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UNITED STATES DISTRICT COURT SOUTHERN DISTRICT OF NEW YORK
x In re YUKOS OIL COMPANY SECURITIES LITIGATION
This Document Relates To:
ALL ACTIONS.
: : : : : : : :
Civil Action No. 04-CV-5243 (WHP)
CLASS ACTION
CONSOLIDATED AMENDED COMPLAINT FOR VIOLATIONS OF THE FEDERAL SECURITIES LAWS DEMAND FOR JURY TRIAL
x
Lead Plaintiffs, Roxwell Holdings Limited (“Roxwell”), Mykola Buinyckyi, and Parsimony
Ltd. (“Parsimony”) (collectively, “Lead Plaintiffs”), individually and on behalf of all other persons
similarly situated, by their undersigned attorneys, allege upon personal knowledge as to themselves
and their own acts, and as to all other matters, based upon an investigation made by their attorneys
that included, among other things: (i) review and analysis of the public filings of Yukos, including
its filings with the Securities and Exchange Commission (“SEC”); (ii) review and analysis of the
findings of the Russian taxing authorities and the rulings of the board of arbitration; and (iii) review
and analysis of news articles, press releases, and analysts reports by or relating to Yukos.
Based upon the evidence already developed, Plaintiffs believe that further substantial
evidentiary support will exist for the allegations in this Consolidated Amended Class Action
Complaint after a reasonable opportunity for discovery. Most of the facts supporting the allegations
set forth herein are known only to the defendants or are exclusively within their custody and/or
control.
NATURE OF THE ACTION
1. This is a securities fraud class action on behalf of purchasers of the common stock
of Yukos Oil Company (“Yukos” or the “Company”); Yukos American Depository Shares; and
Yukos equity linked convertible bonds (collectively, “Yukos Securities”), between January 22,
2003 and October 25, 2003, inclusive (the “Class Period”), seeking to pursue remedies under the
Securities Exchange Act of 1934 (the “Exchange Act”).
2. Yukos describes itself as the “number one oil producer in Russia.” Yukos was
created in 1995 when defendant Mikhail Khodorkovsky acquired the controlling stake in certain oil
producing assets of the former Soviet Union for $309 million, in an auction run by his bank, the
predecessor of defendant Menatep Ltd (“Menatep”). In 1999, Yukos had been accused of quashing
minority shareholders, diverting profits and evading taxes by using a “transfer pricing scheme”
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similar to that described below. At that time, Defendants were able to use their close relationship
with the government led by Boris Yeltsin to quash multiple governmental crackdowns on their
activities.
3. After the March 2000 election of Vladimir V. Putin as Russia’s president, Yukos
claimed in its public filings and press releases that, in order to attract Western capital, it would
change its business practices by adopting new corporate governance standards. In that regard, “to
enhance the transparency and user friendliness of the Company’s financial statements, YUKOS
officially changed its reporting currency to U.S. dollars with the release of its first quarter earnings
in 2002.” In its public filings, Yukos asserted that it “is proud of the leadership role it has played in
building confidence in a new Russian economy.”
4. Despite its self-proclaimed “transparency,” Yukos provided purchasers of Yukos
Securities with anything but a clear picture of the risks that they faced by investing in Yukos.
5. At the start of the Class Period, Yukos and the defendants represented, among other
things: (i) that the Company’s third quarter 2002 net profits had increased 6.6% to US $850
million; (ii) that those profits were “pushed down” as a result of the Company’s recognition of
certain taxes; (iii) that the tax payments were a “one time event”; and (iv) that Yukos was
reviewing its tax accounting and expense policies so as to assure accuracy and compliance.
6. Unbeknownst to investors, however, the Company’s claimed net profits were the
result of an expansive tax evasion scheme pursuant to which Yukos failed to pay tens of billions of
dollars in taxes due and owing to the Russian government.
7. As described below, under Yukos’ tax evasion scheme, Yukos created at least
seventeen sham, alter-ego companies in jurisdictions where those companies would be required to
pay little or no taxes. Rather than admitting that Yukos sold oil to purchasers at market prices,
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Yukos made bookkeeping entries that indicated that it sold oil to those sham companies at well
below-market prices. Yukos paid taxes only on those below market sales. Yukos then would
report that the sham companies, in turn, sold the oil to ultimate purchasers at market prices. The
sham companies failed to pay taxes to the Russian government for profits earned on those sales.
Defendants then funneled those profits back to Yukos through defendant Menatep and its
subsidiaries.
8. Although defendants knew both that this tax evasion scheme violated Russian law
and that the Russian government had been prosecuting other companies, including oil companies,
that engaged in similar schemes, Yukos never adequately disclosed the risks associated with the
scheme to investors.
9. Moreover, Yukos never adequately disclosed the risks that investors faced as a result
of defendant Khodorkovsky’s political activities. Russian President Vladimir Putin expressly
warned Khodorkovsky in March 2000 that if he did not “stay out of politics,” Khodorkovsky and
Yukos (and, therefore, Yukos’ investors) would face dire consequences. Despite this warning,
defendant Khodorkovsky began a political assault on Putin and the Russian government.
Regardless of whether Khodorkovsky had a right to engage in his political activities, investors
clearly had a right to know the risks that they faced as a result of these activities. However, Yukos
never adequately disclosed these material risks to investors.
10. Indeed, the seeds sown by Yukos’ tax evasion scheme and Khodorkovsky’s political
activities were realized, on October 25, 2003, Russian authorities arrested Khodorkovsky, the
Company’s largest shareholder and CEO, and charged him with fraud, embezzlement, and evading
taxes on hundreds of millions of dollars that were owed to the government. At that time, the
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investigation into Yukos’ tax evasion scheme by the Russian Ministry of Taxation (the “Tax
Ministry”) also became public.
11. Days later, the seriousness of the Yukos situation worsened for investors after it was
also reported that Russian authorities had seized control of defendant Khodorkovsky’s 44% interest
in Yukos. By that time, Russian authorities estimated that Yukos and defendant Khodorkovsky had
failed to pay at least $1 billion in taxes, and that the seized shares would be held as “security
against material damage.” According to at least one analyst at a Russian brokerage firm, this asset
seizure was “in line with our worst-case scenario for Yukos.” In addition, it was also reported that
London bankers, upon hearing of this asset seizure, speculated that this event could threaten at least
$1 billion in loans to the Company.
12. Shortly thereafter, the Department of Information and Public Relations of the
General Prosecutors Office of the Russian Federation completed a 30-page report which accused
defendant Khodorkovsky and defendant Platon Lebedev, both major shareholders of the Company,
of multiple fraud, tax evasion, and criminal activities dating back to the early 1990s, including:
• That Khodorkovsky had acted in concert with other members of the Company and members of Menatep Bank (a bank founded by defendant Khodorkovsky and owned by defendant Menatep), to operate a host of shell companies, the sole purpose of which was to assist the Company in illegally avoiding the payment of taxes – the US equivalent of an illegal tax shelter scheme;
• That Khodorkovsky and the other defendants, together with the sham general directors of the shell companies under their control, fraudulently engaged in the transference of huge amounts of funds through such companies for the sole purpose of avoiding the payment of taxes in violation of Russian law;
• That Khodorkovsky and Lebedev engaged in various fraudulent schemes involving a host of companies while at the same time they falsely projected that they were “new” Russian managers who no longer conducted themselves as they did in the 1990’s; and
• That Khodorkovsky and Lebedev were accused of stealing tens or hundreds of millions of dollars directly from the Company and its subsidiaries.
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13. Defendants Khodorkovsky and Lebedev subsequently were indicted as the creators
and main beneficiaries of the tax evasion scheme described in ¶¶60-84 below.
14. In December 2003, the Tax Ministry, after conducting a field tax audit for the tax
year 2000, served Yukos with a tax bill for $3.4 billion for back taxes – $1.6 billion for unpaid
taxes for the year and $1.8 billion for interest and penalties. According to the 126-page audit report
issued on April 16, 2004, the Tax Ministry found that defendants created a complex network of
seventeen “front companies” or “shell companies” to evade taxes on the production, refining and
sale of oil and oil products. These “front companies” were registered in regions with preferential
tax treatment to enable these companies to receive special tax exemptions, which would minimize
Yukos’ tax liability. As these shell companies were not separate legal entities but rather controlled
by Yukos, Yukos was required to recognize the full amount of the receipts associated with these
transactions for its own taxes purposes. Further it was not entitled to the preferential tax treatment
these shell organizations were granted. Accordingly, Yukos’ net income was materially overstated
and its tax liability was materially understated during the Class Period in violation of Generally
Accepted Accounting Principals in the United States of America (“U.S. GAAP”).
15. As a result of these findings, among other things, Yukos’ credit rating was severely
downgraded by Standard & Poor’s and Moody’s.
16. Shortly thereafter, in a series of rulings, the Moscow Arbitration Court found in
favor of the Tax Ministry in connection with Yukos’ tax payments and ordered Yukos to pay its
back taxes and penalties. As a result of Yukos’ massive tax fraud, the Tax Ministry found that
Yukos had used the illegal transfer pricing scheme in 2000, 2001, 2002, and 2003. In connection
with those findings, the Tax Ministry charged Yukos with additional taxes of $1.646 billion, $3.105
billion, $4.094 billion, and $3.963 billion for 2000, 2001, 2002, and 2003, respectively, and
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assessed penalties of $1.997 billion, $4.054 billion, $4.735 billion, and $3.944 billion for each of
those years. The total harm caused by Yukos’ illegal tax scheme was $27.538 billion.
17. On July 6, 2004, Yukos announced that a consortium of lenders led by Société
Générale and CitiGroup had declared Yukos in default of a $1 billion loan.
18. In an attempt to satisfy Yukos’ tax obligations, the Ministry of Justice announced
that the Russian government would confiscate Yukos’ assets, including its main production
subsidiary, Yuganskneftegaz, and billions of dollars from Yukos’ bank accounts.
19. On December 15, 2004, Yukos filed for Chapter 11 bankruptcy protection in the
United States Bankruptcy Court for the Southern District of Texas. On February 25, 2005, the
United States Bankruptcy Court for the Southern District of Texas dismissed the Yukos bankruptcy
for lack of jurisdiction.
20. On December 20, 2004, the Russian government conducted the auctions of
Yuganskneftegaz, selling it for $9.3 billion to an entity named BaikalFinansGroup.
21. As a result of the revelation of defendants’ wrongdoing, investors have suffered
massive damages as the prices of their Yukos Securities have plummeted, which has also affected
equity lined Yukos bonds. In addition to the foregoing, defendants have also now jeopardized the
continued financial and operational well-being of Yukos.
JURISDICTION AND VENUE
22. The claims asserted herein arise under and pursuant to Sections 10(b) and 20(a) of
the Exchange Act [15 U.S.C. §§78j(b) and 78t(a)] and Rule 10b-5 promulgated thereunder by the
United States Securities and Exchange Commission (“SEC”) [17 C.F.R. §240.10b-5].
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23. This Court has jurisdiction over the subject matter of this action pursuant to 28
U.S.C. §§1331 and 1337, and Section 27 of the Exchange Act [15 U.S.C. §78aa].
24. Venue is proper in this District pursuant to Section 27 of the Exchange Act, and 28
U.S.C. §1391(b). Many of the acts and practices complained of herein occurred in substantial part
in this District.
25. In addition, pursuant to the provisions of the Agreement governing Yukos’
American Depositary Receipts (“ADR”)1, Yukos has consented to personal jurisdiction for claims
arising from violation of the federal securities laws in the federal district court located in Manhattan
and has agreed to waive various objections to litigation in this court, including forum non
conveniens.
26. In connection with the acts alleged in this complaint, defendants, directly or
indirectly, used the means and instrumentalities of interstate commerce, including, but not limited
to, the mails, interstate telephone communications and the facilities of the national securities
markets.
PARTIES
27. Plaintiff ROXWELL HOLDINGS LIMITED (“Roxwell”), as set forth in the
certification previously filed in this litigation and incorporated by reference herein, purchased
Yukos Securities at artificially inflated prices during the Class Period and has been damaged
thereby.
1 In order to sell its stock on U.S. exchanges, Yukos entered into an agreement with Deutsche Bank Trust Company Americas whereby for every four ordinary shares of Yukos stock deposited, the bank would issue one ADR for trading in the U.S.
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28. Plaintiff MYKOLA BUINYCKYI (“Buinyckyi”), as set forth in the certification
previously filed in this litigation and incorporated by reference herein, purchased Yukos Securities
at artificially inflated prices during the Class Period and has been damaged thereby.
29. Plaintiff PARSIMONY LTD (“Parsimony”), a New York based corporation, as set
forth in the certification previously filed in this litigation and incorporated by reference herein,
purchased Yukos Securities at artificially inflated prices during the Class Period and has been
damaged thereby.
30. By an Order dated November 1, 2004, the Court appointed Roxwell, Buinyckyi, and
Parsimony as Lead Plaintiffs.
31. Defendant YUKOS OIL COMPANY (“Yukos”) is a joint stock company organized
under the laws of the Russian Federation. In addition to trading on the Russian stock exchange and
certain other European exchanges, Yukos ADRs trade on the Over-the-Counter Exchange (“OTC”).
Each ADR unit represents four shares of Yukos common stock. Yukos is a leading Russian
vertically integrated oil company. On December 11, 2004, Yukos filed for bankruptcy protection
under 11 U.S.C. §101, et seq. in the United States Bankruptcy Court for the Southern District of
Texas. On February 21, 2005, the court dismissed the Yukos bankruptcy.
32. Defendant MENATEP LIMITED, together with its subsidiaries and or successors,
(“Menatep”) is a limited liability company organized under the laws of Gibraltar. During the Class
Period, defendant Khodorkovsky owned 28% of defendant Menatep and defendant Lebedev owned
7% of defendant Menatep. In turn defendant Menatep owned and/or controlled 100% of Yukos
Universal Ltd (“Yukos Universal”), which in turn owned and/or controlled 61% of defendant
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Yukos.2 In addition, defendant Menatep owned and controlled each of the seventeen sham entities
involved in Yukos’ tax evasion scheme, as described in ¶¶60-84, below. Yukos, in a supplemental
report filed with the SEC on October 23, 2003, identified four of the sham companies, Yuksar,
Ratmir, Yukos-M and Alta-trade, as being owned by Menatep. Moreover, Menatep owned, in
combination with Yukos, the main bank for the tax scheme, Bank Menatep- Sankt-Peterbourg.
33. Defendant PRICEWATERHOUSE COOPERS RUSSIA, located at
Kosmodamianskaya Nab.52, Bld.5 115054, Moscow, Russia (“PwC”), is part of
PricewaterhouseCoopers International Limited (“PwC International”). Prior to and throughout the
Class Period defendant PwC served as the Company’s independent, outside auditors. Also, during
the Class Period, defendant PwC certified the Company’s 2002 year-end financial statement,
opined on the validity of Yukos’ interim financial results, and regularly provided reports to the
Board of Directors of Yukos and its shareholders.
34. Defendant MIKHAIL B. KHODORKOVSKY (“Khodorkovsky”) was, during the
relevant period, President and Chief Executive Officer of the Company as well as Chairman of the
Executive Committee of the Board of Directors and Chairman of the Management Committee of
the Board of Directors of the Company. Defendant Khodorkovsky served in these positions as
head of Yukos until November 4, 2003, at which time he was arrested for fraud, tax evasion, and
other crimes.
35. Defendant PLATON LEBEDEV (“Lebedev”) was, during the relevant period, a
direct and/or beneficial owner of 7% of Menatep, and was Menatep’s Chief Executive Officer.
2 Although Yukos Universal was named as a defendant in the original complaint in this action, on December 15, 2004, Yukos Universal filed for bankruptcy protection under 11 U.S.C. §101, et seq. in the United States Bankruptcy Court for the Southern District of Texas. Yukos Universal’s bankruptcy proceeding was not dismissed by the bankruptcy court and continues.
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Defendant Lebedev maintained dominance and control over Menatep, along with defendant
Khodorkovsky. In turn defendant Menatep owned and/or controlled 100% of Yukos Universal Ltd
(“Yukos Universal”), which in turn owned and/or controlled 61% of defendant Yukos. In addition,
defendant Menatep owned and controlled each of the seventeen sham entities involved in Yukos’
tax evasion scheme, as described in ¶¶60-84, below. Yukos, in a supplemental report filed with the
SEC on October 23, 2003, identified four of the sham companies, Yuksar, Ratmir, Yukos-M and
Alta-trade, as being owned by Menatep. Moreover, Menatep owned, in combination with Yukos,
the main bank for the tax scheme, Bank Menatep- Sankt-Peterbourg. Defendant Lebedev, like
defendant Khodorkovsky, currently awaits trial in prison in Russia. Defendant Lebedev is liable as
a participant in a fraudulent scheme and course of business that operated as a fraud or deceit on
purchasers of Yukos Securities by disseminating materially false and misleading statements and/or
concealing material adverse facts.
36. Defendant BRUCE K. MISAMORE (“Misamore”) was, during the Class Period,
Chief Financial Officer and Principal Accounting Officer for the Company. According to the
Company’s Annual Report, distributed to shareholders on May 19, 2003 and published on the
Company web site, “[a]s Chief Financial Officer, one of Bruce Misamore’s most important
responsibilities is to ensure that YUKOS’ strategy, business position and financial performance are
well understood by our shareholders and other market participants. Thanks to investors’ increased
recognition of YUKOS’ strengths and achievements, our share price increased 81.7 percent 2002,
making YUKOS Russia’s largest Company by market capitalization.” During the Class Period,
defendant Misamore signed the Company’s SEC filings and/or made other false and materially
misleading statements concerning the financial and operational condition of the Company.
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37. Khodorkovsky and Misamore are referred to herein collectively as the “Individual
Defendants.”
38. Because of the Individual Defendants’ positions with the Company, they had access
to the adverse undisclosed information about its business, operations, products, operational trends,
financial statements, markets, and present and future business prospects via access to internal
corporate documents (including the Company’s operating plans, budgets and forecasts, and reports
of actual operations compared thereto), conversations and connections with other corporate officers
and employees, attendance at management and Board of Directors’ meetings (and committees
thereof) and via reports and other information provided to them in connection therewith.
39. It is appropriate to treat the Individual Defendants as a group for pleading purposes
and to presume that the false, misleading, and incomplete information conveyed in the Company’s
public filings, press releases, and other publications as alleged herein are the collective actions of
the narrowly defined group of defendants identified above. Each of the above officers of Yukos, by
virtue of their high-level positions with the Company, directly participated in the management of
the Company.
40. Each of the Individual Defendants was also directly involved in the day-to-day
operations of the Company at the highest levels and was privy to confidential proprietary
information concerning the Company and its business, operations, products, growth, financial
statements, and financial condition, as alleged herein. The Individual Defendants were involved in
drafting, producing, reviewing and/or disseminating the false and misleading statements and
information alleged herein, were aware, or recklessly disregarded, that the false and misleading
statements were being issued regarding the Company, and approved or ratified these statements, in
violation of the federal securities laws.
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41. As officers and/or controlling persons of a publicly held company whose securities
were, and are, registered with the SEC pursuant to the Exchange Act, and was traded on the OTC,
and governed by the provisions of the federal securities laws, the Individual Defendants each had a
duty to disseminate promptly accurate and truthful information with respect to the Company’s
financial condition and performance, growth, operations, financial statements, business, products,
markets, management, earnings, and present and future business prospects, and to correct any
previously issued statements that had become materially misleading or untrue, so that the market
price of the Company’s publicly traded securities would be based upon truthful and accurate
information. The Individual Defendants’ misrepresentations and omissions during the Class Period
violated these specific requirements and obligations.
42. The Individual Defendants participated in the drafting, preparation, and/or approval
of the various public and shareholder and investor reports and other communications complained of
herein and were aware of, or recklessly disregarded, the misstatements contained therein and
omissions therefrom, and were aware of their materially false and misleading nature. Because of
their Board membership and/or executive and managerial positions with Yukos, each of the
Individual Defendants had access to the adverse undisclosed information about Yukos’ business
prospects and financial condition and performance as particularized herein and knew (or recklessly
disregarded) that these adverse facts rendered the positive representations made by or about Yukos
and its business issued or adopted by the Company materially false and misleading.
43. The Individual Defendants, because of their positions of control and authority as
officers and/or directors of the Company, were able to and did control the content of the various
financial statements issued, press releases and other public statements pertaining to the Company
during the Class Period. Each Individual Defendant was provided with copies of the documents
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alleged herein to be misleading prior to or shortly after their issuance and/or had the ability and/or
opportunity to prevent their issuance or cause them to be corrected. Accordingly, each of the
Individual Defendants is responsible for the accuracy of the public reports and releases detailed
herein and is therefore primarily liable for the representations contained therein.
44. Defendants Menatep’s, Khodorkovsky’s, and Lebedev’s scienter is demonstrated, in
part, by the enormous dividends they received as a result of the illegal tax scheme (literally billions
of dollars before and during the Class Period).
45. Each of the defendants is liable as a participant in a fraudulent scheme and course of
business that operated as a fraud or deceit on purchasers of Yukos Securities by disseminating
materially false and misleading statements and/or concealing material adverse facts. The scheme:
(i) deceived the investing public regarding Yukos’ business, operations, management and the
intrinsic value of Yukos Securities; (ii) allowed defendants to falsify Yukos’ financial statements
by under-reporting billions of dollars in Company taxes, which also allowed defendant
Khodorkovsky to also under-report millions or tens of millions of dollars of his personal taxes, and
(iii) caused plaintiffs and other members of the Class to purchase Yukos Securities at artificially
inflated prices.
SUBSTANTIVE ALLEGATIONS
The Company and Its Business
46. Khodorkovsky created the predecessor to defendant Menatep in 1987, at a time
when Khodorkovsky had been acting as the deputy chief of the Young Communist League,
Komsomol. Using government connections, Menatep initially traded computer equipment, but
shortly after its founding, with further government assistance, Khodorkovsky converted it into a
bank. In the early 1990s, Khodorkovksy and Menatep made huge profits by purportedly engaging
in currency speculation.
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47. In December 1995, Yeltsin’s government put Khodorkovsky’s Bank Menatep in
charge of the auction of Yukos. After disqualifying a rival higher bid on “technical” grounds,
Khodorkovsky acquired Yukos for just $309 million. The transaction was part of the widely
criticized loans-for-shares auction, in which a few privileged entrepreneurs, who promised to
support the Yeltsin regime (a group that came to be known as the “oligarchs”) won some of
Russia’s most valuable industrial jewels at cut-rate prices. A history of the rise of the oligarchs and
the questionable means by which they acquired the assets of the former Soviet Union is well-
documented. See, e.g., Ira W. Lieberman and Rogi Veimetra, “The Rush for State Shares in the
‘Klondyk’ of Wild East Capitalism: Loans-for-Shares Transactions in Russia,” George Washington
Journal of International Law and Economics, vol. 29, no. 3, 1996, p. 773.
48. Prior to the Class Period, Yukos and the Individual Defendants had gained a
reputation for squeezing out Yukos’ minority shareholders and stripping cash out of the Company
by using transfer-pricing schemes.
49. Transfer pricing occurs when an entity (or it subsidiary) sells a product at below
market prices to an affiliated entity either to avoid taxes or strip profits from one entity to another.
In 1999, as part of a continuing Russian tax reform process, significant regulations on transfer
pricing were put in place in Article 40 of the Tax Code. Under Article 40, the tax authorities have
the right to challenge transactions between related persons, foreign trade transactions, and
transactions with significant fluctuations in price within a short period.
50. As described in detail in an article entitled Putin’s Plutocrat Problem, published in
the April 2000 edition of Foreign Affairs, and an article entitled The Oligarch Who Came in from
the Cold, published in Forbes on March 18, 2002 (the “March 18, 2002 Forbes Article”), in the first
nine months of 1999, Yukos engaged in a massive transfer pricing scheme by forcing its three
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partially owned subsidiaries (subsidiaries with substantial minority investors, many of whom were
workers and pensioners in the Tomsk region) to sell it approximately 240 million barrels of oil at
approximately $1.70 per barrel to Yukos – at a time when the average market price was about $15.
Yukos then exported nearly a quarter of that oil to world markets. As a result of this transaction,
Yukos managed to strip $800 million in profits from its subsidiaries for itself in a matter of thirty-
six weeks.
51. In 1997 and 1998, Yukos forced its subsidiaries to transfer substantial assets to new
companies – notwithstanding a conflicting February 1998 order by the Russian Federal Securities
Commission. In 1999, Menatep’s predecessor entered into bankruptcy and defaulted on nearly a $1
billion in loans from Western banks. Following the default, Daiwa Bank (“Daiwa”) and West
Merchant Bank (a subsidiary of Westdeutsche Landesbank) (“West Merchant”) acquired 30 percent
of Yukos from Menatep’s predecessor. Rather than recognize Daiwa and West Merchant as
minority shareholders with rights, Khodorkovsky sought to turn Yukos into an empty shell.
52. In that regard, Khodorkovsky forced Yukos to sell its most significant asset – its
controlling position in oil production subsidiaries – to unknown offshore entities. At the same
time, he attempted to substantially dilute the shares of Yukos held by the banks by transferring a
massive number of new shares to offshore entities that he controlled. Under Khodorkovsky’s plan,
Menatep’s interest in Yukos’ oil production companies would have increased by as much as 240
percent – virtually wiping out the holdings of Daiwa and West Merchant. Recognizing that they
were powerless to stop Khodorkovsky from diluting their interest in Yukos, Daiwa and West
Merchant sold the majority of their stake in Yukos to Khodorkovsky and his partners. Although
the sale price has not been made public, it is estimated that the two banks recovered only a fraction
of the value of their loans. Once the Daiwa and West Merchant sold their interest in Yukos, the
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share offerings were canceled and whatever assets had been moved offshore were returned to
Yukos in Russia.
53. Although Yukos was clearly taking advantage of its minority shareholders, Russian
regulators were powerless to stop Khodorkovsky due to his close relationship with the Yeltsin
government. In fact, in October 1999, Dmitri Vasiliev, the head of the Federal Commission for the
Securities Market, Russia’s regulatory watchdog for listed companies, resigned in protest over his
inability to stop Yukos’ offshore share transactions.
Yukos Has Sought Investors in the United States and Registered with the SEC
54. Yukos has engaged in substantial activity in the United States to attract investors
and lenders. Defendants solicited investments in Yukos from, among others, oil and gas industry
participants in Houston and in the United States.
55. In 2002, defendant Khodorkovsky was a keynote speaker at the Baker Institute in
Houston where he urged people to invest in Yukos. In addition, defendant Khodorkovsky was a
regular keynote speaker at the largest oil and gas conference in the world, which was sponsored
annually in Houston by Cambridge Energy Research Associates.
56. Defendant Misamore and Alexander Gladyshev, Yukos’ Manager of Investor
Relations, were regular participants and speakers at various oil, gas and emerging markets investor
conferences in the United States. Defendant Misamore and Gladyshev regularly met in the United
States with investors, including investment managers at major United States investment banking
firms, large asset management firms, and major institutional investors.
Yukos Claims Corporate Governance Changes
57. On or about May 19, 2003, the Company issued its Annual Report for the year
ended December 31, 2002 (the “2002 Annual Report”), distributed the 2002 Annual Report to
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shareholders and posted it on the Company’s web site. According to the 2002 Annual Report,
Yukos claimed that it has sought greater “transparency” by:
• adopting “strong corporate governance policies and financial transparency standards”;
• becoming “the first Russian oil company to report its quarterly financial statements in accordance with” U.S. GAAP in 2001;
• changing its reporting currency to U.S. dollars with its release of first quarter 2002 earnings; and
• disclosing the identity and stock holdings of the core shareholders of Menatep – the company that held 61% of Yukos in 2002.
58. According to the Company, Khodorkovsky, and press reports, the Company’s newly
proclaimed “transparency” was necessary to attract Western investors and capital. In the March 18,
2002 Forbes Article, Khodorkovsky stated:
By now we understand how business is done in the West. As a shareholder, I earn money in dividends and with the increase in the market capitalization of my company. Previously we were all focused only on the cash revenues of our business, since no one believed that the situation would last. Now that things are stabilizing, people are more interested in increasing the value of their property.
59. However, as described below, Yukos did not change its methods, but rather adapted
them to a new situation.
Defendants’ Fraudulent Scheme and Course of Conduct
60. Both before and throughout the Class Period, Yukos used the transfer pricing
methods that it had perfected in the 1990s to engage in a blatant tax evasion scheme.
61. Yukos, the Individual Defendants, and Menatep created seventeen sham companies
in special low-tax or no-tax zones within the Russian Federation (also known as ZATOs and free
economic zones (“FEZs”)). Each of the sham companies was an empty shell and an alter ego of
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Yukos and Menatep. The seventeen sham companies applied for and received permission from
each of the ZATOs to take advantage of the low corporate tax rates.
62. Once the seventeen sham entities obtained tax exempt status, other subsidiaries of
Yukos “sold” oil and oil products at substantially below-market prices to the seventeen sham
companies. After the “sale” was complete, Yukos would report the sales and profits to the relevant
taxing authorities based on the greatly reduced sales prices.
63. Yukos would then claim that the seventeen sham companies “sold” oil and oil
products at market prices, through the mediation of Yukos and Menatep, obtaining substantial
profits. Those profits would then be subject to no taxes or only minimal taxes required under the
relevant ZATO agreements. Despite the purported transfer of ownership of the oil and oil products
to the seventeen sham companies, Yukos, with PwC’s approval, consolidated those sham entities’
profits with the profits from the selling subsidiaries for the purposes of Yukos’ interim and year-
end financial statements. Indeed, these profits would form part of the basis for the enormous
dividends paid to Menatep, Khodorkovsky, and Lebedev.
64. In essence, the sales of oil and oil products were merely “paper transactions.” Each
“transaction” was simply the matter of book-keeping in Moscow, where accounting personnel of
Yukos and Menatep created an intermediary transaction for tax purposes interposed between the oil
producing subsidiary and the end user. No business was actually conducted by the sham companies
in the ZATOs and no transactions or agreements were entered into in the ZATOs. The seventeen
sham companies did not process, store, or transport any oil or oil products in the ZATOs.
65. The allegations of the tax evasion scheme created and implemented by Yukos,
Menatep, and the Individual Defendants described in ¶¶60-64, above, has been confirmed by the
Russian government’s investigation and post-Class Period Report. On April 14, 2004, the Tax
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Ministry issued Resolution # 14-3-05/1609-1 (the “April 2004 Resolution”), which sets forth in 126
pages the findings of its audit of Yukos’ tax return for 2000, the underpaid tax amounts due, and
the penalties Yukos owed. In the April 2004 Resolution, the Tax Ministry establishes, through
reference to documents and interviews with certain officers and employees of the seventeen sham
companies, that:
• Yukos, Menatep, and the Individual Defendants had created seventeen sham entities to take advantage of the ZATO tax presences;
• Yukos, Menatep, and the Individual Defendants and the sham entities were related parties;
• Yukos, Menatep, and the Individual Defendants had “control” over the sham entities;
• Yukos, or its subsidiaries, had sold oil and other services at well below market prices to the sham entities;
• The sham entities had sold the oil and other services to foreign or domestic consumers, in deals mediated by Yukos and Menatep, at significantly higher market prices;
• Yukos only paid taxes based on the sales prices to the sham entities;
• The sham entities did not meet the basic requirements for tax exempt status under Russian law; and
• As a result, Yukos owed the Russian Federation approximately $3.4 billion dollars in taxes and penalties for the year 2000.
66. According to the April 2004 Resolution:
The field tax audit showed that [Yukos] did not reflect the receipts from the sales of products (work, services) as a result of using an illegal tax evasion scheme by means of artificially founding fake organizations in the oil and after-product movement chain and registering them in territories with preferential tax treatment.
The scheme was aimed at non-payment of profit tax, value-added tax, motorway user tax, tax on the sales of petroleum, oils and lubricants (“POL”) and housing stock and social amenities maintenance tax on the amount of receipts (income) from oil and after-product sales. For this purpose [Yukos] created fake dependent organizations to be oil and after-product owners (hereinafter referred to as “owners”). These organizations were registered in
- 20 -
territories with preferential tax treatment (closed administrative and territorial formations, Russian Federation constituent entities giving tax preferences on investments). [Yukos] retained control over the oil and after-product operations performed by the “owners” by means of participating in the deals as mediator itself or involving its other dependent organizations to act as mediators in the deals.
The materials submitted by the taxpayer lead us to conclude that the “owners” concluded commission agreements to buy commodity crude oil with [Yukos]. [Yukos] in its turn on the instructions of the “owners” registered in tax preferential territories bought oil from producing subsidiaries of [Yukos] (OAO Yuganskneftegaz, OAO Tomskneft, OAO Samaraneftegaz) or from fake organizations. In these deals [Yukos] purchased oil at undercut prices to lower the tax basis of the producers. The payments for the oil purchased were made by the “owners”, usually of [Yukos] bills or bills of related organizations (OOO YUKOS-FRC, OOO YUKOS-Moscow), as well as by mutual claim clearing.
Then the commodity crude oil purchased by the “owners” through [Yukos] as commission agent was sold to customers (both Russian and foreign ones) through [Yukos] again or was sent for processing to oil refineries being [Yukos] subsidiaries. This oil transfer for processing purposes also went through [Yukos] as commission agent or on agency agreements with fake unprofitable organizations (OOO Kvadrat, OOO Staf). After processing the resulting products were sold to customers through the same commission agent - [Yukos]. The amount of fees paid to [Yukos] under mediation agreements was nominal –0.01-0.5% of the contract amount, and the “owners” performed no other activities, save for those delegated by [Yukos]. [Emphasis added.]
67. In connection with determining that the sham entities and Yukos were related parties
and that Yukos controlled the sham entities, the Tax Ministry found that Yukos and a subsidiary
were in charge of record keeping and document storage for all the transactions (including
accounting records) by the “owners.” All the sham companies had their accounts in the same
banks: OAO AKB “Doveritelny I Investitsionny Bank,” OAO KB “Menatep Sankt-Peterbourg”
and AKB “Solidarnost.” All the banks used in the scheme were dependent on Yukos and Menatep.
The Tax Ministry further stated:
- 21 -
As a result of this oil and after-product sales illusion the sales revenues (income) belonged to the mentioned fake organizations. Thus, as per their records, it was the “owners” who registered tax obligations. At the same time, as these organizations illegally used tax preferences, the budget did not receive the related profit tax, motorway user tax, property tax and housing stock and social amenities maintenance tax. The audit found, that the true owner of the oil and after-products was [Yukos]. It was [Yukos], which purchased the oil, transferred it for processing and sold the oil and after-products, and this is to be proved by the actual oil and after-products movement from the producers to the refineries or to the oil tank farms related to [Yukos] (supported by transportation documents), as well as by the fact of [Yukos] direct participation in all the deals. Besides, the following evidence testifies to the effect that it was [Yukos], which really owned the oil and after-products and, consequently, that it used an illegal scheme of tax evasion:
− The entities participating in the deals were all under [Yukos] control;
− The “owners” were registered in tax preferential territories;
− The “owners” performed no activities in the place of their registration;
− The commissions for [Yukos] were facetious, as the commission amounts were materially lower than the usual commission amount practiced in the commission services market;
− The prices of oil purchased from the producers and other fake companies were lowered;
− Accounting records were kept in all organizations by OOO YUKOS-Invest or OOO YUKOS-FBC dependent on [Yukos];
− All the organizations opened their bank accounts in the same banks, dependent on [Yukos];
− The organizations practiced settlements by bills or clearing settlements [through Yukos]. [Emphasis added.]
68. An illustration of Yukos’ misuse and abuse of the Russian tax system is its
relationship with the Business Oil Limited Liability Company (“Business Oil”). Business Oil was
founded in 1997 in the ZATO Lesnoye, Sverdlovsk region of the Russian Federation (“ZATO
Lesnoye”). On January 28, 2000, Business Oil applied for and executed with ZATO Lesnoye an
agreement to obtain tax benefits. In order to take advantage of the tax benefits associated with this
- 22 -
agreement, Business Oil had to maintain 90% of its fixed assets and 70% of its operations within
ZATO Lesnoye, at least 70% of its employees were required to work in ZATO Lesnoye, and at
least 70% of the total payroll had to be paid to employees in ZATO Lesnoye.
69. In violation of these requirements, the Tax Ministry found that the Business Oil’s
fixed assets in ZATO Lesnoye amounted to only 4 computers. Moreover, Business Oil’s true asset
(its cash) was maintained in three accounts at banks in Moscow, owned or controlled by Yukos,
including Yukos and Menatep’s bank Menatep Sankt-Peterbourg.
70. In connection with Business Oil’s employees, the Tax Ministry found that while
Business Oil identified five employees living in ZATO Lesnoye, they either did not perform any
work or only performed minimal book keeping functions at the directions of Yukos personnel in
Moscow. Indeed the Tax Ministry found that the employee who performed nearly all of Business
Oil’s functions (i.e., the purported purchase and sale of oil) was its Director-General and Chief
Accountant, who resided and worked in Moscow.
71. In addition, the Tax Ministry found that, based on an interview with Business Oil’s
Executive Director, Business Oil did not actually perform any activities, including the purported
sale of oil and oil products in ZATO Lesnoye necessary to support its tax exempt status. Indeed,
Business Oil lacked the production facilities which would enable it to store and sell oil and oil
products in ZATO Lesnoye. Moreover, none of the oil purchased from the Yukos subsidiaries and
sold on the open market ever traveled to, from, or through ZATO Lesnoye.
72. Based on the transactions conducted between Business Oil and Alta-trade (one of
the seventeen sham companies involved in the oil “sales,” and a company which Yukos identified
as being owned by Menatep) alone, the Tax Ministry found that the Company had avoided paying
nearly $500 million in taxes.
- 23 -
73. In addition to owning and controlling one of the key banks involved in the illegal tax
scheme (Menatep- Sankt-Peterbourg), Lebedev’s and Menatep’s participation in the tax evasion
scheme is evidenced by the use of four of Menatep’s subsidiaries in that scheme. In a supplemental
filing by Yukos with the SEC, filed on November 3, 2003, Yukos identified four of the seventeen
sham companies as being owned and/or controlled by Menatep: Yuksar, Alta trade, Ratmir, and
Yukos-M.
74. In 2000, according to the April 2004 Resolution, Yuksar, Alta trade, Ratmir, and
Yukos-M executed transactions for millions of tons of oil and oil products. These transactions
were entered into by defendants principally to evade income tax liabilities. In connection
therewith, Yuksar evaded approximately $33.5 million in taxes; Alta trade evaded approximately
$4.1 million in taxes; Ratmir evaded approximately $213 million in taxes; and Yukos-M removed
approximately $844 million in taxes.
75. Based on its investigation and findings similar to those of Business Oil, Yuksar, Alta
trade, Ratmir and Yukos-M, the Tax Ministry charged Yukos approximately $3.5 billion for 2000
($1.646 billion in taxes due and $1.997 billion in penalties imposed). The following chart, created
by Yukos and published on its web page, identifies the seventeen sham entities and the amounts of
tax underpaid by Yukos (in Russian Rubles (“RUR”)).
- 24 -
Utilization of tax allowances (RUR)3
Entity VAT Tax on POL
Sales Profits Tax Property Tax
Motorway users tax
Housing stock and social amenities
maintenance tax
TOTAL
Virtus - - 2 359 700 - - - 2 359 700
Kverkus - 2 314 934 306 484 015 000 9 799 460 55 165 845 167 507 627 3 031 422 238
Muskron - 951 345 3 643 219 70 220 1 598 221 1 138 334 7 401 339
Trace - - 20 240 687 5 305 706 503 20 247 201
Nortex - 2 796 357 124 181 859 687 680 343 101 410 627 72 229 791 3 152 537 572
Vald-Oil - 985 969 309 162 154 920 857 000 96 289 488 59 161 000 1 304 431 717
Mitra - 12 074 163 15 049 253 - - - 27 123 416
Business Oil - 1 398 732 926 93 644 890 233 000 56 982 037 35 174 097 1 584 766 950
Sibirskaya Transportnaya Companya
- - 209 404 407 - 14 105 803 16 926 964 240 437 174
Petroleum Trading - - 22 385 271 13 076 935 018 - 23 333 365
YUKSAR 36 839 637 - 54 030 054 592 5 004 848 - 95 875 131
Ratmir 1 770 245 037 - 2 611 705 520 45 854 745 959 228 281 719 421 211 6 106 454 794
U-Mordovia 2 045 653 454 - 1 829 048 807 3 814 829 215 510 832 161 633 124 4 255 661 046
YUKOS-M 9 697 309 558 - 11 981 693 000 4 901 419 1 411 406 247 1 058 554 685 24 153 864 909
Alta-trade 467 486 102 - 2 491 817 840 16 883 484 644 587 568 483 440 676 4 104 215 670
Interneft - - 13 736 204 500 6 406 - 224 642
Mars XXII - - 3 597 652 - 8 167 306 6 125 479 17 890 437
Total Under-paid taxes 14 043 369 356 7 509 019 173 20 001 319 996 83 820 701 3 570 399 235 2 781 313 492 47 989 241 953
3 On April 14, 2004, the conversion rate for the Russian Ruble to U.S. Dollars averaged 0.034930.
- 25 -
76. Although the Tax Ministry has conducted audits of and imposed further tax bills and
penalties upon Yukos for the years 2001 ($3.105 billion in taxes, $4.054 billion in penalties), 2002
($4.094 billion in taxes, $4.735 billion in penalties), and 2003 ($3.963 in taxes, $3.944 billion in
penalties), Yukos has neither translated nor posted any resolutions of the Tax Ministry.
77. Yukos and the Defendants, including PwC, knew or were reckless in not knowing
that the tax avoidance scheme was directly contrary to Russian law. As reported in an article
entitled Why Russia is still playing catch up, published in the December 2001/January 2002
International Tax Review, in 1998, the Russian government instituted new laws barring transfer
pricing schemes, particularly those to related parties with the intent to minimize taxes.
78. Similarly, the Russian government significantly limited the availability of the
ZATOs in 1999. Thus, in 1999, the legislators amended the ZATO Law to substantially curtail the
rights of ZATO administrations to grant tax privileges. In order to be eligible for tax benefits, the
ZATO Law now required companies registered within a ZATO to locate at least 90% of their fixed
assets and 70% of their operations within the ZATO; at least 70% of the employees on payroll in
such entities had to be permanent residents of the ZATO; and at least 70% of the total payroll had
to be paid to employees who were permanent residents of the ZATO. The sham companies created
by Yukos and Menatep did not comply with these requirements.
79. As set forth in the April 2004 Resolution, both the transfer pricing scheme and the
tax-free status of the sham entities violated Russian law.
80. Moreover, since 1999, the Tax Ministry and the Russian Courts had been cracking
down on similar schemes.
81. Indeed, in 2000, the Tax Ministry investigated a similar transfer pricing scheme
engaged in by Yukos’ competitor Lukoil. In that case, Lukoil entered into agreements leasing
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production capacities for the processing of oil and production of oil products to a subsidiary in a
ZATO. In fact, however, the entire production cycle was carried out by Lukoil. The Tax Ministry
charged that the leasing agreements were concluded solely for the purpose of tax avoidance by
Lukoil. In the Federal Commercial Court of the Ural District decision of December 10, 2002, case
no. F09-1307/02-GK, the court invalidated the subsidiary’s tax exempt status. Lukoil settled the
Tax Ministry’s claims for $200 million.
82. On December 26, 2001, the Supreme Court of the Russian Federation, in its decision
no. GKPI2001-1758, upholding the 1999 limits on ZATOs, stated: “[i]n recent years, on the
territory of the Baykonur space city complex, the practice of registering organizations[sic] carrying
out their activities outside that territory has become widespread. The city authorities, in breach of
current legislation, are offering taxpaying entities registered on the territory of Baykonur individual
privileges regarding the payment of regulatory federal taxes.”
83. Any doubt concerning the legality of Yukos transfer pricing scheme was put to rest
in February 2002. At that time, the Supreme Court confirmed a ruling of Russia’s Tax Court, the
Chamber of Cassation, and stated: “the current legislation of the Russian Federation does not entitle
local authorities, including cities of federal significance, to establish and grant privileges regarding
federal taxes.”
84. Despite knowing the risks that investors and the business and assets of Yukos faced
as a result of Yukos’ tax evasion scheme, defendants failed to adequately disclose those risks to
investors.
Defendant Khodorkovsky’s Political Risk
85. From 1988 until the election of Vladimir Putin in 2000, defendant Khodorkovsky
wielded enormous political clout. From 1988 until to the fall of Soviet Union, and through the first
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term of Yeltsin’s presidency, Khodorkovsky, through Menatep, had acted as one of the few sources
for hard currency in the Soviet Union and in the early years of the Russian Federation.
86. However, much of the defendants’ power arose from their strong financial assistance
to the re-election campaign of Boris Yeltsin in 1994. Indeed, it was through these strong ties that
Khodorkovsky was able to acquire Yukos and a number of other Soviet Union assets at well below
market prices in the early days of Russian privatization.
87. However, with the election of Putin in March 2000, the closeness between the
oligarchs and the government changed radically. Since the arrest of Khodorkovsky in October
2003, press reports have revealed Khodorkovsky made substantial political challenges against
Putin, including challenging the Putin government’s honesty, funding opposition parties and their
candidates for parliamentary and presidential elections, suggesting Khodorkovsky’s own possible
candidacy for president in 2008, and purchasing a newspaper to challenge Putin directly.
88. Unbeknownst to investors, upon Putin’s election in March 2000, he reached an
agreement with Khodorkovsky and the other oligarchs to withhold any investigation of companies
acquired in the loans-for-shares privatizations (despite having “files” on each of the transactions
including Yukos), if those oligarchs “stayed out of politics.”
89. That Putin considered this agreement binding is well established by the fates of two
oligarchs who challenged Putin’s policies – “Press Barons” Boris Berezovsky and Vladimir
Gusinsky. Shortly after Putin’s election, both Berezovsky and Gusinsky used their media outlets to
openly criticize Putin and the war in Chechnya.
90. In June 2000, Gusinsky was arrested and jailed briefly on charges of embezzlement.
The charges were dropped in July 2000, but only after Gusinsky signed a deal transferring Media-
Most, his conglomerate of newspaper and broadcasting properties, to Gazprom, the government-
- 28 -
dominated energy company, for $300 million. Shortly after he signed the sale agreement, Gusinsky
fled to Spain. In November 2000, the Russian Prosecutor General issued an arrest warrant against
Gusinsky and initiated extradition proceedings.
91. Putin initially attempted to negotiate with Berezovsky for the sale of Berezovsky’s
49% interest in the ORT television network. As those negotiations stalled, the prosecutor general
launched an investigation into allegations of Berezovsky’s embezzlement of assets from the
Russian airline Aeroflot. In November 2000, Berezovsky fled Russia.
92. Berezovsky, who played a major role in bringing Putin to power, is particularly
exercised. “The first thing Putin did was to consolidate political power,” he said during a recent
swing through the United States to rally political support. “Next, it will be the media. When he has
economic problems, then he will think he has to control oil companies, gas companies.”
93. At the beginning of the Class Period, without disclosing the risks Yukos’ investors
would face if Khodorkovsky challenged Putin and his policies, Khodorkovsky began to criticize
Putin.
94. On February 19, 2003, Putin met with twenty-five representatives of the Union of
Industrialists and Entrepreneurs (the “RSSP”), including defendant Khodorkovsky. This was the
first meeting between Putin and the oligarchs since May 2002. During a course of discussion
regarding the government’s coming priorities, defendant Khodorkovsky said the government “must
be willing to show its readiness to get rid of some odious figures” in the government to prove its
readiness to combat corruption, “even though corruption is one of the hardest crimes to prove.” As
an example of corruption, Khodorkovsky pointed to Putin’s Economic Development and Trade
Minister, who was also chairman of the state-owned oil company Rosneft, and demanded that the
minister reveal details about Rosneft’s acquisition of a medium-sized crude producer from a
- 29 -
member of the Duma. In response to this demand, Putin noted that Yukos owned vast oil supplies
and that the issue of the means by which such large reserves were acquired by Yukos and the other
large private oil companies was “a big question.”
95. Moreover, Khodorkovsky was making substantial efforts to strengthen two parties
with a long history of opposing Putin and his policies: Yabloko (a liberal democratic party) and the
Union of Rightist Forces (former communists). It is reported that Khodorkovsky was a significant
participant in the negotiations to form a coalition between the two parties to strengthen their
chances in the upcoming parliamentary elections. Khodorkovsky reportedly gave these two parties
$10 million in order to assist them in providing a united front against Putin and certain of Putin’s
policies.
96. Besides funding these opposition parties, Khodorkovsky openly and publicly
clashed with Putin regarding the American led invasion of Iraq. In addition, despite Putin’s clear
dictum to the contrary, Khodorkovsky openly advocated the building of an oil pipeline to China.
97. Finally, just a little more than a month before his arrest, on September 4, 2003,
Yukos bought the liberal weekly paper Moskoskie Nowosti and published multiple articles directly
criticizing Putin and the government’s arrest of Lebedev, among other things.
98. Despite knowing the risks investors and the business and assets of Yukos faced as a
result of Khodorkovsky’s political activities, defendants failed to adequately disclose those risks to
investors.
Defendants’ Materially False and Misleading Statements Made During the Class Period
99. The Class Period begins on January 22, 2003. On that date Yukos issued a press
release stating:
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YUKOS Oil Company wishes to make the following statement in response to the appearance in a number of irresponsible media outlets of disinformation alleging that the Company provides financial support to a number of Russian political parties:
While YUKOS Oil Company respects the various political views of its employees and shareholders, it does not participate in the financing of any political parties or movements, in strict keeping with its principle of non-involvement in political activities.
While they are at work, Company employees are prohibited from engaging in political activities, or in any other activity that is not directly job-related. Any professional political activity is incompatible with work at the Company.
100. On February 13, 2003, Yukos reported its financial results for the third quarter 2002
(the “February 13 Earnings Release”). According to the February 13 Earnings Release, Yukos
reported EBITDA of $1.3 billion and net profit of just above $850 million. According to the
February 13 Earnings Release, Yukos had a “strong operating profit” driven by “soaring export
volumes” for its fiscal third quarter of 2002. According to a Dow Jones article of the same date,
while EBITDA was 9.5% higher than consensus forecasts of $1.26 billion for the third quarter of
2002, net profits were significantly below the analysts’ consensus estimates of $971 million.
According to the Company, Yukos profits were “pushed down” in the quarter as a result of the
Company being forced to recognize certain taxes which defendants had previously “deferred”
during the consolidation of certain production subsidiaries.
101. In order to reassure investors and avoid a collapse in the price of Yukos Securities,
these tax issues were described by the Company’s CFO, defendant Misamore, as one time events.
Moreover, defendant Misamore assured investors that Yukos was reviewing its tax accounting and
expense policies so as to assure accuracy and compliance, stating that, “[w]e are revisiting those tax
figures to make sure we’re not accruing too much. We’re also taking another look at (sales, general
and administrative costs) to see if there are some areas we need to pay attention to there.”
- 31 -
102. On or about April 3, 2003, Individual Defendants Khodorkovsky and Misamore
made a lengthy presentation to investors in London, England. A copy of the presentation materials
used during the presentation was posted on the Company’s web site shortly thereafter. During the
course of the presentation, the Individual Defendants reiterated the financial results discussed in
¶100 above. In addition, defendant Misamore made a detailed presentation on the current Russian
tax structure and the potential risks from proposed changes to the tax laws. In particular, defendant
Misamore noted the potential risk of Yukos’ taxes increasing if “[r]egional income tax benefits”
were eliminated.
103. Unbeknownst to investors, however, the statements described in ¶¶99-102, above,
were each materially false and misleading when they were made because they failed to disclose and
misrepresented the following adverse facts, among others:
(a) that defendant Khodorkovsky was actively engaged in “professional political
activities” as described in ¶¶85-98, above, while at work at Yukos;
(b) that Yukos failed to disclose the material risk to Yukos shareholders caused
by the political actions taken by defendant Khodorkovsky, as described in ¶¶85-98, above;
(c) that the Company had materially inflated its net profit and diminished its tax
obligations through the illegal tax scheme described in ¶¶60-84, above.
(d) that the Company’s financial statements were not prepared in conformity with
U.S. GAAP or with any fair or accepted statements of reporting because, throughout the Class
Period, defendants failed to report billions of dollars due in taxes as described in ¶¶60-84, above,
which if paid would have wiped out much of the Company’s earnings during this time period;
- 32 -
(e) that the Company was not abiding by Russia’s tax laws (as amended in 1999
to eliminate tax evasion schemes using ZATOs, such as Yukos’ scheme), which enabled Yukos to
illegally evade an estimated $17 billion in taxes;
(f) that the Company was not “reviewing its tax accounting and expense policies
so as to assure accuracy and compliance,” as it was knowingly violating Russia’s tax laws since at
least 1999;
(g) that, because defendants failed to properly pay billions of dollars in taxes on
its income and operations, it was not foreseeable at any time that Yukos would be able to achieve the
profitability claimed by defendants;
(h) that the risk of elimination of “regional income tax benefits” had already
occurred in 1999 and that Yukos was claiming benefits to which it knew, or should have known it
was not entitled since that time; and
(i) that as a result of the foregoing, the Company’s financial statements and
reported financial results were materially false and misleading.
104. On April 24, 2003, Yukos issued a press release announcing that it would pay a
$700 million total dividend for the year ended December 31, 2002 (the “April 24 Dividend
Release”). According to the April 24 Dividend Release, Yukos’ Board of Directors approved a
decision to pay a total dividend of about RUR 22.12 billion (approximately $700 million) for the
year 2002. The April 24 Dividend Release quotes defendant Khodorkovsky as stating: “The 40%
increase in dividends is the result of what our Company has achieved both operationally and
financially, culminating in our becoming the leader in the Russian oil industry. As we consistently
work to increase shareholder value, we regard YUKOS’ improved competitive position as part and
- 33 -
parcel of our commitment to all of our stakeholders, who have a direct interest in the successful
development of our business.”
105. Unbeknownst to investors, however, defendant Khodorkovsky’s statements
described in ¶104, above were each materially false and misleading when they were made for the
reasons set forth in ¶103, above, and because they failed to disclose and misrepresented the
following adverse facts, among others:
(a) that the Company’s financial “achievements” were due, in whole, or in part, to
the massive tax fraud, as described in ¶¶60-84, above;
(b) that the Company was not in a position to pay a dividend, much less increase
its dividend by 40%; and
(c) that Yukos had not improved its competitive position but was instead in a
perilous position due to the tax scheme and Khodorkovsky’s political activities.
106. On May 19, 2003, Yukos reported its financial results for the fourth quarter and full
year 2002 (the “May 19 Earnings Release”). According to the May 19 Earnings release, the
financial statements were purportedly reviewed by PwC, the Company’s “independent” auditors
and conformed to U.S. GAAP. According to the Company’s release, Yukos reported that net
income and earnings per share for the fourth quarter of 2002 reached $988 million and $0.46 per
share, respectively, compared to $423 million and $0.20 per share, respectively, for the fourth
quarter of 2001. In addition to the foregoing, the May 19 Earnings Release also stated that for
2002, Yukos reported net income and earnings per share for 2002 reportedly reached $3.058 billion
and $1.42 per share, respectively, compared to $3.156 billion and $1.47 per share, respectively, for
the prior year.
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107. On the or about the same date, the Company issued its Annual Report for 2002 (the
“2002 Annual Report”) and posted it on the Company’s web site. In the 2002 Annual Report,
defendant Khodorkovsky stated:
The achievements reflected in this annual report are the result of a long-term strategy that we have been successfully implementing for several years. This strategy has focused investments, resources, technology, skills training and performance objectives where they would provide the greatest returns for our shareholders, our customers and our employees. I invite you to read on and learn more about us. I am sure you will agree that YUKOS - as a Company and a community – is building for the future on a strong foundation, and, in doing so, building value for our shareholders.
108. On the same day the Company issued its Annual Financial Report for 2002 (“2002
Financial Report”), which was also posted on the Company’s web site. The 2002 Financial Report
was filed with the SEC on or about June 8, 2003, and signed by defendant Misamore. The 2002
Financial Report contained the following statement regarding taxes:
We provide for taxes on unremitted earnings of our foreign subsidiaries that are payable upon distribution to the parent company through our existing legal structure if the retained earnings of our subsidiaries are not considered permanently invested. Such provisions are adjusted from time to time based upon changes in our legal structure, changes in tax rates or changes in intended methods of remitting the earnings available to us under enacted tax legislation. In the fourth quarter of 2002, we recorded a USD 368 million reduction in deferred tax liabilities, which resulted from our revised estimate of the applicable tax rates associated with the expected remittance of earnings from certain subsidiaries. In conjunction with our ongoing review of tax strategy we believe that we can reduce the Company’s effective tax rate on such remittances by 5 percent.
* * *
Our effective income tax rate in 2002 was 19.6 percent. This rate is lower than the statutory maximum rate for the Russian Federation primarily because of the lower tax rates for certain subsidiaries in several tax jurisdictions both within Russia and internationally and the reduction in deferred tax liabilities discussed above, offset by deferred taxes on unremitted earnings of our subsidiaries. Our effective income tax rate in 2001 was 18.2 percent. In 2001, we recognized a USD 525 million deferred tax credit resulting from a change in the tax code of the Russian Federation. This change, combined with the lower tax rates for certain subsidiaries and
- 35 -
offset by deferred taxes on unremitted earnings contributed to the variance from the statutory maximum rate. (Emphasis added.)
109. Regarding related party transactions and accounting procedures, the 2002 Financial
Report stated:
Conducting all transactions with related parties on an arm’s-length basis and disclosing such transactions when applicable; Adhering to the highest standards of financial reporting in accordance with established international accounting principles and practices; Adopting and maintaining a formal dividend policy; and Maintaining a Board of Directors and committees of the Board composed primarily of members who are independent from the management of the Company and having independent directors as chairs of the Corporate Governance and Nominating, Audit, Finance and Compensation committees.
* * *
Since its creation in June 2000, the Audit Committee has witnessed significant progress in such areas as preparation of consolidated accounts, information to shareholders, internal controls and information systems. We shall continue to work closely with external auditors and with the management team in order to bring YUKOS to world-class practice in these areas.
110. In connection with corporate governance, the 2002 Financial Report stated:
YUKOS is committed to international principles of good corporate governance. The Company will strive continuously to be a leader in implementing and promoting the highest standards of corporate governance in all aspects of its business both in Russia and in all other areas where the Company conducts its operations. YUKOS recognizes that good corporate governance is essential to the continued development of the Company and for the creation of long-term, stable value for its shareholders and other stakeholders. Specifically, the Company is committed to:
* Implementing and maintaining good corporate governance principles and practices on the basis of generally recognized best international practices (to the extent that such practices do not conflict with the laws governing YUKOS’ operations);
* Complying with all laws and regulations applicable to the Company and its governing bodies;
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* Striving to create long-term increased shareholder value of the Company through the application of good corporate governance practices;
* Treating all of its shareholders equally, including providing timely, accurate and easy access to all material information about the Company and its operations;
* Conducting all transactions with related parties on an arm’s-length basis and disclosing such transactions when applicable; [and];
* Adhering to the highest standards of financial reporting in accordance with established international accounting principles and practices;
111. Unbeknownst to investors, however, the statements described in ¶¶106-110, above,
were each materially false and misleading when they were made for the reasons set forth in ¶103,
above, and because they failed to disclose and misrepresented the following adverse facts, among
others:
(a) that the Company had materially inflated its net profit and diminished its tax
obligations through the illegal tax scheme described in ¶¶60-84, above;
(b) that the financial results were not the result of a long-term strategy that was
being successfully implemented,” but was the result of the illegal tax scheme described in ¶¶60-84,
above;
(c) that the Company had not actually recorded a $368 million reduction in
deferred tax liabilities, but instead was massively understating its tax liabilities;
(d) that the Company could not reduce the Company’s tax rate through an
“ongoing review of tax strategy” because the Company had substantially reduced its tax rate through
the illegal tax scheme described in ¶¶60-84, above, and could not further reduce that rate without
further, extensive illegal activity;
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(e) that Yukos’ effective tax rates of 19.6 percent for 2002 and 18.2 percent for
2001 were based on illegally claiming the benefits of “certain subsidiaries in several tax
jurisdictions . . . within Russia”, as described in ¶¶60-84, above;
(f) that Yukos was not “[c]onducting all transactions with related parties on an
arm’s-length basis” but rather engaging in paper transactions pursuant to which Yukos claimed to
sell oil and oil products at substantially reduced prices to effectuate the illegal tax scheme, as
described in ¶¶60-84, above;
(g) that Yukos was not “disclosing [related party] transactions” nor “[a]dhering to
the highest standards of financial reporting in accordance with established international accounting
principles and practices”;
(h) that the Company was not “[c]omplying with all laws and regulations
applicable to the Company and its governing bodies,” but was in clear violation of Russian tax laws,
which caused Yukos to illegally evade an estimated $17 billion in taxes, as described in ¶¶60-84,
above;
(i) that defendant Khodorkovsky had full control of the Company and that the
Company’s Board of Directors, and the Board of Directors were not truly independent;
(j) that the Audit Committee did not properly ensure that “significant progress”
had been made in the preparation of the consolidated accounts, because Yukos kept the accounts of
the seventeen sham companies separate to effectuate the illegal tax scheme described in ¶¶60-84,
above;
(k) that Yukos was not “[i]mplementing” or “maintaining good corporate
governance principles and practices on the basis of generally recognized best international
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practices,” but rather was engaging in highly unethical and illegal tax scheme, as described in ¶¶60-
84, above; and
(l) that Yukos failed to disclose the material risk to Yukos shareholders caused
by the political actions taken by defendant Khodorkovsky, as described in ¶¶85-98, above.
112. Incorporated into the Company’s 2002 Financial Report was a Report of
Independent Accountants, dated May 3, 2003 and signed by Yukos’ auditors, PwC, which stated:
In our opinion, the accompanying consolidated balance sheets, related statements of income financial statements, of cash flows, and of changes of shareholders’ equity present fairly, in all material respects, the financial position of YUKOS Oil Company and its subsidiaries at December 31, 2002 and 2001, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2002, in conformity with accounting principles generally accepted in the United States of America. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States of America, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
113. Unbeknownst to investors, however, the statements described in ¶112, above, were
each materially false and misleading when they were made because they failed to disclose and
misrepresented the following adverse facts, among others:
(a) that the consolidated balance sheets and related financial statements did not
represent the financial position of Yukos because defendants failed to report billions of dollars in
taxes as described in ¶¶60-84, above, which if paid would have wiped out much of the Company’s
earnings during this time period;
(b) that the Company’s financial statements were not prepared in conformity with
U.S. GAAP or with any fair or accepted statements of reporting because defendants failed to report
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billions of dollars in taxes as described in ¶¶60-84, above, and ¶¶140-158, below, which if paid
would have wiped out much of the Company’s earnings during this time period; and
(c) that the audits conducted by PwC were not conducted in accordance with
auditing standards generally accepted in the United States of America as described in ¶¶159-179,
below.
114. On July 7, 2003, Yukos reported its financial results for the first quarter 2003 (the
“July 7 Earnings Release”). According to the July 7 Earnings Release, the Company’s first quarter
of 2003 financial results were purportedly prepared in accordance with U.S. GAAP and reviewed
by PwC. According to the July 7 Earning Release, for the first quarter of 2003, Yukos reported net
earnings and earnings per share reached $1.267 billion and $0.59, respectively, compared to $0.462
billion and $0.21 per share, respectively, for the same period in the prior year.
115. Unbeknownst to investors, however, the statements described in ¶114, above, were
each materially false and misleading when they were made for the reasons set forth in ¶103, above,
and because they failed to disclose and misrepresented the following adverse facts, among others:
(a) that Yukos failed to disclose the material risk to Yukos shareholders caused
by the political actions taken by defendant Khodorkovsky, as described in ¶¶85-98, above;
(b) that the Company had materially inflated its net profits and diminished its tax
obligations through the illegal tax scheme described in ¶¶60-84, above;
(c) that the Company had no profits for the period; and
(d) that the Company’s financial statements were not prepared in conformity with
U.S. GAAP or with any fair or accepted statements of reporting because defendants failed to report
billions of dollars due in taxes as described in ¶¶60-84, above, which, if paid, would have wiped out
much of the Company’s earnings during this time period.
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116. On October 20, 2003, Yukos reported its financial results for the second quarter
2002 (the “October 20 Earnings Release”). According to the October 20 Earnings Release, the
Company’s second quarter of 2003 financial results were purportedly prepared in accordance with
U.S. GAAP and reviewed by PwC. According to the October 20 Earnings Release, Yukos
announced stellar results for the second quarter 2003, beating forecasts. According to the
Company, for the second quarter 2003 net profit rose 25% to $955 million, compared to the same
period the prior year – easily beating consensus forecasts of $871 million. According to defendant
Khodorkovsky, who appeared on a conference call that day, “profitability remains fairly high…
and we are not expecting it to deteriorate, especially since oil prices in the second quarter were
lower than in the first and third quarters.”
117. Unbeknownst to investors, however, the statements described in ¶116, above, were
each materially false and misleading when they were made for the reasons set forth in ¶103, above,
and because they failed to disclose and misrepresented the following adverse facts, among others:
(a) that Yukos expected profitability to deteriorate as a result of the substantial
and impending risk to Yukos caused by the political actions taken by defendant Khodorkovsky as
described in paragraphs 85-98, above;
(b) that defendant Khodorkovsky’s statement that “profitability remains fairly
high . . . especially since oil prices in the second quarter were lower than in the first and third
quarters” was materially false and misleading when made, because Khodorkovsky and the other
defendants knew, or recklessly disregarded, that the Company’s profitability was driven by the
illegal tax scheme described in ¶¶60-84, above; and
(c) that the Company’s financial statements were not prepared in conformity with
U.S. GAAP or with any fair or accepted statements of reporting defendants failed to report billions
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of dollars due in taxes as described in ¶¶60-84, above, which, if paid, would have wiped out much of
the Company’s earnings during this time period.
THE TRUE ILLEGAL ACTIVITIES OF THE INDIVIDUAL DEFENDANTS BEGIN TO BE BELATEDLY DISCLOSED
118. Khodorkovsky Arrested. On October 25, 2003, the international press reported
that Russian authorities had arrested defendant Khodorkovsky and charged him with fraud,
embezzlement, and evading taxes on hundreds of millions of dollars of income taxes.
119. Russian news source Interfax, quoting a representative of the Russian Prosecutors
General, and reprinted by Dow Jones, stated that “The head of Yukos is charged with committing
a series of crimes, including theft by fraud on a large scale, the failure to pay taxes as an
organization and as an individual.” In addition, according to Dow Jones, defendant
Khodorkovsky was also charged with fraud, forgery, embezzlement and contempt of court, after
failing to appear for questioning concerning “theft and tax evasion by structures controlled by
Yukos.” At this time, the Russian authorities announced that they would also pursue criminal
prosecutions against other senior Yukos officials.
120. The news of Khodorkovsky’s arrest immediately impacted the price of Yukos’
ADRs, falling 11% on October 27, 2003 over the previous business day’s close on nearly four
times the volume.
121. Russian Seizure. In late October 2003, Russian authorities seized control of
defendant Khodorkovsky’s 44% interest in the Company. By this time, Russian authorities
estimated that defendant Khodorkovsky had failed to pay at least $1 billion in taxes, and that the
seized shares would be held as “security against material damage.” According to at least one
analyst at a Russian brokerage firm, this asset seizure was “in line with our worst-case scenario for
Yukos.”
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122. The revelations about Khodorkovsky and Lebedev had a severe and dramatic effect
on Yukos Securities, and following these belated revelations, prices for the Company’s securities
fell precipitously – losing over 31% of their value by late October of 2003 from the Class Period
high set on October 8, 2003.
123. By the end of 2003, investors were further shocked to learn that Yukos and
defendant Khodorkovsky were being charged with evasion of taxes of at least $5 billion and
possibly as much as $10 billion. According to Dow Jones International News service, Russian tax
authorities had sent the details of the alleged tax violations, committed over the period 1998 to
2003 to the General Prosecutor’s Office. According to analysts familiar with Yukos and the
Russian oil and gas markets, a withdrawal of even the $5 billion would push the Company to the
brink of bankruptcy. Thereafter, defendants’ misconduct was further confirmed as the public was
advised:
April 16, 2004 BBC Monitoring International Reports
RUSSIAN COURT PLACES RESTRICTIONS ON YUKOS PROPERTY. On 15 April the Moscow Arbitration Court banned Yukos from disposing of any assets, including shares, in order to expedite the suit by the Russian Federation Ministry of Taxes and Levies to recover taxes, liens and fines to a total value of R99,375,538,234. The court also granted the Tax Ministry’s request to take measures to enforce its demands. The court banned Yukos’ registrars from carrying out any operations making any changes to the register regarding stock transfers carried out by Yukos, the press service said.
124. On April 15, 2004, the General Prosecutor’s office began the trial of defendant
Lebedev in the Moscow.
125. On April 20, 2004, Standard & Poor’s rating agency downgraded Yukos’ long-term
credit rating, which used to be one of highest in Russia, by five points from ‘BB-’ to ‘CCC’ with a
negative outlook. There is only one rating below ‘CCC.’ S&P assigns the CCC rating to
companies on the verge of bankruptcy. On the same day, Moody’s agency downgraded Yukos’
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major rating from Ba1 to B1 and borrower’s rating from Ba2 to B2. Moody’s stated that it would
look into the possibility of further downgrading the oil company’s rating.
126. Thereafter, on July 6, 2004, Yukos announced that a consortium of lenders led by
Société Générale and CitiGroup had declared Yukos in default of a $1 billion loan.
127. On August 10, 2004, the Ministry of Justice announced that it seized Yukos’ main
oil production subsidiary, which the government announced that it intended to auction off. On
December 20, 2004, the Russian government conducted the auction of Yuganskneftegaz, selling it
for $9.3 billion to an entity named BaikalFinansGroup. On December 31, 2004,
BaikalFinansGroup sold Yuganskneftegaz to Rosneft.
128. As of the filing of this Complaint, the Tax Ministry had completed tax audits for
2000, 2001, 2002, and 2003. The Tax Ministry found that Yukos had used the illegal taxing
scheme described in ¶¶60-84. The Tax Ministry charged Yukos with taxes of $1.646 billion,
$3.105 billion, $4.094 billion, and $3.963 billion for 2000, 2001, 2002, and 2003, respectively, and
assessed penalties of $1.997 billion, $4.054 billion, $4.735 billion and $3.944 billion for each of
those years. The total harm caused by Yukos’ illegal tax scheme was $27.538 billion.
129. The market for Yukos Securities was open, well-developed, and efficient at all
relevant times. As a result of these materially false and misleading statements and failures to
disclose material information, Yukos Securities traded at artificially inflated prices during the Class
Period. Plaintiffs and other members of the Class purchased or otherwise acquired Yukos
Securities relying upon the integrity of the market price of Yukos Securities and market
information relating to Yukos, and have been damaged thereby when, inter alia, the price for
Yukos Securities fell upon revelation of the fraud.
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130. During the Class Period, defendants materially misled the investing public, thereby
inflating the price of Yukos Securities by publicly issuing false and misleading statements and
omitting to disclose material facts necessary to make defendants’ statements, as set forth herein, not
false and misleading. Said statements and omissions were materially false and misleading in that
they failed to disclose material adverse information and misrepresented the truth about the
Company, its business and operations, as alleged herein.
131. At all relevant times, the material misrepresentations and omissions particularized in
this Complaint directly or proximately caused or were a substantial contributing cause of the
damages sustained by plaintiffs and other members of the Class. As described herein, during the
Class Period, defendants made or caused to be made a series of materially false or misleading
statements about Yukos’ business, prospects, and operations. These material misstatements and
omissions had the cause and effect of creating in the market an unrealistically positive assessment
of Yukos and its business, prospects, and operations, thus causing the Company’s securities to be
overvalued and artificially inflated at all relevant times and to lose value when the truth was
revealed. Defendants’ materially false and misleading statements during the Class Period resulted
in plaintiffs and other members of the Class purchasing the Company’s securities at artificially
inflated prices, thus causing the damages complained of herein when the artificial inflation was
removed from the price of the Yukos Securities upon revelation of the fraud.
ADDITIONAL SCIENTER ALLEGATIONS
132. As alleged herein, defendants acted with scienter in that each defendant knew that
the public documents and statements issued or disseminated in the name of the Company were
materially false and misleading. In addition, at all times throughout the Class Period, defendants
also knew that such statements or documents would be issued or disseminated to the investing
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public and knowingly and substantially participated or acquiesced in the issuance or dissemination
of such statements or documents as primary violations of the federal securities laws.
133. As set forth elsewhere herein in detail, defendants, by virtue of their receipt of
information reflecting the true facts regarding Yukos, their control over, and/or receipt and/or
modification of Yukos’ allegedly materially misleading misstatements and/or their associations
with the Company which made them privy to confidential proprietary information concerning
Yukos, participated in the fraudulent scheme alleged herein.
Yukos Used Artificially Inflated Stock to Fund Its Class Period Acquisition of Sibneft
134. Through the material misrepresentations and omissions alleged herein, defendants
were able to use the Company’s artificially inflated stock as currency to acquire Sibneft, the fifth
largest Russian oil company, during the Class Period.
135. On April 22, 2003, in a joint press release (the “April 22 Joint Release”), Yukos and
Sibneft announced the merger. According to the April 22 Joint Release, the terms of the merger
were that Sibneft shareholders will sell 20% of their company for $3 billion. The remaining 80%
of Sibneft would be purchased through an exchange of shares whereby for each one share of
Sibneft stock they would acquire .0325% of the newly formed entity. At the end of the transaction,
Yukos shareholders would retain approximately 70-71% of the combined company.
136. Thus, by taking full advantage of the artificial inflation in the price of Yukos stock
caused by the publication of defendants’ false and materially misleading statements, defendants
acquired the controlling interest in the undisputed leader in Russian oil production and the fourth-
largest oil company in the world.
137. Menatep and the Individual Defendants were highly motivated to artificially inflate
the price of Yukos’ stock through the illegal tax scheme described herein, in order to make the
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above-referenced Class Period acquisition of Sibneft using fewer shares of Yukos stock, thus
preventing dilution of the Company’s stock.
The Massive Dividends Paid to Defendants Menatep, Khodorkovsky, and Lebedev
138. Defendants Menatep’s, Khodorkovsky’s, and Lebedev’s scienter is further
demonstrated, in part, by the enormous dividends they received as a result of the illegal tax scheme
(literally billions of dollars before and during the Class Period). During the existence of the tax
evasion scheme, Yukos paid dividends of:
(a) RUR 59.9 billion (approximately $2 billion) for the first nine months of 2003;
of which Menatep’s share was $1,220,000,000;
(b) RUR 22.079 billion (approximately $700 million) for 2002; of which
Menatep’s share was $427,000,000;
(c) RUR 15.25 billion (approximately $500 million) for 2001; of which
Menatep’s share was $305,000,000; and
(d) RUR 8.59 billion (approximately $300 million) for 2000; of which Menatep’s
share was $183,000,000.
139. In total, Menatep received dividends of $2,135,000,000, which it distributed to
Lebedev and Khodorkovsky. Menatep, Khodorkovsky and Lebedev were highly motivated to
artificially inflate Yukos’ net income and diminish Yukos’ tax liability through the illegal tax
scheme described herein, in order to receive the massive dividends. As Khodorkovsky stated in the
March 18 Forbes Article, “I earn money in dividends and with the increase in the market
capitalization of my company.”
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YUKOS’ VIOLATIONS OF U.S. GAAP
140. Prior to and during the Class period, defendants materially misled the investing
public, thereby inflating the price of the Company’s securities, in that they failed to disclose
material adverse information and misrepresented the truth about the Company, its financial
performance, accounting, reporting, and financial condition in violation of the federal securities
laws and U.S. GAAP.
141. During the Class Period, Yukos disseminated its fiscal 2002 and interim 2003 results
in press releases and financial statements to the investing public. These filings, as defendants knew
or recklessly ignored, falsely represented that the financial information contained therein fairly
stated the Company’s financial results and that such results were prepared in accordance with U.S.
GAAP.
142. GAAP are those principles recognized by the accounting profession as the
conventions, rules and procedures necessary to define accepted accounting practice at a particular
time. As set forth in Financial Accounting Standards Board (“FASB”) Statement of Concepts
(“Concepts Statement”) No. 1:
Financial reporting should provide information about an enterprise’s financial performance during a period. Investors and creditors often use information about the past to help in assessing the prospects of an enterprise. Thus, although investment and credit decisions reflect investors’ and creditors’ expectations about future enterprise performance, those expectations are commonly based at least partly on evaluations of past enterprise performance.
143. Regulation S-X (17 C.F.R. §210.4-01(a)(1)) states that financial statements filed
with the SEC which are not prepared in compliance with U.S. GAAP are presumed to be
misleading and inaccurate. Regulation S-X requires that interim financial statements must also
comply with U.S. GAAP, 17 C.F.R. §210.10-01(a).
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144. During the Class Period, defendants caused Yukos to issue financial statements in
violation of U.S. GAAP and SEC rules and regulations by failing to properly account and report its
results for fiscal year 2002 and the first and second quarter of 2003 in the following respects:
(a) Yukos understated its tax liability through the use of the illegal tax scheme
described in ¶¶60-84, thereby overstating net income;
(b) defendants falsely proclaimed that Yukos effective tax rate of 19.6 percent for
2002 when that rate was based on illegally claiming the benefits of “certain subsidiaries in several
tax jurisdictions . . . within Russia”, as described in ¶¶60-84, above;
(c) defendants falsely proclaimed that Yukos effective tax rate of 19.6 percent for
2002 when that rate was based on illegally claiming the benefits of “certain subsidiaries in several
tax jurisdictions . . . within Russia”, as described in ¶¶60-84, above;
(d) defendants falsely proclaimed that Yukos’ effective tax rate of 18.2 percent in
2001 when that rate was based on illegally claiming the benefits of “certain subsidiaries in several
tax jurisdictions . . . within Russia,” as described in ¶¶60-84, above, and not the recognition of
deferred tax credits; and
(e) Yukos failed to properly disclose the potential losses ensuing from the illegal
tax scheme described in ¶¶60-84, thereby materially understating the contingent losses.
Yukos’ Improper Reporting of Its Tax Liabilities
145. Generally GAAP provides that the “objectives for accounting for income taxes are
to recognize the amount of taxes payable or refundable for the current year and deferred tax
liabilities and assets associated with events that have been recognized in an enterprise’s financial
statements or tax returns.” FASB Statement No. 109, Accounting for Income Taxes (“FASB
109”) (February 1992). FASB 109 provides that the following basic principals are to be applied in
accounting for income taxes:
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(a) a current tax liability or asset is recognized for the estimated taxes payable or
refundable on tax returns for the current year;
(b) a deferred tax liability or asset is recognized for the estimated future tax
effects attributable to temporary differences and carry forwards;
(c) the measurement of current and deferred tax liabilities and assets is based on
provisions of the enacted tax law; the effects of future changes in tax laws or rates are not
anticipated; and
(d) the measurement of deferred tax assets is reduced, if necessary, by the amount
of any tax benefits that, based on available evidence, are not expected to be realized.
146. Also, FASB 109 provides that financial statements disclose income tax expense
attributable to continuing operations and adjustments of a tax liability or asset because of enacted
changes in tax laws or rates. FASB 109, ¶45. Moreover, deferred tax liabilities and assets are to be
adjusted to account for an enacted change in the tax laws or rates. The effect shall be disclosed in
continuing operations for the period that includes the enactment date. FASB 109, ¶27.
147. As noted above, the Russian Government enacted two key changes to its tax laws in
1998 and 1999 that essentially converted Yukos’ questionable tax scheme to an outright illegal
scheme.
148. For the reasons stated in ¶¶60-84, above, Yukos and the Defendants, including PwC,
knew or were reckless in not knowing that the tax avoidance scheme was directly contrary to
Russian law.
149. Despite such changes to Russian Tax Law, Yukos continued to overstate its earnings
and to understate its tax liability both prior to and during the Class Period. Indeed, Yukos engaged
in an illegal tax evasion scheme by shifting profits to shell organizations that the individual
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defendants caused to be created and registered in territories with preferential tax treatment.
Ultimately, Yukos, which has been audited by the Tax Ministry for its fiscal years 2000, 2001,
2002 and 2003 tax returns, will be required to pay additional taxes and penalties of approximately
$27.538 billion.
Yukos Failed to Properly Record and Disclose Related Party Transactions
150. GAAP, in FASB’s SFAS No. 57, provides guidance on disclosures of transactions
between related parties.4 SFAS No. 57 indicates that “enterprise’s financial statements may not be
complete without additional explanations of and information about related party transactions and
thus may not be reliable.” Accordingly, SFAS No. 57, requires that financial statements identify
material related party transactions and disclose: (a) the nature of the relationship(s), (b) a
description of the transaction, (c) the dollar amount of transactions for each period for which an
income statement is presented, and (d) the amounts due from or to the related parties as of the date
of each balance sheet.
151. In addition, GAAP, as noted the SEC’s SAB Topic 4E, provides that:
[I]n some cases, the significance of an amount may be independent of the amount involved. For example, amounts due to and from officers and directors, because of their special nature and origin, ought generally to be set forth separately [in financial statements] even though the dollar amounts involved are relatively small.
152. As noted in detail above, Yukos, prior to and during the Class Period, engaged in
literally hundreds of material related party and self-dealing transactions worth billions of dollars
that were not disclosed in its financial statements in violation of U.S. GAAP.
4 Pursuant to SFAS No. 57, related party transactions include transactions between an enterprise and its affiliates (a party that, directly or indirectly, controls, is controlled or is in common control with an enterprise), Directors of the Board, CEO, COO, Vice Presidents in charge of principal business functions and other persons who perform similar policy making functions.
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Yukos’ Improper Failure to Disclose Contingent Liabilities and Significant Risks and Uncertainties
153. Defendants attempt to deceive investors during the Class Period is otherwise
evidenced by the failure of Yukos’ financial statements to disclose its contingent liabilities in
conformity with GAAP.
154. GAAP requires that financial statements disclose contingencies when it is at least
reasonably possible (e.g., a greater than slight chance) that a loss may have been incurred. SFAS
No. 5, ¶10. The disclosure shall indicate the nature of the contingency and shall give an estimate of
the possible loss, a range of loss, or state that such an estimate cannot be made. Id.
155. The SEC considers the disclosure of loss contingencies to be so important to an
informed investment decision that it issued Article 10-01 of Regulation S-X [17 C.F.R. §210.10-
01], which provides that disclosures in interim period financial statements may be abbreviated and
need not duplicate the disclosure contained in the most recent audited financial statements, except
that “where material contingencies exist, disclosure of such matters shall be provided even though a
significant change since year end may not have occurred.”
156. In addition, GAAP requires that financial statements disclose significant risks and
uncertainties associated with associated with an entity’s business. American Institute of Certified
Public Accountant’s Statement of Position No. 94-6.
157. In violation of GAAP, Yukos’ financial statements during the Class period
improperly failed to disclose the risks and uncertainties associated with defendants’ tax avoidance
practices. Indeed, defendants’ scheme improperly understated Yukos’ income tax liabilities by
more than a billion dollars. Nonetheless, the Company’s financial statements during the Class
Period failed to disclose that it engaged in illegal practices which defendants knew or recklessly
ignored contingently subjected Yukos to civil and criminal tax liabilities.
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Additional GAAP Violations
158. In addition to the violations of GAAP noted above, the Company presented its
financial results and statements in a manner that also violated the following fundamental
accounting principles:
(a) The principle that interim financial reporting should be based upon the same accounting principles and practices used to prepare annual financial statements (APB No. 28, 12);
(b) The concept that financial reporting should provide information that is useful to present and potential investors and creditors and other users in making rational investment, credit, and similar decisions (Concepts Statement No. 1, ¶34);
(c) The concept that financial reporting should provide information about the economic resources of an enterprise, the claims to those resources, and effects of transactions, events, and circumstances that change resources and claims to those resources (Concepts Statement No. 1, ¶40);
(d) The concept that financial reporting should provide information about how management of an enterprise has discharged its stewardship responsibility to owners (stockholders) for the use of enterprise resources entrusted to it. To the extent that management offers securities of the enterprise to the public, it voluntarily accepts wider responsibilities for accountability to prospective investors and to the public in general (Concepts Statement No. 1, ¶50);
(e) The concept that financial reporting should provide information about an enterprise’s financial performance during a period. Investors and creditors often use information about the past to help in assessing the prospects of an enterprise. Thus, although investment and credit decisions reflect investors’ expectations about future enterprise performance, those expectations are commonly based at least partly on evaluations of past enterprise performance (Concepts Statement No. 1, ¶42);
(f) The concept that financial reporting should be reliable in that it represents what it purports to represent. That information should be reliable as well as relevant is a notion that is central to accounting (Concepts Statement No. 2, ¶¶58-59);
(g) The concept of completeness, which means that nothing is left out of the information that may be necessary to insure that it validly represents underlying events and conditions (Concepts Statement No. 2, ¶79); and
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(h) The concept that conservatism be used as a prudent reaction to uncertainty to try to ensure that uncertainties and risks inherent in business situation are adequately considered. The best way to avoid injury to investors is to try to ensure that what is reported represents what it purports to represent (Concepts Statement No. 2, ¶¶95, 97).
PWC VIOLATED THE RELEVANT ACCOUNTING AND AUDITING STANDARDS
159. Defendant PwC is a worldwide firm of certified public accountants, auditors and
consultants. Through its Moscow, Russia office, PwC served as Yukos’ auditor and principal
accounting firm throughout the Class Period. PwC was required to audit the Company’s financial
statements in accordance with Generally Accepted Auditing Standards (“GAAS”) in the U.S., and
to report the audit results to Yukos and the members of the investing public, including plaintiffs
and the other members of the Class. With knowledge of Yukos’ true financial condition, or in
reckless disregard thereof, PwC issued the following unqualified audit report on Yukos’ 2002
annual financial statements which was filed by the Company with the SEC:
To the Board of Directors and Shareholders of YUKOS Oil Company
In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of income, of cash flows, and of changes in shareholders’ equity present fairly, in all material respects, the financial position of YUKOS Oil Company and its subsidiaries at December 31, 2002, and 2001, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2002, in conformity with accounting principles generally accepted in the United States of America. These financial statements are the responsibility of the Company’s management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States of America, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
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160. PwC’s audit opinion on Yukos’ financial statements falsely represented that such
financial statements were presented in conformity with U.S. GAAP when, as noted above, they
failed to conform with U.S. GAAP in numerous respects. In fact, during the Class Period, Yukos
engaged in illegal tax evasion schemes, which have now subjected the Company to tax liabilities
and penalties totaling approximately $27.5 billion.
161. PwC’s audit report was also materially false and misleading in that PwC’s audit was
not conducted in accordance with U.S. GAAS. For example, U.S. GAAS, in AU §9326 provides
• Concern over [taxing authorities] access to tax accrual working papers might cause some clients to not prepare or maintain appropriate documentation of the calculation or contents of the accrual for income taxes included in the financial statements, or to deny the independent auditor access to such information. What effect does this situation have on the auditor’s opinion on the financial statements?
Interpretation - The client is responsible for its tax accrual, the underlying support for the accrual, and the related disclosures. Limitations on the auditor’s access to information considered necessary to audit the tax accrual will affect the auditor’s ability to issue an unqualified opinion on the financial statements. Thus, if the client does not have appropriate documentation of the calculation or contents of the accrual for income taxes and denies the auditor access to client personnel responsible for making the judgments and estimates relating to the accrual, the auditor should assess the importance of that inadequacy in the accounting records and the client imposed limitation on his or her ability to form an opinion on the financial statements. Also, if the client has appropriate documentation but denies the auditor access to it and to client personnel who possess the information, the auditor should assess the importance of the client-imposed scope limitation on his or her ability to form an opinion.
• The auditor’s documentation of the results of auditing procedures directed at the tax accounts and related disclosures also should include sufficient competent evidential matter about the significant elements of the client’s tax liability contingency analysis. This documentation should include copies of the client’s documents, schedules, or analyses (or auditor-prepared summaries thereof) to enable the auditor to support his or her conclusions regarding the appropriateness of the client’s accounting and disclosure of significant tax-related contingency matters. The audit documentation should reflect the procedures performed and conclusions reached by the auditor and, for significant matters, include the client’s documentary support for its financial statement amounts and disclosures.
The audit documentation should include the significant elements of the client’s analysis of tax contingencies or reserves, including roll-forward of material changes
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to such reserves. In addition, the documentation should provide the client’s position and support for income tax related disclosures, such as its effective tax rate reconciliation, and support for its intra-period allocation of income tax expense or benefit to continuing operations and to items other than continuing operations. Where applicable, the documentation also should include the client’s basis for assessing deferred tax assets and related valuation allowances and its support for applying the “indefinite reversal criteria” in APB Opinion No. 23, Accounting for Income Taxes-Special Areas, including its specific plans for reinvestment of undistributed foreign earnings.
• Question - In some situations, a client may furnish its outside legal counsel or in-house legal or tax counsel with information concerning the tax contingencies covered by the accrual for income taxes included in the financial statements and ask counsel to provide the auditor an opinion on the adequacy of the accrual for those contingencies. In such circumstances, rather than inspecting and obtaining documentary evidence of the client’s tax liability contingency analysis and making inquiries of the client, may the auditor consider the counsel as a specialist within the meaning of section 336, Using the Work of a Specialist, and rely solely on counsel’s opinion as an appropriate procedure for obtaining evidential matter to support his or her opinion on the financial statements?
Interpretation - No. The opinion of legal counsel in this situation would not provide sufficient competent evidential matter to afford a reasonable basis for an opinion on the financial statements. Section 336.01 defines a specialist as “a person (or firm) possessing special skill or knowledge in a particular field other than accounting or auditing.” It is intended to apply to situations requiring special knowledge of matters about which the auditor does not have adequate technical training and proficiency. The auditor’s education, training, and experience, on the other hand, do enable him or her to be knowledgeable concerning income tax matters and competent to assess their presentation in the financial statements. The opinion of legal counsel on specific tax issues that he or she is asked to address and to which he or she has devoted substantive attention, as contemplated by section 337, Inquiry of a Client’s Lawyer Concerning Litigation, Claims, and Assessments, can be useful to the auditor in forming his or her own opinion. However, the audit of income tax accounts requires a combination of tax expertise and knowledge about the client’s business that is accumulated during all aspects of an audit. Therefore, as stated above, it is not appropriate for the auditor to rely solely on such legal opinion.
• Question - A client may have obtained the advice or opinion of an outside tax adviser related to the tax accrual or matters affecting it, including tax contingencies, and further may attempt to limit the auditor’s access to such advice or opinion, or limit the auditor’s documentation of such advice or opinion. This limitation on the auditor’s access may be proposed on the basis that such information is privileged. Can the auditor rely solely on the conclusions of third party tax advisers? What evidential matter should the auditor obtain and include in the audit documentation?
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Interpretation - As discussed …above, the auditor cannot accept a client’s or a third party’s analysis or opinion with respect to tax matters without careful consideration and application of the auditor’s tax expertise and knowledge about the client’s business. As a result of applying such knowledge to the facts, the auditor may encounter situations in which the auditor either disagrees with the position taken by the client, or its advisers, or does not have sufficient competent evidential matter to support his or her opinion. If the client’s support for the tax accrual or matters affecting it, including tax contingencies, is based upon an opinion issued by an outside adviser with respect to a potentially material matter, the auditor should obtain access to the opinion, notwithstanding potential concerns regarding attorney-client or other forms of privilege. The audit documentation should include either the actual advice or opinions rendered by an outside adviser, or other sufficient documentation or abstracts supporting both the transactions or facts addressed as well as the analysis and conclusions reached by the client and adviser. Alternatives such as redacted or modified opinions may be considered, but must nonetheless include sufficient content to articulate and document the client’s position so that the auditor can formulate his or her conclusion. Similarly, it may be possible to accept a client’s analysis summarizing an outside adviser’s opinion, but the client’s analysis must provide sufficient competent evidential matter for the auditor to formulate his or her conclusion. In addition, client representations may be obtained stating that the client has not received any advice or opinions that are contradictory to the client’s support for the tax accrual. If the auditor is unable to accumulate sufficient competent evidence about whether there is a supported and reasonable basis for the client’s position, the auditor should consider the effect of this scope limitation on his or her report.
162. Accordingly, GAAS required PwC to obtain audit evidence sufficient to support
Yukos’ income tax expense and liability in its 2002 financial statements. Had PwC done so, it
would have determined, if it did not already know, that such income tax amounts were materially
false and misleading.
163. In addition, at all times relevant hereto, Yukos exhibited significant internal control
weaknesses, including a lack of appropriate formal policies and procedures, which subjected the
Company to significant risk of material financial statement misstatements. GAAS requires an
auditor to determine three initial risk factors in order to obtain an understanding of internal controls
sufficient to plan an audit. An auditor must evaluate (i) “control risk,” or whether a misstatement
will be prevented or detected on a timely basis by the entity’s internal controls; (ii) “inherent risk,”
or whether the possibility exists that there will be a misstatement due to lack of internal controls;
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and (iii) “detection risk,” or whether the auditor will detect the material misstatement.
AU §319.46.
164. GAAS required PwC to study Yukos’ internal controls before issuing an opinion on
financial statements. With respect to internal controls, GAAS requires that:
AU §319, Consideration of Internal Control in a Financial Statement Audit
In all audits, the auditor should obtain an understanding of internal controls sufficient to plan the audit by performing procedures to understand the design of controls relevant to an audit of financial statements, and whether they have been placed in operation. [319.02]
In all audits, the auditor should obtain an understanding of each of the five components of internal control sufficient to plan the audit by performing procedures to understand the design of controls relevant to an audit of financial statements, and whether they have been placed in operation. In planning the audit, such knowledge should be used to
• Identify types of potential misstatement.
• Consider factors that affect the risk of material misstatement.
• Design substantive tests. [319.19]
The auditor should obtain sufficient knowledge of the control environment to understand management’s and the board of directors’ attitude, awareness, and actions concerning the control environment, considering both the substance of controls and their collective effect. The auditor should concentrate on the substance of controls rather than their form, because controls may be established but not acted upon. For example, management may establish a formal code of conduct but act in a manner that condones violations of that code. [319.26]
The auditor should obtain sufficient knowledge of the entity’s risk assessment process to understand how management considers risks relevant to financial reporting objectives and decides about actions to address those risks. This knowledge might include understanding how management identifies risks, estimates the significance of the risks, assesses the likelihood of their occurrence, and relates them to financial reporting. [319.30]
165. GAAS, as set forth in AU §326, Evidential Matter, also requires auditors to obtain
sufficient, competent, evidential matter through inspection, observation, inquiries, and
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confirmations to afford a reasonable basis for an opinion regarding the financial statements under
audit:
In evaluating evidential matter, the auditor considers whether specific audit objectives have been achieved. The independent auditor should be thorough in his or her search for evidential matter and unbiased in its evaluation. In designing audit procedures to obtain competent evidential matter, he or she should recognize the possibility that the financial statements may not be fairly presented in conformity with generally accepted accounting principles or a comprehensive basis of accounting other than generally accepted accounting principles. In developing his or her opinion, the auditor should consider relevant evidential matter regardless of whether it appears to corroborate or to contradict the assertions in the financial statements. To the extent the auditor remains in substantial doubt about any assertion of material significance, he or she must refrain from forming an opinion until he or she has obtained sufficient competent evidential matter to remove such substantial doubt, or the auditor must express a qualified opinion or a disclaimer of opinion. AU §326.25 (footnotes omitted).
166. PwC violated GAAS in that:
• First, auditing tax statements and an examination of the documentation would have revealed Yukos’ illegal tax scheme and the improper reporting of the effective tax rate and tax liabilities. It would also have revealed that Yukos failed to disclose the extent and nature of its tax scheme in its SEC filings;
• Second, a determination of the tax provision in the income statement and the documentation supporting it would have revealed Yukos’ illegal tax scheme and the improper reporting of the effective tax rate and tax liabilities. It would also have revealed that Yukos failed to disclose the extent and nature of its tax scheme in its SEC filings;
• Third, a determination of the timing of tax payments would have revealed Yukos’ illegal tax scheme and the improper reporting of the effective tax rate and tax liabilities. It would also have revealed that Yukos failed to disclose the extent and nature of its tax scheme in its SEC filings;
• Fourth, the obtaining of a reasonable assurance that all tax liabilities (or refunds receivable), tax provisions, and deferred tax accounts (including the valuation allowance) are included in the financial statements; that they are properly measured, classified, and described; and that all necessary disclosures are made in the financial statements would have revealed Yukos’ illegal tax scheme and the improper reporting of the effective tax rate and tax liabilities. It would also have revealed that Yukos failed to disclose the extent and nature of its tax scheme in its SEC filings;
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• Fifth, the basic auditing procedures to test the accuracy of the computation of the current and deferred tax liability would have revealed Yukos’ illegal tax scheme and the improper reporting of the effective tax rate and tax liabilities. It would also have revealed that Yukos failed to disclose the extent and nature of its tax scheme in its SEC filings; and
• Sixth, the requirement that the auditor should determine that the entity has provided for probable loss contingencies that are reasonably estimable particularly, those contingencies that result from existing disagreements with taxing authorities or from the possibility that future disagreements may arise over positions an entity takes in its current tax return would have revealed Yukos’ illegal tax scheme and the improper reporting of the effective tax rate and tax liabilities. It would also have revealed that Yukos failed to disclose the extent and nature of its tax scheme in its SEC filings.
167. PwC’s responsibility, as Yukos’ independent auditor, was to obtain “sufficient
competent evidential matter . . . to afford a reasonable basis for an opinion regarding the financial
statements under audit” as to “the fairness with which they present, in all material respects,
financial position, results of operations, and its cash flows in conformity with generally accepted
accounting principles.” AU §§110, 150.
168. In violation of GAAS, and contrary to the representations in its report on Yukos’
financial statements, PwC did not obtain sufficient, competent, evidential matter to support Yukos’
assertions regarding its net income and tax liability.
169. In certifying Yukos’ 2002 year-end financial statements, PwC represented that its
audits had been made in accordance with GAAS. This statement was false and misleading in that
PwC knew or recklessly ignored that Yukos’ financial statements were not prepared in conformity
with GAAP and that PwC’s audit was not performed in accordance with GAAS.
170. During the Class Period, as a result of its relationship with Yukos and its duties as
Yukos’ auditors, PwC personnel were regularly present at Yukos corporate headquarters. PwC had
continual access to and knowledge of Yukos’ confidential corporate financial and business
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information through conversations with employees of Yukos and through review of Yukos’ non-
public documents.
171. In addition, PwC personnel had the opportunity and duty to observe and review the
Company’s business and accounting practices and to test the Company’s internal and publicly
reported financial statements, as well as the Company’s internal controls and structures.
172. PwC knowingly and/or recklessly permitted Yukos to use improper accounting
practices and to make misleading and inadequate disclosures, all in violation of U.S. GAAP (and
SEC reporting requirements), to falsely inflate Yukos’ reported net income and understate Yukos’
tax liability during the Class Period.
173. In fact, PwC refers to its expertise in its website as follows:
PwC has the knowledge and expertise necessary to help you with complex financial accounting issues related to matters such as valuations, pensions and share plans, listings, IFRS conversions, and corporate treasury and company secretarial functions. To improve your financial accounting and keep you abreast of new developments in corporate reporting, our experienced professionals will provide you with a combination of technical advice, support tools, and training of in-house accounting staff.
174. PwC specifically touts its expertise in Russian tax issues:
PwC Tax Services in Russia
PricewaterhouseCoopers Tax Services is the largest practice in Russia, staffed with over 140 Russian and Western specialists with a wide range of experience. These specialists work closely with Russian officials to provide the most current and accurate information on new legislative developments in all areas of taxation of pertinent interest to foreign investors and Russian enterprises.
The Department, established in 1989, has experience in assisting both Russian and multinational clients plan, structure, operate and expand their business in the Russian Federation.
OUR SKILLS AND SERVICES
Tax Services Department has client teams working in industry and technical specialists. For example, there are 15 full time VAT and Customs experts.
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Another group of 23 professionals provides expert advice on International Assignment and Personal Tax Services. Part of it is the Global Human Resources Solutions group implementing consulting services in the HR area. The Department is set to provide professional services to the companies engaged in the following industry sectors:
* * *
Energy and Mining
The Department has established a reputation for providing practical business solutions, not just technical services. Solutions can be found using the expertise and experience of our people in the following areas:
International Tax Planning for Russian businesses
Transfer Pricing Planning
* * *
Russian Corporate Tax Planning - ranging from initial structuring and day to day operations to expansion into the Regions
Financial Tax Services
* * *
Value Added Tax Advice and Consulting - (specialised VAT planning reviews, VAT consultancy advice on any transaction, and staff training on VAT issues)
Tax Advice and Planning Opportunities for Corporate E-Business projects.
175. GAAS also requires the auditor to assess the risk that financial statements are
materially misstated and provides the auditor with specific factors to be considered in connection
with the auditor’s assessment. In this regard, PwC knew or flagrantly ignored the following during
the class period:
(a) PwC knew, or was reckless in not knowing, that Yukos was engaging in a
massive transfer pricing scheme, whereby its subsidiaries “sold” oil and oil products to seventeen
shell companies at substantially below-market prices, who, in turn “sold” the oil and oil products,
through the mediation of Yukos and Menatep, on the open market;
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(b) PwC knew, or was reckless in not knowing, that the transactions described
immediately above were undertaken for the sole purpose of taking advantage of certain Russian tax
exemptions;
(c) PwC knew, or was reckless in not knowing, that that the seventeen shell
companies did not meet the basic requirements to obtain the tax free status claimed;
(d) PwC knew, or was reckless in not knowing, that that the below-market
transactions with the seventeen shell companies violated Russian law; and
(e) Yukos’ GAAP violations were apparent on their face and were not complex
accounting issues.
176. PwC abandoned its role as independent auditor by turning a blind eye to each of the
above indications of improper accounting. Despite this knowledge, PwC did not insist upon
adjustments to Yukos’ audited financial statements. Pursuant to GAAS, PwC should have issued a
qualified or adverse report, or it should have insisted that Yukos comply with U.S. GAAP.
177. Moreover, Symbol 10A of the Securities Exchange Act required PwC to
“determine” whether, in the course of its audits, an illegal act occurred and to notify the SEC if it
became aware of information indicating that an illegal act occurred if Yukos’ management or
Board of Directors failed to take appropriate remedial action with respect to the illegal acts. PwC
knew, or recklessly ignored, that it violated 10A of the Securities Exchange Act in the performance
of its “audits” of Yukos’ 2002 year end financial statements.
178. In addition to issuing the audit report referred to above, PwC performed reviews of
Yukos’ 2003 interim financial statements and reviewed, discussed and improperly approved
Yukos’ press releases on Yukos’ interim 2003 financial results.
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179. PwC’s failure to qualify, modify, or abstain from issuing its audit opinion on Yukos’
2002 financial statements, as well as PwC’s work in connection with Yukos’ interim information,
when it knew or deliberately turned a blind eye to numerous facts that showed that those financial
statements were materially false and misleading. In addition to violations of GAAS noted above,
PwC also violated at least the following provisions of GAAS:
• PwC violated the second general standard, which provides that “[i]n all matters relating to the assignment, an independence in mental attitude is to be maintained by the auditor or auditors.”
• PwC violated the third general standard, which provides that “[d]ue professional care is to be exercised in the performance of the audit and the preparation of the report.”
• PwC violated the second standard of field work, which provides that “[a] sufficient understanding of internal control is to be obtained to plan the audit and to determine the nature, timing, and extent of tests to be performed.” This standard requires the auditor to make a proper study of existing internal controls, including accounting, financial and managerial controls, to determine whether reliance thereon was justified, and if such controls are not reliable, to expand the nature and scope of the auditing procedures to be applied. In the course of auditing Yukos’ financial statements, PwC either knew or recklessly disregarded facts that evidenced that it failed to sufficiently understand Yukos’ internal control structure and/or it disregarded weaknesses and deficiencies in Yukos’ internal control structure, and failed to adequately plan its audit or expand its auditing procedures.
• PwC violated the third standard of field work, which provides that “[s]ufficient competent evidential matter is to be obtained through inspection, observation, inquiries, and confirmations to afford, a reasonable basis- for an opinion regarding the financial statements under audit.”
• PwC violated the first standard of reporting, which provides that “[t]he report shall state whether the financial statements are presented in accordance with generally accepted accounting principles.”
• PwC violated the second standard of reporting, which provides that “[t]he report shall identify those circumstances in which such principles have not been consistently observed in the current period in relation to the preceding period.”
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• PwC violated the third standard of reporting, which provides that “[i]nformative disclosures in the financial statements are to be regarded as reasonably adequate unless otherwise stated in the report.”
• PwC violated the fourth standard of reporting, which provides that “[t]he report shall either contain an expression of opinion regarding the financial statements, taken as a whole, or an assertion to the effect that an opinion cannot be expressed. When an overall opinion cannot be expressed, the reasons therefore should be stated. In all cases where an auditor’s name is associated with financial statements, the report should contain a clear-cut indication of the character of the auditor’s work, if any, and the degree of responsibility the auditor is taking.” This standard requires that when an opinion on the financial statements taken as a whole cannot be expressed, the reasons therefore must be stated. PwC should have stated that it could issue only a qualified opinion on Yukos’ 2002 financial statement.
• PwC violated AU §319.18, which provides that “when the presence of management incentives creates an environment that could result in material misstatement of financial statements, the effectiveness of control activities may be reduced.”
• PwC violated AU §319.22, which provides that “[t]he auditor’s understanding of internal control may sometimes, raise doubts about the auditability of an entity’s financial statements.” Indeed, “[c]oncerns about the integrity of the entity’s management may be so serious as to cause the auditor to conclude that the risk of management misrepresentation in the financial statements is such that an audit cannot be conducted.” Moreover, “[c]oncerns about the nature and extent of an entity’s records may cause the auditor to conclude that it is unlikely that sufficient competent evidential matter will be available to support an opinion on the financial statements.”
• PwC violated AU §380.09, which states that “[t]he auditor should inform the audit committee about adjustments arising from the audit that could, in his judgment, either individually or in the aggregate, have a significant effect on the entity’s financial reporting process.” For purposes of this section, “an audit adjustment, whether or not recorded by the entity, is a proposed correction of the financial statements that, in the auditor’s judgment, may not have been detected except through the auditing procedures performed.” Indeed, “[m]atters underlying adjustments proposed by the auditor but not recorded by the entity could potentially cause future financial statements to be materially misstated, even though the auditor has concluded that the adjustments are not material to the current financial statements.”
180. As one of the largest audit firms in the world, PwC was well aware of the strategies,
methods and procedures required by GAAS to conduct a proper audit. Also, PwC knew of the
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audit risks inherent at Yukos and in the industries in which Yukos operated because of the
comprehensive services it provided to Yukos over the years and its experience in the oil and gas
industry. Indeed, PwC touts its expertise in auditing oil and gas producers like Yukos.
Accordingly, PwC knew, or recklessly ignored, that it failed to conduct its audit on Yukos’ 2002
financial statements in accordance with GAAS.
NO SAFE HARBOR
181. The statutory safe harbor provided for forward-looking statements under certain
circumstances does not apply to any of the allegedly false statements pleaded in this complaint.
Many of the specific statements pleaded herein were not identified as “forward-looking statements”
when made. To the extent there were any forward-looking statements, there were no meaningful
cautionary statements identifying important factors that could cause actual results to differ
materially from those in the purportedly forward-looking statements. Alternatively, to the extent
that the statutory safe harbor does apply to any forward-looking statements pleaded herein,
defendants are liable for those false forward-looking statements because at the time each of those
forward-looking statements was made, the particular speaker knew that the particular forward-
looking statement was false, and/or the forward-looking statement was authorized and/or approved
by an executive officer of Yukos who knew that those statements were false when made.
PLAINTIFFS’ CLASS ACTION ALLEGATIONS
182. Plaintiffs bring this action as a class action pursuant to Federal Rule of Civil
Procedure 23(a) and (b)(3) on behalf of a Class, consisting of all those who purchased or otherwise
acquired the Yukos Securities between January 22, 2003 and October 25, 2003, inclusive (the
“Class”) and who were damaged thereby. Excluded from the Class are defendants, the officers and
directors of the Company, at all relevant times, members of their immediate families and their legal
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representatives, heirs, successors or assigns and any entity in which defendants have or had a
controlling interest.
183. The members of the Class are so numerous that joinder of all members is
impracticable. Throughout the Class Period, Yukos Securities were actively traded over-the-
counter in the U.S., on the Russian Trading System (RTS) and the Moscow Interbank Currency
Exchange (MICEX) in Russia, as well as on worldwide markets on the following international
exchanges: Frankfurt, Munich, Stuttgart and Berlin Stock Exchanges and the London Stock
Exchange International Order Book. While the exact number of Class members is unknown to
plaintiff at this time and can only be ascertained through appropriate discovery, plaintiff believes
that there are tens of thousands of members in the proposed Class. Record owners and other
members of the Class may be identified from records maintained by Yukos or its transfer agent and
may be notified of the pendency of this action by mail, using the form of notice similar to that
customarily used in securities class actions.
184. Plaintiffs’ claims are typical of the claims of the members of the Class as all
members of the Class are similarly affected by defendants’ wrongful conduct in violation of federal
law that is complained of herein. Plaintiffs will fairly and adequately protect the interests of the
members of the Class and have retained counsel competent and experienced in class and securities
litigation.
185. Common questions of law and fact exist as to all members of the Class and
predominate over any questions solely affecting individual members of the Class. Among the
questions of law and fact common to the Class are:
(a) whether the federal securities laws were violated by defendants’ acts as
alleged herein;
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(b) whether statements made by defendants to the investing public during the
Class Period misrepresented material facts about the business, operations, and management of
Yukos; and
(c) to what extent the members of the Class have sustained damages and the
proper measure of damages.
186. A class action is superior to all other available methods for the fair and efficient
adjudication of this controversy since joinder of all members is impracticable. Furthermore, as the
damages suffered by individual Class members may be relatively small, the expense and burden of
individual litigation make it impossible for members of the Class to individually redress the wrongs
done to them. There will be no difficulty in the management of this action as a class action.
COUNT I
Violation of Section 10(b) of the Exchange Act and Rule 10b-5
Promulgated Thereunder Against All Defendants
187. Plaintiffs repeat and reallege each and every allegation contained above as if fully
set forth herein.
188. During the Class Period, defendants carried out a plan, scheme and course of
conduct which was intended to and, throughout the Class Period, did: (i) deceive the investing
public, including plaintiffs and other Class members, as alleged herein; and (ii) cause plaintiffs and
other members of the Class to purchase Yukos Securities at artificially inflated prices. In
furtherance of this unlawful scheme, plan and course of conduct, defendants, jointly and
individually (and each of them) took the actions set forth herein.
189. Defendants (a) employed devices, schemes, and artifices to defraud; (b) made untrue
statements of material fact and/or omitted to state material facts necessary to make the statements
not misleading; and (c) engaged in acts, practices, and a course of business which operated as a
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fraud and deceit upon the purchasers of the Company’s securities in an effort to maintain
artificially high market prices for Yukos Securities in violation of Section 10(b) of the Exchange
Act and Rule 10b 5. All defendants are sued either as primary participants in the wrongful and
illegal conduct charged herein or as controlling persons as alleged below.
190. Defendants, individually and in concert, directly and indirectly, by the use, means or
instrumentalities of interstate commerce and/or of the mails, engaged and participated in a
continuous course of conduct to conceal adverse material information about the business,
operations and future prospects of Yukos as specified herein.
191. These defendants employed devices, schemes and artifices to defraud, while in
possession of material adverse non-public information and engaged in acts, practices, and a course
of conduct as alleged herein in an effort to assure investors of Yukos’ value and performance and
continued substantial growth, which included the making of, or the participation in the making of,
untrue statements of material facts and omitting to state material facts necessary in order to make
the statements made about Yukos and its business operations and future prospects in the light of the
circumstances under which they were made, not misleading, as set forth more particularly herein,
and engaged in transactions, practices and a course of business which operated as a fraud and deceit
upon the purchasers of Yukos Securities during the Class Period.
192. Each of the Individual Defendants’ primary liability, and controlling person liability,
arises from the following facts: (i) the Individual Defendants were high-level executives and/or
directors at the Company during the Class Period and members of the Company’s management
team or had control thereof; (ii) each of these defendants, by virtue of his responsibilities and
activities as a senior officer and/or director of the Company was privy to and participated in the
creation, development and reporting of the Company’s internal budgets, plans, projections and/or
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reports; (iii) each of these defendants enjoyed significant personal contact and familiarity with the
other defendants and was advised of and had access to other members of the Company’s
management team, internal reports and other data and information about the Company’s finances,
operations, and sales at all relevant times; and (iv) each of these defendants was aware of the
Company’s dissemination of information to the investing public which they knew or recklessly
disregarded was materially false and misleading.
193. The defendants had actual knowledge of the misrepresentations and omissions of
material facts set forth herein, or acted with reckless disregard for the truth in that they failed to
ascertain and to disclose such facts. Such defendants’ material misrepresentations and/or omissions
were done knowingly or recklessly and for the purpose and effect of concealing Yukos’ operating
condition and future business prospects from the investing public and supporting the artificially
inflated price of its securities. As demonstrated by defendants’ overstatements and misstatements
of the Company’s business, operations and earnings throughout the Class Period, defendants, if
they did not have actual knowledge of the misrepresentations and omissions alleged, were reckless
in failing to obtain such knowledge by deliberately refraining from taking those steps necessary to
discover whether those statements were false or misleading.
194. As a result of the dissemination of the materially false and misleading information
and failure to disclose material facts, as set forth above, the market price of Yukos Securities was
artificially inflated during the Class Period. In ignorance of the fact that market prices of Yukos’
publicly-traded securities were artificially inflated, and relying directly or indirectly on the false
and misleading statements made by defendants, or upon the integrity of the market in which the
securities trade, and/or on the absence of material adverse information that was known to or
recklessly disregarded by defendants but not disclosed in public statements by defendants during
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the Class Period, plaintiffs and the other members of the Class acquired Yukos Securities during
the Class Period at artificially high prices and were damaged thereby.
195. At the time of said misrepresentations and omissions, plaintiffs and other members
of the Class were ignorant of their falsity, and believed them to be true. Had plaintiffs and the
other members of the Class and the marketplace known the truth regarding the problems that Yukos
was experiencing, which were not disclosed by defendants, plaintiffs and other members of the
Class would not have purchased or otherwise acquired their Yukos Securities, or, if they had
acquired such securities during the Class Period, they would not have done so at the artificially
inflated prices which they paid.
196. By virtue of the foregoing, defendants have violated Section 10(b) of the Exchange
Act, and Rule 10b-5 promulgated thereunder.
197. As a direct and proximate result of defendants’ wrongful conduct, plaintiffs and the
other members of the Class suffered damages in connection with their respective purchases and
sales of the Company’s securities during the Class Period.
COUNT II
Violation of Section 20(a) of the Exchange Act Against the Individual Defendants, Menatep & Lebedev
198. Plaintiff repeats and realleges each and every allegation contained above as if fully
set forth herein.
199. The Individual Defendants, Menatep & Lebedev acted as controlling persons of
Yukos within the meaning of Section 20(a) of the Exchange Act as alleged herein. By virtue of
their high-level positions, and their ownership and contractual rights, participation in and/or
awareness of the Company’s operations and/or intimate knowledge of the false financial statements
filed by the Company with the SEC and disseminated to the investing public, the Individual
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Defendants, Menatep and Lebedev had the power to influence and control and did influence and
control, directly or indirectly, the decision-making of the Company, including the content and
dissemination of the various statements which plaintiff contends are false and misleading. The
Individual Defendants, Menatep, and Lebedev were provided with or had unlimited access to
copies of the Company’s reports, press releases, public filings and other statements alleged by
plaintiffs to be misleading prior to and/or shortly after these statements were issued and had the
ability to prevent the issuance of the statements or cause the statements to be corrected.
200. In particular, the Individual Defendants had direct and supervisory involvement in
the day-to-day operations of the Company and, therefore, are presumed to have had the power to
control or influence the particular transactions giving rise to the securities violations as alleged
herein, and exercised the same.
201. In particular, Menatep and Lebedev, through their ownership and/or control of
Yukos and the Individual Defendants, and their direct participation in the alleged tax evasion
scheme are presumed to have had the power to control or influence the particular transactions
giving rise to the securities violations as alleged herein, and exercised the same.
202. As set forth above, Yukos, the Individual Defendants, Menatep and Lebedev each
violated Section 10(b) and Rule 10b-5 by their acts and omissions as alleged in this Complaint. By
virtue of their positions as controlling persons, the Individual Defendants, Menatep and Lebedev
are liable pursuant to Section 20(a) of the Exchange Act. As a direct and proximate result of
defendants’ wrongful conduct, plaintiffs and other members of the Class suffered damages in
connection with their purchases of the Company’s securities during the Class Period.
WHEREFORE, plaintiff prays for relief and judgment, as follows:
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A. Determining that this action is a proper class action and certifying plaintiffs as a class
representatives under Rule 23 of the Federal Rules of Civil Procedure;
B. Awarding compensatory damages in favor of plaintiffs and the other Class members
against all defendants, jointly and severally, for all damages sustained as a result of defendants’
wrongdoing, in an amount to be proven at trial, including interest thereon;
C. Awarding plaintiffs and the Class their reasonable costs and expenses incurred in this
action, including counsel fees and expert fees;
D. Awarding extraordinary, equitable and/or injunctive relief as permitted by law, equity
and the federal statutory provisions sued hereunder, pursuant to Rules 64 and 65 and any appropriate
state law remedies to assure that the Class has an effective remedy; and
E. Such other and further relief as the Court may deem just and proper.
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JURY TRIAL DEMANDED
Plaintiffs hereby demand a trial by jury.
DATED: March 9, 2005 LERACH COUGHLIN STOIA GELLER RUDMAN & ROBBINS LLP SAMUEL H. RUDMAN (SR-7957) ROBERT M. ROTHMAN (RR-6090)
s/SAMUEL H. RUDMAN
200 Broadhollow Road, Suite 406 Melville, NY 11747 Telephone: 631/367-7100 631/367-1173 (fax) LERACH COUGHLIN STOIA GELLER RUDMAN & ROBBINS LLP WILLIAM S. LERACH DARREN J. ROBBINS 401 B Street, Suite 1700 San Diego, CA 92101 Telephone: 619/231-1058 619/231-7423 (fax) MURRAY, FRANK & SAILER LLP BRIAN P. MURRAY (BM-9954) ERIC J. BELFI (EB-8895) 275 Madison Avenue 8th Floor New York, NY 10016 Telephone: 212/682-1818 212/682-1892619/231-7423 (fax) LEAD PLAINTIFFS’ CO-LEAD COUNSEL
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