June 20, 2006

Gazprom Invites Shell to Nadym

Russia’s gas monopoly, Gazprom, intends to set up a venture with Shell to process gas into a synthetic diesel fuel. The venture will build a works of 12-bcm annual capacity in Yamal-Nenets Autonomous Region. This move will extend the life of the fields of low-pressure formations and offload the uniform gas transport system in Nadym-Pur-Tazovsky region.

Gazprom and Shell are willing to construct in Nadym Russia’s first works to produce synthetic diesel fuel. The annual capacity will be 12 bcm, said Alexander Ryazanov, deputy chairman at Gazprom’s management committee. Gazprom needs the works because it is necessary to process the gas at place of production due to the lower formation pressure at Nadym-Pur-Tazovsky field.

Representatives of Gazprom declined to elaborate about the provisions of setting up the venture or the dates of the works’ construction.

Gazprom produces 80 percent of the gas in Nadym-Pur-Tazovsky Region, but 80 percent of the region’s fields suffer production decline. The new works will increase the yield, offload pipelines and reduce technological risks. Unlike the liquefied gas, synthetic diesel fuel could be delivered by ordinary tankers at low cost.

October 18, 2004 

Novatek: A Gas Giant You’ve Never Heard Of

The reserve-rich newcomer just partnered with Total. The goal: Get even bigger fast.

It’s a company few people have heard of. Little is known about its owners or its origins. It isn’t listed on any stock exchange and only recently began publicizing itself to investors. Oh, one more thing: It’s worth around $4 billion.

Meet Novatek, a Russian gas producer that has just clinched one of the biggest foreign-investment deals in Russian history. On Sept. 22, France’s Total (TOT ) announced plans to buy 25% plus one share of Novatek. According to market sources, Total will pay $1 billion. Not a bad price for a company that was only founded 10 years ago, began significant production two years ago, and is not exactly a household name even in Russia. But the price may well be worth it: “Novatek is an excellent platform for further expansion in Russia,” says Kaha Kiknavelidze, oil and gas analyst at Moscow brokerage Troika Dialog.

Put Russia and natural gas together in a sentence, and most people think of Gazprom, the world’s biggest gas producer. But independents such as Novatek pump out an ever-growing share. True, Novatek, with just 3% of Russia’s gas output, is a mere fledgling compared with Gazprom. But while Gazprom managed to boost its output by just 3.7% last year, Novatek’s was up 59%, and it’s on course for a 48% hike this year, to 13.5 billion cubic meters. Novatek is sitting on top of an estimated 1.5 trillion cubic meters of gas, with audited reserves of 864 billion cubic meters of gas and 956 million barrels of crude oil.

Who are these Novatek guys anyway, and how did they acquire so much gas? Unlike most of Russia’s energy companies, Novatek didn’t pick up its lucrative acreage during the privatization free-for-all of the 1990s. It grew out of the Kuibishev Pipe Construction Co. in Samara, which was privatized and sold to management in 1991. Novatek’s mineral wealth came later, when managers had the bright idea of diversifying into oil and gas extraction. “We didn’t receive anything. Everything the company has was created during the last 10 years,” says Leonid V. Mikhelson, Novatek’s CEO and the former general director of the pipeline company. In 2003, Novatek reported net profits of $110 million, up from $20 million the year before.

Savvy management

Novatek owes much of its growth to smart investments. In 1994, Mikhelson and his partners teamed up with a geological exploration company to prospect for gas in the far northern Yamal-Nenets region. Mikhelson’s background in pipelines gave him useful contacts there, and Novatek bought exploration licenses in the mid-1990s at a fraction of what they would cost today. “He’s a smart and tough manager who has taken advantage of all the opportunities given to him,” says Andrei Gavryushenko, editor of Delo, a Samara business weekly.

Pipeline access and regulated domestic prices are Novatek’s biggest problems. Gazprom has no legal obligation to give access to independent producers. Russians pay $28 per thousand cubic meters for gas, compared with $120 in western Europe, while independent producers are shut out of lucrative foreign markets by Gazprom’s export monopoly. Eventual liberalization of this sector may create openings for independents, and Russia has promised to hike domestic gas prices to $60. But reform has been glacial.

Novatek isn’t waiting for the starter’s gun. It aims to triple production of oil and gas condensate to 5.2 metric tons by 2010 and is investing heavily in refineries. Those ambitious plans require lots of cash. That’s why Novatek struck a deal with Total, and why it’s looking to international capital markets as well. It also explains why Novatek is revising its low-profile approach. “We weren’t interested in PR. We just got on with business,” says Mikhelson. The question now is whether Novatek can continue to do as well in the limelight as it has done in the shadows of Siberia.

By Jason Bush in Moscow

Russia‘s rush for gas widens gap between growing wealth and vanishing tradition

In the far north, Vladimir Putin’s plan to exploit Europe’s energy hunger is opening a social divide.

Tom Parfitt in Zapolyarnoye gasfield

Friday July 14, 2006

The Guardian

Far from civilisation in the endless tundra of the far north, an army of workers is toiling to fuel President Vladimir Putin’s vision of a new Russia. In summer a swarm of mosquitoes and gnats rises from the festering swamps, crawling down collars and up trouser legs. In winter the temperature plummets to -60C (-76F).

“It gets to you, however tough you are,” said Igor Sbornov, 34, senior engineer at the UKPG-1S gas processing plant north of Novy Urengoy, beyond the Arctic Circle. “Even a stone shatters if you move it from fire to ice.”

The rigours of working in this wilderness 1,800 miles north-east of Moscow are amply rewarded by the world’s biggest natural gas supplier, Gazprom. Mr Putin’s rush to build a mighty state on the back of Europe’s growing energy hunger – the central theme of this weekend’s G8 summit – has created an industrial elite of gazoviki – gas workers – which shows up the gaping divide between Russia’s haves and have-nots.

About 90% of Russian gas is found here in the Yamal-Nenets autonomous region. Highly paid and socially protected, the gazoviki who extract and refine it live like gods compared with most provincial Russians. By contrast, just miles from the spotless corridors of UKPG-1S, a group of Nenets reindeer herders pushes north through the tundra in search of fresh pastures, their ancestral land increasingly eroded by pipelines, railways and gas plants.

“The oil and gas sectors bring most money into the budget and their lobbies are very strong,” said Andrei Salinder, a Nenets intellectual campaigning for the herders’ rights in Salekhard. “Who needs a few thousand native people? Our cry for help is a cry in the desert.”

Cradle-to-grave care

Gazprom’s nannied workforce, however, is swept in a comforting Kremlin embrace. A sprawling, paternalistic state-owned company, Gazprom ensures cradle-to-grave care. It pays premiums for loyal service and high pensions, and lays on subsidised holidays for its 30,000 workers.

At UKPG-1S on the huge Zapolyarnoye gasfield, engineers move between workshops along heated overhead walkways, specially designed so they can stay out of the winter cold.

“The weather may be extreme but everything else here is European standard,” Mr Sbornov said. At the purpose-built employees’ settlement nearby he is treated at a free medical centre, sees shows in a spacious concert hall and works out at a sports centre.

Many outposts are reached only by helicopter or all-terrain vehicle, and the gazoviki talk of “returning to Earth” when they go on leave. But once they complete a one-month tour of duty at drilling and processing stations they are flown to their home cities for a month’s recuperation. “We’re well looked after,” admitted Sergei Voloshanovsky, 38, another engineer at UKPG-1S. He earns 36,000 roubles (£725) a month, four times the average Russian wage.

To the west at Kharvutinskoye a new processing plant rises from the sucking mud of the tundra. Construction workers crawl over the giant structure, amid flashes of white light from welding lamps. “I came for the cash mostly, but not only that,” said Yury Nikolayev, 32, a worker from Chelyabinsk. “I like Putin and we’re helping rebuild our country here. Russia has the richest natural resources in the world.”

Increasing extraction on the Yamal and Tazovsky peninsulas is one of Gazprom’s biggest strategic targets, according to Oleg Andreyev, general director of its daughter company Yamburggazdobycha. That reassures the thousands of gas workers in the region who know they will be the last to go in the event of rumoured job cuts at Gazprom. Yet news of expansion spells doom for the Nenets people.

Yamal-Nenets is home to 6,000 of the last truly nomadic reindeer herders on the planet. Every year they migrate between the fringe of the forests known as taiga to their grazing lands on Russia’s northern fringe, by the Arctic Ocean.

Dressed in skins and living year-round in tepee-like tents called chooms, they cannot raise credit to develop their businesses because they have no official documents to show ownership of their herds. Their way of life is in jeopardy as Gazprom plans rapid expansion. “Yamal is not only rich in gas,” said Dmitri Khorolya, the head of a reindeer herders’ organisation in Salekhard. “It’s rich in the tradition and custom of native peoples.”

Gazprom’s plans to recover the estimated 10.4 trillion cubic metres found on the Yamal peninsula were “a very big threat” to the herders’ existence, he said. Construction of pipelines, railways and processing plants has already eroded the herders’ pastures, where deer feed on grass, moss and lichen.

Shooting reindeer

The gazoviki have been known to shoot reindeer for sport, while the dogs they bring from home run wild and prey on the animals. “A wild dog is worse than any wolf,” said Petr Terentev, a herder.

Gazprom says it has poured millions of dollars into social support for the Nenets, including schools and communications equipment. But compensation paid by gas and oil companies for the land they use goes into local government coffers, not the pockets of herders whose grazing is destroyed.

Mr Salinder said the worst insult was the gas workers’ contempt for local tradition. “They don’t care about our holy places, our burial grounds,” he said. “Imagine what it feels like when someone comes to the grave of your father and desecrates it.”

Energy from the freezer

Natural gas is produced at the world’s largest gas field in Western Siberia on the Polar Circle at temperatures as low as minus 50 degrees Celsius. The first joint German-Russian natural gas production facility is soon to start operation. The Achimgaz joint venture involving the WINGAS parent Wintershall and OAO Gazprom will thus have access to the largest natural gas reserves in the world. Read some more on the subject of supply security on the following pages.

Novy Urengoy – for workers at the world’s largest natural gas field on the Polar Circle in Western Siberia the rest of the world seems like a distant memory. “We live here in the far north,” says Vitali Popov. The 32-year old engineer has been working in the town of Novy Urengoy, 2,500 kilometres northeast of Moscow, for ten years. When he visits his homeland in the Urals or goes on holiday in warmer Turkey “I get into the plane and fly out into the big world,” says Popov.

25 years ago men like Popov built Novy Urengoy in the middle of the icy tundra, where temperatures fall to below 50 degrees and winter reigns for 253 days of the year. A treasure had been discovered below the permafrost – natural gas.

The components for the gas production plants were transported to the Urengoy Field across the ice on sledges and tractors and pioneer settlements consisting of simple huts rose from the ground. Today, when you look out of the helicopter you see that the riches stretch as far as the eye can see, to the drilling rigs on the horizon. The huge Urengoy Gas Field is more than 250 kilometres long and up to 60 kilometres wide.

Germany also needs the Russian natural gas. The gas pipeline winds its way more than 5,000 kilometres from Siberia to the German-Polish border. The natural gas takes seven days to travel from the Urengoy Field to German households and industrial facilities. The Federal Republic purchases almost 40 per cent of its gas from Russia. But now, for the first time Gazprom is allowing a German company to work directly at the source.

The WINGAS parent, Wintershall will drill for natural gas at the Urengoy Field together with Urengoy Gazprom, a subsidiary of Gazprom, the world’s largest natural gas company. The joint venture, Achimgaz that was founded especially for this project already started the pilot phase and set up the drilling rigs this year. Six production wells will be sunk in early summer.

The company, named after the Achimov Formation, is faced with the challenge of extracting the gas from a depth of around 3,500 metres. The deepest wells in the Urengoy Field to date have been only 1,500 deep. From 2008 onwards around 300 workers will extract up to 7 billion cubic metres of gas each year from the low permeability Achimov layer. The gas will be sold to Gazprom which will then market it in Russia and Europe.

Germany alone consumes 90 billion cubic metres of gas each year. Demand for Russian gas imports is increasing. “New deposits must be developed to handle growing demands for gas,” says Wintershall Management Board member, Bernhard Schmidt. He sees the Achimov project as a “further step towards securing supplies for Germany”. Russia, which has the world’s largest natural gas reserves, is a reliable partner.

Wintershall is deploying a special drilling technology which allows the deposit to be developed with fewer wells. The processing facilities were built with Russian technology. The technology had to be made for “what is probably the most difficult outdoor environment in the world,” reckons Schmidt. Around 200 billion cubic metres of gas and 40 million tons of gas condensate will be extracted from the Achimov deposit over the next 40 years.

People come from all parts of Russia to work in the oil and gas fields. After all, wages of around 1,500 euros a month in Siberia are two to three times what workers can expect to earn in the other regions of Russia. The men work on the gas fields in shifts: 12 hours per day, five days per week for one month in the tundra and then have one month R&R at home.

Russia‘s Gazprom warns of a new winter fuel crisis

October 26, 2006 11:43am ET

Moscow (Reuters) – Russian gas monopoly Gazprom called on Thursday for the state to step in to prevent a repeat of last year’s winter fuel crisis, which it said was likely because of a poor state of readiness in Russian regions.

The world’s largest gas producer, which supplies one quarter of Europe’s gas needs, had to restrict deliveries to some of its European customers last year to ensure there was enough for domestic users who were enduring an exceptionally cold winter.

“The unsatisfactory current level of reserve fuel stocks in (Russia’s) regions causes serious concern. There is a threat of a repeat of last winter’s events, when many regions turned out to be unprepared for a sharp decline in temperatures,” Gazprom said in a statement.

“The situation that has developed requires immediate intervention by state regulatory bodies.”

Gazprom had to briefly cut its gas supplies on the route to Hungary by 20 percent in January, and said it could also reduce flows to Italy and Austria, although it said it never fell below its contractual obligations.

It soon restored supplies to 7 percent above contractual volumes to European customers and 40 percent more than the contracted amount to Russian customers.

The company said in a statement that it planned to significantly raise investment in 2007 — to 531.78 billion roubles ($19.82 billion) compared with 373.14 billion roubles planned this year.

It also slightly increased its 2006 production forecast by 3 billion cubic metres to 551 bcm.

The figure includes 17.1 billion roubles of investment in the Shtokman offshore gas field. Gazprom decided earlier this month to scrap a long-delayed plan to invite foreign oil firms to help it develop the vast field, the world’s biggest untapped gas deposit.

Capital expenditure was planned at 360.56 billion roubles next year, 623.7 billion in 2008 and 703.0 billion in 2009, it said. Annual borrowing would run at 90 billion roubles until 2009, the same level as in 2005 and 2006.

It said its long-term capital investments planned in 2007 including financing projects for developing deposits outside Russia, including in Tajikistan, Kyrgyzstan, Uzbekistan, India’s Bay of Bengal and block 112 in Vietnam.

It said its priority projects included development of the Bovanenskoye and Kharasaveiskoye fields and the Yuzhno-Russkoye deposit, as well as the Prirazlomnoye in the Barents Sea, which neighbours Shtokman.

Gazprom (LSE: OGZD; Russian: ОАО Газпром, sometimes transcribed as Gasprom) is the largest Russian company and the biggest extractor of natural gas in the world. Gazprom supplies almost all the gas needs of Central Europe, Eastern Europe, and the former Soviet Union.

With sales of US$ 31 billion in 2004, it accounts for about 93% of Russian natural gas production and with reserves of 28,800 km³, it controls 16% of the world’s gas reserves (as of 2004.) [1] After acquisition of the oil company Sibneft, Gazprom, with 119 billion barrels of reserves, is ranking behind only Saudi Arabia, with 263 billion barrels, and Iran, with 133 billion barrels, as the world’s biggest owner of oil and oil equivalent in natural gas. [2]

Apart from its gas reserves and the world’s longest pipeline network with 150,000 km, it also controls assets in banking, insurance, media, construction and agriculture.

With US$ 269 billion of market capitalization (as of May 2006), Gazprom is the world’s 3rd largest corporation.

1989-1992: Inception

Due to large natural gas reserves discovered in Siberia, in the Urals and in the Volga region in the 1970s and 1980s, the Soviet Union became a major gas producer. Gas exploration, development, and distribution were centralized in a state ministry. In July of 1989, President Mikhail Gorbachev combined the ministries for oil and gas as part of his economic reforms, and later carved out Gazprom as the entity responsible for gas production, distribution, and sales. (Gazprom is a contraction of ‘Газовая промышленность’ (Gazovaya Promyshlennost), meaning ‘gas industry’.) Viktor Chernomyrdin headed Gazprom.

After the break-up of the Soviet Union in 1991, Gazprom lost a large part of its assets outside of Russia – one third of its pipelines and one fourth of its compression capacity.

1993-1997: Privatization

After the new Russian President Boris Yeltsin appointed Chernomyrdin to be his Prime Minister in December 1992 (replacing him with Rem Viakhirev), the political influence of Gazprom increased markedly.

As the new government was committed to economic reform, Gazprom began to be privatized, becoming a joint-stock company in November 1992, and starting to distribute shares under the voucher method, where every Russian citizen received vouchers to purchase shares of formerly state-owned companies. However, trading these shares was heavily regulated, and the by-laws of the company prohibited foreigners to own more than 9% of the shares.

Gazprom slowly established credibility in the western capital markets with an offering of 1% of its equity to foreigners in October 1996 in the form of London Depository Receipts and a successful large bond issue of US$ 2.5 billion in 1997.

1998-2000: Scandals

In 1998 Chernomyrdin was fired from his position of Russia’s Prime Minister by President Boris Yeltsin. At the same time, the Russian government suddenly started demanding billions of dollars in back taxes from Gazprom. When tax prosecutors started to seize assets of Gazprom, the company gave in and paid. The company’s records started showing a loss for the first time. The reasons are unclear and were explained either by an aging pipeline transport network, by a management that was becoming increasingly corrupt, or by pre-existing losses that appeared because of more transparent accounting policies.

Gazprom conducted dubious transactions with the gas-trading company Itera and a Gazprom/Itera joint-venture, Purgaz, in the late 1990s, which allegedly benefited various management members and their relatives. Additionally, large-scale asset-stripping of Gazprom was going on by corrupt management and board members through various transactions involving the Gazprom daughter Stroitransgaz and the regional gas company Sibneftegaz. The Gazprom auditor PwC apparently had signed off and covered these transactions.[3]

The investment fund Hermitage Capital Management, a minority shareholder of Gazprom, reported on the scandals in October 2000: “Investors are valuing this company as if 99 percent of its assets have been stolen. The real figure is around 10 percent so that’s good news”. [4]

2001-2003: Reform years

Russian President Vladimir Putin was actively pursuing reforms in the management of the company in the years following the scandals. This was aided by shareholder activism by Hermitage CEO William Browder and former Russian finance minister Boris Fyodorov. Putin installed Alexei Miller, a former government employee, as the new CEO in 2001 to guide the reforms; Rem Viakhirev was moved to the position of Chairman of the Board, temporarily replacing Dmitry Medvedev.

2005-2006

On 1 January 2006 at 10:00 Gazprom ended the delivery of gas for the Ukrainian market, calling on Ukraine’s government to pay increased fees that partially reflect the globally increased fuel prices. See: Russia-Ukraine gas dispute (2005/2006-01-04).

During the night of January 3-4 January 2006, Naftohaz Ukrainy and Gazprom negotiated a deal that has resolved the long-standing gas price conflict between Russia and Ukraine, to the satisfaction of both parties.

On April 3-4 April, Gazprom indicated it would triple the price of natural gas sold to Belarus after December 31, 2006. Unlike Ukraine, Belarus has close political ties to Moscow and this action creates doubts about the supposed political motives of raising Ukraine’s fuel rates.

Current structure

Until 2004 the Russian government held a 38.37% stake in the company, and had a majority on the company’s board of directors. Gazprom provides 25% of all Russian tax revenues (averaging over US$ 4 billion annually between 1993-2003) and accounts for 8% of the nation’s gross domestic product. Non-Russian investors may legally buy Gazprom shares only through Depositary Shares, which cost more than locally traded shares.

In 2004, President Putin announced that Gazprom is acquiring the state-owned oil-company Rosneft and that this will “eventually lead to the lifting of foreign ownership restrictions on Gazprom shares”, as the stake of the Russian government in Gazprom will rise from 38.37% to a controlling position. [5]

However, Gazprom was foiled both in its attempt to acquire Rosneft, and its earlier attempt to buy the core asset of Yukos, when Yukos filed for bankruptcy in Houston. Fearing that it would fall foul of US law, Gazprom backed away from buying Yukos’ main asset when the Russian government auctioned it in December 2004, leaving the more gung-ho Rosneft to buy it. After Rosneft had appropriated such a large and controversial asset, the technicalities of merging it into Gazprom became too complicated. Instead, Rosneft remained independent, to the delight of its own management. The state increased its stake in Gazprom to over 50% instead by paying cash for a 10.4% stake, thus fulfilling the main pre-condition for the abolition of restrictions on foreign ownership of Gazprom shares. At the time of writing, the market is still awaiting this move.

In September 2005, Gazprom bought 72.633% of the oil company Sibneft (now Gazprom Neft) for $13.01 billion, aided by a $12 billion loan from the west, which consolidates Gazprom’s position as a global energy giant and Russia’s biggest company. On the day of the deal the company was worth £69.7 billion/US$123.2 billion, about the GDP of Ireland in 2004.

In April 2006, Gazprom market cap is US$ 270 billion.

References

↑  Numbers from Financial Times: “Energy of the State”, March 14, 2006; older data is available online at Gazprom reserve statistics

↑  Article about reserves after Sibneft acquisition

↑  Gazprom: Russia’s Enron?, BusinessWeek online, February 18, 2002

↑  Gazprom and Hermitage Capital: Shareholder Activism in Russia, 2002, Stanford Graduate School of Business Case IB-36

↑  Hermitage news item about the raising of the stake of the Russian government to a controlling interest in 2004

↑  Market value taken from Russiaprofile.org

Tuesday, August 23, 2005. Issue 3236. Page 6.      

Foreigners Flocking to Gazprom Stock

By Elif Kaban

Reuters

From risk-averse pension funds to freewheeling hedge funds, investors are flocking to gas giant Gazprom in the hope of profits once its free float opens, even as the Kremlin tests the patience of minority shareholders.

With oil and gas among the hottest sectors for global investment, Gazprom, the world’s largest gas company, is attracting demand from a wide range of investors new to Russia, ahead of the easing of ownership restrictions on its stock expected by the end of the year.

Even the hedge fund pack has been increasing its net long position on Gazprom stock, a straw poll of global fund managers by Reuters showed.

One U.S.-based hedge fund manager said some funds active in oil futures were also looking at Gazprom as insurance against a fall in oil prices, behind which gas prices tend to lag.

For global investors riding the oil boom, Gazprom offers a way for outsiders to break into Russia’s natural gas industry, by far the largest in the world.

When fund managers put the same multiple of enterprise value to barrel-of-oil equivalent on Gazprom they find the company — which has vast gas reserves — is trading at a huge discount to its rivals among Western oil majors, such as Royal Dutch Shell and BP.        

“Some say Gazprom should be worth $500 billion,” said Ian Hague, fund manager at New York-based Firebird. “Now it’s worth $75 billion to $80 billion. There is no way of knowing what it’s really worth until it becomes freely accessible to investors.”

As a sprawling state monopoly, the company is exposed to political meddling, and investors have been wary about its lack of transparency and high levels of capital spending.

Investors have also been held back from buying into Russia’s gas story because of limits on foreign ownership of Gazprom stock, which the government has promised to lift by the end of 2005.

Nonresidents can freely own Gazprom’s London-listed American Depositary Shares, which trade at a premium to the local shares. Others hold local shares via structured products known as “gray” schemes, designed to circumvent the limits.

Peter Halloran, hedge fund manager at Pharos, said huge global investor interest in July’s initial public offering of independent gas producer Novatek gave a taste of the potential demand for Russian gas as an equity play.

“All these new buyers came out of nowhere with enormous appetite for Russian gas,” he said.

Novatek’s $1 billion London IPO in July was oversubscribed by more than 10 times. Its shares have rallied by more than 30 percent from their issue price.

When the Gazprom free float is opened up, fund managers expect the local share price to close its discount to the ADSs quickly — although they caution that much of the liberalization has been priced in and many expect to sell into any rally.

It is not clear how much of Gazprom’s free float will open up. The mechanism by which the shares will become fungible is also unknown. Investors are also in the dark about the process of setting tax rules for conversion.

“We remain cautious because there have been so many false promises in Russia,” said Jacob Grapengiesser, fund manager at Stockholm-based East Capital, running $1.5 billion of assets.

But he added: “We’re long on Gazprom and we’ve been adding on. It’s unavoidable, really. The potential is massive.”

At Gazprom, investors in battle for the board

By Andrew E. Kramer The New York Times

Published: June 27, 2006

The board of directors of Gazprom has been a club of government ministers, well-heeled businessmen and a combination of the two for most of its 15-year existence.

The question is whether an independent outsider – and perhaps a foreigner, at that – can break into this circle and bring a more market-oriented view to the board of one of the largest publicly traded energy companies.

The battle for a place on Gazprom’s board will take place at a general shareholders meeting on Friday.

On one side is the current 11-member board of the company, which is viewed by many in the West as murky and serving the interests of the Kremlin. On the other side are two outsiders, both from large hedge funds that specialize in Russian investments: Vadim Kleiner, a leading expert on Gazprom and the director of research at Hermitage Capital Management; and Sergei Glaser, chief executive of a fund, based in Stockholm, called Vostok Nafta.

The arithmetic of ownership shares suggests that foreign investors deserve a slot on the board. Nine candidates are vying for one open seat for independent members. But five of those candidates, who ostensibly represent portfolio investors, were nominated by Gazprom management.

Meanwhile, among the foreign investors who are holding Gazprom American depositary receipts, the vote is split between Kleiner and Glaser.

One sticking point here is that Russian authorities have expelled the head of Hermitage, William Browder, a long- time shareholder activist. So Glaser argues that Browder’s inability to secure a Russian visa is a sign that Hermitage is handicapped in relations with the Russian government, and thus, that Kleiner would be an ineffective advocate for independent shareholders in Gazprom.

Glaser fears that the split vote means that a candidate supported by Gazprom management is more likely to win.

“The interests of stakeholders are diverging,” Glaser said. “The minority shareholders whose interests are very simple and very non-political may not have a voice. We need to consolidate around one candidate.”

Kleiner, the director of research at Hermitage, countered that Browder’s visa troubles are proof of his company’s outspoken stance – and a reason it should have a voice on Gazprom’s board.

Kleiner is also author of an annual report highlighting waste and self-dealing at Gazprom. Probing and humorous, the report features, for example, comical drawings of fat men in top hats smoking cigars to illustrate the hundreds of millions of dollars Gazprom loses each year to beneficiaries of a gas trading scheme in Ukraine.

Glaser, by contrast, argued blandly in a PowerPoint presentation on his candidacy for a “constructive approach” to criticism as the best option for outside investors hoping to nudge the company away from its roots as a Soviet ministry.

His bulleted points on addressing Gazprom management include: “Respect,” “cooperation with all involved parties,” “avoiding conflict” and “search for compromise.”

Now, seven months after Gazprom allowed foreign investors to buy its stock, and almost overnight became the largest traded company in an emerging market, 26 candidates are running for the board.

The government owns 51 percent of Gazprom and is guaranteed a majority of six positions, to be filled by government ministers, including Dmitri Medvedev, the deputy prime minister and chairman of Gazprom.

Gazprom management has a lock on the votes from domestic shareholders, who include employees and large fund companies.

Several large shareholders have signed powers of attorney to allow the company to vote their shares. These include Suleiman Kerimov, a billionaire member of the Russian Parliament. Kerimov, who was listed by Forbes magazine as the world’s 72nd richest person in 2005, controls Naftamoskva, a company holding about 5 percent of Gazprom, according to analysts and reports in the Russian media.

To win a seat on the board, a candidate needs the backing of roughly 8 percent of the voting shares, or about $16 billion worth of stock at Gazprom’s capitalization of just under $200 billion.

The five candidates nominated by Gazprom management to represent portfolio investors include Mattias Warning, representing Dresdner bank, which has close ties to Gazprombank, the company’s banking arm.

Warning’s ties to the Russian president, Vladimir Putin, date to Putin’s time as a KGB agent working in East Germany, Russian media have reported.

Another candidate nominated by Gazprom management is Boris Fyodorov, a former economy minister who now manages a private equity fund. Fyodorov sits on the board now and is seen as an advocate for improving governance at the company.

Still another candidate nominated by Gazprom, a U.S. citizen and banker who did not want to be identified as publicly maligning investors, said the criticism of Gazprom’s board was misplaced.

Under the leadership of the Russian bureaucrats and Kremlin insiders running Gazprom, the stock is up 25 percent this year. “What are these guys whining about?” he said. “They should be doing cartwheels.”

Friday, January 27, 2006. Issue 3340. Page 6.

Russia Caps Gazprom ADR Quota

By Elif Kaban

Reuters

The country’s market regulator said on Thursday that it would allow only 35 percent of gas monopoly Gazprom’s shares to be traded as American Depositary Receipts, below a 40 percent quota request from the company. A brief statement from the Federal Service for Financial Markets gave no other details.

Gazprom applied to the regulator at the end of December for permission to issue shares as ADRs abroad to boost liquidity following the removal of restrictions on the trading of its shares by foreign investors at the end of 2005.

The lower-than-expected ADR quota is aimed at supporting the trading of Gazprom shares on Russian domestic markets, fund managers say.

The lower quota applies to all Russian issuers after the regulator earlier this month approved a directive reducing the amount of stock a Russian company can have traded abroad as derivatives to 35 percent of its charter capital from a previous 40 percent.

That directive also says shares must be offered for sale in Russia via a stock exchange or a broker while or before they are offered for sale abroad.

The removal of limits on Gazprom shares for foreign investors paves the way for the gas producer to become one of the most heavily weighted stocks in the benchmark MSCI emerging-market index, which has $3 trillion in assets and is tracked by global investors.

MSCI has already announced plans for a major reweighting of Gazprom shares. The pro forma weight of Gazprom in the MSCI emerging-markets index would rise to 3.7 percent from 0.4 percent, while the pro forma weight in the MSCI Russia index would be 42.8 percent, up from 6.3 percent now.

Russia Combines Oil and Gas

By Rich Smith

September 15, 2004

The invention of the American depositary receipt (ADR) was both a boon and a curse to U.S. investors. On the one hand, when foreign companies list their shares on U.S. exchanges, they make it a heck of a lot easier for the average investor to buy a piece of Nokia (NYSE: NOK), Cable & Wireless (NYSE: CWP), or SAP AG (NYSE: SAP) than it would have been if she had to figure out how to buy shares on the Helsinki, London, or Munich stock exchanges. But on the other hand, there are the — to put it politely — “inefficiencies” of buying ADRs.

The less polite way of putting it, of course, is to call it what it is: “price gouging.”

The more in demand an ADR is, and the lower its U.S. float, the more the laws of supply and demand will distort the price of an ADR from the price of the underlying securities on their home market. And there are few instances of more egregious distortions than you will find with the ADRs of Russian gas giant Gazprom (OTC BB: OGZPF). Recently, the price of an ADR in the world’s largest natural gas producer has run about 60% higher than the price of plain-vanilla Gazprom shares bought in Russia. The problem, of course, was that you couldn’t buy the plain-vanilla Gazprom shares, even if you knew how. Because Russian law forbade foreigners buying Gazprom shares even in Russia and also limited foreigners as a class to owning no more than 20% of the equity in Gazprom.

Which is why energy sector investors should be jumping for joy today after hearing the news that (1) Gazprom will be acquiring the Russian government-owned oil company Rosneft and (2) as a result of the Russian state cementing its controlling stake over Gazprom through this deal, the Kremlin now feels sufficiently sure of itself to let Gazprom’s shares trade freely abroad.

Over in Moscow, investors are already exultant over the news. In late Tuesday trading, the price of domestic Gazprom shares jumped 15%, and Gazprom ADRs rose in value as well. But in anticipation of a closing of the gap in pricing between domestic Gazprom shares and their foreign ADRs, the ADRs rose in price only about 5% — narrowing the disparity in value from 60% to “just” 45%.

That’s still a pretty big gap, however. Rather than being tempted to buy into the rapidly appreciating Gazprom, Foolish investors should consider sitting this oil rush out and waiting for the prices of the two equity forms to equalize.