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By John Helmer in Moscow

Polyus Gold’s rival owners appeal to the London market and the London High Court to resolve asset-stripping charges.

It’s an entirely new version of the tale of Dick Whittington and his cat.

In the 17th century story, a poor orphan boy goes to London where he dreams the streets are paved with gold, only to discover they aren’t. Everything turns out fortunately, though, for he sells his cat to the rat-ridden King of Barbary for a fortune, which he then invests to make another fortune. Rat-catching was Dick’s capital.

The new tale pits the two former partners of Russia’s richest goldmining company, Polyus Gold, against each other. They are already gold-plated. But they are going to London to try to save, not to make their fortunes. Under way in front of Polyus’s institutional shareholders, investment analysts and fund managers there is an unprecedented roadshow and counter-roadshow, making rival presentations for shareholder support.

Soon, it is expected that one of the two partners will file suit in the London High Court, charging the other with violating the terms of their agreements, and asking the court to sort out how to divide the goldminer’s assets, before they are spirited away. Dick’s cat has his work cut out for him this time.

Vladimir Potanin and Mikhail Prokhorov have been at war with each other now for a full year. Moving the battlefield to London is new. Potanin’s stake in Polyus is 22%, Moscow brokers say. Prokhorov holds a similarly sized stake. In addition, through a joint holding company called KM Invest, they share 7.4% of Polyus. Simple arithmetic suggests the free float of independent investors ought to be 48.6%. However, Prokhorov has claimed to have bought another 3% of Polyus shares in the market, boosting his base stake to 25%, and reducing the free float to 45%. No one is certain if that’s true.

The KM Invest stake is a problem of its own. Ostensibly, the holding allows a straightforward 50/50 split between Potanin and Prokhorov, allocating each 3.7%. But KM Invest turns out to be an umbrella, covering 150 affiliated companies, all registered offshore. Each of these holds Polyus shares in tiny lots. Designed by the partners to prevent their control of the company from being raided, the structure is defeating for the two partners, now that they have fallen out. Such agreements as may exist between Potanin and Prokhorov for KM Invest are governed, not by Russian law, but by UK law. Prokhorov has gone down the deadend of Russian litigation, applying to the Moscow Arbitration Court for what amounts to an injunction and freeze order against disposal of the KM Invest shares without his say-so.

Potanin disputes that there is Russian jurisdiction. He is preparing to invoke UK jurisdiction to charge Prokhorov with attempting to strip gold assets out of Polyus, in favour of a new company he controls, Polyus Exploration. Created on April 2 last, by Prokhorov and Polyus chief executive Evgeny Ivanov, one month before Potanin ousted him from his job, the rationale of the new company was this: “Polyus Exploration will be holding licenses for greenfield exploration projects which are currently in Polyus Gold’s pipeline. The decision to create Polyus Exploration was taken by the Board of Directors of Polyus Gold by absentee ballots in March 2006….” Ivanov is quoted in the announcement as explaining: “the programme is focused on bringing good organization to our greenfield exploration projects and aimed at making the process more transparent for investors. The Company’s exploration business has proved to be highly efficient, and the programme will help to raise its investment appeal and to achieve even better results in the future”.

The idea, as Prokhorov and Ivanov – reinstated as chief executive in October – are explaining to London audiences, is to carve out selected gold assets from the portfolio, vest them in the subsidiary; register that subsidiary offshore; and pay for this by a new issue of shares. Polyus the parent would get 20% in the new company; if minority Polyus shareholders want a stake in what they thought they formerly owned, they must pay again.

In its London roadshow, Potanin’s message is that Prokhorov’s scheme effectively asks Polyus shareholders to pay twice over, giving up 80% of their assets for nothing. The London audience has also been told that some current Russian shareholders may not be allowed to hold shares in the foreign company. Some institutions may not be allowed to invest in an early stage mining company. The lack of transparency to date on which assets will be transferred, at what value, should add to shareholder resistance, Potanin’s men have argued. This is such an obviously bad deal for everyone exept Prokhorov, Potanin believes that the majority of Polyus would reject it, if they had a chance to vote on it.

Prokhorov and Ivanov argue they have put together the scheme with board approval. However, the charter of the Polyus board allows a quorum of just 3 directors out of 9 to make strategic decisions, including disposal of the assets, without consulting shareholders. In addition, the management of the new company, Polyus Exploration, is allowed to make strategic decisions about its assets, without referring back to the board of the parent company.

In a statement circulated to shareholders on January 17, Interros called for an emergency meeting of shareholders on April, to vote for a new board, and for new rules to constrain the Prokhorov spin-off, carve-up scheme. “The current system of management of the Company,” said Interros, “significantly limits the ability of shareholders and their representatives in the Board of Directors (BoD) to influence the decision-making procedure both with regard to the Company per se and its affiliated and dependent structures. Firstly, the current wording of the Charter allows the Director General [Ivanov], at his or her own discretion, and without coordination with the BoD, to pass decisions on conclusion of important transaction, which formally do not fall under the category of major transactions and transactions with vested interest. That includes the composition of management bodies of the company or the conclusion of significant deals and other activities that may impact the cost of shares of the “Polyus Gold” company.”

The statement also warns that the mining licences being contemplated for transfer to Polyus Exploration aren’t “peripheral assets… Here we face an attempt to remove the core assets.”

Prokhorov’s strategy has been getting a good run in the Financial Times, where Moscow correspondent Catherine Belton has been given the owners’ box seat as Prokhorov made common cause with Oleg Deripaska to attack Potanin’s other major mine stake, Norilsk Nickel.

But the FT has been slow to notice that Potanin’s counter-attack has been effective at Polyus. The last news Belton reported from the Prokhorov camp was in August, when she claimed “Russia’s state-run Alrosa is close to acquiring a leading stake in Polyus Zoloto,Russia’s top gold mining company, according to people familiar with the situation. An announcement on the deal could come in days, the people familiar with the situation said.”

Naturally, neither the state nor Alrosa was keen on paying Prokhorov to quit a sinking ship, from which he was emptying all the valuables. What Alrosa chief executive Sergei Vybornov thought he was bidding for was Polyus intact, without any transfers to Polyus Exploration.

In August, the Alrosa negotiation was aired by Prokhorov to put the wind up Potanin, and induce him to pay a higher price to beat the state to Prokhorov’s 25%. But government officials said Prokhorov’s price was too high; there was disagreement between Vybornov and Prokhorov, and nothing came of the deal. At that point, Prokhorov put into gear his asset carve-up; but the FT lost interest. It hasn’t noticed that the battlefield has moved to the City, and to the law courts.

Prokhorov’s strategist and head of his Onexim holding in Moscow is Dmitry Razumov. He was asked to respond to the charge of asset stripping by Polyus Exploration; and to say how he regards the proposals for chaging the structure and powers of the Polyus board. Razumov refused to respond.

The issues at stake in the KM Invest litigation could make for indeterminable delay in resolving Polyus’s ownership. But the transparency of the issues and claims in conflict has not proved to be as bad for the share price over the past month as the initial outbreak of war a year ago. Since Mineweb last reported on the fight at Polyus in mid-December: http://www.mineweb.com/mineweb/view/mineweb/en/page34?oid=42034&sn=Detail

The market capitalization of the company has grown from $8.3 billion to $9.6 billion. Despite the sharp losses of Russian stock market indexes over January, the Polyus share price has gained 9.8%. This is a reversal of last year’s trend, when Polyus was one of the few major goldminers in the world to show a downward trend in value against the rising Russian market index; and against the rising price for gold. For January, the Polyus share price gained more than the price of gold, which grew by 9.5%.

This trend upwards was relatively unsupported by production reports and projections. Gold production remained unchanged during the year at 1.2 million oz. A reduction in gold production at the Kuranakh mine in Yakutia, down 9% year on year, due to a decrease in the average grade, was compensated by growth in alluvial production (up 4%), and slightly higher output at the company’s most important mine, Olympiada, where output climbed 1%. Management projections for 2008 envisage gold production remaining flat this year at 1.2 million oz. New sources of gold, and new projects, won’t be counted until the end of 2009 at the earliest.

In the meantime, Polyus is experiencing a severe increase in production costs, as well as in capital estimates for its biggest undeveloped mines. Management says that revenues for 2007 should rise by 15% to $855 million, due to higher average realized gold prices (up 17% to $706/oz in 2007). Ebitda for 2007 is estimated at between $300 million-$320 million, excluding a $130- million charge for share options; Ebitda was $299 million in 2006. On the negative side, total cash costs for 2007 appear to have risen to $365-$375/oz, up 33%. The drivers are well-known — a 30% increase in stripping works at Olympiada mine, rouble appreciation, and inflation.

A report from UralSib analyst Michael Kavanagh indicates that “Polyus Gold is one of the cheapest gold producers in the world; however, those reserves are not worth much if they cannot be exploited profitably.” The market reaction appears to be that, so long as Potanin keeps a head-lock on Prokhorov, minority shareholders stand to benefit, and the market value of the company should gain.

Thus, after management changes and twists in the loyalties of the Polyus board last year, Potanin’s Moscow holding Interros has now emerged as the public defender of share value. According to Interros, if the London-based institutions mobilize in concert, and the High Court enjoins Prokhorov from disposing of the KM Invest shares, there should be enough votes at the April meeting to adopt the board and charter changes. “Then any decision to dispose of part or all of Polyus Exploration’s assets would need to be agreed by a majority of Polyus Gold Directors and shareholders, maximising the interests of all shareholders.”

One curiosity in this saga of gold, London ambition, and rat-catching is the dog that hasn’t barked. A source close to the fight says that there is no sign that the Kremlin is taking sides — none at all.

Not yet.

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