Learning from the Yukos legacy

Yuganskneftegaz, a West Siberian subsidiary of Russian state-controlled oil company Rosneft, is aiming to take the top spot in the country’s production expansion table in the next three years.

Rosneft is ramping up investments in the company, which is responsible for 12% of total Russian oil production and was once part of Yukos.

The government sold Yuganskneftegaz to the little-known Baikal Finance Group for $9.35 billion in a hastily arranged auction in December 2004. Many analysts in Moscow said at the time that the price was too low for such a good asset.

Baikal Finance was then taken over by Rosneft two weeks after the auction, and its real owners have never been revealed. Yuganskneftegaz has not simply been a bargain for Rosneft.

The company’s advanced oil production technologies and Western management practices, which were brought in by former Yukos president Mikhail Khodorkovsky at the end of 1990s, made it the leading Russian oil company and they were quickly adopted into Rosneft’s 10 other oil-producing subsidiaries.

Those moves came about following the appointment of former Yuganskneftegaz managing director Sergei Kudryashov as Rosneft’s first vice president for exploration and development.

The former top and middle management with Yukos als then moved en masse to Rosneft.

Some observers in Moscow have said that the transformation has beem like “the big rabbit (Yuganskneftegaz) eating the snake (Rosneft)”, even though, on paper, Rosneft had done the acquiring.

At the time of auction in 2004, Yuganskneftegaz was producing more than 1 million barrels per day, compared with 430,000 bpd from all of Rosneft’s oil units.

The former Yukos subsidiary was also more economically efficient than Rosneft, making it an even more valuable acquisition for ambitious Rosneft president Sergei Bogdanchikov.

According to Yuganskneftegaz general director Vladimir Bulba, who arrived at the company at the end of December 2004 from Rosneft subsidiary Purneftegaz, the state company acted quickly to pay off all the outstanding salaries owed to employees and to resume drilling.

Yukos was unable to fully finance Yuganskneftegaz throughout the whole of 2004 as its bank accounts were frozen by the Russian tax authorities after the company was presented with a multi-billion-dollar tax bill.

Many analysts in Moscow agree that the claim was part of Kremlin plan to dismantle Yukos after Khodorkovsky had declared his own political ambitions and criticised President Vladimir Putin.

However, once Rosneft took over Yuganskneftegaz at the beginning of 2005, the former Yukos subsidiary resumed its upward move, and crude output is expected to reach 1.25 million barrels per day this year, increasing to more than 1.5 million bpd in 2010.

This translates to an average annual expansion of more than 6%, compared with an expected increase in total Russian oil production of between 1% and 3% per annum.

These production increases will come mainly from drilling into undeveloped formations at Yuganskneftegaz’s seven core oilfields, which together hold more than 70% of its total proven and probable oil reserves of 16 billion barrels.

The largest of these oilfields are Priobskoye and Prirazlomnoye, which were discovered before the collapse of the Soviet Union. However, development only became possible quite recently as advances in dynamic field modelling and waterflood technologies made it possible to exploit the two deposits’ difficult geological structures.

Today, Priobskoye is one of the largest onshore deposits in Russia, with proven reserves of more than 5 billion barrels, according to the US Society of Petroleum Engineers reserve classification.

Meanwhile, proven reserves at Prirazlomnoye stand at about 1.7 billion barrels.

Bulba says that Rosneft will pump about $2.3 billion intoYuganskneftegaz upstream projects this year, with that amount expected to increase to $2.47 billion in 2008. Rosneft has already invested about $2.75 billion from the beginning of 2005 to the end of 2006.

Bulba said that besides investments, Rosneft made few changes to Yuganskneftegaz. One of the first changes was to install separation systems to avoid pumping the oil-water production mix dozens of kilometres to processing centres. Another major change was the implementation of tighter cost controls.

Bulba, who says he learned of his appointment to the producer about a month before it occurred on 31 December 2004, brought just five people with him to lead Yuganskneftegaz.

He adds that Yuganskneftegaz had excellent and well-educated staff and had developed efficient oil production practices. He says that the oil producer has had a profound effect on “synergies” at all of Rosneft’s other oil units.

He also praises Yuganskneftegaz’s innovations in hydrofracturing technologies, which are now used throughout the company on newly drilled and existing wells to boost the flow of hydrocarbons.

Analysts in Moscow expect that, following the success with Yuganskneftegaz, Rosneft will attempt to buy Yukos’ remaining oil producers — Samaraneftegaz and Tomskneft — which today produce about 410,000 bpd of oil.

Sources close to Eduard Rebgun, who managed Yukos’ bankruptcy, say that the auctions for these two units are expected to be held in April.

Samaraneftegaz and Tomskneft are smaller than Yuganskneftegaz but they would be valuable assets for Rosneft. Such acquisitions would immediately put the company ahead of Lukoil and TNK-BP at the top of the Russian oil industry league table.