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The Observer: Oil and gas rights: the weapons of a new Cold War

In recent weeks, hardliners in the Kremlin have cancelled or renegotiated deals with Western firms in order to pursue Russia’s national interests – but their plans may backfire

Oliver Morgan
Sunday October 15, 2006

If there were any doubt about the ruthlessness with which Russia is executing its new nationalist energy policy, it was smashed last week. In an almost cursory announcement, Alexey Miller, chairman of the management committee of the massive Russian energy group Gazprom, told TV channel Russia Today that the state-controlled company would develop the ‘supergiant’ Shtokman gas field in the Arctic by itself and would not be inviting Western companies to join in.

At a stroke, Miller cut off five hopeful Western oil majors – Conoco and Chevron of the US, Statoil and Norsk Hydro of Norway, and France’s Total, from taking a stake in the £10bn project to develop the world’s third largest gas field, with 3.2 trillion cubic metres of reserves.

At the same time, Gazprom said it was abandoning plans to use Shtokman, which lies 500km north of the port city of Murmansk, to provide liquefied natural gas for transport by ship to the US, in favour of selling the gas into Europe by pipeline. The move could not have been a firmer snub to the US. It not only cut out two US oil companies from access to precious reserves, but deprived America of a valuable resource from a country that until recently appeared to be a reliable and stable ally.

Andrew Neff, energy analyst at Global Insight in Washington, says: ‘There is an emerging demand/supply gap in the US which means that these developments will be seen negatively by US energy policymakers. Liquefied natural gas was going to be a magic bullet and Shtokman was an important part of that.’

The Shtokman decision does not stand on its own. It comes in a year that has already seen Gazprom cut supplies to Ukraine, while government ministers have more recently cast doubt over investments by Western companies in other areas. Shell’s involvement in the £11bn Sakhalin-2 oil and gas project off Russia’s east coast was thrown up in the air last month, as was US giant Exxon’s in sister project Sakhalin-1. Meanwhile, there have been concerns over BP’s rights to develop the 1.9 trillion cubic metre Kovykta field in Eastern Siberia, and Total has had similar problems in the Arctic. The main commercial benefactors of these moves are the mighty Gazprom and Rosneft, the state-controlled oil group.

Gazprom’s reserves are bigger than those of any country in the world except Saudi Arabia and Iran. Production last year increased by 138 per cent, its profits by 169 per cent. The company is enmeshed into Russian life – it has huge influence over the towns in which it operates, running schools and health services, even operating leisure centres.

It is woven into the political fabric too. Gazprom chairman Dmitry Medvedev is also first Deputy Prime Minister in Putin’s government, and board director German Gref is minister for economic development and trade. Miller, who took over the company in 2001, owes his position to Putin’s patronage. It should come as little surprise that decisions affecting the company’s future are driven as much by political factors as commercial.

Chris Weafer, head of strategy at Moscow-based Alfa bank, says: ‘The major decisions with these companies – as happens with, for example, the United Aircraft Corporation – are taken in the Kremlin. That is because they have been identified as national champions – they combine an important economic role with a geopolitical one.’

The Russian government has until recently been content to allow foreign investment in Russian strategic industries as long as Russian entities maintain control. With the Shtokman decision – Gazprom would have taken a 51 per cent share of any venture – this appears to have changed. Why?

The first reason is the one given by Miller: that Gazprom and the Westerners could not agree terms. Despite its huge reserves, Gazprom needs capital and expertise to exploit them. According to Moscow-based Deutsche Bank/UFG, production from existing fields will fall from today’s level of about 600 billion cubic metres to some 140 billion cm in 2020, which means that opening up fields like Shtokman and Kovykta is crucial.

In the past, with a low oil and gas price, Russia has signed deals (such as Sakhalin) it now believes are disadvantageous. With today’s high prices, the balance may have swung too far the other way. As Stephen O’Sullivan of DB/UFG says: ‘Foreign companies may have concluded that the political, technical and financial risks involved in the project were such that they could not offer Gazprom what it wanted to bring them on board as partners.’ But, he adds: ‘This was a political decision, along the same theme as with Sakhalin and Kovykta.’

Weafer agrees: ‘Moscow has got tired of US criticism over a range of issues, most recently Russia’s attitude to Georgia. Another sticking point was the US refusal to admit Russia to the World Trade Organisation at the July G8 summit.’

Meanwhile, as relations with the US sour, those with its Western neighbour Germany warm. Putin met Angela Merkel last week. Analysts sense this may explain the timing of Miller’s announcement, which was greeted with enthusiasm by Burckhard Bergmann, chairman of E.ON subsidiary Ruhrgas. ‘Gazprom’s decision is good for the supply of gas to Europe because it improves the production base,’ he said. Such enthusiasm is unsurprising – Bergmann is also a board member of Gazprom

Gazprom’s plan was to allow access to reserves in return for access to Western markets. But Miller’s hints that he would like to take a stake in Centrica, owner of British Gas, earlier this year were greeted with barely disguised hostility by UK ministers, who last week reiterated that such a move would be examined on national interest grounds. And after one of Russia’s state banks bought a 5 per cent stake in European aerospace champion EADS, Putin’s requests for a Russian seat on the board were rebuffed. Analysts say there are indications that Putin’s attempts to balance liberal reformers in his administration, who include Medvedev and Gref, with ‘hardliners’ may be suffering a reactionary backlash.

Experts point to the influence of Igor Sechin, chairman of state-controlled oil group Rosneft, deputy head of Putin’s administration, and one of a group known as the ‘Siloviki’ with close links to the security services.

There are discussions about restructuring BP’s joint-venture with Russian group TNK, which hopes to develop Kovykta. Here, Gazprom would like to buy out the three oligarchs who currently own TNK, but it will have to fight off Rosneft. Meanwhile, it is seeking to improve terms for entry into the Sakhalin-2 project – Rosneft is already involved – in an agreement that was made with Shell last year to swap assets it has on the mainland for a stake.

From where the international oil groups like Chevron, Statoil, BP and Shell are standing, this all looks bad. Together, they now account for only 20 per cent of the world’s reserves.

There could be nasty repercussions in Russia, too. Frank Harris, analyst at consultancy Wood Mackenzie Harris, says Gazprom may have abandoned the Shtokman partnership from a position of weakness – it would have cost too much. Costs could spiral as expertise is spread thinly across the growing number of projects around the world.

‘Two years ago, liquefaction plants were built at $300-400 per tonne of capacity. Now that is probably $600 and may be even more,’ he says.

Neff adds: ‘Once they had decided to keep foreign companies out, they could not afford LNG.’ This could deprive Russia of one of the key emerging technologies in oil and gas production in future.

The silver lining for the West is that Putin has hinted that companies may be allowed back into Shtokman on a contractual, rather than equity, basis. This would mean oil service operators, such as KBR and Technip of France, moving in.

From Gazprom’s point of view these pose less of a short-term threat. But in the long run, it has to develop technical expertise of its own, and doing so through contracts, rather than equity partnerships, may well limit its ability to do so in the future.,,1922624,00.html and its sister non-profit websites,,,,,, and are owned by John Donovan. There is also a Wikipedia feature.

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