United States: OFAC Begins Process To Delist Oligarch Companies, Sanctions More Russian Operatives

Yesterday afternoon, Treasury's Office of Foreign Assets Control (OFAC) took two complementary actions involving U.S. sanctions related to Russia. The first was notifying Congress of the office's intent to terminate sanctions on three systemically important companies tied to Russian oligarch Oleg Deripaska. That is scheduled to happen in 29 days (30 from yesterday). Normally OFAC wouldn't give notice like this, but the Countering America's Adversaries Through Sanctions Act (CAATSA) and a delegation of authority from the President say it has to. The second OFAC action was "designating," or imposing severe blocking sanctions on, a slate of Russian individuals and entities involved in election interference, hacking, and other malign activities. From a political optics perspective, the combination pairs well. (The timing is also shrewd in light of lawmakers heading out of town for the holidays.)

You might recall back in April when OFAC sent shockwaves through the global economy by designating En+ Group plc, UC Rusal plc, and JSC EuroSibEnergo ("ESE") for being variously owned and controlled by Deripaska and each other. Rusal's designation drew particular attention, as the company accounts for between seven and 10 percent of the world's aluminum and alumina outputs. Customers and downstream markets the world over felt the pain immediately. OFAC responded with general licenses allowing specified activities to continue for defined periods that have since been extended several times. Those reprieves gave OFAC the space to negotiate behind the scenes to get Deripaska to reduce his ownership stake in En+ to less than 50% and relinquish his control over that entity and the others. Apparently, after months of grueling back-and-forths, compromise was struck. Now it's on Congress to decide whether to play Grinch and oppose terminating sanctions. Company stakeholders could be spoilers too, but it's hard to come up with a reason they would.

A few key takeaways here:

  1. En+, Rusal, and ESE are still subject to sanctions and will remain so until OFAC officially "delists" them from its List of Specially Designated Nationals and Blocked Persons ("SDN List"), presumably in mid-to-late January unless Congress intervenes.
  2. Oleg Deripaska is still subject to sanctions and will remain so even if OFAC delists the three entities.
  3. Not only are U.S. persons prohibited from dealing with parties on the SDN List, but non-U.S. persons can face sanctions themselves for facilitating significant transactions on behalf of Deripaska or his sanctioned companies.
  4. Thirty days from December 19, 2018 is Friday, January 18, 2019 – three days before the remaining general licenses related to En+, Rusal, and ESE are set to expire. Pressure is therefore on Congress to either let OFAC delist the companies or risk owning the consequences if the office does not renew the licenses.
  5. GAZ Group, another Deripaska-owned or -controlled entity currently subject to sanctions, also depends on authorizations granted under one of the general licenses mentioned above, and that entity was not among those offered up to Congress in yesterday's notification. Just today, OFAC extended relief on GAZ until March 7, 2019, suggesting that there is considerably more friction in the negotiations around GAZ than there was for the other entities.
  6. In its notification to Congress, OFAC identifies VTB Bank as one of three parties that will take ownership of Deripaska's shares in En+ to reduce his stake in the company. VTB, one of Russia's largest banks, is itself currently subject to "sectoral sanctions" – a less severe variety than those to which Deripaska is subject – and has been identified by Congress as a potential target for future measures. OFAC employs what is called the 50 Percent Rule, whereby any entity that is owned 50% or more by one or more sanctioned parties is subject to the same sanctions as its sanctioned owner(s). Given that Deripaska will continue to own 44.95% of En+ if the agreement with OFAC goes through, and that VTB will share Deripaska's divested stake with two other parties – commodity trading multinational Glencore and an unnamed charity – it seems reasonable to presume that this arrangement will not result in En+, Rusal, or ESE becoming subject to any sanctions applicable to VTB Bank by virtue of the 50 Percent Rule. That said, anyone with information suggesting otherwise should act accordingly. We at Morrison & Foerster will stay tuned for any OFAC guidance on the matter.

Timing the notification to Congress with sanctions on a fresh crop of Russian malign actors was a savvy play by the Administration, demonstrating that, regardless of what is happening with the Special Counsel investigation, civil servants are continuing to identify and expose Russian meddling in the U.S. political system. Among those targeted were a former Russian intelligence official who OFAC claims acted on Deripaska's behalf, as well as entities and individuals who tried to stoke tension in the United States as recently as June 2018. The State Department took concurrent action to add 12 of the 18 individuals and entities OFAC designated to its List of Specified Persons under Section 231 of CAATSA. That list identifies persons that are part of, or operate for or on behalf of, the defense or intelligence sectors of the Russian government. Significant transactions with persons on that list can result in sanctions, and listed parties are not automatically added to the SDN List. Separately screening parties with ties to the Russian defense and intelligence sectors is therefore highly advisable.

That OFAC publicly acknowledged Russian meddling in U.S. domestic life as an ongoing phenomenon is particularly striking in its implications. Elements within Congress have shown in draft legislation that they see such activity as a provocation warranting an extreme sanctions response (see: the Defending Elections from Threats by Establishing Redlines, or DETER, Act of 2018). By making the Kremlin's continued shenanigans public, the Administration might be signaling that the President holds a similar view. We could see this turn into a footrace between the Executive and Legislative Branches to see who can erect a more draconian automatic sanctions response framework first. January should be very interesting.

Stepping back for a moment, it is worth stating explicitly that this is a significant victory for OFAC and the sanctions programs it is charged with administering. The purpose of sanctions, as the office often says, is not to punish, but to protect the U.S. financial system and change behavior. Sanctions are about creating credible threats and incentives. In this case, OFAC did just that.

Forcing an oligarch to publicly and substantially reduce his holdings and give up control over some of his most prized assets sends several messages. The move shows other Russian oligarchs that neither Putin nor interests in systemically important companies can shield them entirely from the consequences of being associated with the Kremlin and its malign activities. It also shows that, despite the Sturm und Drang in Washington surrounding all things Russia right now, the OFAC delisting process is still a boring, apolitical administrative affair focused entirely on objective facts. Has the sanctioned party's ownership interest decreased below 50 percent? Have other indicia of control been extinguished? Then delisting commences, full stop.

This is profoundly important to not only markets and shareholders, but to designated individuals and entities as well. If being delisted doesn't seem like a real possibility, then there's no reason for a sanctioned party to change its ways. OFAC taking the first step to delist in this case is a boon to faith in the process, and, if all goes according to plan, will probably result in a model for significant actions that the office will look to borrow from in the future.

Now if only we could figure out how to use the model ourselves to help with our New Year's resolutions.

Happy holidays, and we look forward to keeping you updated as this situation continues to unfold in 2019.

Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Morrison & Foerster LLP. All rights reserved

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