web page described its YNG purchase as “the most monumental bargain in Russia’s modern history.”
The Yukos tribunal concluded that “the YNG auction was rigged.” Russia, it wrote, “was intent on confiscating the most valuable asset of Yukos and effectively transferring it to the Russian state.”
From March 2006 to November 2007, Russia liquidated the rest of Yukos, as Rosneft won 11 of 17 auctions for the company’s remains. Directly or indirectly, the claimants maintained, Russia received 99.7 percent of the bankruptcy proceeds. The panel accepted the claimants’ characterization of the bankruptcy as “‘the final act of the destruction of the company by the Russian Federation and the expropriation of its assets for the sole benefit of the Russian state and state-owned Rosneft and Gazprom.’”
In sum, the arbitrators agreed that Russia’s “extremely formalistic” interpretation of tax law was confiscatory, that the forced sale of YNG was “rigged,” and that Yukos’ bankruptcy was designed to “destroy” it.
Chairing the Hague tribunal was L. Yves Fortier of Canada, who reigned for many years as the world’s busiest high-stakes arbitrator, according to Arbitration Scorecard. (See profile: The Three Faces of Yves.) The claimants’ appointee, Charles Poncet, is a partner in the newly merged Swiss law firm of CMS von Erlach Poncet. Russia appointed arbitrator Stephen Schwebel, of Essex Court Chambers in London, who fully joined the opinion despite his reputation as a great dissenter during his 20-year term on the International Court of Justice. As defense counsel, Russia tapped Baker Botts and Cleary, Gottlieb, Steen & Hamilton.
When it came to damages, the claimants did not get everything they wanted, which was $114 billion. The arbitrators were not convinced that Russia lay behind a decision by OAO Sibneft to unwind its merger with Yukos, and so they did not impose any damages for the value lost. As to the confiscation of Yukos itself, the tribunal reduced the claimed damages by 25 percent, finding that some of Yukos’ trading entities had abused tax advantages designed to benefit economically depressed regions of Russia.
In valuing Yukos, Russia had argued that the date of expropriation should be taken as late 2004, when Yukos lost its crown jewel, YNG, and oil prices were low. The claimants argued for November 2007, when the company was struck from the corporate register and oil prices were high. The tribunal agreed with Russia. But that gained Russia nothing, because under the Energy Charter Treaty, the arbitrators held that compensation should be calculated at the date of the arbitral award if doing so would result in a higher recovery.
On the basis of current prices for comparable companies, the tribunal valued Yukos at $43 billion. The claimants’ 70.5 percent share of the equity came to about $30 billion. The arbitrators added $36.6 billion for 10 years of lost dividends, subtracted 25 percent for contributory fault, and arrived at a grand total of $50,020,867,798.
In addition, Russia was ordered to cover $60 million of Shearman’s roughly $80 million in attorney fees, and about 4.2 million euros ($5.6 million) of the tribunal’s costs. Postjudgment interest will begin to accrue after 180 days.
Could an award on this scale threaten the system of state-investor arbitration? As judgment neared, The American Lawyer repeatedly put the question to the claimants’ lead lawyer, Shearman & Sterling’s Gaillard.
“What would really destroy the system would be an absurdly low award,” Gaillard initially responded. He later reflected: “Investment protection is here to stay. The form may change; some aspects may be improved and probably should be. But it is a lasting enhancement of the rule of law.”
In the next phase of the dispute, Russia is likely to challenge the awards in Dutch court. Judicial review of arbitral awards is limited, however. And in previous litigation, Dutch courts have been receptive to the Yukos claimants’ narrative.
If the ruling stands, the game will then shift to enforcement, where Russia holds the trump card of sovereign immunity. “No one on earth is stupid enough to believe they’re going to extract tens of billions from the Russian Federation,” Bruce Bean of Michigan State University College of Law told The American Lawyer at an earlier stage in the case.
Gaillard’s deputy at Shearman, Yas Banifatemi, said the firm plans to launch enforcement actions in a large number of jurisdictions. In the U.S., she noted, the recent U.S. Supreme Court decision related to defaulted Argentine bonds, NML v. Argentina, allows for expansive postjudgment discovery against sovereigns.
Will Rosneft be targeted? “We will go for assets where they’re available,” said Banifatemi. “If that means Russian state-owned entities, so be it.”
Gaillard voiced confidence that, sooner or later, the award would be honored.
“I’m not saying the Kremlin will take out its checkbook today to pay the full amount—but at some point states pay,” he said. “It may settle sooner than you think. It may take time. If it takes another 10-year battle, that’s fine.”