How much does Russia’s oil and gas industry stand to lose in light of increasing Western sanctions? Sarah Parker Musarra reports.
In April 2014, the first oil produced from the Russian Arctic Shelf was loaded from the Prirazlomnaya platform onto the Mikhail Ulyanov vessel.
Despite a tentative ceasefire in place, on 12 September, the EU and the US enacted another round of sanctions against Russia under Executive Order 13662 for the country’s involvement in the Ukrainian crisis. Previous sanctions targeted those whom the US Department of the Treasury identified as members of Russian Federation President Vladimir Putin’s inner circle, including Rosneft President and Chairman Igor Sechin.
The September sanctions, however, had a different target in its sights altogether: These aimed to place a chokehold on Russian offshore exploration, and, according to a statement issued by the EU, “sectoral cooperation and exchanges with the Russian Federation.”
Acting together with the EU, the US Department of the Treasury’s 12 September statement said that the sanctions, “prohibit the exportation of goods, services (not including financial services), or technology in support of exploration or production for Russian deepwater, Arctic offshore, or shale projects that have the potential to produce oil” to Gazprom, Gazprom’s oil division Gazprom Neft, Lukoil, Surgutneftegas, and Rosneft. US companies partnering with those five companies had until 26 September to wind down transactions, although the government later reconsidered and gave the ExxonMobil and Rosneft Kara Sea joint venture until 10 October to close operations and withdraw from Universitetskaya-1 well.
“Today’s actions demonstrate our determination to increase the costs on Russia as long as it continues to violate Ukraine’s territorial integrity and sovereignty,” said Under Secretary for Terrorism and Financial Intelligence David S. Cohen in a statement. “The US, in close cooperation with the EU, will impose ever-increasing sanctions that further Russia’s isolation from the global financial system unless Russia abandons its current path and genuinely works toward a negotiated diplomatic resolution to the crisis.”
The department warned that further sanctions under executive orders 13660, 13661 and 13662 could be handed down should Russia not move to de-escalate the situation in the Ukraine and withdraw.
“The US sanctions seem to have a clear purpose: to prevent Russia from developing what Russia sees as its most promising oil and gas resources in the medium- to long-term,” Alexei Kokin, senior oil and gas analyst for Moscow-based URALSIB Capital, tells OE.
The Mikhail Ulyanov oil vessel arrives to load oil from Gazprom’s ice-resistant Prirazlomnaya platform on the Prirazlomnoye field. It was the first Russian offshore Arctic field. Photo from Gazprom.
Arctic and elsewhere
Russia is a new producer in the Arctic. Gazprom brought its Prirazlomnoye field off northern Russia in the Pechora Sea online through its Prirazlomnaya platform on 23 December 2013. The national was the first Russian company to produce from the Arctic, the fragile environment which the US Geological Survey says could contain up to 13% of the world’s undiscovered oil and up to 30% of its undiscovered gas.
Image of the Kara Sea’s winter 2014 ice expedition organized by the Arctic Research and Design Center, a joint venture between Rosneft and ExxonMobil. Rosneft said it was the largest expedition in the Arctic Ocean since the fall of the Soviet Union.
The production was the culmination of many years of intensified efforts in the region over the last few years, beginning in 2011.
On 30 August 2011, Rosneft signed a US$3.2 billion strategic cooperation agreement with ExxonMobil to explore and develop the Russian Arctic and Black Sea regions. In April 2012, coinciding with the deal’s finalization, the Russian government overhauled the oil taxation regime to make foreign investment more attractive. That same year, Rosneft also inked a cooperation agreement with Statoil to jointly explore offshore fields in the Russian sections of the Barents Sea and Sea of Okhotsk.
“Offshore fields – especially in the Arctic – are without any exaggeration our strategic reserve for the 21st century,” Putin said in a transcript released by the Kremlin on 13 April 2012, noting that the country needed to address technological, infrastructure and environmental issues that would require substantial investment. The regime overhaul included reductions on the mineral extraction tax and exemption from export taxes for a parcel of offshore fields – including some assets in the operationally-expensive, risk-laden Arctic.
“I think it’s no secret that the Russian companies do both need international financing and technical expertise to go into deepwater offshore exploration, so in the short term the sanctions effectively halt any exploration activities,” Dr. Anna Belova, GlobalData’s lead upstream analyst for the former Soviet Union, tells OE. “The fact is that it’s a very high-risk operation that carries a very high price. That’s where they need international partnership.
“The Russian government definitely saw those areas as very strategic to the well-being of the country and balancing the budget. That’s why the sanctions hurt so much - because they target these strategic areas,” Belova says.
ExxonMobil received an extension from the US Department of the Treasury to close down the Universitetskaya-1 well. It was given until 26 September.
The future of one project in particular is at risk: the Universitetskaya-1 well, rumored to have cost $700 million. On 9 August, the Rosneft and ExxonMobil joint venture spudded the Universitetskaya-1 well on the East-Prinovozemelskiy-1 license area, despite EU sanctions being made effective 31 July. Rosneft announced on 27 September that the well discovered oil and gas condensate, while thanking its Western partners. Sechin announced that the field would be named Pobeda, Russian for “victory,” stating that the preliminary assessment showed 338 million cu m of gas and 100 million tons of oil in just the one structure. A spokesperson for ExxonMobil confirms to OE that the Fort Worth, Texas-based company had withdrawn from all ten of the company’s Russian endeavors, but would not comment on its future within the country. However, with ExxonMobil currently sidelined, resources might not be extracted any time soon.
URALSIB Capital’s Kokin says that Rosneft’s plans in the Arctic are hit the hardest by the sanctions.
“I don’t think Russian companies will be able to pursue deepwater projects on their own beyond early exploration stages. They may be able to shoot seismic using old Soviet ships but drilling an exploration well will require contractors like Seadrill or Transocean. Building a production platform is likewise an impossible task for Russian wharfs,” Kokin says.
However, Kokin says that the sanctions’ effect on Exxon’s future in the country remains to be seen, noting that it depends on the length of the sanctions to see if the companies consider it “merely a short-term nuisance.”
Exxon has strong ties with Russia, with a history of more than 20 years in the country and net holdings in the Russian seas totaling more than 11 million acres.
“The operating season is over in the Russian Arctic and will resume only in July 2015. In the meantime, there is not much for ExxonMobil to do anyway apart from analyzing the well data,” Kokin says.
Belova said that Russian offshore exploration might be relegated to comparably warmer seas, should the sanctions continue.
“I would say that the Arctic offshore is definitely off limits in the short term, but there’s still the possibility of doing the Caspian and Black seas because Lukoil has been very successful in the Caspian Sea; we’ve seen a lot of activity in the past in the Black Sea and Sea of Azov, so we can see some of the offshore activities happening within these inner, more warmer climate seas,” she says.
Russia and China are strengthening their ties in what could be a mutually-beneficial relationship: Russia sees an alternate opportunity for access to capital and technology, and China sees access to Russian gas on favorable terms. However, Kokin points out that the relationship might not be the holistic, turn-key solution for which Russia is searching.
“China could help with offshore drilling. CNOOC is producing offshore and could agree to drill in the Black Sea. However, Arctic drilling is not one of CNOOC’s competences. For that, Russia will need either majors like BP and ExxonMobil or entrepreneurs like Cairn Energy,” he says.
Belova says that Russia’s resurgent interest in China is indicative of the country’s plan should the sanctions continue long-term.
“If the sanctions stay in place, we can see more of a shift towards other frontier provinces, like Eastern Siberia, and onshore exploration,” she says, noting that Russian companies have more technical expertise with onshore developments and that the cost of trial and error is minimal compared with offshore explorations.