Hulley v. Russia 2014

reparation.2202 According to Claimants, in order to achieve full reparation in the event of an unlawful expropriation, an investor must be able to choose between a valuation of the damages it has suffered as at the date of the breach and a valuation as at the date of the award.2203

1.Valuation Date

1695. Claimants submit that there are two potentially relevant dates with regard to the assessment of damages, namely the moment when a treaty breach occurs and the moment when an award is rendered. Claimants take the view that “an investor should be compensated in the highest amount between the valuation of the damages it has suffered as at the date of the breach and that at the date of the award.”2204 The reason for this alternative valuation, according to Claimants, is that “to the extent the assets expropriated have increased in value during the arbitration process, this increase must accrue for the benefit of the Claimants, not to the Russian Federation.”2205 Claimants refer to a number of legal authorities to support the conclusion that, in cases of unlawful expropriations, investors are entitled to choose between a valuation as at the date of the breach and a valuation as at the date of the award.2206

1696. Claimants assert that the date of the expropriation of their investment in this case was 21 November 2007, the date on which Yukos was struck off the Russian register of legal entities. The justification for choosing this date, according to Claimants, is that “[i]n cases involving expropriations through a series of coordinated interferences by the State, the date of expropriation corresponds to the date on which the governmental interference ripened into an irreversible deprivation of the investor’s property,”2207 and that striking Yukos from the register of legal entities constituted “a point of no return.”2208

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2.Causation

1697. With regard to causation, Claimants assert that they do not need to establish a link between individual actions of Respondent and the damages suffered, but that it suffices for them to show that the sum of Respondent’s actions caused those damages. Claimants argue that:

[T]he Russian Federation sought and achieved the dismantlement and destruction of Yukos, and the Claimants’ investments therein, through a series of cumulative actions. . . .

The breach, and the Respondent’s responsibility, arises from the Russian Federation’s actions taken as a whole and not from each and every one of these actions. It is the cumulative effect of these acts that is criticized by the Claimants.2209

1698. Claimants also argue that:

[A] causal link needs only be established between the actions of the Russian Federation

taken as a whole and the Claimants’ damages, namely the destruction of their investments. This causal link is obvious . . . .2210

1699. According to Claimants, there is ample authority to support their position that the Tribunal need only consider “the totality of the Russian Federation’s actions and their result: the inexcusable treatment of the Claimants’ investments and, ultimately, their outright expropriation.”2211

3.Calculations Performed by Claimants and Mr. Kaczmarek

1700. Claimants have submitted two expert reports on damages authored by Mr. Brent Kaczmarek of Navigant Consulting, dated 15 September 2010 and 15 March 2012, together with their Memorial and their Reply, respectively. The calculations contained in these reports and referred to in Claimants’ pleadings can be summarized as follows.

(a)The “Scenarios” Presented by Claimants

1701. Claimants perform calculations based on three different “scenarios.” Within each of these scenarios, Claimants also differentiate between a number of sub-scenarios.

1702. The first scenario developed by Claimants is based on two fundamental assumptions, namely

(a) that the tax assessments against Yukos constituted a breach of the ECT, and (b) that this

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breach caused the merger between Yukos and Sibneft to be cancelled. In addition, Claimants call in aid an optional assumption in the context of this scenario, namely (c) that Yukos would have had a 70 percent chance of obtaining a listing on the NYSE, which would have further increased its value.2212 Claimants’ first scenario can thus be subdivided into two sub-scenarios: sub-scenario 1a, which is based only on assumptions (a) and (b); and sub-scenario 1b, which is based on all three assumptions (a), (b), and (c).

1703. Claimants’ second scenario is based on assumption (a) described above, namely that the tax assessments against Yukos constituted a breach of the ECT, whilst excluding assumption

(b) (thus not seeking damages for the demerger between Yukos and Sibneft). Here again two sub-scenarios can be distinguished: sub-scenario 2a is based solely on assumption (a), whereas sub-scenario 2b is based on both assumptions (a) and (c).

1704. Claimants’ third scenario assumes that the tax assessments against Yukos did not constitute a breach of the ECT, but that the subsequent enforcement of the tax claims did. Accordingly, Claimants calculate the “damages arising out of the 2004 and 2007 auctions, regardless of the merits of the alleged tax claims imposed on Yukos.”2213 Within this third scenario, Claimants distinguish five sub-scenarios (subsequently referred to as 3a, 3b, 3c, 3d and 3e),2214 all of which assume that Yukos should have been allowed to settle its alleged tax debts one way or another (thus avoiding the liquidation of the company), but propose different modalities as to how this could have been done.2215

1705. Sub-scenario 3a assumes that Yukos would have been allowed a grace period of five years and would then have “been able to pay off the entire amount of its alleged tax liabilities out of its operating cash-flows only by 2009.”2216

1706. Sub-scenario 3b assumes that Yukos would have been granted a grace period of three years and would then have been able to pay off its alleged tax liabilities with a combination of its free cash flows and the sale of non-core assets during that period.2217

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1707. Sub-scenario 3c assumes that Yukos would have been granted a grace period of one year and would then have been able to pay off its alleged tax liabilities with a combination of its free cash flows, the sale of non-core assets and debt financing during that period.2218

1708. Sub-scenario 3d also assumes that Yukos would have been granted a grace period of only one year, but then assumes (in contradistinction to sub-scenario 3c) that Yukos would have paid off its alleged tax liabilities with a combination of free cash flows, the sale of certain core assets and (limited) debt financing.2219

1709. Finally, sub-scenario 3e assumes that, while Yukos would have had to sell YNG to settle its alleged tax obligations, the auction “would have been conducted in a manner ensuring a fair, rather than grossly undervalued, price,” generating proceeds of USD 19.703 billion,2220 with the result that Yukos would have paid off its alleged tax liabilities with these proceeds as well as its cash flows in 2004 and 2005, while remaining a going concern.2221

1710. In accordance with Claimants’ submissions regarding the relevant valuation dates, Claimants base their damages calculations in the first place on a valuation date of 21 November 2007. Accordingly, Claimants provide calculations for all three scenarios based on this date. In addition, Claimants also carry out a number of calculations based on the date of 1 January 2012, as a proxy for the date of the award, “for comparison purposes.”2222 Claimants provide calculations based on this date for scenarios 1 and 2, but not for scenario 3.

(b)Methodology Used for Calculations Based on Scenarios 1 and 2

1711. Claimants’ calculations for scenarios 1 and 2 as of November 2007 are in principle based on the following methodology: the total of the damages claimed corresponds to the sum of Claimants’ share in a hypothetical Yukos entity as of the valuation date plus the hypothetical cash flows that Claimants would have received in the form of dividends based on Claimants’ shareholding in Yukos from 2004 to November 2007. In addition, in scenarios 1b and 2b, Claimants also

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include the value they attribute to the “lost chance” of listing Yukos’ shares on the NYSE.2223 The total amount thus obtained is then “brought forward” to a date close to the date of Mr. Kaczmarek’s report by adding pre-award interest.2224 Each one of these steps is set out in more detail below.

i.Value of Shares

1712. With regard to the valuation date of 21 November 2007, Claimants calculate the value of their shares in Yukos as follows:

(a) Valuation of Yukos

1713. As a first step, Claimants calculate the value of the relevant Yukos entity, as defined by the assets that Claimants assume Yukos would have owned in November 2007 in the absence of Respondent’s alleged breaches.2225 The assets taken into account depend on the scenario. For the purposes of scenario 1, both Yukos’ and Sibneft’s original assets are taken into account, 2226 whereas for scenario 2 the calculations are based only on Yukos’ assets.2227 Claimants use three different methods for valuating Yukos, namely the DCF method, the comparable companies method and the comparable transactions method.2228

1714. With regard to the DCF method, Claimants describe their approach as an attempt to reconstruct the “pro-forma financial statements” that the relevant Yukos entity would have presented in November 2007, based on the financial and operational data published by Rosneft and Gazprom Neft, which held the majority of Yukos’ assets at that point in time.2229 Where no such data is available, Claimants rely on “historical financial statements and operating information published by Yukos and Sibneft . . . as well as a benchmark of indicators from

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Yukos’ and Sibneft’s industry peers in Russia.”2230 Based on this data, Claimants estimate cash flows between 2007 and 2015 as well as a “terminal value” of the entity in 2015.2231 Claimants then bring the above estimates to their November 2007 value by applying a discount rate based on Yukos’ cost of capital.2232 This operation leads them to Yukos’ enterprise value as of November 2007.2233

1715. Claimants also use a comparable companies approach, based on data available for a pool of Russian (Rosneft, Gazprom Neft, Lukoil, TNK-BP and Surgutneftegaz) and international (BP, Chevron, Conoco-Philips, Exxon-Mobil, Royal Dutch Shell and Total SA) oil companies.2234 This approach identifies companies with characteristics similar to Yukos (notably in terms of production, reserves, profitability, revenue growth and financing structure), establishes the ratios between the enterprise value of these companies and relevant operating or financial metrics (EBITDA, reserves and production), and then applies these ratios to the relevant metrics of Yukos in order to estimate the latter’s enterprise value.2235 The net income, EBITDA, reserves and production of Yukos are derived from the “pro-forma financial statements” established in the context of the DCF method.2236

1716. Finally, Claimants use a comparable transactions approach based on public purchase transactions of comparable companies.2237 In this regard, Claimants apply a “sum of the parts valuation,” in which they select transactions that are meant to match the upstream and downstream business of Yukos separately.2238 Here again, the operating and financial metrics of Yukos as determined in the context of the DCF method are used to calculate the value of the company.2239

1717. Claimants then calculate a synthesized enterprise value of Yukos based on the results of the three approaches, weighing the DCF approach at 50 percent, the comparable companies

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approach at 40 percent and the comparable transactions approach at 10 percent.2240 By then subtracting Yukos’ assumed debt, they arrive at Yukos’ synthesized equity value.2241

(b) Calculation of the Value of Claimants’ Shareholding

1718. In a final step, for each of the scenarios considered, Claimants calculate the value of Claimants’ shareholding in Yukos by multiplying the company’s equity value by Claimants’ share in the company―53 percent (corresponding to the dilution of Claimants’ shareholding associated with the creation of YukosSibneft) for scenario 1 and 70.5 percent (corresponding to Claimants’ original shareholding in Yukos) for scenario 2.2242

ii.Additional Indicators Relied on by Claimants to Confirm the Value of Yukos Shares

1719. With regard to scenario 1, Mr. Kaczmarek avers that he confirmed his valuation with a number of additional indicators. Claimants calculate Yukos’ enterprise value based on the market capitalization of Rosneft in November 2007, with a number of adjustments made in order to take into account the differences between Rosneft’s assets and Yukos’ (fictitious) assets as of that date. The result of this calculation is an enterprise value that is about USD 4.5 billion lower than the enterprise value calculated on the basis of the above-described methodology.2243

1720. Mr. Kaczmarek also confirms his valuation of Yukos’ enterprise value as of November 2007 based on the increase of three benchmarks (Urals blend prices, the RTS Oil and Gas index and Lukoil’s market capitalization) between October 2003 and November 2007.2244 These calculations lead to an enterprise value of Yukos that is approximately halfway between USD 14.4 billion lower (RTS Oil and Gas) and USD 46.5 billion higher (Lukoil market capitalization) than the enterprise value of Yukos calculated on the basis of Claimants’ basic methodology.2245

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1721. Finally, Claimants calculate Yukos’ enterprise value on the basis of a share swap involving YNG shares that would have taken place between Rosneft and Yukos in October 2006, which Claimants say implies a valuation of YNG’s equity at USD 46.2 billion at that point in time.2246 On that basis, Claimants calculate an enterprise value of Yukos as of 21 November 2007 that is approximately USD 12.8 billion lower than the value calculated on the basis of their basic methodology.2247

iii.Hypothetical Cash Flows from Dividends

1722. The second component of Claimants’ damages calculation is the cash flows from dividends that Claimants argue would have been paid to them in the first and second scenarios but for Respondent’s treaty breaches. Claimants assume that, without the alleged breaches of the ECT by Respondent, Yukos would have paid dividends to its shareholders between 30 September 2003 and 21 November 2007.2248 Accordingly, Claimants say that they would have received a pro rata share of these dividends, calculated on the basis of their shareholding in the company.2249

iv.Loss of Chance

1723. The third component of Claimants’ damages calculation is based on Claimants’ valuation of what they refer to as the loss of a chance to obtain a listing of Yukos on the NYSE. Claimants submit that, without the breaches of Respondent, Yukos would likely have been listed on the NYSE, and that this listing would have decreased the company’s costs of capital and thus increased Yukos’ share value.2250 Claimants quantify the value of the loss of this chance by multiplying the assumed increase in share value with the probability of a successful listing, which they assume to be 70 percent.2251 This loss for Claimants is the amount thus obtained, multiplied by Claimants’ shareholding in Yukos.2252

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v.Pre-Award Interest

1724. In a final step for purposes of their calculations with regard to scenarios 1 and 2, Claimants bring forward the total amount thus obtained to a date close to the date of their last submissions,2253 and add pre-award interest of LIBOR plus four percent on a compound basis.2254

(c)Methodology Used for Calculations Based on Scenario 3

1725. Claimants’ calculations for scenarios 3a to 3d are based on their calculations for the second scenario, but are adjusted to take into account the settlement of Yukos’ tax liabilities through Yukos’ cash flow, the sale of certain assets and/or debt financing.2255 These scenarios do not assume any payment of dividends to Yukos’ shareholders or the loss of a chance of obtaining a listing of Yukos on the NYSE.2256 Rather, Claimants determine Yukos’ equity value as of November 2007 and derive the value of their ownership interest in Yukos from that figure. They then bring forward the amount thus obtained to a date close to the date of their last submissions again by adding compound pre-award interest at a rate of LIBOR plus four percent.2257

1726. Claimants’ calculations for scenario 3e (which assumes the sale of YNG at a price higher than that achieved in the 2004 auction) are somewhat more complex. In this scenario, Claimants estimate the enterprise value of YNG as of November 2007, and then subtract this amount from their estimate of the enterprise value of Yukos as of the same date. This leaves Claimants with a figure for the enterprise value of Yukos’ assets without YNG.2258 Claimants then subtract the assumed debt of this smaller Yukos entity and thus arrive at the equity value of Yukos (without YNG) in November 2007.2259 Claimants calculate their losses as a pro rata share (based on their 70.5 percent shareholding in Yukos) of the sum of this equity value, their estimate of free cash flows that a diminished Yukos (without YNG) would have achieved between January

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2005 and November 2007, and pre-award interest brought forward to a date close to the date of their last submissions.2260

(d)Methodology Used for Calculations Based on 2012 Valuation Date

1727. The position of Claimants is that, because of the unlawful taking by Respondent of Yukos, they are entitled to select the evaluation of the damages either at the date of Respondent’s breach or at the date of the award, whichever is the highest.2261 Thus, Claimants, in their Reply, also quantify their damages in scenarios 1 and 2 based on a valuation date of 1 January 2012. Claimants state they chose this date for practical purposes since it is close to the date of submission of Mr. Kaczmarek’s second expert report and that, if need be, calculations “can subsequently be updated at a date closer to the award.”2262

1728. While Mr. Kaczmarek does not set out the methodology used in this regard in any great detail,2263 it can be inferred from some of the appendices to his second report.2264 In these appendices, Mr. Kaczmarek estimates Yukos’ cash flows for the years 2004 to 2011 as well as the terminal value of Yukos as of 1 January 2012 for scenarios 1 and 2 and then applies pre-award interest of LIBOR plus four percent to bring these figures to the present (i.e., 15 March 2012)2265 value and thus obtain Yukos’ total damages.2266 For scenarios 1b and 2b, Claimants also add the incremental value of the chance of obtaining a listing on the NYSE.2267 Claimants then calculate their damages as a percentage of Yukos’ damages, based on their shareholding in the relevant entity.2268

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