Putin Goes from Private to National
// Mechel Recovery Spreads
Russian Prime Minister Vladimir Putin has moved his attack on the Mechel group to a national level, making it clear at the government presidium that the charges against the company are only part of a plan to combat transfer pricing and tax evasion in the metals industry. The Prosecutor General’s Investigative Committee is searching for “criminal actions” in Mechel’s dealings. The market has recognized the scale of what is happening and its resemblance to the YUKOS case: Rosneft and Gazprom were the only stocks not to fall yesterday.
Russian Prime Minister Vladimir Putin explained the causes of his irritation at yesterday’s session of the government for the first time since the July 24 meeting that cost the hospitalized Igor Zyuzin’s Mechel $5 billion in capitalization. A day earlier, presidential aide Arkady Dvorkovich tried to mollify the situation somewhat by saying that Mechel’s cooperation with the Federal Antimonopoly Service was a “positive signal” as it investigates for the enterprises in Zyuzin’s group for violations of antimonopoly law. (The FAS has suggested that the most that awaits Mechel from the investigation is a fine of 1 percent of its turnover.) A few hours later, Putin himself explained what he was thinking about, and this time did not mention Mechel by name. The company’s stock plunged again that day any way.
“One of the metals companies is selling raw material on the foreign market cheaper than the domestic price,” the prime minister repeated, saying that, while the domestic price for coking coal was 4100 rubles per ton, that company was selling it to its Swiss offshore company for 1100 rubles per ton in order to then resell it for $323. “That is reducing the tax base and evading taxes within the country and creating a shortage on the domestic market and price growth for metal products that is reflected in the prices of a full spectrum of goods,” he said.
The scheme described by the prime minister is an example of the use of transfer (inter-corporate) prices, when a good is sold below its real value within a group of companies to reduce profit. That, Putin was at pains to explain, was the sole cause of Mechel’s problems. At the same time, the prime minister enquired about the law being prepared by the Finance Ministry to control transfer pricing. He was assured by Deputy Prime Minister Alexey Kudrin that the draft would be presented to the government by September 15 of this year.
Anonymous sources who were present at the July 24 meeting say that transfer pricing was not discussed in such harsh tones at that meeting, and the topic was more likely adopted by the government over the weekend to “nationalize” the topic of Mechel. Mechel has changed its position as well. On Friday, the company released a statement saying that it “shares the concern” of the government over high prices for metal products and is ready to cooperate with the authorities. Kommersant has learned that an earlier draft of the statement contained a more detailed explanation of the difference between the company’s export and import prices. Export deliveries made through the offshore company, that version stated, were made on Yakutugol old contracts purchased by the group at the end of last year that were concluded at last year’s much lower prices. Yesterday, however, Mechel declined to make any comments or justifications.
After the YUKOS case, which resulted in the closure by the Finance Ministry and FAS of “domestic offshore” companies to transfer pricing, the Finance Ministry has considered adopting a new chapter in the Tax Code controlling inter-corporate pricing to combat the use of foreign offshore companies and other tax optimization schemes. Putin assigned the ministry to draft such a document in his 2006 budget message, but it has been a matter of dispute between the Finance Ministry, Economics Ministry and their allies ever since then. The Tax Code directs the tax service to audit in cases where inter-corporate prices vary by more than 20 percent from market prices, but, Kudrin acknowledged yesterday, “that mechanism is undeveloped and practically unused in court practice.”
The Finance Ministry is insisting that the new mechanisms should give the tax service control over all deals between interdependent parties within the country for sums over 100 million rubles and over certain categories of foreign trade operations. The Economics Ministry and the Russian Union of Industrialists and Entrepreneurs propose to limit control mainly to foreign deals (that is, the type that Putin criticized Mechel for). Although Kudrin has reported that an “agreement of principles” has been reached that will serve as the basis of the draft legislation, Deputy Economics Minister Stanislav Voskresensky told Kommersant that the document will be prepared to the specifications of Deputy Prime Minister Igor Shuvalov, which were delivered to the Economics Ministry at a meeting on June 18. “Their sense is to reformat the draft prepared by the Finance Ministry so that it affects a narrow group of parties and narrow group of deals,” Voskresensky said.
The issue of transfer price was not a random choice. Chief economist for the Center for Development Valery Mironov said that the results of increasing the tax burden on the metals industry were calculated last year by the center, which had been led by former deputy economics minister Andrey Klepach. “It is possible that there is a search on for ways to compensate for falling taxes from the reduction in VAT and taxes on the oil industry. There were three candidates for a tax hike: the forest industry (but there are many players there and it is hard to administer), gas (but they decided not to touch Gazprom) and metals,” Mironov stated.
The outcome of the interagency squabble is unlikely to affect Mechel. Yesterday, Vladimir Markin, a representative of the prosecutor’s investigative committee, stated that a study “around” Mechel’s activities was being conducted “jointly with supervisory and law enforcement organs” “on the topic of the presence or absence of signs of criminally punishable actions,” as Putin recommended yesterday. Charges of tax evasion were made against YUKOS and its managers in 2003-2005 by the FAS and Prosecutor General in a similar situation, except the offshore companies were domestic. The recalculation of taxes affected all oil companies, followed by an increased tax burden on the whole industry, leading to the decrease in oil production that the government is now battling.
Putin Continues the Mechel Road Show
Russian stock markets, trying yesterday to come out of the Friday fall (the RTS index showed 1.67-percent growth in the course of the day and the MICEX 1.93-percent), took a dive again after Putin’s statement. The MICEX index was down 2.08 percent at the end of the trading session and the RTS was down 1.16 percent. Almost all blue chips fell, with the exception of state companies Rosneft, Gazprom and Rostelekom. “The long-term investors are nowhere to be seen now, and Vladimir Putin’s statement increased worries that there is no reason to expect growth on the Russian market in the short term. As a result, investors began to speculate on a bear market at the end of the trading session,” explained Alfa Bank trader Konstantin Shapsharov.
Mechel took the largest hit. In the course of the day, on the RTS classical market, stocks rose up to 5.6 percent, but Mechel lost 33.98 percent on the RTS by the end of the day. Thus the company’s capitalization has fallen by 46.57 percent to $7.076 billion in the last two days. The company’s depository notes also tumbled. They lost more than 34 percent in open trading on the NYSE, but reversed themselves just a little to a level down 28 percent at 7:00 p.m. Moscow time. Stock in Mechel subsidiary Yuzhny Kuzbass fell 11.88 percent on the RTS. The fall touched the entire metals sector of the Russian stock market. Quotes on Norilsk Nickel were down on MICEX by 8.93 percent and on Polyus Zolota by 9.35 percent.
Dmitry Butrin, Vadim Visloguzov, Petr Mironenko, Nailya Asker-adze
All the Article in Russian as of July 29, 2008
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