UKRAINE: SUPREME COURT RULES AGAINST PROPORTIONAL

UNCLAS KIEV 003865

SIPDIS

SIPDIS
SENSITIVE

E.O. 12958: DECL: NA
TAGS: ECPS EINV RS UP
SUBJECT: UKRAINE: SUPREME COURT RULES AGAINST PROPORTIONAL
SHAREHOLDER RIGHTS IN TELENOR CASE

Sensitive but Unclassified. Not for Internet Distribution.


1. (SBU) Summary. The Commercial Chamber of Ukraine's Supreme
Court ruled on October 3 in favor of a lower court's finding that
mobile phone operator KyivStar's shareholders are entitled to equal
representation on the company's Board of Directors, regardless of
how many company shares each shareholder may hold. The Court made
the counterintuitive decision in a highly publicized dispute between
mobile phone operator KyivStar's two sole shareholders -- the
Norwegian mobile phone company Telenor and Storm, a 100% subsidiary
of the Russian Alfa Group. This ruling could seriously damage
Ukraine's investment climate and encourage corporate raiders who
already use Ukraine's weak courts to execute questionable takeover
schemes. End Summary.


2. (SBU) The October 3 Supreme Commercial Court hearing, which
Econoff attended, was the latest of nine Ukrainian court cases that
Alfa Group's Storm had filed as part of a long-running shareholders'
dispute with Telenor. Storm petitioned the Ukrainian courts to
declare the KyivStar Shareholders' Agreement invalid and to
recognize Storm's 43.5% share in the company as entitling it to
representation on the Board of Directors equal to that of Telenor,
which held 56.5% of the company. In this manner, Storm hoped to
gain greater control over KyivStar, Ukraine's #1 mobile phone
operator. (Note: KyivStar's revenues for the first six months of
2006 topped $757 million.) Telenor management told the Embassy on
September 20 that Storm also had blocked KyivStar Board of Directors
and shareholders meetings for a year and a half (by failing to show
up for meetings) in an effort to force out Telenor.


3. (SBU) In the lead-up to the hearing, Telenor launched a
country-wide media campaign warning of the dire affects an adverse
ruling could have on other foreign businesses in Ukraine.
Then-Chief of the Presidential Secretariat Oleh Rybachuk made a
public statement on September 6 echoing Telenor's warnings. Despite
the publicity, the October 3 proceeding, at which representatives of
the U.S. and Norwegian embassies were present, was over surprisingly
quickly. The panel of judges rejected out of hand Telenor's motions
to prevent their hearing of the case, then proceeded to arguments.
After 20 minutes of deliberation, the judges announced their
decision, raising doubts among observers whether the issue was
decided in advance.


4. (SBU) The decision reversed, apparently on procedural grounds,
a Higher Economic Court decision of June 27 in favor of Telenor.
That June 27 decision had itself reversed the Higher Economic
Court's own December 22, 2005 decision declaring a number of
Kyivstar's Shareholder Agreement statutes illegal and granting Storm
equal representation rights on the Board of Directors. The
Commercial Chamber's ruling on October 3 reinstated the original
December 22 decision, leaving Telenor with no higher court of
appeal. Telenor told us it would file suit on the matter in New
York, designated in the Kyivstar Shareholders Agreement as the venue
for arbitration of disputes. Telenor also told us it will work
around the decision by subdividing its shares among five
wholly-owned and specially-created Telenor subsidiaries. According
to the court ruling, each of these subsidiaries would be eligible
for a board seat, thus retaining Telenor's five seats on the
nine-seat board.


5. (SBU) A Kiev-based lawyer told EconOff that the October 3
decision was unlikely to set a specific legal precedent, since the
judgment appeared based on a strained interpretation of KyivStar
company bylaws. He noted that assessing the full legal ramifications
would have to await publication of the court's decision, which
usually occurs from several days to two weeks after proceedings. He
warned, however, that the decision dramatically underlined the sorry
state of the Ukrainian judiciary. Telenor executives admitted, in a
September 20 meeting with Econ Counselor, that Ukrainian law on
board seat distribution was contradictory and that it could be read
as condoning the "one investor, one seat" interpretation. One U.S.
contact with long experience in Kyiv told Econ Counselor he believed
Telenor's case may have been hurt by the relative inexperience of
its legal team in litigation, as opposed to the well-known
litigators hired by Alfa Group for this case.


6. (SBU) Comment. Ukraine is known for the creative way in which
corporate raiders use the court system and the often contradictory
legal regime to support complex takeover schemes. The current
decision, however, is notable in that it places a Supreme Court
stamp of approval on one type of legal manipulation. Many in the
business community here fear the decision may encourage business
predators to attempt even more audacious schemes in the future. The
decision will likely damage the investment climate by strengthening
investor perceptions that Ukrainian courts are weak and
unpredictable, while casting doubt on the inviolability of contracts
in Ukraine. End Comment.

TAYLOR