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Shell: Bid to break free of Russian dependence

 

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Financial Times: Shell: Bid to break free of Russian dependence

By Roman Olearchyk

Published: May 14 2008 03:47 | Last updated: May 14 2008 03:47

Ukraine’s vast but murky energy market has traditionally been ruled by domestic groups and Russian giants.

Russian oil companies snapped up the country’s top oil refineries nearly a decade ago, and have since built up western-style petrol station chains. Privatisations in the 1990s put many electricity utilities into private hands. The heavily-politicised natural gas production, supply and transit business is de facto controlled by a state holding, but Russia’s Gazprom wields much influence along with Ukrainian business groups that feed on lucrative inside deals.

Top western energy groups have eyed Ukraine for years, but none had established a notable presence until after the Orange Revolution of 2004. The arrival of a pro-western leadership kicked off efforts to lure western energy companies with the aim of reducing dependence on Russia, the main fuel supplier.

Amounts invested thus far are tiny compared with projects in Russia and other markets. But western energy companies are, more than ever, sniffing out opportunities in Ukraine. Leading the pack is Royal Dutch Shell, which in recent years has moved fast to establish an up- and downstream business, making it the only western energy major with a significant presence.

“Ukraine is a market that leading energy groups can’t ignore: it’s the fourth largest gas market in Europe in terms of consumption after the UK, Germany and Italy. And it’s a country with a lot of opportunity as the country’s energy sector has not seen any significant levels of investment in the last 20 years,” says Patrick van Daele, general manager of Shell Ukraine Exploration & Production.

Last year, Shell established a joint venture with Russia’s Alliance Group to operate 150 petrol retail sites and incorporated a domestic gas trading company.

Shell’s biggest venture in Ukraine was sealed in 2006 with the signing of an exploration and production agreement at eight licensed areas in the potentially energy-rich Dnipro-Donetsk Basin. Shell has dedicated about $100m to the initial exploration phase of the project. Mr van Daele says “several billion dollars” would be invested if significant finds are made.

Such projects alone will not significantly improve the country’s energy security – it which imports a majority of its gas and oil needs from Russia and Central Asia. But they will serve as a litmus test of the success leading energy groups can find, Mr van Daele adds.

“I don’t think we can expect another Nigeria or Gulf of Mexico, but there are likely to be significant quantities of untapped reserves here in Ukraine, a country with a vast domestic demand and located close to key markets.”

Vanco Energy is the only other western operator to land a sizeable exploration and production agreement. The Houston-based company signed a production-sharing agreement last year for a vast 12,960 square kilometres Black Sea field. A growing number of western energy groups, including Petrobras and Marathon Oil, have actively sought opportunities.

“We expect more soon,” says Volodymyr Saprykin, chief energy expert at the Kiev-based Razumkov think-tank. “Ukraine does not have strong experience in deep-water drilling, for example, and needs the help of these companies, their know-how and investments to help boost domestic production.”

Ukraine’s economy has struggled to adjust to several stiff price increases on natural gas imposed by Russia since 2006. Russia has twice since 2006 cut supplies during price disputes. The shockwaves have been felt in the rest of Europe, which receives a quarter of its gas via Ukrainian pipelines.

“If Ukraine can take care of more of its own needs for gas and other fuels, this will make it more efficient and self-sufficient, and will make an impact on Europe’s energy security. It is not unrealistic for Ukraine to significantly increase its production levels in the next decades. But to do so, it will have to open the door to foreign energy companies, allowing them to invest heavily,” Mr van Daele says.

Mr Saprykin warns of price caps and export restrictions that have cushioned the population from rising costs but kept out big investments. To attract investors into costly projects, Ukraine must provide tax incentives and encourage competitive market pricing, Mr van Daele adds.

 

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