Russia's President Vladimir Putin (front) visits the "RusSki Gorki" Jumping Center at the Krasnaya Polyana resort near the Black Sea city of Sochi November 27, 2013. (Novosti / Reuters/Novosti / Reuters)

In August, Russian President Vladimir Putin flew to the Black Sea resort of Sochi, where his country is spending a record $48 billion on the 2014 Winter Olympics. A regular visitor, with an official residence in town, Putin watched mixed-martial-arts contests at the Oblaka nightclub with Russian Prime Minister Dmitry Medvedev and Kazakh President Nursultan Nazarbayev.

After the first fight, the leaders suddenly were plunged into darkness for almost three minutes, giving them a taste of the blackouts that have plagued Sochi for years. Putin, poker-faced when the power returned, strode into the ring to congratulate the fighters as the tournament concluded.

“Here in Russia, we have always valued and respected men who know how to stand firm to the last,” he said.

Putin is bracing for a fight of his own in the mad rush to the Feb. 7 opening ceremony. With concerns about terrorist attacks, lack of snow and anti-gay laws dominating headlines, Sochi has endured its share of pre-Olympics tension.

Yet another, potentially longer-lasting battle is playing out behind the scenes — involving Putin’s government, some of Russia’s wealthiest industrialists and a state-owned bank. The government is demanding that the country’s biggest companies stand firm on commitments to bankroll the Games.

To finance venues and apartments in the Caucasus Mountains and along Sochi’s coast, state-owned Vnesheconombank, known as VEB, lent $7.4 billion to a who’s who of Russia’s elite. Among the biggest loan recipients are companies controlled by Vladimir Potanin, chief executive of OAO GMK Norilsk Nickel, the world’s largest nickel producer. Joining him are Oleg Deripaska, chief executive of United Co. Rusal, the No. 1 aluminum company; Alexey Miller, chief of state-controlled gas provider OAO Gazprom; and German Gref, chief of state-controlled OAO Sberbank, Russia’s largest bank.

The moguls say skyrocketing costs and restrictions on commercial activities mean they risk losses on their investments unless the government helps. They want extended tax breaks and subsidies on the interest payments they owe VEB for Sochi assets.

Putin is staking Russia’s image — and his legacy — on his pet Olympics project.

Sochi 2014 might as well be renamed Putin 2014, says Scott Antel, a partner at DLA Piper in Moscow who has worked on hotel projects in the region. Antel says Putin twisted billionaires’ arms to get the Olympics off the ground in return for letting their companies run their quasi-monopolies.

‘You will do your civic duty’

“This was a deal with the devil,” Antel says. “You will do your civic duty and build facilities in Sochi so we can have this coming-out party for the new Russian state. This is your indirect taxation to be allowed to continue with your main business activity.”

Deputy Prime Minister Dmitry Kozak, the country’s top Olympics official, dismisses suggestions of coercion. Kozak, who has worked alongside Putin for two decades dating to the St. Petersburg city administration, says investors got good deals — from favorable rates to government-built roads.

“All investors were invited to the project voluntarily,” Kozak says on a gray day in late October, sitting in Moscow’s White House, the mazelike government headquarters. He says investors will have to forfeit Sochi projects if they can’t repay their loans.

“If they default, then they will lose their equity and lose their business,” Kozak says. “The shares will be sold at auction.”

The Winter Games have proved a gamble for Putin. Russia’s economic growth was set to slow to 1.5 percent in 2013 just as Sochi soaks up the single biggest infrastructure investment since the Soviet Union collapsed in 1991.

“It’s the single most important event for Putin’s presidency,” says Chris Weafer, a senior partner at Moscow-based consulting firm Macro Advisory. “If it is deemed to be a failure, there will be a focus on the cost.”

The reason Sochi’s price tag has quadrupled from Putin’s original $12 billion estimate depends on whom you ask. Boris Nemtsov, who ran unsuccessfully for mayor of Sochi in 2009, says as much as $30 billion has disappeared through corruption, a charge Kozak denies. Locals blame inflated prices for labor and materials. Others say the $48 billion figure is misleading because it covers infrastructure that will remain after the Games.

Putin is brooking no failures in his Olympics obsession. In February, he fired Akhmed Bilalov, vice president of the Russian Olympic Committee. Putin publicly criticized him for cost overruns and delays in the $245 million ski jump complex, which was seven times over budget. The Russian prosecutor general’s office opened a criminal case in April, accusing Bilalov of misspending funds as head of state-owned OAO Northern Caucasus Resorts.

Bilalov denies wrongdoing, says an associate who doesn’t want to be named, because the case hasn’t been settled. The associate says Bilalov had been feeling ill for months. In April, after fleeing to Germany, he discovered high levels of mercury in his bloodstream and later traced it to carpets in his Moscow office. Bilalov, who declined to comment, doesn’t know who’s responsible for the contamination, his associate says.

Kozak says investigators can’t find billions of rubles Bilalov allegedly spent on the Olympics project.

“It’s an extremely unpleasant story,” Kozak says.

Putin has unleashed the unparalleled spending to try to transform Sochi, a fading resort city 1,000 miles south of Moscow with pebble beaches and mountain views, into a year-round destination.

The spa region favored by Soviet leaders now has about 12,000 new hotel rooms. Near the Olympic stadium, whitewashed apartment blocks dot the seaside. In the mountains, white-knuckle chairlifts have been replaced with modern equipment to lure Russian skiers from their beloved French resort of Courchevel.

Backers are betting nightclubs and malls will turn sleepy Caucasus villages into hot spots. The priciest project: Government-owned OAO Russian Railways built an $8.7 billion rail line and highway to provide a 30-minute link between ski sites around Krasnaya Polyana and Adler on the coast, both of which are part of Sochi’s sprawling Adler district.

Russian Railways chief executive Vladimir Yakunin, a close associate of Putin, says the government ordered him to construct the road even after the Transport Ministry concluded that the project was too difficult.

“I was very reluctant,” Yakunin says. “They decided we were a sacrificial goat.”

If the hoped-for influx of post-Olympics tourists doesn’t materialize, Putin’s government may end up with heavily indebted ghost towns around Adler and Krasnaya Polyana.

“There’s massive infrastructure, and there’s no plan to attract business,” Macro Advisory’s Weafer says.

Basic Element, the holding company of United Co. Rusal’s Deripaska, has made one of the biggest private investments. It oversees Sochi projects worth $2.4 billion, using about $1 billion in loans from VEB. Among them: a $778 million Olympic athletes village on the coast; a $186 million cargo port that the 45-year-old billionaire wants to turn into a yacht marina; and a $440 million overhaul of Sochi International Airport, with two VIP terminals, one built just for Putin and the government.

Deripaska’s Olympics headaches mounted in October 2012, when his Port Sochi Imeretensky defaulted on a VEB loan of about $118 million. In one of a flurry of Olympics-related lawsuits, the port company sued Olympstroy, the state firm building most venues, in April and VEB in May.

Deripaska’s company claimed that just 2  percent of the planned 14 million tons of Olympic cargo was shipped via sea from 2010 to 2013. Without sufficient cargo, the port has been unable to keep up with loan payments. In October, VEB countersued the port company and Olympstroy for about $150 million.

Relaxing on a brown leather chair in Sochi airport’s main VIP terminal, Andrey Elinson, deputy chief executive of Basic Element, says the government invited the company to build a port to get Olympics-related goods into Sochi. Basic Element would never have pursued it without Olympstroy outlining minimum expectations.

No promises

“We’re in a bit of a disagreement with the government,” he says. “They have pushed more cargo through railways and invested in extending railway cargo capacity while the port was underloaded.”

The government made no promises, Kozak says.

“No one guaranteed a flow of goods,” he says. “Neither Olympstroy nor anyone else forced Oleg Deripaska to build the port.”

For his part, Russian Railways’ Yakunin says the port wasn’t up to the Olympics task, so the cargo loads shipped via rail doubled.

Other projects are burdened with debt and scant cash flow after delays in turning them into commercial businesses. Basic Element in 2011 counted on preselling some of the 1,500 apartments it built in the coastal Olympic Village, where palm trees from Italy adorn courtyards with pools. The company plans to turn the complex into a resort called Sochnoe, marketing it as a Russian Côte d’Azur.

VEB wouldn’t allow apartments to be sold early, Elinson says. Deripaska’s companies must start repaying the principal of a $687 million loan in 2014 and are trying to renegotiate, he says.

“The government has to forgive the interest payments for a certain amount of the loan lifetime,” Elinson says. “We’re also discussing the cancellation of property taxes.”

VEB is caught in the middle. After Putin’s government tapped the bank to lend billions to finance the Olympics and rescue companies amid the financial crisis, VEB’s capital adequacy ratio approached 10 percent in July, nearing the minimum allowed under the bank’s internal requirements. If investors default and VEB can’t quickly sell the assets to cover the loan, its capital could take a further hit.

“In the case of default, the Olympic projects will form a big hole in VEB’s balance sheet,” VEB Deputy Chairman Sergey Vasiliev says.

Potanin, the Norilsk Nickel chief — and Russia’s ninth-richest man as of late November — is bleeding money in Rosa Khutor, which will host Alpine skiing, snowboarding and freestyle skiing competitions. Potanin, 52, and Putin hatched the idea for Rosa Khutor in 2002, when they were skiing in Austria.

They thought, “Why don’t we have such a resort?” Potanin recalls.

Potanin planned to spend about $300 million. After Russia’s successful Games bid in 2007, his costs soared to $2.6 billion, including interest, as he made the resort Olympic-class. He financed the upgrades with a $1.7 billion loan from VEB that has grown to $2.2 billion with interest. Repayments on the principal must begin in June.

The resort is more Austrian than Russian. Doppelmayr lifts zip skiers to 7,550 feet. Pink and yellow hotels at the base nestle along the roaring Mzymta River.

Rosa Khutor assumed about $500 million of noncommercial expenses for facilities and equipment that Potanin says he wouldn’t have added without the Games. He built apartments for 2,600 athletes in the mountains and stockpiled snow.

He says the government indicated last year it would be willing to reimburse about $245 million, or half of the costs required by the Games, but he hasn’t received anything yet. He’s negotiating for tax breaks and restructured debt payments to make the resort commercially viable. VEB rates, about 9 percent in November, have dented cash flow.

“Nowhere in the world are green field projects like this one financed at such high interest rates,” Potanin says.

Deripaska and Potanin are just two investors seeking government relief. Gazprom, the world’s largest gas producer, is spending about $3 billion on projects including a power station in Adler, a gas pipeline and a cross-country and biathlon complex, according to Olympstroy. Sberbank took over construction of the $2.4 billion Gornaya Karusel mountain resort in Krasnaya Polyana.

Gazprom’s Miller and Sberbank’s Gref joined Potanin and Deripaska in a March letter to Kozak, the deputy prime minister. They demanded subsidies for interest payments on loans and asked that Sochi become a special economic zone with lower property tax rates.

“Our companies agreed to participate in investing in Olympic venues taking into consideration the social nature of the project,” they wrote. “At the same time, Sberbank, Gazprom, Rusal and Norilsk Nickel are public commercial companies, the aim of which is to increase returns for their shareholders.”

The standoff continued in November.

“The ball is in their court,” Potanin said through a spokesman. Sberbank says it wants property tax incentives in place until 2024, when it expects to repay its VEB loan. Gazprom declined to comment.

In an indication of how pinched they’re feeling, Potanin and Deripaska transferred some Sochi debts to Norilsk in April. Norilsk loaned $140 million to a company controlled by Deripaska, chief of Rusal, which owns a stake in the nickel producer. The loan can be repaid with stakes in Olympic Village assets. The company also took an undisclosed share of Rosa Khutor in exchange for about $140 million of debt.

Kozak says investors must be prepared to repay. VEB charged just 0.4 percentage points above the Russian central bank rate, 8.25 percent in November, on most loans. Meanwhile, the government built electricity networks, roads and the train line. Kozak dismisses the notion of tax breaks.

“We cannot give tax preferences to those we already supported and leave others on their own to face their debts,” he says.

Basic Element’s Elinson says Russian companies delivered venues on an accelerated time scale — and need to recoup their investments.

“It’s not fair to treat us in a way that we just should leave the sites because we’re not able to repay the loans,” he says. “It was never intended to be a sponsorship idea.”

The full version of this Bloomberg Markets article appears in the magazine’s January issue.