***MB SPECIAL REPORT: Battle Royale

The battle for control of Ukraine’s steel exports is heating up. Last week, Lugano-based ISD Trade and Industrial Union of Donbass (ISD) sent letters to the mills' customers, directing them to contact Duferco International Trade Holdings (DITH) to place new orders for material from ISD. Sources close to the situation told MB that ISD Trade would no longer handle export sales from ISD, and that Duferco was the exclusive sales agent for the plant. “The ISD Trade model is dead,” one source told MB. “Letters are going out to customers.”

The battle for control of Ukraine’s steel exports is heating up.

Last week, Lugano-based ISD Trade and Industrial Union of Donbass (ISD) sent letters to the mills’ customers, directing them to contact Duferco International Trade Holdings (DITH) to place new orders for material from ISD.

Sources close to the situation told MB that ISD Trade would no longer handle export sales from ISD, and that Duferco was the exclusive sales agent for the plant.

“The ISD Trade model is dead,” one source told MB. “Letters are going out to customers.”

“There was a meeting in Moscow yesterday to clarify the whole ISD/ISD Trade situation,” a second source said.

Earlier this year, ISD Trade was established as the exclusive sales agent for ISD by Carbofer-owner and ISD shareholder Alexander Katunin, supplanting Duferco.

ISD Trade shares its Lugano, Switzerland address with Carbofer, MB confirmed.

But following a joint-venture agreement signed in 2003, which also saw ISD take an equity stake in Duferco International Trade Holdings (DITH), Duferco has exclusive sales rights to export sales from ISD.

“ISD is abandoning [its agreement] with Duferco and will go to Carbofer,” a source with in-depth knowledge of the situation told MB at the time. “There is a new owner [Alexander Katunin] and he decides what to do.”

Katunin led a consortium of investors to take a majority stake in ISD in early January.

But since then, the balance of power has shifted. ISD has struggled to keep up with payments for raw materials and energy supplies, and has entered into debt restructuring talks with its financiers.

Duferco spied an opportunity. Last month ISD received $300 million in relief financing from Russian state-controlled Vnesheconombank. The money was channelled through Duferco, a source involved in the deal told MB.

“ISD is successfully holding talks with international banks and financial institutions, which are creditors to the group itself and other companies within the group, about restructuring its debt,” ISD said. “[This is a] completely normal thing for practically every industrial company in this difficult time.”

Be that as it may, ISD is now in a difficult position.

At the start of last week, the executive office of Ukraine’s Justice Ministry seized two steelmaking assets belonging to ISD over outstanding debts owed to Rinat Akhmetov’s Metinvest Holding, a source at Metinvest told MB.

Bailiffs seized ISD’s Alchevsk Metallurgical Plant (AMK) and Dneprovskiy Dzerzhinsky Metallurgical Plant (DMKD) on July 22.

They also seized the Kramatorsk Metallurgical Works, which belongs to ISD board chairman Sergei Taruta and former ISD shareholder Vitaly Gaiduk.

Along with general director Oleg Mkrtchan, Taruta controls a 49.99% share in ISD. Gaiduk sold his ISD shares to Katunin’s consortium earlier this year.

Metinvest says the three companies owe it 1.7 billion hryvnia ($215 million), the source told MB, saying “[the court] gave them the chance to pay down the debt over two years”. This period was between 2008 and 2010.

ISD declined to comment on the seizures, but challenged the amount of money it owed Metinvest.

“The debt sums of [ISD’s] companies to companies in the Metinvest Group [as stated by Metinvest] do not correspond to reality,” the company said. “The Alchevsk and DMKD works are successfully servicing their debts to their partners, including to iron ore suppliers.”

As one of Ukraine’s richest individuals, Akhmetov is a powerful man and has been flexing his muscles. ISD has a tough job on its hands in extricating itself from the mess it now finds itself.

At the start of July Metinvest said it would take a majority stake in Ukraine’s Ilyich Iron & Steel and combine it with some of its own assets to form one of the world’s largest producers.

The partnership, which will eventually create a 20 million tpy steelmaker, will include all of Ilyich’s assets and see $2 billion invested in developing and modernising Ilyich’s facilities. Metinvest will own a 75% share in the partnership once the transaction is complete.

But Akhmetov has even bigger plans. And he is fighting hard to see them take shape.

Akhmetov: one of Ukraine’s richest men

Last week, the UK High Court of Justice froze the proceeds of Midland Group’s sale of Zaporizhstal to Russian investment bank Troika Dialog, after Akhmetov’s Luxe Holding filed an injunction against Midland.

Guernsey-based Midland agreed to sell Zaporizhstal to Luxe for $690 million on May 4, pledging to transfer ownership of theplant on or before May 31.

But on May 19, Midland pulled out of the deal, telling Akhmetov it had found another buyer for the mill. On the same day it agreed to sell Zaporizhstal to Troika, which was acting on behalf of an unnamed Ukrainian group, for $850 million.

The court documents reveal that Luxe, which is effectively owned by the Akhmetov family, was unsure what it would do with Zaporizhstal once it had bought the mill.

“The shareholders were undecided whether the asset should become part of the Metinvest Group, sold-on to a third party at some point, or possibly contribute [towards a] joint venture with other potential buyers interested in [Zaporizhstal],” Luxe’s Ukrainian lawyer, Mr Simonov told the court.

But that did not dissuade Justice Roth from ruling in Luxe’s favour.
The decision will have no impact on Midland’s sale of Zaporizhstal to the unnamed Ukrainian buyer via Troika. But Akhmetov will not let the situation lie when the case comes to trial.

Roth’s ruling that Midland should pay $110 million into a designated account where it will be frozen means the company could well end up out of pocket once the case has come to trial.

Luxe believes Midland broke the terms of its agreement when it sold Zaporizhstal to Troika. The company plans to capture the profits Midland made, which Luxe calculates at $160 million. Its case rests on the agreement it originally signed with Midland on May 4.

In this document the two parties pledged to sign a second sale and purchase agreement (SPA) on or before May 20. Until that date the May 4 agreement would regulate their arrangement.

This meant that — should Midland avoid signing the second agreement by the nominated date — Luxe was entitled to terminate the original agreement and reclaim any money it had paid to the seller.

Should Midland refuse to enter into the second agreement, it was required to return all the funds Luxe had paid it, along with a fine of $50 million for failing to complete the deal.

So far, so good. Once Luxe made its first down-payment of $50 million, lawyers acting on behalf of the two companies traded draft versions of the second SPA.

The first signs the deal might be in trouble came on May 15, when Midland was scheduled to provide a list of the assets not included in the subject matter of the original agreement. It never appeared.

Lawyers acting on behalf of Luxe told the High Court they had tried to contact Midland Group co-founder Eduard Shifrin and his son Igor to discuss the deal. But they were unreachable and did not return calls for several days.

“Finally, at around 11 am on May 18, Igor Shifrin called me,” Mr Simonov told the court. “He assured me Mildand was busy working on the [second agreement] and checking that they would be able to give Luxe the warranties requested.”

“He also said that A & O [Allen & Overy — the law firm acting on behalf of Midland Group] were finalising the restated agreement and they would send it to me before 2pm on May 19,” he said.

Under pressure: Eduard Shifrin

The next day the deal was off: Eduard Shifrin telephoned Rinat Akhmetov in person to tell him.

In a letter to Cyrpus-registered Luxe, which is effectively owned by the Akhmetov family, Midland director Derek Roe enclosed SWIFT confirmations that all funds it had received from Luxe had been returned.

Roe also included payment confirmation for a further $50 million —designed to satisfy a “fine” for failing to complete the deal — as arranged in the two companies’ original agreement.

Communication between the two companies broke down, and both sides appointed counsel in the UK.

The negotiations for the sale of Zaporizhstal had so far focussed on 20 companies that included Midland’s interest in the steelmaking plant; 17 of these companies were in Russia and Ukraine.

“Our client is concerned that you intend to sell the Companies to another buyer,” UK law firm White & Case — representing Luxe — said in a letter to Midland on May 20, adding that its client reserved the right to “seek injunctive relief against” Midland if it intended to sell its interest in Zaporizhstal to another party or had done so already.

Midland was not entitled to terminate its agreement with Luxe and the payment of $50 million it had made to Luxe in terms of compensation was “of no legal effect”, White & Case said.

Allen & Overy replied the very next day.

“You do not […] provide any analysis at all supporting these assertions and we are, as yet, unable to see any legal basis for them,” the firm said. “We would therefore be grateful if you would provider [sic] a reasoned basis for your assertions in order that we can understand your client’s position properly, and advise our client accordingly.”

When White & Case wrote back on May 24, seeking confirmation of the two matters set out in its letter of May 20, the law firm received a prompt response.
“We write to inform you that Midland has sold its interests in the Companies to which you refer to third parties,” Allen & Overy said.

Midland might well have been busy making preparations for Zaporizhstal’s sale to Luxe, as claimed by Igor Shifrin on May 18. But the company was busy elsewhere as well.

“It is explained in the witness statement of Igor Shifrin that already by May 12 his father had been in discussions with the principles of an Ukrainian group that had approached him expressing an interest in buying the companies through the Russian investment bank, Troika Dialog,” Justice Roth said.

“He says that on about May 14 or 15 his father told him that he did not think the sale to Luxe was likely to go ahead and that he should concentrate on negotiations with Troika,” he continued.

These negotiations culminated when Midland and the buyers represented by Troika signed another sale and purchase agreement on May 19. The deal saw Midland cede ownership of Zaporizhstal for $850 million. 

To access the documents relating to this case filed in the High Court of Justice, Chancery Division, please click here