Understanding the impact of Russian sanctions on the UK legal market

February 2016 | LEGAL & REGULATORY | LITIGATION & DISPUTE RESOLUTION

Financier Worldwide Magazine

English law firms have historically enjoyed a steady flow of instructions from Russia for dispute resolution, M&A and finance work. Many UK firms have specialised in Russia/CIS instructions, establishing outposts in Moscow and St Petersburg. However, with the current delicate diplomatic relationships between Russia and the EU, the environment for English lawyers is undoubtedly changing.

Jurisdiction of choice

A few years ago, hardly a week would go by without some reference to a deal or dispute being touched by English law or the London Courts. On the contentious side, we saw high profile commercial disputes such as JSC VTB Bank vs. Skurikhin, JSC Bank of Moscow vs. Kekhman, Beresozsky vs. Abrohamovich, Russian Commercial Bank (Cyprus) vs. Khoroshilovi. England also played host to other (perhaps more unexpected) types of disputes, for example Russian businessmen publicly falling out (Messrs Lebvedev and Polonskiy, for example) and divorce claims between Russian citizens (Golubovich vs. Golubovich).

In commercial transactions, the forum and choice of law for resolving disagreements may have been agreed long before any dispute. A number of factors may have pushed the parties towards selecting English law and/or an English dispute resolution forum.

Firstly, some aspects of English law allow greater flexibility and certainty than Russian law. For example, representations, warranties, indemnities were only been introduced to Russian law last year – these are alien concepts for many Russian lawyers and, in the absence of experience and case law regarding their use, the parties are using them at their own risk.

Secondly, in cross-border transactions, non-Russian parties will feel uncomfortable in their counterparty’s ‘home turf’.

Thirdly, the English Courts and judiciary have a longstanding and ongoing reputation for prompt, efficient and fair dispute resolution. Finally, once English law is agreed upon, it would often logically follow that England is a suitable forum for related disputes.

Even when there is no legally binding agreement forcing the parties to England, Russians will often choose this jurisdiction despite Russian Courts being cheaper and quicker. Asset tracing is an example where parties choose to come to England. Parties are attracted by the presence of the alleged perpetrator in the UK and/or the case law which has developed in this area. This has recently been seen by the Russian government itself in obtaining a worldwide freezing order (a remedy not available in countries such as the US or Switzerland) in its pursuit of Russian banker Sergey Pugachev following the collapse of Mezhprombank.

Sanctions

Sanctions on Russia were initially imposed following the annexation of the Crimea in March 2014, and were substantially bolstered following the shooting down of flight MH17 in July of that year. In late December 2015, sanctions were extended to July 2016 due to the late implementation of the Minsk agreements. Naturally, developments in July will be observed with a keen eye, especially in view of developments in the Middle East.

At a glance, the EU sanctions only impact a limited sector of the Russian economy, including, firstly, asset freezes and travel bans against named companies and individuals linked to the government; Crimea-specific restrictions; and government-backed entities in certain key sectors, including finance (such as Sberbank, VTB Bank and Gazprombank) energy (Rosneft, Trasnneft, Gazprom Neft) and military operations.

The third of these appears to have had the most impact on the Russian economy. The early days of the sanctions saw a number of casualties as a seemingly direct impact of the penalties imposed. For example, Gazprombank and VTB bank required assistance from the Russian central bank (reportedly US$678m and US$1.8bn respectively) after their access to western money markets was effectively cut off.

However, the full impact can only be understood with reference to the broader political and economic situation in Russia today. The impact is coupled with the harsh economic conditions created by the decrease in the value of the ruble (which at one stage suffered a 43 percent decrease against the US dollar in 18 months) and the difficulties created by the drop in oil values (Russia is said to need an oil price of US$100 to balance the books; the current price is below half that). These factors have greatly increased costs of doing business in Russia.

Impact of the sanctions

For transactional work, there are clear challenges created by this sensitive environment. The difficulties in raising funds has impacted western law firms, with recent years seeing a reduced presence of international law firms operating in Russia and the level of work in which their English counterparts are becoming involved.

In terms of inward investment, there is no doubt that Russia is now seen as a less attractive economy in which to conduct business. The last few years have seen regulatory claims against western businesses, including a tax assessment against Freshfields’ Moscow office and the closure of one of the central McDonalds restaurants in Moscow, depriving Muscovites of their Big Macs for three months. The likely reduction in inbound M&A work is likely to continue to impact the English market.

However, for litigators, it seems like business as usual. In terms of corporate/commercial disputes, these are often regulated by contracts agreed during the boom years of earlier this decade. As these deals start to unravel, we are likely to see the continuation (or possibly increase) of Court proceedings and greater volumes of arbitration proceedings taking place behind closed doors.

With the significant devaluation in the ruble, businesses are experiencing difficulties meeting their obligations nominated in foreign currencies. Russian businesses that trade imported goods cannot raise their ruble prices in proportion to the currency devaluation due to lack of demand for high price goods. Difficulties in financing and refinancing are likely to contribute to defaults on obligations. Distressed companies include large corporations such as the well-publicised financial difficulties impacting metal conglomerate Mechel as well as small private companies.

The key area for continuing and possibly greater volume of instructions in England is likely to be asset tracing. The recent cases such as Pugachev have highlighted the benefits of pursuing such claims in the UK. With the financial crisis over the recent years, there has been a clear increase in the role of asset tracing, with parties looking to recover funds that they consider have been misappropriated. Given the vast sums said to have left Russia in the early days of sanctions and the large number of wealthy Russians now calling London home, the impact may soon be seen with more claims in the English Courts.

Finally, we should not forget that the validity of the sanctions themselves is being challenged. Russian-owned oil company Rosneft has argued that the EU’s measures are too vaguely defined and not applied uniformly across the EU. The English Courts have referred this to the ECJ. Depending on their conclusions, we may yet see further developments on this front which may be felt in the English Courts.

Whilst sanctions and the more general issues facing the Russian economy are undoubtedly changing the traditional nature of legal instructions involving England, there remains plenty of room for further Russian disputes to reach the shores of England.

Anton Zykov is a director at KPMG Russia and William Towell is an associate at Stewarts Law. Mr Zykov can be contacted on +7 49 5287 9833 or by email: azykov@kpmg.ru. Mr Towell can be contacted on +44 (0) 113 394 9321 or by email: wtowell@stewartslaw.com.

Anton Zykov

KPMG Russia

William Towell

Stewarts Law