Sakhalin gas: Shell loses, whales
win By John Helmer
MOSCOW- There are three opponents of
Russia's strategy to become a global liquefied
natural gas (LNG) exporter - the western gray
whale, the US government and Gazprom.
Until this week, and for quite different
reasons, all three, including the LNG producer
itself, Gazprom, have succeeded in delaying and
redirecting plans to start shipments from the
first of Russia's LNG plants at Aniva Bay on
Sakhalin Island, in the Far East; and to postpone
indefinitely drawing-board plans and
joint-venture
agreements to build the
second and third LNG plants on the Baltic, and to
the north, on the Barents Sea.
During the
Soviet period, energy planners in Moscow
concentrated on piping natural gas to domestic
users, and for export westward by pipeline across
land to Europe. At the consumer end of this
pipeline system, reliance on Russian gas is
currently 100% in Finland; 99% in Bulgaria; 97% in
Slovakia; and 76% in Greece. In volume of Russian
gas consumption, Germany takes most, followed by
Italy, Turkey and France. In the Soviet period,
the technology for liquefaction was costly, and
although in development by Soviet ally Algeria,
Moscow believed there was no pressing economic
reason for installing it.
The energy-price
boom of the past three years has created enormous
cash reserves for Gazprom, which the
Kremlin-directed management wants invested as
quickly as possible, avoiding devaluation by the
unstable dollar, and threatened market
manipulation by the Americans and Western
Europeans. That has meant increasing interest on
Gazprom's part in diversifying upstream, as well
as downstream, in the gas market.
Shell
had started the ball rolling a decade ago with its
plan to build the Aniva Bay plant to liquefy gas,
and tanker it to Japan and South Korea. With 9.6
million tonnes in annual export capacity, this
plant has already contracted to sell more than 7
million tonnes for 20 years to Japanese and Korean
buyers. However, a combination of huge cost
overruns, postponements of tax payments to the
Russian Treasury, and environmental damage led the
Kremlin to attempt a move this year to transfer
operating control, and shareholding equity in the
project, to Gazprom. For the time being, Asian
buyers cannot count on a whiff, or a drop, of gas
from Sakhalin.
The campaign to protect the
whales by Russian environmental organizations -
endorsed by regional court rulings - has been
under way for several years. Royal Dutch Shell,
controlling shareholder and operator of the
Sakhalin-2 project, has repeatedly denied that its
dredging, construction of offshore production
platforms and a tanker-berthing jetty, and the
laying of undersea pipelines, had upset the marine
ecology in the Sea of Okhotsk. Starting in 2005,
the Russian courts began to disagree.
This
year, the federal authorities extended their
criticism to onshore pipeline construction, the
cutting of forest, the heightened threat of
mudslides, and other problems. After suspending
the project's environmental clearances, the deputy
head of the Russian environmental protection
agency Rospriradnadzor, Oleg Mitvol, said Shell's
proposed new cleanup plan was worthless. "It is
not serious. It is a joke collection. We had
expected to see technical solutions and they are
dealing with small local problems," Mitvol said
during a site inspection on November 11.
The changing economics of gas exports
persuaded Gazprom strategists in Moscow that they
too should build their own LNG facilities.
Accordingly, during 2006, Gazprom negotiated
agreements with Algeria's Sonatrach to cooperate
in developing these plants in Russia for export of
the product to the North American market.
Natalia Bortsova, a gas-industry analyst
in Moscow, told Asia Times Online: "Gazprom has a
serious intention to produce LNG, but currently
has no production facilities of its own." She said
the technology required is readily available, and
Sonatrach has unique experience building LNG
plants, operating them, and marketing the product.
"Sakhalin LNG is controlled by Shell, and Gazprom
has been trying to get a share there without
success yet. [An LNG project for St Petersburg
involves] Petro-Canada and Gazprom, but the
negotiations are still at the stage of memorandum
of intentions."
She acknowledged that
Gazprom's desire to export LNG to the US market
will run into potential competition with
Sonatrach, already a major US supplier, unless the
two companies agree to cooperate. "It is very
important to create the partnership, not to
compete," Bortsova said.
The US government
has objected, saying that a Gazprom-Sonatrach
combination threatens gas markets with the
potential for cartel pricing. European Union
officials mimicked the Washington line in public.
But neither they nor the Americans were able to
dissuade Sonatrach from signing its memorandum of
understanding (MoU) with Gazprom.
In case
the Algerians started marching to the Western
tune, in October Gazprom negotiated a fresh option
with Repsol of Spain. A communique, issued in
October by Gazprom, after a meeting of chief
executive officers Alexey Miller for Gazprom and
Antonio Brufau for Repsol, referred to their plan
of cooperation as extending to "the territory of
Europe, Latin America and Africa, and also in
projects for production of LNG with use of the
resource base of the Russian Federation, including
the project Baltic LNG". At the same time, the
Kremlin was persuaded to rethink the usefulness of
allowing US partners to take equity and possibly
operational control of the northwestern LNG plants
in planning - one on the shore of the Gulf of
Finland, near St Petersburg, in planning with
Petro-Canada; and another on the Barents Sea
coast, above the Arctic Circle, with US oil
companies ChevronTexaco and ConocoPhillips.
According to the statement by Petro-Canada
on October 12, 2004, CEO Ron Brenneman and
Gazprom's chairman, Alexey Miller, had signed an
MoU "to investigate a joint liquefied-natural-gas
project which would see LNG from Russia shipped to
North American markets by 2009. Specifically, the
MoU covers options for Petro-Canada and Gazprom to
jointly develop a liquefaction plant in the St
Petersburg region, and investigate options for gas
supplies to that LNG plant and re-gasification in
North America."
Without a supply of gas on
tap, however, that deal is a dead letter.
Thus the decision Gazprom made on October
9 this year - two years after the Petro-Canada MoU
- to limit initial production from the Shtokman
field to pipeline deliveries of natural gas could
defer the Baltic plant indefinitely. According to
the Gazprom announcement, "pipeline gas deliveries
from the Shtokman field to the European market
would take priority over LNG shipments. Shtokman
will be the resource base for Russian gas export
to Europe via the Nord Stream gas pipeline.
Gazprom will develop the field on its own, without
attracting foreign partners."
The latest
Gazprom evaluation of Shtokman boosted field
reserves by 10% to more than 4 trillion cubic
meters. It also concluded that lifting the gas and
condensate, and piping it 550 kilometers to shore,
will be less risky, and less costly, than Gazprom
has previously thought. The political value,
however, of liquefying the gas, either on the
Barents shore or on the Gulf of Finland, has
vanished, at least for the time being - and Russia
will leave the American LNG market to Sonatrach
for the foreseeable future.
The China
market remains difficult for Gazprom to supply,
unless it can divert Sakhalin gas away from its
intended and contracted Japanese and Korean
customers. A fresh estimate, released last month,
suggests that the cost of building overland the
2,700km Altai gas pipeline from West Siberia to
China would require an investment of about US$14
billion. Even if that is affordable, Gazprom's
ambition to place large volumes of gas in the
Chinese market as early as 2010 may be defeated by
lack of gas.
"We do not think that Gazprom
has the gas for this, at least from West Siberia,"
said Adam Landes, a Renaissance Capital analyst.
"We therefore continue to believe that Russian gas
exports to Asia will be sourced from East Siberia
and Sakhalin only, and dismiss the notion that the
Altai pipeline will ever be built."
When
Russian President Vladimir Putin was last in
Beijing a few weeks ago, the emphasis in the
energy-sector talks was on overland pipeline
transportation, not on increased shipping from
Sakhalin, industry sources say. All CEO Miller
would say in China was that his company might
start shipping gas to China through pipelines,
from Sakhalin, East Siberia, and West Siberia,
within five years. New gas deliveries from Western
Siberia are estimated to total 30 billion to 40
billion cubic meters. An alternative to the Altai
pipeline route to China is being considered from
the Eastern Siberian field of Kovykta to China.
Gazprom's size is deceptive. Its capacity
for grand strategy is quite limited, and its drive
into both the Asian and European markets much more
commercially driven, and opportunistic, than the
Western press understands. Had Shell's public
relations advisers, along with Mitsui and
Mitsubishi, not tried to defend against Moscow's
charges against the Sakhalin-2 investors of cost
overruns, tax evasion, and environmental
non-compliance by attacking the Kremlin for
political interference, a resolution of Shell's
problems in completing the Aniva Bay project might
have come more swiftly, and less painfully for
Shell.
Russian finance officials accuse
Shell, principal shareholder of the Sakhalin
Energy Investment Co (SEIC), and operator of the
Sakhalin-2 project, of fabricating costs, which
have jumped since last year by almost 125% to $22
billion.
According to the terms of their
production sharing agreement (PSA), signed by
corrupt officials of former president Boris
Yeltsin's administration when Russia's Treasury
was close to bankruptcy, oil production declining,
and Russian corporates desperately short of
investment capital, Shell (and ExxonMobil at
Sakhalin-1, an oil-export project) would not have
to pay profit taxes until they had cleared their
project costs. The cost overruns have
significantly postponed these tax payments.
"If costs continue to rise without
control, Russia will be left with only 6% of
royalties, while all profit will go to repaying
costs," Sergei Fyodorov, head of geological and
subsoil use policies at the Natural Resources
Ministry, said in September.
"The
production sharing agreement presumes two kinds of
taxes, the royalty and the profit tax," Fyodorov
explained. "From Sakhalin-2 we receive about $20
million in royalties. There is no profit. They are
now extracting 1.5 million to 2 million tonnes [of
crude oil] a year. If we take $60 a barrel and
convert the barrels to tonnes, we get about $400 a
ton. Accordingly, if the usual tax regime were
operative here, that is, 50-55% of earnings, we
would have about $200 of taxes from every ton of
oil. In a year we would receive $300 million to
$400 million. And we get just $20 million."
To convince Shell that the terms of the
PSA should be voluntarily renegotiated, the
government in Moscow has identified other, equally
pressing, violations and reopened the
environmental file which Russia's
environmentalists and regional courts have been
urging for years. The first regular oil shipments
by ExxonMobil from the field, through DeKastri
port, were delayed, while environmental inspectors
checked regulatory compliance at the port
terminal.
Leaders of Russian
environmental-protection organizations on the
island of Sakhalin have told Asia Times Online
that they back their government's decision to
cancel the three-year-old license for completion
of the Sakhalin-2 project. Dmitri Kisitsin of
Ecological Watch of Sakhalin said: "It is obvious
that the first ecological clearance [for
Sakhalin-2] was granted with violations already.
They started to construct from simple stages, but
now they can't make the rest go normally. The
Sakhalin-1 story is more simple. Exxon didn't make
the same level of violations, but they have some
problems too."
Oleg Mitvol, deputy
director of Rospriradnadzor, said at a press
conference in Moscow that SEIC's pipelines risk
landslide damage, oil spills, and threats to
marine life. "We are just doing what any country
in the world would do," Mitvol said. If someone
had done this in the United States, "he'd be in
jail. Here, he's sitting in a Mercedes."
For the longer term, the Russian
government came to the conclusion that the optimum
method of regulating the Sakhalin project would be
a change in project shareholding. Gazprom then
sought a 25% blocking stake in Sakhalin Energy,
reducing both the Shell and Japanese stakes. The
terms of this shareholding plan, reported by the
Alfa Bank brokerage in Moscow in September, would
have seen minority shareholders Mitsui and
Mitsubishi selling parts of their respective 25%
and 20% stakes to Shell, which currently holds the
controlling 55% interest in the project company.
Shell, it was reported, would then swap a 25%
shareholding in Sakhalin-2 with Gazprom, in
exchange for a 50% stake in Gazprom's Zapolyarnoye
field.
These terms did not stick, and as
the public bickering between Russians and
Westerners over the project intensified, shell's
bargaining position deteriorated. Gazprom told
Asia Times Online in September that talks with
Shell on this matter had been underway, but noted
that the license cancellation ordered by the
environmental regulators had halted them.
After a chief executives' meeting last
Friday, this week it has been reported in Moscow,
but not confirmed officially, that Shell has
agreed to sell Gazprom shareholding control of
Sakhalin Energy. The terms are still under
negotiation, according to Dmitri Medvedev, chief
of the Kremlin staff and chairman of the Gazprom
board.
Russian reports suggest that
Gazprom will not pay cash up front. Instead, it
will reportedly defer payment for its stake until
the project starts operation, and cash is
generated from LNG shipments and sales. This
suggests that the takeover will oblige Shell to
accept an audit of its actual project costs,
instead of its estimated $22 billion in capital
expenditure; and that the income that would
otherwise have flowed to Shell under the PSA will
be diverted to Gazprom, and then paid to Shell for
shares. If Gazprom were to accept Shell's capex
estimate of $22 billion, its 50% buyout would
notionally cost about $11 billion. But neither
side is keen to acknowledge publicly what discount
price has been tabled. This was clearly one of the
sticking points when Russian Energy Minister
Victor Khristenko said early this week that the
talks were "difficult".
A revision as
clever as this to resolve the strategic control
issue leaves undecided how Rospriradnadzor will
settle the environmental non-compliance issues,
and the agency's claim, purportedly for $10
billion in damage to the Sakhalin land and marine
environment charged against Shell's project
management. Mitvol of Rospriradnadzor has already
announced that a Gazprom takeover would have no
effect on his claims. It may, however, impact on
the price Gazprom ends up having to pay Shell. In
such a deal, even the whales may be compensated.
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