A shortage of funds forces Russian oil producers to reduce necessary investments.
Western governments imposed sanctions on Russia for violating the sovereignty of Ukraine in the spring of 2014. Some of the restrictions were directed against one of the most important areas of the Russian economy: the oil industry.1 The sanctions affect the use of new fields under the seabed and in the Arctic, funding Russian companies through foreign loans, and restricting access to modern technology. Due to the sanctions, foreign companies withdrew their participation in new fields, the implementation of modern technology, conducting geological research and the extraction of difficult-to-access oil.2 The following analysis endeavours to answer whether and, if so, to what extent the two years of sanctions have influenced oil production in Russia.
Restrictions on the Participation of Foreign Companies
Due to the sanctions, some large oil companies—ExxonMobil, Royal Dutch Shell and Total—have stopped cooperating in commissioning the following new fields with Russian companies:3
· Rosneft–ExxonMobil joint venture in the offshore project Sakhalin-1;4
· Rosneft–ExxonMobil JV for extracting difficult-to-access oil from the Bazhenov formation in the Khanty-Mansi Autonomous Okrug;
· Rosneft–ExxonMobil JV in starting to use deposits in the Kara Sea (a test drilling in the Universitetskaja-1 field was undertaken in the summer of 2014);
· Gazprom Neft–Shell JV to extract oil by multi-stage hydraulic fracturing (fracking) from the Bazhenov formation in the Greater Salym field;
· Lukoil–Total JV to extract oil by multi-stage fracking from the Bazhenov formation in the Galyanovsk field.
Gazprom Neft and Lukoil, which possess expertise in horizontal drilling and shale fracking, have promised to continue with the planned projects independently. Rosneft announced that it had been forced to postpone its offshore projects in the Arctic until 2018. Rosneft is acquiring knowledge on horizontal drilling and multi-stage shale fracking to extract difficult-to-access oil.5
Sanctions do not stop oilfield service companies owned by foreign enterprises from working in fields already in use, including those in the Arctic, since the restrictions do not apply to subsidiaries of Western companies.6 For example, Schlumberger and Baker Hughes fulfil Gazprom Neft’s requirements at the Prirazlomnoye deposit.7 Halliburton did stop cooperation with Gazprom Burenie,8 which belongs to Arkadi Rotenberg, but is still doing subcontracting work for Gazprom Neft, Lukoil and others.
Restrictions on Importing Technology
Russian oil companies rely on foreign technology, and sanctions affect 68% of imported equipment.9 In order to extract difficult-to-access oil, Russian companies need to buy 50% of required equipment and 80% of the software used in the devices from the West; in the case of sub-seabed deposits, 80% of equipment and 90% of software must be imported.10
Western sanctions on technology connected to oil production have forced Rosneft to postpone all planned exploration of deposits in the Arctic and offshore fields.
Restrictions on importing technology also apply to spare parts that are not produced in Russia. For example, 90% of the spare parts used at Gazprom Neft’s drilling platform in the Prirazlomnoye field are foreign.11 The importation of spare parts decreased by nearly 10% due to the 2014 sanctions; however, imports from China and South Korea increased by the same proportion.12 Importing equipment for the oil industry from these countries on a large scale may be hindered by the fact that the devices also incorporate parts made in the West.13
Despite having plans to do so, the Russian government and companies have not yet managed to set up production to replace the imported goods.14 The so-called plan for replacing imported goods prepared by the ministry of industry and trade in early 2015 has not produced any tangible results.15
About 20 industrial companies received long-term, low-interest loans from the Russian ministry of industry and trade’s development fund for projects to replace imported goods.16 The size of the loans—one billion roubles—is only a fraction of what the industry needs.
Rosneft initiated the construction of the Zvezda shipbuilding complex in the Primorye region of the Far East; in addition to tankers, the facilities could be used to build offshore drilling platforms, etc. The investors in the undertaking are Rosneftegaz17 and the National Welfare Fund; Gazprom Bank has promised a loan. However, Rosneft has not yet managed to find a strategic partner to contribute modern technology for the plant.18 The sanctions make it unlikely that a Western company will agree to participate in the undertaking.19 Zvezda had planned to start work in 2018, but the commissioning will be probably postponed due to the sanctions.
Sanctions are hindering the use of Western technology in deposits on the mainland licensed to Gazprom Neft and Surgutneftegaz, and where it was planned to extract difficult-to-access oil from the so-called Bazhenov formation with horizontal drilling and shale fracking in several stages. The same applies to offshore deposits in the Pechora Sea and off the coast of the Yamal Peninsula, which have been allocated to Gazprom Neft.20 Surgutneftegaz and Gazprom Neft have promised to start using deposits on the mainland independently.
Russian oil refineries are almost completely dependent on equipment imported from the West;21 a large part of the devices can be replaced with equipment imported from China, but this does not improve the quality of the fuel produced. Russia exports petroleum products primarily within the Commonwealth of Independent States.
Restrictions on purchasing technology also affect the production of natural gas. Gazprom had to postpone expanding its natural gas liquefaction facility on Sakhalin as the US imposed sanctions on the offshore Yuzhno–Kirinskoye field, where oil can be found in addition to natural gas.22
Restrictions on Foreign Loans
Novatek,23 Rosneft, Gazprom Neft and Transneft cannot get favourable loans from Western banks, which makes it difficult to refinance and repay existing loans.
Financial difficulties arising from the sanctions have reduced the interest of Russian oil companies in deposits in need of large investment in the coastal Arctic Sea and extracting difficult-to-access oil.24 Restrictions on requesting foreign loans force the companies to focus on increasing production in existing fields—these also require the use of modern technology, but the oilfield service companies offering the equipment are not restricted by the sanctions.
The restrictions have forced Russian oil companies to turn to financial institutions in countries that have not imposed sanctions, or to ask for help from the government. Only Rosneft and Novatek dared to apply for help from the Russian government and National Welfare Fund to alleviate their financial difficulties.25 Rosneft asked for two trillion roubles to invest in five projects, but the government only agreed to support the Zvezda shipyard with 44 billion roubles.26 Due to the government’s refusal and financial difficulties, Rosneft reduced its investments in 2015 by some 30% compared to 2014.
Novatek applied for 150 billion roubles from the government to invest in its natural gas liquefaction facility on the Yamal Peninsula, and received this amount from the National Welfare Fund.27 Novatek wanted the support in dollars to pay for equipment purchased from the West, but the government refused.28 This is why Novatek still has difficulties with financing the LNG (liquefied natural gas) plant on Yamal. Due to the financial sanctions, Novatek applied for loans from Chinese banks, but it did not enter into loan agreements because of the relatively high interest rates.29 Novatek therefore had to turn to Russian banks again. Relations with Chinese financial institutions may improve since Novatek has sold 10% of the Yamal LNG plant to the Chinese Silk Road Fund.30
A few Russian oil companies can use political connections to overcome the restrictions on financing. In December 2014, Rosneft wanted to pay back part of a loan worth US$6.9 million; it sold securities to commercial banks for roubles and exchanged these into dollars at a closed auction of the Central Bank of Russia, which was accompanied by a sharp fall in the value of the rouble.31 To repay the second part of the loan, worth an equal amount, Rosneft sold securities at a closed auction of the Moscow Exchange in January 2015.32 Rosneft could only undertake these transactions thanks to high-level political support.
Rosneft is searching for project investors from China and India. Despite long-running negotiations and framework agreements, Chinese oil companies have thus far refused to invest in any fields in which Rosneft has a share;33 they prefer importing oil to investing. The interest of Indian companies has yielded more results—ONGC (Oil and Natural Gas Corporation Ltd) is to receive a 15% share of Vankorneft.34 Another Indian oil company (Indian Oil Corporation Ltd, IOC) also wants a share in that enterprise.
Thus far, sanctions have not had an impact on oilfields that are already in use and in joint ventures. This has allowed Russian oil companies to survive, and increase oil production and exports35 in order to maintain their market share (see graph) during the price war on global markets that started in late 2014. In 2015 Russia produced 534 million tonnes of oil (1.4% more than in 2014)36 and exported 241 million tonnes (10% more than 2014).37 In 2016 Russian oil companies will probably continue to produce and export oil in the same volume.38
The financial restrictions have already had an impact on the oil industry since the lack of funds is forcing Russian oil producers to reduce necessary investment39, which will inevitably lead to a decrease in production, exports and tax revenue. Specialists estimate that the Russian economy will lose approximately US$170 billion due to the combined effect of financial sanctions and low oil prices in 2014–7.40
Restrictions on importing technology have a long-term impact. The equipment used today allows the level of production to be maintained but there will be a greater demand for different technology as the proportion of difficult-to-access oil increases.41 Oil companies have to make do with existing equipment due to the sanctions because Russian companies are not capable of replacing devices imported from the West with equipment made in Russia any time soon. Importing goods from countries that have not joined the sanctions or purchasing Western companies that possess the necessary know-how only offers partial relief.
1 Individuals and companies affected by the sanctions: ria.ru/politics/20140718/1016514535.html 2 Difficult-to-access oil includes oil located in sub-seabed deposits, the Arctic, within shale formations or under difficult-to-access geological strata, or heavy crude oil.
3 Санкции и нефть: какие проекты в России могут пострадать – Ведомости, 15 August 2014.
4 www.gazeta.ru/business/2014/05/15/6034441.shtml 5 www.angi.ru/news.shtml?oid=2833620 6 Западные компании нашли способ обойти санкции для работы в Арктике – РБК, 29 December 2014.
8 Нефтяные компании получат санкции замедленного действия – РБК daily, 28 July 2014.
9 Параллельный путь в обход санкций – Ведомости, 17 July 2015.
10 From the presentation of Energy Minister Aleksandr Novak at the National Oil and Gas Forum in March 2015, see oilandgasforum.ru/data/files/Files%200315/Novak.pd… 11 Буровая угроза – Коммерсант, 17 September 2015.
12 Долгий путь к своим – Эксперт, 14 march 2015.
13 www.znak.com/urfo/news/17-04-19-02/1038666.html 14 Drilling equipment is produced in Russia, but devices based on modern technology (e.g. intended for horizontal drilling and fracturing shale) are provided by Western companies.
15 Россия сама не справится– Ведомости, 23 September 2015.
16 angi.ru/news.shtml?oid=2827995 17 The state’s share in Zvezda will increase to two-thirds when Rosneft and Gazprom Bank sell their joint subsidiary to Rosneftegaz (see «Звезду» возвращают государству – Коммерсантъ, 11 December 2015).
18 Cooperation with the South Korean company DSME ended three years ago.
19 Импортозамещение спасет только импорт – Коммерсантъ, 23 September 2015.
20 Санкции и нефть: какие проекты в России могут пострадать – Ведомости, 15 August 2014, op. cit.
21 Российская нефтянка остается сырой – Независимая газета, 7 October 2015.
22 www.bloomberg.com/news/articles/2015-08-07/gazprom… 23 Novatek, which mainly produces natural gas, is subject to sanctions due to its large shareholder Gennady Timchenko.
24 www.angi.ru/news.shtml?oid=2832845 25 Правительство «всерьез рассмотрит» заявки «Роснефти» и НОВАТЭКа – Коммерсантъ, 22 September 2014.
26 «Роснефть» теряет шансы на деньги ФНБ – Ведомости, 6 August 2015.
27 «Новатэк» первый в очереди – Ведомости, 15 December 2014.
28 «Новатэку» ни рубля – Ведомости, 21 November 2014.
29 Financing for Russia’s Yamal LNG plant stalls–sources. Reuters, 19 October 2015.
30 uk.reuters.com/article/russia-yamal-lng-china-idUK… 31 «Роснефть» провела секретное размещение – Коммерсантъ, 12 December 2014.
32 «Роснефть» нашла 400 млрд рублей всего за час – РБКdaily, 27 January 2015.
33 top.rbc.ru/politics/05/05/2015/5548e2a09a7947f67dd… 34 Покупку ONGC доли в Ванкоре рассмотрит правительство – Ведомости, 25 December 2015.
35 This was also facilitated by the change in taxation that entered into force in 2015, according to which the export of crude oil is prioritised over the export of petroleum products.
36 www.interfax.ru/business/488240 37 Экспорт нефти вновь может упасть, Ведомости, 14 January 2016
38 If the Russian government raises taxes and/or increases dividends to increase income for the 2016 state budget, the oil companies will reduce production volumes (see Снизить добычу вместе, Ведомости, 28 January 2016; www.rbc.ru/business/28/01/2016/56a9edf59a7947b6a87…)
39 vt nt www.finanz.ru/novosti/aktsii/gazprom-neft-snizit-v…; Инвестиции сбило котировками, Коммерсантъ, 21 January 2016
40 Россия теряет $600 млрд, Ведомости, 5 February 2016
41 In 2020 Russia will produce 417 million tons of oil, 62 million tons of which will be difficult-to-access oil (i.e. approximately 15% of total production) according to the forecasts by the ministry of energy. See oilandgasforum.ru/data/files/Files%200315/Novak.pd….