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#18 - JRL 7218
Wall Street Journal
April 2, 2003
Foreign Oil Firms to Stop Receiving Perks in Russia
Moscow Decides Against Tax Breaks, Special Legal Status to Lure Investment

MOSCOW -- In a blow to foreign oil companies, Russia said it has decided not to grant special legal protections to dozens of energy projects in which large Western oil companies had planned to invest billions of dollars.

Russia said the oil companies should trust their investments to the country's existing legal regime.

The news will frustrate but probably not surprise companies from ConocoPhillips Co. of the U.S. to Eni SpA of Italy. They have been waiting in vain for years to receive special contracts called production-sharing agreements, which guarantee tax breaks and stable investment terms over the life of long-term oil projects. Wary of outsiders, Russian legislators have dragged their feet approving the deals.

BP PLC's decision in February to pay $6.75 billion (6.19 billion) for half of a Russian oil company appears to have delivered a death blow to PSAs, allowing Moscow to argue that it can attract big investments without offering the tax breaks and other perks of a PSA. But BP said Tuesday it would still be disappointed by the cancellation of the PSA regime, under which it had been planning to develop a giant gas field and other capital-intensive projects.

Deputy Prime Minister Viktor Khristenko said the government would later this week propose amending legislation to preserve five existing PSA projects but scrap the majority of 33 additional projects still in the planning stages. "There will be a very limited list of fields which should be developed [under PSAs] ... because of [existing] intergovernmental agreements, or because of exceptionally tough conditions, in particular in offshore zones," the Interfax news agency quoted Mr. Khristenko as saying.

Russia's soaring oil production, along with the BP deal, appears to have given the government the confidence to abandon production-sharing agreements. The contracts never enjoyed much support in the government or Parliament but were tolerated in the mid-1990s, when Russia's oil production was falling because of a lack of investment. Seeking to attract foreign money, the state approved four PSAs for the oil and gas sector and one for a gold mine.

Thanks to the political stability that has set in since President Vladimir Putin came to power in 2000, Russia's own oil companies have dramatically boosted investment and sent output climbing. Some of the biggest companies, such as OAO Yukos and OAO Sibneft, have lobbied legislators to kill PSAs once and for all, arguing that foreigners shouldn't be given an edge.

But many foreigners argue that canceling PSAs would be a mistake if Russia is to keep production growing over the long term. Most of the production growth over the past three years, they note, has come at relatively little cost and during a period of high oil prices.

"PSAs should play a role in the investment mix in Russia for ... large, capital-intensive projects that require long lead time," said Peter Henshaw, a BP spokesman in Moscow. The company was confident enough in Russia's investment climate to buy half of a new company called TNK-BP, but says it wants a PSA in hand before tapping a giant Siberian gas field. BP and its partners have "invested and carried out activities on the basis that any development would take place under PSA" and would be disappointed by the regime's cancellation, Mr. Henshaw added.

Other companies likely to suffer include Conoco, which had been hoping to win a PSA to jointly develop Arctic oil reserves with Russia's OAO Lukoil, and Eni, which had planned to tap a southern gas field under the special legal regime. A spokesman for Conoco couldn't be reached for comment, while a spokesman for Eni declined to comment.

Existing PSAs that Mr. Khristenko said would be allowed to continue include two offshore projects off the coast of Sakhalin Island, led by Exxon Mobil Corp. and Royal Dutch/Shell Group; a Siberian oil project led by TotalFinaElf; and a Siberian oil field owned by TNK-BP.

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