SUMMARY: Sistema and the hundred billion peace deal

Interfax, 25.12.2017

Christmas came a few days early for AFK Sistema (MOEX: AFKS) when news broke that Vladimir Yevtushenkov's conglomerate had signed an out-of-court settlement regarding some 330 billion rubles in claims filed by Rosneft (MOEX: ROSN) and Bashneft (MOEX: BANE) during seven months of litigation dating back to May. Rumors that the Kremlin had given its blessing to a settlement sent shares in Sistema and its subsidiaries rallying on Friday morning and they continued to climb after it was confirmed Sistema would now only pay 100 billion rubles under the lawsuits if the settlement is approved.

That is not a trivial amount, but one that analysts think Sistema will be able to cope with, as does Sistema itself, given that the end figure was reached with the full acquiescence of the parties involved.

Sistema started out as telecoms-focused holding. Its foray into Bashkortostan's fuel and energy sector (Bashkir TEK) was seen as a lucrative means of making money while the state reached a decision on the Svyazinvest privatization. That "deposit" initially earned Sistema good interest in the form of high dividends. But it eventually almost cost Vladimir Yevtushenkov his freedom and, when Sistema had lost Bashneft, it threatened to destroy the entire holding, which originally had nothing to do with oil. Now, if we now assume that Sistema has finally and definitively bought itself of Bashneft, then it turns out the former economic development minster, Alexei Ulyukayev, is the only loser from the dramatic twists and turns the Bashkir TEK saga has taken in recent years.

But there are still some risks: the out-of-court settlement means Rosneft will still come out this dispute on top and enshrines that status for good, making all Sistema's arguments and the numerous leading lights of corporate law brought in during the case redundant. And the former owners of any businesses will now be rather wary of courts using the Bashneft case as a precedent from now on.

The settlement

Overall court claims filed by Rosneft and Bashneft against Sistema exceed 300 billion rubles. The first was for 170 billion rubles in losses the oil company claims were inflicted when Sistema reorganized Bashneft's assets in 2014, although the court of first instance and appeals court only recognized 136 billion rubles of this. Stakes worth 185 billion rubles owned by Sistema in Mobile TeleSystems (MTS) (MOEX: MTSS), Medsi and of Bashkirian Power Grid Company (BPGC) were frozen at Rosneft's request.

Bashneft and Rosneft on December 7 filed a new claim against Sistema for damages they believe were inflicted due to the payment of 131.6 billion rubles dividends for 2009-2014. The court is due to hear this suit on January 12. Several Sistema assets, including a controlling stake in Detsky Mir (MOEX: DSKY), were seized as an injunction.

Rosneft said in a statement on Friday evening that directors at its Bashneft subsidiary had approved the terms of an out-of-court settlement with Sistema and its subsidiary Sistema-Invest.

"The voluntary settlement was signed by all the parties of the lawsuit on the compensation of damages from Bashneft reorganization. The settlement will be subject for the Bashkortostan Republic Arbitration court approval," Rosneft said.

"According to the settlement terms the defendants are obliged to compensate the agreed damages to Bashneft in the amount of 100 billion rubles. The funds for the compensation will be raised by the defendants with the assistance of the Russian Direct Investment Fund (RDIF) and Sberbank of Russia (MOEX: SBER). The finalization of the payments shall be made by March 30, 2018," it said.

"The parties agreed to restrain from any further claims regarding the disputable issues upon the above mention payments finalization," Rosneft said.

Sistema said in a statement of its own late in Friday evening that it had signed an out-of-court settlement with Rosneft, Bashneft and the Republic of Bashkortostan.

"According to the agreement, all sides will recall all their lawsuits and abandon all claims against each other, and Sistema will be obliged to pay Bashneft 100 billion rubles by March 30, 2018. Sistema will make this payment using its own as well as borrowed funds," Sistema said.

"Sistema would like to express its gratitude to the Russian Direct Investment Fund for its active contribution in reaching the settlement and to Sberbank of Russia for its contribution and assistance in signing the settlement agreement," the company said.

Rosneft, Bashneft, Bashkortostan's Land and Property Ministry, Sistema and Sistema-Invest on Monday filed with the Bashkortostan arbitration court for approval of their amicable settlement, according to the court's case file. The settlement concerns the Rosneft lawsuit seeking 170.6 billion rubles in damages under which the court awarded 136.3 billion rubles. A court official told Interfax the court would consider the application on December 26.

Welcome move

The Russian Direct Investment Fund (RDIF) said on Friday that it welcomed the out-of-court settlement reached between Sistema and Bashneft.

"The compromise, reached in the interests of both parties, is a positive signal for the market as a whole and serves the establishment of a favorable investment climate in Russia. We are grateful to the parties for the confidence they placed in the RDIF in the course of negotiations," the Fund said.

Bashneft and Rosneft on December 7 filed a suit with the Bashkortostan Arbitration Court claiming 131.638 billion rubles losses from AFK Sistema and Sistema-Invest. The RDIF on November 29 received a mandate from Bashneft to facilitate an out-of-court settlement on the lawsuit to recover losses from Sistema in favor of the oil company filed with the Bashkortostan suit, the Fund said earlier.

The emergence of the RDIF as a mediator at a time when the dispute seemed to have reached boiling point gave some faint hope that a settlement between Rosneft and Sistema might be possible. Kirill Dmitriev, the RDIF chief and a skilled negotiator who has managed to bring numerous Chines and Arab investors to Russia, was present at the meeting between President Putin and Russian business leaders on December 21. Those skills would certainly be needed to try and resolve the biggest corporate dispute of the year, if not the decade.

Better than bankruptcy

Rosneft and Bashneft agreed in the framework of the out-of-court settlement to lower their claims against Sistema, otherwise the holding would have been threatened with bankruptcy, Rosneft spokesman Mikhail Leontyev told Interfax on Friday evening.

"Realistically this agreement enables us in a short period of time and without additional costs to reach the same result. This enables us to avoid damages to the economy, and to Bashneft, which can be compensated for its losses in a short period of time," he said.

Leontyev said the fresh lawsuits against Sistema were filed in order to "stir in our opponents the will to reach an agreement." Nor did Leontyev deny that the head of state had influenced the resolution of the situation between the parties.

Kremlin influence?

The litigation between Sistema and Rosneft threatened to spill over into 2018 and preliminary court hearings of new lawsuits were scheduled for January.

First there was the new claim that Bashneft and Rosneft filed on December 7 against Sistema for damages they believe were inflicted due to the payment of 131.6 billion rubles dividends for 2009-2014.

Then, on December 8, Sistema filed a lawsuit in the Arbitration Court of the City of Moscow against Rosneft and Bashneft seeking damages of 330.449 billion rubles, although its chances of succeeding were not deemed to be high.

On December 18, just days before the meeting in the Kremlin, an appeals court upheld a ruling for Sistema to pay 136.3 billion rubles under the first lawsuit, brought by Rosneft and Bashneft, instead of 170.6 billion rubles. The appeals court rejected an appeal by Rosneft against a ruling to grant the original claim in part only. Sistema said in response that it planned "to implement the court's ruling in accordance with the procedure established by law, and will simultaneously dispute the ruling of the appeal court by filing a cassation appeal to the Arbitration Court of the Urals District within the time limit prescribed by law."

But then, just two days after the appeals ruling, the meeting in the Kremlin took place. People waited with baited breath in the hope the Russian president himself would help resolve the conflict.

One of the participants told Interfax the dispute between Rosneft and Sistema was not discussed at President Putin's meeting with business leaders on Thursday, but it was mentioned indirectly at the very end of the event, during the informal part of the meeting.

At the end, Putin pointed out the late hour and proposed to end the meeting in order to give Rosneft's Sechin and Sistema's Yevtushenkov time to discuss their differences, the participant said. "Let's part, otherwise they won't have time to come to an agreement," the participant quoted Putin as saying.

The Kremlin said on December 25 that President Putin did not participate in talks concerning the out-of-court settlement between Rosneft and Sistema, but the opinion he expressed is likely to have had an impact on the resolution of the dispute. "As you understand, the president did not take part in the talks, an announcement was made as to who participated as mediators, who helped make contacts, however, this wasn't the president," Russian Presidential Press Secretary Dmitry Peskov told reporters.

When asked whether the president had a role in pushing the parties towards finding a mutually acceptable resolution, Peskov said: "If we consider the opinion expressed by him, then yes, there was."

Peskov said the Kremlin was pleased with news of the out-of-court settlement and was hoping for its smooth implementation. "What we have heard and read, is, of course, a welcome development: the reaching an out-of-court settlement," he said.

He said that "of course the implementation of agreements reached is important." "We hope that the implementation will also be conducted without any problems," Peskov said.

Not critical

"I think that if the agreement is final and there are no technical conditions, then Sistema will be able to raise the loans without particular difficulty. Sistema's debt is quite acceptable. Of course it will go up, but not critically so, and they could go through with it," said Uralsib (MOEX: USBN) analyst Konstantin Belov.

"How long that sort of debt can be sustained is another matter, but if the assets are unfrozen, then there shouldn't be any problems - cash flow will help solve the problems," the analyst said.

Sistema's net debt was 99.5 billion rubles on September 30. Its cash position was 20.4 billion rubles at end-June, not including the 9.8 billion rubles in dividends on stakes in MTS and BPGC due for 2016 but to which access was denied by the injunction. So Sistema already has some 30 billion rubles to play with even before further dividends from its subsidiaries, and would not have to borrow more than 70 billion rubles on that basis.

"This amount [what Sistema must pay under the amicable agreement] is not critical for Sistema at all, especially given that there is a candidate who might provide it [Sberbank]. Secondly, there is time before March 30 for a deal to be done," said Alexander Vengranovich of Otkritie Capital.

"Their debt load is currently 100 billion rubles, so they are paying around 10 billion rubles in interest each year. The interest will mount as the debt grows, but Sistema will have around 26 billion rubles in dividends from MTS, so there are funds to pay the interest. Yes, it complicates their financial situation, but this is not critical. The outcome is very good for them and theoretically they ought to cope with it," he said.