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By John Helmer, Moscow

Last week, on October 7, United Company Rusal – the state aluminium monoply managed by Oleg Deripaska (right) — was due in the Nigerian High Court at Abuja to start trial on the claim by a Nigerian-American group, BFIG, for the handover of the Aluminium Smelter Company of Nigeria (Alscon). BFIG has been in the Nigerian courts since a ruling by a US federal judge eight years ago that the jurisdiction for its claims is in Nigeria, not in the US. In July of last year Nigeria’s highest court ruled that the government’s Bureau of Public Enterprises (BPE) had unlawfully privatized the smelter in Rusal’s favour, rigging the share sale and the price corruptly for Rusal’s benefit.

The American government had already agreed. A US Embassy cable from Abuja, dated August 2004 and published by Wikileaks in 2011, told the State Department the Nigerian government’s action towards Rusal had reflected “a lack of transparency in the bidding process, and perhaps some corruption as well.” BFIG’s lawsuit claims $2.8 billion from Rusal in lost or unrealized profits, damages, and costs.

Rusal has challenged the Nigerian Supreme Court’s judgement against the government, and is in the London Court of International Arbitration (LCIA), seeking to block the Nigerian court rulings and prevent BPE handing the smelter over to BFIG. A parallel proceeding by BFIG, this one against Rusal for damages, started in January 2012 in the Nigerian High Court. Rusal tried to have this dismissed, but the court rejected that on June 19, 2013. Trial was scheduled to start on October 7.

Three days before, however, Rusal filed in court the claim that it should not face BFIG alone. It requested that the court put the Nigerian Government and its BPE on trial for the liability as well. This application has been set for a hearing on October 30. According to the Nigerian lawyer for BFIG, Olugbenga Adeyemi, and BFIG’s US lawyer, Jimmie Williams, these were delaying tactics intended to protract the preliminaries and prevent the trial starting.

Papers filed on October 14 in US court in Los Angeles by lawyers for both sides reveal what is happening after the US judge, Carla Woehrle, requested reports of where the litigation in London and Abuja stood. Read these court documents (1, 2 and 3). The background to the Los Angeles court case can be followed here.

For BFIG Williams charges that Rusal’s is using the US court to achieve more delay, and run BFIG to more costs. He alleges that Rusal’s attempt to use the federal court in California to order BFIG’s CEO, Reuben Jaja (left), to give testimony and to produce documents is designed to harass. The Los Angeles court action, in which Rusal is represented by lawyers Robert Martin and Jaime Bartlett, has sought to order discovery in California “for documents and testimony relevant to the LCIA arbitration, and actual or contemplated proceedings in Nigeria relevant to the ALSCON dispute.”

Jaja and BFIG have replied this was devious because all the relevant materials have been transferred to Nigeria, and that if Rusal were serious in its discovery lawsuit, it should file for the evidence in Nigeria. However, according to a court paper submitted this week to Judge Woehrle, “what does the Petitioner [Rusal] do when they are informed that they must defend themselves in Nigeria…and have the opportunity to gather the records they assert are vital to their proceedings before the LCIA? NOTHING…. The Petitioner has never needed the requested records or desired to obtain them from the Respondent [BFIG]. The Petitioner[‘s] sole motivation for these subpoenas is the harassment of the Respondent.”

According to the Rusal filing, “Mr. Jaja is not a party to the LCIA arbitration or the ongoing action in Nigeria, but as a California resident, he is subject to the jurisdiction of this Court.”

Rusal’s releases, financial and production reports, and shareholder disclosures all report that the Nigerian asset, in which Rusal owns 85% (the remaining 15% is owned by the Nigerian Government) is a lossmaker for the company. Its cost of acquisition and current book value are so small that its practical value to the company appears to be minimal. Moreover, in 2009 Rusal admitted publicly it was trying to sell at least half of its shareholding in the plant. Supposing that a Nigerian buyer for 42.5% of Alscon could have been found at the time, and the buyer allied himself with the Nigerian government’s 15% stake, such a deal would have given majority shareholding to someone else, and ended Rusal’s control.

So why didn’t Rusal exit then? Why has Rusal been waging court action in Nigeria, UK and the US to hang on?

According to Rusal’s initial public offering (IPO) presentation, dated December 2009, “ALSCON is currently a loss-generating asset and is not expected to become profitable until a capital investment program has been completed with the smelter reaching its full capacity of 197 thousand tonnes per annum. A feasibility study for internal investment approval was completed in September 2008. The program requires an investment of approximately US$298 million over the period of 2009-2011, of which US$76 million had been spent as of 30 June 2009. The debt restructuring agreements generally prohibit the Group from incurring capital expenditure in relation to this program through the end of the override period but permit the Group to fund the program on a project finance (non-recourse) basis or through certain equity investments in the project. The Group is currently considering a disposal of 50% of its interest in ALSCON to a strategic investor.”

Even if Rusal had lost the smelter to BFIG in court, Rusal has claimed to its initial sharebuyers at IPO that this wouldn’t matter much. “Although a decision against the Group may have an adverse effect on the Group’s ALSCON operations in Nigeria, including the potential loss of ALSCON and consequent loss of revenue, the Directors do not believe that any resulting liabilities will materially adversely affect the Group’s financial position or its operations as a whole.”

The Rusal arithmetic demonstrates just how little Alscon has seemed to be worth — to the Russians, if not to the Nigerians.. In 2006, when Rusal first proposed to pay for 77.5% of the shares, the deal terms valued the asset at $323 million. Rusal then got the BPE to cut the price – wrongfully and corruptly, BFIG argues — so the asset value dropped to $168 million. In December 2007 Rusal says it bought a 7.5% stake from a German shareholder for $12 million. That indicated total asset value of $160 million. “The impact of acquisition on the financial results of the Group for the year ended 31 December 2007 was not significant,” Rusal’s IPO prospectus claimed.

Subsequent Rusal documents reveal it paid $140 million up front, and invested $76 million in works to restart the plant’s production line. As of December 2009 the book value of Alscon was $183 million, just 1.1% of Rusal’s aggregate asset value of $16.8 billion. It has continued to be a lossmaker. In the first quarter of 2013 production at the smelter was halted altogether.

According to an audit by KPMG, by the end of 2011 Alscon appears to have owed Rusal companies $135 million. Because liabilities of the plant were recorded as greater than its asset value by about $46 million, Alscon was for all practical purposes bankrupt. For the accounting, read this.

So why keep the asset so tenaciously, and at such a cost in lawyers in the UK, Nigeria, and California?

One possible reason is that Alscon is worth much more than Rusal has let on, and that it is misleading its shareholders. A second reason may be that Rusal is afraid the Nigerian court proceeding will expose evidence of asset and cash stripping from the plant through tolling schemes and double accounting, and that BFIG may be awarded up to its full claim of $2.8 billion.

A third reason could be that if Rusal submits to the Nigerian court and pays even the fraction of what Alscon is said to be worth, it may open the floodgates to court claims elsewhere. In nearby Guinea, for example, Rusal faces court and government claims for about $1 billion, there too Rusal’s asset position and bauxite reserves are much more valuable. The Guinea courts have ruled against Rusal, but Deripaska hangs on by fiat of the current Guinean President, Alpha Conde. If he goes, Rusal is unlikely to survive.

The potential legal liability and writeoff potential in Nigeria and Guinea combined represent almost as much as Rusal itself is worth in the Hong Kong market at the moment — $4.5 billion. In fact, at that market capitalization Rusal is worth less than the 28% shareholding it owns in Norilsk Nickel, or about $7 billion. In short, Rusal’s assets are in negative worth territory.

This is a particular problem for the international consortium of banks whose loans to Rusal are secured by smelter and other assets, principally in Russia. Moscow press leaks from Rusal’s current negotiations with its bankers indicate that the current negotiations cover obligations of $5.15 billion. Rusal’s capacity and promises to meet its debts are being challenged by Norilsk Nickel’s refusal to pay Rusal dividends which must be borrowed rather than earned. Rusal’s notice on the terms of its dividend arrangement with Norilsk Nickel was issued on October 1. This reveals that the annual dividend payable by Norilsk Nickel has been cut from the $3 billion per annum agreed last December to $2 billion in 2013 and 2014; a 20% cut from $3 billion in 2015; and the forced selloff of Norilsk Nickel assets in southern Africa and Australia. In short, Rusal is pressing to strip Norilsk Nickel of assets for cash to feed Rusal’s creditors.

Things looks even worse for the future of Rusal as a stand-alone company if the next five years of Rusal’s trading prospects for aluminium are estimated. So the banks realize their ability to recover their debts is even more precarious.

Part of the danger comes from the downward pressure on the price of aluminium as rule changes for stocking aluminium begin to bite on the premium Rusal has been able to earn from warehousing the metal instead of selling it. Rusal’s reaction has been to beg the market regulators in London and Hong Kong not to act. According to the Rusal version, the rule changes would be “distortions” in a way scheming by Rusal and its control trader Glencore is not.

Rusal may succeed in putting off the day of reckoning for its unsold and hidden stocks. There’s less its begging can do about the determination of China to accelerate domestic production of aluminium. The decision in Beijing reflects the fact that China has much larger reserves of bauxite and coal-fired energy than have ever been counted to fuel the new Chinese smelters. According to still confidential reports circulating in Chinese mining circles, China will accelerate its drive to expand domestic metal production at a price which will force the international sale price of aluminium downwards.

This is the exact opposite of everything Rusal has been saying for years. In its IPO prospectus, for example, Rusal acknowledged that “the general low level of downstream aluminium processing in Russia results in UC RUSAL exporting a high percentage of the output of its Russian smelters. In 2008, UC RUSAL sales by geographic region were: Europe (48% of total), Asia (23% of total), CIS (23% of total) and the United States of America (8% of total).”

This statement ignored the strategic decision Oleg Deripaska had made in 2004 to end Rusal’s strategy of expanding its downstream aluminium processing businesses, and concentrate instead on upstream primary metal processing. Deripaska did that, calculating he would generate more profit for himself (and Roman Abramovich, then his shareholding partner) from an export-driven scheme than from doing most of the aluminium business at home, as had been the situation during the Soviet period.

According to the 2009 prospectus, “while UC RUSAL exports its goods throughout the world, the Company has stated the priority of markets for sales of VAPs [value-added products] as follows (in order of priority): CIS, Europe, Asia and North America. Within this stated aim UC RUSAL plans to maintain a presence in all markets to take advantage of evolving regional conditions, particularly in terms of premium maximization and logistical issues but look for opportunities in other markets as well.” In fact, said Rusal, it was counting on the growth of Chinese demand for imported aluminium. “The Group’s proximity to China provides an opportunity for the Group to benefit from the long-term potential for further aluminium demand growth in that country.” Again: “With more than 80% of its total aluminium production located in Siberia, the Group’s production base is in direct proximity to China and other key Asian markets. The geographical location of the Group’s smelters and its competitive cost structure position it to become one of the main external suppliers to China, where demand for aluminium has been constantly growing.” And again: “Continued strong rates of industrialisation and urbanisation may place further strain on China’s energy resources, creating import opportunities for non-Chinese suppliers. Higher energy prices would affect domestic smelters directly (through power costs) and indirectly (through the cost of raw materials such as domestically produced alumina and carbon materials, as well as freight costs), making them less competitive against imports. Moreover the government is likely to resume its policy of containing aluminium industry development during the long term.”

Finally: “A lack of available bauxite to Chinese refineries could act as the most severe constraint on the Chinese alumina sector. There is huge uncertainty surrounding the long-term sustainability of bauxite supplies from Indonesia, including the possibility that the Indonesian government may stop bauxite exports in order to foster a domestic aluminium industry. Similarly, there are concerns about the longevity of domestic bauxite supplies. Unless major new Chinese resources are discovered, the availability and cost of bauxite will increasingly present a hurdle to entry for new participants and restrict the potential opportunities for expansions at existing operations. This is likely to exert upward structural pressure on the long run price of alumina and therefore aluminium.”

This isn’t what is happening in China, according to Chinese and international experts. But Rusal isn’t revealing what it knows. The last report Rusal issued for the geographic destination of its exports was in December 2009, on page I-41 of the IPO prospectus. This revealed that by June 30, 2009, China had outstripped South Korea and Japan as an importer of Rusal’s aluminium. By then only the Netherlands (that is, Rotterdam warehousing for sale and shipment elsewhere) and the US were bigger export markets.

Four years later, Rusal carefully conceals where its exports are going. By identifying “Europe” as accounting for between 50% and 60% of export revenues, the company reports camouflage the final destination of the metal after it leaves the Glencore-controlled warehouses. The figure for China’s imports is hidden in the category called “Asia”. It is obvious, nonetheless, that this destination for Rusal’s exports is dwindling. It amounted to 23% in 2009. It dropped to 18% in 2012. It is already down to 14% this year.

Chinese growth in demand for, and consumption of aluminium is indisputable. So is the increase in China’s capacity to produce more metal at home, and make do with fewer imports. Rusal’s annual report for 2012 continued the line that once the slowdown in China’s macro-economic growth reversed itself, the Chinese boost for international aluminium prices would resume. This isn’t happening.

According to an analyst who covers Rusal for a well-known Russian investment group, this is bad news, but it isn’t the end of the road. “If aluminium cash costs are $1700/t and power is a big part of that,[Rusal] is more sensitive to power prices than where they sell to, so I don’t think the end of Chinese [import] growth is bad for Rusal relative to others. But it is bad for all, because China as an insignificant importer would depress the price. In terms of growth, Rusal have been looking to China in recent years as production capacity is close to maximum there and they have been a growing market (although generally self-sufficient in aluminium, though not alumina and bauxite). Rusal have been saying an import gap would open up, and it hasn’t happened. However, in terms of existing markets, they are far more Russian-European focused now, so China isn’t a huge Rusal-specific issue.”

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