Continuing uncertainty about Russia's legal code means more delays are inevitable for new oil and gas projects in northern and western Siberia.
Many potential investors say they are unwilling to proceed with proposed upstream deals until Russian officials:
- Amend the production sharing agreement (PSA) law passed late last year.
- Reform federation customs and tax laws.
- Revise pipeline tariffs on oil exports.
Russian officials and foreign companies alike claim progress in efforts to bring about needed change. But members of the Russian Duma late last month narrowly defeated legislation aimed at easing investors' worries about how conflicting tax laws will be applied, indicating more work is needed.
Russia's PSA law establishes guidelines for sharing oil and gas production and sets up a hydrocarbon tax regime intended to replace all other local and federation levies.
However, the PSA law as enacted is parallel to other Russian laws. So the Russian government must conform such statutes as the value added tax, profit tax, excise duties, and resource replacement tax to the PSA law to enable foreign companies to forecast their tax liabilities.
"Many western companies say that until taxes are reformed and pipeline tariffs are enacted that allow them a reasonable return on investments, they can't go forward," said Chuck Buck- ner, director of Ernst & Young LLP's energy group office in Moscow.
Ernst & Young coordinates the Foreign Investment Advisory Council, a group composed of Russian political leaders and executives of more than 25 multinational companies.
PSA complaints
Many foreign oil companies complain the PSA law would allow the Russian government to unilaterally void upstream oil and gas deals with little cause.
They point to a passage in Article 17 of the PSA law that allows changes to an oil and gas PSA "at the request of one of the parties in event of a significant change in circumstances, in accordance with the civil code of the Rus- sian Federation."
Some critics say the passage is too broad and would allow the Russian government to throw out a PSA without just cause. Others says it opens the door for the government to legally nationalize the assets of a PSA project.
"Oil companies would tell you the PSA ought to be the final agreement," a western official said.
Pipeline tariff concerns
Similarly, Russian officials say tariffs on Transneft's oil pipeline system are based on costs of service. However, pipeline officials are reluctant to reveal details of the computation.
Transportation costs have increased in part because of big declines in oil pipeline throughput in the past 5-6 years. Many foreign companies say tariffs also are higher because Transneft is transporting as much as 20% of current volumes free of charge to help various government programs earn much needed hard currency and credits (OGJ, Newsletter, Aug. 19).
In addition, the Transneft system doesn't have a batching system in place to enable shippers to transport crude of differing qualities. So producers with higher quality crudes say they can't obtain reasonable value for their supplies.
Broader political base
Already complaining that pipeline tariffs are increasing too rapidly, many foreign companies fear that with Russia's oil output still declining, future costs of exporting crude still could go much higher.
Ernst & Young's Buckner says all of the above issues fit together.
With its gross national product down 40% in recent years, Russia needs the jobs and revenue that foreign investment into upstream oil and gas deals could provide. At the same time, many Russian companies need to cut costs and become more efficient to help attract investors.
Reforming taxes and amending the PSA law would help make oil and gas investment in Russia more attractive as well as help reverse the country's oil production slide. Increasing oil production would boost transportation volumes, creating a broader financial base over which Transneft could spread costs.
But if Russia can't achieve tax reform and better control pipeline tariffs, the production decline likely will continue, rather than level out, as many have predicted.
"It's one thing to convince officials in the Yeltsin government how the private enterprise system works," he said. "But we've got to spread that understanding to a broader base to achieve politically what we need to get done.
"If we can't get it across to the members of the Duma, we haven't brought the ball home yet."
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