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Interview

with Mikhail Polonskiy, President, Promstroi Group

03.06.2010 / Energyboardroom

When a foreigner considers the oil and gas sector in Russia, it is clear that there is an unprecedentedly great number of construction companies to choose from as compared to other markets. How have such peculiarities of the Russian market manifested itself? What are the characteristics of Promstroi Group that set it apart from the others?

During the Soviet times, industrial construction in Russia was divided between a number of ministries: Ministry of Energy, Ministry of Oil and Gas Construction (MinNefteGazStroy), MinMontageSpetsStroy (literally – Ministry of Installation and Special Construction) and MinSredMash (Ministry of Mid-size Machinery). The various enterprises were under the control and jurisdiction of the Ministries. At that time, there was a high amount of work carried out by the ministries across both new and old sectors of the energy industry – from nuclear to oil and gas, from petrochemical and refining to metallurgy. Following the collapse of the Soviet Union, the volume of work was rapidly reduced, and many of the main contractors left the market or were privatized and changed their names; what is important is that most of the people running these ‘new’ companies, all of a similar age to me, had originally worked in the companies, which had spun off from those ministries I mentioned before. The facilities of these companies are traditionally customised for the needs of their clients, and so have always been focused on works in certain regions, sectors and clients. This, together with the immense scale of Russia, explains why there are so many companies, each associated with particular niches.

It wasn’t until after 2000 when the situation improved and the demand began to increase. Companies were increasing volumes, more orders for re-equipment were coming in, and then the consolidation started, peaking in the middle of 2008. Then the crisis came, which of course also affected the construction sector; since the fourth quarter of 2008 it became difficult to assess costing and prices. The consolidation process was frozen, the number of deals were drastically cut, and there was a number of significant mergers and acquisitions. The situation is more or less the same today.

The assets of Promstroi Group were previously owned by MinNefteGazStroy and MinMontageSpetsStroy and today the company offers a full range of products and services on the Russian construction market. In some respects, it may even be said that we provide too large a range of products; Promstroi acts as a general or sub-contractor providing a wide range of services – from installation of technological equipment for pipelines to steel construction, from automation to electrical equipment and EPCM. We have a trade house within the group, focused on procurement in the energy sector, dealing with a range of services from feasibility documentation, to purchasing, logistics and management of the storage in the construction sector. We also have our own facilities for hydraulic mining, which is production by means of sand jetting. In total, we have 4,500 people working for the group, 2,000 of which are in Kazakhstan and in the rest of Russia.

You may wonder why we maintain such a wide range of products. We had to operate with a wide range of products because in Russia there are not many companies that can provide such a full range of products and services. This is particularly true of the Russian Far East and East Siberia where there is no real market: sometimes it’s even difficult to buy a nail there. For the contract we undertook for Transneft on the ESPO pipeline route to China, we needed to be able to offer the full gamut of services: we are doing the pump station, the 60 km of pipeline and the oil transport station, not least because all equipment has to come from the west: transportation taking an average of 20 days by rail.

You speak of having so many divisions as an advantage, but in terms of projecting growth, it looks like Promstroi’s situation makes it harder to take initiative when you are spread so thinly. What is it that Promstroi concentrates on most, what do you most pride yourself on?

I believe in playing to your strengths; in the case of Promstroi that is EPC, the general contractor projects and also more high-tech projects, since in this niche we have much larger clients. For these products, we try to create conditions to make them attractive for the external clients. We’re stimulating procurement activities within the company – the so-called internal procurement. As for the sales, there are two factors in such a complicated situation. Firstly, we don’t put ourselves into a position where we would depend on the external subcontractors instead of managing our own resources. But we still want our subsidiaries to be competitive on the external market. We don’t give priority to our subsidiaries for internal orders, although they do receive two concessions: they don’t have to go through pre-qualifications and don’t have to provide bank guarantees, as they go through our financial systems. Aside from this, they still must be competitive on price; if they comply with other prices, they win the tender, but if they cannot compete, which also happens, the external companies will overtake the contract.

There appear to be two different trends amongst the construction companies on the Russian market – companies directly associated to oil or gas companies, at least in practice; and those who have to fight for each contract. The bottom line seems to be that in Russia strong personal relationships between companies are essential; in your experience, what is the balance between good connections and good quality when it comes to winning contracts?

I must say that the climate here is not that different from in the West where it is often easy to predict who will win the tender on large construction projects. The same is the case here in Russia, but in a more exaggerated way. But that depends on how you view the situation. The problem can often come from subsidiary companies, who one day have no assets, and the next are able to come to the market offering a full range of services at the lowest prices. At which point a company is unlikely to accept its services from someone offering higher prices.
Since we don’t have these “administrative resources”, we may well be at a disadvantage in some ways, though at the same time this could be an advantage because instead it means we rely on the quality of our services. We position ourselves as both a regional and global subcontractor, and one with a range of capabilities that can work with equal success in a variety of sectors, which is why we have so many projects. We don’t have many general contractors, mainly subcontractors, but the ones that we do have are diversified, from Sibur in downstream building refining facilities to Transneft on the ESPO.

How was the experience of working with Transneft on the ESPO, one of the most strategic infrastructural projects in Russia today?

Promstroi Group has been cooperating with Transneft since 2002. We began as one of the first six general contractors of the ESPO, providing the first facilities signed off by a special commission. The company was in Kozmino as a subcontractor providing equipment for the onshore and offshore facilities.

When we interviewed Mr Tokarev from Transneft, he said Transneft had decided to create its own subsidiary for construction due to some negative experiences with expensive and unreliable subcontractors on a few large projects. What is your opinion as one of Transneft’s former subcontractors?

Firstly, I hope that when he was saying that he was not referring to Promstroi! As for Transneft’s own construction division, maybe it’s a good decision. It would by no means be the first company to create such subdivisions, moreover, the companies end up dissolving them very soon, only to create them again afterwards – in fact, it has now become a new tradition in Russia!

You have mentioned that technology is one of the core competences of Promstroi Group. At the moment, there is a special US-Russian Forum on Infrastructure in Moscow since it seems that American companies would be very happy to take part in infrastructural projects in Russia to support the Russian industry with their hi-tech expertise. As a Russian and an expert in this field, do you believe that American companies will be able to successfully penetrate the Russian construction market for oil and gas and contribute to its development?

At the moment, I believe it would be very difficult, but I’m still optimistic! Over the next few years, I believe the market situation would continue to change. There will be a gradual consolidation of Russian subcontractors and an increase in the number of clients, in particular those with little or no government involvement. However, this is not a question of very close future. But it would increase the openness of the market and encourage more competition – indeed, real competition. The low technology segment – general construction and steel construction – will be affected by an influx from Chinese companies; the hi-tech segment will be affected by the increase of prices as they reach international levels alongside increasing competition from Western companies. It is in this way that I believe the situation will become clearer and more promising for the foreign subcontractors over the next four to five years.

However history in Russia dictates that as soon as foreign competition comes in, the government takes steps to make the market inaccessible to them, the barriers are going up and this indirectly hinders the competitiveness and efficiency amongst the Russian companies. Taking into account that the Ministry of NefteGazStroy is not there any more, how will the market forces be able to regulate this?

As you can understand, the Russian Government has some social obligations and will always of course try to protect its own labour force – in precisely the same way as it is done in the rest of the world. In my view, high technology of the Western companies will still come, as it happens with such changes over time, particularly as modernization of the sector is a hot topic at the moment. The problem with regulation is that there are no certain rules, or, at least, no specific technical requirements. There has been a move towards a system of self-regulating organisations but it will take some time to be implemented, as at the moment there is a lot of bureaucracy to deal with. Since they are still very much in the early stages, they will need to take the time to define their goals. Another aspect is price regulation. There are federal rates, regional rates and indexation set by the Ministry of Regional Development that are recommended for state orders. Moreover, everyone is criticising the constructors for their high prices, but nobody tries to see the real structure of the works – the so-called “cost of construction” – without taking into consideration other factors that have been considered in such calculations.

This also explains why the foreign companies don’t come to this market. The real cost of construction is underestimated, which makes working here very difficult.

You say that in the next four to five years foreign companies may enter the market, but, on the other side, it is worth noting that Russian companies have disappeared from foreign markets. Everyone remembers that Russian construction companies had built up all of the infrastructure in Algeria, Libya, Egypt etc – they even joke that you have to be as crazy as the Russians to work in conditions like the Sahara. Now that a few Russian companies are trying to go abroad, like Lukoil going to Cameroon, Guinea and so on, do you see many possibilities for the Russian contractors and subcontractors to follow their clients abroad?

Promstroi Group is currently negotiating some foreign projects – in Libya and Iraq for example – so we are quite advanced. International experience is very important from the point of view of the costs. We intend to launch more foreign projects in the Minor East over the course of 2010. This region will be very important for us. We also work in Kazakhstan but I don’t really see it as an international market. Promstroi Group will be more and more focusing on the international markets, and I believe we can compete with other foreign players.

When you enter international markets, it is likely that there will be consortia of both other Russian companies and international corporations such as Eni, Statoil, etc. What is your final message to our oil and gas readers on why they should choose Promstroi Group as their partner in construction?

I would recommend them to read the biographies of our top management and refer them to our portfolio of construction projects that speak volumes. Promstroi Group has been on the Russian market for 28 years. Some companies might have been around longer but Promstroi boasts a top management with an average of 20 years of experience on the market.

We’re awaiting the arrival of more Western companies. We have always pursued the policy of establishing consortia. So far, such partnerships have not materialized yet but we are confident that this will change. Our promise begins with the agreed price. Promstroi is efficient and reliable. People can rest assured working with us.

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