Brash Banker's Tangled Deals Become A Focus of Money-Laundering Probes

Brash Banker's Tangled Deals Become A Focus of Money-Laundering Probes

By Andrew Higgins, Alan S. Cullison, Michael Allen andPaul Beckett of The Wall Street Journal, aug. 26, 1999 published: “Economists say it has drained billions in profits from Russia's core metals and oil companies into offshore accounts controlled by the management of the companies back in Russia”.

“Yukos denies it is involved in tolling, but oil-industry analysts calculate that its subsidiaries effectively lost hundreds of millions in revenue last year by selling its oil to the holding company at bargain rates.

After two years as Russia's representative to the International Monetary Fund, Konstantin Kagalovsky bade farewell to his colleagues in Washington with a boast.

It was 1994. Then 37 years old, Mr. Kagalovsky told the assembled well-wishers that his soon-to-be employer, Moscow's Menatep Bank, stood in the vanguard of Russia's transition from communism to capitalism, generating power, prestige and profits for his country's new private-sector elite. The brash young banker's comments raised a few eyebrows, says an IMF official who attended the farewell gathering. But Mr. Kagalovsky seemed true to his word: Soon he was living in a suite in a luxury hotel overlooking the Kremlin and, newly installed as Menatep's first deputy chairman, was proclaiming bold ambitions for the bank's future. Menatep, he told shareholders in early 1995, would soon enjoy a global reach.

In a way, he may have been right. Menatep failed last year amid Russia's financial crisis, but it lives on: Investigators say Menatep and Mr. Kagalovsky increasingly are becoming a focus of the many-tentacled and fast-expanding investigation set off by the suspected laundering of Russian mob money at Bank of New York Co.

Mr. Kagalovsky had a personal connection to the bank: His wife, Natasha, headed its Eastern European division before she was suspended in connection with the money-laundering probe. Now federal and international law-enforcement officials say they are looking into whether Mr. Kagalovsky helped construct a byzantine network of offshore corporations that politically connected or mob-linked Russians may have used to siphon hundreds of millions of dollars out of the country. Included in that sum, investigators say, may have been many millions of foreign aid and funds pumped into Russia by Mr. Kagalovsky's old employer, the IMF, to shore up the reeling Russian economy.

The scale of the operation, investigators now suspect, was even grander than previously imagined. Among the new developments: Government officials are now looking into whether Menatep was used to move funds through accounts at Bank of New York linked to Benex Worldwide Ltd., a Russian firm that investigators have already said has ties to a major alleged Russian mobster. Investigators have said about $6 billion zipped through the Benex accounts just since authorities began monitoring the transactions last fall, but one federal official says the Benex strand of the suspected money-laundering operations appears to be "the tip of the iceberg." Investigators are now also probing accounts at a growing number of other international banks, including UBS AG and Credit Suisse Group.

Moreover, investigators say they are looking into the role of Valmet, a financial adviser based on the Isle of Man, a British-controlled island in the Irish Sea. Valmet has affiliates in Cyprus, Gibraltar and Zurich, among other places. Menatep acquired 20% of Valmet, some from Washington-based Riggs Bank in 1994.

Russian regulators, meanwhile, have appealed to the U.S. Securities and Exchange Commission for help in a separate investigation into allegations that a $500 million loan Mr. Kagalovsky helped negotiate in 1997 from Goldman, Sachs & Co., Merrill Lynch & Co. And Credit Lyonnais may have violated Russian law. The SEC declined to comment.

The various probes are taking other bizarre twists. Investigators on the money-laundering case say that in addition to Mr. Kagalovsky, they are looking into the activities of Alexandre Konanykhine, a former Menatep executive who himself has been at the center of a strange saga. Mr. Konanykhine was a whiz-kid physics student who became a pioneering Russian capitalist in the early 1990s, building a banking and investment empire valued at an estimated $300 million -- all by his mid-20s. He was a member of President Boris Yeltsin's inner circle. But he fled Russia in 1992 -- because, he says, corrupt former KGB men and mobsters had muscled into his businesses, looted them and threatened to kill him.

Mr. Konanykhine wound up in the U.S., became a Menatep vice president and eventually led a failed effort to start up an Internet bank in Antigua. But the Russian government, meanwhile, had accused him of stealing millions of dollars, and demanded that the U.S. deport him. The U.S. Immigration and Naturalization Service tried, but in February, an immigration judge granted him political asylum, saying that Mr. Konanykhine had been targeted by Russian authorities for his political and economic views. Now, says a federal investigator, authorities want to know "do we have a true political refugee here, or someone who is evading justice in another country?"

An attorney for Mr. Konanykhine calls talk of an investigation touching on his client "ridiculous" and says Mr. Konanykhine hasn't been in banking for years. Credit Suisse and UBS say they aren't aware of any investigation. Riggs says it no longer owns a stake in Valmet, but declined to comment about the investigations. Valmet declined to comment, as well.

Mr. Kagalovsky, now deputy chairman of AO Yukos , a large Russian oil company purchased by Menatep in 1996 in a controversial loans-for-shares privatization deal, couldn't be reached to comment. A Yukos spokesman says the oil company had nothing to do with the money-laundering case and denies any role in the illicit transfer of money or assets abroad. "Yukos does not figure in this," said Maksim Puchkov, a company spokesman.

Mr. Kagalovsky's wife, Natasha Gurfinkel Kagalovsky, declined to comment. Her attorney, Stanley Arkin, says Ms. Kagalovsky is "a talented banker and a devoted employee." Mr. Arkin also says he will soon be representing Mr. Kagalovsky. Of him, Mr. Arkin says: "He's a distinguished businessman." Neither Mr. Kagalovsky nor his wife has been charged with any crime.

U.S. law-enforcement officials say they are still sorting out the extraordinarily complex transactions, in which funds flowed through multiple entities on several continents. While Russian authorities are helping, U.S. investigators say they are concerned about their Russian counterparts' ability to go after what one law-enforcement official calls "well-placed, high-level" individuals such as Mr. Kagalovsky. Swiss authorities are also looking into possible Russian money laundering.

For many years, the Kagalovskys' activities raised no questions. Early on, Mr. Kagalovsky was seen by many as an earnest reformer. He used to meet with like-minded free-marketeers at a dacha outside Moscow to plot Russia's exit from communism. A graduate of the Moscow Institute of Finance, he caught the eye of Yegor Gaidar, Russia's first post-Soviet prime minister. But many of his former friends now want nothing to do with him, and say he evolved into less a reformer than an opportunist. "He had his own targets, like getting a large salary and living abroad," says one acquaintance, a former cabinet minister.

The Kagalovskys developed a taste for the finer things. Natasha, often clad in fur, traveled frequently to Moscow to drum up business, and cut a dashing swath among Russia's newly rich. She was known for lavish after-hour shopping sprees and was a fixture at Moscow parties, some of which featured dancing bears and gypsy bands.

Menatep, too, seemed to fly high. Until last year's Russian financial blowout, it stood at the center of Rosprom, a potent financial and industrial group headed by Mikhail Khodorkovsky, a former Communist Youth League activist. On the outside of the bank's fortress-like headquarters in central Moscow, huge bronze letters advertised Menatep's imposing presence. Inside, Mr. Kagalovsky, who joined the bank in 1994, worked in a studded leather chair surrounded by photographs of himself with President George Bush, British Prime Minister John Major and other dignitaries.

When the bank collapsed under a mountain of debt, Menatep's name was quietly removed from the facade, but Mr. Kagalovsky stayed behind. Along with many other senior executives in Mr. Khodorkovsky's group, he had already moved to Yukos. With Menatep no longer functioning -- Russia's central bank withdrew its license in May -- Yukos kept the defunct bank's former building. It also kept in contact with an archipelago of offshore entities set up over the years with Menatep's help.

One of them is Valmet, on the Isle of Man. Its Moscow office is an apartment that private detectives say is owned by an officer of Russia's foreign intelligence service. The office did not answer phone calls Wednesday. Peter Bond, Valmet's director in the Isle of Man, did not return phone calls.

Billions of dollars flow out of Russia each year into bank accounts and property abroad. Only a small fraction comes from crime. More important, and more damaging for Russia's economy, is the money that leaks from what should be hugely profitable companies at the backbone of Russia's resource-based economy.

An example of how this can happen is the case of Avisma, a huge titanium producer based in the industrial city of Perm on the edge of Siberia. The company was snapped up by Menatep in Russia's privatization program, but instead of selling its lucrative production overseas through independent traders or directly to customers in the U.S., Japan and Europe, it sold its titanium at cut-rate prices to an offshore go-between in Dublin effectively controlled by Menatep itself.

This company, TMC (Holdings) Ltd., was owned by Valmet, which was in turn partly owned by Menatep, according to investors and bankers familiar with the company. A group of foreign investors who purchased the titanium plant from Menatep in 1997 say the arrangement cost Avisma some $20 million a year in lost profits. They later sued to have the arrangement -- which is known commonly as tolling -- stopped and reached an out-of-court settlement under which TMC was told to return $8 million of the profits that would have gone to the titanium plant had it sold at normal market prices. The money hasn't yet been distributed. Last week, the titanium-plant investors themselves faced legal action in a court in New Jersey following a complaint that they, too, were skimming profits. The investors deny any wrongdoing.

Tolling, the practice of selling products at below-market prices to intermediaries, is widespread in Russia. Economists say it has drained billions in profits from Russia's core metals and oil companies into offshore accounts controlled by the management of the companies back in Russia.

Yukos denies it is involved in tolling, but oil-industry analysts calculate that its subsidiaries effectively lost hundreds of millions in revenue last year by selling its oil to the holding company at bargain rates. Yukos, battered last year by low world oil prices like all petroleum companies, itself reported a $79 million loss for 1998.

In February, Russia's then-acting prosecutor general, Yuri Chaika, said that about $9 billion left the country illegally last year. This is nearly twice the amount disbursed by the IMF last summer in a fruitless attempt to shore up Russia's crumbling currency and financial markets.

Mr. Bond, Valmet's group director in the Isle of Man, has had extensive dealings with Menatep and Yukos that go far beyond the controversial titanium deals. He and Valmet were also involved in an elaborate deal earlier this year that scattered ownership of Yukos's prize assets -- two oil production companies -- among six separate offshore firms, from the British Virgin Islands to the windswept Pacific atoll of Niue in the South Pacific.

Yukos called the maneuver part of a restructuring needed to protect itself from predatory foreign investors. Yukos says that the offshore companies had no relation to Yukos, Menatep or their management. But share registries show that stock of one production company went to companies linked to Menatep before its collapse. Other shares went to an Isle of Man-based company called Parton Ltd., which was in turn owned by two other companies. One of these was owned by Mr. Bond, the other by Valmet. The shares in the production subsidiaries were returned to Yukos after minority shareholders hired private detectives to investigate who stood behind the offshore entities and after Russian regulators began probing the transactions.

Elaborate shell games have become a dominant feature of Russia's post-Soviet economy. Menatep's own purchase of Yukos back in 1996 began with a flourish of thinly disguised deception by Mr. Kagalovsky. At a morning news conference, enlivened by generous servings of cognac, Mr. Kagalovsky guffawed after announcing the victor in Yukos's privatization auction. Mr. Kagalovsky, who headed a commission handling the auction, said an unknown company called Monblan had won 85% of Russia's second-biggest oil company. Menatep later admitted that Monblan was in fact its own subsidiary.

Mr. Kagalovsky isn't the only focus of the investigation. Also under scrutiny is Russian businessman Peter Berlin and his wife, Lucy Edwards. Like Mr. Kagalovsky's wife, Ms. Edwards worked in Bank of New York's Eastern European division in New York, and has been suspended by the bank.

Neither Mr. Berlin, Ms. Edwards nor their lawyer returned phone calls seeking comment. Mr. Berlin and Ms. Edwards have not been charged with any crime. But investigators say Ms. Edwards personally vouched within the bank for Mr. Berlin, described by people who know him as an oil trader and entrepreneur, when he opened several accounts. The investigators say Ms. Edwards didn't disclose to the bank that she was married to Mr. Berlin.

Mr. Berlin, British corporate records show, is listed as a director of Benex, the company whose accounts at Bank of New York first drew investigators' attention. Investigators suspect transfers through those accounts are linked to Semion Mogilevitch, whom authorities describe as a major figure in Russian organized crime. He couldn't be located for comment; in the past he has denied any criminal involvement.

Some of the accounts Mr. Berlin established at Bank of New York weren't regular deposit accounts, but "micro/CA$H-REGISTER" accounts. They are typically used by businesses for cash-management purposes and are designed to make international fund transfers simpler. Account holders access their accounts and can conduct numerous transactions, including wire transfers and payment orders in foreign currencies, via a personal computer.

Bank of New York's relationship with Menatep went beyond correspondent banking. Bank of New York, the biggest sponsor of American depositary receipts used by foreign companies to trade shares in the U.S., sponsored a Menatep ADR program, though it remains unclear whether the ADRs ever traded.

It isn't clear how well Mr. Kagalovsky and Mr. Berlin know each other, though their wives worked together and sometimes socialized. And though Mr. Kagalovsky isn't talking much about his businesses right now, in a recent column he wrote for a Russian newspaper, he appeared to back away from his past braggadocio. "It's high time now to remember two old truths: The end doesn't justify the means and a state based on corruption and theft is, as a rule, far less effective than an ordinary normal state," Mr. Kagalovsky wrote. The IMF, he added, can't pull out of Russia, but should give it as little money as possible.” – notes The Wall Street Journal in the article “Brash Banker's Tangled Deals Become A Focus of Money-Laundering Probes”.


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