The Russian Oil & Gas Producers - TNK-BP.

In February 2003, BP announced its intention to buy 50% into Tyumen Oil Co. (TNK), as well as other assets held by TNK's shareholders, thus creating a new company, TNK-BP. The deal was approved by regulatory authorities in Russia and Europe in mid-2003, marking the largest foreign investment in Russia since the collapse of the Soviet Union. TNK-BP has since grown steadily to become Russia's second largest oil/condensate producer next to LUKoil, with its output of oil, condensate and natural gas now exceeding 2m b/d of oil equivalent.

The TNK-BP merger deal, personally endorsed by President Vladimir Putin, has included retail outlets in Russia and Ukraine (see the profiles of TNK and Sidanko in Vol. 59, DT No. 11 and TNK-BP background up to mid-2004 in Vol. 63, DT 8).

BP's CEO John Browne always make it a point that, during his visits to Russia, he meets with the key figures in the Kremlin decision-making process. During a visit to Moscow in May 2006, for example, Browne held talks with Dmitry Medvedev and Igor Sechin. Medvedev, a first deputy prime minister and chairman of Gazprom's board of directors, is one of the candidates to the 2008 presidential elections when Putin's final term ends. Sechin is a deputy chief of staff at the Kremlin and board chairman of the state-owned oil giant Rosneft.

Having close links with the people at the very top is crucial to BP, a UK-US major likely to see its 50% share in TNK-BP rise to 75% in 2007. Under the 2003 merger deal between BP and the Russian JV of Alfa Group and Access Renova, the latter two companies have the right to sell up next year. It was speculated in May 2006 that Alfa might consider selling its 25% equity. But BP would first need the Kremlin's blessings before being able to purchase this stake in 2007.

However, TNK-BP appears not to be immune to repeated tax claims originating from the Kremlin. On Aug. 15, a Moscow arbitration court was reported as confirming a US$130m back-tax claim for fiscal 2001 against TNK-BP. TNK-BP had disputed the tax claim before the court ruling on Aug. 11. Analysts at investment bank UFG Deutsche Bank were on Aug. 15 quoted as saying the claim was a modest one for TNK-BP, but "lessens its chances of reducing another back-tax claim of about 2.1 billion dollars". TNK-BP had set aside US$1.5 bn in view of many tax claims against it.

Fiscal claims, common in Russia due to frequent changes in legislation, are one of the key risks facing businesses. These are frequently condemned by business people as a means of exerting pressure on them.

TNK-BP in 2003 raised its proved oil reserves by 5%, according to its first full audit since its formation in August of that year, to 4.3 bn barrels based on US Securities and Exchange Commission (SEC) rules. TNK-BP American CEO Robert Dudley in June 2004 said: "This is clearly good news and confirms our previous estimates of TNK-BP's primary reserves base". On Jan. 2, 2005, Petroleum Argus said TNK-BP's oil reserves had reached 16,048m barrels: 8,374m proven; 4,147m probable; and 3,527m possible.

TNK-BP on March 1, 2006 said it had established 1.37 barrels of new reserves for every barrel of oil it produced in 2005. As a result, TNK-BP's total proven liquid reserves, measured by the standards of the Society of Petroleum Engineers (SPE), totalled 8.23 bn barrels at end-2005. This took into account the disposal of some of its upstream assets in the course of 2005.

TNK-BP said the results did not include the reserves of its Slavneft unit, jointly owned with Gazprom through the latter's Sibneft unit. Nor did the figures include any natural gas reserves.

TNK-BP has licences to develop substantial natural gas deposits in Russia, notably the giant Kovykta field in eastern Siberia. However, regulatory and political issues have hindered their development.

BP paid about $7.75 bn for its share to set up TNK-BP, blazing a trail for foreign direct investment (FDI) in Russia. That included $1.4 bn to fold into TNK's 50% stake in Slavneft (the other 50% held by Sibneft which now is part of Gazprom). But Slavneft was not consolidated into the TNK-BP audit. The audit showed TNK-BP replaced 133% of production with new reserves by SEC rules. Dudley in June 2004 said that was the first result of a drive to consistently replace more reserves which were extracted. He added: "This process will accelerate as we see further results from the full scale deployment and application of technology and investment".

TNK-BP has two large oil refineries in Russia and one in Ukraine. It has been studying whether to proceed with upgrades to drastically cut fuel oil output at its Ryazan and Lysychansk plants and would require investments of up to US$1 bn per refinery. But in February 2006 a company spokesman said TNK-BP and other Russian oil producers were keen to hear Russia and Ukraine's long-term fiscal strategies and whether they planned to encourage higher fuel standards.

Net income at TNK-BP in 2005 rose 63% to US$5.218 bn, according to the accounts of BP. The figure included a net gain of US$540m on the sale of production assets and a refining unit to Russian oil firm Russneft in 2005.

As part of a restructuring, TNK-BP in June 2006 sold Udmurtneft, one of its oil producing units with an output of 120,000 b/d and reserves of about 1 bn barrels, to the state-owned Sinopec of China. Udmurtneft, operating in the Volga region, was sold for about US$3.8 bn.

Also in June 2006 China's biggest state oil company CNPC bought a stake worth more than US$500m in the Russian state oil company Rosneft (see the latter's profile below).

TNK-BP holds 62.42% in and leads a consortium called Rusia Petroleum Co., which is licenced to develop the Kovykta gas/condensate field in the Far Eastern region of Irkutsk. Its partners there are Interros (25.82%), and the local government of Irkutsk's Property Fund (11.24% carried by TNK-BP). The field, containing 1.9 TCM of recoverable gas reserves, has been partly developed and the group hopes the gas will be supplied to China (15 BCM/year) and South Korea (10 BCM/year). But after a decade of work and major investments, the only customer the developer group has so far is a tiny logging village happy to replace its soot-belching, coal-fired power plant with gas, at steeply discounted prices.

There is a deadlock over Kovykta and the reason for this is Gazprom and President Putin's determination to harness Russia's vast natural resources in state hands, expanding large state-controlled firms and using monopolistic power over export pipelines to dictate the success of such projects.

Moscow has taken several steps in recent months to tighten state control over energy resources and their exports, even as it has moved to benefit its largest state-controlled firms, Gazprom and Rosneft. In early July 2006, the Duma approved legislation to formalise Gazprom's monopoly control over gas exports, thwarting the hopes of private producers, like those tapping Kovytka, of ever selling their products overseas on anything but Gazprom's terms.

Moscow is drafting a law on natural resources to limit foreign investors' role in large energy projects. It has refused to ratify the Energy Charter, an international compact to integrate the former Soviet Union's gas and oil pipelines into Europe's networks, calling its terms unfair for Russia.

At a rare press conference last June, Vladislav Surkov, Putin's deputy chief of staff and the Kremlin's behind-the-scenes ideologue, said Russia would no longer submit itself to the demands of Western democracies. He called Russia's a "sovereign democracy", saying: "We are a free nation and we wish to remain a free nation among other free nations, not controlled from the outside".

Such remarks reflect a new Russian assertiveness after 15 years of tumult following the collapse of the Soviet Union. It is one buoyed by energy prices and a desire for Russia to define for itself a new role as an independent power, separate from but equal to its larger and wealthier partners. For BP executives Kovytka's proximity to China, the world's fastest-growing market for gas, made it particularly valuable.

Kovytka's gas could open new markets - and providing a diversification of routes which US and EU officials have urged. "If you are the Russian government, why wouldn't you want to do this?" Alastair Ferguson, the director of TNK-BP's gas operations, said at the company's Moscow headquarters in July, referring to the potential bonanza of selling Siberian gas into China. The answer is Gazprom's control of exports.

Gazprom, a source of wealth for the Kremlin's resurgent policies, has wielded its connections and access pipelines not only to become one of the world's largest companies, but also to thwart its private competitors. In Kovytka's case, Gazprom has blocked efforts by TNK-BP to build its own export pipeline, leaving it sitting on vast riches with virtually no market. Required by licence to pump gas by end-2006 or risk losing the project, TNK-BP is preparing to send gas to Zhigalovo, a logging village with only 5,000 residents, for about $30/000 CM. Gazprom is exporting its gas to Europe at an average price of $250/000 CM.

Aleksandr Medvedev, Gazprom's deputy CEO and head of its export unit, last month was quoted as saying: "Kovytka could not be developed without export sales, but when these volumes will be needed - it is a very big question". He made it clear that Gazprom and the government, not TNK-BP, would answer that question. Gazprom had already signed a broad agreement in March with China National Petroleum Corp (CNPC) for sales of gas from Siberia, without specifying the source. TNK-BP executives say Gazprom has its eyes on Kovytka (see background in Vol. 63, DT 8).