Marija Zrno Prošić:
Sure. First it is useful to mention that this is nothing new. Sanctions have been imposed as the EU’s response to the war in Ukraine since 2014. However, they became more comprehensive following Russia’s invasion in February last year. We have 11 sanction packages so far. You mentioned asset freezes and prohibitions on providing resources to sanctioned persons.
We have more than 1,500 individuals and more than 200 legal entities which are listed. And the list is even longer in reality because entities which are owned or controlled by these sanctioned persons are covered as well. However, these individual sanctions are only one type of sanctions. We also have economic sanctions, such as prohibitions on exports, imports, transit of goods, and provision of services.
We have media sanctions, a price gap on Russian oil, and certain measures to prevent circumvention. I would also like to mention that we have a similar situation in Belarus because of their involvement in this war. The EU has imposed additional measures on Belarus as well. So we have more than 200 persons who are sanctioned.
We have economic and other sanctions as well. So in short, that would be it.
Sašo Papp:
Oliver, welcome to the show.
Oliver Werner:
Thank you for having me.
Sašo Papp:
How do these EU sanctions affect businesses and what specific effects do they have on mergers and acquisitions transactions?
Oliver Werner:
Well, primarily, these rules impose additional burdens on businesses. They affect EU businesses as the rules apply to EU companies. But other parties are affected by these rules too, due to the nature of M&A transactions. First, you need to get acquainted with these complex rules to be able to understand the scope of their application. Secondly, well, you need to make sure that the necessary KYC checks of the transaction are undergone and the transaction is not prohibited.
Third, it is necessary to agree on additional safeguards to ensure compliance and protection from the consequences of breaches. Well, let’s take the individual sanctions as an example. First of all, it appears that the persons listed are not the only concern. As Marija mentioned, the individual sanctions apply not only to the individuals themselves and the legal entities actually designated, but also to all entities owned or controlled by such designated persons.
There is an exception, of course: this will not apply if it can be demonstrated that the respective economic resources or funds are outside the control of the designated person and/or that the funds or economic resources provided would, in fact, not reach or benefit the designated person. Regardless of that exception in practice, this essentially means that your companies may no longer deal with designated individuals or entities, and the entities owned or controlled by them. The lists of economic sanctions against Russia are quite extensive, too. They include general restrictions regarding exports and imports of various goods and technologies, such as prohibitions on providing services or providing financial assistance in relation to goods and technologies, and they include additional restrictions for individual sectors, such as energy, quarrying or mining, transport or financial services.
Now, requesting or providing warranties in M&A transactions to address this has already become standard in such transactions. But the exact wording and the consequences of a breach are not always easily negotiated, in particular when the parties involved have certain businesses in connection with Russia or when specific targeted industries are concerned.
Sašo Papp:
Okay, Oliver, how does it affect individuals who are serving as board members of Russian subsidiaries of EU companies?
Oliver Werner:
Yeah, thank you, that’s an interesting question. EU sanctions can have various impacts on individuals serving as board members of Russian subsidiaries of EU companies. First and foremost, EU sanctions do not apply extraterritorially. That means that Russian companies in principle don’t have to comply with EU sanctions.
However, the sanctions do apply to EU nationals, even if they’re acting as board members in a Russian company. Consequently, what does it mean? A board member may become personally liable for a violation of EU sanctions if he or she takes any action in the name of the Russian company which violates EU sanctions, such as, for example, the export of listed goods.
It is also worth mentioning that this applies to supervisory board members as well, who approve actions of a Russian board which are in violation of the EU sanctions.
Sašo Papp:
Okay, so let’s delve into a concrete example, maybe. Suppose an Austrian company intends to sell its business in Russia to a Russian entity. In this scenario, which specific rules would come into play, and what are the key considerations that would typically need to be addressed?
Oliver Werner: Well, there are several issues which need to be considered and planned well ahead when structuring such a transaction. The first one is that neither the Russian buyer nor the individuals controlling such a buyer can be a listed person.
Secondly, transactions in Russia require several regulatory approvals. Most importantly, a so-called special commission has to approve the transaction if the sale involves an unfriendly country, such as Croatia or Austria or any other EU member state in that connection. The commission requires an independent appraisal of the net worth of the Russian company and will usually strike off 50% of the net worth as the uppermost purchase price for the transaction.
Additionally, an exit tax will also most likely apply to the transaction. Other regulatory approvals, such as merger clearance, may also apply to the transaction. All things considered, Russia is making it more and more difficult for foreign-owned companies to leave the market. And if they’re still adamant to do so, it will come at a tremendous cost.
And third, but not least, the purchase price payment itself has to be structured carefully with the involvement of experienced banks and lawyers. Otherwise, it may well happen that the purchase price payment does not go through on closing.
Sašo Papp:
Thanks, Oliver, for explaining this. What about the opposite scenario? Marija, maybe you [could tell us], how feasible is it for a Russian seller under sanctions to sell their business in the EU? Can such transactions be conducted despite the seller being subject to sanctions?
Marija Zrno Prošić:
Yeah, luckily the EU rules envisaged an exemption. We had a situation in Croatia over a Croatian target, whose ultimate beneficial owner was a Russian sanctioned individual, which was sold to an EU company. How was this possible?
Well, considering that the shares in this company and its assets were frozen due to sanctions, it was necessary to obtain some kind of clearance from the authorities. So it’s similar to the situation that Oliver described; we always have some kind of clearance in these transactions. The clearance was obtained, so the measures were lifted and the shares could be sold to this EU buyer. However, everything was subject to one condition. The purchase price, the funds, were not transferred to the seller, to the Russian individual, but they remained frozen as long as sanctions are in place. Needless to say, this transaction was rather complex, not just because of this new condition that had to be dealt with, but because the situation affected the negotiation process in general, and especially the liability regime.
Sašo Papp:
Okay. But what’s the point of an exemption if the funds are frozen instead of the company shares?
Marija Zrno Prošić:
Yeah, good question. However, if we consider the whole picture, it makes sense. This exemption is not here to favour sanctioned persons. It’s here to protect the EU businesses. As I mentioned, we had a Croatian company, so the EU business in question, they had problems obtaining financing, problems with suppliers.
So, a solution had to be found. Considering the seller’s position, although he was not receiving the funds at that time, he was still motivated to sell because the value of this business was going down, obviously.
Sašo Papp:
Okay, we’ve mentioned today that EU companies are the primary targets of these rules, but non-EU companies are also affected. As previously introduced, Tolga Poyraz, senior lawyer at Yildirim Group of Companies, is also with us. Tolga, welcome to the show.
Tolga Poyraz:
Thank you, Sašo.
Sašo Papp:
Tell us, please, how does Yildirim Group, with its diverse range of companies both inside and outside the EU, including businesses in Russia, experience the impact of these rules? Are specific parts of your business more affected than others?
Tolga Poyraz:
Well, as you already know, sanctions in general have always been one of the customary representations and warranties in M&A transactions. Prior to the sanctions imposed on Russia, we were only seeing the general wording on sanctions, such as sanctions imposed by the U.S. Treasury, the United Kingdom, the European Union, etc. Now we see specific representations and warranties wordings for the sanctions imposed on Russia in share purchase agreements and other transaction documents as well. And also, we see some termination and penalty mechanisms in case you are sanctioned between the signing and closing dates.
And of course, during the negotiations, the seller side wants some assurances that the company and any of its shareholders are not subject to any of the sanctions imposed on Russia. This of course prolongs the negotiation phase. Also, we encounter more detailed KYC procedures for our acquisitions; financing banks and other financial institutions would like more detailed explanations regarding our assets in Russia. Well, that’s to say, I wouldn’t say a specific part of our business is more affected, but the whole business is affected at the same level.
Sašo Papp:
Can you provide, maybe, an illustrative example from your practical experience involving the challenges of navigating sanctions? How do you manage the burden associated with sanctions and effectively address this issue?
Tolga Poyraz:
Well, in one of our recent transactions where we worked with Marija and her great team in Croatia, during the negotiations, which took way longer than the usual practice – almost two years – the war broke out and sanctions were imposed on Russia.
When the seller side asked if we had assets in Russia, we disclosed this information, and after we disclosed this information, they had this concern, what if we become subject to one of the sanctions? And they wished to add a termination clause and a penalty clause if we became a sanctioned person during the interim period, which is the term between the signing and closing dates.
We, of course, were confident that we would not become subject to the sanctions, but this created another argument between the parties and prolonged the negotiations. However, afterwards, the parties reached an agreement on the wording and closed the transaction.
Well, another example was that the group was interested in a project in Estonia. But afterwards, we found out that the ultimate beneficial owner was a sanctioned person, and the Estonian government was considering publicization of the assets in Estonia. Therefore, we withdrew our interest in the transaction.
Sašo Papp:
Thank you. Marija, you mentioned initially that these rules are subject to changes. Do you have any tips for businesses on how to remain up to date?
Marija Zrno Prošić:
Yes. As we mentioned, we have 11 sanction packages so far. The last one was published in June this year, so quite recently. It is not easy to stay up to date.
However, there are different sites that provide various information on sanctions. One of them is maintained by CMS. It’s called “Handling the new EU sanctions against Russia”. This site is regularly updated so that businesses can easily get acquainted with all relevant new developments.
Sašo Papp: Oh, that’s great. Given that there are, as already mentioned, 11 packages of EU sanctions, what do you expect for the future? Will it be more sanctions for commercially sensitive areas or an increase in enforcement, Oliver?
Oliver Werner:
Well, we believe that there will be no new sanctions for commercially sensitive areas in the future, except for further tightening of sanctions involving technology and dual-use items.
This may also have a negative long-term effect on the Russian market, because they have to obtain alternative parts from other regions in the world or rely on third market importers for technology items, which obviously increases the risk of counterfeited products.
Given that, and that may sound a bit harsh, but, honestly, I would personally not feel safe boarding a Russian aircraft in the near future. Since sanctions are currently heavily circumvented by selling goods to third countries such as Kazakhstan, we will definitely see an increase in enforcement targeting sanctions. In addition, there’s also a need for an alignment of criminal and administrative penalties for sanctions violations within the European Union itself.
We currently have huge differences between the individual member states where, for example, a sanction violation may result in a prison term in Austria, but does not currently have any penalty attached to it in Bulgaria, if it does not concern dual-use goods. We therefore expect a general increase in enforcement actions on both the national and international level, in particular due to the increasing pressure by the United States of America and the financial community to establish clear rules.
Sašo Papp:
Okay, so in summary, the EU sanctions against Russia and Belarus present complex challenges for businesses and individuals. Navigating these sanctions requires careful adherence to intricate rules, conducting thorough due diligence, and engaging in constructive negotiations.
It is important to stay up to date as enforcement efforts may intensify, focusing on circumvention and aligning penalties within the EU. With ongoing vigilance, businesses can navigate these sanctions and safeguard their interests in a dynamically changing geopolitical environment.
Okay, thank you to all the guests. Tolga, Marija, Oliver, it was a pleasure talking to you today.
Tolga Poyraz:
Likewise.
Marija Zrno Prošić:
Likewise.
Oliver Werner:
Thank you.
Sašo Papp:
Thank you for tuning in. For those who would like to catch up on our previous episodes, they’re available on our website or can be revisited through your LinkedIn profile. Stay tuned for our next episode. See you soon.
