The Oligarchs (54 page)

Then Potanin made a potent argument to Chubais. He suggested that loans for shares would correct the earlier compromise, which had prolonged the reign of the red directors. Potanin especially wanted to torpedo Andrei Filatov, a giant of a man who was the red director of Norilsk Nickel. His legendary influence reached all the way from the tundra to the Kremlin. “During the loans for shares auctions, it was not possible to declare this at the time because it was politically unacceptable,” Potanin admitted later. “But the real reason was to bring normal management to sizable companies and to break the red directors' lobby. It was the most important thing.”
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What Potanin did not say, was that the “normal management” he had in mind was to be the inexperienced financiers like himself and Khodorkovsky. Could they manage better than the old factory bosses? Chubais knew that the factory directors, siphoning off the profits into their own pockets, were poison for the market, but there was no way to know whether Khodorkovsky, Potanin, or Berezovsky would be any better, or why. Nonetheless,
he saw the tycoons as the epitome of modern Russia and the factory directors as crusty symbols of past failures. Paul Bograd, the political consultant who had grown close to the Chubais team, recalled that Chubais believed the young tycoons would bring “some semblance of competent corporate management, as opposed to doing nothing and allowing these places to be looted. Which, given the state of management then, was likely to happen.”
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Khodorkovsky recalled that in early 1995 “a situation arose when it became clear to everyone that big industry remained in the hands of the red directors, and if nothing happened, then they would bring the Communists back to power.”
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Chubais had many motives, but this one was at the core: to defeat Zyuganov and the Communists—forever. If Zyuganov did well in the December elections, it was already clear that he would become the leading challenger to Yeltsin in the 1996 election. Chubais knew that Yeltsin was weak physically and could see from polls that he was weak politically. He feared a Zyuganov victory would lead Russia backward. Chubais never advertised it publicly—he attempted to keep the goal obscure so as not to alarm the opposition—but loans for shares should really have been called “tycoons for Yeltsin.” Chubais was willing to hand over the property without competition, without openness, and, as it turned out, for a bargain price, but in a way that would keep the businessmen at Yeltsin's side in the 1996 reelection campaign.

I personally had my doubts at the time about whether Chubais was this farsighted, and it was hard to even imagine Yeltsin running for president again. But in retrospect, I was wrong about Chubais and Yeltsin. Loans for shares was the first phase in Yeltsin's reelection campaign. It was the weld between the tycoons and the Kremlin, the embrace of wealth and power. Chubais later acknowledged the trade-off. “The fact that these would be the forces supporting their own private property, that they would defend their private property, and that in the political process they would be, by definition, against Communists and pro-reform—that was 100 percent sure,” Chubais told me. “And that is what happened.”

Gaidar, who remained a confidant of Chubais, although he was not in government at the time, acknowledged, “It was not the most pleasant choice. I would rather not be in a position to make this choice. But I really think that if Yeltsin, Chernomyrdin, and Chubais had not gone to this loans for shares scheme, which radically changed the composition
of forces in the economic elite, I think that Zyuganov's chances of winning the elections would have been substantially better, and maybe he would have been unbeatable.”
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Jordan explained, “You have to remember that every year until Yeltsin got reelected, everyone in this country, including me, was worried that the Communists were going to come back. I don't believe they were thinking much further than, the Communist risk must be taken out of the game. And that's what they were thinking about—they
weren't
thinking about the economy!”

On August 30, 1995, Yeltsin signed a decree putting loans for shares in motion. But the plan was already changing in ways that made it even more appealing to the tycoons who were lobbying for it. When Jennings originally wrote the white paper, he had insisted on international competition—foreign oil companies would be welcome to compete for Russia's riches. However, the door was slammed shut on foreigners in the autumn, in part thanks to the efforts of Khodorkovsky and one of his deputies, Konstantin Kagalovsky, a shrewd former Russian representative to the International Monetary Fund and World Bank. Kagalovsky, who had been among those helping Gaidar at the dacha in 1991, waged a campaign to exclude foreigners from the Yukos auction by making the rules ambiguous enough to create doubts among investors about whether they could legally keep the properties if they won. Scaring away foreign investors had a larger purpose as well—the tycoons were not so rich that they could outbid foreign oil companies in an open competition. Khodorkovsky did not want to have to face British Petroleum in a bidding war for Yukos. By slamming the door on foreigners, he was making sure that the price of the properties would be as low as possible.

Chubais also had a cunning plan to ensure the loyalty of the tycoons. He created a dual key system, in which the first key for each factory would be given out before the 1996 presidential election, but the second key—the one that allowed the businessmen to lock up and keep their property—would be distributed only after the 1996 election. Thus the magnates would have an interest in seeing Yeltsin reelected because if Zyuganov came to power, they could kiss their factories and oil fields good-bye.

As it was hammered out in September 1995, the loans for shares plan called for the State Property Committee to hold auctions in which the banks could bid for state shares in the enterprises by offering
low-interest loans to the government. The shares were to be held as collateral. Until the loans were repaid, the banks were allowed, indeed encouraged, to take the factories under control and to manage them. Then, if the government later defaulted on the loans, as everyone expected, the banks could sell the shares in a second phase, paying back the loans but keeping 30 percent of the proceeds as a commission. The sell-off was set for September 1996, but the elections were held earlier, in June and July.
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In a key procedural twist that enormously helped the tycoons rig the auctions, they were allowed to bid on their choice property while also being the auctioneer. For example, Menatep Bank was the official “organizer” of the auction for Yukos as well as the chief suitor. This was a glaring conflict of interest, but increasingly it was the businessmen who dictated the terms to the government and not the other way around. They picked the companies they wanted, they picked the terms, and they picked the outcome. In the next few years, this became the kernel of how the businessmen dealt with the state. Joel Hellman, an economist for the European Bank for Reconstruction and Development, later termed it “state capture,” meaning that businessmen and vested interests turned around and “captured” the government.
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This was not an abstract idea in the Russia of the 1990s. It was the credo of Berezovsky: big capital should talk and politicians listen.

Amazingly, both Chubais and Kokh maintained a public facade at the outset of the loans for shares auctions that all was going normally. Kokh told reporters that the auctioneer was “largely a technical function and does not give any additional advantage” to the bidders. Chubais was even more brazen. “As you may know,” he told journalists on September 25, “we don't predetermine the buyer.” The procedures for the auctions “will be free and competitive.” This was sheer nonsense. The reality was that Chubais and Kokh handpicked the winners: Potanin, Khodorkovsky, and Berezovsky won their prizes in quick succession. Just as the tycoons demanded, foreign bidders were excluded, again with the support of Chubais and Kokh. “Russian capital cannot yet compete with foreign capital,” said Kokh, parroting the Khodorkovsky line.

On September 25, Yeltsin approved a list of forty-four companies that were going to be offered for the loans, but two weeks later it was narrowed down to twenty-nine. In the final version published October 17, 1995, there were only sixteen enterprises. Four more were not auctioned due to lack of bids. Of the dozen loans for shares auctions that
took place between November 3 and December 28, 1995, the overwhelming majority went to the banks that acted as organizers of the auction, their secret shell companies, or affiliates of the enterprises themselves. The deals were rigged.
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On November 17, Potanin seized his prize, a 38 percent stake in the metals giant Norilsk Nickel. The initial offering price had been $170 million, and Potanin won by offering just $100,000 more. This was a mere pittance for a company that reported 1995 revenues of $3.3 billion and profits of $1.2 billion. Although the truth of the company's financial condition was murky, it was clear Norilsk had enormous potential, borne out in the next few years when the company generated billions of dollars in profits. There were four bids that day, three of them from Potanin and his affiliates. The fourth came from another Moscow bank, Rossiisky Kredit, through a front company, Kont. This bid was for $355 million, far more than Potanin had offered. But Kokh “smelled a rat,” and he disqualified the bid on the narrow technical grounds that the bidders did not possess a reliable bank guarantee for the capital they were offering, while the capital of the other bidders, all Potanin affiliates, “seemed credible.”
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One reason why Potanin's capital was so “credible” is that the government was filling up his bank with its own money. An Interior Ministry investigator, whose probe into the Norilsk case was later closed without charges, ferreted out one interesting footnote to Potanin's victory: one of his front companies, Reola, lacked the same bank guarantees, but Kokh didn't seem to take notice.
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Khodorkovsky's prize, Yukos, came with somewhat more difficulty and drama but demonstrated anew Chubais's determination to remain on the path he had chosen. It also showed that Khodorkovsky could be ruthless. At stake in the December 8 auction was 45 percent of the shares of Yukos in a loans for shares deal, as well as another 33 percent in an investment tender. The starting price was a $150 million loan for the shares, and $150 million for the investment tender, with the winner required to promise another $200 million investment in the company. Khodorkovsky's bank, Menatep, was organizing the auction. Khodorkovsky was bidding through one of his front companies, Laguna.

However, another group of three banks was preparing a serious bid for Yukos. This troika of prominent tycoons was made up of Vladimir Vinogradov of Inkombank, Mikhail Friedman's Alfa Bank, and Valery Malkin's Rossiisky Kredit, which had lost out weeks earlier on
Norilsk. The three bankers objected immediately to Menatep's demand that all the deposits for the auction be put in Menatep, and this time Kokh listened. He agreed that all the money would instead be deposited at the Central Bank.

However, the three bankers didn't really have enough money. They needed a $350 million deposit and sent out feelers to foreign investors, but without much luck. One of the investors they approached was California billionaire oilman Martin S. Davis. What the three bankers did not know is that Khodorkovsky was playing hardball. Khodorkovsky dispatched one of his top lieutenants to the United States to deliver a blunt message to Davis that the laws in Russia on foreign investment in loans for shares were at best vague (as Khodorkovsky had earlier ensured they would be) and at worst could cost him everything if tested in court. The Russian told Davis that if he invested in the rival consortium bidding for Yukos, he would lose all his money. “You put at risk $300 million,” the Russian said. Davis decided not to invest, although Khodorkovsky's rivals never knew of the secret mission.
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When I asked Khodorkovsky about it, he brushed it aside. “They spoke about it,” he said of his rivals, “but I didn't believe that a foreigner would give money. Because on my side I was trying to raise foreign capital also—nothing!”

Instead of cash, the three bankers offered the equivalent of $370.2 million in short-term government bonds, the high-flying GKOs, and said they would put $82 million in cash into the Central Bank. But Kokh rejected the GKOs, as did Chubais. Only cash would do. They were saying, in effect, the Russian government would not accept its own bonds as a deposit for the auction. This meant that the three bankers were out of the running. “We had cash,” one of Khodorkovsky's vice presidents later told me. “We were quite sure our competition did not have cash.”

Even without knowing about the secret mission to discourage their investor, the three bankers were furious at Khodorkovsky. They knew Menatep was organizing the auction and bidding at the same time, which was bad enough. But they also suspected Menatep was able to cough up the cash thanks to its close ties to the state and to Yukos itself. They knew that Khodorkovsky had mammoth loans and deposits from the Finance Ministry; the federal government was Khodorkovsky's largest single client. In a rare public attack on a fellow tycoon, the three bankers demanded that the Yukos auction be postponed
and fired off a fusillade of complaints at Khodorkovsky. They even threatened to dump all their GKOs and disrupt the government securities market.
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But Chubais was determined not to be derailed. “Nothing doing,” he insisted. Chubais later suggested the three banks were making so much noise because they were just angling for a deal with Khodorkovsky for a piece of the action.
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