22 January 2007
Russian Ministerial Infighting Signals Increasing Pressures on the Oil Sector
The following article originally appeared in Russian Petroleum Investor. WorldTrade Executive, Inc. publishes Russian Petroleum Investor, Caspian Investor, Russia/Eurasia Executive Guide and Buyer’s Guide to the Russian IT Outsourcing Industry. For more information go to http://www.wtexecutive.com or call 978-287-0301. Published permission of WorldTrade Executive, Inc., 2250 Main St., Concord, MA. 01742
Russian Ministerial Infighting Signals Increasing Pressures on the Oil Sector
Kent F. Moors, Ph.D., Contributing Editor, Russian Petroleum Investor
December 12, 2006
Additional indications are emerging that the level of disagreements is intensifying among officials overseeing the Russian oil sector. On December 8, Yuri Trutnev, Russia’s Natural Resources Minister, told a press conference that he wants the government to start disciplinary proceedings against Sergei Say, the head of Rosprirodnadzor (RPN). That Russian Prosecutor General Yuri Chaika appeared with Trutnev before the media merely highlighted the move. RPN is the natural resources environmental watchdog agency and is technically a division of Trutnev’s own Ministry of Natural Resources (MNR).
However, one would have a difficult time finding a genuine affection these days between the parent ministry and its crusading subordinate. RPN has been at the forefront of a drive to require oil company compliance with environmental regulations. Say, who has kept a low profile, is not the one associated with the drive. RPN deputy director Oleg Mitvol holds that position. Mitvol has been as outspoken as his boss has been invisible throughout. Mitvol is in the forefront of attempts to pull the license of Sakhalin Energy (SE), the Royal Dutch/Shell (Netherlands/UK)-led operating company at the Sakhalin-1 project, for environmental violations.
Mirtvol’s very public attacks have renewed concerns over whether current foreign production sharing agreements (PSAs) are safe from retroactive government revision. During the course of his attacks upon SE, Mitvol even intimated criminal probes and threatened to sue parent MNR if the ministry did not halt construction on a controversial SE pipeline. Mitvol has also criticized Rosnedra, the Russian Agency for Subsoil Use, for providing what he regards as too cursory an examination in approving the original SE environmental study. Overturning that study approval would effectively pull the license. That is causing concern among international oil majors working in, or considering entry into, the Russian oil sector.
Yet RPN has gone further and recommended the confiscation of licenses from Russian oil majors for failure to comply with environmental standards and/or delaying development of fields. “Mitvol has been the lead antagonist in a frontal attack upon oil principals,” one market analyst observes. “Both Rosnedra and Ministry [of Natural Resources] officials have noticeably pulled back from espousing Mitvol’s rhetoric,” he added. At the same time, nobody at the MNR has attempted to temper the RPN attack. “There is some belief that the current offensive against both foreign and domestic oil companies has Kremlin support,” a contact in the Ministry of Industry and Energy told us on December 9. “As a result, there has been reluctance to criticize openly what Mitvol has been charging.”
Animosities between RPN personnel and Rosnedra have been increasing in the wake of the attacks. Some of that came to a head, also on December 8, when guards forcibly prevented Mitvol from walking into a meeting of a Rosnedra committee concerning license revocations.
Trutnev’s move against Say results from what the minister says is lax application of current restrictions against overproduction. The minister told journalists that upwards to 10 percent of daily output in Russia is currently deliberate overproduction, and therefore illegal. Most market analysts are having a problem accepting Trutnev at face value. On the other hand, it is widely accepted that this is a clear signal of an oil sector under increasing official pressure.
The problem with Trutnev’s approach, as pointed out by Moscow-based Alfa Bank chief analyst Chris Weafer, is the virtual impossibility of any significant near-term cutback in crude oil production resulting. Weafer said the probability of such a move was "somewhere between zero and zero." He added that,”It would send all the wrong signals internationally, as the oil cut would have to come off the export market." Significant cuts would also undermine the Russian position with the European Union. “Any mandated cut in production would renew European discussions over Russian efforts to assure its European neighbors in particular of its reliability as a supplier of energy,” Weafer added.
Most of our Russian contacts see Trutnev’s new hard line as reflecting more the minister’s frustration over a failure to get a new “Law on Subsoil Use” past both the government and the Duma. Trutnev complained at the briefing that various state officials were helping companies exploit loopholes in legislation, undermining the work of his inspection teams. He further added that inspections had discovered more than 30,000 violations of environmental regulations and had levied fines of over R3 billion ($114 million), but only in five cases had this led to formal requests to Rosnedra to revoke the guilty companies' field development licenses.
However, the MNR was not finished with its broad-based salvo against the oil companies. Late in the afternoon on December 8, the ministry took yet another swing at the oil sector. Deputy minister Anatoly Tyomkin warned that delays in developing new oilfields in eastern Siberia was jeopardizing the government's plans for the $11.5 billion East Siberia-Pacific Ocean (ESPO) crude oil export pipeline. Tyomkin told a ministry meeting that production majors including state-controlled Rosneft and Gazprom, as well as the Russian-British TNK-BP, are falling significantly behind the mandated development schedules contained in their eastern Siberia field licensing agreements.
Several Russian media outlets noted that Tyomkin's comments contrasted sharply with those made several days earlier by Vladimir Bogdanov, CEO of Russian oil major Surgutneftegaz. Bogdanov said that the government's existing incentives to develop eastern Siberia were not sufficient to offset the enormous expenses necessary to develop the region. Bogdanov, a close confidant of Russian President Vladimir Putin, is unlikely to have made the comment without prior approval from the top. In any event, in the machinations of Russian politics, criticizing the government criticizes the cabinet and the ministers, not the president.
Weafer suggested that oil company problems in eastern Siberia “are tied to the lack of clarity on subsoil use.” That is certainly a matter close to Trutnev’s interests. Additionally, Weafer pointed to the concern oil producers have that, without rapid development of eastern Siberian fields, ESPO would need to divert crude from existing westward export routes if the new fields are not operating by the planned 2008 pipeline completion date.
Still, such ministerial comments represent a clear threat to the future profitability of the oil sector. From the perspective of the producers, the challenged excess production from western fields constitutes a very marginal cost, while the cost of new oil from eastern Siberia is appreciable.
“If the Kremlin is choreographing this attack on current overproduction as a way of obliging companies to expedite eastern Siberian development, there will have to be a bigger carrot to accompany the stick,” one knowledgeable London observer suggests. Alternatively, Putin may once again be resorting to one of his favorite devices – allow his officials to battle it out publicly until the differing positions emerge and then make a decision from above the fray.
Oil companies hope that the eventual decision does not carry too expensive a price tag.
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