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Analysis & Opinion
30.06.10 BP's Russian Roulette
By Tai Adelaja

BP Has Plenty of Worries in Russia Too, Not Least of Which Is Bringing Its Assets in Line With the Law on “Strategic” Industries

Taking brief respite from hurricane Alex and the eerie images of brown pelicans mired in oily mud along the Louisiana coast, BP's CEO Tony Hayward arrived in Moscow on Monday for a two-day face-to-face meeting, meant to reassure Russian officials that his company has got what it takes to weather the storm. But with the Moscow rumor mill lately working overtime, the BP CEO will have to, in addition to giving assurances, stave off rumors and do some damage control to redeem an already tarnished business reputation.

As expected, the BP CEO met behind closed doors with Deputy Prime Minister Igor Sechin on Monday ostensibly to reassure the government of the stability of the British oil producer, Bloomberg reported ahead of Monday’s meeting, citing sources familiar with the plan. As talks progressed in Moscow, BP’s shares went up 0.5 percent in London trading and were up 2.5 percent in premarket trading on the New York Stock Exchange. However, a streak of bad news soon followed. The oil giant reported Monday that the cost of cleaning up the oil spill has reached $2.65 billion, a $300 million increase on Friday's estimate. Earlier in the month, the company announced that it would create a $20 billion escrow fund to cover claims from those suffering losses because of the continuing oil spill. The oil major's board of directors decided to freeze dividend payments until the end of the year, giving the company an extra $7.5 billion, Bloomberg reported. In addition, BP said it would cut its investment program and sell as much as $10 billion in assets.

In a gaffe before Monday’s meeting, Sechin had told reporters that the embattled BP CEO is expected to resign soon and name a successor during his Moscow’s visit – speculation BP officials were quick to brush off. Sechin, who oversees Russia's energy sector, is also chairman of state-owned Rosneft in which the British company owns 1.25 percent stake. As BP’s misfortune deepened in North America, rumor swirled in Moscow that the company would have to sell its stake in the country's largest oil producer. The rumors triggered a 5.51 percent drop in the value of Rosneft shares on the MICEX as spooked Western investors sold the company’s shares. Instead of the rumored sale, however, BP must have decided to give its 1.25 percent stake in Rosneft as part of collateral for a $2 billion loan from the Credit Suisse Group, The Wall Street Journal reported. Both BP and Rosneft officials declined to comment on the deal.

BP’s Russia interests include a 50-50 joint venture in TNK-BP, Russia’s third-largest oil company. The company’s Russian projects account for 25 percent of its output, 20 percent of its total reserves and substantial dividends. In 2009, BP received $2.2 billion in dividends on its 50 percent stake in TNK-BP, the Vedomosti business daily reported.

As company officials remained tight-lipped and details of Monday’s meeting remained murky at best, Hayward's Moscow visit has led analysts to suspect that the British company’s vast holdings in Russia appeared to be giving new impetus to speculation about its future prospects in the country. Analysts have offered a mixed bag of opinions about the real intentions behind Hayward’s visit, underscoring the fact that BP’s headaches in Russia are at least as big as its oil and gas interests. Hayward's visit may be supposed to determine whether the Russian shareholders of TNK-BP are considering a break-up with their British partners now that they have a formal reason to do so, Vedomosti wrote on Monday. There have been tensions between the two parties before, the paper wrote, as the Russian partners said BP was limiting the joint venture's expansion into international markets, thus impeding its development.

Another “persistent rumor” about the company is that its 50 percent holding in TNK-BP is out of sync with the so-called “rules of the game” for foreign investment in Russia’s strategic industries, Chris Weafer, Chief Strategist at UralSib Bank, wrote in a note to investors on Tuesday. “It has long been rumored that BP has been under pressure to agree to restructure that holding, i.e. to bring it in line with the provisions of the legislation governing investment in Russia’s so-called strategic Industries,” Weafer noted.

Russia’s Strategic Industries Law, which came into effect in May 2008, requires foreign-registered companies – including many with Russian owners – to seek permission from a specially created government commission chaired by Prime Minister Vladimir Putin before making a significant deal. Under the terms of that legislation, no foreign investor may now buy more than 49 percent of a company in a so-called strategic industry and, in some industries, that limit is 25 percent. The law also requires that a foreign-registered legal entity get permission from the government commission before raising its stake above 50 percent, but it is not clear if the law could be retrospectively applied.

Since the legislation came into effect, several deals have been concluded that underscore the importance of the new investment rules and how far the government is willing to go to enforce compliance. French oil company Total, for instance, has a 25 percent strategic partnership with Gazprom in the Shtokman gas project, while Shell, which initially had a controlling stake in Sakhalin- II, eventually agreed to restructure the ownership of the project to allow Gazprom to acquire a 50 percent plus one controlling stake. Shell is now a foreign strategic partner in the project with a 25 percent plus one stake. “BP’s 50 percent stake in TNK-BP is now the exception to the rule,” Weafer said.

In what appeared to be a warning signal, the Federal Anti-Monopoly Service threatened in March to take legal action against Russian and foreign companies that violate investment rules in the country’s 49 strategic industries, which include oil production, aerospace technology, defense and large media organizations.

Industry insiders are also saying that Gazprom may be pushing for a merger of TNK-BP with Gazprom Neft and other Gazprom oil assets. Gazprom Neft and TNK-BP hold a 50 percent stake each in oil producer Slavneft, and a merger may allow Gazprom Neft to build its holding to the 50 percent plus one stake that is now the norm for a Russian holder in a strategic company, Weafer said. “It may also allow for BP to ‘swap’ its stake from 50 percent of TNK-BP to 25 percent plus one stake in the combined entity. That would then see this investment fall in line with others in the industry and in line with the terms of the strategic industries legislation,” he said.

Hayward might also have discussed the troublesome issue of BP’s controlling stake in the Kovykta gas deposit in Russia’s Far East with the deputy prime minister, analysts say. “The question of ownership of that gas license has been unresolved for several years and Russia needs to resolve it in order to move ahead with plans to sell gas to China,” Weafer said. “The project has been locked in a catch-22 situation for a long time.” BP has a controlling stake in the Kovykta gas deposit via Russia Petroleum. The terms of the license require BP to develop the gas deposit, but the British company cannot export gas from the field as Gazprom has exclusive control over gas exports and has not “connected” the Kovykta project. Since Russia Petroleum is not able to develop the deposit in the absence of a mechanism to export the gas, it is technically in breach of the license terms.

TNK-BP agreed to sell Kovykta to Gazprom for around $1 billion to cover its investment costs, but the deal has never been finalized and talks have been suspended, as Gazprom's finances became stretched because of the financial crisis and unclear prospects of gas exports to China, Reuters reported. Russia and China signed a Memorandum of Understanding for the construction of two gas pipelines in 2004 but not much else happened since, and China has made huge investment in a gas pipeline from Turkmenistan instead. Kovykta, with more than two trillion cubic meter reserves of gas, is classified as a “strategic” field and under the current legislation only companies majority-owned by Russian capital can develop it. “The Russian side may now see an opportunity to push the negotiations to a conclusion,” Weafer said.

Yet another “unfortunate coincidence” is that Hayward's visit came hard on the heels of Russian President Dmitry Medvedev's call on Sunday for a special levy on oil companies to finance a fund dedicated to cleaning up the industry's environmental disasters, such as BP's oil spill in the Gulf of Mexico. Medvedev made a proposal for a global pollution fund at the G20 Summit in Toronto, and in a communiqu?, G20 leaders appeared to agree on the need to share practices to protect the environment from such disasters. Medvedev further said that Russia was about to introduce pollution legislation in the lower house of Parliament to protect its coast from oil spills – all of which suggests that Hayward certainly has his job cut out for him.
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