Sunday, February 24, 2008

Corporate Raids for Moscow Real Estate

A nice article from the Moscow Times providing an overview of the risks faced by businesses in possession of valuable real estate. One day I will write a full post on the reasons behind the insane real estate prices in parts of Moscow, but for now, here is a piece by someone else on one of the consequences.

Corporate Raiders Use Cash, Friends

When the police came to search his office in central Moscow, Andrei was surprised but calm. He had nothing to hide, after all.

But that sunny spring morning two years ago turned into a nightmare. The policemen showed Andrei a transparent bag with a white sugar-like substance that they said was cocaine found in his office. They detained Andrei and shoved him into an isolation cell. He was not allowed to make any telephone calls to his family or to speak with a lawyer.

"I racked my brains for two days trying to understand what was going on and why someone wanted me in jail," Andrei said.

The mystery was cleared up when a smiling lawyer came to the cell on the second day and announced that he had a solution. He said the criminal case would be dropped if Andrei signed a contract transferring ownership of his office to a company that he represented.

"I couldn't believe what I was hearing. I had read about people losing their property this way, but I never thought that something like that could happen to me," Andrei said.

"I signed the contract, and they got my property. I had no choice," he said.

Andrei's business is among thousands that are taken over in illegal raids every year in and around Moscow. The number has soared in recent years, creating such a huge problem that the State Duma intends to consider legislation to fight the raiders this spring, Duma Deputy Speaker Oleg Morozov said last month.

In the West, corporate raids are run-of-the-mill affairs: A stronger company legally takes over a weaker one, and both sides usually benefit from the deal.

Not so in Russia. Raiders here use their links to corrupt officials to illegally seize businesses, often with the aim of acquiring prime real estate. The raiders often include former intelligence officers, policemen, lawyers and people with ties to well-placed state officials. On their payrolls are judges, prosecutors and bureaucrats on all levels. Through them, the raiders can order a search of a business, gather information about the owner, and falsify whatever documents they need to take over the business.

"Unfortunately, raiders are people who work for the system, and through it they can falsify anything they want," said Gennady Gudkov, former head of a working group that tracked the issue in the previous Duma.

There are no exact figures for how many raider attacks occur annually. Gudkov said his working group registered about 1,000 cases per year in Moscow and a similar number in the Moscow region. But these, he said, "were only the tip of the iceberg." The real figure is probably four to five times higher, he said. Media reports have put the countrywide figure at around 70,000.

Other than Moscow and the surrounding Moscow region, the favorite targets for raiders are in St. Petersburg and the Leningrad region. Real estate commands top prices in these areas, and competition is brutal for the few properties that are available for legal purchase.

Many businessmen, police officers and other officials interviewed for this report spoke on condition of anonymity, citing the sensitivity of the issue and fear of reprisal. The businessmen also asked that their former companies not be identified. They said they had not complained to police, prosecutors or the Federal Security Service because they believed the raiders had links to these agencies.

Konstantin, a Moscow businessman, said he learned in 2006 that he stood no chance against raiders. He said two tall men in their mid-30s entered his shop in central Moscow one day, looked around and announced that the location was perfect.

Konstantin told them that the shop -- his main source of income -- was not for sale. But the men laughed and said they did not intend to buy it. "You can make things easy and sign a sales contract. If you don't, we will get a signed contract anyway, but we'll have to hurt you and your family first," one of the men said, Konstantin recalled.

Days after the visit, tax and fire inspectors carried out separate checks of the shop. The taxmen accused Konstantin of evading taxes, and the fire inspectors said the electrical wiring was in such a state of disrepair that it had to be reinstalled completely.

Konstantin tried to stall the inspectors, hoping to find a way out of the dilemma. He said, however, that he gave up within weeks -- after he was beaten by unknown assailants, his wife was threatened and his daughter -- who never drank alcohol -- was detained on suspicion of drunk driving.

"I understood then that they really had powerful ties and that it was impossible to refuse their offer," Konstantin said.

He signed the sales contract, and the men got his shop. He said they even helped him to pack up and, in parting, asked him whether he knew of anyone who owned similar real estate.

How It Works

Raiders are split into two groups -- those who raid for their own gain and those who organize raids for money.

Those seeking their own gain scout locations on their own and work out a takeover plan. These raiders usually target small -- and easy to get -- businesses, like those of Andrei and Konstantin.

The hired raiders tend to work for big businesses and to target medium-size companies. The client tells the raider what kind of company or property he wants, and the raider estimates whether a takeover is feasible.

"Companies with a strong security service are difficult to get, and raiders prefer to ignore them," said a police officer who works for the Moscow force's anti-organized crime division.

He said many of these raiders are former officers from special units that were set up within the intelligence agencies in the early 1990s to keep an eye on new growing businesses. The officers' duties included checking whether the businesses acted within the law and did not sell sensitive technology abroad.

"They use their links and experience to make money," the police officer said.

The small-time raiders pay bribes out of their own pockets, while the hired raiders get their expenses covered by their employers. They charge a fee of about 20 percent of the value of the targeted business.

The police officer said a judge could be bought for $5,000 to $9,000, while it cost $5,000 to $70,000 to get someone arrested. Through their connections with intelligence officers, raiders are able to listen in on the telephone conversations of their targets at a cost of several thousand dollars per week.

The police officer said Andrei's arrest probably cost around $5,000, while $3,000 was more than enough to get his daughter detained.

In other words, the raiders paid no more than $50,000 to seize Andrei's and Konstantin's businesses but walked away with assets worth millions of dollars.

To get the assets of a medium-size company is relatively simple, according to the people interviewed for this report. Typically, raiders send a falsified protocol of an extraordinary shareholders meeting to the tax authorities, showing that the company has nominated a new general director. The new director signs a contract to sell a company asset -- usually the main building -- to a fictitious buyer, who in turn quickly resells the asset to someone else. If the real owner wants to prove his rights, he has to go through complicated bureaucratic procedures -- and even then he is unlikely to hang on to his business since it has been sold and resold so many times.

"All of this is impossible to achieve without the cooperation of people in high posts," said a former intelligence officer who is familiar with the issue.

In this scenario, the raid costs $200,000 to $250,000, and the new owner usually makes a profit of 1,000 times more. Companies unable to protect themselves might lose their property within two weeks.

A New Trend

The tactics for illegal acquisitions have evolved over the past 17 years, the former intelligence officer said.

"When someone opened a shop in the beginning of the '90s, bandits would visit him to offer protection in exchange for money," he said. Those who refused to pay lost their businesses.

"Now, these bandits have been replaced by the police and FSB," the officer said.

Also, big companies were the main targets of raiders in the early 1990s. Those companies now have organized themselves into powerful holdings or state corporations, putting them out of reach of even the most experienced raiders.

"Big companies have good juridical and security departments to protect them from those predators. They are difficult to get," Gudkov said.

So raiders instead have set their sights on small and medium-size businesses. An estimated 50 percent of all illegal takeovers involve shops and offices. The raiders are rarely interested in the businesses themselves but in the real estate where they are located. The properties can be rented for a high price or demolished to construct higher buildings.

"It is impossible these days to hang on to a property in Moscow if you don't have really good protection. And by that I mean people from the police and the FSB. I'm not talking about ordinary guys, but people who have good links," the police officer said.

As a result, small and medium-size businesses are bringing in former intelligence officers, policemen and bureaucrats with good links as co-owners.

Sergei said he spent several years worrying that someone would notice his flourishing factory, located 10 kilometers outside Moscow's city limits, and take it away. His worries lessened three years ago, when he made a well-connected intelligence officer a co-owner.

"If you don't have someone protecting you these days, anyone can take what you have. And as you are running like an idiot from court to court to prove that you are the owner of your property, they will sell and resell it so many times that you'll never get it back," Sergei said.

The intelligence officer got 30 percent of Sergei's business and, in addition to offering security, he deals with fire and tax inspectors and local bureaucrats. Besides intelligence officers, businessmen take police officials and local bureaucrats as co-owners.

"You really need people who can fire back if you want to keep your business away from the raiders," the former intelligence officer said.

Sergei said he was not aware of any small or medium-size businessman in Moscow or the Moscow region who had been able to hold onto his property without protection.

"If in the '90s the bandits protected us," he said. "Now I see former bandits giving shares of their now-legalized businesses to police officers or intelligence officers to protect themselves from the raiders."

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