Khodorkovsky & Lebedev Communications Center

Today marked the one year anniversary from the start of preliminary hearings in Messrs. Khodorkovsky and Lebedev's case. To mark the occasion, Nezavisimaya Gazeta published Mr. Khodorkovsky's article about the "conveyor belt" that is the Russian judicial system.

The prosecution called Aleksey Zubkov to the witness stand. Ms. Kovalihina questioned Mr. Zubkov, as Mr. Lakhtin was absent for the second day in a row.

Ms. Kovalihina began by asking about Mr. Zubkov's employment history. Mr. Zubkov told the court that he worked at ZAO "PricewaterhouseCoopers Audit" from 1999 through 2008. While at PWC, Mr. Zubkov rose through the ranks, from a consultant to a senior manager in crude oil and gas industry department.

Ms. Kovalihina asked when PricewaterhouseCoopers audited YUKOS' financial statements. Mr. Zubkov, who was careful in choosing his words, said that he personally participated in 1996 and 1997, (while working for Price, Waterhouse and Co.) and from 2000 through June 2004.

Mr. Zubkov testified that YUKOS drafted consolidated financial statements according to US GAAP, with PWC applying US auditing rules when auditing those statements. Ms. Kovalihina was curious to find out what happened to the audit report for 2003. Mr. Zubkov, who stopped working on YUKOS audits in June 2004, was unable to answer Ms. Kovalihina's question.

Ms. Kovalihina asked about auditor's report for YUKOS Universal Limited for 2002. Mr. Zubkov testified that there was an ongoing project to prepare an auditor's report based on YUL's US GAAP consolidated statement. One of the subjects on which Mr. Zubkov worked personally was to examine privatization cost of YUKOS shares and to describe all steps leading YUL's acquisition of those shares. At this point Mr. Zubkov, who sounded a bit uncertain, was told by the court to let it know if he had difficulty remembering or was uncertain about his testimony.

Mr. Zubkov continued. He testified that the YUL project was managed by Douglas Miller. According to Mr. Zubkov, Mr. Miller asked him to write a draft report on history of transactions with YUKOS shares, starting with privatization, based on the available documentation. Mr. Zubkov told the court that, prior to finishing the draft report, he needed to confirm this information and to arrange a meeting with Mr. Lebedev, who was the head of YUKOS Universal Limited. That meeting never happened because Mr. Lebedev was arrested. Mr. Zubkov testified that without meeting with Mr. Lebedev he was unable to finish his draft report.

Ms. Kovalihina asked about the YUKOS consolidation perimeter and who determined what companies were included. Mr. Zubkov, calling the term "consolidation perimeter" a type of slang, explained that YUKOS consolidated financial statements were drafted according to US GAAP, which meant that all subsidiaries where the parent company had a controlling financial interest, meaning participation in capital of more than 50%, were consolidated. He added that control of more than 50% was not the only method of determining controlling interest. According to Mr. Zubkov, YUKOS consolidated hundreds of domestic and foreign subsidiaries. Among these were crude oil production companies, crude oil refineries, crude oil trading companies and investment companies, among others. According to Mr. Zubkov, the company management decided which companies to consolidate according to US GAAP, whether it was based on ownership of more than 50%, option agreements, golden shares, trust arrangements or other.

Ms. Kovalihina focused on foreign subsidiaries of YUKOS and asked Mr. Zubkov to tell the court those companies. Mr. Zubkov, telling the court, once again, that there were hundreds of companies, testified that he remembered Mazeikiu Nafta, YUKOS Finance BV and Routhenhold Holdings Ltd. These companies were included based on the decision of the management in accordance with US GAAP, so because of 50%+ control, or special options, golden shares, trust agreements. After Ms. Kovalihina asked about Behles Petroleum, South Petroleum, South Petroleum and Baltic Petroleum, Mr. Zubkov testified that those companies were not consolidates. He speculated that YUKOS management did not consider these to be affiliated.

Ms. Kovalihina returned to questions about the YUKOS Universal project that Mr. Zubkov worked on. She asked if Mr. Zubkov had anything to add to what he'd said earlier. Mr. Zubkov, carefully parsing his words, told Ms. Kovalihina that he wasn't sure what she was looking for and asked her to clarify the question. After a pause, the prosecutor asked which documents, from those Mr. Zubkov had access to, PWC used to determine YUKOS privatization costs. Mr. Lebedev objected, telling the court that only the government could determine privatization cost. Ms. Kovalihina told Mr. Zubkov that if he understood her question he was free to correct her, "because we are not specialists in this." Mr. Zubkov testified that he had access to a memorandum detailing aspects of YUKOS' privatization, but he did not know where the memorandum came from. According to Mr. Zubkov, his attention was focused on transactions with YUKOS shares resulting in YUL's ownership. [Almost every recent witness, including Messrs. Golubovich, Anilionis and, now, Mr. Zubkov, was questioned about privatization of YUKOS. As we mentioned on numerous occasions, questions of how YUKOS' privatization, particularly the price, are relevant to the charges remain unanswered. -Eds.]

Mr. Zubkov testified that YUKOS drafted its own consolidated financial statements, as well as those of its subsidiaries. He explained that foreign subsidiaries were grouped based on the type of activity they were involved in. There were different groups at different times.

Mr. Zubkov testified that about two-thirds of the profit reflected in consolidated financial statements came from YUKOS crude oil trading subsidiaries. According to Mr. Zubkov, establishing crude oil traders in zones with preferential tax treatment promoted profit formation. Profit was paid out as dividends to that company's parent(s) or remained on the trading company's balance sheet.

Ms. Kovalihina asked whether crude oil production companies "had access to those profits." Mr. Zubkov explained that none of crude oil production subsidiaries were set up as parent companies for crude oil trading companies. However, Mr. Zubkov testified that part of the funds was concentrated at the level of YUKOS and was transferred to the production subsidiaries.

Ms. Kovalihina asked if Mr. Zubkov could explain the price crude oil production subsidiaries sold crude oil for to trading companies. Mr. Zubkov, who could not provide price specifics, explained that crude oil was sold at intra-company pricing.

Ms. Kovalihina began presenting Mr. Zubkov with various documents. First up was Brittany Assents Ltd., balance sheet for June 2004 and the accompanying translation. Mr. Zubkov was allowed a short break to examine the documents.

Ms. Kovalihina began questioning Mr. Zubkov on what he saw in those documents, often providing him with leading nudges. While examining the Brittany balance sheet, Mr. Zubkov was asked if he saw any dividend payments, in the neighborhood of $8 billion USD, or so, which prompted a laugh from behind the glass. Mr. Zubkov, who first told the court that he preferred to work with the English language original, explained that he did not see a dividend payment in that amount. What he saw was a balance line showing that at the beginning of June line "Dividends Received" showed over $8 billion USD in dividends, which remained unchanged at the end of the month. Mr. Zubkov testified that he was unable what subsidiaries were paying dividends to Brittany Assets.

Ms. Kovalihina asked questions about several other entries in the balance sheet. Pointing Mr. Zubkov at entry item 2534, Ms. Kovalihina asked if Mr. Zubkov could explain what he saw there. Mr. Zubkov wasn't certain how to decipher "YCSarl," but received Ms. Kovalihina's help, who asked the entry was for YUKOS Capital S.a.r.l. Mr. Zubkov said that that's what it was and explained that the line contained information on an outstanding loan to the latter company, totaling over $2.6 billion USD at the beginning of June 2004. There were both payments and additional disbursements under that particular loan agreement, with the end of the month entry showing over $2.7 billion USD. [Our readers noticed that the prosecution prominently features YUKOS Capital S.a.r.l. in its motions to extend Messrs. Khodorkovsky and Lebedev's arrest. -Eds.] 

After another break, Mr. Zubkov was asked to comment on a draft called "Source of Funds." Mr. Zubkov speculated that the document was a PWC draft chart of remaining capital flows from domestic to foreign companies, covering 2000 through 2004.

After only a few questions, Ms. Kovalihina asked Mr. Zubkov to examine YUKOS consolidated financial statements for 2000, 2001 and 2002. Mr. Zubkov looked a bit perplexed at the prospect of having to work with almost 2000 pages of documents, and asked the court if he could have some time to look these over. Judge Danilkin gave him five minutes.

Mr. Lebedev objected to Ms. Kovalihina's question about "profit allocation," telling the court that this information was not found in tables Mr. Zubkov was asked to examine. According to Mr. Lebedev, Ms. Kovalihina was asking Mr. Zubkov to speculate. Ms. Kovalihina insisted that if the witness was unable to answer he could tell that to the court. Mr. Zubkov told the court that he did not understand the prosecutors question and could not answer it.

Ms. Kovalihina asked if Mr. Zubkov participated in auditing transactions involving purchase of Bank MENATEP collection rights. Mr. Zubkov confirmed that he participated in the audit of these transactions.

After another break, during which Mr. Zubkov went over additional pages in the auditor's report, Mr. Zubkov testified that, based on the audit report, YUKOS paid $192 million USD to acquire Bank MENATEP collection rights. Ms. Kovalihina asked if YUKOS spent its own funds. Accompanied by Mr. Lebedev's chuckle, Mr. Zubkov testified that he wasn't aware of YUKOS borrowing funds to purchase the aforementioned collection rights. Ms. Kovalihina asked if Mr. Zubkov remembered any bank names that were involved in these transactions. Mr. Zubkov did not. Ms. Kovalihina's benign "Does 'Standard' remind you of anything?" did not meet with success.

Mr. Zubkov did not know who managed Bank MENATEP. When asked why YUKOS purchased Bank MENATEP collection rights, Mr. Zubkov told the court that it was probably because YUKOS management made a decision to do so.

Ms. Kovalihina, turning from Bank MENATEP questions, asked if Mr. Zubkov remembered seeing any documents detailing crude oil sales. Mr. Zubkov told the court that he was fairly certain he saw something, but he could not remember it now.

Ms. Kovalihina told the court that, at this time, she did not have any further questions for Mr. Zubkov. After a short break, Mr. Klyuvgant suggested postponing Mr. Zubkov's cross-examination until tomorrow. (The court advised both parties that today and Thursday hearings will end at 15:00.)

The trial will resume on Thursday, March 4, 10:30 Moscow Time.