2008, Cambridge Energy Research Associates, Inc. No portion of this presentation may be reproduced, reused, or otherwise distributed in any form without prior written cons 1 CERA_London RT_November 2008 Higher School of Economics Moscow October 27 2008 The Outlook for Russian Oil Supply Thane Gustafson CERA
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1. A Brief Look Back:— The “Russian Oil Miracle” 1999-2004— The Slow-Down 2005-2007— The Stagnation 2008--?
2. What is the Industry Suffering From?— Capital Starvation— A Shortage of Profitable Opportunities— Excess Taxation
3. Will Tax Relief Be Enough?— No: Too Small— No: Wrong Problem
4. The Real Problem: the Era of High Rents is Over (Gas Too)— The next generation of oil and gas will be higher-cost— Too many claimants and too little rent— The state will have to cut back its share—but can it do so?
During the Period 1999–2005, Russian Oil Output Grew Strongly (Led by a Resurgence in West Siberia), Coming as a Major (but Welcome) Surprise for Global Oil Markets
• January 2007: As Oil Production Growth Slowed in 2005-2006, Government Granted Two Forms of Modest Tax Relief:
— Holiday from MRET for upstream projects in Sakha, Irkutsk, and Krasnoyarsk
• Really done to provide oil for ESPO — Modest differentiation: 70% MRET reduction for “hard-to-recover” oil
in selected fields (more than 80% depleted)— But impact largely symbolic: less than $250 million in 2007
• Because of technical quirk, companies unable to take advantage of “hard-to-recover” measure
• January 2009: Additional Measures Go into Effect:— Threshold of MRET raised from $9/bbl to $15/bbl— Number of regions eligible for MRET holidays expanded— Finance Minister Kudrin estimates new package worth 100 billion
rubles/year (~$3.7 billion) in tax savings to industry• “Not enough,” says Oil Industry:
— By April 2008, companies calling for higher MRET threshold and cuts in export duty
What’s Wrong with Government’s Tax-Relief Program to Date?
• Too Modest in Scale:— $4 billion in tax cuts small compared to the industry’s total upstream
capital spending of nearly $23 billion in 2007— Government reluctant to cut export taxes, by far larger issue
• Aimed at Wrong Problem:— Aimed at stimulating new development in frontier provinces— No incentive to add and produce reserves-in-place from existing fields
• Does Not Correct Basic Flaw:— System taxes production (gross revenues) instead of profits— Too blunt an instrument: “one size fits all”— Fails to encourage efficient production of higher-cost oil
The Russian Oil Industry—and the State--Are at a Fundamental Divide
• Era of Rapid, Low-Cost Growth in Production is Over:— Low-cost “post-Soviet” legacy opportunities running out— From now on, new oil will be much more costly
• Next Generation of Russian Oil Will Generate Less Rent— Rents historically divided among three main claimants: the state, the
industry (for reinvestment), and its shareholders— If reinvestment needs go up, then share remaining for shareholders
and the state will have to go down— Yet returns to shareholders are already much lower than international
norms— Lower oil prices only aggravate the basic problem
• Two Bottom-line Implications: — As profits and dividends decline (while capex goes up), company
market values (and therefore share prices) will remain low— State revenues from oil will decline sharply; a new tax reform, to re-
broaden the tax base, will be essential• This Will Be Politically Very Painful: Will The State Actually
Leave the Oil Industry the Investment Capital It Will Need?
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