Navigating Russia Sanctions: US, EU And Japan Update - Export Controls & Trade & Investment Sanctions

US, EU and Japanese sanctions targeting Russia are becoming increasingly aligned as a result of each jurisdiction's continued tailoring of sanctions targeting Russia. In each jurisdiction there are now laws which block funds being made available to certain individuals and entities close to the Russian political regime and, more recently, broader rules which aim to restrict Russia's finance, energy and defence sectors. Although the US, EU and Japanese rules are alike in a number of respects, they also diverge in many ways and may not give the same answer to a particular question. This is particularly relevant to international business, where the rules of more than one jurisdiction may be triggered. This client publication updates our previous note on the topic¹,and highlights the key issues and differences in the US, EU and Japanese rules that financial institutions should be aware of.

This client publication is comprised of the following three parts:

A. US, EU and Japanese Sanctions – What You Need to Know;

B. Overview of Recent US, EU and Japanese Sanctions; and

C. Consolidated US, EU and Japanese Sanction List.

A. What You Need to Know

Sanctions should not necessarily prevent business with Russia outright, provided that care is taken not to breach applicable rules. Sanctions risk can be mitigated by a range of measures, including documentary protections such as representations and/or undertakings to ensure that the proceeds of a loan are not used to finance business in breach of sanctions. Legal advice should be sought in difficult cases (particularly where there is a cross-border element), given that the precise impact of sanctions on any transaction will always be fact specific.
In addition to the US, the EU² and Japan, the following countries currently have Russia sanctions programmes in place as a result of the situation in Ukraine: (i) Albania; (ii) Australia; (iii) Canada; (iv) Iceland; (v) Liechtenstein; (vi) Moldova; (vii) Montenegro; (viii) Norway; (ix) Ukraine; and (x) Switzerland. The diagram below indicates in blue the global spread of Russia sanctions:
Despite recent convergences in US, EU and Japanese rules, fundamental differences remain and the rules should not be seen as giving similar answers in every case. To give a few examples: (i) EU rules catch debt issuances by designated energy sector entities which have a de minimis maturity of >30 days, whereas US rules only catch issuances by designated energy sector entities which have a maturity of >90 days (however, EU rules relating to issuances by non energy sector entities are aligned vis à vis US rules in both having a >30 day maturity requirement); (ii) EU rules on investing and trading in Crimea and Sevastopol are far stricter than US and Japanese sectoral rules, effectively preventing all such activity in those regions; and (iii) country lists of sanctioned persons and entities are not identical.
International businesses must consider the full scope of potentially applicable sanctions rules which may extend beyond the rules of one jurisdiction. For example, a US company in Tokyo with trading operations in Germany would need to consider the scope and impact of US, EU and Japanese sanctions. US rules apply to "US Persons,"³ notwithstanding their location. Further, EU sanctions apply outside of the EU to any legal person or entity in respect of any business done in the EU, and to any EU nationals wherever they are located. Any non Japanese branches located in Japan would be subject to Japanese sanctions.
EU sanctions pose particular challenges for due diligence as a result of their application to any legal person, entity or body acting "on behalf or at the direction of" designated banks, energy and defence entities and their subsidiaries. The US rules present similar challenges as a result of OFAC's recent clarification that entities owned 50% or more by persons designated under US sanctions will also be subject to sanctions, even if no single designated person owns a majority interest. Under US and EU rules, therefore, it may be difficult for banks and financial institutions to determine whether they are in fact dealing with a sanctioned entity. Japanese rules have a more straightforward 50%+ ownership requirement for subsidiaries to be caught.
Funds based in the Cayman Islands and the British Virgin Islands should note that the UK Privy Council has now extended the EU sectoral sanctions to the British Overseas Territories by "Order in Council."⁴ Previously, the Privy Council had only extended "non sectoral" sanctions (i.e., "asset freeze" type sanctions, targeting designated individuals and entities).⁵

B. Overview of Recent US, EU and Japanese Sanctions

United States:

On 29 July and 12 September 2014, the US made changes to its sectoral sanctions programme, targeting specific sectors of Russia's economy. Now, sanctioned entities are designated under one or more of four Directives, with each Directive targeting business in a particular sector. Designated entities in the financial, energy and defence sector are subject to restrictions in accessing medium and long term sources of funding and there are restrictions on the export of goods and services in the energy and defence contexts.

OFAC has also broadened the scope of the sectoral sanctions by amending its "50% rule," which now brings an entity under OFAC's jurisdiction if any combination of sanctioned entities collectively own at least 50% of that entity. For example, if Blocked Person X owns 25% of Entity A and Blocked Person Y owns 25% of Entity A, then Entity A is now blocked, because Entity A is owned 50% or more in the aggregate by blocked persons. Previously, the 50% rule did not require an aggregation of interests, with the rule being that a single sanctioned entity must own 50% or more of another entity to bring that entity within the scope of sanctions.

1. US Financial Sectoral Sanctions

Directive 1 prohibits dealings in new debt of greater than 30 days' maturity or new equity of designated entities. Banks designated under Directive 1 are: Sberbank, Bank of Moscow, Gazprombank OAO, Russian Agricultural Bank, VEB and VTB Bank.

2. US Energy Sectoral Sanctions

Two of four US sectoral sanctions Directives target Russia's energy sector. Directive 2 prohibits dealings in new debt of greater than 90 days' maturity. The companies currently designated under Directive 2 are: Novatek, Rosneft, Gazprom Neft and AK Transneft OAO. The correlative restriction under EU rules has a much tighter >30 day restriction for issuances of new debt by these entities.

Directive 4 relates to the exportation of goods, services (not including financial services) or technology to designated entities in support of exploration or production for Russian deepwater, Arctic offshore or shale products that have the potential to produce oil in the Russian Federation. The prohibition on the exportation of services includes, for example, drilling services, geophysical services, geological services, logistical services, management services, modelling capabilities and mapping technologies. The prohibition does not apply to the provision of financial services such as clearing transactions or providing insurance related to such activities. Five Russian energy companies were designated under Directive 4, being: Lukoil OAO, OJSC Gazprom Neft, Gazprom, Surgutneftegas and Rosneft.

3. US Defence Sectoral Sanctions

Directive 3 targets entities in the defence sector, and dealings in new debt of such entities of greater than 30 days' maturity. In addition to sectoral sanctions, OFAC has continued to designate and block the assets of a number of individuals and entities, although these entities do not precisely correlate to sanctioned entities in the EU, with certain entities being sanctioned in the US but not in the EU. 

European Union:

The EU passed sectoral sanctions targeting Russia's finance, energy and defence sectors on 31 July 2014 by Regulation 833/2014 ("Regulation 833")⁶ as amended by Regulation 960/2014 of 12 September ("Regulation 960").⁷ The EU rules are now closer to US rules and are even stricter in certain instances.

1. EU Financial Sectoral Sanctions

It remains prohibited to undertake a range of activities (including investing in or otherwise providing assistance) in relation to the issuances of transferable securities (e.g., shares and bonds) and money market instruments (e.g., treasury bills) by sanctioned entities. However, Regulation 960 has reduced the de minimis maturity of such financial instruments from >90 days to >30 days (the US has a >90 day maturity requirement for issuances by designated energy sector companies). Although there appears to be wide latitude for lending to sanctioned entities under US and EU rules provided that maturity thresholds are not exceeded, a significant degree of care in preparation of documentation is needed to evidence that the credit is not in fact "rolled over" credit which could, in the aggregate, become debt exceeding 30 days.

Regulation 960 has also expanded the number of entities falling within the scope of these capital markets restrictions. Previously, only issuances by five Russian state owned banks, their 50%+ owned subsidiaries or entities acting "on behalf or at the direction of" the designated banks or their 50%+ owned subsidiaries were caught. The category of prohibited issuers now also includes certain energy and defence entities, who will no longer be able to raise finance on the EU capital markets, being: Gazprom Neft, Transneft and Rosneft (all energy companies) and OPK Oboronprom, United Aircraft Corporation and Uralvagonzavod (all defence companies), and their 50%+ owned subsidiaries or agents of the designated entities or their 50%+ owned subsidiaries.

The second key change is that it is now prohibited to provide new loans or credit (such terms to be interpreted broadly in the absence of clear definitions) with a >30 day maturity to all entities designated under the capital markets restriction described above. Narrow exemptions to the prohibition exist. Payment services and deposit businesses with (otherwise) sanctioned entities remain outside the scope of the financial sectoral restrictions.

2. EU Energy Sectoral Restrictions

Regulation 960 significantly expanded energy sectoral restrictions in the following areas: (i) sale/export of certain technologies; (ii) provision of certain services relevant to oil exploration/production; and (iii) business activities in Crimea and Sevastopol. The financial sectoral prohibition on dealings in transferable securities/money market instruments extends to certain designated energy companies.

It remains prohibited to sell or export certain designated technologies⁸ for deep water exploration and production, Arctic oil exploration and production or shale oil projects in Russia. A new prohibition was introduced in relation to the following services: (i) drilling; (ii) well testing; (iii) logging and completion; and (iv) supply of specialised floating vessels. Narrowly circumscribed exemptions exist, such as where the services are needed for the prevention or mitigation of an event which is likely to have a serious and significant impact on human health or safety of the environment (for example, an oil spill may require deployment of specialised floating vessels).

EU investment in energy business in the Crimea and Sevastopol regions has been entirely halted by Regulation 692/2014,⁹ which prohibits the financing or granting of loans or credit (and technical assistance or brokering services in relation to) or establishing a joint venture for the development of infrastructure in energy in Crimea and Sevastopol. Certain energy related technologies have been designated as prohibited for sale or export to or for use by any person in Crimea or Sevastopol.¹⁰

3. EU Defence Sectoral Restrictions

It remains prohibited to sell or export "dual use" goods (being goods which have a civilian and military potential application)¹¹ to the Russian military. Regulation 960/2014 introduced new restrictions prohibiting the sale/export of dual use goods to designated civilian commercial entities (the restriction covers other activities, such as technical assistance, brokering, or financing in relation to dual use goods). These entities include JSC Kalashnikov (arms), OAO Almaz Antey (arms) and JSC Sirius (electronics for civil and military purposes). As a result, it is now no longer permitted to sell, for example, items such as "lasers" and "ball bearings" to Kalashnikov. Contracts entered into before 12 September 2014 are permitted, and dual use goods for civilian aeronautics, non military space uses and maintenance of existing civil nuclear capabilities within the EU, are outside the scope of the restrictions.

In addition to EU Ukraine related sectoral sanctions, financial institutions must also consider the scope of pre existing "non sectoral" sanctions (which have been augmented over recent months), and assess whether "funds" or "economic resources" are being made available to designated persons or entities.¹² The US and EU lists are not identical. A comparison chart of designated persons and entities in the US, EU and Japan as of 22 October 2014 is included at Section C of this client publication.

The validity of the EU Regulations depends on the validity of the underlying Council Decision upon which the relevant Regulation is based (these all currently extend to various dates in 2015), although the Council Decisions could be terminated at any prior time.

Japan:

Japan joined the US and the EU on 24 September 2014 by also passing sectoral sanctions targeting Russia, which build upon previous rounds of non sectoral sanctions published earlier this year. The Japanese rules should be considered by US and EU branches in Japan to the extent that they have business relating to Russian state owned banks or the export of military goods and technology to Russia.

Japanese Non sectoral Sanctions

The Ministry of Foreign Affairs in Japan issued a public notice on 5 August 2014 (the "Non Sectoral Sanctions Public Notice")¹³ targeting 40 individuals and two entities. The Non Sectoral Sanctions Public Notice requires: (i) prior approval by the Ministry of Foreign Affairs for any payments made to designated individuals and entities; (ii) approval for any capital transactions (deposit agreements, trust agreements and loan agreements) with designated individuals and entities; and (iii) approval for the import of products originating in Crimea and Sevastopol. These measures supplement restrictive measures implemented by Japan, announced in a statement issued by the Ministry of Foreign Affairs on 29 April 2014¹⁴ which banned the travel of 23 Russian nationals and certain trade related initiatives. A list of designated persons and entities is included at Section C of this client publication.

2. Japanese Sectoral Sanctions

The Ministry of Foreign Affairs in Japan issued a further public notice on 24 September 2014 (the "Sectoral Sanctions Public Notice")¹⁵ targeting Russia's finance and defence sectors. Unlike the US and EU sanctions, Russia's energy sector is not targeted (although two energy companies, PJSC Chernomorneftegaz and Feodosia, are caught by non sectoral sanctions). The financial sectoral restrictions prohibit the investment in securities (including shares and bonds) issued by designated Russian state owned banks with a maturity exceeding 90 days. The list of banks correlates to the original list of five banks listed in EU Regulation 833/2014. These banks are: (i) Sberbank; (ii) VTB Bank; (iii) Gazprombank; (iv) Vnesheconombank; and (v) Rosselkhozbank, and the restriction extends to subsidiaries, defined as an organisation that is "directly owned by [the designated banks] for more than 50% of the total number of shares or the total amount of investment (excluding an organisation having its principal office in Japan)." There is no prohibition on lending to designated entities. The defence sectoral restrictive measures are broadly drafted to prohibit the export to Russia of weapons and weapons technology and military goods or assistance in relation to such goods. Foreign branches in Japan should be aware of the Japanese rules in addition to their obligations under US and/or EU rules, which apply to entities physically outside US/EU territorial boundaries at the time of an offence.

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Worldwide: Navigating Russia Sanctions: US, EU And Japan Update