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Reciprocity and Russia’s Integration into the World Economy

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worldenergysource.com: Reciprocity and Russia’s Integration into the World Economy

by Tony Hayward
Group Chief Executive
BP

World Energy, v10n4

Much in Russia has changed for the better in the past two decades. Russia has emerged from the Soviet era. Incomes and employment are rising rapidly, investment is increasing and lives are being transformed.

One sector in particular has played a decisive role in that transformation: oil and gas. As one of Russia’s biggest investors in that sector, BP is proud to have participated in the march of progress. BP’s experiences illustrate the possibility and reality of progress in Russia.

BP made its first investment in 1995 when we opened our first retail outlet in Moscow. Today, TNK-BP and BP combined have more than 1,600 sites across Russia and Ukraine. Our retail operations continue to be an excellent investment for us, and when I recently met with President Vladimir Putin, he told me that our retail sites in Moscow pay more tax than all their competitors combined. In fact, the president clearly knew as much about BP’s business in Russia as I did; I stopped being surprised by his attention to detail some time ago.

The next phase in our investment came in 1997 when we acquired a minority interest in Sidanco. And in 2003 TNK-BP was formed. It has thrived ever since.

I would be misleading you if I claimed everything has always been sweetness and light. It has not. There have been bumps in the road, but we continue to make progress and we are in this for the long haul.

A Good Investment

When TNK-BP was formed, BP made a big strategic call: that Russia was a market in which we should continue to invest and, furthermore, that we should take a quantum leap forward. We made that call for two reasons. First, as the possessor of the world’s biggest gas reserves and as the second-largest oil producer, Russia was bound to be an important source of new production to meet the world’s growing energy needs. Second, the Russian economy would continue to advance and provide the right backdrop for investment. We concluded that this was a market we could not ignore.

I believe that we called it right on both counts. The figures show that the new demand for oil from China and India has been met almost barrel for barrel by rising production in Russia. The Russian oil and gas sector has benefited from new investment and the transfer of new skills and technology. The country has put those things to good use and is making a significant contribution to world economic stability.

The energy sector, in turn, has been a major contributor to Russia’s own economic renaissance. This is the ninth consecutive year of growth in gross domestic product; international public debt is minimal; there is a fiscal and current account surplus; capital markets are deepening; incomes are rising; the workforce is highly educated; and prosperity is growing fast.

Furthermore, the fundamentals are strong and indicate that this growth will continue. The earnings from Russia’s commodity exports are being carefully managed and should provide some of the funds needed to diversify into new sectors, such as services and technology.

BP has been proud to witness this transformation and to play its part through investment. We put $8 billion of cash and assets into TNK-BP, capital expenditures have grown strongly every year since, and I am glad to say that this has been a profitable investment for us, for our Russian co-investors and, I would submit, for the Russian Federation.

TNK-BP is a truly Russian enterprise. Uniquely, it is a genuine joint venture. We own 50 per cent, and our three partners have 50 per cent among them. There is no 50-plus-1 here, where one party effectively has control.

On a personal level, my greatest satisfaction over the last four years has been to witness Russian nationals and expats working side by side, learning from each other and developing friendships, mutual respect and trust. When so many people seem to be claiming that Russia and the West are moving apart, our experience shows otherwise. Co-operation among colleagues is a necessary part of all successful inward investment projects. It is a force for good the world over, and I find it extremely motivating to see it first hand.

Four Commitments

In 2003 we made four commitments by which we asked to be judged. These are very important both to us and to the Russian Federation.

First, we said we would grow TNK-BP’s production. We have done that, increasing production by 30 per cent in the last three years. We have replaced an average of 131 per cent of our reserves in the last four years.

Second, we agreed to transfer state-of-the-art technologies and skills. That is moving ahead rapidly, and 200 BP experts are working inside the company along with nearly 50 young Russian engineers on secondment to BP. We have introduced new seismic imaging and processing technologies, which have enhanced exploration success; we have improved water flood management, dramatically improving recovery rates; and we have applied best practices in areas such as drilling, completions, well work and reservoir management.

Third, we promised to improve corporate governance by undertaking one of the largest corporate restructurings in Russian history, increasing transparency and securing the rights of minority shareholders. In June 2007, for example, TNK-BP Holding approved another dividend in which our minority shareholders will participate fully.

Fourth, we said we would be a good corporate citizen. Here we have made progress, too. TNK-BP has paid $45 billion in taxes, duties and excises since inception. In the last two years we invested $370 million in social programmes, ranging from disease prevention to the preservation and celebration of Russian culture. Further, we are engaged in a widespread programme of supporting universities and promoting educational links between Russia and the rest of the world. We have built partnerships with major oil and gas universities, including Tyumen, Tomsk, Ufa and Gubkin in Moscow.

TNK-BP also has invested heavily in health, safety and the environment, and the company is a cleaner, safer one than it was four years ago. Through the introduction of our driver safety standard, we have, for instance, significantly cut work-related road fatalities, from nine in 2004 to one in the first half of 2007. The refineries produce cleaner fuels. We have remediated almost half of the legacy pollution issues we faced, and we are developing new projects to exacting environmental standards.

In short, we have, by and large, delivered on our promises, and we are determined to continue to do so.

I think that is something all investors in Russia should take on board. BP’s firm belief is that the principle of mutual advantage is critical to doing business successfully in any country, and that is certainly true of Russia. Over the years we have learned from experience that, around the world, we will be judged by our performance. The returns we make for our shareholders are predicated on bringing material benefits to the nations and localities where we operate.

I do not want to sound complacent or naive, however. Russia, like anywhere, has its risks. One only has to look at BP’s experience in the United States over the last two years to understand that doing business anywhere in the world can be challenging from time to time. Russia is no different.

The Future

From BP’s perspective, TNK-BP has been a great success. But what about the future?

This is partly a case of more of the same. Russia not only has the world’s largest combined oil and gas reserves, it also has significant potential yet-to-find oil and gas. BP’s aim, therefore, is to continue to invest in Russia. We participated, for instance, in the initial public offering of Rosneft last year, buying a $1 billion stake. We also are working with Rosneft in our Sakhalin joint venture, Elvaryneftegas, to drill two wells in the West Shmidt license area in the first efforts to establish the presence of hydrocarbons in this completely unexplored region north of Sakhalin. TNK-BP continues to pursue and invest in new opportunities with 35 new licences won or acquired in 2006 and a capital budget for 2007 of $3.4 billion.

An important new trend businesses need to think about for the future is the growth of what we at BP call reciprocity. This is the development of not just foreign investment into Russia, but investment by Russian companies overseas.

Reciprocity is of growing relevance to the Russian Federation. So far, the metals and mining sectors are a little ahead of the oil and gas industry. Russia’s major metals and mining groups restructured rapidly in the last decade, and companies like Severstal, Evraz, Norilsk and RUSAL are now beginning to attempt significant investments abroad.

As an enthusiast for all the benefits cross-border investments can bring, I welcome that. So we should look forward to the Russian oil and gas sector investing overseas, too. There are signs of that already, but I hope the trend accelerates in the next few years. Foreign investment is an expansive, confident thing to do for both the investor and the recipient. Such investments can transform a company’s fortunes, bringing in more capital, know-how, technology and mutual understanding and respect.

A shared understanding of the importance of reciprocity, of trade and capital flowing across borders, is a vital concept that underpins the functioning of the world economy. When Russian companies want to make foreign investments, they should be encouraged to do so on a level playing field. We have much to learn from each other and much to contribute.

Russia and the World Economy

Russia’s integration into the world economy is a critical component of globalisation. For those countries which have embraced it, globalisation has brought new levels of prosperity, transforming the lives of hundreds of millions of people around the world. It brings challenges, of course, but overall, globalisation is an incredible force for progress.

Globalisation is certainly the economic means by which Russia is putting the Soviet era truly behind it. But globalisation requires fair rules of the game to work properly. That means that Europe, Asia and America must be open to investment by Russian companies, just as Russia has opened up its borders.

Perhaps the most important book of rules for the world economy is overseen by the World Trade Organization (WTO). President Putin has indicated he hopes that Russian accession to the WTO proceeds. Such negotiations are inevitably complex and difficult. From the perspective of this international investor, we at BP hope both sides are able to move ahead. Russian WTO accession would be more than a technical agreement. It would strengthen the very principles which underpin an expanding world economy. I believe that those are proven principles which BP and its fellow investors endeavour to put into practice every day, in Russia and around the world.

Tony Hayward, group chief executive of BP, joined the company in 1982. Following a series of technical and commercial roles in BP exploration in London, Aberdeen, Glasgow, France and China, in 1992 he moved to Colombia as exploration manager. He became president of the BP group in Venezuela in 1995 and two years later returned to London as a director of BP exploration. In 1999, following the merger of BP and Amoco, he became a group vice president and a member of the upstream executive committee.

Mr. Hayward was appointed group treasurer in 2000, where his responsibilities included global treasury operations, corporate finance and mergers and acquisitions. He was appointed an executive vice president in 2002 and became chief executive officer for exploration and production later that year. He succeeded Lord Browne as group chief executive in May 2007.

Mr. Hayward is also a senior independent non-executive director of Corus Group plc and a non-executive director of Tata Steel. He received a Ph.D. in geology from the University of Edinburgh in 1982.

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