Russian Authorities Threaten BP Assets at Kovykta Project

Publication: Eurasia Daily Monitor Volume: 7 Issue: 35

Russia’s Natural Environment Inspectorate (RosPrirodNadzor) has recommended that BP’s joint venture in Russia, TNK-BP, be stripped of the giant Kovykta natural gas project in eastern Siberia (Interfax, February 19).

Located in eastern Siberia’s Irkutsk oblast, the Kovykta field holds an estimated 2 trillion cubic meters of gas. RUSIA Petroleum is the license-holding company (technically the “mineral resource user” [nedropolzovatel]) in the Kovykta project. TNK-BP owns a 63 percent stake in it. TNK-BP is a parity joint venture of BP with the Russian TNK (formerly Tyumen Neftegaz company), which is currently controlled by four Russian billionaire tycoons.

The Kremlin seems to be moving rapidly to tighten the noose around TNK-BP’s asset, using the state’s regulatory apparatus to threaten with revocation of the license. In recent weeks, RosPrirodNadzor has stepped up its inspection of the project. It claims to have found “continuing violations” of license terms, with field development “persistently lagging” (Interfax, February 11).

Officially, the decision regarding the license is mainly up to Russia’s Mineral Resources Oversight Service (RosNedra). In practice, there is little doubt that the decision will be a political one, ultimately to be made at the top of the government and in the Kremlin.

The state oil company Rosneft has apparently developed ambitions to enter the natural gas business through a major project. Rosneft’s subsidiary, Rosneftegaz, is expected to bid for a controlling stake in Kovykta (Kommersant, February 12; Interfax, February 15).

On February 4, Gazprom CEO Aleksei Miller announced that the company does not need to include Kovykta’s gas resources in Gazprom’s export programs for China or other countries in the East Asia-Pacific region. On the following day, the natural resources ministry (to which RosPrirodNadzor is a subordinate agency) announced an “extraordinary” round of inspection of the Kovykta project. On February 12, Natural Resources Minister Yuri Trutnov warned that a decision to revoke the license might ensue within several weeks. In that case, the Kovykta field would be transferred into the legal category of “unallocated mineral reserves” (unlicensed fields) (Interfax, February 4, 5; Nezavisimaya Gazeta, February 12).

The dispute dates back to 2006-2007, although it lay dormant since. RUSIA Petroleum was planned to have supplied 9 billion cubic meters (bcm) per year from 2006 onward for the needs of Irkutsk oblast. However, that amount far exceeds the level of demand in Irkutsk oblast; and local distribution infrastructure would have to be created first. Project shareholders had seriously considered exporting the gas to China. However, the idea was thwarted by the lack, or denial of access to Gazprom’s export pipelines.

RosNedra threatened to revoke the license in 2007 on the pretext that field development was lagging behind schedule, and gas production below the levels stipulated in the license and the contract. Under pressure, TNK-BP agreed to sell its Kovykta stake to Gazprom for a sum in the range of $700 million to $900 million, with an option to retain or regain a minority stake, subject to further negotiations. At that stage, Gazprom was trying to pressure BP into ceding a stake in BP’s liquefied natural gas (LNG) project on Trinidad & Tobago. That project supplies the US market, which Gazpom was trying to enter.

The resolution was deferred in 2007-2008 by the Russian stakeholders’ conflict with BP. Thanks to the Russian authorities’ strong-arm measures, the TNK side evicted the joint venture’s CEO, Charles Dudley (an American citizen) from Russia in 2008, and forced changes on the joint venture’s board in favor of the Russian side. Gazprom employee Gerhard Schroeder (formerly the German chancellor) was foisted on TNK-BP’s board as an “independent” member. No sooner was the board coup accomplished than the financial crisis hit, further postponing a resolution of the Kovykta dispute.

At this stage, license revocation threatens not only BP, but also the Russian tycoon owners of TNK: an offer that TNK-BP cannot refuse. Apparently, Russian authorities are about to give all concerned an option to avoid license revocation and investment forfeiture, if they agree to sell the project to Rosneftegaz, or possibly another Russian company. Gazprom may well also be waiting in the wings, its disclaimer notwithstanding.

This time, however, Kovykta stakeholders might try to avail themselves of the Energy Charter Treaty’s provisions on the protection of foreign investment. In a potentially landmark case in December 2009, the Permanent Arbitration Court in The Hague ruled that Russia is bound by the Energy Charter Treaty’s provisions from the moment of Russia’s signature in 1994. Under the terms of that signature, the treaty took legal effect in Russia through provisional application, ahead of its ratification and irrespective of it. In August 2009, Russia served notice that it would not ratify the Treaty and that it was not bound by it. The court in the Hague, however, ruled the opposite, in a case brought to the court by the shareholders of the expropriated Yukos company. This means that foreign investments made in Russia after 1994 are covered by the treaty’s protection, apparently for the 20-year period stipulated at that time. This in turn opens the way for investors to seek international arbitration of their disputes with the Russian authorities in energy projects.

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