By Lucy Komisar
100Reporters, May 21, 2014

As United States and European governments impose sanctions on bankers, businessmen and officials close to Vladimir Putin to pressure him over Crimea, the asset freezes will lead investigators not to the Kremlin alone, but to the western-built offshore system that has helped the Russian leader and his friends loot their country and consolidate their power.

Bank Rossiya, listed prominently on the U.S. Treasury as Putin‘s favorite bank, applied to buy Russia‘s fourth-largest mobile operator via companies in the offshore British Virgin Islands in October.

Nobody (except the bank) knows who those firms‘ secret owners are.

Gennady Timchenko, also now banned, headed Gunvor International B.V. based in Cyprus and owned by BVI and Liechtenstein companies. After the banning notice, he quickly “sold” his shares in Gunvor, but one doesn‘t know who owns its offshore affiliates. Gunvor controls international energy companies.

In both cases, the unknown partners benefit from offshore secrecy.

It is usually impossible to see how offshore corruption works. But there is a case whose details are not public that provides a fly-on-the-wall study of how westerners – lawyers, accountants, bankers and investors”may have used the offshore system to facilitate and benefit from Russian corruption.

It involves a self-described anti-corruption fighter, well-known in Washington for winning passage of the 2012 “Magnitsky Act,” which presaged the current law by blocking visas and freezing assets of named Russians accused of human rights violations and corruption.

The man, William Browder, campaigned for the law after his auditor, Sergei Magnitsky, charged extensive official corruption, including the illegal government takeover of three Browder companies. Magnitsky was arrested and did not get adequate medical care. He died in a Russian prison.

Privatization Boom

Browder had gone to Moscow to take advantage of the privatization of state companies by Russian President Boris Yeltsin. In 1996, he founded Hermitage Capital Management, a Moscow investment firm registered in offshore Guernsey in the Channel Islands, and its subsidiary Hermitage Fund, with Republic National Bank of New York as major shareholder. For a time, it was the largest foreign investor in Russian securities. In 1998, Browder traded his American citizenship for a British passport, avoiding U.S. taxes on his investment gains. (The U.K. doesn‘t tax offshore profits.)

Speaking at Columbia University in November, Browder said, “I started out as an investor in Russia, and when I was investing, I discovered that a lot of the companies I was investing in were having money stolen – large amounts of money stolen by the management – so I became the first shareholder activist in Russia.”

However, documents in a little-known case suggest that Browder did what he decried at Columbia ” stole profits. Letters, affidavits and other court documents show that Browder and his fellow investors obtained funds that were diverted via an Isle of Man shell from a Russian enterprise in which they had purchased a controlling interest.

The company, AVISMA (Aviation Special Materials), produced titanium sponge for a product used by Boeing airplanes. With partners Kenneth Dart, American billionaire and Dart cup heir, and Francis Baker, C.E.O. of the Andersen Group, a publicly-traded New York manufacturing and investment firm, Browder bought into AVISMA.

At the time of the American investors‘ purchase, a large portion of AVISMA‘s profits were being siphoned-off to the controlling stockholders through a “transfer pricing” scheme, documents in a subsequent court case show. A shell company sold raw material to AVISMA at inflated costs and purchased the finished product at below-market prices. The shell company then resold the products on the world market, collecting the difference for the majority stockholders. Browder and the other investors knew about the scheme; their lawyer in an affidavit later said it was what made the AVISMA transaction profitable.

The use of such illicit transfer pricing schemes is growing, “given the growth of the global economy and the ease of conducting cross-border transactions in the new electronic world, often with private bankers and financial service providers developing the structures and attorneys approving them,” said Daniel Reeves, who formerly led investigations of global tax evasion and money laundering for the U.S. Internal Revenue Service.

Browder did not respond to calls or emails. He was sent the documents cited in this story, but did not challenge their authenticity. Dart‘s Grand Cayman spokesperson Kathy Jackson also did not respond to calls and emailed questions. In an interview, Baker acknowledged that profit-skimming had been part of the investors‘ business plan.

A lawsuit filed in the Isle of Man by the partners, not reported before, provides insights into how Western professionals facilitated Russian corruption and how Western investors claimed the spoils.

Buying In

The story started when Russian oligarch Mikhail Khodorkovsky’s Bank Menatep and its industry group, Rosprom, purchased AVISMA at a knock-down price via one of the “loans for shares” scams in the mid-1990s, in which former Russian President Boris Yeltsin‘s government took loans it would never repay. Menatep also bought into an Isle of Man shell company operator, Valmet.

In the late 1990s, Khodorkovsky decided to sell AVISMA. It had a quarter of the world market for titanium sponge– it now claims a third ” with $100 million a year in sales and profits of $15 million. But those profits were reduced by transfer-pricing. According to AVISMA records, its cost for ilmenite, the raw material used to make titanium sponge, went from $95 a ton ($10 above market price) in 1996 to $130 a ton ($55 above market) in 1997.

Investors Browder, Dart and Baker obtained Menatep/Rosprom‘s 60 percent of AVISMA in 1997. They paid more than $85 million for the shares, with Dart subscribing to the largest part. Browder agreed to buy up to $20 million and Baker $7 million.

AVISMA was about to be absorbed by another Russian company, VSMPO, Verknaya Salda Metallurgical Production Company, with the merged firm dominating the market for titanium. The Moscow office of the Austrian Creditanstalt Investment Bank (CAIB) suggested Browder acquire AVISMA, Baker recalled during a phone call. Browder, he said, sought to trade AVISMA shares for a seat on the board of VSMPO.

A later lawsuit by AVISMA alleged it was “a turnkey proposition,” continuing the skimming that defrauded the nearly 40-percent shareholder minority and evaded Russian taxes on profits.

The American investors were told that, “a significant part of the profits which AVISMA was able to earn on the sale of its product were taken offshore through TMC,” Titanium Metals Co., said Anthony Wollenberg, a former attorney for the American investors. Entitlement to the profits “was central to the entire transaction,” he said in an affidavit. “Without the right to those profits, investment in AVISMA was not an attractive proposition.” Wollenberg declined to comment for this article.

Though there are conflicting indications about whether the American investors planned to continue the mispricing scheme, it is clear that the investors wanted to retain the funds already skimmed.

In a December 1998 letter to CreditAnstalt, the investors‘ law firm, Rakisons, noted that, “CAIB agreed that as soon as the Investor Group obtained control of AVISMA, CAIB would terminate the transfer pricing operations.”

But the letter also said that, “CAIB represented that any profits which accrued during the dismantling of the TMC transfer pricing operation would be the property of the Investor Group,” not AVISMA.

TMC Continues Skimming

The sale of AVISMA shares to the investors was signed December 6, 1997 and management transferred December 31st. There ensued an acrimonious dispute with Peter Bond, who ran TMC, over who would get nearly $2.7 million in profits skimmed in the intervening weeks and millions more taken in 1998. The investors believed Bond kept the money.

Browder attempted to negotiate with Bond in a September 24, 1998 phone call that Browder recorded. Bond was indignant, complaining that, “there was a perception that we are some screwed little offshore company used for nothing other than asset stripping.” He insisted, “We played an important part in AVISMA‘s business.”

At a meeting weeks later, Baker summarized the investors‘ frustration against TMC which, he said, continued siphoning “a huge percentage of the profits.” “And we are sort of relying on the good will of the manager [Bond] there to say, ˜You guys raise your right hand, I will send you a packet of money,‘” Baker said.

The investors discussed whether to continue the TMC arrangement. Browder suggested the investors engage Bond “just as long as it takes to get the money out, and we decide very clearly on an arms-length basis whether there is any reason to use him or anyone else.” The money already skimmed, he said, “goes pro rata to the investors.”

In January 1999, Baker wrote AVISMA‘s lawyer Robert Rakison at the London office of the Chicago law firm McDermott, Will & Emery, “As Tony [Wollenberg] may have told you, we appear to have run into an immense Russian bank money-laundering scheme in the Isle of Man ” clearly a criminal matter. However, not being social reformers, our objective is to get the money due us, clear the AVISMA accounts and proceed to other matters.” AVISMA later alleged that it hired McDermott on the advice of Baker, who didn‘t mention that McDermott was on retainer to his own company.

Baker told 100Reporters, “I do believe the money was being skimmed. I don‘t know where it was being skimmed to. It didn‘t come to me.”

Investors Sue

In February 1999, unable to get Bond to provide an accounting of AVISMA revenues, Browder, Dart, and Baker sued TMC for siphoning off $30 million from the company. The Browder group settled out of court in May for a TMC payment of $8 million, some of which the investors used to buy more shares of VSMPO and install three people on its board.

But VSMPO, which had since absorbed AVISMA, grew concerned that the investors wanted to take over the company. It hired Bruce Marks, a lawyer with offices in Philadelphia and Moscow who specializes in corporate corruption. Marks met with Rakison. To Marks‘s astonishment, the lawyer opened his AVISMA case file. “I don‘t think he realized what was in the file,” Marks said.

Documents showed that Barclays Bank had opened accounts for Bond shell companies in offshore secrecy jurisdictions ” the Isle of Man, Cyprus and Ireland, Marks said. He found that TMC had funneled the skimmed funds to the offshore accounts and from there to Barclays accounts in the United States.

In August 1999, he filed a RICO anti-racketeering suit against Browder, Dart and Baker in New Jersey federal court, citing the Isle of Man documents and demanding $200 million in restitution and triple penalties.

The suit claimed that through the settlement of the case against TMC, the investors had illegally taken AVISMA‘s revenues, which TMC had siphoned from the company using offshore companies and accounts at Barclays and the Bank of New York. It also accused the investors of reneging on promises to turn the settlement funds over to AVISMA, and claimed that AVISMA‘S lawyer, compromised by conflict of interest, had failed to advise the company that it could pursue claims against the investors. (McDermott did not respond to a request for comment.)

Baker‘s Andersen Group denied the allegations in required S.E.C. filings.

However, Baker knew more than he said. He told 100Reporters that about that time he had received a “gigantic block diagram” from an unidentified source. The diagram “showed how monies put in one end of the machine came out totally clean at the at the other end of the machine,” he said, adding, “It was not a piddling amount.”

“When it got to our shores, there was the old Bank of New York,” he said. “They moved it through about 20 entities. The bank was very complicit with that.”

VSMPO, AVISMA‘s parent company, and the investors reached a confidential settlement in February 2000, which included a requirement that the investors sell their VSMPO shares.

Bond declined to comment on the mispricing. He said, “The cast of characters are not on my Christmas card list. It was a long time ago and I am happy to leave it there. Frankly, why would I want to revisit any of this?”

Story on site of 100Reporters.

(*A money launderer uses offshore shell companies and bank accounts to launder illicit funds, most likely for drug traffickers and other crime groups. A profit launderer uses offshore shell companies and bank accounts to steal licit money — corporate profits — from legitimate shareholders and tax authorities.)

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