Alliance Oil Company May Get Russian Tax Break, Kommersant Says

Russian Oil Frontier: Nowhere Land

Energy Firms, in Remotest Siberia for Crude, Run Rigs Over Video Link From 700 Miles Away

By GUY CHAZAN

The place is Verkhnechonsk, an oil field in eastern Russia operated by TNK-BP Ltd. that is one of the remotest spots on the planet. To get there you have to fly to Siberia, take an aging turboprop plane deep into the taiga, or subarctic forest. Then hop on a helicopter heading north. From Moscow, the journey takes a day, including layovers—longer if there are snowstorms.

It is so far from anywhere that TNK-BP, a joint venture of BP PLC and a group of Soviet-born billionaires, runs operations via video link from an office in Irkutsk, some 600 miles away. "It's like living on an island," says Albert Gilfanov, the oil field's deputy manager.

Russia is an energy superpower, with 13% of the planet's oil resources and a quarter of its natural gas. Having declined steeply after the collapse of the Soviet Union, oil production has come back strongly, hitting a new post-Soviet high of 10.3 million barrels a day in October.

Yet the mainstay of Russia's hydrocarbon wealth—the big Soviet-era oil fields of Western Siberia—is in decline. To keep production stable, Russia has no choice but to expand into new areas like Eastern Siberia—where oil reserves are less plentiful, production costs higher and the logistical challenges mind-boggling.

Some companies are already there. TNK-BP has been pumping crude from Verkhnechonsk, one of the biggest oil fields in Eastern Siberia, since 2008.

But the difficulties it faces are enormous. The cold is staggering, even for Siberia: winter temperatures can fall to -70 Fahrenheit, at which point all outside work is banned. The nearest human settlement is 250 miles away, and the forests are full of bears, wolves and elks. The oil is stuck under layers of hard rock and salt deposits that make drilling difficult.

And perhaps worst of all, the size of the prize is far from inspiring. All of Eastern Siberia contains five billion barrels of proven oil reserves, according to the International Energy Agency, compared with Western Siberia's 48 billion barrels.

Russia's other prospective areas are even more remote and even more expensive to develop: according to one estimate, $500 billion will be needed to open up vast oil and gas fields in the offshore Arctic. The costs of producing oil in Eastern Siberia and other far-flung areas are high—between $6 and $10 a barrel, compared with $4-$8 a barrel in Russia's older oil provinces, according to the IEA. Although crude from Eastern Siberia sells for over $100 a barrel, capital and transport costs take a big chunk out of profits.

And under Russia's current tax system there is little incentive to invest. For example, the Russian government's take from one of its new fields in the Arctic—the total effect of the country's fiscal system on cash flow from the fields—is 72%, compared with 53% for one of Brazil's massive offshore oil fields, according to Morgan Stanley. "For these projects to be successful...there needs to be some significant changes to the fiscal regime," Glen Waller, head of Russia for Exxon Mobil Corp., told a recent conference in Moscow.

Yet Russia's rulers are so heavily dependent on the money they get from the oil companies that they are loathe to reduce taxes. Revenues from oil and gas make up almost half of Russia's budget income.

The IEA projects that Russian oil output will stabilize for the next few years and then go into a slight decline, as output from new fields fails to compensate for declines in the older ones.

But the key to keeping Russian oil production more-or-less stable, according to the IEA, is to maintain or even increase output from Russia's core region of Western Siberia, which still contains billions of barrels of oil. That could be done by restructuring the tax system so as to encourage investment in its new fields and through enhanced recovery techniques at old ones. If that investment isn't forthcoming, total Russian oil production could go into "a rapid decline," the IEA says.

Verkhnechonsk was first discovered in 1978 by Soviet geologists. But it was considered too far away from the U.S.S.R.'s export markets to be worth developing.

That changed in 2006 when Moscow started building the East Siberia-Pacific Ocean pipeline, known as ESPO—a multibillion-dollar project designed to bring Siberian oil to Asia. Suddenly, marooned oil fields like Verkhnechonsk had an outlet to the fast-growing energy markets of the East.

The Russian government also helped by making crude from Eastern Siberia exempt from mineral-extraction tax, at least initially, and oil-export duties. Armed with the tax breaks, TNK-BP set to work.

Mr. Gilfanov, the oil field's deputy manager, was one of the first men to be deployed to Verkhnechonsk. He was sent here in 2007 from Samotlor, an oil field in Western Siberia that is one of the largest in the world and where he worked for 30 years.

Mr. Gilfanov says Verkhnechonsk has the same feel Samotlor had when he arrived there in 1979 as an idealistic young communist. "There was nothing here when I came, just taiga," he said, referring to the swampy coniferous forest that covers the area. "I was a pioneer again."

Conditions were tough. Workers shivered in winter and in summer were tormented by midges so vicious they have been known to kill cows. With no roads, the oil men had to be flown in by helicopter from Ust Kut, a desolate Siberian way station that Bolshevik leader Leon Trotsky was exiled to in Czarist times.

The oil field itself, with its complex geology and even more complex chemistry, didn't make things easier. TNK-BP engineers soon discovered that the oil in the reservoir was incredibly cold. That increases the risk of wax building up in the wellbore—the hole created by the drill bit—blocking the well and slowing the oil's flow rate. It also means the oil has to be heated up when it comes out of the ground so water and salts can be removed—a process that requires huge amounts of energy.

"Verkhnechonsk has some of the lowest temperatures among any of the world's oil fields," says Igor Rustamov, head of the Verkhnechonsk production subsidiary.

Also, the oil has an unusually high salt content. Cleaning that requires a lot of fresh water, which is in short supply in the ice-bound taiga. Meanwhile, hard-to-remove salt deposits can build up in pipes, pumps and valves.

Finally, the part of Verkhnechonsk's reservoir that actually contains producible oil—the pay zone, as it is called—is unusually thin. So TNK-BP had to drill horizontal rather than vertical wells, using advanced technologies to guide the drill bit toward the reservoir's sweet spot—"like an optical sight on a sniper's rifle," says Mr. Rustamov.

There have been other problems. The Russian government, noting the steep rise in oil prices, canceled the zero oil-export duty in July 2010, half a year earlier than planned. "Of course it was a blow," says Jonathan Kollek, the company's head of supply, trading and logistics. "The industry needs predictability to plan investments efficiently."

TNK-BP finally delivered Verkhnechonsk's first oil into the ESPO pipeline in October 2008, a landmark event. Production is expected to increase to a peak of 160,000 barrels a day by 2014, from roughly 100,000 barrels a day now.

But that pales in significance compared with the monster fields of Western Siberia. Samotlor reached peak production of more than three million barrels a day in 1980. Even now, 46 years after it opened, it is producing five times more than Verkhnechonsk.

"East Siberia just doesn't have the same reserves," said Mr. Rustamov. "In that respect, West Siberia is irreplaceable."

Write to Guy Chazan at guy.chazan@wsj.com

Gazprom

Gazprom says Ukraine can now pay for supplies in roubles

MOSCOW Dec 5 (Reuters) - Russian energy giant Gazprom on Monday said it signed an agreement with Naftogaz under which the Ukrainian state energy company will be able to pay for supplies in Russian roubles.

"(The contract) amendment allows 'Naftogaz of Ukraine' to pay for supplies of Russian gas in roubles as well," the statement said.

The two sides, which are frequently at odds over pricing and volumes, reached a preliminary agreement on the matter last month.

Ukraine relies heavily on Russian gas for its energy needs and Naftogaz pays between $500 million and $1 billion a month for the imports, contributing to depreciation pressure on the hryvnia. (Reporting By Alfred Kueppers)

Gazprom CEO: Ukraine and Russia will probably seal natgas deal in 2011

http://www.ukrainianjournal.com/index.php?w=article&id=13634

Journal Staff Report

Ukraine says to conclude Russia gas talks in Dec

Tue Dec 6, 2011 8:17am GMT

KIEV Dec 6 (Reuters) - Ukraine and Russia will finalise a new gas deal before the end of this month, Ukraine's Energy Ministry said in a statement late on Monday, a message indicating Kiev was likely to secure a long-coveted gas price discount.

The deadline was set at a meeting between Ukrainian Energy Minister Yuri Boiko and the head of Russian gas giant Gazprom Alexei Miller in Moscow, it said.

Ukraine, which relies heavily on Russian gas imports and pays about $400 per thousand cubic metres, says the price is too high and has been trying to renegotiate the supply contract for over a year.

Price disputes between the two ex-Soviet nations have in the past disrupted Gazprom's supplies to Europe through Ukraine.

Kiev and Moscow announced significant progress after a meeting of presidents Viktor Yanukovich and Dmitry Medvedev in September and have since said they were working on implementing agreements they had reached, without providing any details.

"The sides have agreed to complete the drafting of agreements reached by the two countries' leadership on expanding cooperation in the gas sector before the end of December 2011," the Ukrainian ministry said.

Analysts say that in order to secure a discount, Ukraine is most likely to offer Russia a stake in its pipeline system which Gazprom sees as a key to safeguarding its European supplies. (Reporting by Olzhas Auyezov, editing by William Hardy)

Gazprom fails to sign gas agreement with Moldova --- marginally negative

http://www.bne.eu/dispatch_text18172

VTB Capital

December 6, 2011

News: According to RBC-Daily, Gazprom has failed to negotiate a new gas contract with Moldova on common terms applicable to the majority of the company’s other European supply contracts. The paper quoted Vladimir Filat, the Prime Minister of Moldova, as saying that Gazprom had suggested discounted gas prices in exchange for Moldova foregoing the rules and regulations of the third energy package. The sides failed to reach agreement on the matter. Gazprom’s representatives refused to comment.

Our View: As Moldova represents less than 1% of Gazprom’s sales volumes, this failure to negotiate a new gas agreement is immaterial for the company. However, this is another link in the chain of bad news over gas negotiations in Europe, so it might be marginally negative for sentiment. To recap, the third energy package stipulates that one company cannot operate both gas supplies and transportation at the same time (which is the case for many of Gazprom’s operations).

11:23

Gazprom names special overseer for relations with Brussels

http://www.interfax.com/news.asp

Russia in WTO: Gas Dispute In Europe Could Find New Venue

http://www.themoscowtimes.com/news/article/russia-in-wto-gas-dispute-in-europe-could-find-new-venue/449295.html
06 December 2011

By Howard Amos

While Russia's expected accession to the World Trade Organization in 2012 could be used in a brewing struggle between Gazprom and the European Union, the move is unlikely to have a big impact on the country's domestic gas industry or export revenues.

"Broadly speaking everything will stay as it was," said Artyom Kochin, an oil and gas analyst at UniCredit Securities.

Gazprom increased production by 12 billion cubic meters in 2012 to 520 bcm, and profits from energy exports have grown to about 40 percent of federal revenue. WTO entry will do little to upset these trends.

But membership of the international trade body could provide state gas export monopoly Gazprom with another weapon as it battles the European Union's third energy packet. The EU measures that could begin to be implemented next year seek to separate production from supply and break up Gazprom's control of continental pipelines.

Asked about the EU's plans, Russia's chief WTO negotiator Maxim Medvedkov said last month that there was a "very big question over whether they are compatible with the obligations of our partners in the WTO."

EU diplomats have stated repeatedly that the third energy package does not contravene WTO rules and that the issue should be decided in bilateral talks.

Whatever the political consequences for Gazprom, Russia's export tariffs and internal gas prices are unlikely to be seriously affected. The country will retain its ability to set pricing formulas for the "indefinite future," Medvedkov said. Long-term gas contracts with European customers are linked to the oil price.

While WTO entry conditions permit the Kremlin to maintain the regulation of domestic gas prices for households and noncommercial users, they are obliged to introduce market prices for gas to industrial enterprises.

This will occur gradually, said Alexander Kirevnin, an oil and gas analyst at VTB Capital, as the state will not allow Gazprom to raise domestic gas prices by more than 15 percent a year.

He added that VTB Capital had not changed its valuation models for either Gazprom or independent producer Novatek following the news of likely WTO accession.

A Gazprom spokesman declined to comment. "At the present moment, we won't comment on this and will not even look into it," he told The Moscow Times. Novatek did not respond to repeated telephone and e-mail requests for comment.

But gas producers may be influenced from another quarter. The Russia director of a U.S. oil and gas services company whose clients include Gazprom told The Moscow Times that WTO accession was likely to level the playing field as far as service companies were concerned.

"It's a good thing, whether they know it or not, for Russian [gas] producers," said the executive who requested anonymity to speak freely. "As an industry, they will have to finally become more efficient, productive and usable."

Read more: http://www.themoscowtimes.com/news/article/russia-in-wto-gas-dispute-in-europe-could-find-new-venue/449295.html#ixzz1fjUCm1E3

The Moscow Times

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