By Sergei Kolchin
The two main export sectors in Russian industry--the oil and natural gas industries--are developing in fundamentally different directions. The oil industry is moving toward a competitive environment of several private companies, which are vertically integrated "from the prospecting geologist all the way to the pump." The natural gas industry is dominated by a single company--Gazprom.
The reasons for this divergence are quite obvious. First of all, if Russia has no more than ten percent of the world's oil reserves, it has forty percent of the world's natural gas reserves. Accordingly, Russian companies are in a different position in the world oil market than they are in the world natural gas market. Second, even before the beginning of the vertical integration in the oil sector, some national autonomies declared that they had the right to extract and refine oil locally, which undermined the sector's unity from the outset. And third, the technological specifics of using oil and gas in their raw form also differ. Most crude oil goes directly to be refined, and only approximately one-third is exported in its raw form. Natural gas, for the most part, is a "self-sufficient" product, used directly as fuel.
Today, one may say that Russia's oil and gas complex contains a state holding company--Gazprom--which is also quite active in the oil industry, and a number of vertically-integrated oil companies (VIOC's), which cover the entire production process to varying degrees, and are continuing the process of concentrating production and capital, mergers, alliances, and takeovers.
FOURTEEN VIOCS ARE TOO MANY
At the end of 1997, there were 14 VIOCs (LUKoil, YUKOS, Surgutneftegaz, SIDANKO, Tatneft, Tyumen Oil Company, Slavneft, Eastern Oil Company, Bashneft, Rosneft, ONAKO, KomiTEK, NORSI-Oil, and the Central Fuel Company) operating in Russia's oil industry. The last two companies are not involved in oil extraction; Tatneft does not refine its oil, and Bashneft is a separate entity from the republic's oil refining company (Bashneftekhim).
But in the industry, the prevailing opinion is that fourteen VIOCs are too many, and that the process of further mergers and concentration of production and capital will begin soon. The last person to say so was LUKoil's president Vagit Alekperov, who, in a meeting with the Oil and Gas Academy in April 1998, said that "soon there will be only five big oil companies in Russia," and that by the end of 1998 "the Russian oil industry would look substantially different."
The influential "oil general" has reason to think so. YUKOS and Sibneft have merged; the privatization of the last big state oil company, Rosneft, seems to be a done deal; YUKOS took over the Eastern Oil Company at the end of 1997; and privatization auctions and competitions are being prepared for Slavneft and NORSI-Oil, in which the larger VIOCs will clearly be the main participants.
Therefore, we will limit ourselves to describing the six largest companies in the Russian oil market, in terms of oil extracted.
First among these is YUKSI (65 million tons), created in the beginning of 1998. Its main components, YUKOS and Sibneft, were acquired by domestic financial capital --Menatep and Boris Berezovsky's financial group respectively--at the first stage of privatization for a very low price.
YUKSI has about 3.2 billion tons of proven oil reserves, which would seem to make it the largest in the world, although this figure is based on the Russian practice of counting reserves, which is different from that used in the rest of the world. It clearly takes first place in Russia, with 34 percent of total reserves.
The newly-born giant also takes first place in Russia in terms of the amount of oil refined--43 million tons. Its sales network now covers fifteen regions of the country--from eastern Siberia to Russia's western border. True, such a large structure naturally has its weak points, from the indebtedness of its subsidiaries and other financial problems to conflicts with small shareholders of these same daughter companies. But to give YUKSI its due, the course to form a united company was followed very consistently, although there have been some signals of possible cracks in the alliance.
YUKSI has had some recent successes in the area of international contacts. At the beginning of April 1998, a framework agreement was signed between YUKSI and the French company Elf Aquitaine on strategic cooperation in prospecting, extraction and refining oil and gas, and on the sale of oil and petroleum products, including on world markets. This agreement was preceded by another, under which the French would buy five percent of YUKSI's shares for $528 million. It is not clear exactly what Elf Aquitaine has bought, since the Russian concern has still not issued any shares in the united company, but be that as it may, this step confirms that foreign investors have faith in the unification of YUKOS and Sibneft into a single holding company.
If the sale of shares to a foreign partner was a significant, but not an original event for Russian oil companies, another recent alliance between YUKSI and a Western company could safely be called "unprecedented." That is YUKSI's agreement with Schlumberger, the world's leading provider of services and technology to the international petroleum industry. The event's press release called it "an unprecedented departure from the traditional Russian industry practice of performing all oilfield services in house." Schlumberger will be brought in to do geological prospecting and to provide services at a number of oilfields under development by YUKSI.
Since YUKSI spends $2 billion every year on such services, the alliance is truly strategic in scale. Moreover, Schlumberger could help in personnel training and consulting services.
YUKSI's main goal in this alliance is to introduce new technology and to reduce expenditures on oil extraction. For Schlumberger, this is an important breakthrough into a promising new market for its oilfield services.
But as active as YUKSI has been recently, it is still too early to speak of it as a company with a mechanism which is completely formed.
[Editor's Note: In fact, after this article was submitted for publication, an announcement was made that the plans to merge YUKOS with Sibneft had fallen through. Talks on the formation of YUKSI are now said to have been postponed until the end of the year.]
With this in mind, many experts give the first-place laurels to the more monolithic LUKoil, which has virtually completed the process of corporate construction.
LUKoil, which extracted 53 million tons of oil in 1997, is formed on a different principle than YUKSI: it bought itself out of state ownership, without bringing in outside financial structures and going under their control. LUKoil is also actively participating in various mergers, preferring, however, the tactic of partnership and the search for common interests.
If Vagit Alekperov's meeting with the president of Oneksimbank, the owner of SIDANKO, Vladimir Potanin, held fresh on the traces of the creation of YUKSI, was more a matter of coordinating positions, the meeting with ONAKO (with Gazprom participating) was said to be about undertaking "joint activities in the oil market."
In April, a five-party general cooperation agreement was signed between LUKoil, Tatneft, the Central Fuel Company, and the governments of Tatarstan and Moscow. It reinforced LUKoil's strategic alliance with Tatneft and the Central Fuel Company. LUKoil had already signed a bilateral cooperation agreement with the latter. LUKoil acquired a 13 percent share in the Central Fuel Company and helped modernize the Moscow Oil Refinery. But Alekperov stressed that the formation of the "Moscow-Kazan-LUKoil axis" "does not at all mean that the three companies will merge."
Add to these recent alliances the close cooperation with NORSI established earlier (and the prospects of LUKoil's acquiring a controlling interest in that company, either by itself or in conjunction with Tatneft, are quite real) and you get a picture of a consolidation just as active as YUKSI's, albeit by different means.
LUKoil has also moved forward in making strategic partnerships with Western companies. At the beginning of 1998, it was announced that LUKoil had received a $1.5 billion credit from a consortium of five leading international banks (ABN AMRO, Citibank, CS First Boston, Deutsche Bank and Societe Generale) to finance projects in Russia. After that, a memorandum of cooperation was signed with the American company Conoco on the joint development of the Timan-Pechora oil and gas fields as part of the "Northern Territories" project. 60 percent of the project will belong to the Russian company, and 40 percent--to Conoco. LUKoil's acquisition of a controlling packet of shares in Arkhangelskgeoldobycha served as the basis for this agreement.
LUKoil is not just buying up oil properties in Russia itself, nor is it limiting itself to acquisitions in the area of oil extraction. It has bought the Petrotel oil refinery in Ploesti in Romania, and is now looking into the possibility of acquiring the Paramo oil refinery in Pardubice, in the Czech Republic.
Some distance behind the top two are two other leading Russian VIOC's: Surgutneftegaz (34 million tons of oil extracted) and SIDANKO (20 million tons). Like LUKoil and YUKSI, they represent diametrically opposite methods of forming oil holding companies.
Like LUKoil, Surgutneftegaz bought itself out of state ownership. It has an economic strategy which is based on relying on its own resources. Its president, Vladimir Bogdanov, maintains a line of emphatic "Siberian patriotism," refraining from participating in alliances and not attracting outside capital, either from Moscow or from abroad. Moreover, Surgutneftegaz notes proudly that it is itself a shareholder in ONEKSIMBank. Bogdanov's activities are positively received, both in the company's base, Tyumen Oblast, and in the center.
Back in 1994, the government commission on payment discipline noted that "Surgutneftegaz's financial situation shows that there is a school of management which has managed to remain independent of the leaders of the non-payments crisis." Even now, the company is not among the leading debtors to the budget.
At the company's five-year anniversary in March 1998, it was stressed once again that the company would rely on its traditional resources in Western Siberia. This constancy has helped Surgutneftegaz win in tenders held in the Khanty-Mansiisk Autonomous District and to put its sites on the lists which fall under the conditions of production-sharing agreements.
In addition, the company is stepping up its foreign contacts: it is holding talks with Iran, Iraq and Libya on taking part in oil extraction projects. It also intends to put out ADRs in preferred stock. It has chosen the Bank of New York as its depository. The company's confidence in the future of its securities is based on the fact that its stock price has quintupled over the last five years. Surgutneftegaz's trump card is its status as general contractor in the building of a new oil port in Batareinaya Bay in Leningrad Oblast. Construction began on the port in June 1997, and it is planned to be brought into operation in 1999.
SIDANKO, on the other hand, is an example of an oil company controlled by financial interests. Like YUKOS and Sibneft, it was acquired by an influential financial structure, in this case, ONEKSIMBank. SIDANKO's acquisition by its new owner was marked by significant personnel reshuffling in its leadership: Zia Bazhaev became its president and CEO. Bazhaev managed the restructuring with an iron hand, and restored intra-corporate ties and contacts with the regions.
But Bazhaev unexpectedly left his post in March of this year, taking with him a significant portion of his team of the company's top managers. Many experts say that this was a move to clear the way so that people from the company's foreign strategic partner--British Petroleum--could move into leading posts. At the end of 1997, BP acquired 10 percent of SIDANKO's shares for $490 million, and in February of this year, created a joint venture with its Russian partner to develop the large Kovyktin gas condensate field in Irkutsk Oblast. The company also continues to be one of the leading claimants for the government's packet of shares of Rosneft, although its partner BP recently announced that it would probably not participate in the bidding.
Two other large Russian oil companies: Tatneft and the Tyumen Oil Company extract 24.5 million and 21 million tons of oil respectively, i.e. more than SIDANKO, although they are less promising according to other parameters. Both work on sites whose productivity is falling, and have insufficiently balanced internal structures. Nevertheless, neither of these companies is likely be acquired by their stronger competitors and both have recently stepped up their activity in the Russian oil market.
Tatneft is a classical regional oil company, under the strong influence of the republican authorities. The government of Tatarstan has a controlling packet of shares and the right to veto decisions made at shareholders' meetings. Due to its success and stability, the company has received privileges and support from the republican leadership.
But it has to pay for such benevolence and support. The dream of the republic's leadership is to achieve complete oil self-sufficiency, for which it needs its own powerful oil refinery. And this goal is beginning to come to fruition. The investment program to rebuild the Nizhnekamsk refinery is estimated at $600 million and the first stone of the new refinery complex has already been laid.
Naturally, this money can only come from the republic's oil companies, which are not all that eager to provide it. According to Tatarstani President Mintimer Shaimiev, Tatneft decided to provide $300 million of the money which it received from issuing its obligations on Western funds markets for the construction of the refinery. In exchange, it is true, it will get a controlling packet of the shares of Nizhnekamskneftekhim and five percent of the shares of the state's packet, necessary to put out a third-level ADR.
But the oil extracting companies are still cautious about merging with the oil refiners into a single vertically-integrated company. According to the deputy general director of Tatneft, Eduard Akopdzhanov, "the idea doesn't exactly make sense, because the refinery is burdened with debts and unnecessary structures." Moreover, Tatneft is not happy about its obligation to provide crude oil to the republican refinery at reduced prices. According to the company's general director, Rinat Galeev, last year's losses in this "cooperation" alone amounted to 287 billion rubles. And Nizhnekamsk does not pay regularly, even at these fixed prices. But this is the flip side of the status of being a republican oil company; a payment, as it were, for preferential treatment.
THE TYUMEN OIL COMPANY
Another regional oil company--the Tyumen Oil Company [TOC]--is now regional only in name. After Alfa Group acquired 38 percent of the TOC's shares in the summer of 1997, and fought an ensuing protracted battle for complete control over the company and its subsidiaries, it managed to acquire a controlling packet of shares.
Tyumen Oblast's failure to keep its own oil company, as often happens in Russia, is in large part due to the personality factor. The oblast governor, Leonid Roketsky, had a hard time holding onto his post, not so much because of his election rivals, but because of stubborn districts within the oblast and their leaders. As a result, in effect, he was elected only by the population of the southern part of the oblast. In this situation, the region did not have the strength or the unity of interests to wage a successful fight to keep the TOC a regional company.
Moreover, the TOC had a serious weakness: its oil extraction was far removed from its refinery (which was at the other end of Russia, in Ryazan).
All this led to the company's being taken over by Moscow financial circles, which have begun to implement their own corporate policy, without any regard for the regional authorities, although they do try to avoid conflicts with them.
With the coming of Semyon Kukes to the post of president of the TOC in early 1998, the company has become noticeably more active. It has begun an intensive search for partners and allies among Russian and foreign oil companies. Bashneft, which is seriously concerned about the fall in production from its own oil fields, has become one of these partners.
Bashkortostan had long seen the TOC as a potential partner for republican oil refining. But the alliance had been slowed down by the unresolved situation within the TOC. After Alfa Group took over, it finally took place.
The alliance is quite easily explainable in terms of the logic of production. One side--Bashneft--was having difficulty with oil extraction and consequently, in supplying oil to the republic's refining complex. The other--the TOC--had a low-capacity and outmoded refinery in Ryazan and needed additional refining capacity. The partners are close in territory, which also improves the transport situation.
The TOC's search for partners is not limited to Bashkortostan. Also deserving of attention is the agreement it signed with the administration of Magadan Oblast to build a new refinery in Nagaevo Bay.
As for international contacts, the company has signed an agreement with the French firm Total. For the time being, however, this is more a protocol of intentions. According to Kukes, the firm still has to choose a strategic partner, but the orientation toward the French is nonetheless quite clear.
Moreover, the TOC, according to its president, is counting on receiving a $300 million credit from Western bankers. Two-thirds of the money will be put into the company's working capital, and the rest will be spent on current production needs.
Thus, one may say that the elite of Russia's oil industry, in spite of the unpleasant situation in the world fuels market, still look to the future with optimism.
Dr. Sergei Kolchin heads the sector of economic statistics and comparative international analysis of the Russian Academy of Sciences' Institute of International Economic and Political Studies in Moscow.
Translated by Mark Eckert