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The Sunday Times: Russia tries to burn BP

May 27, 2007

The oil giant could face the same fate as Shell at Sakhalin as Russia tries to take back control of its natural gasDominic O’Connell

IN the summer of 2003 Vladimir Putin made the first state visit to Britain by a Russian leader since Tsar Alexander II came to see Queen Victoria in 1874.

Putin’s trip was as much about business as diplomacy. One of the highlights was the signing – in the gilded splendour of Lancaster House, a 19th-century mansion in St James’s, London – of an $8 billion (£4 billion) investment by BP in the Russian oil and gas industry. The deal had been brokered by Lord Browne, then BP’s chief executive, with extensive help from Tony Blair.

Four years on, Browne has gone, Blair is about to leave power and TNK-BP, the Anglo-Russian group the pair laboured to create, is under attack from the Kremlin. TNK-BP’s licence to exploit one of Russia’s largest gas fields is expected to be revoked – possibly as soon as this week. The move may, the gloomiest analysts and Russophiles suggest, be the precursor to the Russian state taking a major and perhaps, in effect, controlling stake in the group.

For western oil companies, BP’s Russian travails are a case of déjà vu. The campaign against TNK-BP has uncanny parallels with what happened earlier this year to Royal Dutch Shell, BP’s rival.

A few months before Putin, Blair and Brown shook hands on TNK-BP, Shell had signed a similar deal to develop Sakhalin 2, a huge gas field in Siberia. But earlier this year, after a prolonged campaign involving threats of censure from environmental watchdogs and tax authorities, Shell and its fellow foreign investors decided to sell a stake in the project to Gazprom, the giant gas group controlled by the Russian government.

The Sakhalin deal, and the pressure now being exerted on TNK-BP, are viewed as part of a deliberate plan to bring back under state control key “strategic” oil and gas assets that had been sold to private individuals and western groups during the hurly-burly privatisations of the postYeltsin years.

“Everybody talks about what Hugo Chavez is doing in Venezuela but nobody makes the comparision with Putin. It is basically the same thing,” said Fadel Gheit, an analyst at Oppenheimer in New York. (Chavez, the Venezuelan president, has renationalised some of the South American state’s oil and gas fields, much to the chagrin of the companies developing them.)

TNK-BP is the only big oil and gas group in Russia that has no state involvement. It was created after long negotiations between BP, the Russian and British governments and a group of three Russian oligarchs: Mikhail Fridman, the boss of Alfa Group, Viktor Vekselberg, reputedly the ninth-rich-est man in Russia, who hit the headlines three years ago when he spent $75m buying the Forbes family collection of Fabergé eggs for the Russian nation, and Leonard Blavat-nik, who together with Vekselberg controlled the Sual aluminium empire.

As The Sunday Times revealed in 2003 TNK-BP was the end-result of BP’s frustration with an earlier Russian investment that was going wrong. In the 1990s it had taken a 10% stake in Sidanco, a Russian oil group, but had then fallen foul of the manoeuvrings of local businessmen, with assets appearing to be snatched from Sidanco under BP’s nose.

Rather than trying to intervene directly with Fridman – whom BP then accused of being the arch asset-stripper through his company TNK – Browne instead began a covert operation to put pressure on the Russian authorities through George Soros, Al Gore, then American vice-president, the CIA and Blair. This campaign eventually led toa peace deal between Fridman, his fellow oligarchs, and BP, and the formation of TNK-BP.

The company is now the third-biggest player in Russian oil and gas. It has proven reserves equivalent to 7.8 billion barrels of oil, and in 2005 was producing 1.6m barrels of oil a day. It also has five refineries (four in Russia, and one in Ukraine) and 1,600 petrol stations, which operate under both the TNK and BP brands. Its operations have been lucrative for shareholders: 10 days ago its board of directors said it would pay out £2.3 billion in dividends to shareholders, almost its entire net profit for the year. The payments are likely to be approved at the annual meeting on June 15.

The current spat with the Russian authorities concerns not the oil operation, but its prospects of becoming a major player in gas. TNK-BP is the controlling shareholder (with a 63% stake) in Rusia Petroleum, which owns the rights to a large gas field called Kovykta, in the Irkutsk region. The field was discovered in 1987, and is estimated to hold 2,000 billion cubic metres of gas and 83m tonnes of gas condensate. It is ideally situated to export gas to China, but it is not expected to be in full production until 2015.

The charge against TNK-BP over Kovykta is being led by Oleg Mitvol, the deputy head of Russia’s environmental watchdog Rosprirodnadzor. Mitvol, who also led the campaign against Shell on Sakhalin 2, claims TNK-BP has failed to meet the production targets set in its original licence. He said it should be producing 9 billion cubic metres of gas a year, when it is producing only a fraction of that. He has asked Rosnedra, the licensing agency, to strip the group of its right to operate the field.

TNK-BP said it has been unable to develop Kovykta because of the lack of an export licence, and that in any event the licence says only that it should meet local demand for gas, which has come nowhere near the 9 billion cubic metre mark. On Monday Rusia Petroleum will begin a legal challenge to the inspection in a court in Irkutsk.

A three-month inspection of TNK-BP’s operations concluded in January that the company was in breach of its licence. A final inspection began last week, with Mitvol telling reporters in Russia that TNK-BP could lose its licence for the field before next month. Most commentators agree. “The expectation here is that the licence will be revoked,” said a Moscow-based executive at one of BP’s rivals.

Revocation of the licence may trigger the sale of a stake in the field to Gazprom, but whether this will come at the expense of the oligarchs or BP – or both – is not clear. Gazprom’s entry could, paradoxically, be good news for BP.

“We would view such an outcome as positive as it should pave the way for the full-scale development of Kovykta, with potential to export gas eastwards to China through a new pipeline,” said James Neale, an analyst at Citigroup.

Gheit agrees: “If you are going to be dealing with Russian partners, then from BP’s point of view you may as well be dealing with ones that really hold the power.”

But BP executives – in particular new chief executive Tony Hayward, who took over from Browne at the start of the month and who sits on the board of TNK-BP – will be worried about what the Kovykta spat means for BP’s other Russian assets.

The suspicion is that the three oligarchs will eventually be pressed into selling their stake to a government-controlled company. “My impression is that these guys will sell– and at the moment they are just waiting to be told who to sell to,” said the Moscow oilman.


THE TIMING could not have been worse. Within hours of the publication of the energy white paper last Wednesday, BP dealt the government’s plans a blow by scrapping a pioneering carbon capture and storage project. The oil giant pulled the plug because the government had delayed plans to fund such projects.

Some observers believe BP’s decision has highlighted the key flaw of the white paper. The government has rightly identified the two great challenges – fighting climate change and securing energy supplies – but it is showing little urgency to tackle a looming energy crisis.

Britain faces a serious energy gap by 2015. Up to a third of its generating capacity could be cut as ageing coal and nuclear power stations are closed. At the same time the decline in North Sea oil and gas production will make Britain ever more reliant on imported gas.

The government’s response was a package of measures, including support for new nuclear power stations, proposals to encourage investment in renewable power and energy efficiency, and a mandatory carbon-trading scheme for large organisations such as banks and supermarkets.

The power industry welcomed the plans, but time is not on the government’s side. The new targets will be hard to meet. The aim of tripling to 15% the amount of electricity coming from renewable sources by 2015 looks incredibly ambitious. Reducing greenhouse-gas emissions by 20% from 1990 levels by 2010 could also be a stretch. New nuclear stations will not be operational for 10 years even with a reformed planning system.

The government’s laudable aim is to secure a diverse mix of energy supply. But given the long development timescales, the white paper is likely to increase Britain’s dependency on gas.

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