The U.S. Expands the Scope of Sectoral Sanctions By Further Targeting Russia’s Energy, Defense and Financial Services Sectors

September 15, 2014

The United States has further expanded the scope of its Ukraine-related sanctions and has also imposed new sanctions on Russian financial institutions, energy and defense companies. On September 12, 2014, pursuant to its authority under Executive Order 13662, the U.S. Department of Treasury broadened existing sanctions in Russia’s energy and financial sectors and increased the number of sanctioned entities in the energy and defense sectors. We explain the new sanctions and the practical ramifications for U.S. Persons in this Alert.

Amendment To Directive 1: Financial Sector Sanctions

Since July 16, 2014, U.S. Persons have been prohibited from transacting in, providing financing for, or otherwise dealing in debt with a maturity of longer than 90 days or equity, if that debt or equity was issued on or after July 16, 2014 (respectively, “New Debt” or “New Equity”), for any named person on the Sectoral Sanctions Identifications List (the “SSI List”), their property, or their interests in property, subject to Directive 1. Under an amendment to Directive 1, the U.S. has reduced the maturity period for New Debt from 90 days to 30 days.

The U.S. also added Russia’s largest bank, Sberbank of Russia, to the SSI List, which, for purposes of Directive 1, already includes the Bank of Moscow, Gazprombank, Russian Agricultural Bank, Vnesheconombank and VTB Bank, as well as entities that are 50% or more owned by these banks.

Amendment to Directive 2: Energy Sector Sanctions

Also since July 16, 2014, U.S. Persons have been prohibited from all transactions in, provision of financing for, and other dealings in new debt of longer than 90 days maturity in connection with any named person on the SSI List subject to Directive 2, their property or their interests in property. On September 12, the U.S. added AK Transneft and Gazprom Neft to the SSI List for purposes of Directive 2, which already includes Novatek and Rosneft, as well as entities 50% or more owned by these parties.

New Defense Sector Sanctions

Determining for the first time that persons operating within Russia’s defense and related materiel sector may be subject to sanctions, the U.S. has issued Directive 3, which prohibits U.S. Persons from all transactions in, provision of financing for, and other dealings in new debt of longer than 30 days maturity issued by Rostec, a major player in the Russian defense and related materiel sector, as well as any entities that are 50% or more owned by Rostec. No restrictions have been placed on the equity of Rostec.

Also, on September 12, 2014, pursuant to Executive Order 13661, OFAC added the following Russian defense companies to the SDN list for their operations in the arms or related material sector in Russia: (1) Almaz-Antey Air Defense Concern Main System Design Bureau; (2) Tikhomirov Scientific Research Institute of Instrument Design; (3) Mytishchinski Mashinostroitelny Zavod OAO; (4) Kalinin Machine Plant, JSC; and (5) Dolgoprudny Research Production Enterprise.

New Energy Sector Sanctions in Directive 4

In this latest round of sanctions, the U.S. sharpened its attack on Russia’s oil and gas exploration industry. Directive 4 prohibits U.S. Persons from directly or indirectly providing, exporting, or reexporting any U.S. or non-U.S. goods, services (except for financial services), or technology to parties subject to this directive, in support of exploration or production for deepwater (more than 500 feet), Arctic offshore, or shale projects in Russia or maritime areas claimed by Russia that have the potential to produce oil. The parties subject to this directive are five Russian energy companies – Gazprom, Gazprom Neft, Lukoil, Rosneft, and Surgutneftegas, as well as any entity that is 50% or more owned by these parties.

Projects that have the potential to produce oil and gas are subject to Directive 4. Those projects that only have the potential to produce gas are not subject to the Directive. Projects unrelated to oil and gas production are similarly not targeted. The kinds of services sanctionable under Directive 4 include, but are not limited to, drilling services, geophysical services, geological services, logistical services, management services and modeling capabilities. Financial services, such as clearing transactions or providing insurance for the above activities, are not included under Directive 4.

In addition, OFAC has issued General License No. 2, authorizing activities that are ordinarily incident and necessary to wind down applicable transactions prohibited under Directive 4 through September 26, 2014. Those using General License No. 2 must report on their activities within 10 business days after the completion of any wind-down activities.

Looking Ahead

U.S. Persons must use great care in their due diligence efforts relating to business with Russia. Absent de-escalation of the situation in Ukraine, sanctions may continue to expand as part of the U.S. government’s effort to isolate Russian from the global financial system. This is not to say that business with Russia needs to be avoided altogether. The sanctions to date are narrowly tailored to specific industries and entities named to the SSI List. Such entities are not SDNs, and accordingly their property or interests in property have not been blocked. However, this does not mean that every entity named to the SSI List in the future will be absent from the SDN List. As always, proceed with care when considering business dealings with entities in the financial services, energy, defense and related materiel sectors and conduct thorough due diligence. Transactions and investments should be carefully evaluated to ensure compliance with U.S. law.

If you have any questions or concerns about this alert, or U.S. sanctions generally, please contact Bruce G. Paulsen (212-574-1533) or Michael W. Broz (212-574-1272) at Seward & Kissel.