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Interview

with Grigory Vygon, Director, SKOLKOVO Business School Energy Centre, SKOLKOVO Business School Energy Centre (SEneC)

06.03.2013 / Energyboardroom

Can you start by introducing to our readers why the Energy centre was created in July 2011 and what have been some of the key achievements since?

The basic idea behind the establishment of the Energy Centre was to create a platform to build a professional and open dialogue between business and authorities representatives. Our team is composed of people from both business and government officials who are responsible for decision making. They have an understanding of regulation and experience of the industry to subsequently search for optional directions for state policy optimization and tools of economic stimulation for oil and gas projects.

The reason for my appointment as Director of the Energy Centre is my working experience in the government for the Department of Economics and Finance at the Ministry of Natural Resources and Environmental Protection, and prior to that as a Chief Economist within TNK-BP Management. Through my combined experience in the government and business, I have a better understanding of the issues between both sides. Legislation in Russia needs optimization in order to increase its efficiency. The implementation of tax breaks to stimulate Arctic development is an example, improvements have been made but there is still a lot to be done.

The Centre’s achievements consist of research and analysis of relevant challenges in the energy sphere, with a focus on the difficulties that authorities work on to translate into legislation. To give you an example, we have achieved to reduce greenhouse gas emissions by cutting gas flaring in Russia. This was a project I started while working for the Ministry of Natural Resources and continued at the Skolkovo Energy Centre.

Together with the Ministry of Natural Resources we actively participate in the development of strategy for Russian offshore field development. We are preparing hard-to-recover oil tax incentives in order to stimulate the output of these fields in the country. In addition we also work on the implementation on new taxation laws concerning the gas sector.

Our focus has mainly been on upstream issues, but recently we developed models regarding the country’s downstream sector. We will publish new research next week and promote our model in the ministries.

Everything we do at the Energy Centre is linked to Russia’s legislation, it is not just pure research or consulting, and as a result of our work, we want to see positive changes in Russia’s regulatory environment.

How would you rate the government in fostering the right environment for the industry?

From the government’s side there have been several good initiatives, especially regarding taxation. Recently the government signed a law on discounted tax duties on exports for fields with hard-to-recover oil.

Arctic offshore development and hard-to-recover oil fields are two issues that are important to the country and without changes in the tax regime, companies will be unable to start developing the Arctic offshore fields. So far the government has been active on this front and I believe that we will see significant changes in the tax regime within the coming year.

Traditionally the nation has concentrated on conventional oil and gas production, but our ambition is to introduce additional measures to stimulate production of unconventional fields. Today, there is no proper definition of unconventional oil, and as we use Soviet terminology, the country may hold a lot more unconventional resources that are not treated as reserves according to Western classifications. Nevertheless, we can convert them into reserves by implementing new technologies.

The domestic industry lacks indeed technology to find productive areas; and improvement is necessary not only in production but also in geology. Russia has a lot of resources, and in order to start production in the next five years we need to stimulate exploration. Offshore fields still need ten to fifteen years before development; and without crucial offshore technologies, the country may struggle to develop these hard-to-reach reserves alone.

Major obstacles for implementing a reasonable tax regime are poor administration and transparency of the sector. On the one hand, government authorities are not aware of real costs and economics of oil projects, and on the other hand, they are not capable of understanding the sector and its need for technology. I believe that it will take many years to switch from the current tax system to a modern system that is used throughout the world.

With these factors in mind -growth of non-conventional hydrocarbons and inflexibility of taxation in the Russian oil and gas industry; what is your assessment on Russia’s competitiveness on the oil and gas map?

I believe that the main drawback of our industry is the lack of competitiveness and technologies. Our industry is a derivative of what we have inherited from the Soviet era: huge reserves, built infrastructure and invested capital. The only thing left for companies was to extract oil. However today, we need to consider implementing new technologies in order to catch up with the rest of the world. This may result in a challenge as again, there is no specific strategy in Russia to stimulate technology.

We have observed alliances between Russian companies and foreign majors bringing in new technologies. But from my perspective this will not be enough. We will become competitive only once we change the structure of the oil and gas industry itself.

Today, Russia has a few major vertically integrated companies, and they are not very active in developing technologies. Looking at the United States for instance, there are several thousands of independent producers and among these, there are always some that are successfully implementing new technologies. However in Russia majors have been incorporating the small independents, which traditionally drive the development of technologies.

Generally, I do not believe that big international companies are able to help us implementing their technologies at full scale. For that reason, we should develop technologies at a domestic level rather than building alliances and consequently changing the structure of the current industry. Otherwise we will lose our competiveness.

Could you elaborate on the Rosneft / TNK – BP deal?

The reason of the deal is mainly behind the fact that the TNK-BP joint venture has been plagued by corporate disputes as BP and the AAR Consortium struggled for control and had different strategic views. I left TNK-BP when the dispute started. It is not a comfortable environment when there are frequent conflicts between parties. That being said, I consider the end of the corporate conflict as positive for the market, and I believe we will see an increase in efficiency, especially if Rosneft invites international managers within the new entity. On the downside, the deal creates monopolization of the sector as Rosneft will lose one of its major competitors. Domination on the domestic market will not help Russia’s oil industry go forward.

How will the deal redesign the sector?

There are several possible scenarios: Rosneft will become larger and expand abroad, although at the same time there are plans to privatize the company. Final decisions are yet to be made indicating that the government lacks a clear position on its strategy for the oil industry. Looking at the Arctic shelf for example, the government has granted Rosneft licences to develop offshore fields while at the same time decreasing its share in Rosneft.

Take Brazilian oil company Petrobras for example, we have seen the opposite scenario: the government granted licences to the company and in return increased its share in the semi-public multinational energy corporation. At the same time Petrobras was able to attract money to explore and develop offshore fields. This scenario looks more reasonable.

When we prepared our previous reports on the Russian Oil and Gas industry in 2010 and 2012 we had seen major capital expenditure in geology and construction. In your views where is the major capital expenditure in 2013 / 2014?

Substantial money will be invested in downstream because companies signed agreements with state authorities, obliging to invest in modernization. These investments will change the Russian refinery industry significantly. Moreover, I see investments in exploration and field development because inevitably Russia needs to drill more to maintain its production level. There are several greenfields that should bring a new stream in the next five to ten years.

With experience of more than 15 years experience in oil and gas, where would you like to take the SKOLKOVO business school Energy Centre in the future?

My goal is to expand our activities in order to assist the government to make better decisions. In Russia you will find many institutes, centres and consultancies that are involved in advising the government and businesses but up until now those consultancy services have not lead to significant improvements.

How does the centre stand out compared to other institutes, centres and consultancies?

We differentiate ourselves in having experience in all three major areas: research, consulting and government relations. Naturally, we do not compete with global industry consultants but we differ from them through our in-depth knowledge of the Russian energy industry and government procedures.

It is easy to criticize government actions, but we should focus on positive changes rather than saying that everything is wrong. The Skolkovo Energy Centre aims to propose and suggest changes in order to improve the quality of legislation.

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