Richa Naidu and Sergiy Karazy, Chris Kirkham, David Gauthier, Vilars

(Reuters) – A longtime Russian business associate of American tobacco giant Philip Morris International Inc (NYSE:) – a billionaire whose holdings have included a major stake in a weapons plant supplying Russia’s military – has been sanctioned in Europe for aiding Russia’s invasion of Ukraine, according to a Reuters review of business registries and sanctions lists.

Igor Kesaev, 55, listed by Forbes as Russia’s 35th-richest person last year, was sanctioned April 13 by the United Kingdom and on April 8 by the European Union. The EU noted in its sanctions document that Kesaev’s holdings in tobacco distribution and weapons production are funneling “substantial” revenue to the Russian Federation to fund its “destabilisation of Ukraine.”

Kesaev held a 49% stake in the V.A. Degtyarev plant, located 165 miles northeast of Moscow, which makes machine guns, anti-tank and anti-aircraft weapons that are sold to the Russian military and countries in the Middle East, North Africa and Latin America, according to Russian business records as of Dec. 31 and the plant’s website. Kalashnikov PKM, PKTM and Kord rifles, and machine guns are all produced at the plant. Kesaev’s interest in the weapons business dates back to at least 2012, Degtyarev’s corporate filings show.

Kesaev spokesperson Anatoly Shiryaev told Reuters in an emailed statement Wednesday that Kesaev “currently is not a shareholder” in Degtyarev and “isn’t part of its management.” Shiryaev didn’t respond to follow-up questions or requests to provide documentation of Kesaev’s exit from the arms business.

The Degtyarev plant’s 2021 annual report – released April 14 – listed Kesaev as holding a 49% stake in the factory. Alexander Tmenov, the plant’s general director, referred to Kesaev as “our main shareholder” in an in-house publication dated March 16 and posted on the Degtyarev facility’s website. In its April 8 sanctions document, the EU referred to Kesaev as “the major shareholder of Degtyarev Plant.”

Until very recently Kesaev also served as chairman of the board for TC Megapolis JSC (a huge Russian tobacco distribution firm). Kesaev was also the chairman of TC Megapolis JSC, a large Russian tobacco distribution company. He is also an ex-board member of the Dutch holding firm in which Philip Morris owns a 23% interest. Philip Morris reports that Kesaev resigned his two posts at TC Megapolis JSC on April 11.

According to the EU, he retains full control over Megapolis. In its sanctions statement, the EU said Kesaev is the president and owner of Mercury Group, which owns Megapolis, “the leading tobacco distributor in Russia.”

In his emailed statement, Kesaev spokesperson Shiryaev said the businessman “isn’t part of the Megapolis Group’s management and therefore doesn’t comment on Megapolis’ relations with (Philip Morris).”

Reuters couldn’t determine the size of Kesaev’s stake in the holding company, Megapolis Distribution BV. Interfax reported that Kesaev and Sergei Katsiev were 52.8% in their combined ownership. This was according to a December report. Interfax is a Russia-focused news agency. The April 11 Megapolis press release said Kesaev is not a controlling or majority shareholder in the distribution company or any of its subsidiaries, and that he doesn’t influence or make decisions about the business.

Philip Morris’ ties with Kesaev date to the early 1990s, when the entrepreneur helped the American firm navigate post-Soviet Russia and tap its coveted market of heavy smokers, according to news reports. The company could find this relationship a disaster in public relations. Images of Russian armaments pounding Ukraine have horrified much of the world, putting pressure on Western brands to cut ties to Russia and the oligarchs who dominate its economy – much less one with a track record of supplying arms to Russia’s military.

There’s “a reputational risk. You might wonder, “what is Philip Morris doing handling with that guy?” said Daniel Fried, a former U.S. diplomat who coordinated sanctions policy for the Obama administration following Russia’s 2014 annexation of Crimea.

The Degtyarev weapons factory has referred to standing contracts to supply Russia’s navy, air force and ground forces in press releases on its website.

Reuters was unable to confirm definitively whether weapons made at the plant are being used in Russia’s invasion of Ukraine, though evidence pieced together by the news agency supports that conclusion.

Philip Morris in an emailed statement said the company and its subsidiaries “comply with all applicable sanctions.” The multinational said it has already taken steps to scale down its operations in Russia and was working on options to exit in an “orderly” fashion. The company did not provide any details or timelines on the process of such an exit. Philip Morris claimed last month that Russia had been suspended from all marketing activities. The company was also cancelling all product launches and had decided to discontinue some products.

In a March statement about the situation in Ukraine, Philip Morris International Chief Executive Jacek Olczak said of his company: “We stand in solidarity with the innocent men, women and children who are suffering.”

Over the past three decades, Kesaev’s distribution muscle has helped Philip Morris, the world’s largest tobacco company by market capitalization, win more than a quarter of Russia’s cigarette market. Russia generated revenue of more than $1.8 billion last year for Philip Morris, around 6% of the New York-based company’s global sales, the firm’s financial and press statements show. Philip Morris’ factory outside St. Petersburg is the largest in its global empire, according to the company website.

Russian President Vladimir Putin repeatedly denounced Western sanctions against his country, and some of its business giants. Last month he called these penalties an attempt “to deliver a blow to our entire economy, our social and cultural sphere, every family and every Russian citizen.”

Russia has portrayed its invasion of Ukraine as a “special operation” to demilitarize and “denazify” its much smaller, democratic neighbor.

While Reuters couldn’t substantiate conclusively that Russian fighters in that conflict are using weapons from the Degtyarev arms factory, evidence from Ukraine appears to support that determination. A part of the Kord machine gun was examined by the news agency at a Kyiv car mechanic who repairs Russian weapons that were taken from war zones for use by Ukrainian fighters. According to Damien Spleeters, an independent weapon expert from Conflict Armament Research in London, the part likely came from the Degtyarev factory. Conflict Armament Research tracks weapons in war zones.

Photos of the Kord gun were taken by spyters and republished from Reuters. Spleeters examined photos of the Kord machine gun provided by Reuters. He stated that this particular Kord weapon can be mounted to tanks, armored personnel carrier and other combat vehicles. The metal had engraved numbers. Conflict Armament Research in Ukraine examined a rifle of high caliber in 2018 and found that the numbers were similar in style and shape to those on this weapon. At the time, the research team determined that the rifle was made at the Degtyarev facility. This ASVK is used for destruction of military equipment.

“It’s pretty striking, the similarity between the characters there,” Spleeters said.

He added it was “very likely” that other machine guns from the Degtyarev plant are being used on Russian fighting vehicles in Ukraine.

Oleksandr Fedchenko (one of the Kyiv mechanics) told Reuters in March that he was with a team welders/engineers who conferred on front-line Ukrainian soldiers. They removed weapons from disfigured Russian tanks and returned them to their auto shop.

It’s unclear how recently the Kord machine gun was manufactured, and Reuters could not independently corroborate the mechanics’ accounts that the weapons were recovered from invading Russian forces.

‘DIRTY MONEY’

For Ukrainians, Kesaev’s tobacco and arms businesses have been inextricably linked.

In 2014, Ukraine’s pro-Russian president, Viktor Yanukovych, was toppled in a popular uprising, leading to Russia’s annexation of Crimea later that year. Meanwhile, Ukrainian officials started to scrutinize the roles of Russian corporations in its various economic sectors.

At the time, the firm Trading Company Megapolis-Ukraine was by far the country’s largest tobacco distributor, controlling 99% of the market, according to research from the Anti-Monopoly Committee of Ukraine, the nation’s top competition regulator. Ukrainian authorities started drawing attention to Megapolis’ ties to Kesaev and Russian weapons production.

Kyiv sanctioned Kesaev in 2016 for unspecified actions it said threatened Ukraine’s national security. A top Ukrainian prosecutor later accused Kesaev of supporting “terrorist organizations” by supplying arms to Russian-backed separatist groups that have been fighting for nearly a decade to carve out two independent states – Donetsk and Luhansk – in resource-rich eastern Ukraine.

Representatives from the Donetsk People’s Republic didn’t respond to inquiries for comment. However, representatives from the Luhansk People’s Republic couldn’t be reached for comment.

Yaroslav Yurchyshyn, a member of the Ukrainian Parliament and former head of the Ukrainian branch of the anti-corruption nonprofit Transparency International, said multinational companies that continue to do business with Kesaev are helping to fuel Moscow’s war machine.

“These are the people who are responsible for the…aggression, for more deaths of Ukrainian people,” Yurchyshyn told Reuters. “It’s dirty money.”

Philip Morris did not respond to a request for comment on Yurchyshyn’s assertions.

Other investors in the Degtyarev weapons factory as of Dec. 31, company records show, include Rostec, a Russian state defense company that has been on the U.S. Treasury Department’s sanctions list since 2014; and NPO High-Precision Systems, another state weapons company that was named in a round of Treasury Department sanctions in late March.

Rostec High-Precision Systems and NPO Rostec did not respond.

The United States has not sanctioned Kesaev or the Degtyarev facility. Treasury Department is responsible for enforcing economic sanctions. It declined to comment. The U.S. State Department said it “cannot preview future sanctions actions,” but said it has targeted Russian oligarchs financing the war and “will continue to act with our allies and partners around the world in imposing costs on the Kremlin” if the conflict continues.

Kesaev’s involvement is yet another public relations problem in the history and history of Philip Morris Companies Inc. The U.S. unit of Philip Morris Inc was once part of Philip Morris Companies Inc., which was once known as Philip Morris Companies Inc. In 1998, Philip Morris Inc paid an estimated $206 billion to the United States to cover the damages done to the health of those who smoked.

Philip Morris Companies is renamed Altria Group (NYSE:) Inc. In 2003. Philip Morris International was spun off in 2008. It is now a separate business that does not sell in the United States. Philip Morris International had a revenue of $31.4billion last year. It also made an operating profit close to $13billion.

‘EMBEDDED’ IN RUSSIA

Russia has an enormous population of approximately 140 million and is one of the most lucrative markets for international tobacco companies. It also boasts the lowest smoking rates worldwide. The World Health Organization reports that more than 40% Russian men are smokers. The number of cigarettes sold annually in Russia is about the same as the United States, though Russia’s population is less than half the size.

Philip Morris will be retiring in 2020 Japan Tobacco (OTC) Inc. and England-based British American Tobacco According to Bernstein Research data, Plc and Imperial Brands combined accounted for more than 97% in Russian cigarette sales. Bernstein Research found that Philip Morris had 26% of the market share. Its top sellers were Bond Street and Parliament.

Matthew Myers, an American anti-tobacco activist, worked in Russia to stop smoking as President of Campaign for Tobacco-Free Kids. This American non-profit has now expanded its efforts worldwide. According to Myers, foreign cigarette firms in Russia have a success rate that is almost unmatched by any other prominent consumer product companies.

“Western tobacco companies literally took over the industry,” Myers said. “They are embedded.”

Putin honored Philip Morris in 2020 for providing food and personal protection equipment to Russian COVID-19 volunteers. The company touted the “commemorative medal and a letter of thanks” it received from the president in a report about its sustainability efforts published last year on the website of its Russia operation.

Philip Morris stated that it was among many Russian and foreign businesses who were recognized by Russia during the outbreak of the pandemic.

The Communists were the first to open the doors for the company. In the 1970s, Philip Morris struck a licensing deal for its Marlboro brand to be manufactured in the USSR, according to Philip Morris’ website. Although it had no factories or corporate presence there, the company persevered. That arrangement birthed a new brand of cigarettes commemorating the Apollo-Soyuz joint space mission between the United States and the Soviet Union, which is credited for raising Philip Morris’ profile with young smokers, tobacco researchers say.

The opportunity came again during 1990, in the final days of Communist rule. There was widespread protests after tobacco shortages. The Soviet President Mikhail Gorbachev called Philip Morris and its American competitor R.J. Reynolds Tobacco Company to fulfill the promise of 34 billion cigarettes. According to reports from the times, the two companies made the agreement.

After the 1991 fall of the Soviet Union, the doors were wide open. Philip Morris, which had spent $1 billion on expansion in the area by 1993, was able to acquire existing factories and construct new ones, according to news accounts and company statements. This brought with it manufacturing knowledge and the best tobacco blends. The Marlboro Man Cowboy was seen in wide open spaces of America West while young married couples leave their wedding on motorcycles.

Today, Russia is Philip Morris’ second-largest market for tobacco sales, behind Indonesia, according to the company’s most recent annual report. According to Forbes Russia rankings, Philip Morris was in Russia in 2021 the biggest foreign business by revenue, excluding banks, investment firms, and insurance companies.

Russians are major consumers of reduced-risk products, which Philip Morris hopes will help curb declining global cigarette sales. Its trademark technology is IQOS. This heats tobacco but doesn’t burn it, creating a nicotine-filled aerosol that smokers can inhale. Russia last year accounted for 17% of Philip Morris’ global IQOS product sales, a share exceeded only by Japan, according to its most recent annual report.

Reaching customers requires retail space. Which is why distributor Kesaev, born near Russia’s border with Georgia, has been so instrumental to Philip Morris’ success in Russia.

In the early 1990s, Kesaev started an importing business that worked with international tobacco companies eager to get their products onto store shelves, according to a 2014 profile of the magnate in Forbes magazine’s Russian website. Kesaev graduated from MGIMO University which is a renowned international relations school. According to the website, he spoke fluent English. He moved to Switzerland for a time in the 1990s, the website said, where he developed a personal connection with Philip Morris executives at the company’s regional headquarters in Lausanne.

Over time, Kesaev built the largest tobacco distributor in Russia through acquisitions of regional competitors, according to Forbes’ Russian website. Megapolis is a company that delivers tobacco to over 160,000 retail outlets across the country, with a total of 7,000 miles. According to the website. According to Mercury Retail Group’s December press release, Kesaev also holds three of the majority shares in Mercury Retail Group. The company operates two large convenience stores chains.

According to reports, Philip Morris and Japan Tobacco Inc each purchased 20% of Megapolis’ holding company in 2013 for $750million.

CLEAN EXIT

Philip Morris’ long-standing ties to Kesaev and the Russian market, including its now-23% stake in Megapolis, could make the country hard to quit.

“If you spend a quarter of a century building up a brand portfolio and presence, you’ll be very reluctant to give that up,” said Andy Rowell, a research fellow studying the tobacco industry at England’s University of Bath, which is part of a global anti-tobacco consortium called STOP.

The company’s connections to Russia are made stickier by the fact that the country is one of only two markets worldwide – along with Algeria – where Philip Morris holds an ownership stake in a company tied to a distributor, according to its most recent annual report. Up until last week, the 12-member board of Megapolis’ Dutch holding company included Kesaev, three of his business associates and four executives from Philip Morris and Japan Tobacco, according to a Netherlands business registry.

The remaining eleven directors listed on the website are now unreachable. Seven have not responded to our requests for comment, while the other two could not be reached.

Philip Morris must sell his Megapolis share to end all Russian ties. The company has not mentioned Megapolis in any of its recent statements about exiting the Russian market and did not answer Reuters’ questions about plans for its Megapolis investment.

Megapolis said in its April 11 press release that the EU’s sanctions “in no way affect” the distribution company and its subsidiaries.

The United States and the EU do not ban companies outright from doing business in Russia, but their sanctions prohibit a wide range of dealings with entities such as Russia’s central bank, some of its largest financial institutions and other sanctioned individuals or companies. The U.S. also bans new investments in Russia by U.S. individuals or entities. However, the EU prohibits foreign investment in Russia’s energy sectors and blocks a large number of Russian exports worth billions of euro a year.

Many multinational companies have decided that the optics of doing business in Russia, along with the difficulties in navigating the financial system, aren’t worth it.

Fried, the former U.S. diplomat, says he’s been advising American companies since the 2014 round of Crimea-related sanctions that Russia had become a riskier place for them to do business. He added the new sanctions resulting from the invasion of Ukraine to the mix and said that the risk has increased.

“Now it’s sky-high. It’s through the roof,” said Fried, now a fellow at the Atlantic Council, an international affairs think tank in Washington.

Philip Morris isn’t the only multinational tobacco company grappling with its future in Russia.

Japan Tobacco now holds more than three quarters of Russia’s tobacco market. On March 10, Japan Tobacco announced that it had suspended all new investment and marketing activities, but did not announce a plan to exit. Japan Tobacco’s third share is held by the Japanese government.

Japan Tobacco said it is “committed to complying with all applicable national and international sanctions imposed on Russia,” adding that Kesaev is no longer on the board of Megapolis or involved in managing the company as of April 11. In a statement, Japan’s Ministry of Finance said it believed Japan Tobacco’s management “will take appropriate and timely action with the situation in accordance with relevant laws and regulations.”

British American Tobacco Plc announced it would be leaving Russia, and in March told Reuters it planned to sell its long-time distributor. That firm, Russia-based SNS Group of Companies, last month told the news agency that the process of transferring BAT’s business to SNS was “well under way.” BAT (LON:) said it had no further comment.

Imperial Brands Plc with less than 10% share of Russia’s market said that it will cease operations and sales there last month. The company told Reuters it is in talks with a “local third party” to sell its business, but declined to elaborate.

With foreign companies dominating Russia’s tobacco market, there is no major domestic operator that could make up the supply if all four companies stopped selling. Russian importers may have to make difficult decisions about buying products from abroad because of Western sanctions.

Callum Elliott, an analyst at Bernstein Research, said it’s possible Philip Morris could license its brands to a Russian company. After all, that’s how it got started in Soviet times. But Elliott said such a strategy carries potential risks for Philip Morris after so many decades operating there because a licensee might “impair the value of the brand.”

Philip Morris refused to comment.

Kesaev’s purported expulsion from the arms industry comes amid possible sanctions which could also affect his prospects of establishing a tobacco business.

However, the business at Degtyarev’s weapons plant has been flourishing.

A November statement from Tmenov, the plant’s general director, said “2021 has been a busier year than ever.”