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Houston Chonicle: Russia gains confidence, but Shell is hanging on: Gazprom pushes for a bigger stake in energy project

Reuters News Service

LONDON – Royal Dutch Shell is “hanging on in there,” according to a company source, as Russia squeezes its $22 billion Sakhalin-2 oil and gas project over cost overruns, environmental violations and to secure a stake for state firm Gazprom.

Sakhalin-2 on the Pacific island of Sakhalin, north of Japan, is one of the world’s biggest and most ambitious energy projects and the largest foreign direct investment in Russia, according to operator Sakhalin Energy.

The deal, one of three similar projects Russia signed in the 1990s, was supposed to mark a new era of cooperation.

But the project, led by Shell and involving Japan’s Mitsui and Mitsubishi, has recently soured along with other foreign investments in Russia.

“We’re hanging on in there,” a Shell source, who declined to be named, said.

“There’s no issue with the schedule or with the total cost at the moment. The longer it goes on, the more difficult it gets, of course.”

A doubling of costs has infuriated Russia because under the terms of its production-sharing agreement with the companies, Russia will not see any profit until the costs are recouped. Near-record oil prices have only added to Russia’s frustration.

Russia’s environment agency, RosPrirodNadzor, has accused Shell of inflicting ecological damage to Sakhalin, a feeding ground for gray whales, and threatened legal action.

It said contractors have illegally cleared forests, dumped soil in rivers and laid pipelines in areas prone to mudslides.

Shell said it is working with Russia to find a solution. Chief Executive Jeroen van der Veer has said he hopes to “resolve issues and misunderstandings through discussions.”

In private, Shell sources say it is increasingly difficult to know who in Russia is calling the shots.

“Now it’s got $20 billion costings, different ministries and RosPrirodNadzor are saying: ‘There are environmental violations, and we could shut you down for not painting around the door handles,’ ” a source familiar with the Sakhalin project said.

“And who’s in control? Is it the Ministry of Natural Resources, the Ministry of Economic Development or is it Gazprom?”

Another Shell source said Russian self-confidence had grown in tandem with surging oil prices. The world’s second-biggest oil exporter and holder of the biggest natural gas reserves is keenly aware how important its energy supplies are to Europe and Asia.

Foreign operators Shell, Exxon Mobil and BP are finding the negotiating climate increasingly tough.

“The Russian negotiating leverage is in a different place than it was. They are more self-confident than they once were, and they feel that anybody’s fair game,” the Shell source said.

Russian gas export monopoly Gazprom plans to take a 25 percent stake in Sakhalin-2 through an asset swap with Shell, but the doubling of the budget has created disarray.

Gazprom may now demand a greater stake, taking some equity from Shell partners Mitsui and Mitsubishi. Shell currently has 55 percent, Mitsui has 25 percent and Mitsubishi 20 percent.

Sources close to Shell said that was a possible outcome.

“There is a lot of discussion taking place. We don’t know where it will end up. They don’t know where it will end up. But I think both sides have a vested interest in it being a fair outcome,” the Shell source said.

Nov. 28, 2006, 10:29PM and its also non-profit sister websites,,,,, and are all owned by John Donovan. There is also a Wikipedia article.

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