With the situation in Ukraine still unresolved, the EU and US have expressed their intention to continue to increase pressure on Russia by implementing further economic sanctions.
On Friday September 12, the EU and US announced a partially coordinated set of expanded sanctions targeting major companies in the Russian financial, energy and defence sectors. These new sanctions expand on the sectoral sanctions introduced in July and August.
The new measures will increase pressure on the major state-owned Russian banks, bring the defence sector into the scope of sectoral sanctions, restrict EU and US technical support for more complex upstream oil and gas projects, and restrict access to EU and US debt financing and capital markets for some of the largest Russian oil and gas companies.
Many of the new measures have been expected for a number of days. We expect markets to adapt quickly to the finance and new capital markets restrictions on state-owned banks, however there may be an adjustment period in relation to the covered defence and oil and gas companies as the markets work through the implications.
Expanded EU sectoral sanctions
On 8 September the EU Council agreed to impose the additional sanctions measures which are summarised below. These came into force on 12 September. The Council delayed the measures to take account of ongoing negotiations regarding the conflict.
- The new sanctions expand the existing restrictions on access to capital markets by five major state-owned Russian banks: Sberbank, VTB Bank, Gazprombank, Vnesheconombank (VEB) and Rosselkhozbank (Russian Agricultural Bank). The class of transferable securities and money market instruments covered by the measures has been extended to those with a maturity exceeding 30 days and issued after 12 September. There is also a new prohibition on new loans or credit with a maturity exceeding 30 days for these persons, their subsidiaries established outside the EU or entities acting on their behalf or at their direction. The loan or credit prohibition does not apply to financing for permitted exports and non-financial services between the EU and Russia, or loans intended to provide emergency funding to meet solvency and liquidity requirements of EU established subsidiaries.
- The new prohibition on loans or credits may require some careful analysis under a variety of fact patterns involving persons covered by the EU sectoral sanctions. Under the US sectoral sanctions, the similar broadly defined prohibition on “new debt” has caught many transactions that involve the creation of debt or credit, by or for a person covered by the sanctions, where such debt or credit does not seem to be a prominent feature or the primary purpose of the transaction.
Oil and gas sector
- As had been foreshadowed in the press ahead of the implementation of the sanctions, the Russian oil and gas sector was the most significant new target of this round of EU sanctions. The capital markets, loan and credit prohibitions applied to the five banks as described above also apply after 12 September to the three largest Russian oil and gas companies (Rosneft, Transneft and Gazprom Neft).
- Another provision that will have significant impact is the broadening of existing prohibitions on involvement of EU persons in deep water and arctic oil exploration and production and shale oil projects in Russia, which now prohibit the provision of services related to drilling, well testing, logging and completion, and the supply of specialised floating vessels. Services arising from contracts concluded before the coming into force of these sanctions are grandfathered.
- The new sanctions also bring the Russian defence sector into greater focus, applying to three major defence companies (OPK Oboronprom, United Aircraft Corporation and Uralvagonzavod) the same capital markets, loan and credit prohibitions applied to the listed banks and oil companies. In addition, the dual-use export embargo on the Russian defence sector, imposed on 1 August, is expanded to apply to nine listed Russian defence companies, several of which had been targeted by US asset-freeze sanctions on 16 July.
- Relevant to both the defence and financial sectors, the wording of the restriction on financing and financial assistance related to goods or technology on the Common Military List has been revised to include insurance and reinsurance related to the sale, supply, transfer or export of such goods or technology.
Alongside the expansion of sectoral sanctions, the EU has added a further 24 people to the asset-freeze list, and authorised the future expansion of the asset freeze to include others said to be involved in separatist activity in the Donbass region.
- The new listings focus on persons said to be involved in the separatist administration in the Donetsk region and Russian parliamentarians said to be supporting annexation of Crimea.
- One inclusion which may have wider commercial effect is Sergey Chemezov, the chair of Rostec who is said to be a close ally of President Putin. Chemezov has been listed by the US since April, and Rostec was targeted for US sectoral sanctions on 12 September.
As well as introducing new sanctions, the announcements clarify aspects of the implementation of the sectoral sanctions. For example, the definition of ‘transferable securities’ to which the capital markets restrictions apply has been narrowed to exclude from the definition derivative securities linked to shares and bonds which do not give rise to a right to acquire or sell such shares and bonds but just give rise to a cash settlement. This may help bring the EU capital markets sanctions treatment of derivatives more in line with the corresponding US sanctions
Expanded US sectoral sanctions
The United States Treasury and Commerce Departments have announced similarly broad expansions of US sectoral sanctions and export controls on Russia. As with the prior round of sanctions at the end of July, many of the new US and EU measures are similar and fairly well coordinated.
The new US measures were announced on 12 September, and most became effective the same day. Certain export restrictions will be effective within a few days, when the Commerce Department publishes amendments to its regulations.
- The US has expanded its existing capital markets sanctions on the Russian financial sector by adding Russia’s largest bank, Sberbank, to the US sectoral sanctions list, so that now the list of Russian banks targeted by US sectoral sanctions includes the same banks targeted by EU sectoral sanctions, including Bank of Moscow, which is not listed under EU sectoral sanctions but is apparently covered as a non-EU subsidiary of VTB Bank. The US has also followed the EU in broadening the capital markets sanctions on these banks to new debt with a maturity greater than 30 days, as well as all new equity, issued on or after 12 September. This has been accomplished by amending US sanctions Directive 1, which targets the financial sector. We described the US sectoral sanctions framework in our 31 July briefing.
- As with the expanded EU capital markets sanctions, there are some unclear issues related to what types of debt issued prior to 12 September by or for the covered banks or their subsidiaries will be covered by the sanctions. Generally, the Office of Foreign Assets Control (OFAC) in the US Treasury Department takes the view that pre-existing debt that is modified after the effective date of the sanctions is treated as if it were “new” debt covered by the sanctions. The OFAC guidance issued on 12 September relating to drawdowns after 12 September of credit arrangements put in place before then noted that drawdowns with payment terms that exceed the relevant maturity threshold would not be prohibited if the terms of the drawdowns were agreed prior to the effective date of the sanctions, and not modified on or after the effective date. It is not yet clear whether the same result would arise under the EU sanctions.
Oil and gas sector
- The US expanded its existing capital markets sanctions on the Russian oil and gas sector by adding two more targeted companies for the same sanctions that had been in place on Rosneft and Novatek since July. The two new companies, Gazprom Neft and Transneft, were also newly targeted by EU capital markets sanctions on 12 September. These US oil and gas sector sanctions, under US sanctions Directive 2, still only cover new debt with a maturity greater than 90 days, rather than the broader category of 30 days maturity debt caught by EU sanctions.
- Also relating to the Russian oil and gas sector, OFAC has used the sectoral sanctions framework to build upon the upstream oil and gas sector export restrictions imposed by the Commerce Department in early August. That rule requires Commerce Department approval before any US or non-US person exports or transfers to any other person certain listed goods or technologies, if they know or are aware of a high probability they will be used in upstream Russian deepwater, Arctic offshore or shale oil or gas projects. Under new US sanctions Directive 4, it is prohibited to directly or indirectly provide or export to certain covered persons any services (other than financial services), goods or technology in support of exploration or production for deep water or Arctic offshore oil, or shale oil projects in Russia or in a maritime area outside Russian territory that is claimed by Russia. This prohibition only applies to exports to projects that have the potential to produce oil – not to projects that only have the potential to produce gas.
- The OFAC upstream oil export ban applies to five major Russian oil and gas sector companies: Gazprom, Gazprom Neft, Lukoil, Surgutneftegas and Rosneft, and entities in which they hold a direct or indirect 50% or greater ownership interest. The targeting of Lukoil is notable as the first private Russian company to be subject to US sectoral sanctions. Also on 12 September OFAC issued General License No. 2 under the US sectoral sanctions, providing a somewhat limited authorisation for US persons to wind down any existing operations or contracts, including the provision of further services, goods or technology that are needed in order to cease operations.
- In the coming days the US Commerce Department will add the same five Russian oil and gas companies to a US export embargo list known as the Entity List. The practical impact of this will be different than the OFAC sanctions in two key ways. While US export controls do not generally cover services, unlike the OFAC sanctions they cover both US and non-US persons, and more broadly cover goods, software or technology (“items”) located anywhere in the world if they are of US origin or have more than de minimis US content, if the person exporting or transferring the item knows or is aware of a high probability it will be used in exploration or production in deep water, Arctic offshore or shale oil or gas projects in Russia.
- While the EU had imposed some export prohibitions on the Russian defence sector in August, the United States did so for the first time on 12 September. The US issued new Directive 3 prohibiting any dealing by US persons or within the US in new debt of longer than 30 days maturity issued on or after 12 September by or for Rostec, a major Russian state-owned defence sector holding company, and its direct and indirect 50% or greater owned subsidiaries.
- The US has also added five Russian state-owned defence technology firms to the primary US sanctions list (the SDN list), and will soon add them to the Entity List. As a result, US persons are prohibited from essentially any transaction or dealing with these companies and must block (freeze) any funds or other assets in which they have an interest. In addition, both US and non-US persons will be prohibited from exporting or transferring to these companies, from anywhere in the world, any items of US origin, or containing more than de minimis US content.
- Finally, the US Commerce Department will in the coming days restrict exports of a list of different types of items of US origin or with US content to a military end-user or for a military end use in Russia. The EU is also tightening its export restrictions on the Russian defence sector, but is employing different measures, as discussed above.
Russian responsive measures
Russia has publicly threatened retaliatory sanctions in response to these new measures, in addition to restrictions currently in place in relation to food and agricultural products . More detail on the Russian response will develop over the coming days, but there has been media speculation about restrictions on imports of motor vehicles and clothing from the EU and restrictions on the use of Russian airspace by EU flagged aircraft.