Rosprirodnadzor Recommends Revocation of TNK-BP's Kovykta Gas Field Licence

Round and Round in Circles

The latest chapter in the long-running saga of Russia's Kovykta gas field is still unfolding, but thus far the story remains largely the same. The newest melodrama kicked off with a threat earlier this month from the Natural Resources Ministry warning TNK-BP, the operator of the RUSIA Petroleum consortium that holds the rights to the 2-tcm Eastern Siberian gas field, that it had better start complying with its licence or else face the potential of having that licence revoked. Yesterday, Rosprirodnadzor, the state environmental watchdog agency that made its name in 2006 by pressuring Shell and its Japanese partners to sell control of the Sakhalin-2 LNG project to Gazprom under threat of licence revocation, dutifully reprised this role, announcing that it has recommended that RUSIA Petroleum's Kovykta licence be stripped following an inspection to confirm that the consortium was not living up to the terms of the agreement.

Thus, the issue again moves to Rosnedra, the state subsoil use agency, to decide whether or not to carry out Rosprirodnadzor's recommendation. This exact storyline played out just over three years ago, but TNK-BP and one of its two core shareholders, BP, avoided the guillotine by striking a last-minute deal with Gazprom under which the latter agreed to buy out TNK-BP's stake in RUSIA Petroleum for between US$700 million and US$900 million (see "Related Articles"). The problem is, that deal was never finalised, Gazprom still has no say in the development of the key Eastern Siberian field, TNK-BP is still technically in violation of its licence agreement (for under-production, but the company's response is that it has no market to which to supply this gas, nor is there a need for it at the moment), and the impasse has simply continued. Hence, history has effectively repeated itself.

Different Result This Time?

Then, as now, Rosnedra had to weigh the potential negative impact on the Russian investment climate in any decision to strip TNK-BP of its Kovykta licence. Again, TNK-BP's main line of defence appears to be the belief that the government will step in, calculating that any revocation will do hefty damage to the investment climate, undermining the government's recent moves to try to make the country more attractive for foreign energy companies. Back in June 2007, TNK-BP and Gazprom's last-minute deal allowed Rosnedra to avoid having to decide. This time, however, the Russian subsoil use agency could be forced to make that fateful decision—unless TNK-BP blinks first.

TNK-BP does not appear to be in any hurry to reach a new deal (or finalise the previous one) with Gazprom, but would be well advised not to be complacent in thinking that it can simply avoid having the licence revoked this time. For one thing, since Kovykta came to the fore in 2007, the government has passed legislation that restricts foreign investment in "strategic" fields, classified as those with proven reserves of more than 70 tonnes of oil or 50 bcm of gas. The 2-tcm Kovykta gas field clearly fits this definition, so in the event that Rosnedra actually strips RUSIA Petroleum of the licence, Russian authorities could simply hand it to Gazprom without an auction, with the gas giant paying nothing and TNK-BP coming away empty-handed.

This in itself may provide incentive enough for TNK-BP to come back to the table with Gazprom, but at the same time it will give Gazprom added leverage in renegotiating the previous deal for more favourable price terms. Gazprom's strategy vis-à-vis Kovykta over the past several years has simply been to wait, particularly as the financial crisis and weaker gas demand left the company with reduced cash on hand to complete the earlier-agreed acquisition and less need to push ahead with development of the field. Gazprom said earlier that it does not plan to develop Kovykta until 2017, but weaker European gas demand, together with fewer export opportunities in targeting North America, means that it is putting increased emphasis on its "Eastern Gas Programme", including moving up plans to export gas to China. Gas from the Kovykta field is expected to play a key part in Gazprom's Asian gas market offensive.

Outlook and Implications

With this in mind, Gazprom may be more amenable to clinching a deal with TNK-BP, but also knows it has the upper hand, reasoning that it can simply wait and be handed the licence if TNK-BP tries to hold out and Rosnedra actually follows through on the licence revocation. Although Gazprom gets the licence for free in this scenario, it is really the government that bears the cost, shooting itself in the foot and undermining the investment climate with another high-profile instance of the Russian state being seen to abrogate the rights of a foreign company. The government is surely loath to repeat the Yukos affair in this regard.

Rather, the likelihood is that the latest Kovykta episode more closely resembles the Sakhalin-2 experience, with the government prodding Gazprom to work out a deal to buy TNK-BP's controlling stake in Kovykta, giving the transfer of the licence to the Russian state gas firm an added veneer of legitimacy. TNK-BP has not booked any reserves from Kovykta, and BP shareholders effectively kissed the project goodbye long ago, so a sale of the stake to Gazprom is unlikely to have any real negative impact on the company's share price (indeed, it could have a positive impact if TNK-BP actually receives some compensation rather than simply having the licence stripped from its portfolio). A new Gazprom-TNK-BP Kovykta deal that allows the former to finally secure control of the field—but also gives TNK-BP perhaps US$500 million in compensation to walk away—could prevent Rosnedra and the government from having to follow through on this latest revocation threat to the detriment of the investment climate in Russia.

Related Articles

• Russia: 8 February 2010: TNK-BP Again Faces Kovykta Licence Revocation Threat from Russian Ministry
• Russia: 4 February 2009: Sale of Russia's Kovykta Gas Field in the Deep Freeze
• Russia: 22 January 2010: Gazprom Sees Recovery in Demand for Russian Gas by 2012, Plan for China Supplies by 2011
• Russia - China: 15 October 2009: Russia and China Agree in Principle on Gas Price Formula
• Russia - China: 14 October 2009: Gazprom, CNPC Sign Framework Gas Supply Agreement
• Russia: 18 June 2009: Gazprom Hints at Delay in Kovykta Field Development
• Russia: 11 December 2008: Financial Crisis Throws Kovykta Buy into Question, Says Gazprom's Deputy CEO
• Russia: 17 October 2008: Renewed Threat to Kovykta Licence; Gazprom May Pull Out of Deal with TNK-BP
• Russia: 25 June 2007: BP Strikes Deal to Sell TNK-BP Stake in Kovykta Gas Field to Gazprom
• Russia: 7 March 2007: Rosnedra Chief Says RUSIA Petroleum Must Reach Deal or Face Kovykta Licence Withdrawal