The Times: Oil giants in legal row with Russia over joint projects

September 22, 2006
From Julian Evans in Moscow
 
RUSSIA and a group of oil multinationals have begun drawing the legal battle lines in a fight over the legitimacy of oil and gas production licences worth £40 billion.

Sergei Fyodorov, head of subsoil policy at the Russian Natural Resources Ministry, yesterday told the Reuters news agency that the Government was considering withdrawing the licence for ExxonMobil’s Sakhalin I offshore project because its costs are set to surge by 20 per cent to $17 billion (£8.9 billion). Higher costs mean delayed profits for the Russian State. 
 
Mr Fyodorov said that the Government’s lawyers had advised that this was grounds for the cancellation of Exxon’s licence. He also suggested that another so-called production-sharing agreement (PSA), with Total for the Kharyaga oilfield in northern Russia, could have its licence cancelled because the project was not being developed quickly enough.

Last week the ministry cancelled environmental approval for Sakhalin II, a $20 billion liquefied natural gas PSA being led by Shell near to the Exxon-led project, because of rising costs. The ministry has criticised the PSAs for not generating enough taxes. PSA projects are ring-fenced from the country’s tax regime. Mr Fyodorov told the state newspaper Rossiiskaya Gazeta that taxes from Shell’s Sakhalin II alone could be as much as $400 million a year, instead of which “we receive about $20 million in royalties”.

State oil firms, such as Gazprom, have also expressed the wish to be given a greater share in the PSA projects. Neither Shell’s Sakhalin II nor Total’s Kharyaga involve major Russian oil firms.

The Western oil firms, meanwhile, are desperately gathering diplomatic and legal support to try to pressurise the State to observe the PSA agreements, signed in the mid-1990s.

Diplomats from the UK, US, Japan and EU have all raised concerns with the Russian State in the past few days. Western law firms, including Linklaters, Clifford Chance and White & Case, are also working with the oil firms to try to defend the PSA agreements.

Two of the three agreements were signed under British law, so any arbitration would probably take place in London courts. One lawyer said: “These agreements are very complicated and involve many different parties, lenders and sub-contractors. If it went to court, it would take years.”

Most analysts said that the PSAs, in their present form, were doomed. Valery Nesterov, oil analyst at Troika Dialog, said: “They were signed in the 1990s, when the oil price was low and the Government was inexperienced. Now the state is much stronger, and more jealous of its natural resources.”

Ivan Chernyakhovskiy, a spokesman for Sakhalin Energy, the Shell-led consortium developing Sakhalin II, said: “We’ve introduced several technologies never used in Russia before, such as Russia’s first LNG production facilities and offshore drilling rig.”

It seems likely that new agreements will be negotiated, on less advantageous terms for Western oil firms. Adam Landes, oil and gas analyst at Renaissance Capital, said: “It is for investors to negotiate their way out of [PSAs], hopefully towards something that pleases both sides more than the current arrangement. This probably means accepting the ordinary tax regime, and the state-owned companies having a bigger role.”

BIG DEALS

Sakhalin I

Who’s in it? Exxon-Mobil, Rosneft, ONGC

How big is it? 2.5 billion barrels of oil and 17.1 trillion m3 of gas

How much does it cost? Estimated costs were just raised to $17 billion
Sakhalin II
Who’s in it? Shell, Mitsubishi, Mitsui

How big is it? 1.2 billion barrels of oil and 18 trillion ft3 of gas

How much does it cost? Initial estimates of $11 billion now raised to $20 billion
Kharyaga
Who’s in it? Total, Hydro and Nenets regional oil company

How big is it? 57.4 million tonnes of oil

How much does it cost? Total has so far invested $400 million
 
 

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