07MOSCOW2563, RUSSIA ENERGY: THE BATTLE OF KOVYKTA — MORE THAN

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Reference ID Created Released Classification Origin
07MOSCOW2563 2007-06-01 03:21 2011-08-30 01:44 CONFIDENTIAL Embassy Moscow

VZCZCXRO2053
OO RUEHDBU RUEHFL RUEHKW RUEHLA RUEHROV RUEHSR
DE RUEHMO #2563/01 1520321
ZNY CCCCC ZZH
O 010321Z JUN 07
FM AMEMBASSY MOSCOW
TO RUEHC/SECSTATE WASHDC IMMEDIATE 0768
INFO RUEHZL/EUROPEAN POLITICAL COLLECTIVE PRIORITY
RUEHXD/MOSCOW POLITICAL COLLECTIVE PRIORITY
RUEHBJ/AMEMBASSY BEIJING PRIORITY 4239
RUEHNE/AMEMBASSY NEW DELHI PRIORITY 1112
RHEHNSC/NSC WASHDC PRIORITY
RHEBAAA/DEPT OF ENERGY WASHDC PRIORITY
RUCPDOC/DEPT OF COMMERCE WASHDC PRIORITY

C O N F I D E N T I A L SECTION 01 OF 02 MOSCOW 002563 
 
SIPDIS 
 
SIPDIS 
 
DEPT FOR EUR/RUS WARLICK, HOLMAN, AND GUHA 
DEPT FOR EB/ESC/IEC GALLOGLY AND GARVERICK 
DOE FOR HARBERT/HEGBURG/EKIMOFF 
DOC FOR 4231/IEP/EUR/JBROUGHER 
NSC FOR KLECHESKI 
 
E.O. 12958: DECL: 05/18/2017 
TAGS: EPET ENRG ECON PREL RS
SUBJECT: RUSSIA ENERGY: THE BATTLE OF KOVYKTA -- MORE THAN 
MEETS THE EYE 
 
 
Classified By: Econ M/C Quanrud.  Reasons 1.4 (b/d). 
 
1. (C) Summary: Rumors are rife that TNK-BP will lose its 
license any day now for the development of the Kovytka gas 
field, but a more complicated story may be playing out 
instead.  Senior TNK-BP management says the company has 
offered Gazprom good terms to get the gas monopoly into the 
project and offered to send Kovytka gas to the Russian 
domestic market (rather than export it to China). For its 
part, BP has put overseas assets on the table as part of a 
package deal.  Gazprom, however, seems intent on a simple 
acquisition, which TNK-BP suggests is part of a focus on 
capturing Kovykta's cash flows rather than entering into a 
more complicated, but potentially more mutually profitable 
deal.  TNK-BP thinks Gazprom is executing a strategy intended 
to take back something that the Kremlin feels was unfairly 
privatized in the 1990s.  TNK-BP's Board is meeting now on 
the deal, and Gazprom's CEO Miller and BP's Hayward will meet 
into the evening.  Shifting alliances may be in play: TNK-BP 
believes that Board Chairman and First DPM Dmitry Medvedev 
and Miller are under attack from PA Deputy Head Igor 
Sechin-linked players within Gazprom itself, the latter are 
reportedly responsible for the Rosprirodnazor regulatory 
attacks on Kovytka.  End Summary. 
 
2. (C) On May 24, Econ M/C met with senior TNK-BP management 
to discuss what looks like the end-game on Kovykta.  The 
company is in intense discussions with Gazprom and has put 
forward, "very concessional offers" in an effort to resolve 
the impasse over development of the multi-trillion cubic 
meter field.  BP's partners in TNK-BP (Mikhail Fridman, 
Viktor Vekselberg, and Len Blavatnik) flip-flop daily about 
whether to hold out or sell the asset.  The driving force 
behind this week's events is the threat by Rosprirodnazor's 
Oleg Mitvol to pull the Kovykta license from Rusia Petroleum 
-- majority-owned by TNK-BP -- as early as June 1.  A 
regional court threw out TNK-BP's appeal against 
Rosprirodnazor's right to revoke the license earlier this 
week. 
 
3. (C) Our contact continued that Gazprom Chairman (and first 
DPM) Dmitry Medvedev and CEO Miller are under attack from 
those in Gazprom linked to Igor Sechin, the deputy head of 
the Presidential Administration and Chairman of Rosneft. 
Mitvol, who infamously brought the environmental charges 
against Shell's Sakhalin-2 project, is only the visible part 
of this attack.  Medvedev's enemies are accusing him of being 
ineffective and responsible for a host of "failures," 
including ruining the Sakhalin-2 deal (i.e. having paid too 
much to acquire it) and for not reacting quickly enough to 
Russia's looming gas imbalance problem.  (Comment: Gazprom is 
not alone in this -- a well-connected source tells us that 
Rosneft's President Sergey Bogdanchikov is under fire from 
the FSB for being "ineffective" as well.) 
 
4. (C) In a May 25 meeting with EUR/RUS Director Mary 
Warlick, Kris Sliger, TNK-BP's EVP for Strategy said that the 
politics surrounding Kovykta are more important now than the 
economics.  No one should expect to earn anything more than 
single digit rates of return on high-profile Russian projects 
like this.  In fact, Kovykta is not that lucrative for 
TNK-BP, as there are far better places -- both in Russia and 
abroad -- to put the marginal dollar right now.  The TNK-half 
of TNK-BP likes venture capital rates of return and as such 
is not fired up about Kovytka (or about the long-term 
prospect of owning a relatively low-return "commodity 
company" like TNK-BP).  They do, however, like the potential 
cash flow this project and TNK-BP could provide.  (Comment. 
Western TNK-BP officials have told us on several occasions 
over the past few months that the Russian partners would exit 
the investment sometime this year.) 
 
5. (C) TNK-BP appears to be backing off some redlines they 
have previously set as well as adding new sweeteners.  For 
example, TNK-BP tabled a proposal to send Kovykta gas to the 
domestic market -- something many in Gazprom have long sought 
-- rather than exported to China.  In addition, BP management 
has offered attractive overseas deals as part of a package 
with Kovykta.  Gazprom is instead looking for a relatively 
 
MOSCOW 00002563  002 OF 002 
 
 
straight forward buy-in, and the two firms have been in 
intense negotiations to find a middle ground.  Shawn 
McCormick, head of TNK-BP's government relations department, 
told us his company is holding a Board meeting today to 
discuss the way forward.  BP's new CEO Tony H
ayward is in 
Moscow for the meeting. 
 
6. (C) TNK-BP speculates Gazprom is being driven by many 
considerations, some of which date back more than a decade. 
Gazprom appears to want in on the cash flows from Kovykta (a 
simple concept to understand) rather than becoming enmeshed 
in a more complicated, global deal.  The impasse also appears 
to be about rectifying perceived past wrongs stemming from 
the 1990s privatizations.  This argument holds that Sidanco 
-- the company that obtained the Kovykta license in the 1990s 
and later sold it to TNK -- should never have gotten control 
over the field to begin with, and certainly not for the song 
that they paid. 
 
7. (C) Comment: The fact that BP CEO Hayward is in town tells 
us that BP and Gazprom are working hard to come to some sort 
of deal prior to the threatened withdrawal of the Kovykta 
license.  We know that lengthy negotiations between the two 
companies are happening almost every day.  The contours of 
any deal are a matter of pure speculation at this point.  But 
if we had to bet, Kovykta could well be wrapped into a 
broader redistribution to Gazprom, which could surprise us 
with a market valuation that BP could defend to its 
shareholders, as Shell was able to do in the Sakh II case. 
The apparent internal attacks on Miller/Medvedev and 
Bogdanchikov tell us that there is more than a 
Gazprom/Rosneft rivalry in play and that alliances and feuds 
have crossed company lines, and alliances seem to be shifting 
rapidly, especially in light of the election cycle. 
BURNS

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