Sanctions Compliance

Articles

Sanctions compliance


It is well known that certain industries of the Russian economy and a number of persons and entities are subject to international sanctions levied by the USA, the European Union, and other countries and supranational organizations. However much we would not want it, the sanctions regulations seriously affect the Russian economy. According to the International Monetary Fund (IMF), they cut between 1 and 1.5 % off Russia’s gross domestic product (GDP) annually. When considering main initiators and players in the international arena, the author of this article has only focused on the sanctions levied by the EU and the USA, for other countries have mainly supported the EU and USA by imposing the same sanctions. Furthermore, the close attention in this article is namely paid to sectoral sanctions as the most comprehensive; in order to comply with them, companies need more business controls and tools for building a compliance system than, for example, in case of selective sanctions, such as Specially Designated Nationals and Blocked Persons List (SDN), which include freeze of assets and prohibition from dealing with designated persons and entities.

European Union

  • Council Decision of July 30, 2014. According to EU sanctions (2014/507/CFSP of July 30, 2014), the prohibition of the following actions has been introduced in Crimea or Sevastopol for individuals and legal entities under the jurisdiction of an EU member state: a) providing financing or financial assistance for infrastructure projects in the sectors of transport, telecommunications, and energy; in Annex are listed technologies and resources which are prohibited from exploration and exploitation by EU persons; b) creating a joint venture relating to the above infrastructure projects by EU persons; c) acquiring or extending participation in enterprises that are engaged in infrastructure projects referred to in paragraph a); d) selling, supplying, or transferring (separately are mentioned vessels flying the flag of an EU member state) equipment and technology related to infrastructure development as determined in paragraph a); e) providing technical assistance, brokering services, or training related to the above projects.
  • Council Regulation (EU) No. 833/2014 adopted by the Council of the European Union on July 31, 2014 (hereinafter referred to as the Regulation). Starting from August 1, 2014, the Regulation has prohibited the supply of technologies and equipment from the territory of the EU (including goods originating outside the EU) to Russia or for end-use in Russia, relating to deepwater oil exploration, shale oil production, and Arctic oil exploration and production. A licence is required for the supply of technologies in the oil sector.
  • The export authorisation procedure has been introduced for the supply of such technologies and goods. Respective licences shall be granted by the competent authorities, which are set out in the Regulation, in a respective EU member state of the exporter. The licensing bodies may annul, suspend, modify or revoke an export authorisation which they have granted previously. The granted licence is valid throughout the EU; EU member states may share the relevant information on granted licences, as well as on applications for the licences which have been refused previously.
  • Contracts for the provision of technical assistance (training, consultations, presentations), brokering services, financing and financial assistance (credits, export credit insurance) related to the goods and technology listed above must also be pre-agreed by the competent authorities.
  • EU member states shall lay down the rules on penalties applicable to infringements of the Regulation’s provisions. The Regulations does not provide any details on the form or amount of penalties, but indicates that they ‘must be effective, proportionate and dissuasive’.

 

Licensing procedure implies submission of all documents relating to an export operation and end-use of the dual-use items for export to a competent authority (i.e. end-user certificate). Granted licence is valid throughout the EU; it is not required to obtain a separate licence for every single export operation. Given that the items are exported exclusively for civil purposes, a company is obliged to apply for an export licence for dual-use items listed in Annex 4 to Council Regulation (EC) No. 428/2009, which are restricted in circulation, including within the EU. Previously, obtaining a licence took an average of 17 days for an individually validated licence and 68 days for a general export licence. In view of the latest regulation, national authorities have tightened the licensing procedure, as well as penalties for violation of the licensing procedure.

Export control conducted by regulatory agencies includes maintaining the end-use classification system, visiting export companies in order to verify the licence compliance, conducting investigations of alleged violations. 

Siemens and the importance of end-user certificates

In July 2017, it came to light that the gas turbines SGT5-2000E built by the German concern Siemens had been delivered to Crimea in violation of the EU and U.S. sanctions regulation. Afterwards, Siemens filed a lawsuit with the Moscow Arbitration Court against Technopromeksport and OOO Siemens Tekhnologii gazovykh turbin. As of today, the Moscow Arbitration Court has rejected claims of OOO Siemens Tekhnologii gazovykh turbin against OOO and OAO Technopromeksport on the recognition of the contract for the supply of turbines invalid, and the return of the supplied turbines; the petition to seize the turbines has also been rejected, along with the counterclaim brought by Technopromeksport. The European Union has added to the sanctions lists six persons and entities involved in the violation: three individuals (the Deputy Energy Minister Andrey Cherezov, Department Head at the Energy ministry Evgeny Grabchak, and Chief Executive of OAO VO Technopromeksport Sergey Topor-Gilka) and three legal entities (OAO VO Technopromeksport, OAO Technopromeksport, ZAO Interavtomatika). On January 26, 2018, the U.S. authorities have furthermore expanded the sanctions lists by adding, quite strangely, PAO Silovye Mashiny, although PAO Silovye Mashiny is a minority shareholder (35 percent) of a joint venture OOO Siemens Tekhnologii gazovykh turbin, and the management of the latter is nominated by Siemens. The U.S. Treasury Department referred to an alleged public statement of the Chief Executive Officer of PAO Silovye Mashiny on supporting infrastructure projects in Crimea. As unfavourable as it can be for PAO Silovye Mashiny, although the procedure of appeal of having been included in the U.S. sanctions lists exists in theory, it is, in fact, quite an undertaking.

Unlike the USA, the EU legislation allows to appeal the decisions of the EU Council on freeze of assets of a person or a legal entity. There is a number of such successful examples in the EU, which are based, as a rule, on the lack of adequate reasoning and an apparent mistake in assessment of facts and evidence (Melli Bank plc. Case). To successfully appeal the decisions of the EU Council, it is important to provide evidence refuting the factual correctness of all and any grounds used for the listing of the targeted person, and distancing the latter from the circumstances serving as a reason for sanctions. Even a single ground may be enough for persistence of the sanctions. For the General Court of the European Union, it usually takes approximately two years to hear the above cases at first instance. It is almost impossible to accelerate the procedure or suspend the decision for the time of ongoing proceedings.

As to the supply of the gas turbines to Crimea, it happened despite contractual restrictions and respective assurances from Russian counterparties, as well as qualified specialists in the area of export control at Siemens. At the stage of shipping goods and obtaining an export licence, it is usually required to provide an end-user certificate to verify that the buyer is the final recipient of the covered equipment. As a rule, end-user certificates include detailed information on end-use of goods and specify certain operations to be performed with such goods. An end-user has to confirm that the goods will only be transferred to the non-santioned persons, and that equipment and technology will be used exclusively for civil purposes and may be re-exported only with the prior approval of the competent authorities. The end-user certificates must be signed by the receiving company which will be using the exported equipment and technology.

Putting aside the root causes of the above situation, it is important to determine the prospective impact of the scandal on interactions between Russian companies and their foreign partners, as well as identify which internal processes should be implemented and maintained by the companies, which are willing to demonstrate their commitment to comply with statutory and contractual restrictions. In our opinion, we must expect tightened control and contractual liability for sanctions and export violations between Russian companies and their foreign partners. It can also result in a requirement to provide additional assurances, increased penalties for violation of the sanctions regulations, as well as possible fulfillment tests in connection with obligations under the contract and end-user certificate. Export control authorities of the EU member states may want to visit companies to make sure that they fulfill their obligations and maintain an adequate internal control system. Since this is required by regulatory authorities in the EU internal market, European or international companies will also strive for this; not least to demonstrate their own regulator that a company did everything possible to properly comply with legal requirements.

On January 29, 2018 the U.S. Congress, pursuant to the provisions of the Countering America's Adverseries Through Sanctions Act, has published a report on the listing of persons (mostly businessmen and officials) involved in the Russian politics and being close to government. The report includes 210 individuals - politicians, officials, and businessmen primarily from the Forbes list with capital of over 1 billion dollars. Although no sanctions have been imposed, the analysis of listed persons indicates a close attention paid by the U.S. Administration and could discourage third parties from dealing with them as potentially toxic. Pursuant to the Countering America's Adversaries Through  Sanctions Act, the U.S. Treasury Department can:

  • add to the sanctions lists state-owned enterprises operating in the transport, metallurgy and mining industries;
  • expand the prohibition from transferring certain technologies for projects anywhere in the world, associated with deepwater oil and Arctic oil exploration and production by the oil and gas companies, in which they have an ownership interest of more than 33 percent.

Issued by the U.S. President, Executive Order No. 13662 of March 20, 2014, Directives 1 and 2, as amended on September 29, 2017, pursuant to section 223 (b) of the Countering America’s Adversaries Through Sanctions Act, prohibit certain transactions involving designated persons: providing financing for a new debt of longer than 14 days maturity, transferring certain technology and equipment. On August 6, 2014, a final rule on export out of the USA to Russia has been introduced for items used in the oil and gas industry. The U.S. Commerce Department’s Bureau of Industry and Security (referred to as the BIS) has made amendments to the Export Administration Regulations (EAR) of certain dual-use items. On August 7, 2015, BIS has prohibited the supply of process equipment for the Yuzhno-Kirinskoye gas-condensate field located in the Sea of Okhotsk, which is being explorated by Gazprom. It indicates a clear change of sanctions strategy, where a regulatory agency, for the first time ever, has sanctioned a specific field rather than an entity or individual. The sanctions regulator is trying to target the most economically significant projects in Russia.

Licence requirements and licensing body

For specific classes of goods, it is required to obtain an authorisation for export, regardless of whether the exporter, re-exporter, or transferor is inside or outside the USA. This rule also applies regardless of whether the exporting party is a U.S. person or not.

Licensingpolicy

Applications for export, re-export, or transfer (in-country) of any items requiring a licence for Russia, are processed on the basis of presumption of refusal to grant a licence, in case an item is used, directly or indirectly, for deepwater oil exploration and production (on the depth of over 152,4 meters), Arctic oil exploration and production, or shale oil projects in Russia.

Lack of a savings clause

Since the Executive Order lacks a savings clause, the items originating from the USA and currently being in Russia (in its original form), remain under EAR restrictions due to its American origin. Even items being on the way to the port of export or re-export and subject to the EAR, cannot be delivered to the destination after the effective date. Furthermore, the suppliers cannot transfer (in-country) the items subject to the EAR, if they may be used, directly or indirectly, for respective oil and gas projects in Russia. The Department of the Treasury's Office of Foreign Assets Control (OFAC) exercises an aggressive control over compliance with the EAR: monitoring export declarations filled out online by American exporters; monitoring transfers of American goods to foreign countries and within their territories. A number of companies, including non-U.S. companies, have recently been prosecuted for violation of the licensing procedure.

Sanctions compliance in Russian companies

Sanctions regulations target largely Russian persons, as well as entities, in which they have a certain ownership interest. Restrictions and penalties, when violating a sanction, primarily address the persons, under which jurisdictions the sanctions have been imposed. However, in some cases, the sanctions can be applied extraterritorially. Below are the examples of entities, which are indirectly affected by the sanctions regulations:

  • entities, in which foreign companies own a controlling interest. For example, pursuant to the U.S. sanctions, U.S. persons are all U.S. citizens and permanent residence aliens, all persons and entities within the U.S., all U.S. incorporated entities and their foreign branches. In certain cases, foreign subsidiaries owned or controlled by U.S. companies, as well as foreign persons in possession of U.S.-origin goods also must comply. Thus, Russian fruit juice producer Lebedyansky, owned by the American corporation PepsiCo, might need to comply with the U.S. sanctions; under U.S. law, the chief executive of the Russian company, being a U.S.citizen, has no right to engage in transactions with a company on the SDN List, or, for example, if a person signing a contract on behalf of another party is a SDN-listed person.
  • Companies which attract foreign investment and must comply with requirements of credit institutions. When providing export financing or granting loans in foreign currency, banks insist on including strict sanctions clauses, which significantly restrict the borrower in the use of borrowed funds, impose obligations to implement a sanctions policy in the company, force to sign various comfort letters and affidavits.
  • Persons having a significant share of business in the USA or related to the U.S. market. What actions can the Russian companies take, if they meet any of the bullet points outlined above?

Which control measures to implement and whether to implement at all?! 

Measures for mitigation of the risks associated with sanctions. The author claims that the list of measures is inclusive rather than exhaustive, and various companies can introduce the following sanctions compliance tools in one form or another:

  • Designating a responsible division. As far as the author is concerned, it is primarily the compliance and export control divisions which are responsible for designing the company strategy and policy in order to comply with sanctions;
  • Creating a system for ensuring an automated screening of company counterparties against the sanctions lists. Currently, there are many software providers in the market, such as Dow Jones, World-Check, and World Compliance. It is important that the software has been integrated with the company counterparties database;
  • Designing internal regulatory policies and appropriate sanctions clauses for sample agreements. In case of subsidiaries of foreign companies, the latter, as a rule, can simply pass down to their subsidiaries the general group regulation, i.e. sanctions policy. The main difficulty in this case would be balancing Russian legislation with the requirements of a parent company and international regulation. For example, antitrust rules may apply, if a person refused to conclude a transaction which is contrary to the sanctions regulation (e.g. counterparty is on the SDN List). This task often boils down to the idea of serving two masters: it is not easy, but still possible with the appropriate level of creativity and professionalism;
  • Controlling cash flows and debt financing, so that the funds would not be received by a wrong person in the sense of applied sanctions. This risk might be addressed by opening separate bank accounts for settlements with sanctioned persons;
  • Controlling assurances provided in end-user certificates.

An end-user certificate includes specific assurances and guarantees relating to the purposes and recipients of the covered items. How to ensure compliance with the assumed obligations or implement controls in such a way that the assurances were actually fulfilled? It is necessary to keep track of end-user certificates and implement an approval procedure for the movements of material assets covered by the end-user certificates; such procedure implies that an approval is required for disposal of the items by the responsible division. For the companies which are willing to promote international cooperation and demonstrate their business partners how important it is for them, as importers, to comply with the sanctions regulations and export control rules, it is advisable to build a respective compliance program. Such program, aside from implementing internal policies, designating responsible divisions, and creating control systems, will require proper and regular training of the company employees. But the most important requirement is real adherence of all employees and management to the adopted regulations. In fact, the main requirement made by the sanctions regulators in different jurisdictions is implementation of the controls and policies that allow to adequately and timely identify and prevent santions risks. Nobody is expecting that a company would organize its own intelligence department or prosecution office to identify sanctions risks. It is rather expected that a company will do its best in a normal commercial practice in order to manage such risks.

 

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