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#8 - JRL 7002
National Post (Canada)
January 2, 2002
U.S. oil giants are slow to invest in Russia; laws, pipelines seen as big concerns
Canadian Press

ARDALIN OIL FIELD, Russia (AP) - When Conoco Inc. developed the Ardalin oil field in northern Russia, coping with the arctic weather and total absence of supply links to the outside world was the easy part. Navigating political upheaval following the collapse of the Soviet Union proved far trickier. In recent years, Russian officials have issued sporadic demands to renegotiate key terms of the joint venture agreement that Conoco, known today as ConocoPhillips, reached in 1992 when the laws and officials were different.

The resulting changes have impaired profits for the venture, which now barely breaks even despite pumping 30,000 barrels a day from beneath the tundra more than 1,700 kilometres northeast of Moscow.

For Houston-based ConocoPhillips and other large U.S. energy companies, Russia represents a tantalizing but unfulfilled opportunity. Its oil reserves, the world's seventh-biggest, are an attractive source of crude for American importers fearful of relying too much on the Middle East for supplies. Russia's government has privatized the country's oil industry, and average production costs here are lower than in Indonesia, Mexico or Canada.

Some European heavyweights such as BP PLC and France's TotalFinaElf have already invested heavily in big projects. But export bottlenecks and inadequate legal protection have made large American oil companies skittish.

By contrast, about a dozen smaller, entrepreneurial U.S. firms known as independents are staking out successful niches.

Teton Petroleum Co., run by three employees based in Steamboat Springs, Colo., produces crude at a field in Western Siberia. Daily output there has surged from 500 barrels 15 months ago to 7,000 barrels today, and Teton expects to break even by the end of next year.

"Independents are showing more and more interest. They are probably not able to enter into huge development projects, but they are far more flexible and can probably find the right combination of risk and return," said Nick Mikhailov, a U.S. Commerce Dept. energy specialist in Moscow.

ConocoPhillips set up Polar Lights Co., its joint venture for Ardalin, in the early days of post-communist Russia when the potential rewards for a pioneering oil company seemed to far outweigh the risks. Ardalin lies above the Arctic Circle in the prolific Timan-Pechora petroleum basin.

"There was absolutely zero infrastructure in the Timan-Pechora area for a project such as ours, and at that time, Russia was essentially in a state of turmoil," said Polar Lights general director Randy Whitt.

Polar Lights had to import supplies from overseas and send them north by train and truck to the edge of the tundra. The goods travelled from there to Ardalin during winter only, over roads of ice.

Politics became a worry in the mid- and late-1990s when the government demanded changes to the Polar Lights contract, claiming that the Russian officials who originally negotiated the deal had done so illegally. Much of the confusion came from still-evolving laws affecting underground resources such as oil.

"That was a very delicate situation, but we came to a compromise we could all live with," Whitt said.

Polar Lights still depends on a pipeline network run by the state-owned company Transneft to get its crude to market.

Oil sells inside Russia for just two-thirds of its international market price, so producers try to export as much crude as possible. But Transneft lacks the pipelines and port facilities to handle all this oil, and it limits each customer to exporting no more than 35 per cent of its production.

"Transneft is operating as a monopoly in Russia, and it's extremely difficult to avoid," Mikhailov said.

Foreign oil giants often spend billions of dollars to develop new fields, and they need several years to recoup their investments. ExxonMobil Corp., for example, is investing over eight years in what it expects to be a $12-billion project off Sakhalin Island in Russia's Far East.

ConocoPhillips and its Russian partners - Lukoil and Arkhangelskgeoldobycha - aim to spend at least $2 billion developing oil fields in an area adjacent to Ardalin.

However, this planned project, called Northern Territories, has been on hold for years because Russia lacks a law for production-sharing agreements - a type of contract common in many countries where foreign firms explore for oil. Unlike joint ventures, production-sharing agreements typically provide investors with tax breaks and protect against adverse regulatory changes.

Twenty-two oil and gas exploration projects worth many billions of dollars still await passage of such a law. Of these, just three involve U.S. companies.

"If I were a Russian, I'd be significantly upset that these projects haven't gone forward. It's affecting economic growth and gross domestic product and the Russian budget," said Sayers Kyle, vice president of ConocoPhillips' operations in Russia.

Some Russians, fearing foreign competition, are opposed, but the government is expected to approve a law by next spring. This is especially important if Russia hopes to coax foreign investors into high-risk, frontier areas, said ChevronTexaco Corp. vice chairman Peter Robertson, speaking at an energy conference in October.

Guppy-sized U.S. oil firms don't seem to share this concern.

"As an independent, we're playing a totally different game," said Teton Petroleum chief executive Howard Cooper. "We're in Russia because there's no drilling risk."

Teton bought a licence to explore in areas where Soviet-era prospectors had already struck oil. The Soviets had sealed off some of these successful exploratory wells in expectation of later development, so Teton knew right where to look.

The U.S. firm also avoids Transneft's export constraints. Teton's Russian partner is happy selling its share of crude from the field locally, so Teton exports all it wants.

"We spent a total of $10 million on the property," Cooper said. "A major oil company may spend $10 million evaluating a property before it even decides to invest."

Russian oil workers seem to welcome all such investments. Western companies not only pay better wages than domestic firms, they also train employees to use more advanced technologies and expose them to a different work culture - one that stresses personal initiative.

"I hate to say this," said Polar Lights translator Serge Vinokurov, "but it's much better to work for a Western company than for a Russian company."

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