Arctic Exploration the Next Frontier for Russian Oil and Gas Extraction

As production at Russia’s mature oil and natural gas fields begins to decline, the country is looking to exploit the vast natural resources of its continental shelf to maintain its position as one of the world’s largest energy producers. Renewed interest in the untapped resources of the Russian Arctic has the potential to boost global supplies of oil and gas and secure long-term resources for domestic consumption and export. While estimates remain uncertain – less than 10% of the region has been explored – it is thought that the area could contain as much as 100bn tonnes of fuel equivalent, of which approximately 80% is natural gas.

Planning to access some of these reserves is already underway. Gazprom initiated geological exploration in 2011 and 2012 across Taz Bay in the Kara Sea and on the Kamchatka and Sakhalin shelves in the Sea of Okhotsk in the Far East. During the remainder of 2013, two exploratory wells are to be drilled at the Sakhalin III project and Gazprom have applied for another 20 exploration licenses for blocks in the Barents, Kara, East Siberian and Chukchi seas. Prospects for unconventional oil and gas extraction from fields in western Siberia could also aid this trend in coming decades, given the existence and availability of the appropriate technology.

Global trends necessitate renewed exploration efforts

Developments on global oil and gas markets, such as the US shale boom, have compromised Russia’s position as an energy hegemon. The rise of cheap liquefied natural gas (LNG) imports to Europe from the US and elsewhere risks undercutting the price of Gazprom’s supplies and is likely to necessitate a renewed boost to exploration efforts. As such, the Russian continental shelf is expected to take centre-stage. Gazprom in particular will be looking for ways to reassert itself. Gazprom has seen profits fall in 2012 by 10% to US$38.2bn amid declining gas sales to European markets and amendments to contracts, including retroactive discounts to customers.

However, to effectively embark on production in the extremely hazardous offshore conditions in the Arctic, Russia requires investment from multinational energy majors. Neither Gazprom nor Russia’s largest oil company Rosneft has the technology or expertise to commence extraction activities alone. Both companies – which hold a virtual monopoly on oil and gas exploration and production in Russia – have resigned themselves to the necessity of joint operations with other energy majors. However, such endeavours carry risks for foreign companies, as Gazprom and Rosneft will likely look to restrict their revenues from what is perceived as a key strategic national resource for Russia.

Past projects warn of troubled investments in Russia

The consolidation of Rosneft has left foreign investors subject to growing state-control in the energy sector. The US$55bn acquisition of Anglo-Russian venture TNK-BP in March 2013 involved the procurement by Rosneft of the respective 50% stakes of TNK-BP held by BP and the consortium of Russian oligarchs, Alfa-Access-Renova (AAR). The deal affords Rosneft, which is 70% owned by the state, unrivalled control of Russia’s vast untapped oil resources and places it as the largest publically traded oil company in the world.

Developments concerning the Shtokman natural gas field also highlight the pitfalls foreign investors face when partnering with Russia’s state-owned enterprises. In August 2012, exploration at the enormous Shtokman natural gas filed in the Barents Sea – anticipated to hold reserves of 3.9tr cubic metres – was delayed indefinitely. After shelving the project, Gazprom attributed surging costs, falling European demand and the shale gas boom in the United States to its demise. However, this was not only a demonstration of the challenges and costs of operating in remote and hazardous environments, but also indicative of disagreements that Gazprom had with its foreign partners over competitive fiscal terms.

Forecast

The risks associated with investing in Russia’s oil and gas sector are likely to continue for the foreseeable future. However, given the vast estimated reserves, energy majors looking to gain a stake in Russia’s continental shelf are unlikely to be deterred by the pitfalls. A long list of investors has already expressed interest in collaborating with Gazprom and Rosneft to gain access to lucrative reserves. However, it remains to be seen whether increased production alone will be able to secure Russia’s position in global energy markets. Much depends on the success of Europe’s anticipated shale revolution and developments elsewhere over the coming decade.

Jamie Scudder – Senior Analyst at Maplecroft

The article is provided by Maplecroft, a Natural Gas Europe Industry Partner.  For more information about Maplecroft's in-depth Country Risk Report on Russia,  please email at info@maplecroft.com or call +44 (0)1225 420000.