by Colin Chilcoat
On April 19th, the European University at St. Petersburg had the pleasure of welcoming Dr. Vladimir Drebentsov as part of the “ENERPO Workshop,” a series of lectures and presentations, in which representatives of major oil companies, government officials, and academics are invited to speak before MA students on a topic of their choosing. Dr. Drebentsov’s presentation was entitled, “The Strategy of BP in Russia amid Evolving World Gas Markets.”
Dr. Drebentsov is a graduate of Moscow State University (Economics) and holds a PhD in Economics from the Institute of US and Canada of the Russian Academy of Sciences (ISCAN), where he served as a Senior Research Fellow for 11 years. Upon leaving ISCAN, Dr. Drebentsov began a 12- year career with the World Bank as Senior Economist. Dr. Drebentsov joined BP in 2006, where he assumed responsibility over economic and energy research and policy advice concerning countries of the former Soviet Union. In 2010, he was appointed to the role of Vice-President for External Affairs of BP Russia.
His talk was divided into two portions. The first, a summary of the most recent BP Statistical Review of World Energy and Outlook to 2030, the second, a question and answer session with the audience.
Summary of BP’s Outlook to 2030
A vast majority of increased energy consumption will come from non-OECD countries, as both their population and GDP growth will outpace OECD countries through 2030. China and India will be leading this group as the two countries are expected to be the leaders in global liquids growth. Not only will non-OECD countries lead consumption, but these emerging economies will also dominate energy production. Production growth in natural gas, nuclear, and renewables are all expected to outpace oil for the next two decades as the global energy mix becomes as balanced as it has ever been. Huge demand spikes are not altogether worrisome, however. Dr. Drebentsov believes that perhaps the most important development on global energy markets is the growth in energy efficiency. Decreases in energy intensity towards 2030 coupled with a more balanced energy mix will alleviate concerns surrounding oil and gas depletion.
Not only will non-OECD countries lead consumption, but these emerging economies will also dominate energy production.
Regarding a global unconventional revolution, Dr. Drebentsov and BP believe that the US will continue its strong growth, while other players (China, Europe & Eurasia) will experience only minor growth as we move towards 2030. Nonetheless, BP expects tight oil, oil sands, and biofuels to account for 100 percent of the global liquids supply growth to the end of this decade. A side effect of such growth will be a reduced call upon OPEC and an increased need for OPEC to maintain discipline regarding spare capacities. Uncertainties abound, but BP forecasts additions of approximately 6 million barrels per day of tight oil and 70 billion cubic feet per day of shale gas to the global supply by 2030. Dr. Drebentsov acknowledges that geopolitical relationships worldwide will experience many changes as a result of such developments, but leaves that discussion for another time.
Dr. Drebentsov concludes the first part of his presentation by stating that we are lucky to live today in a world in which in gas and oil markets are more competitive than ever. This marks a significant break from the past and will continue to allow for the diversification of global energy markets.
The following is a transcription of the question and answer session immediately after Mr. Drebentsov’s presentation. The transcription is a mixture of direct quotes and paraphrasing to improve clarity.
Question: Recently, the CEO of BP, Bob Dudley, listed four priority regions for BP: Azerbaijan, Angola, the Gulf of Mexico, and the North Sea. Production in Azerbaijan has been slightly declining; the North Sea is depleting; there have been a lot of obstacles in the Gulf of Mexico of course; but at the same time Russia has not even been mentioned as a priority region. I was wondering how BP’s strategy can be justified taking these developments into consideration?
Dr. Drebentsov: You have to distinguish between a company’s status as an operator and as a shareholder. BP is an operator in these four regions that you mentioned.
You are keenly aware of our problems in the Gulf, but we are confident that, with time, we will be able to proceed with some of our major projects of deepwater drilling.
In Russia, we used to be a shareholder of TNK-BP. Now, we are a minority shareholder of Rosneft, not an operator. So, BP, as a company, has not been producing any oil or gas in Russia, unlike in Azerbaijan, where we are an operator, or in Angola or the Gulf. This will likely be the situation for the years to come. I would have to mention many of the peculiarities of the Russian regulatory system to explain why we are not an operator here in this country. We do not expect to become a major operator of either gas or oil fields in Russia. It does not mean Russia is not a priority country for us; it is just not a priority for producing oil and gas on our own.
You mentioned that gas production in Azerbaijan is declining and actually we expect gas production there to grow. Shah-Deniz 2 is a major project for us and is expected to be the primary source of gas for the Southern Corridor. You are keenly aware of our problems in the Gulf, but we are confident that, with time, we will be able to proceed with some of our major projects of deepwater drilling.
Question: You mentioned Shah-Deniz 2 being the major supplier for the Southern Corridor. Can you elaborate a little more on how that gas will get from Shah-Deniz 2 to Europe?
Dr. Drebentsov: No. That’s commercially sensitive, and come June we will have to make a decision on an exact route. At the moment, there are several options we can pursue: Trans-Adriatic, Western- Nabucco, but I cannot prejudge the decision we will make in June.
Question: Jumping on to what you previously said about regulatory peculiarities in Russia – Would you say that this is the primary limiting factor for a foreign company’s involvement and general investment in the Russian energy sector? Or is there something else?
Dr. Drebentsov: The regulatory regime in Russia is why foreign investment in oil and gas is much lower relative to what it could have been. Just to give you one figure: 20 percent of the investment to develop tight oil and shale gas in the US came from foreign companies. In Russia, it is not so because there is a long list of strategic industries, which limit participation of foreign companies in oil and gas. There is a sub-soil law, which brings more complications and there are various other limits. As you know, on the Arctic Shelf only public companies are allowed to operate. A foreign company, like ExxonMobil has already done, has to become a minority stake-holder in a joint venture.
In Russia, we’ve learned how to work with a private partner in TNK-BP and now we will have to learn how to work with a state-run partner in Rosneft.
There are regulatory difficulties in China. For instance, China is pretty keen on allowing foreign companies to help them develop shale gas, but in order to do so they had to change the whole classification and design a special category for shale gas. When you look at the Chinese legislation it is pretty similar to Russia’s, and even worse. In China, foreign participation in oil and gas is just banned. They have introduced this shale gas category, which has effectively been classified as a new resource and takes it out from under the auspices of the drastic limitation of foreign participation.
Different countries have different regimes and the regime in Russia is a fairly restrictive one. We expect this to be changing because if Russia wants to develop tight oil it will need foreign expertise and foreign technology, perhaps not money. Access, first of all, and then taxation. Taxation is a detrimental factor for any company, Russian or foreign, which tries to produce oil in Russia. The price of the Urals blend, which is Russia’s primary export blend, behaves similarly to Brent and WTI. If you look at the price, which any company who produces oil in Russia sees, it has been around $20 for the last ten years. The rest goes to the government in the form of taxes, some 70 percent is in the form of taxes. Production of oil in Russia keeps growing, but it keeps growing only because the current break-even price is around $15-16 per barrel. If we get $20 we make profit. If we have to tackle tight oil, which is much more expensive, or any offshore, this doesn’t work. I’m fairly certain the government realizes this and if they want to develop in these new provinces they will have to change access rules and taxation obligations. I’m currently working with a government tax group where we have suggested major changes to the way the Russian oil and gas sector is regulated.
Question: I have another question about BP’s cooperation with Rosneft. Just a few days ago the Russian Ministry of Economic Development proposed to sell 19 percent of the shares of Rosneft. I’m wondering how BP receives that announcement. Do they prefer to cooperate with Rosneft as a private company or as a state-owned company?
Dr. Drebentsov: We’ve noted this announcement, but as you’ve read this is just a proposal from the Ministry of Economic Development. The chances of this proposal being cleared, I don’t know, I would put at less than 50 percent. Even if this goes through, the government will still have more than 50 percent of the shares and it will still be a state-owned company.
Question: Would BP welcome further privatization in the future?
Dr. Drebentsov: We can see Rosneft eventually becoming a private company, but we do not expect this to happen in the near future. We’ve been doing business with national oil companies all over the world so we are experienced with state-run companies. In Russia, we’ve learned how to work with a private partner in TNK-BP and now we will have to learn how to work with a state-run partner in Rosneft. Additionally, we will only have 20 percent of the share and not 50 percent as with TNK-BP.
Question: Has the European Commission’s approval of the Third Energy package restricted the flow Gazprom can put through Nord Stream. Is it limited now?
Dr. Drebentsov: To answer the question – no, the European Commission has not limited flow via Nord Steam. There are two extensions of this pipeline: OPAL and NEL. Unlike Nord Stream, which originates in Russia and travels through international waters in the Baltic, OPAL and NEL are located in the territory of the European Union and of course the Third Energy Package applies to them. What happened is that Nord Steam owners had to apply for the clearance of shipments of gas via these two extensions according to the new procedure. That’s a pretty tough dialogue. I sit on the Russia-EU Gas Advisory Council and I see this debate from both sides. I think that there is no chance that the Third Energy Package will be abolished, so Russia will just have to learn how to live in Europe according to these new rules. And they have; Russian companies have already started to learn how to operate on the liberal market in Europe. In fact, Gazprom sells 7-8 percent of its gas to Europe at spot prices. They sell at both oil-indexed and spot prices. For me, that’s an indication that they are learning how to operate in this market. Another thing is that Gazprom has already announced that it is interested in extending Nord Stream to the UK. I cannot imagine Gazprom coming to UK and asking for oil-indexed prices. They have acknowledged that with time they will have to export at spot prices and I think this is the way a majority of Russian gas exports will go. I think we will also see the liberalization of the export monopoly held by Gazprom. The President of Russia has issued an order to think about the liberalization of LNG exports from Russia. For me, this is the first step towards increasing liberalization of all gas exports. I don’t see a problem of Russia’s gas remaining competitive on international markets.
Question: Do you think there is a possibility of Gazprom being restructured anytime soon?
Dr. Drebentsov: Before joining BP, I spent 13 years at the World Bank and was apart of the team that designed this plan to breakdown Gazprom as a condition of one of the World Bank loans to Russia, which never materialized. I don’t see Gazprom being broken down soon, but if we look at the oil sector, that’s exactly the state of affairs. There’s Transneft, and a more or less diversified production sector. I don’t see why the same model would not work in the gas sector. We can already see the rise of independents. Last year, independent producers contributed I think around 27 percent to Russian gas production, which is a lot considering that in the past Gazprom used to produce 100 percent. Pressure will also come from the domestic gas price. At the moment, the domestic gas price in Russia is higher than that in the United States and consumers are starting to feel that and they’re starting to complain. It is still lower than in Europe, but over the last ten years gas prices in Russia have grown by a factor of eight. There are certainly problems of profitability for Gazprom, but I do see ways to cut costs. If one looks at staff costs – growth in staff costs between the third quarter of last year and the third quarter of 2011 was 26 percent and that was in a company whose production was declining.
The reason why we have been divesting so many assets is because we had to accumulate $40 billion for our accident in the Gulf.
Question: I have a question about how BP acts in the paper market. I’m not too familiar with how oil companies act on that side, but I know airline companies hedge for or against the price of oil so I just want to know more about what BP tends to do in these situations?
Dr. Drebentsov: We are hedging some of our production. There are countries that do that. Mexico hedges all of its oil production. We don’t hedge all of our production, but our traders do operate on the paper oil markets. We are more on the physical side; we are not financial investors; we still care about production levels. That’s our core business. We do not subscribe to the view that the fundamentals do not define the oil price. This is a popular view and people often say forget about the fundamentals, the financial investors determine the price. We think this is completely wrong.
Question: Over the last few years BP has been selling loads of assets in renewables. What kind of consequences will this have for BP in the future? They are turning their focus back to oil and gas and what kind of risks does this pose?
Dr. Drebentsov: The reason why we have been divesting so many assets is because we had to accumulate $40 billion for our accident in the Gulf. Even if we set this aside, we are likely to see price changes on the oil and gas side that we are not used to and it makes sense to become more focused on the core business. We are still a green company with a focus on renewables, but we have decided to dedicate more focus to areas where we are more experienced. Gas and oil will be the main business for the company at the moment. We are the 4th largest producers worldwide and we will continue to focus on this.
Question: Could you please elaborate a bit on gas pricing reforms in China. Secondly, what is your opinion on China’s ability to match gas imports with its own shale gas production?
Dr. Drebentsov: Starting with the price reforms – it has just started. At the moment, companies that import Turkmen gas to China run losses. We do think the reform will go on, but it will take some time. We think that when the gas price in China becomes more liberal and more or less market-based, that will be the moment of truth for all these forecasts for unlimited gas growth in China. We think that China will be able to produce 60 bcm of shale gas, but it will have to import about 180 bcm by 2030. 100 bcm will be LNG and 80 bcm via pipeline. The room for Russian pipeline gas is not so big. In economic terms, Russia will need a pipeline deal of at least 30 bcma to justify construction of such a pipeline. China is not prepared to buy expensive gas and Russia is not prepared to sell gas cheaply. That has been the theme of the debates between these two countries for the last 15 years.
Colin Chilcoat is an MA candidate in the ENERPO program at the European University at St. Petersburg.
BP Energy Outlook to 2030: www.bp.com/liveassets/bp_internet/globalbp/ globalbp_uk_english/reports_and_publications/ statistical_energy_review_2011/STAGING/ local_assets/pdf/
Video of Mr. Drebentsov’s presentation: