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. Last Updated: 07/27/2016

Oil Industry Healthy Despite PSA Problems

At first glance, Russia's oil industry seems to be doing pretty well on its own.

Top oil companies LUKoil, Yukos and Surgutneftegaz posted record profits in 2000, a year of high crude prices. While a slowing global economy in 2001 will lead to a drop in reported profits, oil companies such as Yukos and Surgutneftegaz still have a cushion of billions of dollars on their balance sheets.

After the fall of the Soviet Union, production-sharing agreements became popular with foreign investors looking to strike it rich by developing Russia's oil reserves. PSAs are used around the world in developing countries and encourage investment by offering favorable tax treatment in exchange for a share of production.

Although Russia passed a law on PSAs in 1996, only a handful of PSAs exist on Russian territory today. And two of these PSAs -- Sakhalin-1 and Sakhalin-2 -- were created before the law took effect. The law failed to attract the millions necessary for a full modernization of Russia's oil industry because rules, regulations and corresponding tax legislation were never put in place.

A dozen committees in several bodies including the State Duma, the Energy Ministry and the Economic Development and Trade Ministry are responsible for developing the legal basis for PSAs. But the committees are plagued by a lack of coordination and enthusiasm. Economic Development and Trade Minister German Gref, however, said a new chapter of the Tax Code dedicated to PSAs should pass the Duma this summer. While experts say that such a move would be a significant step forward, it is still not enough.

PSAs have not worked out in Russia for several reasons. The first reason is that Russia's oil barons are against the idea. Yukos CEO Mikhail Khodorkovsky once asked a group of American businessmen, "Why should foreigners get better terms than Russians?" Industry leaders figure that if they have to suffer through Russia's capricious tax system, foreigners should too.

Secondly, PSAs are most popular in Africa and Latin America, which, unlike the Soviet Union, did not have a substantial energy infrastructure before foreign oil companies came along. The Soviet Union built an oil industry on its own terms with its own management. While billions are needed to get Russia's crumbling infrastructure up to speed, this figure is dwarfed by the investment needed in other parts of the world. And Russian oil companies are doing their part in providing it.

But loath as they are to admit it, Russian oil companies can only go so far without Western help. Again, this help is usually dictated on the companies' own terms. Former top managers from global energy majors are now found in the ranks of Yukos, Sibneft and Tyumen Oil Co., or TNK.

The lack of PSAs has not kept foreigners out of the market. For more than a year, BP has been negotiating with TNK shareholders about acquiring a stake in Russia's No. 4 oil company. Government stakes in Slavneft and LUKoil are scheduled to be auctioned off this year.

Earlier this month, First Deputy Property Minister Alexander Braverman said the government would offer a 5.9 percent stake from its 15 percent stake in LUKoil to international investors in June or July. While the minimum price per share has yet to be determined, the government hopes to reap $700 million to $800 million from the sale. The Slavneft sale is to take place in the fall.