Shell offers control over Sakhalin-2 to Gazprom

MOSCOW: Royal Dutch Shell has offered to cede control of the $22-billion Sakhalin-2 project, Russia’s biggest single foreign investment, to state gas monopoly Gazprom after months of government pressure, industry sources said.

An agreement in principle for oil major Shell to reduce its 55% stake to a blocking stake of at least a quarter in the world’s largest liquefied natural gas (LNG) project was reached at talks last week, sources said.

Both companies confirmed that Shell CEO Jeroen van der Veer had met Gazprom head Alexei Miller in Moscow on Friday, but declined to go into detail on their talks. “I can confirm that Shell CEO Jeroen van der Veer met Gazprom head Alexei Miller and energy minister Viktor Khristenko in Moscow on Friday to discuss Sakhalin-2-related issues,” a Shell spokesman said on Monday. “The discussions were positive but their contents remain confidential.”

The tentative understanding comes after months of pressure from Russia’s natural resources ministry and its environmental regulator, which have accused Shell of ecological violations in project work on the remote Far Eastern island of Sakhalin.

Gazprom chief spokesman Sergei Kupriyanov said, “Shell did indeed make several proposals concerning Sakhalin-2 at a meeting on Friday... Gazprom has yet to decide on Shell’s proposals because the project’s problems, including ecological problems, remain in place.” The energy ministry declined comment before a briefing by Mr Khristenko on Tuesday.

Industry analysts suspect the official campaign was designed to secure better terms for Russia, which has no equity stake in Sakhalin-2 under a production-sharing agreement struck in the early 1990s. Work on Sakhalin-2, which will supply an LNG processing facility with a capacity of 9.6 million tonnes per year, is mostly complete but threats of license withdrawals, fines and litigation are disrupting progress.

Industry watchers say a high-profile campaign waged against Shell by Oleg Mitvol, deputy head of environmental agency RosPrirodNadzor, may come to an abrupt end if Gazprom does secure control of Sakhalin-2.

“All of these environmental claims will go away now — that’s the way deals are done in Russia,” one senior investment banker said. Shell’s London-listed A shares were down 0.6% at 1,807 pence to value the firm at £117 billion ($228 billion). State-controlled Gazprom’s shares rose 0.2% to 306.50 roubles ($11.69), valuing it at $277 billion. A doubling of estimated costs at Sakhalin derailed an earlier deal under which Shell would have swapped a one-quarter stake in Sakhalin for an interest in Gazprom’s Zapolyarnoye gas field, located north of the Arctic Circle in West Siberia.

Now, sources familiar with the matter say, Gazprom will swap field assets and possibly make a cash payment for a controlling stake of over 50% in Sakhalin-2, now operated by Shell. Asked whether a cash payment would be added to the asset swap involving Zapolyarnoye, one industry source said, “That was the original deal, but deals change.” In the transaction, Shell’s project partners — Japan’s Mitsui and Mitsubishi — would reduce their stakes, now 25% and 20% respectively. Another industry source has said the Japanese companies may sell 10% each, thus enabling Gazprom to secure majority control.

Mitsui said it was checking the Reuters report. Mitsubishi said it was not aware of the content of the Sakhalin-2 talks between Shell and Gazprom, but added that it had no plans to exit the project entirely.

One Moscow-based investment banker told Reuters last week that Gazprom was poised to secure a majority in Sakhalin.
“It’s likely to follow the general trend of state companies getting control,” the banker said, adding he expected a final resolution to the long-running conflict in early 2007.

The project will continue to operate on the basis of a production-sharing agreement, an arrangement whereby project costs are first defrayed before revenues accrue to the Russian state. “The PSA stands,” the industry source said.