Publication: Eurasia Daily Monitor Volume: 4 Issue: 112

Throughout this year, Russian regulators have targeted the Kovykta gas development project, officially for failing to fulfill production quotas. However, the regulatory pressure was understood to be aimed at putting the giant Kovykta gas field, which is estimated to hold up to 3 trillion cubic meters (some 106 trillion cubic feet, Tcf) of gas, under state control.

The Natural Resources Ministry’s subsoil agency, Rosnedra, discussed Kovykta during a meeting on June 1. The Rosnedra license review commission, which meets every two weeks, reportedly discussed the agency’s draft decision to annul TNK-BP’s Kovykta license. A final decision is to be announced at the next meeting, on June 14 (Interfax, June 1). Presumably, the commission decided that taking away the Kovykta license ahead of the June 6-8 Group of Eight meeting in Germany could spark new criticisms of Russian energy policy.

Speaking to European media ahead of the G-8 summit, Russian President Vladimir Putin insisted that the problem concerned licensing violations and said TNK-BP had done little to develop Kovykta. “It is not about BP and a foreign partner, it about all shareholders, who pledged to develop the deposit and, unfortunately, did not implement the license agreement,” according to the Kremlin press service.

Meanwhile, on June 1 Rosnedra got tough on smaller projects and reviewed the London-listed Imperial Energy’s licenses for projects in the Kurgan region, involving estimated reserves of some 500 million barrels of oil and 2 Tcf of gas. The agency accused the company of environmental violations and overstating reserves. Rosnedra also warned PetroResurs, controlled by Sweden’s Lundin Petroleum AB, that it could lose its license for the Lagansly off-shore block in the Caspian.

But the $10 billion Kovykta project still remains a key issue in terms of Russia’s regulatory maneuverings. BP’s Russian vehicle, TNK-BP, is the main shareholder in Rusia Petroleum, which still holds the license to operate Kovykta. TNK-BP owns 63% in Rusia Petroleum, while Russia’s Interros controls 26% and the Irkutsk regional government holds 11%.

In 2006, Rusia Petroleum pumped only some 39 million cubic meters (1.38 Bcf) of gas, according to the Rosnedra’s draft report. Under the licensing agreement, Rusia Petroleum was supposed to pump 9 billion cubic meters (bcm), or 318 Bcf, of gas in 2007, but the company has been producing far less due to the lack of any significant local demand or an export pipeline to China. Consequently, the Kovykta project became subject to sanctions for licensing violations.

In 2006 TNK-BP suggested that Rosnedra review the license agreement, but the agency refused. Instead, in February 2006, Rosnedra officially warned Rusia about the license violations and gave the company three months to tackle the problems. In the meantime, Oleg Mitvol, deputy head of the Natural Resources Ministry’s environmental watchdog Rosprirodnadzor, reportedly also suggested that Rusia be stripped of its Kovykta license.

TNK-BP filed a lawsuit seeking to stop the authorities from annulling the license. But on May 28, an arbitration court in Irkutsk, the East Siberian region where the field is located, ruled to dismiss TNK-BP’s suit on technicalities (Interfax, May 28). Thus the last regulatory hurdle was removed, and the Russian authorities prepared to take away the Kovykta license.

A flurry of diplomatic activities ensued. On May 31, BP’s CEO Tony Hayward attended a TNK-BP board meeting in Moscow and also held talks with Alexei Miller, CEO of the state-run natural gas monopoly Gazprom. Gazprom said in a statement that both sides had discussed possible cooperation in Europe, the United States, and Russia, but it did not mention any discussion regarding Kovykta (Interfax, May 31).

On May 30, Miller reportedly met TNK-BP executive Viktor Vekselberg. Since last December, they have discussed jointly developing the gas-chemical sector in Eastern Siberia, but no formal agreements have been announced.

The latest stage of the Kovykta saga follows the pattern of recent developments around the Sakhalin-2 oil and gas project. Shell and its Japanese partners sold a majority stake to Gazprom after months of pressure by the Russian regulators. In December 2006 Gazprom reached an agreement to become the major shareholder in the $20 billion Sakhalin-2 project. Last December, Shell CEO Jeroen van der Veer also met with Miller a few days before agreeing to sell to Gazprom.

In April, Gazprom finalized a deal to acquire a 50% stake in Sakhalin-2 from Royal Dutch Shell, Mitsui, and Mitsubishi for $7.5 billion. After the transaction was completed, Shell, Mitsui and Mitsubishi now own 27.5%, 12.5% and 10%, respectively.

In the wake of the Sakhalin-2 acquisition, Russia’s gas monopoly has been considering additional takeovers. In January 2007, a Russian arbitration court annulled the September 2005 order by the Russian Federal Anti-Monopoly Service, which banned Gazprom from acquiring new gas assets in Russia. The arbitration court’s ruling opened the way for Gazprom’s new acquisitions.

Yet despite circumstantial evidence, Gazprom has repeatedly denied it was interested in Kovykta. Officials and spokespeople of the gas giant insisted that the Kovykta venture was far too risky, because demand for Kovykta output is not expected before 2015 (Interfax, May 28-June 1).

Gazprom’s repeated claims that Kovykta gas is not needed for exports have been seen as tactical maneuvers to pressure Rusia and TNK-BP into submission. Unexpectedly, Gazprom’s claims of low demand for Kovykta gas proved to be somehow based in reality, at least this year.

In January-April 2007, Russian gas production amounted to 231 bcm (8.15 Tcf) or 0.7% up over 2006, while exports amounted to 60.4 bcm (2.13 Tcf) or down 20.2%, according to the Russian Economic Development and Trade Ministry. Now, Gazprom plans to produce 557 bcm (19.66 Tcf) in 2007, down from its earlier plan of 561 bcm (19.8 Tcf), while its export plans were slashed to 147 bcm (5.19 Tcf) from 157.8 bcm (5.57 Tcf). On May 30, Gazprom and Russia’s independent gas producers agreed to coordinate their production cuts this year (Interfax, May 30).

Russian gas exports have been down this year mainly due to unusually an warm winter in Europe. However, the sudden drop in Russia’s gas exports came as a reminder that the gas sector can still be risky.