Khodorkovsky & Lebedev Communications Center

Morning Session.

Before Judge Danilkin even had a chance to call the courtroom to order, Mr. Lakhtin was up and telling the court that the prosecution wanted to respond to Messrs. Khodorkovsky and Lebedev and their defense attorneys' comments. Judge Danilkin proposed to do so after prosecution's witness testified, but the witness was not in court yet, and Mr. Lakhtin insisted, telling the court that the prosecution's response was very short.

Mr. Lakhtin described as "provocations" defense's actions, insisting that they were directed at preventing the prosecution from getting justice and at thwarting the prosecution's case. Next, Mr. Lakhtin thanked Mr. Khodorkovsky for admitting his guilt by confirming that he spent $50 billion in YUKOS and its subsidiaries' funds. [Mr. Lakhtin's words were confirming Mr. Khodorkovsky's insistence that the prosecution de facto abandoned crude oil embezzlement charges. -Eds.] Mr. Lakhtin told the court that Mr. Khodorkovsky was demanding a halt to the trial, when the indictment easily disproved all of Mr. Khodorkovsky's assertions.

Then, in a move he's tried before, Mr. Lakhtin began reading from the indictment. After several passages were heard, Judge Danilkin halted Mr. Lakhtin's reading and asked him to wrap-it up. Undeterred, Mr. Lakhtin insisted that Messrs. Khodorkovsky and Lebedev tried to obfuscate the movement of funds, while Mr. Khodorkovsky, who sought to mislead the court by stating that he's not accused of embezzling funds, was controlling revenues from the sale of embezzled crude oil. Then, Mr. Lakhtin began to approach the bench, attempting to enter into evidence what Mr. Lakhtin called description of how Yauza was paid almost one billion Rubles. Judge Danilkin had enough, demanding to know whether Mr. Lakhtin was making a statement or attempting to file a motion. Mr. Lakhtin wasn't sure, then decided that he was making a statement. Judge Danilkin telling him to keep his Yauza documents, told Mr. Lakhtin that his statement was entered into record.

Mr. Lakhtin left the courtroom to go look for prosecution's witness. Meanwhile, Mr. Lebedev sought to respond to Mr. Lakhtin's statement, but was stopped by Judge Danilkin, who told him to wait until after the witness was questioned. Prosecution's witness, Ms. Yulia Smirnova entered the courtroom, followed by Mr. Lakhtin.

Mr. Lakhtin's first question - whether Ms. Smirnova joined YUKOS on her own initiative - drew chuckles from Mr. Lebedev. Mr. Lakhtin, who was still smarting from earlier events, rudely told Mr. Lebedev to sit down and be quiet. The court rebuked Mr. Lakhtin, who was trying to argue that Mr. Lebedev was being disruptive.

Ms. Smirnova testified that she joined YUKOS-Moscow in April 1999, heading the newly reformed tax section. After YUKOS-Moscow reorganized its tax department, Ms. Smirnova became deputy head under Mr. Smirnov. She worked at YUKOS-Moscow through 2005, when the section's staff was transferred to YUKOS-RM.

According to Ms. Smirnova, YUKOS-RM and YUKOS-EP had their own tax sections collecting data for companies they managed. Ms. Smirnova's section modeled statistics and projections based on the data collected by those companies' tax sections.

Mr. Lakhtin wanted to know about Ms. Smirnova's relationship with Ms. Kuchusheva. Ms. Smirnova did not know what division of YUKOS Ms. Kuchushev worked for and what her responsibilities were. Ms. Smirnova testified that several times Ms. Kuchusheva brought with her diagrams illustrating sales of crude oil within the company.

Mr. Lahtin asked whether Ms. Smirnova, before being hired, was explained how crude oil was moved within YUKOS. Ms. Smirnova replied that no one was going to provide this information before hiring someone. Once she was hired, Mr. Moskalets, her supervisor, explained some things to her. This answer did not seem to satisfy Mr. Lakhtin, who told Ms. Smirnova that he was asking his questions based on the testimony she gave investigators. Ms. Smirnova told the court that she did not remember telling investigators what Mr. Lakhtin was asking about. Mr. Lebedev objected. Judge Danilkin warned the prosecutor to refrain from referring to Ms. Smirnova's prior testimony, because it hadn't been entered into record. Judge Danilkin told Ms. Smirnova to testify only about what she remembered and to not succumb to Mr. Lakhtin's attempts to influence her testimony.

Ms. Smirnova was confused by Mr. Lakhtin's question about "what happened to the crude oil after it was extracted." Looking puzzled, she told the court that YUKOS had a trading house, YUKOS-M, which sold petroleum products.

Mr. Lakhtin turned to questioning Ms. Smirnova about companies based in closed administrative-territorial formations (ZATO). Ms. Smirnova testified that by the time she came onboard, ZATO companies were being phased out. Asked about Mordovia and "tax schemes," Ms. Smirnova testified that her section, as well as various consultants, analyzed feasibility of continuing to use companies based in zones with preferential tax treatment. According to Ms. Smirnova, after examining potential tax risks, general consensus was that use of those zones complied with all applicable legislation and tax regulations.

Mr. Lakhtin asked whether Ms. Smirnova could obtain all the information she needed by simply going to other employee's workstation and downloading information from their computer. Ms. Smirnova looked flabbergasted by this question and replied that this would have been unethical.

Ms. Smirnova testified that her section ensured that prices paid to production subsidiaries did not deviate significantly from the market price. She explained that, although Tax Code discussed "market price," "market price" did not exist and does not exist now, otherwise some kind of regulatory agency would be necessary to maintain "market price." Instead, prices were adjusted based on comparing averages from the production company's region. Ms. Smirnova testified that price policy was developed by accounting and legal departments, headed by Ms. Golub and Mr. Aleksanyan, respectively. According to Ms. Smirnova, YUKOS-RM and YUKOS-EP supplied data on regional prices. Ms. Smirnova testified that there was always strict compliance with provisions of the Tax Code, with crude oil prices never deviating more than 20% from the average regional price.

Mr. Lakhtin asked why the company would want to lower the price by 20%. Mr. Lebedev objected to this formulation, while Ms. Smirnova told the court that 20% difference was not a regular practice, but the outer limit of price adjustment. "Any vertically-integrated company sets intra-company prices as it sees fit! Afterwards, funds could be transferred to where they're needed. And production companies were always profitable!" Ms. Smirnova testified while looking at the prosecutor.

Mr. Lakhtin asked if Ms. Smirnova attended any meetings during 1999. Ms. Smirnova did not understand what the prosecutor was asking. Mr. Lakhtin asked, point blank, whether Ms. Smirnova attended any company meetings where Mr. Khodorkovsky spoke. Mr. Lebedev objected. Mr. Lakhtin insisted that he was helping the witness remember what she told investigators. Ms. Smirnova told the court that she remembered the meeting Mr. Lakhtin was asking about, testifying that Mr. Khodorkovsky gathered employees of financial departments and warned them that anyone who violated any laws or regulations would be terminated immediately. Ms. Smirnova added that her section always followed the aforementioned directive.

Judge Danilkin struck prosecutor's questions about Messrs. Valdes-Garcia, Malahovsky and others, specifically the ones about "where those people could be found, currently." Mr. Lakhtin played naïve, telling the court that he wanted to find out where those persons were in order to question them.

After a short break, Mr. Lakhtin, questioning Ms. Smirnova about diagrams showing intra-company crude oil sales, asked about her section's functions. Ms. Smirnova explained that her section worked on assessing and minimizing tax risks. Answering Mr. Lakhtin's next question, Ms. Smirnova told the court that Mr. Khodorkovsky, like any businessman, would seek to minimize tax risks. Then, Ms. Smirnova told Mr. Lakhtin that she did not understand his line of questions. She told Mr. Lakhtin that everyone was aware of tax-minimization strategies used by YUKOS, including the Ministry of Finance. According to Ms. Smirnova, every company used these strategies, with the government never raising any issues about violating tax laws.

After Ms. Smirnova's explanation, Mr. Lakhtin mumbled something about "being here because no one violated anything." Mr. Khodorkovsky objected, telling the court that Mr. Lakhtin was misleading the witness. He reminded prosecutors that Mr. Lebedev and he were charged with embezzling all of YUKOS crude oil production, not with tax charges.

Mr. Lakhtin, still not done with tax-related question, asked whether tax regulators knew that YUKOS companies were using tax breaks. "Of course they knew. Everything was legal. No one advertised that these companies belonged to YUKOS, but tax regulators knew it," Ms. Smirnova told the court. Mr. Lakhtin, with a heavy dose of sarcasm in his voice, asked whether diagrams detailing intra-company sales were widely publicized, like by being displayed in the company's vestibule. With the gallery bursting with laughter, Ms. Smirnova, a sideways glance at the prosecutor, patiently told the court that none of the documents were stamped "Top Secret."

After a number of questions about several of Ms. Smirnova's co-workers, including several repeated and subsequently struck questions about Ms. Kuchusheva, Mr. Lakhtin asked about circumstances surrounding write-off of Bank MENATEP collecting rights. Ms. Smirnova testified that writing off losses is a regular business practice. According to Ms. Smirnova, decisions about collecting rights write-off were made higher up the management ladder. Ms. Smirnova testified that, in addition to Mr. Smirnov, numerous specialists would have been consulted prior to implementing the write-off.

Mr. Lakhtin, after shuffling his papers, filed to read transcripts of Ms. Smirnova's interrogations. He argued that Ms. Smirnova gave "incomplete" testimony about tax breaks for companies based in ZATO and did not provide details about Mr. Dubov and Ms. Golub's activities. Mr. Lakhtin added that both of those persons were members of the organized criminal group.

Mr. Krasnov objected. He told the court that Mr. Lakhtin wasn't even trying to argue that Ms. Smirnova's testimony materially contradicted her earlier statements. Furthermore, Mr. Krasnov objected to Mr. Lakhtin's declarative statement that Mr. Dubov and Ms. Golub were members of the organized criminal group and asked in what court this was proved as fact. Finally, as with numerous other witnesses, the prosecutor left unexplained how Ms. Smirnova's March and April 2008 transcripts ended up in the case file.

Mr. Lebedev, emphasizing the word "ritually," told the court that he ritually objected because Mr. Lakhtin had the gall to include Ms. Golub's name in the alleged organized criminal group, despite the fact that her name was not even mentioned in the indictment. Mr. Lebedev noted that this was not the first time that the prosecutor, with the court's silent acquiescence, slandered someone who was not there to respond to prosecution's lies.

Mr. Lakhtin's motion was granted. As he began reading Ms. Smirnova's interrogation transcripts, the court heard about Ms. Smirnova's work history and her section's functions. Ms. Smirnova was explaining to investigator Iogan that YUKOS took advantage of all available tax breaks, including of those offered in ZATO. According to Ms. Smirnova, the price of crude oil was so low that every advantage helped to pull the company along.

Investigator Iogan was told of the 1999 meeting where Mr. Khodorkovsky warned all employees to follow all laws and regulations, threatening to dismiss anyone who failed to follow this policy. According to Ms. Smirnova, everyone at YUKOS-Moscow believed that using ZATO companies complied with current legislation. Other Russian companies utilized same strategies, also.

Testifying about Bank MENATEP collecting rights write-off, Ms. Smirnova told investigator Iogan that the operation was not without its risks, because YUKOS and Bank MENATEP were related. She added, however, that the write-off did not take place until after the bank was declared bankrupt.

Ms. Smirnova affirmed her testimony, but made one important clarification. She explained that when investigator Iogan questioned her, he asked her whether she knew that shareholders were paid dividends based on Russian standards for calculating profits, while ZATO companies were not part of consolidated perimeter. According to Ms. Smirnova, she was so flustered that she did not realize that there were no consolidated financial statements under Russian accounting standards. Also, Ms. Smirnova told the court that although consolidated statements contain all revenues and profits, it did not mean that all profits had to be paid out as dividends.

Afternoon Session.

Mr. Khodorkovsky began Ms. Smirnova's cross-examination. Despite Mr. Lakhtin's objection, Ms. Smirnova was allowed to answer Mr. Khodorkovsky's question about the process of production, transfer and transportation of crude oil and whether that was in anyway different from property rights to that crude oil. Ms. Smirnova explained that crude oil was shipped through pipelines to end consumers, with property rights being transferred as well, often several times. The transfer of property rights, however, was not connected to whether crude oil was shipped to a particular territory. As an example, Ms. Smirnova mentioned that property rights to crude oil transferred from YUKOS production subsidiaries to YUKOS, or to companies based in ZATO, like Muskron, Mitra or Business Oil. After examining a printout, obtained from PricewaterhouseCoopers, of companies from YUKOS consolidation perimeter during 1999 through 2003, Ms. Smirnova added Fargoil, Ratmir and Ratibor to her list.

Mr. Khodorkovsky asked Ms. Smirnova if she could explain why crude oil sales prices could not deviate more than 20% from regional average. Ms. Smirnova explained that deviation of 20% in any direction from the statistical average could expose the companies to being assessed taxes based on market averages. Mr. Smirnova examined a spreadsheet from Russia's tax regulators with crude oil prices averages from Russia's regions, and confirmed that prices looked similar to what she remembered.

Ms. Smirnova confirmed that pricing was determined by YUKOS-Moscow and YUKOS-EP, but production companies remained profitable. Ms. Smirnova confirmed consolidated statements reflected profits for all YUKOS companies, including those based in Mordovia. Looking at a spreadsheet listing consolidated results from 1999 through 2003, Ms. Smirnova told the court that although she could not remember with certainty, the numbers looked correct. [For the five years spanning, the spreadsheet listed YUKOS revenue at over $50 billion USD, profits at over $15 billion USD and dividends at over $2.6 billion USD for the . -Eds.]

Ms. Smirnova explained that YUKOS, as a legal entity, was part of the vertically-integrated oil company YUKOS. According to Ms. Smirnova, consolidation perimeter included the entire holding. Ms. Smirnova explained that "intra-company prices" were prices paid within the holding.

Answering Mr. Khodorkovsky's question, Ms. Smirnova confirmed that price paid to crude oil production subsidiaries was almost always higher than the cost of production. Ms. Smirnova was about to explain what she meant by "production cost," but the court struck Mr. Khodorkovsky's follow-up question.

Ms. Smirnova testified that, aside from major capital investment coming from within the holding, crude oil production subsidiaries spent the funds made from crude oil sales. Tax regulators were aware of all sales transactions, tracking tax payments based on sales. Ms. Smirnova, once again, confirmed that tax regulators knew about crude oil sales to companies based in ZATO. According to Ms. Smirnova, her section regularly filed a form listing YUKOS and its companies, including crude oil traders in Mordovia and other regions.

Ms. Smirnova testified that Mr. Khodorkovsky was the Chairman of YUKOS-Moscow, which was the managing company fro YUKOS-RM and YUKOS-EP. Ms. Smirnova testified that neither Mr. Khodorkovsky nor anyone else asked her section to provide to any government agencies falsified data about prices, revenues or tax payments.

Ms. Smirnova explained what she meant by "tax risks." According to Ms. Smirnova, Russia had complex tax rules and regulations, with "tax risk" terminology applicable to a wide range of issues. In addition to constantly updating their own knowledge, various consulting firms were hired to analyze and explain latest tax developments.

Mr. Khodorkovsky asked the witness whether Mr. Lebedev or he ever tried to convince her to take any illegal actions. Ms. Smirnova confirmed that it never happened.

Mr. Lebedev took over. Ms. Smirnova, looking over her transcripts, explained that YUKOS-Moscow was the managing company for YUKOS, YUKOS-EP managed production subsidiaries and YUKOS-RM managed refineries. She confirmed that pricing, along with any tax risks, was analyzed with participation from all three management companies.

Ms. Smirnova testified that all companies within YUKOS consolidation perimeter were registered taxpayers and filed tax returns. Mr. Lebedev asked whether Russian tax regulators ever asked why crude oil in production regions was not being sold at Rotterdam prices. Declaring such hypothetical proposal to be utter foolishness, Ms. Smirnova explained that to sell at Rotterdam prices [one had to get the crude oil there], which included numerous expenses. According to Ms. Smirnova, she never heard anyone compare Rotterdam prices to those in production regions.

Ms. Smirnova described the wide range of tax forms filed, including for profits, VAT, real property, natural resources and social contributions. Ms. Smirnova described her meetings with PWC representatives, when the latter were compiling data to use in financial statements under Russian accounting standards. Ms. Smirnova explained that, when necessary, changes were made based on PWC's comments during audits.

Ms. Smirnova testified that she remembered a 2000 lawsuit filed against Yuganskneftegaz by tax regulators for alleged tax underpayment. According to Ms. Smirnova, after a long legal tussle, YUKOS won that lawsuit. Ms. Smirnova explained that the Tax Code was adopted in 1998 and had some drastic changes made to it in 2002. According to Ms. Smirnova, a decision was made to move to a unified tax rate for extraction of natural resources, probably to maximize taxes receipts from crude oil companies, connecting the tax rate to world market prices. Mr. Lebedev asked if the victory in Yuganskneftegaz tax case meant that its pricing complied with applicable tax regulations. Ms. Smirnova replied affirmatively.

Ms. Smirnova was shown service agreements between Ratibor and YUKOS-RM and Ratmir and YUKOS-FBC. Ms. Smirnova testified that tax personnel at YUKOS-Moscow were aware of these agreements and these agreements were evaluated in terms of potential tax risks.

After receiving additional clarification on dividend payments, Mr. Lebedev told the court that he did not have anymore questions. Mr. Lakhtin, disregarding serious looks from Ms. Ibragimova, barraged Ms. Smirnova with questions about the substance of the aforementioned Yuganskneftegaz tax case and whether Mr. Smirnova participated during the trial. Ms. Smirnova testified that she saw initial government filings and discussed these with her colleagues. Mr. Lakhtin demanded to know if Ms. Smirnova saw the final court decision and, despite Ms. Smirnova's answer that she did not, demanded that she tell the whole truth. Ms. Smirnova reiterated that she did not see the final court decision. While the court attempted to get the prosecutor's attention, Mr. Lakhtin continued to lean forward towards the witness, demanding that she give "the right answer." Ms. Smirnova confirmed, for the third time, that she did not see the final court decision in the Yuganskneftegaz tax case.

After a five minute break, granted after the defense's request, Mr. Lebedev told the court that the aforementioned Yuganskneftegaz decision was available, implying that it may be proffered at a later date. Then, turning to the witness, he asked whether she knew what Mr. Khodorkovsky and he were accused of. Ms. Smirnova told the court that the issue was the alleged theft of crude oil from the production companies. Mr. Lebedev asked whether any of the production subsidiaries received refunds for taxes overpaid from 1999 through 2004, in light of the alleged embezzlement. Ms. Smirnova replied that she wasn't aware of any companies getting refunds.

Ms. Smirnova testified that she worked at YUKOS-Moscow through April 2005, then at YUKOS-RM through April 2007. Mr. Lebedev asked whether, in April 2007, Yuganskneftegaz, Tomskneft and Samaraneftegaz amended their tax statements to reflect that he stole all of their crude oil production from 1999 through 2003. "No, that never happened," Ms. Smirnova replied, was thanked by the court and left.

The trial will resume on Tuesday, February 24, 10:30 Moscow Time.