Club members only: Would foreign companies be allowed to extract Ukraine's gas?

Foreign investors are making another attempt to break into Ukraine’s gas production industry. The competition to attract investors to the development of nine oil and gas areas on the terms of production-sharing agreements involves six foreign companies. Foreigners are taking part in the competition for the shelf area: the name of the winning company to be announced no earlier than September. Ukrgazvydobyvannia state-owned enterprise and companies owned by Ukrainian oligarchs also participate in the competition.

Crony gas perspectives

Despite the declarations of the authorities, in recent years not a single major foreign investor was able to enter Ukraine. Permits for the best deposits were concentrated in the hands of the Ukrainian oligarchs and state-owned companies; about a third of them fell into the hands of the speculators. Almost 80% of gas in Ukraine is mined by the state-owned Ukrgazvydobyvannia and the semi-state-owned Ukrnafta (oligarch Igor Kolomoysky maintains control over the company). Private companies have no more than 20% of production – DTEK strategic holding company of oligarch Rinat Akhmetov, companies controlled by Igor Kolomoysky, Regal Petroleum, part of Smart Holding of MP Vadym Novinsky, Geo Alliance of oligarch Viktor Pinchuk, Burisma company of Mykola Zlochevsky.

Another part of special permits is concentrated in the hands of second-hand dealers, who are waiting for the best time to resell the companies. At the same time, these blocks do not operate. According to the State Service of Geology and Mineral Resources of Ukraine, there is about a third of “frozen” special permits.

After world giants Shell and Chevron left Ukraine in 2014-2015, foreign companies in the field of gas production were represented rather modestly. Cub Energy operates in Ukraine, the largest shareholder of which is Mikhail Afendikov, a native of eastern Ukraine, which has become a US citizen. The company implements, in particular, a joint (50 to 50%) project with the Slovak Nafta on the Uzhgorod gas area (301.4 sq. km). Gas production within the framework of this project is not in progress yet: a 3D seismic survey was carried out on the area, which made it possible to estimate possible reserves, three exploration wells were planned to be drilled.

Since 2015, Nafta has been trying to become a party to the production sharing agreement for Yuzivska Square (Kharkiv and Donetsk regions), from which the American Shell emerged. According to the Nadra Ukraine national company, Yuzivska PSA Block is promising for the search for reserves of natural gas, shale gas, the gas of central basin type, methane, oil, condensate, and also coal deposits. Potential reserves of the area are estimated at 148 billion cubic meters of natural gas, 3200 billion cubic meters of shale gas/gas of the central-basin type. The area can give an estimated annual production of more than 10 billion cubic meters.

In mid-December, Ukraine’s Cabinet approved the transfer of 90% of the rights and obligations of Nadra Yuzivska to the production sharing agreement for Yuzivska PSA Block in favor of Yuzgaz B.V, belongs to entrepreneurs Yaroslav Kinakh and Timothy M. Elliott. Liubomyr Kopchyk, the director of Nafta representative office in Ukraine, voiced the intention to buy out 100% of Yuzgaz B.V from entrepreneurs, which would allow Nafta to enter the project and begin to study and develop Yuzivska PSA Block. The deal has not been completed yet. There are no necessary decisions of the Antimonopoly Committee and the Kharkiv Regional Council. Also, the environmental impact assessment is still not done. According to the World Bank, not only in the hydrocarbon industry but in general in the economy of Ukraine in 2018, foreign investment is only 2% of GDP, which is very small.

Why are foreigners interested in Ukraine’s subsoil?

The interest of foreign companies in the Ukrainian subsoil became obvious after two large-scale projects to attract investors to develop 9 areas on land and one on the Black Sea shelf. The total area of the plots exceeds 20 thousand square meters. The results of the competition on the shelf will be announced no earlier than September. After the major foreign players left in 2015, new ones did not come due to the lack of an attractive investment climate, said Roman Opimakh, Executive Director of the Association of Gas Production Companies of Ukraine.

"For many years, Ukraine had a monopoly of state-owned companies on oil and gas production, and there were practically no auctions for oil and gas subsoil. Moreover, hydrocarbon rent was extremely high. There was no access to the subsoil, regulatory environment, and regulatory systems were unstable, access to land was problematic, local authorities conducted situational blocking of work - these factors have created an unfavorable investment climate," the press service of one of Ukraine’s largest gas producing companies D Fuel and Naftogaz Energy Complex (they participate in a competition to conclude a PSA on Sofiivska and Zinkivska PSA blocks).

The current competition for 9 gas areas is the first serious competition and an attempt to attract an investor, said Vadym Bodayev, the head of the American Sigma Bleyzer Foundation in Ukraine (together with Aspect Energy applied for a PSA competition on Varvynska Block).

In recent years, Ukrainian authorities have done a lot of work to change the regulatory and investment environment in the field of gas production, Yulia Borzhemsk, manager of regulatory policy at DTEK Naftogaz, noted. “They have elaborated the special stabilization clause regarding the fixation of stimulating rents for the period from January 1, 2018, to January 1, 2023,” she stated.

What foreign companies claim to manage Ukrainian subsoil?

Vermilion Energy, the Canadian company, claims for four out of nine development projects on land on a PSA basis. The stock is listed on New York and Toronto stock exchanges. According to Opimakh, the company's main business is concentrated in North America: the region accounts for 62% of Vermilion’s total production. The company operates in 10 more countries: seven of them are located in Europe: France, Germany, the Netherlands, Ireland, Croatia, Hungary, Slovakia. Presented by Vermilion and in Australia. Its market capitalization is $ 5.5 billion. Revenue in 2018 is $ 1.25 billion, profit is $ 240 million. The company has experience in the extraction of traditional and unconventional gas deposits.

Slovakian Nafta together with EPH, a vertically integrated energy-industrial holding, which owns 68% of the company (another 29% is owned by the state of Slovakia), also claims to Sofiyivska PSA Block. EPH is among the ten largest energy companies in Europe. The total installed capacity of generating facilities, including two NPPs located in Slovakia, exceeds 24.3 GW, and the annual production of electrical energy reaches 100.2 TWh.

Pretending to Varvynska Block, Sigma Bleyzer is the largest private equity fund operating in the country with assets of over $ 1 billion. Its founder, Mikhail Bleyzer, emigrated to the United States in 1978, and from the 90s began to conduct business in Ukraine. The most successful and well-known project of Blazer is the creation of Volya Kabel telecommunication company, which has become the largest provider of television and the Internet. The fund withdrew from the project in 2007, selling the company at a price peak for about $ 300 million with an initial investment of $ 12 million. In total, Sigma Bleyzer invested up to 100 million euros in telecommunications. One of the co-investors was the EBRD.

Who else wants to produce gas?

Competition to foreign companies in the PSA competition consists of the largest Ukrainian gas producers. In particular, the company DTEK Naftogaz, which specializes in deep drilling (over 5 thousand meters). Since 2013, the company has increased its gas production in Ukraine three times. DTEK Naftogaz participates in tenders for Sofiyivska and Zinkivska PSA Blocks.

Ukraine’s well-known gas producers Geo Alliance Group of Viktor Pinchuk (claims for Sofiyivska Block), Ukrnaftoburinnia of Igor Kolomoysky, Vitaliy Homutynnik, and Pavlo Fuks (claims for Rusanivska and Zinkivska PSA Blocks) also take part in the competition. Ukrnaftoburinnia also claims on the site “Dolphin,” located on the shelf. Semi-state enterprise Ukrnafta, co-owned by Kolomoysky, also takes part in the competition. Despite the difficult situation with tax debt and regulatory restrictions, the company increased production by 10.1% over 5 months of the current year, producing 481.5 million cubic meters of gas. Ukrnafta filed applications for Rusanivska and Sofiyivska PSA Blocks. Eurogas Ukraine is one of the participants, but there is no information about it, it claims for Zinkivska Block.

However, the biggest irritation among market participants is caused by Ukrgazdobuvannia, which, in addition to the four areas for which it claims together with Vermilion, has applied for five other areas on land. The claims of Ukrgazdobuvannia in all nine areas are not clear. This is not a private company. According to our information, at least 70 licenses that the company already has are not completely used.

Unofficially, Ukrgazdobuvannia talked about some interests in developing f the shelf. In addition, another subsidiary of Naftogaz, Chornomornaftogaz company, has extensive experience in drilling on the shelf.

Why does Ukraine need foreigners in its gas production?

In such conditions, it is difficult to predict whether foreign investors will be able to win the battle, however. However, if at least one foreign investor concludes a real PSA in Ukraine, there will be many more advantages than disadvantages.

In particular, this will increase the attractiveness of Ukraine in the eyes of other foreign players, who are closely watching the development of the situation. It also activates the demand for services, and in fact, even the processes that occurred in the last 5 years in the country, gave a huge boost to the service market. Over the past three years, such players as Schlumberger, Halliburton, Baker Hughes GE, Weatherford, NOV, Bentec, Crosco, Honghua, National Oilwell Varco, Tacrom, Belarusneft have entered Ukraine over the past three years, Ukrgazdobuvannia press service reported.