BP’s Russian Joint Venture Files for Bankruptcy at Kovykta

BP is headed for the exit from the giant Kovykta gas development project in Siberia. The decision seems intended to cut the losses inflicted on BP by Russian authorities and their business allies over the years in this project. Located in eastern Siberia’s Irkutsk oblast, the Kovykta field holds an estimated 1.9 trillion cubic meters of natural gas and 115 million tons of gas condensate.

On June 3, the project’s license-holding company, RUSIA Petroleum, filed for bankruptcy. BP is a major stakeholder through its Russian joint venture TNK-BP, as well as a creditor in its own right to this project. The company “is determined to recover its investments, and minimize its financial losses” (press release, June 3).

TNK-BP holds 63 percent, the OGK-3 company (regional electricity generating company, controlled by Norilsk Nickel) 25 percent, and the Irkutsk oblast administration 11 percent of the shares in RUSIA Petroleum (Interfax, June 7).

BP entered the Kovykta project during the 1990’s but was prevented from developing it, by extra-legal harassment and wrangles with certain Russian business partners (likely instigators of that harassment). BP returned to the game in 2003 when it formed the TNK-BP joint venture, but its efforts to develop Kovykta were thwarted during the following years through extortionate demands by the Russian government and Gazprom.

BP’s business idea was to export massive volumes of Kovykta gas to China. However, Gazprom used its position as gas transportation monopolist to block the construction of an export pipeline that it would not itself control. Gazprom considered allowing the use of its own pipelines for export of Kovykta gas, but only if Kovykta stakeholders financed the construction of pipeline links to Gazprom’s own fields, situated at various distances from Kovykta or from existing pipelines.

Russian authorities wanted some gas volumes from Kovykta’s future production to be allocated for consumption in Irkutsk oblast. Those volumes, however, seemed to substantially exceed the region’s requirements, apparently reflecting intentions to re-sell the surplus volumes to third parties. Moreover, Russia in 2007 enacted legislation barring altogether the export of gas from the country by private companies.

Forced to negotiate with Gazprom about handing over the project, BP tried to save the situation at one stage by offering a joint venture with Gazprom in BP’s liquefied natural gas (LNG) operation on Trinidad & Tobago. This would have opened access for Gazprom to the coveted US market, as well as to advanced LNG technology that Gazprom does not possess. They also discussed the price of a handover, in the range of $700 million to $900 million (Interfax, June 3).

To influence those negotiations, Russian authorities threatened repeatedly with penalties and withdrawal of the project development license. They accused TNK-BP of failing to develop Kovykta and to supply gas volumes on schedule, although the authorities themselves had blocked the transport solution and access to the export market.

A conflict initiated by Russian partners against BP within the joint venture in 2008 added further complications. These partners, a long-time oligarchic trio, used the help of Russian state authorities to compel a reshuffle of TNK-BP’s board in their favor, also forcing the CEO (an American citizen) and his team to leave Russia under police harassment. The Russian side also installed Gerhard Schroeder, the former German Chancellor, in the position of “independent member” of TNK-BP’s board. The board member for BP, Lord George Robertson, a Russia-friendly former Secretary-General of NATO, seemed unable to contain, much less deter, those indignities.

According to some Russian experts at international conferences, BP was highly reluctant to abandon Kovykta because it accounts for a significant portion of BP’s “booked” gas reserves, and its loss would affect the price of company shares. BP has denied this interpretation, but held on to Kovykta while financial losses mounted at the project. According to TNK-BP co-owner and executive director, Viktor Vekselberg, “Kovykta is a brilliant asset in BP’s portfolio, and selling it would only be a decision of last resort on the part of BP” (Interfax, June 3).

The financial-economic crisis left the Kovykta project’s fate in suspension, with Gazprom and Rosneft now vying with each other to take over Kovykta in anticipation of gas demand recovery. The contest between the two Russian companies and their respective supporters in the authorities delayed a solution, until Rosneft finally prevailed.

The state oil company aspires to diversify into the natural gas business. Deputy Prime Minister, Igor Sechin, who is concurrently the Chairman of Rosneft, recently denounced the Kovykta “disgrace,” warning the shareholders through the media: “We are behaving decently, not taking anything away from anybody for the time being. But we won’t be able to wait long” (ITAR-TASS, RIA Novosti, May 18).

To cut the continual losses, TNK-BP has finally decided to exit the project company, so as to recoup the investments to the extent possible. On May 14 it recalled the credits it had over time granted to RUSIA Petroleum, demanding prompt repayment, which RUSIA was known to be unable to meet. In its turn, on June 3, the license-holding RUSIA filed for bankruptcy in the Irkutsk commercial court. The bankruptcy should enable TNK-BP, as RUSIA’s creditor, to auction off RUSIA’s property, in hopes of recouping some of the investments made into the Kovykta project (Interfax, June 3; ITAR-TASS, RIA Novosti, June 8).

Other Russian business partners have also created their share of problems for BP’s venture. The OGK-3 company (see above) acquired its 25 percent stake in RUSIA Petroleum in December 2008 in an original manner. It financed that acquisition through a special additional emission of OGK-3 shares, although the emission had been authorized for the specific purpose of investment in electricity generation, OGK’s core business. It then paid $576 million to acquire 25 percent in RUSIA from Interros, the previous owner of that stake (as well as major stakeholder in Norilsk Nickel, which controls OGK-3). Russia’s Chamber of Accounts ruled the share emission improper, and OGK-3 agreed to refund that capital, resulting in a debt affecting RUSIA. The $576 million price of OGK’s stake would imply a value of $2.3 billion for RUSIA Petroleum (Interfax, June 3).

Under Russian legislation on mineral resources, if a license-holding company is declared bankrupt, the license should pass to the buyer of the bankrupt company’s immobile property. However, since Kovykta has been categorized as a strategic mineral deposit, the license to it may not be held by a foreign company. According to Russia’s Natural Resources Ministry, this situation should result in BP’s exit from the project. And according to the minister, Yuriy Trutnev, “this is no tragedy whatsoever for the country. If TNK-BP does not develop Kovykta, another company will” (ITAR-TASS, RIA Novosti, June 3).

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