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Global Energy Review

Russia: How much more Oil and Gas?

A Report by Dr Paul McDonald
Consulting Editor, Oil and Energy Trends

• A survey of the oil and gas industry in Russia,
• With an evaluation of the prospects for production and exports to 2010 and beyond.
• Includes links to archive material from Oil and Energy Trends and hyper-links to relevant web-sites.

Contents

• Introduction
• Oil: Assessing the Resources

• Present Production
•    Outlook for Production
•    Upstream Investment
•    Political Conditions
•    Increasing State Control
•    Reshaping Russia's Oil Industry

• Developing new Infrastructure

• Druzhba System
• Black Sea Routes
• Northern Routes
• Eastern Routes
• Export Capacity

• Gas Production

• Raising Gas Exports
• Exports to Europe
• Exports to Asia and North America

• Outlook for Oil and Gas Production
• Latest Developments

List of Tables

• Table 1 Russia: Estimates of Oil Reserves
• Table 2 Russia: Estimated Oil Production by Company, 2004
• Table 3 Russia: Regional Distribution of Oil Reserves, 2004
• Table 4 Russia/CIS: Crude Oil and Condensate Exports, 2004
• Table 5 Gazprom/Rosneft: Reserves, Production & Income
• Table 6 Russia: Gas Reserves & Production
• Table 7 Gazprom: Regional Distribution of Gas Reserves, 2004
• Table 8 Russia: Gas Exports, 2003

Introduction

For some years, Russia has been the main source of any increase in oil production outside OPEC. With an output of 9.2 mn bpd, it is also the largest oil producer outside OPEC, as well as being the second-largest oil producer in the world, just behind Saudi Arabia, when the latter is producing at full capacity. Russia is seen by many consuming countries wishing to reduce their dependence on OPEC as the most important alternative source of new oil in the world. It is of major importance to the energy security of such countries that oil production in Russia continues to grow.

Russia's importance in the world gas market is similarly great. It is the world's largest producer of natural gas as well as being the largest gas exporter in the world. It also accounts for the majority of Western and Eastern Europe's gas imports. Russia's output has been growing in recent years, though not as quickly as that of oil. Falling production in the rest of Europe, however, means that its role as a supplier there is likely to grow. China, Japan and the US are also eyeing Russia as a source of future gas imports. The outlook for Russian gas is therefore no less important than that for oil.

This report considers the prospects for oil and natural gas in Russia-both for production and exports- principally to 2010, but also beyond. The outlook for both fuels depends not only on the size of the country's reserves but also on the ability of the Russians to build an infrastructure of a sufficient size to handle the expected increase in production. The increasing involvement of government in the oil and gas sectors also gives politics a major role in the future of the oil and gas industries.

The outlook for Russia's oil and gas industries is surrounded by considerable uncertainties. Among these are the actual size of Russian reserves of oil and gas: in particular, the apparently modest reserves of oil compared with the ambitious forecasts of increased production. The recent actions of the government in respect of the oil company Yukos also raise important questions over the role of the private sector in Russian oil production.

Russia's oil and gas production has been principally centred on Western Siberia over the past few decades. Now, however, the main fields are in decline, and production must increasingly move to more remote areas. The oil frontier is moving eastwards, to Eastern Siberia, whereas more and more gas production will have to come in future from the far north of the country.

Russia is par excellence the country of the long haul. Its natural resources are often found thousands of miles from their main markets. This means that extensive new pipelines are needed to transport oil and gas to end-users. In addition to these, new ports and export terminals are required and, in the case of natural gas, liquefaction facilities. These need to be developed quickly if Russian output of oil and gas is to go on increasing at current rates.

Geography affects Russian exports in another important way. The country's warm water ports lie on the Black Sea, which provides an important export route for Russian oil to world markets. This route, however, cannot be expanded much more owing to the inability of the narrow straits at the southern exit to the Black Sea to handle much more oil traffic. Russia must therefore develop new marine outlets in the north, where ice is a problem.

Upstream developments in Russia are of particular interest to Western and Eastern Europe, given their existing high levels of dependence on Russia for certain hydrocarbons. Asian countries, though, are also looking to Russia for new supplies over the coming years, both to enable them to meet expected increases in energy demand and to provide an alternative to supplies from the Persian Gulf. Even the US now sees Russia as a significant and growing supplier, making Russia's upstream future of growing global importance.

Oil: Assessing the Resources

Russia's proven reserves of oil are assessed by the Oil & Gas Journal at 60 bn bbl, as at 1st January, 2005. This represents some 4.7% of the world total, as estimated by the same source, and is sufficient to last for 18 years at 2004 rates of production (see Table 1).

A number of other authorities provide estimates of their own. BP's Statistical Review of World Energy for 2004 gives a figure of 69.1 bn bbl for the start of that year, representing 22.2% of global reserves and giving a reserves:production ratio of 21:1. Several non-Russian sources quote even higher levels. The UK's Wood Mackenzie puts Russian proven reserves at nearly 120 bn bbl. Swiss Bank Brunswick UBS says they could be as high as 180 bn bbl, based on reserve estimates reported by the main Russian oil-producing companies.

Russian estimates of proven reserves tend to be around the 120 bn bbl mark. The oil company Yukos came up with a figure of 150 bn bbl in 2002 (see Table 1), but this appears to include some reserves not formally identified as proven. Almost all parties agree that 60-69 bn bbl is an understatement. Even BP concedes that "there will be more reserves". The company's chief executive, Lord Browne, believes there may be "some 70 bn bbl of oil yet to be found". Russia's Ministry of Natural Resources says that new reserves are being added each year, citing additions of 2.0 bn bbl in 2002 and 2.9 bn bbl in 2003, though these figures include reserves classed as C₁ and C₂, which roughly equate to western categories of 'probable' and 'possible', respectively.

At the root of the issue of calculating the size of Russian reserves is the problem of defining and classifying oil reserves in Russia (see Box). The size and distribution of oil reserves in the Soviet Union were state secrets, under a law passed in 1949. Outside estimates varied considerably. In 1979, for example, BP and the Oil & Gas Journal estimated Soviet proven oil reserves at 71 bn bbl. The US Central Intelligence Agency (CIA), on the other hand, published a highly pessimistic assessment, giving a range of 30-35 bn bbl. A firm of Swedish consultants, Petrostudies, meanwhile put Soviet reserves around 120 bn bbl. Subsequently, Petrostudies published the incredible claim that some 4.5 trillion bbl existed in one formation, known as Bazhenov, in Western Siberia.

In default of an official estimate of Russia's oil reserves, perhaps the best guide for the current state of reserves are the returns made by the main privately-owned oil producing companies to the US Securities and Exchange Commission (SEC). The SEC sets strict criteria for the booking of reserves, requiring the use of geological and engineering tests to establish the size of the reserves and stipulating that any reserves so identified be recoverable "under existing economic and operating conditions". Data submitted to the SEC in 2002 suggested that Russia's proven oil reserves exceeded 70 bn bbl at the end of that year. The rise in oil prices since then suggests that this figure should now be revised upwards. Advances in upstream technology will also require upward revisions.

Under the SEC's rules, Russian companies appeared to have booked around 20% of the oil-in-place as proven reserves. Most of them expect to recover at least 30% of their oil-in-place, in line with practice elsewhere. Russia's private companies also have reserves in remote locations and further reserves for which there are no production plans for the next 15 years, which are also excluded form the SEC's estimates.

It seems likely, therefore, that Russia's proven reserves are somewhere in the region of 100 bn bbl, and that this figure could rise by the end of the decade. Lukoil forecasts reserve levels of 150 bn bbl by 2010-15. This may be on the high side, but it should not be totally ruled out.

Present Production

Russia produced approximately 9.2 mn bpd of crude oil and natural gas liquids (NGL) in 2004. Nearly 95% of Russia's oil is produced by just 12 companies (see Table 2). Output is concentrated in three main areas:

• Western Siberia;
• Volga-Urals;
• Timan-Pechora

These three areas also contain most of Russia's known reserves (see Table 3). Several areas within these regions, however, are in decline and by 2010, all three regions as a whole will be past their peak.

Russia's main oil producing companies are thus gradually moving their operations to other areas. In many cases, this has involved the purchase of smaller companies operating in these areas. Yukos moved in to the Krasnoyarok region of Eastern Siberia by purchasing East Siberian Oil, and Tyumen Oil gained a foothold in southern Russia from its acquisition of Orenburg Oil.

Russia's largest oil producer, Lukoil, moved outside Western Siberia with its purchase of Komitek in the northern part of the country but, unlike many Russian oil companies, it has also sought to find large new oil reserves by exploration rather than through purchases of existing companies. Its reserve base of 15 bn bbl makes it Russia's largest oil company in terms of proven reserves. Lukoil has also been exploring in the northern Caspian and is trying to develop new fields along the Barents Sea in northern Russia. Lukoil also has an ambitious programme to expand its operations outside Russia (see Box).

Outlook for Production

During the 1980s, under Soviet economic planning, reservoirs were overproduced and exploration activity fell. As a result, Russian oil production went into decline in the 1990s. Production began to recover, however, from 2000 in response to an influx of foreign capital and investment. Between 1999 and 2004, output rose from 6.3 mn bbd to 9.2 mn bpd. The reserve levels described above suggest that output will continue to grow. The amount and duration of any such rise will depend on a number of factors, particularly:

• The levels of investment, especially private investment in Russia's upstream;
• The political conditions affecting the oil sector;
• The development of the infrastructure to handle and export the new production.

Upstream Investment

Russia has ambitious plans to increase production (see below). Much of the new output will have to come from remote and difficult areas, including Eastern Siberia and the far north of the country. This will require heavy investment. Government estimates suggest a sum in the region of $235 bn covering the period from 2003 to 2020 for capital expenditure. Wood Mackenzie has come up with a figure of $214 bn in nominal terms for the same time-range. In addition to this, a roughly similar amount may be required for operating expenditure.

Up to $13 bn a year is likely to be required for capital expenditure over the next ten years if Russia is to fulfil its most ambitious plans. Current spending plans, however, suggest that annual capital expenditure is running around $8 bn.

A large part of this expenditure will have to come from the private sector, since most of Russia's main oil producing companies-with the exception of Rosneft, Slavneft and Gazprom-are private. Strong oil prices may encourage such firms to raise levels of expenditure, but the amount by which they might increase their spending will depend on what they see as the risks associated with exploration and production in Russia balanced against the prospective rewards. Among the risks are the volatility of world oil prices and future levels of taxation. The latter will depend on the political conditions affecting the oil sector.

Political Conditions

In straight financial terms, Russia appears to provide oil and gas reserves more cheaply than in most other countries that allow foreign and private upstream investment. According to calculations made by Petroleum Intelligence Weekly (2nd August, 2004), BP paid some $3.19 per boe for reserves when it took a stake in Tyumen Oil (TNK) in 2003, compared with a worldwide average of $7.41 per boe at the time. In a further purchase from TNK, BP obtained reserves for $4.47 per boe.

Some asset acquisitions by Russian companies have produced much lower acquisition costs. Lukoil's purchase of a small Russian company PFPG Energy worked out at 96¢ per boe, whilst Rosneft's acquisition of Severnaya Neft was at the equivalent of 61¢ per boe. These low acquisition costs reflect in part the remoteness of some of Russia's reserves and the expected high cost of developing some of the more marginal fields. They also, however, reflect the level of political risk involved in operating in Russia.

Following a period of privatization and deregulation in the upstream oil sector, the government has begun to reassert control over certain aspects of the industry. Much of the action has focused on the activities of one particular company, Yukos, and its founder, Mikhail Khodorkovsky; but the government's moves affect far more than a single company and its main shareholder.

The government of Boris Yeltsin privatized a large proportion of the oil industry in 1995 and 1996. Upstream companies were sold at a considerable discount to their true value, mainly to supporters of the government. The owners of these companies became very rich and began to be known as 'oligarchs'. The oligarchs' riches were not only derived from the massive increases in the capital values of their companies compared with the prices for which they acquired them; many company owners were also paid enormous dividends by their new firms.

The oligarchs remained close to Yeltsin whilst he was in power. Some of them even earned the soubriquet of 'the family'. In 2000, however, Boris Yeltsin was replaced as Russian President by Vladimir Putin, who proved rather less congenial to the country's oil company bosses than his predecessor, despite the initial support for him from the oligarchs. By the end of the 1990s, there was already widespread disquiet over their power and wealth, and an unsuccessful attempt was made by the country's Prosecutor-General to indict several of them for bribes allegedly paid during the processes of privatization.

From 2000, President Putin's government became involved in an increasingly savage struggle against separatists in the republic of Chechnya. The government's actions were criticized in newspapers and on television stations owned by oligarchs. Putin decided to take action against his critics. The owner of the main media group, an ex-oil oligarch, was exiled to London. Putin's opponents also saw their company shareholdings bought out by oligarchs who remained friendly towards the government. The Prosecutor-General's office revived its interest in the activities of unfriendly oligarchs, most notably in the case of Mikhail Khodorkovsky, where charges alleging non-payment of taxes were filed.

Khodorkovsky's company, Yukos, then Russia's largest oil firm, was accused in October 2003 of owing some $3.4 bn in unpaid taxes for the year 2000. Other charges covering different years were subsequently filed, raising the amount allegedly owed to nearly $24 bn (including interest and fines), according to estimates reported by Russia's Prime-Tass news agency. Some of Yukos' assets were seized in part-payment of the tax debt and, in December 2004, the government sold the company's principal upstream asset, Yuganskneftegaz, to Baikal Finance Group, a company acting on behalf of the state-controlled gas company, Gazprom.

OET ARCHIVE

'Yukos struggles to pay tax bill' Looking Ahead, Aug 04

'Moscow tightens hold on oil sector with Yukos sale' Looking Ahead, Jan05

Increasing State Control

The break-up of Yukos sends a powerful signal to Mr Putin's opponents, but the episode has implications beyond the issue of the oligarchs' backing or otherwise of the government. Putin wants to bring the oil industry under much closer state control. This will be done partly by increasing the state's shareholdings in certain companies and partly by favouring privately-owned companies that are considered 'loyal' to the Kremlin. The fate of Yukos will serve as an additional incentive to Russian oil firms to toe the line.

One of Mr Putin's reasons for wanting greater control of the oil industry is to give his government greater access to the revenues now being earned by the main upstream firms. Another is the President's desire to use the country's energy resources to bolster his political influence both at home and abroad. The Kremlin views with some alarm the prospect of energy-rich regions within Russia using their wealth from oil and gas production to make themselves more independent of Moscow. In some of the richer and more remote parts of Siberia, there have been calls for greater autonomy from Moscow. The government is resolutely opposed to this, as its actions in suppressing the independence movement in Chechnya have shown.

Energy policy is also seen as a way of enhancing Russian influence abroad. Russia's ability to influence the export of oil from former Soviet republics such as Kazakhstan and Turkmenistan has enabled it to retain political influence in Central Asia in spite of strenuous attempts by the US to detach these countries from the orbit of Moscow.

OET ARCHIVE

'Afghan proposal reopens Caspian pipeline debate' Focus Jul 02

See also GER Report on Central Asia and the Trans-Caucasus

Russia is also able to retain some influence in ex-Soviet republics where it remains the dominant energy supplier, such as Belarus and Ukraine. Its position as the world's most important incremental supplier of oil and gas outside the Middle East gives it influence in other countries, as well. The US, for example, sees Russia as a significant alternative source of supply to the Middle East, as do China and Japan. Russian decisions on new export pipelines are of particular importance to its East Asian neighbours. Yukos has been promoting an oil export pipeline from Eastern Siberia to Daqing in northern China. The Russian government, on the other hand, wants to supply oil to other parts of East Asia as well, notably Japan, and has been promoting a rival scheme to build a line to the Russian port of Nakhodka, on the Sea of Japan. The demise of Yukos is likely to lead to the realization of the scheme backed by the Kremlin.

OET ARCHIVE

'USA ponders future with less oil' Focus, Jan 03

'China struggles to satisfy oil demand' Focus, Feb 03

'Chinese demand attracts exporters' Focus, Feb 04

'China competes for crude supplies' Focus, Oct 04

'Japan seeks greater energy security' Focus, Dec 04

Reshaping Russia's Oil Industry

Russian oil companies will come increasingly under the influence of the state. Those closest to the government are likely to be the most favoured in future upstream licensing arrangements. The favoured few are likely to include:

• The majority state-owned company now being formed as a result of the merger of Rosneft and Gazprom;
• Lukoil, the country's largest private oil producer;
• Other companies regarded as 'co-operative' by the government, including Surgutneftegaz and Sibneft.

The most important of these will be Gazprom/Rosneft, which the government merged in late 2004 to create an oil and gas giant, majority-owned by the state. Since then, the new company has been further enriched by the acquisition of the main upstream unit of Yukos, Yuganskneftegaz. It will be particularly important for oil companies operating in Russia to remain on cordial terms with Gazprom/Rosneft. This applies to foreign companies just as much as Russian firms. Gazprom/Rosneft may well come to resemble an old-fashioned national oil company, both as the favoured recipient of licence awards and as a regulatory authority in some parts of the oil and gas businesses. It is likely to have an especially prominent role in the developments that involve the export of oil and gas. As the owner and operator of the country's gas transmission network, Gazprom/Rosneft is in a particularly powerful position to influence gas developments. The company is already eyeing a possible share in the Kovytka gas field in Eastern Siberia, which is owned at present by BP's Russian joint-venture, TNK-BP.

Increasing government influence in the oil and gas industries may limit the role played by foreign companies. Following the collapse of the Soviet Union, the Russian government opened the upstream sector to foreign participation. Several Production-Sharing Agreements (PSAs) were signed with foreign companies in the 1990s. Foreign companies were also permitted to enter into joint-ventures with Russian firms and to buy shareholdings in privatized Russian oil companies. Some politicians, however, including Mr Putin, believe that foreign companies play too great a role in the country's upstream sector and, as part of his policy of reasserting government control over the oil sector, President Putin has stopped the signing of further PSAs. Joint-ventures and foreign shareholdings are still allowed, but the government is likely to try and restrict the proportion that any foreign investor may hold in a Russian oil company.

It is not yet clear at what level any cap might be set, though the two most recent foreign investments may provide a clue to the Kremlin's tolerance limits. US company ConocoPhillips bought a 7.6% shareholding in Lukoil in late 2004 without apparently attracting too much Russian ire. In September 2004, France's Total acquired an even bigger slice-25.0% plus one share-of a much smaller company, Novatek. ConocoPhillips appears to have official sanction to raise its shareholding in Lukoil to 20.0%. This, however, could represent a ceiling for most future foreign shareholdings. The government meanwhile may encourage Russian companies, notably Gazprom/Rosneft, to acquire shares in existing ventures where there are higher levels of foreign ownership in order to dilute the level of outside control. Gazprom is already considering a shareholding in TNK-BP's Kovytka gas field (see above).

OET ARCHIVE

'Putin strengthens control over the energy sector' Looking Ahead, Oct 04

Developing new Infrastructure

The amount of any increase in Russian oil production will be closely linked to the availability of export outlets, principally pipelines. Russia exported an estimated 3.4 mn bpd of crude oil and condensate in 2004. In addition the Russian pipeline system handled some 0.4 mn bpd of oil and condensate from other CIS countries, mainly Kazakhstan and Azerbaijan. Most of the pipeline network is owned by the state-owned company, Transneft, and the government is likely to retain the company's near-monopoly for as long as possible.

The main export network runs from Western Siberia to Europe. The principal system, known as Druzhba, was established to provide crude oil to Eastern Europe. It currently handles up to 1.4 mn bpd, with Germany and Poland the largest markets. Most Russian crude, however, is exported via ports on the Baltic or Black Sea (see Table 4).

Druzhba System

The Druzhba system is not used to full capacity owing to a decline in demand in Eastern Europe. There are plans to use the system to deliver some 0.3 mn bpd of oil to the Adriatic via a link to the Croatian port of Omisalj, but the project has been subject to delays. There are further plans to increase exports out of Russian and Ukrainian ports in the Black Sea, but any expansion there is limited by the inability of the Black Sea exit through the Bosphorus to handle many more tankers. Other plans envisage a new pipeline from Siberia to the Sea of Japan. There is even a proposal to run a tanker shuttle across the Caspian Sea from the Russian port of Makhachala to northern Iran, where the crude would be refined and an equivalent value of Iranian crude exported on Russia's account from Iran's Persian Gulf terminal at Kharg Island. Most of the export expansion, however, is slated to take place in the west: either on the Baltic or the Barents Sea.

Black Sea Routes

In 2001, the southern section of the Druzhba pipeline was connected to the Ukrainian Black Sea ports of Odessa and Pivdenne via a link to the north-south trunkline between Odessa and Brody. There is some uncertainty about the future of the Brody-Odessa pipeline, which is meant ultimately to be extended northwards to the Baltic via Poland. Russia, however, has plans of its own for direct links with the Baltic and is therefore unlikely to be interested in the roundabout route offered by the Brody-Odessa route.

Most Russian Black Sea exports go via the Russian port of Novorossiisk (see Table 4). The port is prone to closure by bad weather in winter. The main problem, however, lies at the opposite end of the Black Sea in the Bosphorus, where congestion is responsible for delaying tankers, and the Turkish government is threatening to restrict further the traffic in the narrow strait through Istanbul. The only long term solution is a route that by-passes the Bosphorus.

Several routes are under study:

• Kiyikoy-Ibrice: a 125-mile line across Turkey running parallel to the Bosphorus connecting the Black Sea directly with the Aegean.
• Burgas-Alexandroupolis: a 170-mile line, also linking the Black and Aegean seas, in this case via Bulgaria and Greece.
• Burgas-Vlore: a 570-mile line from Bulgaria to the Albanian port of Vlore on the Adriatic.
• Samsun-Ceyhan: a 555-mile line across Turkey to the Mediterranean port of Ceyhan.
• Constanza-Trieste: an 860-mile line from Romania to Italy, from where crude might be piped into Central Europe.

Transneft has shown the most interest in the first two options. The most straightforward is the Kiyikoy-Ibrice route, which could handle some 1.2 mn bpd. It would also allow the use of larger tankers at Ibrice than can be accommodated in the Bosphorus. Transneft puts the cost around $900 mn, but financing has not so far been agreed.

Northern Routes

Russia's preference is for as much of its oil as possible to be exported through Russian ports, thereby avoiding the risk of disagreements over routes, financing and tariffs that have dogged relations with some of its neighbours. Many of these schemes are focused on the recently constructed oil terminal at Primorsk, near St Petersburg, which gives direct access to the Baltic. Transneft is developing a network known as the Baltic Pipeline System (BPS) to deliver oil from Siberia to Primorsk. Starting in 2001, the BPS had a capacity of just over 0.2 mn bpd, which had risen to 0.6 mn bpd in early 2004. Work was reported under way in January 2005 to raise capacity to 1.2 mn bpd.

Lukoil has a terminal close to Primorsk, at Vysotsk, which it is also expecting to handle 0.2 mn bpd. There are also pipelines from Russia directly to the Baltic via Ventspils in Latvia and Butinge in Lithuania, though there have been disagreements between these countries and Transneft over their use.

The Baltic, like the Black Sea, cannot handle the largest size of tankers. There have been various proposals therefore to build a deepwater port in the Murmansk area on the Barents Sea, capable of handling up to 3.0 mn bpd. This would also require new pipelines from Siberia. The cost appears to be well in excess of $6 bn.

Eastern Routes

Many of Russia's new and untapped oil fields lie well to the east of the older West Siberian fields. This has led to a series of proposals for pipelines serving the East Asian market. One of these, supported by Yukos, was for a 1,375-mile line from Angarsk to Daqing in north-eastern China. Transneft is promoting a 2,580-mile route from Taishet, which lies to the north of Angarsk, to the Russian Far Eastern port of Nakhodka, which would allow exports to countries other than China. There is probably not enough oil to justify both routes and, given the political troubles surrounding Yukos (see above), the Nakhodka route must be regarded as the favourite.

Export Capacity

Plans for new export routes easily exceed any forecast increases in Russian output. The key question for the Russians is how quickly the more realistic of these routes can be brought into use. On the most optimistic forecasts, Russia might add some 1.7 mn bpd to existing export capacity between 2005 and 2010, as follows:

• Druzhba System: 1.4 to 1.8 mn bpd (Some expansion plus possible extension to Omisalj);
• Black Sea Routes: 2.6 to 2.8 mn bpd* (Assuming no pipelines built to by-pass Bosphorus);
• Northern Routes: 1.4 to 1.9 mn bpd† (Mainly BPS expansion);
• Eastern Routes: 0.3 to 0.9 mn bpd (Expansion at Sakhalin plus first stage of Nakhodka pipeline).

*  Includes Kazakh exports.
†  Includes terminals in Latvia and Lithuania.

Gas Production

Foreign participation in the Russian gas industry has been more limited than in the case of oil. The former Soviet gas monopoly, Gazprom, successfully resisted privatization under Boris Yeltsin and now dominates the industry more than any Russian company does in the oil sector. Gazprom itself is the world's largest gas company with some 52 bn cfd of production and declared reserves of around 1,000 trillion cubic feet (tcf). Mr Putin wants to see it develop into a major world oil and gas company on a par with the leading international players.

Gazprom has ambitious plans to increase its production and exports, particularly of natural gas. Its reserves and production alone make it a major company (see Table 5). Added to these is its monopoly over gas transmission, storage and exports to Europe. Much of Russia's domestic gas flows through pipelines owned by Gazprom, and the company has a near-monopoly on gas processing within Russia, making it by far the most important upstream gas player in the country (see Table 6).

Gazprom nevertheless faces a number of obstacles to its expansion. Many of its main fields are mature and either close to or just past their peak. These include its largest field, Urengoi in Western Siberia (see Table 7). Gazprom has managed to keep its total production on an upward path by bringing a number of medium-sized fields on-stream in recent years; but the company now faces the prospect of developing a large replacement field-complex in the far north of Western Siberia, on the Yamal Peninsula. Yamal is needed particularly to supply Western Europe, Gazprom's principal source of hard currency earnings. It also comes, however, with an enormous price tag: some $70 bn to be spent over the next 25-30 years.

Gazprom may try and finance the scheme in part from growth in other parts of the energy complex: and this may bring it into conflict with foreign oil and gas companies as it seeks a greater role for itself in new production-areas such as Eastern Siberia. At the same time, though, Gazprom cannot afford to alienate foreign companies, on which it may depend in part for both finance and technology. One area that Gazprom sees as particularly important in terms of its ability to increase future earnings' levels is LNG. It needs foreign technical co-operation to help it enter the LNG business and will also need to cultivate relations with foreign firms that own LNG receiving terminals in target markets such as the US. These requirements may limit its belligerence when it comes to negotiating with some foreign companies over access to reserves in Russia. The government nevertheless sees Gazprom as increasing its own influence abroad, especially in Western Europe, where Gazprom is the largest single supplier of natural gas.

Raising Gas Exports

Russia has ambitious plans to raise the production of natural gas. Much of the extra gas will go for export: some by pipeline and some as LNG. At present, all Russia's gas is exported by pipeline (see Table 8). Russia's gas production is at present centred on Western Siberia: in particular on the field complex associated with Urengoi, the country's largest field (see Table 7). These fields are now mature and need to be replaced with newer discoveries, such as those on the Yamal peninsula and Sakhalin Island.

Exports to Europe

Russia produced some 56.0 bn cfd of gas in 2003, of which 12.7 bn cfd were exported to Europe (see Table 7), making it by far the world's largest exporter of pipeline gas. Gazprom estimates 2004 exports at 13.5 bn cfd. It is also Europe's most important source of gas imports. The Russians intend to remain the continent's largest supplier by developing new reserves and building new pipelines.

The main area to be developed for pipeline gas to Europe is the Yamal peninsula. Yamal lies on Russia's Arctic coast, to the north of the main gas fields of Western Siberia. The nearest established pipeline hub is Yamburg, some 200-300 miles south of the main Yamal fields. The peninsula itself has no gas infrastructure and will require the construction of a trunk-line to a hub such as Yamburg and the expansion of the main export pipeline system downstream of the hub. There is also a proposal for an LNG export terminal.

Yamal's potential reserves are put by the Russians at nearly 1,800 tcf, which is roughly on a par with Russia's entire current proven reserves (see Table 6). The area also contains an estimated 40 bn bbl of condensate and other liquids. Not all of these are recoverable.

Gazprom proposes to increase its exports to Europe from 13.5 bn cfd in 2004 to 17.4 bn cfd by 2010. Part of the increase is due to come from Yamal. By 2020, the Russians plan to raise output at Yamal by 24.2 bn cfd. There are, however, considerable obstacles to be overcome before any of this can happen.

The location and the geology of the Yamal peninsula make its exploitation difficult and expensive. The gas reserves lie in deeper horizons than in the major fields further south. There are also huge costs associated with developing the infrastructure. Gazprom estimates the total cost of developing Yamal over the next 25 years as being close to $70 bn, though this figure could be reduced if the development of the peninsula were to be postponed. First gas is due in 2008, but this date cannot be finalized until an export route has been selected. Another issue to be settled is how much independently-produced gas will be available by that date or shortly afterwards. Independent producers operating in nearby areas would almost certainly require Gazprom to provide sufficient pipeline capacity to carry their own production westwards.

The export route options from Yamal to Western Europe are at present as follows:

• A pipeline via Belarus and Poland;
• A pipeline via Ukraine;
• A pipeline under the Baltic to Denmark, Germany, the Netherlands and Great Britain;
• An LNG terminal at Kharasavei on the western side of the Yamal peninsula.

The first two options involve the transit of either Belarus or Ukraine. Some Russian officials fear that economic and political differences between Russia and its former Soviet satellites may lead to disagreements over transit terms. Moscow already has a history of disagreements with Ukraine over transit rights and tariffs.

This makes a pipeline avoiding Eastern Europe all the more attractive. Gazprom is supporting such a route which would pass through St Petersburg en route for Vyborg from where it would go under the Baltic Sea making landfall in either Denmark or Germany before going on to Bacton in Eastern England via the Netherlands. A spur line would serve Russia's Baltic exclave of Kaliningrad, from where gas might also be piped to north-eastern Poland. The line would have a total length of 1,900 miles and would carry up to 4 bn cfd, with perhaps half that amount made available at Bacton. The cost is estimated at $6 bn.

LNG exports would also avoid Belarus and Ukraine, but would be more expensive than the Baltic pipeline option. A 2.7 bn cfd export terminal plus associated vessels comes in at about $9 bn. The LNG tankers would have to be strengthened against ice, adding around 25% to the cost of transporting the gas to Western Europe. Whichever route is taken, the infrastructure developments required for Yamal gas are enormous and are likely to delay the start-up of production from the planned date of 2008.

Exports to Asia and North America

Russia is also planning exports to Asia from two large developments off Sakhalin. Sakhalin I is an oil and gas project led by ExxonMobil which will export gas by pipeline to China. An earlier scheme to pipe gas to Japan appears to have been abandoned following disagreements over financing and offtake levels. It is not yet clear when any exports might begin.

Shell, Mitsui and Mitsubishi are developing Sakhalin II, currently the largest single foreign direct investment project in Russia. The first phase, completed in 1999, was an oil field. The second phase, covering LNG exports, was approved in 2003, and is expected to cost $10 bn. LNG exports are scheduled for 2007 onwards. Japan has been lined up as the main buyer, but sales to North America are planned from 2008. The export terminal will have a capacity of 1.3 bn cfd.

Further schemes for Sakhalin are under study involving other companies, including BP and Rosneft (now part of Gazprom). Rosneft has spoken of at least five phases for the island's gas developments.

Sakhalin is not the only potential Russian supplier to North America. There are plans for an LNG terminal serving Yamal (see above) and a further export facility to be located near St Petersburg. Between them, these could export nearly 3 bn cfd, with North America the main target. Exports from here do not look likely, however, before 2010.

Outlook for Oil and Gas Production

In May 2003, the government approved a national long term energy strategy to 2020. The outlook for oil and gas are as follows:

Oil production is already ahead of schedule. Provided there is no major political fallout from the Yukos affair, Russia should be able to raise its oil production to somewhere between 10.5 and 11.0 mn bpd by 2010, subject to the necessary enlargement of the oil transport infrastructure.

Our Oil forecast for 2010 is as follows

Gas production could easily be at the top end of the scale laid down in the national long term strategy. As with oil, any increase could be limited by a lack of infrastructure. Some production from the Yamal peninsula will probably be required by 2010.

Our Gas forecast for 2010 is as follows

Beyond 2010 lie several uncertainties. Not the least of these is the question with which this report began: what is the size of Russia's reserves? The Russian authorities anticipate a rise in oil production from Eastern Siberia and the Russian Far East from less than 0.2 mn bpd in 2005 to as much as 2.1 mn bpd by 2020. This will require large new reserves to be identified there and proved.

Similarly, gas production from these two regions is slated to increase from 2005's expected level of 0.8 bn cfd to as much as 10.2 bn cfd by 2020. It is not yet clear where the gas will come from and how much can be extracted economically.

In the case of both oil and gas, exports are expected to go on rising to at least 2010, if not beyond. Export revenues have been an important driver of production but, unless Russia can greatly improve its energy efficiency, domestic consumption may begin to squeeze exports after 2010, thereby reducing the incentive for some companies to spend heavily on new production capacity. Oil production could peak within a few years of 2010 as a result and be in decline by 2020, with gas only a few years behind.

Latest Developments

Pipelines

OET ARCHIVE LINK: ‘EU wrongfooted as Russia moves ahead with new export pipeline’, Gas and Power, Jan08

Previous:

Gas Exports

OET ARCHIVE LINK: ‘Russia pre-empts Iranian and Caspian pipeline plans’, Gas and Power, Nov07

Gas Exports

OET ARCHIVE LINK: ‘Europe struggles to find more gas’, Gas & Power, Oct07

Oil Exports

OET ARCHIVE LINK: ‘Europe worries about winter middle distillate supplies’, Looking Ahead, Oct07

Oil Exploration

A submarine has planted a device containing a Russian flag on the floor of the Arctic Ocean as part of a move to establish a claim to part of the continental shelf.

OET ARCHIVE LINK: ‘Arctic gas proves hard to develop’, Gas and Power, February 2007

Oil Exports

Russia is planning to introduce a new crude oil export blend to be sold next year when it begins pipeline exports from Eastern Siberia to Asia. 
Meanwhile Russia is to build a 1 mn bpd pipeline to Primorsk on the Baltic to enable it to export more Urals crude via the Russian port.  This will mean that less would be available for the Druzhba pipeline serving Central Europe.

Gas Production

Following a series of moves designed to reduce the role of foreign firms in Russia’s upstream, Gazprom has awarded Total a 25% share in the operating company to be established to develop the first phase of the Shtokman field in the Barents Sea.

Gas Imports

Turkmenistan has reconfirmed its intention to supply China with 2.9 bn cfd of gas by pipeline from 2009.  It is not certain, however, that the line can be built by then.  Turkmenistan has also agreed to supply Russia with an additional 2.9 bn cfd by 2010, which would bring its total deliveries to Russia to 7.7 bn cfd.  It is not clear that Turkmenistan can fulfil both these obligations, given present uncertainties about its production plans.

Natural Gas

BP has become the latest victim of Gazprom’s expansion by agreeing to sell TNK-BP’s 62.89% holding in the highly prospective Kovytka gasfield in Eastern Siberia. The price is estimated between $700 mn and $900 mn: about a third the value put on the holding by some analysts.

The 70 trillion cf discovery is to be developed to supply gas to China. BP, like ENI, is to form a ‘strategic alliance’ with Gazprom, which could see it repurchase a minority shareholding in Kovytka at some later date.

RUSSIA

Production Forecasts

Russia’s Energy Ministry has issued the following output forecast:

Oil Production & Exports

Russia’s Ministry of Economic Development has published the following scenarios for oil production and exports 2006-10 (in mn bpd):

N/A = not available

Oil and Gas Exports

Concerns about oil and gas supplies have prompted calls for new energy security measures across the EU and Germany says it wants to import more oil and gas from the Persian Gulf in order to lessen its dependence on Russian gas.

Belarus and Russia continue to argue over transit fees for Russian crude being delivered to Central Europe, whilst Belarus says it wants to lessen dependence on Russia by importing oil from Venezuela and Iran.

OET ARCHIVE LINK: ‘EU mulls new energy policies’, Looking Ahead, Mar07

Policy

Russia's President, Vladimir Putin has appointed former Defence Minister Sergei Ivanov as First Deputy Prime Minister. In this position, he will supervise the Ministry of Industry and Energy and also have the last word on gas export deals. Ivanov is believed to be an opponent of economic liberalization and his appointment may indicate that Russia is becoming less willing to open-up its oil and gas industries to foreign investment.

Moscow has already indicated that it wants a higher Russian role in production sharing agreements (PSAs) awarded to foreign companies. The latest PSA to be targeted is the one held by Total (50%), Norsk Hydro (40%) and Russia's Nenetsk (10%). The Energy Ministry has approached other Russian companies with a view to encouraging them to take a 20% interest in the PSA.

Oil Production

The Russian government has provisionally stated the country’s output of oil at 9.61 mn bpd and forecasts a rise of 2.3% in 2007.
Output from the Sakhalin-1 project was reported by ExxonMobil at 200,000 bpd for January 2007.  Output is expected to reach its target of 250,000 bpd by about March.

Oil Exports

OET ARCHIVE LINK:        ‘EU worries (again) about Russian energy supplies’ Looking Ahead, Feb0

Natural Gas

Gazprom has agreed to purchase 50% plus one share of the Sakhalin II gas project for $7.45 bn. The remaining shares will be as follows: Shell (27.5%); Mitsui (12.5%); Mitsubishi (10.0%). The deal is part of a process to reassert Russian control over upstream projects previously awarded to foreign companies.

OET ARCHIVE LINK: ‘ Turkey looks elsewhere for gas', Gas & Power, Jan07.

Oil & Gas

Russia 's two largest state energy companies, Rosneft and Gazprom are to co-operate across their two areas of business. They will work jointly on oil, gas, petrochemical and electricity projects in Russia and abroad. Co-operation will include both upstream and downstream sectors. The move will make them into Russia 's most powerful energy combine and may eventually pave the way for a merger of the two companies.

Gazprom is also to co-operate with ENI in an arrangement that will give Gazprom access to the Italian gas market and ENI to gas projects in Russia

Natural Gas

Gazprom has taken full control over the Yuzhno-Tambeiskoye gasfield following a deal with the other shareholder Yamal LNG, a privately-owned Russian company. The move makes Gazprom the only gas producer on the Yamal peninsula, which contains an estimated 175 trillion cf of gas. It is proposed to supply LNG from Yamal to the US .

OET ARCHIVE LINK: ‘Does Russia have enough Gas?', Gas&Power, Dec06

Pipelines

A pipeline known as the East Siberia-Pacific Ocean Pipeline is to be built from Taishet in Eastern Siberia to the Pacific coast, where an export terminal will be built. The line's initial capacity will be 600,000 bpd from late-2008, rising to 1.6 mn bpd by 2015. There will be a 280,000 bpd spur line serving northern China .

The line will serve as an outlet to Rosneft's 7 bn bbl Vankor field, which is expected to come on-stream in 2008 and produce 200,000 bpd. There are also plans for a 400,000 bpd export refinery at the pipeline terminal on the Pacific coast.

Oil

The New York Mercantile Exchange (NYMEX) launched a new crude oil futures contract based on Russia 's Urals blend. The contract, described as Russian Export Blend Crude Oil (REBCO) failed to attract any trade for the first 4 days of its existence. A NYMEX spokeswoman said there was “a lot of support for the contract”. Many traders appeared to disagree.

Natural Gas

Gazprom has postponed the start of the Shtokman gasfield by two years to 2013. The field is designed to produce LNG for export.

In the wake of several disputes, between the Russian government and foreign oil and gas companies the EU's Energy Commissioner has called for more open access to Russian energy markets. Russia has raised the price it charges Ukraine for gas by 37% and has threatened to double the price to Georgia .

Gas Production

A major LNG project could be delayed by a decision by the Russian Ministry of Natural resources to object to part of the development on environmental grounds. The Ministry is unhappy with the routes of some pipelines, which it says could be affected by mudslides, causing possible leakage of gas or oil.

The project, known as Sakhalin II, is based on the Piltun-Astokhskoye field complex, which contains an estimated 1.1 bn bbl of oil and 18  trillion cf of gas. An LNG export terminal is due to be completed in 2008, with a capacity of 1.3 bn cfd.

Pipelines

Russia's state pipeline company has decided on the terminus for its 2,500-mile long pipeline from Eastern Siberia to the Pacific. The line, which starts in Taishet, is to run to Kozmino Bay, near Nakhoda. There will also be a branch off the pipeline to the Chinese border.

Construction began at Taishet in April, 2006, with completion to Skovorodino due in 2008. From there, the crude will be send by rail to the coast until the second phase of the line is completed, around 2015. Initial capacity of the line is put at 600,000 bpd, rising to 1.6 mn bpd by 2015.

Natural Gas Trade

Russia and Turkmenistan have failed to agree a new price for Turkmen gas supplies in 2007. Turkmenistan wants Gazprom to pay $100 per 1,000 cm ($2.83 per 1,000 cf), which represents a 54% increase on this year's price.

Turkmenistan is due to supply 2.9 bn cfd of gas to Russia during 2006, but Moscow has been negotiating for additional supplies this winter. Some of the gas is due to be resold by Russia to Ukraine, which is reluctant to pay more for gas sourced via Russia. The US has accused Russia of ‘energy blackmail' in its dealings with Ukraine. Ukraine meanwhile is seeking ways of importing directly from Turkmenistan.

Oil Pipelines

OET ARCHIVE LINK: ‘Russia pushes ahead with new pipelines', Looking Ahead May06

Russia is to step-up energy links with China. The two governments have agreed in outline to build a 6-8 bn cfd gas pipeline link from Siberia to China and to add a branch to China from the proposed 0.6 mn bpd oil pipeline from Taishet to the Russian Pacific port of Skovorodino.

Gas Pipelines

Rusia says it will grant third-party access to Gazprom's export pipelines, but has yet to specify any date for this. Independent producers, which account for nearly 15% of Russia 's 62 bn cfd production, say Gazprom prevents them from exporting all that they want. Independent production is slated to rise from 9 bn cfd this year to 11 bn cfd in 2010.

Natural Gas

Official figures for oil and gas production have been released as follows:

OET ARCHIVE LINK: 'Ukraine gas crisis rumbles on as west again affected', Gas and Power Feb06

Russia 's state-run gas company Gazprom informed Ukraine 's Naftogaz Ukrayiny that it intended to increase the price of its gas from 1st January, 2006 from $50 per thousand cubic metres (th cm) to around $230 per th cm. Naftogaz Ukrayiny countered with an offer to pay $80. With the two sides unable to agree, the Russian government threatened to cut-off supplies to Ukraine from the start of 2006. When supplies were cut on 1st January, shortages were experienced across Europe by countries that imported Russian gas via Ukraine. Russia accused Ukraine of “stealing” the gas intended for customers in the west. By 3rd January, supplies to Ukraine had been restored, following complaints from Gazprom's other customers. On 4th January, Russia and Ukraine agreed a new supply deal as follows:

• Ukraine would pay $230 for Russian gas but would take less in 2006 (17 bn cm) than in 2005 (25 bn cm);
• Ukraine would take more cheap gas from Turkmenistan, enabling it to reduce its average import price to around $95 per th cm;
• Gazprom would pay more to send its gas through Ukraine to other countries.

Gazprom has also agreed to raise the transit fee paid to Ukraine for gas delivered to other countries by 51¢ to $1.60/th cm per 100 km.

Gazprom further announced that it had started work on a 750-mile, 2.7 bn cfd pipeline under the Baltic from Vyborg to Greifswald in Germany , which is designed to export Russian gas westwards avoiding Ukraine . Completion is scheduled for 2010. There are plans to raise its capacity to 5.4 bn cfd by 2013.

Oil Exports

Russia and Japan have begun talks on building a 1 mn bpd pipeline from Taishet in Eastern Siberia to the Russian Pacific port of Perevoznaya, from where the oil could be shipped to Japan. China wants a similar-sized pipeline built from Taishet. The Russians say there is not enough crude for both schemes.

Natural Gas

Gazprom plans to proceed with the enlargement of its Blue Stream pipeline under the Black Sea to Turkey. The line is expected to carry 0.4 bn cfd during 2005. Expansion will raise capacity to 1.5 bn cfd. Some of the extra gas may be exported via Turkey to Italy.

Oil Production

Production began in early October from the Sakhalin I project. Output is scheduled to reach 50,000 bpd by the end of the year and 250,000 bpd by the end of 2006. The oil will be sold to Russia until the field is connected to the De Kastri terminal on the mainland in mid-2006. After that, it will be exported, mainly to Asia.

Oil Exports

Russia plans to increase its crude oil exports to China from 0.2 mn bpd in 2005 to 0.3 mn bpd in 2006. The oil will be exported by rail, but Russia may struggle to meet its target as the railway link is already close to its carrying capacity.

Natural Gas

The Ministry of Economics forecasts natural gas output and exports as follows:

OET ARCHIVE LINK: ‘Gazprom's domestic agenda takes second place to exports', Gas & Power, Oct05.

Natural Gas

LNG exports from the Shell/Mitsui/Mitsubishi Sakhalin II project are likely to be delayed by a year, to 2008. Gazprom has also agreed to join the consortium.

Policy

The Russian government has acquired a majority stake in Gazprom following its purchase of a further 10.74% stake in the company. At the same time, it has removed previous restrictions concerning foreign ownership of the remaining stock. Gazprom's CEO, Alexei Miller, said the company planned to become a global energy player and would buy further assets in Russia and abroad, including downstream oil assets. It may buy Yukos' 53% shareholding in Lithuania 's 263,000 bpd Mazeikiai refinery.

Policy

Yukos' former President, Mikhail Khodorkovsky, received a nine-year gaol sentence plus a heavy fine for tax evasion. Further charges are threatened by prosecutors.

Policy

The government has abandoned plans to merge Rosneft with Gazprom. The two companies will operate separately, but the government will raise its shareholding in Gazprom to take a controlling interest. Rosneft may, in turn, sell part of its Yuganskneftegaz subsidiary, recently acquired from Yukos, to China 's CNPC or India 's ONGC.

Oil production fell for five consecutive months between September 2004 and February 2005, from 9.4 mn bpd to 9.3 mn bpd, according to official figures, giving rise to fears that this year's rise in production will be less than the planned rate of 5%.

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