CONFIDENTIAL

INVESTMENT STRATEGY MEMORANDUM – RUSAL ON

COLLISION COURSE WITH NORILSK NICKEL

June 1, 2010

Rusal – threat to Norilsk Nickel’s share price

The share price of Norilsk Nickel is threatened by renewed aggressiveness on the part of United
Company Rusal and the tactics of its controlling shareholder, Oleg Deripaska, backed by co-
shareholder, Mikhail Prokhorov:
• Rapacity is Deripaska’s personal style. Hostile takeover, reputation attack, black
propaganda, manipulation of Russian government resources against rivals – these are the
methods he has used historically to build the Rusal group of assets.
• The Hong Kong Stock Exchange (HKEx) listing of Rusal in January of 2010 has been a
big disappointment for shareholders who bought in the company, although it kept the
company afloat with paybacks to international banking consortium, which holds Rusal’s
debt. Deripaska’s failure to deliver on over-optimistic promises of share gains is
undermining his standing with the Kremlin backers, on which the Rusal listing depended
– although Kremlin was initially supporting Rusal due to preserve its reputation.
• The parallel listing of Rusal on the Paris bourse has been a total failure.*
• The main investor markets – London and Hong Kong – were not persuaded by the Rusal
roadshow, nor by the efforts of the Rothschilds to promote the Rusal shares. Instead,
most institutions and fund managers stayed out, while the very limited initial investments
that were made in the illiquid stock have been turned over (sold, resold) with unusual
speed.
• Deripaska is not credible in the investment markets, despite the constant stream of public
relations promotions, especially evident in Bloomberg. The objective evidence is in the
movement of the Rusal share price in relation to the price of commodity aluminium
(LSE). Rusal promotes itself as an investment in the price of aluminium, which it claims
to produce at lower cost, and with higher margins, than international rivals. However, the
share price evidence shows that Deripaska has forced a disconnect with aluminium –
Rusal has demonstrated that it has a weaker correlation to the price of aluminium than
peers Alcoa (US) and Chalco (China). On the upside, Rusal’s share price does not gain
from rising commodity aluminium as much as the others. On the downside, when
aluminium declines, Rusal plummets more deeply, and for longer, than its rivals.

* Notwithstanding these measurable failures, Deripaska has confirmed that he will take a 54-million share bonus
for the IPO. Currently, this is worth US$51 million. This is reported in the Rusal listing prospectus as payable “for
his services in preparation of the Global Offering”. When the prospectus was issued on December 31, the value of
the bonus was indicated as “up to US$75 million”. The difference is in the gap between the actual share price of
Rusal and the IPO fix of HK$10.80. The failure to bridge that gap has not cost Deripaska his bonus, but it has
reduced the bonus by 32%. Embarrassed by the size of the bonus and the apparent absence of evidence he had
earned it, Deripaska claimed to Bloomberg on April 20 that “he will donate two-thirds… of the [proceeds] of the
stock he was given”. The money, he also claimed “will be given to Volnoe Delo, his charitable fund, and Rusal’s
center for social programs.” According to Deripaska, he had earned the bonus. “To take a company with a
negative $10 billion value last year and make it worth $20 billion [sic], to not lose a single asset, to restructure
capacities and make it the world’s lowest-cost producer” warrants the reward.
• This is viewed by emerging market fund specialists as uniquely a Rusal-Deripaska
problem, not a more generalized Russian risk problem. The share prices of other Russian
commodity producers – Rosneft, Gazprom, Norilsk Nickel – have not proved to be as
disconnected from their respective commodity prices – oil, gas, nickel – as Rusal from
aluminium.
• The reason is that sentiment in the Hong Kong and other Asian markets views Rusal, not
so much as an aluminium play, as a Russian sovereign play. This reflects the role played
to guarantee the listing – indeed, overcome Hong Kong and Chinese government
reluctance to allow it in the first place – by the Russian government. This ‘sovereign
guarantee’ enabled the listing. But it gives weak support to a floor for the share price.
When generalized emerging market risk perception sweeps into the market, Rusal’s share
price is the biggest loser.
• The investment markets also believe there is a significant Rusal share overhang to
threaten the share price from July on. This is when the Rusal bank lenders, which took
zero price strike warrants for compensation in the listing process, will be able to unlock
their shares, and sell.
• There is also a serious asset value threat to Rusal in the Republic of Guinea, where
Rusal’s bauxite concessions – representing roughly 15% of the company’s asset value –
are at risk of government action to revoke and resell to rival international aluminium
groups. The Guinean government is unstable, but action against mukltinational mining
companies is politically popular during a year of presidential and parliamentary election
campaigns. Rio Tinto (UK) has already had half of its Simandou iron-ore concession
cancelled and resold. Rusal is not better protected from this outcome.
• Finally, by the end of the year, but not later than the first quarter of 2011, Deripaska faces
the UK High Court trial of the asset and contract claims against him by former founder
and Deripaska patron, Michael Cherney. All indications from the UK judges to date is
that they do not believe Deripaska, and that Cherney is likely to win. Even before that
outcome, however, the UK court proceedings, and those in other jurisdictions
(Switzerland, Spain, US, Israel), are exposing Deripaska’s credibility in highly negative
light.
• To ward off these threats to Rusal asset value and to his own shareholding, Deripaska
must now promise his Kremlin backers and the market something new – a new strategy
for lifting Rusal’s asset value, and supporting the share price. This strategy implicitly
concedes that organic growth of Rusal’s existing assets cannot deliver the returns
expected, at least not within the 6-month to 12-month future of commodity aluminium.
• Accordingly, Deripaska has therefore begun lobbying the Australian government for an
expansion of Rusal’s access to new Australian bauxite assets, and alumina production
capacities. Earlier attempts to achieve this by Rusal in Australia have been rejected by the
Australian government, backed by Rio Tinto. Deripaska is now trying again, this time in
a proposed partnership with BHP Billiton, Australia’s largest company. The Australian
government is keeping the developments secret in the hope that if BHP{ Billiton decides
to back Rusal, it will be possible to arrange approval of Rusal’s acquisition of new assets
while avoiding the Australian political and law-and-order factions who regard Deripasaka
in the same light as the US.
• In Russia, Deripaska has resumed his takeover attempt against Norilsk Nickel in order to
diversify the asset base away from aluminium, and rerate the weak Rusal share as an
aluminium counter to the much stronger Norilsk Nickel share as a steel counter. The
current price/earnings ratio for Rusal is around 14.7. On a comparable P/E basis, Norilsk
Nickel is at 10.7.
• Apart from public statements by Deripaska and Proikhorov, renewing their earlier
takeover intention against Norilsk Nickel, Rusal’s attempt to force Norilsk Nickel to pay
 out Rb3 billion in dividends was a sign of the readiness of the Rusal group to strip
Norilsk Nickel of cash with which to pay down Rusal’s debts.
• Without convincing action by Norilsk Nickel’s shareholders to reject Rusal’s new
campaign, brokers and investment fund managers are forecasting a period of downward
pressure on the Norilsak Nickel share price comparable to the effect of the earlier
sharerholder uncertainty caused by Prokhorov and Deripaska in 2007-2008.
• Rusal has low profitability and is very susceptible to price volatility: Rusal had 7%
EBITDA margin in 2009 and is expected to generate only 17% in 2010. Should
aluminium price go down by 20% OR russian ruble appreciate by 18% Rusal will be in
default on his loans.
• Rusal is highly leveraged: company's debt burden is the highest amongst Russian metals-
and-mining companies and the highest in the aluminium industry globally. The company
is not allowed to spend money on expansion – any incremental cash has to be repaid to
the current debt holders.
• Energy costs are expected to increase: Rusal's major cost advantage today - low energy
costs - is expected to fade away as Russia is continuing to liberalize its electricity markets
(to be completed by 2011).
• Geographical dispersion of assets: Rusal's mining and production units are located way
apart, making it more difficult to manage and increasing costs.

History of Deripaska’s asset formation and the Rusal business model –

threat to independent shareholder value
• The record of Deripaska’s smelter acquisitions in the formation of the predecessor
company, Siberian Aluminium (Sibal), has been documented in litigation in the US,
French, and UK courts, as one by one, each of the equity owners whom Deripaska
displaced sued for recovery and compensation. The Zhivilo brothers, who were ousted
from Novokuznetsk, were first in the US. They were targeted by trumped-up charges in
the Kemerovo region, and forced to flee to France. The US courts refused to take
jurisdiction over their claims; the French courts defended the Zhivilos against Russian
charges and rejected extradition warrants, granting the Zhiuvilos asylum in France.
Deripaska agreed to settle their claims with a payment of about $65 million.
• Deripaska (Sibal) used similar tactics to oust Anatoly Bykov, the controlling shareholder
of Krasnoyarsk Aluminium Plant. He was charged with attempted murder, just as the
Zhivilos had been accused. The charges were subsequently dismissed. In arbitration
tribunal and Swiss court action, Bykov defeated Deripaska’s claims, and he was awarded
more than $105 million in compensation.
• In 2001, to prevent Cherney selling his stake in Sibal-Rusal to Victor Vekselberg’s
SUAL, Deripaska signed contracts with Cherney in London for a trusteeship to protect
Cherney’s stake (which had grown from Sayansk to the entire group of Rusal smelters
acquired by 2000). Deripaska subsequently defaulted on the agfreements, paid no
dividends; share no asset sale value; and refused to list the shares or buy Cherney out.
This has resulted in the UK High Court claim which Cherney commenced in 2006.
• Between 2002 and 2004, when Victor Vekselberg’s SUAL was a commercial rival of
Deripaska’s Rusal, Deripaska attempted to raid Vekselberg’s Nadvoitsk smelter, and oust
SUAL. In 2004, he attempted something similar at the SUAL smelter known as Volkov.
Both attempts were fought off by Vekselberg. They agreed to a no-war pledge, and
Vekselberg prepared to list SUAL on the London Stock Exchange. In October 2006,
Deripaska lobbied the Kremlin to block Vekselberg, and the then President Vlkadimir
 Putin ordered Vekselberg to merge with Rusal, putting an end thereby to Vekselberg’s
independence.
• In June 2005, David and Simon Reuben and their aluminium trading company Trans
World Metals successfully sued in the British Virgin Islands, charging Deripaska with
stealing metal trading proceeds. Deripaska paid an out of court settlement of $300 million
before trial.
• Deripaska gained control of many of the Rusal group’s foreign assets by illegal methods,
including bribery, extortion, fraud, and manipulation of local police and prosecutors. In
Guinea, according to a 2003 in the UK High Court, Rusal was required to pay local
consultants and arrangers after denying them their contract comensation. In Nigeria,
pending court cases have documented a process of corrupt and fraudulent privatization,
ad violation of investment undertakings. In Queensland, Australia, local corruption and
lobbying to prevent his US criminal record from being considered, enabled Deripaska to
establish himselkf as a 20% stakeholder of the Queensland Alumina Refinery in The
High Court in London has ruled that Rusal’s ouster of the management and shareholders
of the Tajikistan Aluminium Plant in 2004 was achieved by corruption, fraud and
embezzlement. Deripaska paid a $130 million settlement to those Tajiks whom he had
victimized.
• No independent shareholder has survived for long in an aluminium business controlled by
Deripaska. Most of them have been ousted forcibly and fraudulently. Roman
Abramovich, who acquired the Bratsk smelter and merged it with Sibal to create Rusal in
2000, sold out to Deripaska in instalments totaling about $1.8 billion. By the same token,
Deripaska has never been willing to face court trials of claims against his tactics, except
in one UK High Court action in 2002-2003 involving Guinean advisors. In every case,
Deripaska has either paid out of court settlements, or lost the judicial rulings and paid
subsequently.

The Rusal business model – threat of value destruction

• Although Deripaska and Rusal have generally evaded international court judgements in
the asset and trading claims brought against them by former allies, agents, partners –
mostly on jurisdictional grounds – the settlements he has paid to avoid testifying in court
tends to substantiate the documented abuses of Deripaska’s business model.
• The evidence submitted in the UK High Court case of Cherney v Deripaska documents
that tolling contracts for avoiding value-added taxes on the processing of alumina into
aluminium in Russia were illegal under Russian law. Other investigations by the Russian
Accounting Chamber suggest that tolling has been a form of transfer pricing, moving
profit to offshore havens. According to analyst reports on Rusal’s financials, forward
projections indicate that while earnings (Ebitda) and profit will become positive in
20910, 2011, and 2012, Rusal will pay no tax in these years.
• The evidence submitted in the Cherney case reveals that the Radom scheme, as taken
over by Deripaska from his initial partners Cherney and Iskander Makhmudov, was a
scheme for stripping profit out of producing assets, and diverting cashflow outside the
corporate structure and into haven companies controlled entirely by Deripaska. This is
cash stripping. Rusal remains the only major Russian metal producing and exporting
company to refuse to drop tolling contracts or offshore trading schemes unconsolidated in
the group’s accounts.
• Until the crash of autumn 2008, and the virtual insolvency of Rusal for more than $17
billion in debt – adding the debts of Deripaska’s Basic Element holding, his aggregate
debt at the end of 2008 came to more than $22 billion – Deripaska and his senior
 managers stripped cash out of Rusal, and raised debt on Rusal pledges (metal in trade,
smelters) in order to finance asset acquisitions through the holding and other personal
companies. This heavy leveraging proved to be disastrous for both Rusal and Basic
Element.
• The Rusal prospectus, issued ahead of the Hong Kong Stock Exchange listing in January
2010, reveals schemes of personal enrichment (huge salaries, bonuses) by Deripaska and
his closest subordinates without parallel in peer-group publicly listed companies, and
without accountability. The habit of personal enrichment continues to be a risk which
persists so long as Deripaska remains the controlling shareholder and the chief executive
of Rusal.
• It is quietly believed in Moscow among Deripaska’s oligarch associates that, in order to
secure the level of state bank bailout he required to prevent Rusal’s bankruptcy in the
face of claims by the Alfa Bank group (Mikhail Fridman), to secure the international
banking syndicate’s refinancing agreement of December 2010; and finally to assure the
unusually restrictive listing of Rusal shares on the HKEx, Deripaska has made Rusal
shares available to hidden stakeholders, on whose behalf he acts as trustee. Such non-
transparent arrangements have long been part of the Rusal business model. If applied to
Norilsk Nickel, the model threatens shareholder confidence in Norilsk Nickel’s stable
governance and transparency.
• Indicative of Deripaska’s fondness for cash stripping, he attempted last month to compel
the board of Norilsk Nickel to agree to a dividend payout for 2009 of $3 billion. This was
despite the reporting of net income for the year of $2.651 billion. The move was defeated
by a vote of the company board. Instead, the dividend payout was limited to $1.325
billion, a payout to profit ratio of 50%.

The inevitability of another showdown – threat of hostile takeover is

viral for Norilsk Nickel’s value

• When Prokhorov and Deripaska first formed their shareholding alliance in 2007, with
Prokhorov swapping his 25% stake in Norilsk Nickel for Rusal shares and cash, they
publicly announced their attempt at merging the two companies. Their first sale and
purchase agreement of October 2007, said Deripaska’s spokesman, “is a first logical step
towards a possible full consolidation of Norilsk.”
• This was a hostile takeover attempt, and it was rebuffed by the Norilsk Nickel
shareholders led by Vladimir Potanin, with the backing of Prime Minister Vladimir Putin.
In July of 2008, Deripaska was told by the deputy prime minister for resources, Igor
Sechin, that the government would not countenance or allow Rusal to take over Norilsk
Nickel.
• On February 4, 2010, through Prokhorov’s deputy, Dmitry Razumov, the takeover
strategy was publicly revived: “Now that RUSAL has liquid shares I see no obstacles for
a restart of the dialogue between the shareholders on the merger of RUSAL and Norilsk
Nickel," Razumov told Reuters. "We believe that in the long run Norilsk and RUSAL
combined will be able to compete more successfully on the international level than
separately. Sooner or later the enlargement will become a necessity, or else you won't be
able to compete with big international players."
• On February 10, Prokhorov reiterated the declaration: “We want to create a Russian BHP
Billiton. A merger between Norilsk Nickel and Rusal is good not only for shareholders,
but for all the country. But it's a shareholder question, a question for all the shareholders,
not only majority shareholders.”
• There is no evidence that in terms of shareholder value, present and future, a merger of
the two companies would be beneficial for Norilsk Nickel shareholders. Even banks
which were advisors and book-runners in the HKEx listing in January, and are currently
holding Rusal shares or share warrants, acknowledge that the improved net profit figure
reported by Rusal for 2009 resulted from booking a debt restructuring gain of $1.2 billion
as interest income; and from counting Rusal’s 25% stake in Norilsk Nickel’s 2009 profit
of $1.265 billion as added asset income.
• The need on Deripaska’s part for an acquisition strategy that includes a hostile takeover
of Norilsk Nickel is driven by the failure of his HKEx listing strategy to generate either
genuine liquidity or a share price promoted by its bankers, brokers, and advisors. The
course of the Rusal share price over the past five months suggests repeated failure by the
supporting institutions to boost Rusal’s share price to targets above the listing fix of
HK$10.80:
- Bank of China International (report of April 13) target price of HK$11.10
- CLSA Asia-Pacific Markets (report of March 4, 2010) target price of HK9.30
- Bank of America Merrill Lynch (report of May 14, 2010) target price of
HK$13.10
• The rejection by the HKEx in May of Deripaska’s mining company Strikeforce Mining
and Resources (SMR) shows that, without Russian state guarantees and “anchor
shareholding” by Russian state banks, there is no international market demand in any
region for a Deripaska-controlled, Deripaska-managed company.
• The private consensus of the London and Asian investment institutions is that Rusal is
uniquely risky, and subject to unusual discounting of its share value in relation to its
peers. A report by Bank of China International calculated these relative P/E ratios for
Rusal and its international peers:
- Alcoa (US) 18.3
- Hindalco (India) 17.7
- Chalco (China) 31.6
- Norsk Hydro (Norway) 26.0
- Group average 23.4
- Rusal 14.7

• But even peer comparisons on standard measures under-estimate the full risk discount
applied to Rusal. This is because of the restrictions imposed on share trading and short-
selling. Daily turnover on the HKEx, for example, calculated as a 3-month average to
May was just HK$130 million (US$16.7 million). It is the view of brokers that if the
restrictions were removed, Rusal’s share price would weaken further.
• Even Rusal promoters like CLSA, the leading Asian brokerage, reports that Rusal’s
corporate governance score puts it at the bottom of the sector table of companies
assessed. “According to the CLSA report of March 2010, “the company scores poorly in
areas of discipline, fairness and responsibility due to several factors, including material-
related party transactions (Rusal’s largest shareholder and CEO is the controlling
shareholder of two plants of two plants that supply power to Rusal), the controlling
shareholders’s stake of over 40%, the necessity for debt restructuring, and the large size
of the board (18 members).”
• In the international market, therefore, there is no pricing support for the merger with
Norilsk Nickel or hostile takeover. Worse, as happened during the conflict in 2007-2008
between Prokhorov and Potanin over ultimate shareholding control of Norilsk Nickel,
Rusal’s intentions are likely to be viral for Norilsk Nickel, damaging the share price, and
cutting the value of the company.
Scenario for Rusal moves

• Deripaska has never acquired a Russian asset without administrative resources at the
regional, and also the federal level. That is a Russian phrase for political corruption. US
court papers filed in support of the Zhivilo lawsuit for Novokuznetsk smelter document
who received the bribes, what was paid, and how the hostile takeover was camouflaged to
make it appear lawful. The evidenmce of corruption did not prevent Deripaska’s
takeover, but ultimately the threat of international court action compelled him toi pay for
the takeover and compensate the former proprietors.
• A hostile takeover of Norilsk Nickel is unlikely to be endorsed by shareholders. It is
possible that some may file lawsuits to prevent it.
• At the current market capitalization of the company of $31.5 billion, the purchase of a
25% shareholding to make the controlling stake would cost Rusal not less than $7.9
billion; the control premium is likely to increase this price over $8 billion. Neither Rusal
nor Deripaska can afford such a price. Nor can Prokhorov, though his cash assets are
substantial.
• The most likely source of the money would therefore be the same Russian state banks
which backed Deripaska for the IPO – Vnesheconombank, chaired by Putin, and
Sberbank, headed by German Gref – with other state or state-controlled banks, such as
the VTB group and Gazprombank ready for additional funding, if required.
• The current market cap of Rusal is HK$111.7 billion (US$14.4 billion), less than half of
Norilsk Nickel. Although the Rusal buyers would no doubt wish to reduce their cash
offer, and increase the paper swap, it is unlikely that Norilsk Nickel shareholders would
find Rusal paper acceptable even on better than a 2 to 1 ratio.
• Therefore, the likely scenario for Deripaska – quite possibly his only option -- is to
attempt to deploy “administrative resources”, and compel Norilsk Nickel to accepta
Kremlin diktat. The suspicion of corruption at a high level to achieve this goal would be
pervasive, if it is attempted. If it succeeds, the suspicion would become a near-certainty.
• The damage to Norilsk Nickel’s share price in the short to medium term is therefore
likely to be heavy.

Attachment-1: Commodity price trends in the global market – nickel beats aluminium
Attachment-2: Comparison of share price trajectory over 6 months – NorNick beats Rusal

486:HK – Rusal on Hong-Kong Stock Exchange

MNOD:LI – Norilsk Nickel in London