Hulley v. Russia 2014

fined.1534 A press report observed:

[w]hat is clear is that the firm’s association with Yukos and the fact that the oil company was paralysed and eventually bankrupted after being slapped with more than US$30 billion in back-tax claims despite financial reports approved by PwC has made the auditor a clear target for Russian tax authorities.1535

1202. PwC published an official statement in which it “strongly object[ed] to the seizure of such information . . . [and] strongly denie[d] any wrongdoing in either the 2002 tax case or in relation to its audits,” and stated that it continued “to work to resolve both matters.”1536 Mr. Kubena told the U.S. Embassy that the treatment of PwC employees during the March 2007 raids was “shocking” and a “disgrace.”1537 Nevertheless, he was reported as saying that he wished to limit the public profile of the case and urged restraint in discussing it until the facts were clear. He said that, in the meantime, PwC “better not . . . raise the public profile of the case in ways that could come back to hurt the prospects for a reasonable solution.”1538

1203. On 20 March 2007, the Moscow Arbitrazh Court found against PwC in the Yukos audit case and imposed a fine.1539 PwC employees, including Mr. Kubena, also faced criminal charges.1540 Mr. Kubena expressed disappointment about the outcome to the U.S. Embassy, but again urged restraint when discussing the case in public.1541 PwC was anxious about the renewal of its license. Having met with PwC representatives, the U.S. Ambassador sought reassurance from Finance Minister Kudrin, who advised the Ambassador that there was no basis for the license to be revoked.1542 The press still speculated, however, that PwC might risk losing the license.1543

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In fact, the license was renewed in April 2007 but PwC continued to fear that it would be revoked long after.1544 Press reports in April also noted that PwC had started losing clients, including State-owned companies Transneft and Sakhalin II.1545

1204. While these events were unfolding, in early 2007, prosecutors filed new charges against Mr. Khodorkovsky, causing PwC to start an internal review. According to the declaration of a PwC in-house counsel in a separate forum, PwC was at that time already considering and drafting a possible withdrawal of the audits.1546

1205. In April 2007, the Russian tax authorities asked the Finance Ministry to initiate a “review” of PwC’s auditing practices.1547 On 18 April 2007, PwC received a summons from prosecutors in the second Khodorkovsky trial. The prosecutors wanted to interrogate Mr. Miller while reprimanding PwC for failing to cooperate with earlier requests.1548 On 19 April 2007, PwC urgently recalled Mr. Miller from his new post in London. They informed him that PwC was now cooperating with investigators. Mr. Miller was instructed to attend the Prosecutor General’s Office, where he was interrogated on six occasions in May and June.1549 During these sessions he was presented with “new” evidence obtained in connection with the Khodorkovsky prosecution.1550 Other PwC personnel were also interrogated in the first half of 2007. During his last interrogation session, on 4 June 2007, Mr. Miller told the prosecutor that, in his opinion, the audit opinions issued in respect of Yukos’ financial statements “starting from at least 1999 should be withdrawn.” 1551

1206. The Tribunal notes that, on 14 June 2007, the Prosecutor General’s Office wrote to Mr. Kubena that, in connection with criminal investigations of Messrs. Khodorkovsky and Lebedev, “the

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investigation has at its disposal data that certain persons at the present time are relying” on PwC’s audit reports for Yukos.1552 PwC was asked to consider whether its Yukos audit reports “ought to be relied upon” and whether PwC could confirm the reliability of the financial reports for 1995–2004 in light of “information, that had earlier been inaccessible to the auditors.”1553 The Tribunal also notes that the following day PwC withdrew its Yukos audit reports.

(d)PwC’s “Volte-Face” in Withdrawing the Yukos Audits; Improved Treatment and Continued Pressures in the Russian Federation

1207. On 15 June 2007, in a letter from Mr. Kubena to Yukos’ receiver, Mr. Rebgun, PwC withdrew all of its audit reports for Yukos for the years 1995 to 2004 on the basis of “new information” it had received that had caused it to lose confidence in Yukos’ management.1554 Four categories of “new” information were highlighted by PwC, concerning:

control over Behles Petroleum S.A., Baltic Petroleum Trading Limited and South Petroleum Limited (the “BBS Companies”);

Yukos’ control over the trading companies and consequential avoidance of profit tax;

Yukos’ purchases of Bank Menatep’s liabilities; and

compensation to certain individuals who had led Yukos at the time of its privatization.1555

1208. Senior PwC manager Pete Gerendasi reportedly explained to the U.S. Embassy that the “new” information had been carefully reviewed and deemed credible; that PwC’s U.S. headquarters had been closely consulted; and that PwC had concluded after a thorough review that, “since Yukos was no longer a going concern, the only viable option was to withdraw its audits.”1556 The Embassy observed that Mr. Gerendasi was uncomfortable discussing the sources of the “new” information but that he was “unequivocal” that the withdrawal was “a difficult call.”1557

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As described in the Wikileaks cable, at the time, PwC was still facing: (a) a review by the Finance Ministry of its auditing practices; (b) an appeal regarding the expatriate tax case; and

(c) an appeal regarding the Yukos collusion case.1558 While Mr. Gerendasi noted that PwC’s legal counsel “was uncertain what effect PwC’s decision to withdraw its Yukos audits would have on the outcome” of the Yukos collusion case, he stated that “the withdrawal would not have an adverse effect on the Finance Ministry’s review of PwC’s auditing practices.”1559

1209. PwC made a public announcement of its withdrawal decision on 24 June 2007.1560 The

Financial Times reported:

PwC’s sudden about face comes after a government pressure campaign that included police raids in March on its Moscow office and an ongoing criminal investigation into alleged underpayment of taxes by Yukos. The audit firm has also risked losing its license . . . .

The move will strengthen the Kremlin’s case against Mikhail Khodorkovsky.1561

1210. The Tribunal notes that just one day after the public announcement, the criminal charges against Mr. Kubena and other PwC personnel were dropped.1562 In dropping the charges, the prosecutor noted that “the unjustified nature of the [audit opinions] . . . was the result of misrepresentation by [Yukos’] major shareholders and the persons acting on their instructions.”1563

1211. In July 2009, the Financial Times reported that the prosecutors had cleared PwC with respect to its Yukos audits, having found no wrongdoing by the firm. PwC was “pleased . . . the general prosecutor ha[d] decided not to take any action against PwC Russia, its partners or employees.”1564

1212. PwC has always denied that there was a tit-for-tat deal whereby the Russian authorities would drop their cases against PwC in return for PwC withdrawing its audits. PwC told the Financial Times that “the audit firm’s apparent reversal of fortune had nothing to do with its withdrawal

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of the audits . . . and nothing to do with any attempt to reduce the legal pressure.”1565 A few years later, in a 2009 deposition conducted in the U.S. by Mr. Khodorkovsky’s criminal lawyers, Mr. Miller categorically denied any connection between PwC’s decision to withdraw its audits and the legal pressure against PwC:

Q. Mr. Miller, how much did the―did the criminal investigation into PwC in 2007 impact PwC’s decision to withdraw the audits?

. . .

THE WITNESS: I believe that the decision to withdraw was based firmly [on] the information that was shown to us . . . during the investigation.

Q. And is it the same answer as to the tax claims filed against PwC?

A.Yes.

. . .

Q.And did you receive any assurances from the investigators, including Mr. Karimov, that if PwC withdrew the audits, that the criminal investigation against PwC would be terminated?

A.No.

Q.Have you received any other assurances from the investigators as to treatment of PwC if you were―if PwC were to withdraw the audit letters?

A.No.

. . .

Q.How about any of the investigators from the Russian authorities, did anybody ask you to develop reasons to withdraw the Yukos audits?

A.No.

Q.Are you aware of anyone from the . . . [Prosecutor General’s Office] asking PwC to develop reasons to withdraw the audits?

A.No, I’m not aware of that.1566

1213. At the same time, the Tribunal notes that an October 2007 Wikileaks cable reveals that Messrs. Kubena and Gerendasi of PwC conveyed to the U.S. Embassy “that the Yukos and expatriate salary tax cases against the auditor were politically motivated.”1567 Mr. Kubena speculated that the case against PwC for colluding with Yukos might have been “an effort by the [Government of Russia] to prove ex post facto that its actions against Yukos had a legitimate basis.”1568 Mr. Gerendasi drew a direct connection between the expatriate tax case

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against PwC and the prosecution against Yukos’ former management, saying that “tax and law enforcement authorities may be trying to cast PwC as reckless in an attempt to underscore that the [Government of Russia] rightfully prosecuted Yukos senior management.”1569 Following this meeting, the Ambassador commented that “PwC is under serious duress in Russia.” 1570

1214. The following month, PwC told the Embassy it was worried that the criminal charges laid in the context of the expatriate tax case had “devolved into a pressure tactic against the firm.”1571 As for the Yukos tax case, which was on appeal, Mr. Gerendasi noted that “[a]lthough the potential financial penalties in this case were only on the order of USD 500,000 . . . the real threat remained to the firm’s auditing license.”1572 The Ambassador noted that “Russia matters to PwC,” and that “[d]espite the rather stark picture Gerendasi painted, he said that PwC remained bullish on Russia and intended to maintain its operations in-country . . . . He added that in the interest of facilitating a resolution to the firm’s short-term difficulties, PwC’s international leadership would try to meet with senior [Russian governmental] officials in the near future.”1573

1215. Mr. Miller and other PwC employees then cooperated as prosecution witnesses in the second Khodorkovsky trial. The record discloses that they consulted with the prosecutors prior to their testimony, as demonstrated by an e-mail dated 28 March 2009 from the Prosecutor General’s Office, in which the prosecutors answered questions posed by Mr. Miller as follows:

2. For every witness, exactly on what issues and/or arguments should they dwell in their witness testimony?

- The testimony of each witness from among your company’s employees should be unified, that is testify to the same thing, in the same sense and featuring the same style (offensive and aggressive with regard to the Defense) . . .

3. Can we obtain a list of approximate expected questions by the Prosecutor for each witness?

- Carefully analyze your testimony (records of interrogations) and recall our recent conversation: you will understand the general meaning of such questions. You and I should phrase specific questions ourselves once you have personally got to the bottom of the situation.1574

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1216. In December 2009, the U.S. Embassy commented on the role that PwC played in the Khodorkovsky trial and related Yukos lawsuits. It observed as follows:

. . . if the audits were properly withdrawn, this will be a “black mark” for the [Yukos/Khodorkovsky] defense; if not, it could help the defense, but would greatly tarnish PWC’s international reputation . . . . [The Khodorkovsky trial is] applying a superficial rule-of-law gloss to a cynical system where political enemies are eliminated with impunity

. . . . There is a widespread understanding that Khodorkovskiy violated the tacit rules of the game: if you keep out of politics, you can line your pockets as much as you desire. Most Russians believe the Khodorkovskiy trial is politically motivated . . .1575

1217. Eventually the two court cases against PwC were resolved in PwC’s favor and PwC’s fines were refunded.1576 Meanwhile, Mr. Miller’s evidence, and that of other cooperative PwC witnesses, was accepted and relied upon by the trial judge who found Mr. Khodorkovsky guilty at the conclusion of his second criminal trial.1577

3.Parties’ Arguments and Tribunal’s Observations

1218. The main question the Tribunal will address is whether PwC’s withdrawal of its Yukos audits was a decision brought about by pressure from the Russian Federation, as Claimants argue, or whether PwC decided to withdraw the audit opinions out of the genuine concern that they were tainted by newly-discovered misrepresentations, as Respondent argues. There is a third possibility as well, namely, that PwC’s withdrawal of its audits was a tactical response to pressure of the Russian authorities but that nevertheless PwC did have some valid grounds to believe that Yukos had made important misrepresentations to it.

(a)Did PwC Withdraw its Audits because it was under Pressure from the Russian Government?

1219. Claimants’ witnesses were unequivocal. In their view, PwC gave in to pressure from the Russian authorities when it withdrew the audits. Mr. Rieger had noticed that after the attacks on Yukos began in 2003, “PwC grew much more distant from Yukos . . . . I understood this to be the direct result of the permanent pressure put by the Russian authorities on PwC.”1578

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Mr. Misamore stated at the Hearing his belief that “PwC withdrew its audit reports as a result of tremendous pressure from the Russian Government . . . .”1579 Mr. Kosciusko-Morizet agreed. He testified:

Well, knowing Russia, knowing that this whole Yukos affair is basically political, with a financial dimension for some people of course, there is a complete logic here in the harassment that PwC was submitted to from December 2006; the raid on their offices, the usual methods of armed masked men with machine guns, in March; their denial again of any wrongdoing in April; and finally this letter, I would not say written but signed by Doug Miller; and then I believe that all the criminal prosecutions disappeared in a matter of days . . . . I saw this letter. I considered that this letter was extorted from them by force. I know and they know what happened to the Yukos personnel, Vasily Aleksanyan, . . .

Svetlana Bakhmina and others; there is a long list. And they had to face a decision between, of course, protecting their business and protecting their people, especially their Russian personnel, from dire consequences and/or insisting on no wrongdoing; that is, keeping the ethical line . . . . But PwC, as everybody else, was familiar with the kind of treatment you could expect if you resist in that context, and they made a decision―I don’t

blame them for that decision―protecting their staff. It’s just unethical but realistic. And now they have a thriving business in Moscow. 1580

1220. Respondent did not deny that the raids, seizures and lawsuits occurred, but explained they were part of regular law enforcement activities. Respondent pointed out, for example, that many companies (including Ernst & Young) faced lawsuits about expatriation tax issues. It argued that auditor collusion lawsuits are standard in other countries.1581

1221. The record before the Tribunal is abundantly clear. PwC’s treatment improved significantly once it started to cooperate with the authorities and then withdrew its audits. Almost overnight, charges were dropped against PwC personnel. PwC’s own legal problems started to be resolved. At the same time, some cases took longer to resolve, and concerns by PwC over loss of its license were real. It is clear that cooperation from PwC, once given, was expected to be enduring. This is easily understood. Mr. Khodorkovsky’s second trial was still ongoing.

1222. Respondent relies heavily on Mr. Miller’s deposition to contradict Claimants’ account of the events.1582 That deposition was taken under oath in the U.S., at the request of Mr. Khodorkovsky’s own lawyers, and, according to Respondent, it is “hard to imagine a

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clearer or more credible denial of Claimants’ ‘harassment’ theory.”1583

1223. Although Mr. Miller was not offered as a witness, the Tribunal does not accept his denial in another forum of any link between PwC’s decision to withdraw the audits and the pressure against PwC mounted by the Russian authorities. Mr. Miller was then subjected to six sessions of interrogation. When he was recalled from London his superiors instructed him to cooperate with the Russian authorities. The March 2009 e-mail exchange with the prosecutor’s office, suggests that he was prepared to cooperate when he testified in Mr. Khodorkovsky’s second trial. Moreover, the candid views expressed by PwC officials in the U.S. Embassy’s cables published by Wikileaks confirm that PwC was under pressure. The cables demonstrate that PwC was concerned not to aggravate its difficulties with the Government (“better not raise the public profile of the case in ways that could come back to hurt the prospects for a reasonable solution”);1584 that PwC was anxious not to lose its license or its business in Russia;1585 that it considered the Yukos cases to be politically motivated and saw some connections between the withdrawal of the audit opinions and PwC’s treatment by the Russia Government;1586 and that it felt that criminal charges in the expatriate tax case were being used as a “pressure tactic.”1587 The Embassy considered PwC to be under duress and concluded that “the political and legal concerns that are driving the heightened scrutiny of PWC’s accounting practices appear to have taken on a life of their own.”1588

(b)Were the Grounds Provided by PwC in its Withdrawal Letter Contrived or Credible?

1224. As noted earlier, Claimants assert that PwC played a role in establishing and auditing Yukos’ domestic and international structures, and that, at all times, PwC had access to all the

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information it required.1589

1225. Respondent on the other hand points to “a long and troubled relationship” between Yukos and PwC, recalling that PwC had refused to continue to audit the company’s U.S. GAAP statements after 2003.1590 Respondent asserts that in 2007 PwC withdrew its opinions in good faith, upon learning “new information” via Mr. Miller’s interrogations in May and June 2007.1591 Respondent emphasizes “that the Tribunal is not a trier of fact as to the reliability of the information learned by PwC. In order to rebut Claimants’ unsupported harassment theory, it is sufficient that PwC had a good-faith belief in the credibility of that information. . . .”1592 According to Respondent, it is for Claimants to prove that Yukos never lied to PwC and that PwC’s four reasons for withdrawal of the audits were a mere pretext. Although the Tribunal agrees with Respondent that it is not a trier of facts as to the soundness of this “new information,” it finds it appropriate to examine those four reasons.

i.Did Yukos’ Management Lie to PwC about the BBS Companies Being “Related”?

1226. The first category of alleged misinformation identified in PwC’s Withdrawal Letter was the following:

Whilst we were auditing the Company, its management many times declared to us that the Company and companies to which substantial volumes of crude oil and oil products were exported, namely Behles Petroleum S.A., Baltic Petroleum Trading Limited and South Petroleum Limited (hereinafter together referred to as “BBS”), were not affiliated parties. In the course of the Investigation, we were provided with information showing that BBS had been controlled by the shareholders of Group Menatep Limited (hereinafter “Group Menatep”) and had been used to their advantage. At the material time, Group Menatep held a controlling block of shares in the Company.1593

1227. It appears as if Yukos’ management had repeatedly assured PwC that Yukos was not “related” to the BBS Companies (in the sense of sharing the same beneficial owners within the meaning

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