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Expert: Russia overtakes Saudi Arabia as world's largest oil and fuel exporter
[April 23, 2006]

Expert: Russia overtakes Saudi Arabia as world's largest oil and fuel exporter

(Al Bawaba Via Thomson Dialog NewsEdge)Russia has now overtaken Saudi Arabia as the world's largest oil and fuel exporter. Meanwhile, the bubbling liquidity of Russian energy companies is fuelling a flurry of Merger and Acquisition (M&A) activity across all aspects of the energy sector from refining and transportation companies to downstream petrochemicals and gas station chains.

Dr Gil Feiler, in a lecture delivered at a recent international forum estimated that the international M&A market in 2005 in Russia grew at least 50% in comparison to 2004 and now stands at well over $50 billion. Feiler has been closely monitoring M&A developments within the Russia oil and gas sector since the fall of the Soviet Union. His estimates are in line with a report by Ernst and Young suggesting that Russian acquisitions abroad stood at over $10 billion for 2005 and are likely to reach $15 billion for 2006. The report outlined a total of 480 deals involving Russian companies were registered, up 64% from the previous year. The average deal to acquire a Russian company was worth some $87 million against $96 million in 2004.

The bulk of the growth has been generated by the oil and gas industry - well over half the deals. Since turn of the century, Russian companies have shown an avid interest in Western gas station chains. Lukoil controls thousands of US gas stations after acquiring the American company Getty Petroleum Marketing and its 1291 service stations in 13 Atlantic coast states, for about $60 billion as early as 2001. Several per cent of the gasoline sold in the United States is marketed under the Getty brand name. Then, about a year later, Lukoil purchased 795 service stations in New Jersey and Pennsylvania from ConocoPhilips for $265.75 million.

M&A activity is not confined to the energy sector. Other growth sectors include coal, steel, car manufacturing, aluminum, timber, mining and financial services, which are all also expected to continue to grow rapidly.

M&As are a necessity for Russia Inc. The Russian business world remains tightly concentrated and there is a strong awareness that organic growth from within Russia needs to be complemented by M&As. Less than ten business groups control 85 percent of revenue from Russia's 64 biggest private companies, according to a recent report by Peter Boone and Denis Rodionov, economists at the Moscow-based subsidiary of UBS Warburg, a Swiss investment bank.

This brief memo gives an overview of: - M&A Growth drivers of Russian M&A activity out of Russia- Foreign investment into Russia- Pipeline activity M&A Growth Drivers Feiler is confident that rapid growth will continue in 2006 and 2007 as a result of the following factors: 1. There has been an impressive overhaul in attitude to corporate governance among Russian oil companies.

Lack of transparent corporate governance has been a major obstacle to investment both into and out of Russia. On the one hand, Oil Majors have been apprehensive of reputational risk being associated with potential criminal elements which litter the sector. The term Corporate Raider in Russia has usually been literal with M&A activity taking place through violence or extortion. On the other hand, the efforts of Russian companies to invest overseas, and therefore become convincing world players in their own right, have been hampered by this image. For example, at the end of 2004, in what led to a major change in attitude in the Russian oil sector, efforts to by Lukoil to enter the Polish oil industry were rocked by claims that Russian interests tried to bribe a Polish government minister in what became an embarassing failure to buy the Gdansk oil refinery, which was being privatized. A parliamentary commission in Warsaw ensued.

A senior partner at the accounting and advisory firm KPMG who worked on the recent landmark BP and TNK M&A deal reaffirmed that recent moves by Russian firms to comply with international business standards and increased willingness to work with international accounting and consulting firms have helped mitigate some of the corruption scandals affected the Russian oil and gas sector. There is also an attempt by Russian companies to team up with 'clean' European companies such as the aggressive German E.ON.

A comparison with America's boom years at the turn of the last century is apposite. Corporate heavyweights flexed their muscles and cut legislative corners to form corporate fiefdoms and only then did they begin obeying the rules.

2. Excess liquidity of the Russian oil giants Once corporate governance issues are cleared, Russia has a ready audience for its capital. principally in Europe, especially among erstwhile Soviet bloc allies - but also to an increasing extent in Asia. These growth economies encumbered by big trade deficits are vying for capital inflows. Russian funds are both welcome and needed.

3. High GDP growth rates in Russia The double digit growth of Russian oil companies and spiraling prices will keep them liquid through 2006 and 2007, and therefore keen on M&A activity. Hikes in oil prices have injected not only capital but confidence - and appetite for acquisitions.

4. Increased international diplomatic presence has a commercial agenda Russias high profile current efforts to boost its international diplomatic profile have a distinct commercial agenda. Russia has invested considerable strategic energy in Iran, China and Arab countries. It is clear that Putin's Russia is intent on restoring the diplomatic clout of the Soviet Union. This goes hand in hand with a more proactive and aggressive business climate. Russia is already benefiting from investments in the Iranian and Chinese energy sectors, which have also won the country many diplomatic points.

Viktor Orban, former Hungarian prime minister has stated that he believes Russian investment attempts in Hungary serve foreign policy as much as foreign trade. Gazprom, Russia's gas monopoly have made repeated attempts to take over strategic Hungarian assets.

5. Russian Know-How Russian oil companies actually benefited from the devaluation of the rouble in 1998, which saw domestic production costs fall by 70% in dollar terms. This allowed managers to refurbish their ailing equipment and invest heavily into reservoir management and upstream production. As opposed to a few years ago, many Russian oil companies boast new machinery, state of the art technology and imported Western know-how. Geologists now study 3D computer models of new deposits before embarking on expensive exploration tests.

The alliance with foreign contractors has been so successful that Russia itself is ready to offer these services to other developing markets, particularly China and Iran.

Investment into Russia In recent years, large energy companies from a range of countries have felt misled and even tricked by the Kremlin. ExxonMobil and ChevronTexaco were stung when they forfeited the right to develop three blocks of the Sakhalin-3 oil and gas fields. The reason lies in the murky and contradictory pronouncements emanating from the Kremlin, which depressed confidence in the Russian business environment. The fall-out from this event still has not been remedied. The French company Total was not able to win approval for investor's costs for developing the Kharyaginskoe oil field (Nenets Autonomous Area). The French claim they spent approximately $350 million dollars in 2001 and 2002.

Big Russian deals have consistently gone in favor of such Russian firms as Gazprom, Rosneft and Surgutneftegaz or JVs between these companies such as ZAO Sevmorneftegaz, formed by Gazprom and Rosneft on a parity basis.

However, the success of the BP TNK deal has begun to change the attitude of foreign players.

Pipelines A major catalyst for investment and M&A activity is pipeline development. In a more in-depth study, we can go into details of the politics behind the politics of the many planned pipelines. These projects not only involved huge investment and logistical planning but come to the nerve of geo-political sensitivities and the strategic meanderings of the world powers.

Conclusion The Russian oil market is saturated by the interests of powerful oligarchs and Kremlin forces. The increased concentration of energy assets in the past few years has given Russian oil majors no choice but to venture overseas.

The huge build up of cash in the Russian energy sector stands to make Russia a new and dominant force in the international M&A market.

In an in-depth study Feiler will go into the strategy of the major Russian oil players: SibneftTNKYukosSidankoONAKO Oil CompanySlavneftRusia PetroleumRospan InternationalRosneft SurgutneftegazLukoil 2006 Al Bawaba (

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