June 25 (Bloomberg) -- To see why U.S. economic sanctions against Russia are likely to have limited impact, follow the spending of a small Delaware-incorporated, Nasdaq-traded television company named CTC Media Inc.
While CTC Media has a market capitalization of just $1.7 billion, it’s a good example of the way Russia’s economy has become so closely intertwined with U.S. business that it’s difficult to separate them. And once you unwind any of the string, one end is likely to lead, with twists and turns, to Russian President Vladimir Putin’s inner circle.
The U.S. has issued five rounds of sanctions in response to Russia’s seizure of Crimea and its alleged backing of militants who have taken over part of Ukraine. The U.S. would be ready to issue further restrictions if Russia escalates tensions in Ukraine, Treasury Secretary Jack Lew said June 19 in Berlin.
The sanctions were designed to minimize harm to U.S. companies, which also leaves them open to some wide loopholes. Funds from U.S. firms flow legally through these gaps to companies linked to blacklisted entities or people. In CTC’s case, it is paying tens of millions of dollars to Video International, a Russian advertising firm part-owned by OAO Bank Rossiya. In March, the U.S. sanctioned the St. Petersburg bank and its largest shareholder, financier and media magnate Yury Kovalchuk, calling him Putin’s “personal banker.”
No Business, Period
“When somebody is on the sanctions list, American companies shouldn’t do business with them, period,” said David Kramer, a former U.S. assistant secretary of state and now president of Freedom House, a Washington-based non-profit that advocates for democracy and civil liberties. “This may not be a technical violation of the law, but it certainly is a violation of the spirit.”
Four days after Kovalchuk and his bank were sanctioned, CTC formed a compliance committee to ensure that its procedures comply with the U.S. restrictions, CTC spokesman Igor Ivanov said.
“Our coordinated and carefully calibrated approach has put enormous pressure on Russia, with limited collateral damage to the U.S., European, and global economy,” Lew said at a conference about Treasury’s efforts on June 2 in Washington.
The impact of sanctions is lessened because the U.S. has mostly targeted individuals rather than companies. For example, although Igor Sechin, chief executive officer of Russian oil giant OAO Rosneft, was sanctioned in April, his company is not.
That approach enables Exxon Mobil Corp. to keep working with Rosneft. The U.S. oil company reached an agreement in May with Rosneft, extending a pact to build a plant to liquefy natural gas for export in eastern Russia. Sechin himself signed the agreement because the U.S. rules allow him to continue to act as signatory for the company, according to Exxon. Exxon Mobil, through a 2011 deal with the state-run crude producer, owns drilling rights across 11.4 million acres of Russian land. The partnership gives Rosneft the ability to buy stakes in Exxon’s North American projects.
Exxon CEO Rex Tillerson appeared last week at a conference in Moscow with Sechin, outlining further prospects in Russia. Sechin is Putin’s former deputy chief of staff.
“We comply with all applicable laws and regulations in all countries,” said Alan Jeffers, a spokesman for Exxon.
While U.S. entities aren’t prohibited from dealing with Rosneft, they should consult with the Office of Foreign Assets Control before engaging in transactions with designated individuals such as Igor Sechin, a spokeswoman for the Treasury said. She declined to comment on whether Exxon had consulted with the Department.
Russian TV Network
The CTC saga also illustrates the difficulty of implementing sanctions. It revolves around Rossiya, the blacklisted Russian bank, which holds minority stakes in both CTC and one of CTC’s service providers, Video International.
Originally called StoryFirst Communications Inc., CTC was founded in 1989 by American entrepreneur Peter Gerwe. He began with a radio station, started a TV station in St. Petersburg in 1991 and built it into a national network in Russia by 1996. In 2006, CTC listed shares on Nasdaq. Today, CTC operates four entertainment channels in Russia and one in Kazakhstan.
“For the first several years, CTC was entirely owned by Americans, so it was natural for us to register it in the U.S.,” Gerwe said. He sold his stake in the company in 2009 and isn’t familiar with the sanctions issue, he said.
U.S. financial institutions own almost a quarter of CTC. Shareholders include JPMorgan Chase & Co., BlackRock Inc., and Franklin Resources Inc. All three declined to comment.
In 2011, Bank Rossiya bought a quarter of CTC through a Cyprus subsidiary, Telcrest Investments Limited. The Rossiya unit designates three of CTC’s nine directors.
Kovalchuk owns 40 percent of the bank. When the U.S. Treasury Department sanctioned Rossiya and Kovalchuk, it described him as “the personal banker for senior officials of the Russian Federation including Putin.”
The European Union, which maintains a separate blacklist, hasn’t sanctioned either Rossiya or Kovalchuk. Rossiya declined multiple requests for comment.
Kovalchuk and several partners bought Rossiya, a former Communist Party bank, in 1991. Trained as a physicist, Kovalchuk has owned a home at Putin’s lakeside dacha compound near St. Petersburg along with several other Putin associates on the U.S sanctions list.
Rossiya’s success is closely linked to Putin’s political rise. It now has total assets of about $10 billion, according to the U.S. Treasury Department.
Kovalchuk has been called a “Russian Murdoch.” Through the bank, he has accumulated stakes in several media outlets, including the newspaper Izvestia as well as CTC.
Last year, CTC paid dividends to Telcrest of about $25 million. Because Telcrest is majority-owned by a sanctioned entity, CTC said on April 30 that it placed into a restricted account a $6.9 million dividend due to the Rossiya subsidiary.
CTC also recused the three Telcrest-picked directors from participating in deliberations relating to “any transaction or dealings in which Telcrest has a property interest,” although they may continue to attend board meetings, according to securities disclosures. CTC is “conferring directly with” the U.S. Treasury Department for guidance about the directors’ role, Ivanov said.
So far, so good.
Except Kovalchuk’s bank also owns part of Video International, Russia’s largest television advertising company. CTC has been working with Video International for at least 15 years, Gerwe said.
Rossiya holds a 16 percent stake in Video International, Elizaveta Sviridova, a spokeswoman for the advertising company, said in an e-mail. In reality, Bank Rossiya controls Video International, according to a person with direct knowledge of the matter, who declined to be identified because of the sensitivity of the information.
The extent of the blacklisted bank’s involvement is hard to determine because at least 65 percent of Video International is held by a series of companies in Cyprus whose ultimate ownership is unclear, according to data compiled by Spark, which tracks Russian firms. Video International is not publicly traded. Sviridova declined to identify the mystery investors, and Ivanov declined to say whether CTC knows who they are.
Until 2011, Video International placed TV advertising on CTC’s channels. A law change forced CTC to develop its own advertising sales department, relying on Video International for software support.
Treasury rules only prohibit U.S. firms from doing business with companies that are at least half-owned by people or entities under sanctions, which Video International is not, according to CTC. Thus CTC can legally buy services from Video International, benefiting Rossiya.
Because Rossiya holds a minority stake, “we therefore understand that VI is not covered by the sanctions,” said CTC spokesman Ivanov.
CTC paid Video International $78 million in 2013, Ivanov said. An April 30 CTC earnings release attributed a 2 percent rise in first-quarter expenses partly to “an increase in compensation payable to Video International.”
CTC has no plans to drop Video International, which provides “very essential” services, Ivanov said.
A spokesman for Modern Times Group AB, CTC’s largest shareholder with about a 38 percent stake, said it has no concerns about the relationship with Video International.
“CTC Media has sought and received confirmation that the parties subject to the sanctions do not own more than 50 percent of Video International,” said the spokesman, Per Lorentz.
Asked whether Video International still receives payments from CTC, Sviridova said, “Why shouldn’t we?” The company’s business with CTC continues as usual, she added.
Besides Rossiya and the unknown owners, another 2.5 percent of Video International is owned by Sogaz Insurance Group. Sogaz is majority held by a combination of Rossiya and Volga Group, the investment arm for Gennady Timchenko, a Putin associate and co-founder of oil trader Gunvor Group Ltd., who is on the sanctions list.
Timchenko sold his 44 percent stake in Gunvor the day before the U.S. blacklisted him in March. U.S. authorities said that Putin personally owns a stake in Gunvor, which the company denies.
‘Act With Caution’
The Treasury Department advises U.S. persons to “act with caution” dealing with entities where sanctioned people have “a significant ownership interest” even if less than 50 percent -- or which they may control by other means. That’s because those entities may be the subject to future actions by the agency’s Office of Foreign Assets Control, according to guidance on the agency’s website.
U.S companies that work with firms in which blacklisted entities have any ownership interest should undertake significant due diligence, such as hiring investigators to conduct interviews or seek documents, said Erich Ferrari of Ferrari & Associates, a Washington law firm that specializes in sanctions.
Companies should make sure “they’re not dealing with a party that is controlled, even if it’s not owned on paper, by a blocked party,” he said.