Initial findings from accountants' review and other updates
22 November 2018
Urals Energy PCL ("Urals Energy" or the "Company" or the "Group")
Initial findings from accountants' review and other updates
Dissemination of a Regulatory Announcement that contains inside information according to REGULATION (EU) No 596/2014 (MAR).
Further to the Company's recent announcements, the board of Urals Energy (the "Board"), the independent exploration and production company with operations in Russia, provides the following updates.
Initial findings from the accountants' review
The initial stage of the independent review of transactions by Urals Energy's 98.56% owned subsidiary, JSC Petrosakh ("Petrosakh"), that are outside of the ordinary course of business, has been completed. The independent review has been conducted by Crowe Russaudit LLC ("Crowe").
Crowe's report (the "Report") has been prepared as part of services that did not constitute an audit or a review (though Crowe did review primary bank account statements). Crowe has relied entirely on the information provided to it by the Company and accordingly Crowe does not offer any assurances about the accuracy of the information provided to it by the Company and which served as the basis of its Report.
The Report principally covers loans and transactions by Petrosakh outside the ordinary course of business and which were not approved by the Board in accordance with the Group's established procedures. Among those codified and previously adhered to procedures is the practice whereby the Company's Chief Executive Officer (Leonid Dyachenko) is to have double key authorisation together with the Chief Executive or Director General of each subsidiary to approve and make expenditures. Moreover, the Board has the sole authority to approve or decline investments made outside the ordinary course of Group's oil and gas business. The Report also shows the effects of these loans and transactions on the Company's cash flows during the period from 1 July 2018 to the end of October 2018.
The Company's previous announcements have indicated that loans and transactions by Petrosakh, authorised by its President Mr Sergey Kononov but not by the Board, were, to the best of the knowledge the Board at that time, in the order of approximately US$3 million, although in the Company's announcement of 1 November 2018, the Board indicated that it could not exclude the possibility that further transactions that had not been authorised by the Board would emerge once Crowe's review had been undertaken. The Report indicates that the total loans by the Group that have not been authorised by the Board are in the order of approximately US$5.1 million, further details of which can be found below.
Loans outside the ordinary course of business involving the Kholmsk commercial seaport (the "Port")
Crowe has identified a number of loans and transactions concerning the Port, which as previously announced, were made on the authority of Mr Sergey Kononov, the President of Petrosakh, but without reference to the Board.
These loans and transactions include loans to Mr Y L Freidis, which are now understood to represent a total balance of approximately Russian Roubles 96 million (equivalent to approximately US$1.45 million) (the "Freidis Loans"). Mr Freidis became an employee of Petrosakh before the original investment by Petrosakh of a 23% voting interest in the Port.
The Freidis Loans are unsecured and carry an interest rate of 7.5%, which is below the cost of Petrosakh's own borrowings. The Freidis Loans are now understood to be repayable in June 2019. The Board believes that Mr Freidis would not have been considered as suitable for such a loan in any circumstances, and certainly not in the context of the Port and on the basis authorised by Mr Kononov. Crowe has raised the question as to whether the Freidis Loan should be impaired, which the Board is considering.
Crowe has identified the disposal of part of the Group's shareholding in the Port, for Russian Roubles 22 million (equivalent to approximately US$0.17 million) to JSC Lipetsk Distillery Company (the "Distillery"), of which Russian Roubles 11 million are on deferred payment terms. The Report notes the reason for investment in the Port by the Distillery, given to Crowe by Mr Kononov, was that the Distillery required facilities at the Port. However on investigation, the Distillery is not operating as such, and its business is a warehouse.
The Report notes that the price at which shares in the Port were re-sold to the Distillery was at a substantial discount to the highest price paid by Petrosakh for the shares that it purchased in the Port (including both the original investment of a 23% voting interest in the Port that was authorised by the Board, and the subsequent purchase of further shares in the Port under the instructions of Mr Kononov alone). The discount is of the order of Russian Roubles 35 million (equivalent to approximately US$530,000). The owner of the Distillery is an individual with whom Mr Kononov has been involved in other business transactions.
Petrosakh has also made loans to the Port directly. These loans, which were not authorised by the Board and were only authorized by Mr Kononov in his position as President of Petrosakh, total approximately Russian Roubles 97 million as at the end date of the reporting period (equivalent to approximately US$1.5 million). These loans to the Port carry an interest rate of 17% and are repayable on dates over June to September 2019. The Board would have only approved Petrosakh making loans to the Port that were proportionate and pro rata to Petrosakh's original a 23% voting interest in the Port. This would be the equivalent of approximately Russian Roubles 20 million (equivalent to approximately US$300,000).
Crowe have noted in the Report that the Port is in financial distress and has only avoided bankruptcy proceedings due to Petrosakh covering its debts as the Port's creditors pursue it in the Russian courts. The Port still has other substantial liabilities and it is not clear whether Petrosakh will be able to recover its loans. As a result, the Board is considering the possible impairment of all the above loans and deferred payments.
Petrosakh's total exposure to the Port is approximately Russian Roubles 204 million (equivalent to approximately US$3 million) in the worst case, if all of the Group's loans and deferments were not to be recovered.
Other loans outside the ordinary course of business.
The Report identifies two other parties who have received a total of approximately Russian Roubles 122 million (being equivalent to approximately US$1.85 million) in loans from JSC Articneft ("Arcticneft") and Petrosakh, without security, on Mr Kononov's orders and without Board approval. Further details of these loans are provided below. The Board believes that further investigation is required into the reason that the Group made these loans. The Board notes that all of the companies involved as the borrowers are, or were, clients of Kamchatka Bank, with which Mr Kononov is associated. The Board are considering making the necessary impairment provisions against these loans.
Loans to Igrovoy Kontinent LLC / PRO-ARTS LLC
On 24 May 2016, Arcticneft issued a short-term loan to a company named Igrovoy Kontinent LLC ("Igrovoy Kontinent") amounting to US$360,000. . The interest rate according the loan agreement was 11%. The Board are of the opinion that the justification for the loan provided to Crowe by Mr Kononov was not justified by the facts presented, and other facts established by the Board, and is not credible. The Board further believes that there is evidence to indicate that Igrovoy Kontinent had previously been owned by Mr Kononov prior to the loan being made.
On 15 March 2017, Arcticneft assigned the loan issued to Igrovoy Kontinent to PRO-ARTS LLC ("PRO-ARTS"), in accordance with a loan assignment agreement. As at 15 March 2017, US$360,000 was equivalent to approximately Russian Roubles 23.1 million. As at 31 October 2018, PRO-ARTS has not repaid its debt to Arcticneft. According Mr Kononov's explanations, Arcticneft assigned the loan to PRO-ARTS to eliminate any connection with Igrovoy Kontinent as a participant in the tender. Crowe received no answer as to whether PRO-ARTS will repay the sum of Russian Roubles 23.1 million to Arcticneft.
Neither Igrovoy Kontinent nor PRO-ARTS appear to Crowe, on the basis of their publicly available accounts, to have the means to repay the loan. The Board believes that one of the shareholders of Pro-Arts is associated with Mr Kononov.
Loans to Maxitrans LLC
The second set of loans, for approximately Russian Roubles 95 million (equivalent to approximately US$1.44 million), were made by Petrosakh to a company named Maxitrans LLC ("Maxitrans") and were made in 2017. These loans to Maxitrans carry interest rates of 9.5%, have no security, and are repayable on dates over June to November 2019.
The Board do not consider the reasons given to Crowe for the loans to Maxitrans to be credible, given their investigation of the business of Maxitrans. This company already had substantial liabilities before the loan was made and it would appear that it is unlikely to be able to repay its loans to the Group.
Finally, Crowe has noted that Mr Kononov has authorised the Group to make loans totaling Russian Roubles 12 million (equivalent to approximately US$0.18 million) to two individuals associated with him and who are advisers to him personally. One of these loans, which has recently become due, was not repaid at its maturity date and the Board are reviewing whether an impairment is required.
Petrosakh issued two loans to Bondaruk Alla Borisovna which amounted to Russian Roubles 5 million and Russian Roubles 2 million with due dates of 15 November 2018 and 30 November 2018 respectively. The interest rate of both loans is 7.5%. The loan of Russian Roubles 5 million has not been repaid yet. Petrosakh issued a loan to Shvets Roman Viktorovich which amounted to Russian Roubles 5 million with a due date of 25 December 2022. The interest rate of the loan is 7.5%.
Conclusions of the Board
Having reviewed the Report and made its own investigations of Mr Kononov's explanations, the Board believes that a total that is the equivalent of approximately US$5.1 million of loans have been made by the Group on the authority of Mr Kononov (without Board approval), and some or all of this may be irrecoverable. Mr Kononov, through his legal advisers, has stated that as the President of Petrosakh he had authority to undertake these actions under Russian law, notwithstanding the established governance procedures of the Group or any potential illegality of his actions under applicable law.
As a result, without prejudice to any other action that may be taken by the Board, the Board has proposed that Mr Kononov must take personal responsibility for the loans and transactions made by the Group that were not authorised by the Board (as detailed above), and organise their prompt repayment, failing which he must repay Petrosakh the full amount as soon as practical and must deliver acceptable evidence without delay that he has the means to do so.
The Board has also asked Mr Kononov to resign from his position as the President of Petrosakh immediately. We await his response.
The Board has decided to delay the implementation of the review of the short-term working capital requirements of the Group for the forward-looking period to 30 June 2019 by the London affiliate office of Crowe, Crowe U.K. LLP, until Mr Kononov has indicated whether or not he will take personal responsibility for the loans and transactions made by the Group that were not authorised by the Board and organise their prompt repayment.
Tanker shipment update
The price per barrel for the tanker shipment announced on 9 November 2018 has been confirmed as US$65.9 per barrel. The net proceeds from this shipment are anticipated to be approximately US$0.7 million, after taking into account all duties and taxes, freight and other transport costs, demurrage and similar charges (and the repayment of all loans and interest due to Petraco Oil Company Limited).
Group working capital
Given the factors referred to above, especially the lower oil price achieved by the recent tanker shipment, the Board now believes that the Group's working capital position over the coming months will be more constrained than indicated in the Company's announcement of 9 November 2018 and will remain subject to a number of variables. The Board now believes that the Group will likely face a total working capital deficit of up to approximately US$4.5 million in the coming months, unless the loans and transactions that were not authorised by the Board (as referred to above) are repaid in the near term.
Chairman Andrew Shrager commented:
"The results of the Report have confirmed the information that the Board had been able to obtain concerning transactions relating to the Port, but it is extremely annoying that the exercise has disclosed further loans to which the Board would never have agreed. The breakdown of the Group's governance procedures under Mr Kononov is unforgivable and we expect Mr Kononov to resign, as well as immediately repay the sum of approximately US$5.1 million. It should be remembered that Mr Kononov represents the holding of some 44% of the shares of the Company, which we believe are now held to the benefit of his daughter by a trust. This makes Mr Kononov's actions even more difficult to understand. We will begin the search for a new President for Petrosakh shortly."
Further announcements will be made as appropriate.
For further information, please contact:
Urals Energy Public Company Limited
Andrew Shrager, Chairman
Leonid Dyachenko, Chief Executive Officer
Tel: +7 495 795 0300, www.uralsenergy.com
Allenby Capital Limited, Nominated Adviser and Broker
Nick Naylor / Alex Brearley
Tel: +44 (0) 20 3328 5656, www.allenbycapital.com
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