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Russia: Analysts See Risks In BP's Oil Deal

  • Michael Lelyveld

Analysts still see risks in the Russian oil business, despite this week's decision by Britain's BP oil company to invest a record-breaking $6.75 billion in a new joint-venture company. While reports hail a "new era" for the Russian market, the change comes less than two months after an embarrassing oil privatization deal that was widely seen as rigged.

Boston, 14 February 2003 (RFE/RL) -- Analysts say this week's huge investment by the BP oil company is being hailed as the start of a new era for the Russian market, but it will not end the risk of doing business in the Russian oil industry.

The announcement on 11 February that British-based BP will pay $6.75 billion to form a joint venture with Russia's Alfa Group and its partners, including holdings in the TNK and Sidanco oil firms, stunned the business press.

The Reuters news agency said the foreign move to create Russia's third-largest oil producer after LUKoil and Yukos "heralds a new era for Western investment in Russia."

"The Moscow Times" quoted Valerii Nesterov, petroleum analyst at Moscow's Troika Dialog investment bank, as saying, "This is a landmark event that puts Russia into a new stage."

Christof Ruhl, the World Bank's chief economist in Russia, said BP's big bet equaled all the foreign direct investment in the country for the past three years combined.

BP has agreed to pay $3 billion to Russia's Alfa Group and U.S.-based Access-Renova once the deal for the new company, temporarily called NewCo, is completed this summer. After that, it has pledged equal payments of shares valued at $1.25 billion for the following three years. BP and the Russian partners will split the company in half. The Russian side will appoint the chairman with BP naming the chief executive.

The new group, with 9.5 billion barrels of proven petroleum reserves, merges most of the BP, Alfa, and Access oil holdings in Russia, including interests in the Tyumen Oil Company (TNK), Sidanco, Sakhalin Island projects, Russia Petroleum, and five refineries.

In one sense, the deal is more than a merger. For Russia, it is a measurement, and perhaps a reward, for rapid progress. In the two years following the 1998 ruble collapse, Russian oil companies were valued at a fraction of this week's price. After initial resistance, TNK reported its earnings according to Western accounting standards only last year.

Moscow's markets have jumped at the news, boosting share prices for nearly all Russian oil companies. At a conference in the U.S. oil capital of Houston, Yukos chief executive Mikhail Khodorkovskii said the BP decision proves that foreign firms are willing to buy into Russia, even without the legal safeguards of the production-sharing agreements they have long sought, the "Oil and Gas Journal" reported.

But there were also reservations about the motives behind the deal and how much it means.

In an RFE/RL interview, Julia Nanay, director of the Washington-based consulting group PFC Energy, was asked whether the BP investment means the end of Russian business risk. Nanay said: "It absolutely does not do that. It means that some companies will be willing to test this risk, and others will not." She said the BP move was the result of a business and personal decision by the company's chief executive, John Browne.

Nanay said: "BP and other companies have worked with managing Russia risk, and now was the time to do it. They either had to do it or reduce their presence in Russia."

Most reports have highlighted the remarkable recovery in relations between BP and TNK since 1999, when the two tangled over BP's $571 million investment in the Sidanco oil holding. At the time, TNK gutted Sidanco and effectively devalued BP's stake by grabbing the most valuable subsidiary through bankruptcy proceedings. Browne threatened to pull out of Russia, calling it "an area of great opportunity but arguably of even greater danger."

The matter was settled only after BP convinced the U.S. government to suspend $500 million in loan guarantees for TNK, but BP had to write off $200 million of its investment in Sidanco. The episode convinced many companies to shun Russian investments, until now.

This week, the "Petroleum Argus" newsletter said the fallout from Sidanco is still being felt in the BP deal. "Argus" said that BP raised its share in Sidanco last year from 10 percent to 25 percent, knowing that TNK would merge it with the company. The moves made it almost inevitable that BP would then buy shares in TNK. The only surprise was the size of the commitment, "Argus" said. BP's agreement to manage Sidanco would have expired this year, according to Reuters.

In announcing this week's deal, Browne made clear that he has not forgotten the Sidanco maneuvers. He spoke of "our confidence that the risks are limited and manageable."

But if the Sidanco affair belongs to the long-distant past, it may still be hard to feel comfortable about Russia's last big oil deal -- the government's privatization of the Slavneft oil company less than two months ago. In an auction that was widely regarded as rigged, TNK teamed up with Russia's Sibneft in December to capture 75 percent of Slavneft for $1.86 billion after all other bidders were barred at the last minute by murky legal challenges.

The Slavneft holding was specifically left out of this week's BP merger, but it may be harder to leave the risks of the Russian oil business behind.

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