Norilsk Nikel

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UNIVERSIT COMMERCIALE LUIGI BOCCONI

MMC Norilsk Nickel Russia

Corporate Governance (a.y. 2012/2013)Cod. 20123

Antonio Mercurio 1239284


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ABSTRACT

The Research examines the History and evolution of a Russian company considered strategic

to the Russian government, Norilsk Nickel. The study outlines how the Corporate Governancepractices of the company have been influenced by the Russian economic model, underlyingthe areas where the governance is particularly weak. The main results show: stronginvolvement of the government in the management and ownership of the company; fault ofthe traditional corporate governance mechanisms such as independence of the supervisoryboard, and separation between ownership and control; the typical agency problem formcharacterizing highly concentrated ownership structures with limited safeguard of minorityshareholders; presence of control enhancing mechanisms.


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ContentsMMC NORILSK NICKEL ....................................................................................................................................... 1

The Privatization ............................................................................................................................................ 3

THE CONTEXT .................................................................................................................................................... 4

OBJECTIVES, STRATEGIES AND PERFORMANCE ................................................................................................ 6

THE OWNERSHIP ............................................................................................................................................. 13

The Years From 1999 To 2006 ..................................................................................................................... 14

American Depositary receipts...................................................................................................................... 15

The Years From 2007 to 2012...................................................................................................................... 15

Recent Developments ................................................................................................................................. 17

CORPORATE GOVERNANCE ............................................................................................................................. 17

CONCLUSIONS ................................................................................................................................................. 22

BIBLIOGRAPHY ................................................................................................................................................. 24


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MMC NORILSK NICKELMMC Mining and Metallurgical Company Norilsk Nickel is a Russian mining and smelting

company. It is headquartered in Moscow and is the world's leading producer of nickel andpalladium and it is ranked among the worlds top ten copper producers. Its products portfolio

also comprises platinum, cobalt, chromium, rhodium, silver, gold, iridium, ruthenium,selenium, tellurium and sulfur.

The Group is characterized by a strong vertically integrated business model. In addition tooperating assets, the Company possesses sales and marketing network in the major regions ofthe world, energy assets ensuring the security of energy supply to the Companys operationsand proprietary research and development assets. It is possible to identify seven mainbusiness units (Mining and Metals, Sales, Geological, Energy, Transportation and Logistics,Research and Development and Support) and place them within 3 main operational

Mining and Metals Unit: includes mining, concentration and metallurgical assetslocated in Russia in the Taimyr and Kola Peninsulas, in Australia, Botswana, Finlandand South Africa.

Sales Unit: includes a network of sales and representative offices located in Russia, theUK, China, USA and Switzerland, involved in the marketing and sales of the Groups

main products.

Geology Unit: conducts activities aiming at surveying and estimating new deposits ofthe main metals and technological raw materials, exploring new and current depositsto provide ore reserves for the Groups mining and smelting facilities.

Energy Unit: includes several energy production plants and utility companies focusedon securing energy supplies for the Group, the Norilsk industrial and Taimyr (Dolgano-Nenets) municipal regions.

Transportation and Logistics Unit: comprises several maritime, land and airtransportation fleets, which primary objective is to carry out all of the Companyscargo in its agreed volumes and within the agreed time limits in the most cost efficientmanner.

Research and Development Unit: takes care of the implementation of surveying,scientific-researching, experimental-constructional works and technical-economicalresearches directed to reduce the operating costs.

Support Unit: supporting activities to the core operations.The Complex Organizational Structure of the group is clearly summarized in the diagrambelow.


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Organizational Structure

The Group core business is operated by the first three business units through prospecting,exploration, extraction, concentration and processing of mineral resources; production,marketing, and sales of non-ferrous and precious metals. These business units account formore than 90% of Revenues as of December 2011.

Norilsk Nickels production facilities are located on three continents and in five countries:

Russia, Australia, Botswana, Finland, and South Africa. The main production units are: thePolar Division, located in the Taimyr Peninsula, and the Kola Mining and MetallurgicalCompany, located in the Kola Peninsula.

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Norilsk Nickels Main Assets

The birth of Norilsk Nickel was pushed by the abundance of mineral resources in the SovietUnion territories. The increasing mining and exploration activities finally led in 1935 to theconstitution of the Norilsk Combine and the beginning of Soviet Unions biggestmining andmetallurgical complex. A decisive factor in the growth of the company has been represented

by the Second World War and the dramatic increase in demand driven by the heavy industry.By 1953 the group was producing 35% of the Soviet Unions total nickel output, 12% of itscopper, 30% of its cobalt and 90% of its platinum group metals. On November 4, 1989 theCouncil of Ministers of the USSR passed a resolution on creation of the State Concern for Non-Ferrous Metals Production Norilsk Nickel. The State Concern brought together the Norilskcombine, the Pechenganickel and Severonickel combines, the Olenegorsk mechanicalworks, the Krasnoyarsk non-ferrous metal processing works, and the GipronickelInstitute.

The PrivatizationOn June, 30 1993, the Russian State Concern for the Production of Non-Ferrous and Precious

Metals Norilsk Nickel was transformed by a decree of the President of the Russian Federationinto the Russian Joint Stock company (RAO) Norilsk Nickel for Production of Non-Ferrous andPrecious Metals. The privatization process of Norilsk Nickel started very slowly in thefollowing year. Although, the shares of the company were distributed to the labor force and toprivate investors, the control package composed of 38% of the shares (51% of the votingrights) remained in the hands of the state. In 1995, the collapse in the price of nickel posedserious treats to the company survival as the company was already heavily indebted and withliquidity problems. For this reason, in November 1995, the control packet of shares in the RAO



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Norilsk Nickel was sold to Uneximbank through an auction process. Uneximbank held thepossession until August 97, when Swift, representing Uneximbank itself, became owner for

270 million dollars consideration.In 2000, a restructuring process of the company was launched in an attempt to improve theperformance of the company and increase the interest of investors. In 2002, the companywent public on the Moscow stock exchange and began a process of development of itsportfolio of investments in other companies with the 2003 acquisition of 55.4% of StillwaterMining Company, the only producer of palladium in the United States, and the incorporationof Polyus gold in 2005, the largest Russian producer of gold. The cross-boarding acquisitionscontinued until 2007 and transformed Norilsk Nickel in a large multinational company.Another crucial point in the restructuring process was Norilsk Nickel listing on foreign stockexchanges (OTC in the US, International Order Book Unlisted Section of LSE and OTC-sectionof the Berlin-Bremen Stock Exchange) that allowed the circulation of Norilsk Nickel sharesabroad and improved systems of Corporate Governance adopted by the company.

THE CONTEXTThe stock market has played an irrelevant role in the short history and evolution of Russiancorporate governance. During the Soviet Union, the government ruled out the possibility ofprivatizing companies considered strategic, such as those operating in the natural resourcessector. This system based on state control of investment and public ownership of industrialassets has led to a slow economic development compared to U.S. and European countries. Asudden, but messy economic development began with the fall of the Soviet Union. Between1991 and 1992, with the collapse of the Soviet Union and the Perestroika (economic reformsstarted in 1987), a privatization process began and gave impetus to the Russian economydevelopment; the government, however, continued to hold a significant amount of shares in

most of the strategic sectors. The rest of the shares were entrusted to investment funds andinstitutional investors. In December 1995, following an urgent need for financing, the Russiangovernment began an exchange policy called "loans for shares". This scheme allowed thegovernment to swap the equity of the companies in its possession for loans made bycommercial banks. One of the main actors of this policy was Vladimir Potanin, head of a majorRussian commercial bank (Uneximbank), whom at this stage became a shareholder of NorilskNickel acquiring the controlling stake of 38% (previously held by the state). Between 1992and 2003 more than 140,000 state-owned enterprises were privatized, of which 31,200became Joint Stock Company.

This privatization process favored the ownership concentration in the hands of oligarchs,internal managers and employees, virtually eliminating agency costs related to opportunistic

behaviors of outside directors. The Russian privatization process showed several similaritieswith what happened in France in the 80s. The French government made sure that the controlpackets of the most important national companies were acquired by a stable group ofinvestors (hard core), and maintained close relations with them. The Russian government wasaware that a strong ownership concentration by one group of individuals would haveinfluenced the Board and the Top Management. Nonetheless, the government wanted toreward the stability of corporate governance, even reducing the independence of the twobodies.


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The privatization process led, therefore, to a strong increase of Russian oligarchs power: menwho, at the end of the Soviet era, became rich through illicit trade of import products,

including jeans and personal computers, which were sold on the black market, obtaining highprofits. These Figures were often linked to state officials, and sometimes had also relationswith members of crime organizations. In the years following the end of the Soviet Union, theoligarchs strengthened their relations with the govern Yeltsin, achieving great benefits, suchas buying state assets at prices much lower than the market benchmark. As a matter of fact,the ownership structure of the new privatized companies was characterized by the presenceof consolidated majority stakes that allowed a strong company control.

Ownership Concentration in Russian Listed Companies

In 2002, the Russian government adopted a code of corporate governance in order to enhancethe attractiveness of investments in Russia. This code had a dual impact on the policies ofRussian companies: on the one hand, it has provided guidelines to enable them to initiate aprocess of corporate governance accountability, on the other hand was an instrument ofpolitical pressure used by the state to provide greater protection to shareholders minoritiesand to regulate dividends distribution policies. In this context, Norilsk Nickel has been one ofthe companies to be more influenced by these new policies. As a matter of fact, it presents arisk profile of corporate governance under the national average, although this is considered tobe well below that of other major industrialized countries.

The companies listed on the Moscow stock exchange (MICEX-RTS) are c. 700. This is a veryfew number, considering the size of the country and its potential. Despite the crisis of the 90s,the exit from communism, the current crisis, the high level of corruption and organized crime,Russia, thanks to its size and natural resources, is destined to be one of the main players in theinternational economy.



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OBJECTIVES, STRATEGIES AND PERFORMANCEThe main strategic goal of Norilsk Nickel is to strengthen its leadership in the mining and

metal sector and establish itself between the top 5 major international miners. The strategyimplemented to achieve this goal is based on: Geologic exploration, development, andacquisition of large mineral deposits in countries and regions where the Company has orintends to obtain competitive advantages. Rational approach to its unique mineral base andstability of operating expenses; Safeguarding the Companys key competitive advantage as thelowest-cost nickel producer Stability and security of the Companys core Russian assets bywarranting infrastructure and services costs at competitive levels.

The graph below clearly shows how the group operates in different continents through itssubsidiaries support.

Business Operations Flow

Norilsk Nickel's offer is addressed mainly to companies, that is, the companys commercialtransactions are characterized by a B2B (business to business) scheme. The companys sales,as shown by the map above, are spread globally and this obviously exposes the business to an

exchange-rate risk. The map shows both the position of the various customers of the groupand the number of buyers interested in specific products. Another relevant data that the mapunderlies is that the major product sold by the company is nickel. Despite a broaddiversification of its product portfolio and of its offer, the group, considering the profitperformance heavily influenced by nickel sales is constantly exposed to the volatility in theprice of nickel.



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Companys Sales Formatted: Font: +Headings (Cambria), 16 pt,Bold, No underline, English (U.S.)


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The company, recognizing the scale and complexity of the environmental issues related to itsactivity, considers environmental protection to be an integral part of its business and strivesto ensure compliance with all international and Russian laws and that resources are used in asustainable manner. Ecologically friendly production and preservation of environment are toppriorities for the management of MMC Norilsk Nickel and the Company is committed tominimize its environmental footprint through gradual reduction of emissions and increasedutilization of industrial waste. In 2011, the company has spent about USD 590 million (16%increase YoY) in environmental projects. Nevertheless, environmental organizations, amongothers, claim that the company environmental efforts are not sufficient. The company plays avital role in the economy and social life of the regions in which it operates, considering thatthe population of the city of Norilsk is almost entirely employed in the activity of NorilskNickel.

SWOT Analysis

The table above provides an overview of the main strengths and weaknesses of the company.The matrix shows that one of the main strengths of the company is its strong market position.As a matter of fact, Norilsk Nickel is, as previously said, the world leader in nickel (22% ofglobal production) and palladium production (38% of global production) and it is responsiblefor 9% of the platinum and 3% of copper worlds production (one of the top four producers inthe world). The enviable market position and diversification of product lines is one of the

competitive advantages of Norilsk Nickel. Since 2004, one of the groups main aims has beento develop its own independent transportation system. This strategy has made Norilsk Nickel,the only company to own a fleet of five ships that can guarantee transports in the Arctic area.A well-developed transportation unit has given the group increased flexibility in its operatingcosts, which in this industry certainly constitutes a relevant competitive advantage.

Strengths Weaknesses

Strong Market Position Developed transport and logistics units (Arctic

fleet)

Lowest Cost Nickel producer

Dependence on third parties for the supply ofraw materials

Concentration of investments in Non-Government Pension Funds

Corporate Governance (Shareholders conflict)Opportunities Threats

Strong portfolio of growth opportunities bothdomestically and internationally

Vertically Integrated system of production asset Geographic dispersion of production facilities

Environmental Regulation Currency risk Political Risk Disruption of operations due to extreme weather

conditions

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Position on Key Markets by production

The main weaknesses in Norilsk Nickel are related to conflicts between its shareholders andcorporate governance issues affecting management efficiency (Corporate Governancesection). Moreover, a poor investment policy that concentrated all the investments in non-governmental pension funds entrusted to a single asset manager, Rosbank, is likely the resultof a conflict of interests. The low yields achieved by Rosbank and the low diversification of

the investments produce a risk-return combination that seriously penalizes the group. As amatter of fact, it would be more scope for the company interests to rely on various operators,preferably "independent". Finally, The companys processing facilities depend on theavailability of raw materials, some of which are supplied by third parties that the companydoes not control. If there is a shortage of these raw materials, Norilsk Nickels processingfacilities may not be able to run at full capacity.

The company 3 main strategic pillars try to exploit the opportunities provided by:

Growth of output in Russia and Finland that aims to +19% in Nickel, +49% in Copperand +41% in PGMs by 2025

Product diversification, adding new metals to current portfolio and lowering revenuevolatility and diversifying revenue mix

International Expansion exploiting strong existing footprint and the geographicaldispersion of production facilities.

On the one hand, the companys management has to catch the opportunities offered by themarket to pursue its expansions aims. On the other hand, it has to pay attention to the threatsprovided by environmental regulations, monetary market (conversion problems for Russian



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currency and exchange rate risk) and the opportunistic behaviors typical of corporategovernance systems not well established.

Analyzing the Norilsk Nickel performance trend, it is possible to clearly recognize a growth

pattern and the several renovations efforts that have been pursued in the last decade. Theanalysis of performance should also take into account that the sector in which the companyoperates is characterized by high investment in fixed assets, technology and research anddevelopment of new processes. Investments are essential to improve performance, improvingproduction and distribution processes in terms of low costs and high quality. The income ofthe group, ignoring the years 2001-2002 and the last two years of consolidation in 2008-2009, is characterized by a steady increase. The graph below shows that such growth has hadan exponential trend, a clear symptom of the ongoing commitment that Norilsk had inachieving its expansions goals.

Performance Trend

In 2002, as evidenced by the revenues and profit, there is a decline in performance. The 29%decrease in Revenues and the 53% decrease in Profit are mainly driven by exogenous factors.In the period 2001-2002, the role of China in the heavy industries has greatly expanded,consequently enhancing the competition of these sectors. In this period the demand forpalladium was greatly reduced. Although it was less important in Norilsk Nickel revenuecomposition with respect to nickel, also this reduction affected the companys results. The last

negative factor is related to the political expectations of a possible war in Iraq. Theseexpectations led to political instability in the country and to a downturn the entire nationaleconomy. From 2002 to 2007, the turnover steadily increases at 41% CAGR. The growthsuddenly stopped in 2007, when the global economy was badly shaken by the crisis. From2007 to 2008 the income falls. The crisis and the subsequent fall in the price of nickel have asignificant impact on Norilsk Nickel business performance. The financial statements for those



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years show clearly the difficulties that firms with substantial investment and resources ofthird parties face in times of financial crisis. The year 2008 ended with a net loss of $ 555million. The following year, the sales continued to decrease. Nonetheless, the group got a netprofit that gave signs of a small recovery in the sector and the economy, mainly driven bynational central banks policies to stem the effects of the crisis. During the crisis, the strongrelationships with the government and the banks have represented for Norilsk Nickel astrategic point in the implementation of anti-crisis measures and financial consolidation. The2009 has represented the most difficult year of the last decade. The crisis has shown that thehighest value for the company is represented by its human capital and for this reason astrategic objective should be to preserve its highly qualified personnel. In the same year, thegroup has entered a period of economic uncertainty: the price of metals increased an averageof 30%, the demand in the U.S., Europe and Asia fell, the financial markets turmoil persistedand no one had any reliable forecasts on the near future. In this climate of uncertainty, thestrong collusion with government and banks allowed the company to continue its investmentprojects focused on the modernization of production assets.

Key Financials

The table above shows the key financials for the period 2006-2011. Looking at these data isimmediately visible one of the main strengths of the company: an efficient cost managementpointed out by a strong and steady EBITDA margin.

Another interesting observation can be done looking at the Net Debt/EBITDA ratio . The ratioalways maintains a low value and in some years it is even negative since a high Cash balancemakes the Net Debt value negative. These data denote a healthy financial structure with a

good capacity to repay the debt outstanding.



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A final evidence ofNorilsk Nickels good shape is given by its Profitability Ratios. The graphabove shows the ROE, ROCE and ROA historical trends. All three ratios show positive trendsand reach extremely satisfying levels. ROE and ROCE gauge the company capacity ofgenerating returns from its capital base. The first is computed based on the equitycontribution, while the second takes into account the entire capital base. This means thatconsidering exclusively the ROE can lead to misleading conclusions, as highly gearedcompanies, unable to properly remunerate their equity, can still show high ROE levels. In this

case ROE and ROCE values are almost aligned and for this reason it is clear the capacity of thecompany to properly employ its capital base. The ROA indicates how profitable a company isrelative to its total assets and it should be quite low in a capital intensive business such asNorilsk Nickels one. This means that asset management is pretty efficient and characterizedby constant improvement.

In accordance with the dividend policy approved by the Board of Directors in 2002, theCompany is committed to allocate 2025% of its IFRS annual income to dividends. Based onthe profit performance recorded each year, the following chart shows the dividend per sharefrom 2002 to 2011.

The trend showed by the companys financials is also identifiable in its dividends history,characterized by a continuous growth and a sharp reduction during the economic crisis.

Employees are one of Norilsk Nickels key stakeholders. Every year, in order to improverelations with them, some interviews are conducted to measure their satisfaction. Accordingto a survey run by Superjob.ru among employers operating in Russia, the Polar Division ofMMC Norilsk Nickel was recognized to be the Most Attractive Employer of 2011.

Profitability Ratios (%) Formatted: Font: +Headings (Cambria), 16Bold, No underline, English (U.S.)


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THE OWNERSHIP

The ownership structure of Norilsk Nickel is very concentrated and difficult to control formarket owners, reflecting what the peculiarities of Russian capitalism are. In Russia, thebusiness activity has always been characterized by lack of transparency, making models of

corporate governance opaque and reticent with little public accountability. Consequently,redesigning the corporate governance models turns out to be rather complex and figuring outthe ownership and control history is very difficult. The distribution of share ownership ishighly concentrated, highlighting the presence of blockholders with large stakes of thecompany. In Particular, Norilsk Nickel has seen among its shareholders the presence ofPotanin and Prokhorov from 1999 to 2007, and Deripaska and Potanin yet from 2008 to 2012.These people represent three of the major Russian oligarchs. The presence of blockholders isa consequence of the of the Russian legal system incapacity to protect minority investors. Anunclear regulation that poorly limits the blockholding is due to the Russian governmentinterests in controlling the most important economic realities of the country through "close"investors. That is the case of Norilsk Nickel, in which stands the figure of shareholder VladimirPotanin, Norilsk important blockholder, and committed politician. As a matter of fact, Potanin

was First Deputy Prime Minister of the Russian Federation from August 1996 to March 1997,and in 2003 he was appointed director of the National Committee for Corporate Governance.

Dividends per Share Formatted: Font: +Headings (Cambria), 16Bold, No underline, English (U.S.)


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The Years From 1999 To 2006Analyzing the ownership structure and Top Management composition from 1999 to 2001, it ispossible to deduct that about 50% of Norilsk Nickel is under the control of Rosbank JSC, the

largest Russian commercial bank, part of the Interros group. The latter is a conglomerate thatinvests in mining, energy, finance, retail and real estate, founded in '91 by Potanin andProkhorov. The remaining shares of Norilsk Nickel were distributed among several banks,which had the role of passive investors since their participation to the management was verylimited. In 2002, following the IPO, Rosbank is replaced by several operating and financialcompanies, whose ownership was still attributable to Prokhorov and Potanin that using apyramidal control structure were able to have a strong blockholding. Despite the companylisting, the blockholders were not affected, as there was no entry among the controllingshareholders. The only relevant difference in the ownership structure is the increase of thesmall investors, as well as the investment Bank of New York with a 10.05% stake. Bank ofNew York played a leading role in the Norilsk Nickels shares diffusion in the United States

through the ADRs (American Depositary Receipt).

A similar shareholding structure increases the possibility that the controlling shareholdersuses the company for their own private benefits. This makes it particularly risky for theminority shareholders investment risky and not appealing. For this reason, it is necessarythat the company makes use of the best corporate governance practices to stimulate theinterest of investors. The period from 2003 to 2006 does not record major changes. On theone hand, Investments of Prokhorov and Potanin remain almost stable with a cumulativeshare of about 22% each. On the other hand, the share of Bank of New York increased up to27%.

Pre-Listing Ownership Structure (2001) Formatted: Font: +Headings (Cambria), 16Bold, No underline, English (U.S.)


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American Depositary receiptsAn interesting observation can be done about American Depositary Receipts (ADRs), aninstrument used by Norilsk Nickel controlling shareholders to protect their power. ADRsallow the circulation of foreign securities in the U.S. market and are typically used to limit thespread of voting rights while increasing the shares liquidity and raising funds.A foreign

investor who buys an ADR has the dual chance to hold the instrument, or convert it intocompanys shares, consequently gaining the right to vote.

The exercise price of an ADR is extremely high; therefore, most of the times, the conversionoption remains only theoretical. In addition, companies such as Norilsk Nickel do not ensurethat minority shareholders will receive timely communications about the questions discussedin the board meetings, effectively preventing their right to vote. In the specific case of NorilskNickel, ADRs were issued together with the stock market listing in 2002 with the aim ofobtaining financial resources in foreign markets, and particularly in the U.S. The ADRs issuewas subscribed by the U.S. bank Bank of New York, which supported the company in theADRs diffusion and became a major shareholder. Among the reasons that brought thecompany to issue ADRs, there was the possibility to raise funds while limiting foreign

investors to acquire control of the company easily.The Years From 2007 to 20122007 can be considered as the turning point for Norilsk Nickel, characterized by the collapseof the historic union between Prokhorov and Potanin. The will of the first to divest itsinvestment in Norilsk Nickel and focus on renewable energies had been known for a long

Post Listing Ownership Structure (2001) Formatted: Font: +Headings (Cambria), 16Bold, No underline, English (U.S.)


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time. Prokhorov stake in the company would have granted to Potanin, the absolute control ofNorilsk Nickel. But the relationships between the two Russian tycoons drastically stopped dueto a prostitution scandal that involved Prokhorov in France and led to his arrest. Because ofthe scandal, Interros did not allow Prokhorov to exploit its vehicles and reputation to realizehis renewable investments plans: this cracked the relationship between Prokhorov and theremaining shareholders of the company (included Potanin).

In response to that, Prokhorov sold his Norilsk Nickel stake to Oleg Deripaskas UC Rusal, themain Russian competitor of the group. The deal enabled Prokhorov to get 14% of the propertyof UC Rusal plus a considerable monetary consideration. Thanks to the participation obtainedby Prokhorov, UC Rusal arrived to hold the 25% of Norilsk Nickel, the 9% through directpossession and the remaining part through a financial subsidiary. After that, the property ofthe company was no longer linked to a single large blockholder, but was now characterized bytwo of equal force with a very different strategic vision.

With UC Rusal deal onwards, a strong shareholders conflict hit the company, makinggovernance difficult and stopping the company from fulfilling its potential.

Potanin and Deripaska, the two oligarchs behind Interros and Rusal, have battled publicly andin the courts for control of Norilsk since May 2008. The dispute mired the countrys biggestmining company in lawsuits and constrained investments. During this time, Rusal has rejectedat least three offers to sell out of Norilsk since October 2010, rebuffing an $8.75 billion offer

from Norilsk itself for 15 percent in September 2011.Rusal has called many times for the ouster of Norilsk CEO Vladimir Strzhalkovsky, claimingthe former chief of Russias tourism agency lacked mining industry experience. Deripaska also

clashed with Potanin over Norilsks buybacks, which amounted to $9 billion in 2012, and thepercentage of profit paid out in dividends.

Ownership Structure (2008) Formatted: Font: +Headings (Cambria), 16Bold, No underline, English (U.S.)


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Moreover, the conflict between Potanin and Doripaska pushed important institutionalinvestors away. As a matter of fact, bank of New York completely divested its shares in 2011.The conflict was negatively perceived by the financial markets and the trade volumes ofNorilsk Nickel stock consistently decreased and its share price plummeted.

Recent DevelopmentsOn December 11th of 2012, it was announced that Roman Abramovichs Millhouse LLCinvestment company (MHC Services), UC Rusal and Interros have entered into agreementwhere Rusal and Interros will sell shares of Norilsk Nikel in favour of MHC Services. Rusal,Interros and Millhouse agreed to execute the transaction redeeming all quasi-treasury sharesheld by MMC amounting to 16.99% of the company. Following the redemption of all quasi-treasury shares held by Norilsk Nickel, Interros, RUSAL and Millhouse will hold approximately30.3%, 27.8% and 7% shares in MMC, respectively. As such, the parties will depositapproximately 20% of Norilsk Nickel shares to a nominated escrow account Millhouse willcontrol compliance with the partnership agreement by voting those shares.

The agreement is a clear attempt to settle the shareholders conflict, that in four and half yearshas contributed to a 48% decline in Norilsks London stock from its May 2008 high andstymied investment in expansion.

As shown by the following graph, this structure will balance the decision-making power heldby the blockholders in the board.

CORPORATE GOVERNANCENorilsk Nickels ownership structure has undoubtedly considerable implications on

corporate governance. All the economic activities carried out by this company, have always

been referred to few investors, who have greatly influenced the strategic choices and

Ownership Structure and Decision Making Influence (2013) Formatted: Font: +Headings (Cambria), 16Bold, No underline, English (U.S.)


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consequently, drew large private benefits from the company. Some of the most significant

examples date back to 2008. During this year, the company carried out a share buy-back of

4.12% without Board approval. In this transaction Norilsk Nickel acquired shares by

Interros with a 200% premium on the market price. The same year OGK3 (a subsidiary ofNorilsk) purchased 25% of Rusia Petroleum, a subsidiary of Interros, paying a much higher

price than the offer of another company, Gazprom. It should also be noted that Russian

Petroleum was next to the crisis. Finally, in the same year, Norilsk Nickel has allowed "Roza

- Khutor", controlled by Interros, to obtain a US$ 140 million loan providing one of its own

assets as collateral.

These are just a few examples of a bizarre and irrational decisions of the management teamthat has led the company to spend over US$2 billion in projects completely misaligned withrespect to the corporate interests. Most of these episodes have emerged thanks to thecomplaints of one of the main shareholders (UC Rusal), who sought to inform the minorityshareholders, in order to obtain their support. Often in Russia, similar situations remainhidden because of the failure of corporate governance systems.

At this point, a question spontaneously arises: Why cannot the Board prevent the topmanagements opportunistic behaviors?

The questions answer is quite simple. Until 2007 a single shareholder was expressing boththe Board that the top management. Then controller and controlled were headed by the sameentity. This means that the role of the Board was merely formal. As a matter of fact, it wasoften not even consulted. Someone may wonder if the independent directors were unable tonotice the conflict of interests.

At this point further questions arise: How were the independent directors chosen? Who arethey really?

We can find the answer to this question analyzing the composition of the Board since 1999. Inthe period preceding the UC Rusal presence, most of the directors were attributable toInterros, while those declared independent had links to the government.

BOARD MEMBERS (2006)

A. A. Klishas Chairman, held managerial roles both in Interrosand Rosbank

A. E. Bougrov Ex chairman Rosbank, politician

V. I. Dolgikh (Independent) Polititcian, Chairman of Moscov City Council ofVeterans of war, Norilsk Nickel board member

R. T. Morgan Board member, advisorM. D. Prokhorov Norilsk Nickel CEO from 2001, Interros

E. M Salnikova He held operative roles in Interros, Rosbankboard member from '04 to '06


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U. L. Ugolnikov (Independent) First Deputy Minister for Taxes and Levies,politician

H. S. Schimmelbusch (Independent) Metallurg holdings CEO (Interros)

Guy de Selliers (Independent) He held similar roles in other companies of thesector, UE consultant

In the table above, we see that four out of nine board members declared their independence.This data would seem to be a good governance indicator, but in reality, those who appearedindependent are linked to Interros and to the Russian government. In addition, theirremunerations were well above those of independent members of similar companies.

According to the Russian Corporate Governance Code, an independent director should be adirector who:

1. over the last three years has not been, and at the time of election to the board ofdirectors is not, an officer (manager) or employee of the company, or an officer oremployee of the managing organization of the company;

2. is not an officer of another company in which any of the officers of the company is amember of the appointments and remuneration committee of the board ofdirectors;

3. is not an affiliated person of an officer (manager) of the company (officer of thecompany's managing organization);

4. is not an affiliated person of the company or an affiliated person of such affiliatedpersons;

5. is not bound by contractual relations with the company, whereby the person mayacquire property (receive monies) with a value in excess of 10 percent of suchpersons aggregate annual income, other than through receipt of remuneration for

participation in the operations of the board of directors;6. is not a major business partner of the company (a business partner with an annual

value of transactions with the company in excess of 10 percent of the asset value ofthe company);

7. is not a representative of the government.Taking into consideration the 2006 board, two of the independent directors, although they arenot representatives of the government, they are clearly linked to it. Moreover, it is consideredindependent Schimmelbush, despite his obvious relationship with Interros.

The situation changed drastically with the arrival of the new blockholder UC Rusal. Itspresence had a significant impact on the composition of the Board:

The number of directors increased from 9 to 13, to ensure that Interros and UC Rusalrepresentatives number were balanced.

The number of independent directors increased in order to respect the previous ratioof independent directors to total board members (now 6 out of 13).

The number of directors linked to the Russian politics decreased to one. The independent directors have good skills and good knowledge of the industry.


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The new features of the Board would seem appropriate to carry out its main functions: the topmanagement control, the selection of managers, the evaluation of business performance, theallocation of financial resources, the assessment and approval of the strategic plans of thecompany. However, the presence in the board of two forces of equal weight, but withdivergent interests and objectives, has equally limited the activity of the company.

From 2008 to date, the two sides have been in constant conflict: on the one hand UC Rusalaccused Interros to continue to extract private benefits from its position as blockolder. On theother hand Interros argued that UC Rusal has an interest to make a hostile takeover in orderto merge with Norilsk Nickel and become one of the largest metallurgical and miningcompanies in the world.

The conflict reached its climax on September 2nd of 2010, when UC Rusal, through a publicletter to the Board, accused the management of irregularities in the new Board election ofJune 28th of 2010.

UC Rusal claimed irregularities in the vote and called for Interros to provide details about the

effective exercise of ADRs voting rights. The offense led to a violation of fundamentalcorporate governance rules, of the principles of transparency and of the previous agreementsbetween UC Rusal and Interros about a Board balanced structure, representative of theownership. The board of directors should ensure a balance between the two forces.

The distribution of the Board members was apparently balanced between the two parties, butthe presence of a link between Titov and VTB Bank and consequently Interros violated theprevious agreements. VTB Bank was an Interros financer and for this reason theindependence of Titov was fictitious. Despite an initial, but informal agreement betweenInterros and UC RUSAL, which should have led to the election of A. Voloshin as Chairman ofthe Board, thanks to the manipulation of the votes Interros gained more representatives. Themanagement, in strict accordance with Interros, transferred treasury shares to off-shorecompanies that voted against the election of A. Voloshin. Interros managed to manipulate thevotes thanks to its ADRs depositary role.

The new structure of the Board in the last election was as follows:

BOARD MEMBERS (2011)

A.S.Voloshin (Independent) Russian politician, Chairman of OJSC RAO from2003 to 2008

L.Bebchuk (Independent) Corporate Governance Expert

A. Bougrov Chairman, Interros Director

O. Deripaska UC Rusal Owner

M. Zakharova Interros Legal DirectorE.N.Banda (Independent) General Manager of FREETEL Capital since

2006

S.V.Barbashev General Director, Chairman of the ManagementBoard of CJSC Interros Holding Company


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B. A. Mills (Independent) Mandalay Resouces Director

C.Dauphin (Independent) He held similar roles in other companies of thesector

M. Sokov UC Rusal Strategy Director

V. Strzhalkovsky Norilsk Nickel Director

L.G. Zelkova She holds Managerial roles in endowment fundsand charity companies (Interros)

A.Moshiri (Independent) He held similar roles in other companies of thesector

The entry of UC Rusal in the ownership had also a positive impact, leading to a greateralignment with international corporate governance best practices. UC Rusal required tomanagement a greater openness of dialogue and a greater transparency in the decision-making process.

In 2009, there is the inclusion in the top management of corporate governance and metal andmining business experts. UC Rusal also claimed a major number of independent directors intothe Board and to minimize the number of managers inside. The company had already startedthis practice in 2002, when it entered the stock and had to follow the Russian Code ofConduct.

A further improvement in the system of governance can be discerned in the establishment ofnew monitoring committees.

From 2004 to 2009, the only committee of control was the Audit Committee, consisting of fourdirectors, of which 2 are independent, with the function to review the statement of financialperformance, and to evaluate the internal control systems. In 2009, the number of monitoringcommittees increased to four, with the creation of three new organs: Strategy Committee,

Budget Committee and CG, Nomination and Remuneration Committee. The first is intended toassist the Board in the definition of medium/long term strategic objectives. This implies thatthe members of this committee cannot be executives. The second, consisting of threedirectors, of which one is independent, assists the Board in policies related to finance,budgeting and business planning. The last one, made up of 4 members, of which one isindependent, sets out the guidelines for effective corporate governance.

These changes had a positive effect on business performance and the expectations that themarket had for the company.

From 2009 to 2012, the share price increased by 118%. From the graph below, it is possibleto see that it is a good result, given the substantial reduction in price that affected NorilskNickel after the sale of the shares owned by Prokhorov to UC Rusal.

As shown by its history, Norilsk Nickel is one of the companies considered strategic to theRussian economy by the government. The recent development that has led to the presence ofa new blockholder in the ownership structure is a clear move of the government to preserveNorilsk Nickel and solve the conflicts that have characterized the governance of the companyduring the last 5 years.


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The Kremlin inspired deal that should have defined a new and more rigorous path for NorilskNickel has still shown the presence of strong interests conflicts and bad corporate governancepractices as clearly visible by Ex Norilsk Nickel CEO Vladimir Strzhalkovsky Golden Parachutepayout of $100 Million, the largest in Russian History, and its replacement with VladimirPotanin, one of the main Blockholders.Though, the Russia is shifting towards the open markets economy characterizing the Westerncountries, there is a long road ahead and the role of the government in this process isessential.

CONCLUSIONSThis study examined the business and the context in which Norilsk Nickel operates. Inparticular, the descriptive analysis of the business has been revealing of significant eventsthat have characterized the development of the current ownership structure in Russia. Thecompanys strengths and weaknesses have been shown through a logical and chronologicalevolution, together with the companys governance system.

This research discussed the significance of the Russian Companies privatization process that

took place in the 90s, highlighting how the pervasive State control was still deep in thosestrategic sectors of the country's economy. Findings revealed the importance of a single largeblockholder in the Russian corporate governances structure.

The influence of the State on business violates the principles of capitalism and the freemarket. Moreover, the exercise of control over such important companies as part of a single

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group, allows the extraction of private benefits. However, should not be forgotten that astructure of this type has allowed the development and implementation of unique corporatestrategies, well-defined and in line with national interests, which led Norilsk Nickel to play akey role in the international economy. The strong relationship between State and propertyhas been essential for avoiding the development of corporate restructuring that could haveled to spin-offs, relocation and other operations that would have damaged the nationaleconomy. This could have been the possible scenario realized by a foreign investorinterested in pursuing his "rationalization" goals.

Finding clearly show that the negative effects of this model of governance outweigh thepositive effects, as property and governance structures are not consistent with the evolutionof the economy that is increasingly oriented towards globalization. For this reason, the arrivalof a second large blockholder, UC Rusal specifically, has seen as a considerable opportunity forimprovement. In particular, UC Rusal, denouncing this system, makes government strategies

company more transparent, adopting obstructionist politics. However, on the other hand,these actions have caused paralysis in decision-making and a deterioration of corporate

performance led by the interests discordance.

A clear attempt from UC Rusal to gain the control over the Company has involved thepreparation of plans directed to obtain the consent of the minority shareholders. In thisperspective, UC Rusal created a website (www.savenornickel.com) in which, in addition to thereasons for his interest in Norilsk Nickel and its plans to improve the government processes,highlights the lack of transparency in management. However, the absence of effectiveprotection mechanisms of the one share, one vote principle obstructed UC Rusal efforts.

The recent resolution of the Norilsk Nickel conflict is a clear sign of the still fundamental and

strong influence of the State in the Russian economy. The appearance of Abramovich to solvethe dispute and balance the ownership blocks into the company is the direct consequence of astrategic interest of the Russian government into the mining company. This is the proof that

only a strong intervention of the Russian government can improve the transparency of theCorporate Governance system and encourage investors to trust domestic firms. In the future,this would contribute to a considerable improvement in the economy and to theimplementation of a capitalist system typical of the modern economy. Furthermore, a gradualdevelopment of this evolution would be appropriate to allow companies, such as NorislkNickel to be ready to adapt to changes.

Ultimately, although the implementation of these radical changes appears to be a difficult goal,it is believed that the main obstacle may lie within the will of the Government and the lobbieslinked to it to engage in the capitalist system.


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BIBLIOGRAPHY

Maria Kolesnikova Interview, bloomberg Moscow

Corporate Governance and Finance in Poland and Russia; Thomas Mickiewicz; Basingstoke; New

York: Palgrave Macmillan, 2006

Organization and development of Russian business: a firm-level analysis; Tatiana Dolgopyatova,

Ichiro Iwasaki e Andrei A. Yakoviev; Basingstoke; New York: Palgrave Macmillan, 2009

A Taxonomy of Systems of Corporate Governance; Weimer J. Pape J. C.; Corporate Governance;

1999

Good governance and the misleading myths of bad metrics; Sonnenfeld J.; Academy of

Management Executive; 2004

A Survey of Corporate Governance, Shleifer A., Vishny R.W., Journal of Finance, 1997

Vladimir Potanin named Norilsk Nickel CEO in board peace deal (December 2012); The Wall Street

Journal

Mining Executive Receives Payout of $100 Million, Russias Largest Ever(December 2012); The New

York times

www.nornik.ru/en/

www.ecgi.org

www.bloomberg.com

Rusal to challenge Norilsk board elections results (July 2010); Reuters

Norilsk Nickel plants 20 billion $ program to boost artic output ( October 2010);

www.bloomberg.com/news

Norilsk Nickel, Razgulay, Silvinit May move: Russian Stock Market Preview;www.bloomberg.com/news

Russia Eyes Norilsk Nickel Stake Amid Ownership Fight (July 2010); www.businessweek.com/news

Oleg Deripaska ordered by Kremlin to sell out Norilsk Nickel (October 2010); Global post

Vladimir Potanins offer to Buy Out Rusal Is Beginning of End to Feud (October 2010);

www.bloomberg.com

Deripaska loses Norilsk Nickel fight (October 2010); Asia Times

Database: Amadeus, Bloomberg, Business & Industries, Business Source Complete, Factiva, Orbis.
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