Attorney Adam M. Smith, a former senior advisor to the director of OFAC, shares insights and perspective on sanctions.

Editor’s Note: NeuGroup is running weekly special sessions on the Russian-Ukrainian crisis. Senior executive advisor Paul Dalle Molle, a former banker with extensive European experience, leads the discussions.

By Paul Dalle Molle

At this week’s NeuGroup Russia session, members heard insights on sanctions and the road ahead from Adam M. Smith, a partner at Gibson, Dunn & Crutcher’s Washington, D.C. office, who is a leading expert in sanctions compliance, international trade law, embargoes and export controls. Mr. Smith served as the senior advisor to the director of the US Treasury Department‘s Office of Foreign Assets Control (OFAC) and the director for multilateral affairs on the US National Security Council. 
 
Unprecedented response. Before addressing the specific concerns of corporate treasury executives and fielding questions on a variety of topics, Mr. Smith said members should keep in mind the unprecedented nature of the current situation, highlighting these points:

• Never have sanctions been imposed against a country with an economy and a state infrastructure as large and sophisticated as Russia’s.  
• Never have so many countries, 46, joined together so swiftly to sanction a country that is perceived to have broken generally accepted behavioral norms.
• Never has European enforcement been so immediate and unhesitating.
• Never have so many multinational companies, over 400, so quickly condemned a country and announced their exits or suspensions of activities there.

“We are experiencing an impressive, historic response in what can already be considered a multilateral ‘victory’ by countries and companies which are united in a sense of moral outrage,” Mr. Smith said. “How well all this will work in the long run remains to be seen, of course; but the response of Western democracies and multinational companies has been impressive.”

Friend or foe? One member raised a question about Russia’s decrees regarding “friendly” and “unfriendly” countries: Assume a company is ultimately owned and controlled by an entity headquartered in an unfriendly (US/EU) country, and does a transaction that is compliant with US and EU sanctions. Would that transaction also be compliant with Russian counter-sanctions if routed through one of the corporate’s subsidiaries in a friendly country? 

• Mr. Smith pointed out that he is not a Russian counsel and that companies must consult their Russian advisors on such matters. Based on his frequent dialogue with Russian attorneys, he knows that the latter are also living with many unknowns, chief among them whether these counter-sanctions will be interpreted strictly or loosely by the Russian authorities, depending on how they serve Russia’s interests.
• That said, his expectation is that over time, the Russian authorities are likely to interpret the decrees as looking to the ultimate country of ownership and control rather than to the country of a subsidiary.

Cautious banks. As at every session, members have asked many questions about banks, with some complaining that they seem to be excessively cautious, declining to help US or EU corporate clients with legitimate transactions that do not violate sanctions. Mr. Smith acknowledged this thorny issue, but his views contained a note of optimism. 

• “There are over 250 banks in Russia. While the biggest ones are sanctioned, most are not,” Mr. Smith observed. “Over time, it should become clear to banks and companies which transactions are compliant with both sanctions and counter-sanctions, and it should be possible to avoid sanctioned banks.
• “Let’s keep in mind that the way that sanctions are designed by the US, EU and others implies a willingness for some private sector international economic trade with Russia to continue, especially for oil and gas, agricultural goods, food, medicines, medical devices, minerals and other commodities.”
• This also allows multinational companies to fulfill their payment obligations to staff, suppliers and for local taxes, he added. There are already OFAC general licenses for some activities, e.g., oil & gas exports, and there may be specific licenses forthcoming, he said.

Fear of imprisonment. When members raised the possibility that top Russian managers of multinational companies could be jailed if plants shut or operations halt, Mr. Smith said he has also heard this mentioned by some US and Russian contacts.

• However, he is not aware of any actual instances of this happening, noting that only Russian counsel is qualified to provide an informed view.

Fear of nationalization. Mr. Smith recognizes that there is a real possibility that Russia will nationalize foreign-owned banks and companies. However, he once again sounded a cautiously positive note about the situation.

• “So far, it seems that the Russian oligarchs and business professionals are recommending that their government not make wholesale nationalizations, for many reasons. The Russian authorities will do, of course, what they believe to be in the best interests of their country, but this reaction from the Russian professional community leads me to believe that selective nationalizations are much more likely than wholesale ones.”

Breach of contract. Companies must consider how “self-sanctioning,” the voluntary nature in which companies announced their exits from Russia or their suspension of activities there, affects their ability to recover value from their ceased operations. 

• According to Mr. Smith, since no laws compel multinationals to leave, it would seem difficult to litigate against breach of contract lawsuits or to claim against force majeure clauses in contracts and with insurers.  Of course, every situation is unique, and every situation requires scrutiny by counsel.

Expert perspective on OFAC. Mr. Smith closed this session with some general comments on OFAC. He said Multinational companies need to keep in mind that OFAC is an extremely small agency, comprised entirely of professionals (no political appointees). Also:

• Specific Licenses are difficult to get, don’t become public information unless disclosed by the grantee and often take a long time, although OFAC can act urgently in a true emergency. 
• OFAC is not interested in the business cases or business effects of a proposed Specific License, but is concerned in their humanitarian effects and in the policy arguments being proposed.
• He also said that OFAC is not trying to “play gotcha” and punish companies when minor violations occur in an otherwise vigilant, systematic attempt to comply.

Members discuss bank guarantees, clients that are in no hurry to pay and good news on intercompany funding—at least for now.

Editor’s Note: NeuGroup is running weekly special sessions on the Russian-Ukrainian crisis. Senior executive advisor Paul Dalle Molle, a former banker with extensive European experience, leads the discussions.

By Paul Dalle Molle

The war in Ukraine is now, sadly, one month old. With this milestone we also note an evolution of the concerns of NeuGroup members. They have more clarity on their companies’ decisions regarding Russia (to exit, suspend operations, stay), sanctions, counter-sanctions and local laws, as well as on the specific needs of their local staff. At this week’s Russia meeting, a few new issues surfaced, as well as wrinkles on familiar topics. Here are some highlights. 

Open bank guarantees and letters of credit. Companies that have stopped operations may end up halting work for which they signed contracts, raising potentially challenging issues that one member raised. A corporate might be able to negotiate amicably and come to an agreement with Russian suppliers and customers, but that is not likely. 

• The most probable scenario is that companies will eventually see drawings under bank guarantees and letters of credit, and a subsequent commercial dispute. What happens if a sanctioned bank is involved in that situation? How will such disputes be resolved under a sanctions and counter-sanctions regime? Going forward, this is likely to be a big source of headaches for multinational corporations (MNCs).

Customers who say they’re unable to pay. Members report that customers are less likely to feel pressure to pay for products already received after a company has announced it is no longer shipping product to Russia. That’s happening now.How will MNCs collect on these receivables? As time goes on, these will be increasingly categorized as bad debts and eventually written off, adding to the total cost of stopping operations. The short-term effect is that corporates will collect fewer rubles to use for paying suppliers, staff, rent and taxes, making their working capital situation worse. 

Domestic intercompany cash pools are working normally again, thanks to Russia’s Presidential Decree No. 126. There is unanimity among members on this point based on discussions with banks, accountants and lawyers. Intercompany deposits from Russia to foreign locations on the books prior to March 2 appear to be rollable without authorization, but no new cross-border deposits of this type seem possible.   

The big four foreign banks in Russia are increasingly the focus for multinational companies. These institutions—SG Rosbank, Raiffeisen, Unicredit and Citibank—have local bank charters. Other foreign banks have signaled that their local operations will wind down. Some new bank accounts are being opened, but this seems to be dependent on the corporate’s overall global relationship with a bank, and it is difficult to see a pattern emerge.  

The elephant in the room. A major issue is how to implement a corporate decision to suspend operations or exit Russia. Many companies seem to have accepted that their Russian businesses will be written down dramatically, so most are not too focused on the financial aspects of these decisions. Instead, companies with thousands of local staff and dozens of factories or industrial sites have continuing practical decisions to make. 

• So far, member companies seem to have done everything possible to help keep their staff employed and paid, even if operations have stopped. But there is a lot of variation from company to company and sector to sector.
• Some members report that Russian authorities are inspecting their foreign work sites weekly. One member said his company’s local managers in Russia are afraid they risk a jail sentence if a plant shuts down, based on their understanding of Russian law. Given such circumstances, at what point do companies stop paying staff? What is the legal mechanism for turning a business over to the employees to run? Add these to the list of questions for which there are not yet concrete answers.

Paying staff in Russia as companies exit and complying with complex sanctions increase pressure on finance leaders.

Editor’s note: NeuGroup is running weekly special sessions on the Russian-Ukrainian crisis to help members navigate the financial consequences of the war. NeuGroup senior executive advisor Paul Dalle Molle, a former banker with extensive European experience, leads the discussions, and we asked him to share his latest insights and takeaways. 

By Paul Dalle Molle

At this stage of the crisis, there are still, unfortunately, more questions than answers for corporate treasurers and their teams. They are struggling to take the right steps to help employees and businesses while respecting US and European sanctions as well as rules governing business activities within Russia. That said, as the war proceeds and the sanctions are published, thousands of people within treasury and on other internal and external teams are whittling away at these questions and helping to make the choices facing decision-makers clearer. This group includes lawyers, bankers, accountants, financial advisory firms and security advisors. Before delving into the details, two overall comments:  

1. Every multinational will strictly comply with sanctions. Some cynics have suggested that companies will find ways around sanctions, but I have seen just the opposite. Companies will do what they can to meet their obligations to Russian staff, suppliers, customers and regulators provided that their actions are permissible under sanctions. 
2. While some companies withdraw from Russia or suspend operations, they must remain completely devoted to sanctions compliance and respecting local rules. Corporates have responsibilities that require numerous tactical responses that include paying staff as they exit, mothballing facilities, paying bills and taxes and collecting invoices. Finance plays a critical role in most of these obligations.

Each company is unique.  There are some common, major issues confronting all multinational companies, but the degree to which each issue affects a specific company relates to the nature of its industry and the corporate’s business model for Russia. For example, the problems in Russia facing a software company are quite different from those of a commodities firm or an industrial business. The answer to these questions and others will dictate the specific steps each corporate takes:

• How big is your local staff in Russia? 
• Do you need to import supplies or export production?  
• Do you have your own distribution network or use third parties? 
• How is your local business funded—from retained earnings in rubles, by periodic injections of foreign currency capital or by local borrowing? 
• How do customers pay you in Russia—are you a B2C paid by credit cards, or a B2B with traditional collections from indigenous Russian companies? 

Even when a company pulls out or suspends operations in Russia, it means different things to different companies and their treasurers. So, keeping in mind that each specific corporate situation may call for unique answers, here are the most important topics that have emerged:

Paying staff in Russia, the top concern of corporates since the crisis began, introduces complexity. Right now, there is a conviction among treasurers and compliance specialists that it is permissible for the Russian subsidiary of a foreign company with RUB liquidity at a non-sanctioned bank in Russia to have that bank pay the company’s employees in RUB with a domestic funds transfer—even if some payments are made to employees with accounts at sanctioned Russian banks. But that same transaction would not be permissible if it arose from offshore and/or in foreign currency. Some companies are asking employees to open personal accounts at non-sanctioned banks to help further distance the companies from sanctioned banks, but this is a slow and imperfect process.   

Similarly, the tactic of paying salaries in advance has been a hot topic. Several companies have done this, paying employees three months in advance to avoid impediments. But other companies were counseled against this precaution and some were even told that such advance payments are illegal in Russia.    

Circumvention risk. Also, as always with sanctions, corporates need to be aware of so-called circumvention risk: US persons, as they are called by the Treasury Department’s Office of Foreign Asset Control (OFAC), cannot instruct non-US persons to engage in activity that would be impermissible for US citizens, such as dealing with a sanctioned bank, even in another currency. Members are consulting continuously with their legal teams to ensure that what they did last week is still permissible this week. Of course, if payments arise within the EU or are done in euros, the EU sanctions regime would apply and so the same careful analysis of permissible activities is taking place for the EU sanctions. 

Local Funding is extremely important and the focus of intense corporate activity. It appears that a new Russian regulation allows banks in Russia to lend to multinational companies only for salaries, rent and tax payments. If correct, this is relatively good news, as companies are very focused on paying staff, but bad news as it would appear to eliminate borrowing for all other working capital needs. For some companies that do not generate sufficient local free cash flow, that could mean finding compliant ways of bringing capital into the country or ceasing activity. Companies are systematically seeking to add RUB liquidity lines from non-sanctioned banks.   

Additional banking partners are being sought by multinationals. Companies must stop working with the sanctioned banks, so many are trying to add new relationships with the biggest foreign banks in Russia (SG Rosbank, Raiffeisen, Unicredit and Citibank), as well as other European and American banks, and Asian banks. Related to this is an attempt to understand how the Chinese CIPS payments clearing system could be used to transfer funds in and out of Russia without using sanctioned banks. This appears to be feasible, albeit cumbersome and potentially expensive, as the amounts will originate in USD or EUR and then be exchanged for CNY and finally into RUB.    

Hedging seems to have dried up. From what we have heard, there is no liquidity for rollovers and new trades, and settlement of existing trades are being completed, but sometimes with delays.   

Abiding by local Russian rules is difficult. Members say they have been told by counsel that companies that run unprofitable businesses in Russia for two years risk having their businesses confiscated. So corporates must adapt their transfer pricing system to consider the new costs of operating in that environment, to avoid generating losses in Russia. But should they do that immediately, or wait to see what happens with the war and sanctions? Such transfer pricing adjustments might need to occur on a weekly basis during wartime conditions. Members have also been told that they risk revocation of their business licenses if they fail to respect Russian rules about corporates paying employees on time and maintaining certain balance sheet ratios.   

Some legitimate commercial payments seem to now be nearly impossible due to sanctions or Russian rules. For example, a company that booked credit card payments from Russian residents and now must reverse those payments can no longer credit those customers because the credit card companies have suspended operations in the country. Will they send checks? Is there another solution? And if collections are due from customers who pay from sanctioned banks, how can the company receive the funds without violating sanctions?   

The rule requiring companies to convert 80% of FX proceeds into rubles has also raised more questions. The rule is retroactive to January 1. Members seem unclear about the deadline for converting the previous proceeds and have major accounting and liquidity management headaches to isolate the funds.   

Even if individual employees and executives working at US and European multinational companies are appalled at the unprovoked invasion and war, as corporate executives they must act in the best interests of their employees, customers, and shareholders. Until companies make the strategic decision to pull out of Russia entirely—and perhaps for months or years afterward—treasury and other finance teams will try and navigate both sanctions and local Russian business rules as best they can, being good corporate citizens in all the jurisdictions in which they operate. 

NeuGroup’s Feb. 28 emergency session on the implications of Russian bank sanctions helped treasurers share challenges and learn from others’ real-time responses.

The crisis in Europe has the potential to wreak havoc on global payments systems, and the stakes are high. Many multinational companies have Russian operations and relationships with local banks (for payroll at least) that may be on the sanctions list. These corporates are therefore sitting on potentially trapped cash. Others own stakes in Russian companies; we saw BP and others already pull out. So the most immediate problems are how to get money into and out of Russia and making payroll.

Dearth of information. Operating with scarce official guidance from regulators and their advisors and banks, treasurers were scrambling this week to make sense of sanctions imposed over the weekend. At a Monday, Feb. 28, emergency meeting of NeuGroup’s extensive global network of finance and treasury executives, over 35 finance leaders from some of the world’s leading multinationals had more questions than answers. In this second session about the Russian crisis since the start of the month, participants had a unique chance to share information and discuss how they’re responding in real time.

An information vacuum leads to misinformation. The immediate concern was that the US and European authorities have not provided unequivocal guidance on what corporate activities are covered by the sanctions. Paul Dalle Molle, a former banker who led the session, noted this is typical in a crisis and that authorities “have only begun to imagine what guidelines and exceptions to publish.” And corporates’ typical “interpreters”, auditors, consultants and banks, were themselves struggling to understand the implications, and as events continue to unfold at extreme speed, they are unlikely to catch up.  

One participant reported treasury is getting conflicting information from its banks about cross-border and local payments. In addition, members were concerned about how quickly banks can update their systems to block payments to and from sanctioned institutions. “Where we pay out, we have control, but we don’t have control over where we’re being paid from,” one NeuGroup member said.

Getting money in and out. US and European companies were of course aware of an imminent crisis, and many had begun to take cautionary steps. But the speed with which the crisis unfolded, and the harsh sanctions imposed by the global community, put many at great risk. For example, one member said her company thought it had until March 22 to move money out of banks that have relationships with correspondent banks on the sanctions list, but had just learned that date may have been moved forward to March 14. Another member pointed out that the sanctions, possibly including the calendar for phasing them in, is not the same for each sanctioned entity. 

Making payroll. Another big concern is how companies can pay local employees. This was not because Russians are in the midst of a run on their banks – the central bank can pump in an endless supply or rubles – but because (1) their bank may be on the sanction list; (2) their employees may have accounts at sanctioned banks.  Some companies are asking employees with accounts at banks on the sanctions list to switch banks.

Russian supply chain. At least one corporate has stopped making all ruble payments within the country to avoid violating any sanctions. Another treasurer said his company is “getting requests from large international suppliers to ‘guarantee’ our Russian affiliates’ payments.”

Alternatives to SWIFT? In addition, there was a lot of concern about making payments into Russia without SWIFT and on the local payment system. Part comforting, part wishful thinking, “there’s a belief that the SWIFT sanctions will be selective and will spare some of the main banks in Russia that are not blacklisted,” offered one participant, adding that his main bank in Russia believes it will be able to conduct business within the guidelines. The European Union said Wednesday it was excluding seven Russian banks from the SWIFT, but stopped short of including banks handling energy payments.

As in the first NeuGroup session on the crisis, members discussed the possibility of using the Chinese payment system, CIPS, as a legal alternative. “Obviously this would be done, if necessary, only through non-sanctioned banks,” said Mr. Dalle Molle. “This process would be cumbersome and expensive, but feasible, he said.

In-flight payments. The uncertainty was particularly troubling to one company that sent a big payment from the local entity of a foreign bank to the US-based entity. “We saw the money has left our account,” the treasurer said, “but we still haven’t seen it land in our US account.” The issue of settlement risk was also raised within the context of outstanding ruble hedges. “You certainly have to evaluate your exposure,” said one member.

Countering counter-sanctions. “The big risk is counter-sanctions and what those look like,” said one of the treasurers on the call. “Counter-sanctions could range in importance from being merely disruptive to the freezing of assets to prohibiting companies to operate in the country, so everyone is attuned to this topic,” said Mr. Dalle Molle.

Asking the right questions. Absent clarity of guidance, the most important thing treasurers can do is ask the right the questions and compare notes with each other. Immediate questions may include:

• How to make payroll in rubles? For example, how to figure out whether employees have accounts at sanctioned banks?
• How to pay employees fleeing Ukraine?
• How to pay local suppliers, who are beginning to demand payment guarantees?
• Is it still possible to pay dividends out of Russia—and for how long?
• What’s the exposure to outstanding ruble hedges?
• Can working through US-owned banks facilitate the payments process?
• How will the partial cut-off from SWIFT impact the payments system?
• What counter-sanctions may be imposed, and what might be their impact?
• What exceptions to the sanctions will be permitted by US and EU authorities?

The bottom line. As companies cope with these immediate issues, we see more of them asking a more fundamental question: whether the best option is to exit the market entirely.

NeuGroup will hold a special session on Russia sanctions on Friday, March 4. And for the foreseeable future, we will hold Russia sessions each Monday at 11:00 ET / 16:00 GMT / 17:00 CET.