Jailed oligarch tells how bribery and threats hold Russia back

Business Profile: In an interview given just before he was arrested, Mikhail Khodorkovsky reveals fears for his safety

It is only 12 miles from central Moscow to the élite business club in the exclusive suburb where many of Russia's top businessmen have their homes, but on that Friday evening in September, the drive took an hour and three-quarters.

For us, that is. For Mikhail Khodorkovsky, Russia's richest man, who was arrested last weekend on charges of embezzlement, fraud, forgery and tax evasion, it took just 15 minutes. One of the perks he enjoyed was a flashing blue light on his car, allowing him to negotiate the blocked motorways that are now a feature of Russian life.

When I finally arrived, Mikhail Khodorkovsky, who had granted me an interview for a book I am writing about Yukos, was sitting comfortably, leafing through a business magazine. Dressed in Dockers and a Gant rugby shirt, he certainly did not look like somebody whose estimated wealth is in the region of $8bn (£4.7bn). But when he starts talking, you have to listen. Quietly spoken, he chooses his words with care, occasionally correcting the translation provided by his personal interpreter.

In the early days of Perestroika, Mr Khodorkovsky began building up his own empire, first by running a youth club and then by importing PCs into a country where such things were virtually unknown. He boasted all the Soviet ministries as clients. As demand increased, he turned to importing components and assembling the computers in Russia, and, by the latter part of the Eighties, he was employing 5,000 people.

He also earned sufficient funds to start the first private investment bank in Russia since the October Revolution and used Menatep bank to purchase ailing companies - and after Gorbachev's 1988 decree that passed control of local companies from the state to the local managers there were quite a few of those around - and, by applying effective management techniques, turn them round and sell them as going concerns. Between 1990 and 1994, he was involved with about 40 different companies, notably Apartit, a fertiliser factory that has recently come back to haunt him.

"Apartit was under-performing, just like many companies at the time. There were reasons for this. For 70 years, there had effectively been only one manager in the whole of the Soviet Union: the Secretary General of the Communist Party of the Soviet Union. He set the production quotas, and the directors of the individual factories and plants were expected to meet the targets set for them. The state enterprises all fell under the responsibility of the various ministries - but by 1990, those had effectively ceased to exist. People who had been employed to oversee production suddenly found themselves fully-fledged directors of private companies, but operating at an enormous disadvantage. The companies had no financial department (the responsibility of the Finance Ministry). They had no R&D departments (that was the responsibility of another ministry). They had no individual purchasing or contracting department - all such things had been handled centrally, often with one company somewhere in the Soviet Union being the sole supplier for specific parts or materials to all other companies in the Union. Their suppliers were often suddenly located in a foreign country and there was no hard currency to purchase parts or materials from abroad.

"An auction had been arranged for 20 per cent of the shares in Apartit, and Menatep was invited to participate. But we had to provide a 'comfort letter' saying that we would invest $280m in the company if we obtained the shares. Our bid was successful, and the directors asked us to hand over the money. We insisted that any investment should be made based on a solid business plan, but the directors refused. They simply wanted us to give them the money. We produced our own investment plan and discovered that the company would be unable to absorb such a large investment. We suggested alternatives, but the directors remained adamant. They eventually took us to court and the court found in our favour.

"In July this year, Platon Lebedev, the chairman of Menatep, was arrested on charges based on this incident. Although the investment matter has been brought before the courts on two previous occasions - both times the case was thrown out - the Public Prosecutor has decided to open it up once again, despite a letter he wrote in April 2003 stating that there was no basis for any criminal prosecution."

Mr Lebedev is still in prison awaiting trial, and the court recently remanded him in custody until 30 December. Did Mr Khodorkovsky think the same fate lay in store for him?

"I believe the law enforcement authorities in this country are holding back progress. They are largely responsible for obstructing small business. Their actions are arbitrary and make planning virtually impossible. Small businesses are constantly harassed and they simply cannot stand up to bribe-seeking officials. Until this situation is rectified, there is no chance of a true civil society. Yukos conforms to the highest level of transparency and financial reporting. We have been reporting in accordance with GAAP since 2000. But we do not live in a vacuum. If the current situation continues, our country will never achieve a high sovereign rating - and that is detrimental to the whole business community. Unless we create a normal civil society, we will never build a normal judicial system. I have made my feelings known in public; some important people do not agree with me."

One of the things always mentioned about Mr Khodorkovsky is the way he acquired Yukos "for a song". "People don't understand the political situation at the time. In 1992, Yeltsin formed holdings of partly privatised oil companies in which the state had the majority of shares. But for all the reasons I have mentioned, those holdings were performing extremely badly. Oil production had dropped to an historic low - and this was the commodity that produced between 30 and 40 per cent of GDP. To make matters worse, the oil companies had paid no taxes for three years.

"Yeltsin was in trouble. He had to repay international loans but he had no money - either from the sale of oil or from taxes. And he couldn't replace the directors of the companies because they had enormous power in the regions. They were constantly telling their employees that it was all Moscow's fault. If Yeltsin replaced those directors, he would have made martyrs of them, and this may have tipped the balance back in favour of Communism.

"And so Yeltsin called in business people with a proven track record - by that time, I was one of those - and asked us whether we would like to take control of the oil companies. I remember saying 'Yes please.' But there were conditions attached. We first had to convince the current directors to sell us their shares and get them to come to Moscow and resign publicly to Yeltsin. It was the only way he could save face. Menatep agreed a share price with the directors for their shares in Yukos and they duly resigned.

"Subsequently, the shares owned by the government were put up for auction, and we obtained those shares in Yukos for $308m. But there was a big catch involved: we also had to agree to pay all taxes in full from the word go, plus all the back taxes. For Yukos, these amounted to $3.2bn.

"I needed to arrange loans to pay these taxes - and the only people prepared to give me such loans were in the arms and munitions industry. They made it extremely clear that failure to repay those loans would cost me my life.

"Some people have suggested that we bribed Yeltsin. But bribing Yeltsin was impossible. He only wanted one thing: power. What power could we have given him that he didn't already have?"

And the future? "We have to get rid of arbitrariness. I spent four years negotiating a reliable, stable, tax structure for the oil industry with the Duma to replace the arbitrary system where regional governors changed the tax regime almost every month. That is unacceptable. We have to have stability if we are to make long-term investments.

"But arbitrariness is entrenched. It reared its head in discussions around the pipelines we are proposing. And in the current attack on Yukos. We need a commitment to the rule of law. Without that, there is no hope for business in Russia."

Communist chaos taught harsh lessons in management

Mr Khodorkovsky may now be one of the élite group of oligarchs but his formative years were spent under the sometimes chaotic communist regime. "My parents were Soviet workers, and my room shared a wall with the factory," he said. "From an early age I thought the director was the most important person in the world and it became my ambition to become a director of a chemical plant. My parents even called me 'Director'."

He studied chemistry at Moscow University and gained a further degree in business economics. "My time in the Komsomol was equally important. Every summer, for five years, I was a member of a work brigade. In the first year, 50 of us set off into the country to construct a large cowshed. For three months, I lived shoulder to shoulder with drunk collective farmers! Nothing had been arranged in advance. We had to obtain the materials, work out the rosters - everything. In successive years, I worked my way up through the ranks, until, in my fifth year, I was commander of a brigade working on the construction of the main Siberian railway line. Our nearest support post was 500 kilometres away.

"You learn, in those circumstances, to use your initiative. I don't know a better place to train as a manager."

Jonathan Ellis is writing a book on Yukos.