United States: OFAC Delists Oligarch Companies Over Congressional Objections

On Sunday, the U.S. Treasury Department's Office of Foreign Assets Control (OFAC) announced that it lifted sanctions on three entities associated with Russian oligarch Oleg Deripaska, including the second-largest aluminum producer in the world. OFAC designated the entities – En+ Group plc, UC Rusal plc, and JSC EuroSibEnergo ("ESE") – in April 2018 for being variously owned and controlled by Deripaska and each other. Deripaska, himself, remains sanctioned.

The announcement comes 39 days after OFAC notified Congress of its intent to remove the entities from its List of Specially Designated Nationals and Blocked Persons ("SDN List"). That notification came after Deripaska agreed to reduce his ownership interest in En+ (which has controlling stakes in the other two companies) to 44.95% and relinquish control over the trio of entities. The Countering America's Adversaries Through Sanctions Act (CAATSA) requires OFAC to give Congress 30 days to review plans to "delist" parties designated under specified Russia-related sanctions authorities, including the Executive Order OFAC used to designate Deripaska and the companies.

OFAC's previous notification, which we discussed here, provoked what amounts to high drama for sanctions practitioners when the Senate fell a few votes short of a resolution to block OFAC from proceeding with the removals. Had the measure succeeded, President Trump would have been forced to decide whether to veto it in the midst of negotiations to avoid another government shutdown and the ongoing Special Counsel investigation into Russian interference in the 2016 U.S. elections. One cannot help but wonder how that would have played out.    

In practical terms, En+, Rusal, and ESE coming off the SDN List means that U.S. persons can do business with them and any entities they own 50% or more of without violating sanctions prohibitions (unless some other aspect of the transaction crosses a line). Non-U.S. persons can do the same without fear of OFAC targeting them for sanctions required by CAATSA.

While the entities were still sanctioned, a series of general licenses provided safe harbor for a relatively broad range of authorized activities. Presumably OFAC will now do away with the unnecessary licenses applicable to En+, Rusal, and ESE alone, and modify General License 13J, which also affects GAZ Group, another entity subject to sanctions for being owned or controlled by Deripaska and other sanctioned entities. GAZ's ultimate fate is yet to be determined.       

While OFAC lifting sanctions on the three entities clears the way for them to fully reenter the global economy, clients should be careful about establishing or reestablishing ties with the companies. Deripaska's agreement with OFAC includes extensive auditing, certification, and reporting rights and requirements. Indications that he is surreptitiously increasing his ownership interests in the companies or exerting control over them could quickly land the entities back on the SDN List. OFAC has significant discretion to make such determinations, and will no doubt be hyper-vigilant for signs of a breach, given congressional and public interest in this issue. These companies are also, without doubt, on Congressional radar screens as Members consider new sanctions legislation targeting Russia.

There is also the matter of who ended up with the En+ shares Deripaska relinquished. According to media reporting, the oligarch's divestment allowed Russia's VTB Bank – currently subject to narrow U.S. sectoral sanctions aimed at crimping its financing – to obtain enough En+ stock to bring its total stake in the company to approximately 24%. If accurate, that means that between Deripaska and VTB, almost 70% of En+ belongs to parties subject to some form of U.S. sanctions. That is a billowing red flag if ever there was one, not the least of which because there is already draft legislation that could subject VTB (among many others) to the same sanctions as Deripaska if the Russian government continues to interfere in U.S. elections. Sanctioning VTB in that manner would have a cascading effect because of OFAC's 50 Percent Rule, automatically reinstating sanctions on En+, Rusal, ESE, and any entities in which they have a 50% or greater interest. As before, OFAC would have its hands full minimizing collateral damage.

To reduce the likelihood of having to rely entirely on OFAC for relief in that situation, we strongly encourage those considering business involving En+, Rusal, or ESE to develop appropriate risk mitigation strategies, including by ensuring that they have robust sanctions exclusions clauses in relevant contracts. (We are, of course, happy to help review and draft those.)

It also bears mentioning that parties may encounter lingering difficulties in dealing with En+, Rusal, and ESE due to financial institutions being reluctant to facilitate transactions involving entities in which sanctioned parties own such considerable stakes. In an ironic twist, the same financial institutions might have actually been more comfortable doing the business before the removals occurred under cover of general licenses. Talking with financial institutions at the outset of any prospective transactions with the delisted entities is therefore prudent.   

On a broader policy note, it will be interesting to see where the Ukraine-/Russia-related sanctions program goes from here. This delisting process showed Treasury how grueling a CAATSA mandated congressional review can be. Everyone involved, up to Secretary Mnuchin, was castigated by the Hill and the media. The experience is bound to leave a bitter aftertaste that Treasury officials will remember not only the next time a Russia-related delisting petition comes in the mail, but – far more important – the next time a viable but potentially challenging target presents itself as an opportunity for sanctions in the first place. The logic is simple, and, as always with sanctions, comes down to incentives.

OFAC likes to designate meaningful targets with significant assets. The challenge in designating this type of target is that doing so can have significant spillover effects in local, regional, and global markets. Part of the calculation the U.S. Government makes when deciding whether to proceed anyway is whether and how OFAC will be able to mitigate those unintended consequences and reward behavioral change. If it seems like doing those things will be impossible, or that doing them will mean being pilloried nonstop on the Hill and in the press for a month, then the Executive Branch might forego potentially worthwhile targets. The focus could shift from designations that are most likely to achieve sanctions program objectives to designations that simply will not put Treasury in this position again, discouraging the tough Russia sanctions CAATSA is ostensibly meant to compel. Only time will tell.

In the interim, we look forward to continuing to counsel you on this increasingly complicated risk area.

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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