Conditional Yukos Auction Win is Victory for Eni, Enel, in Russia Nonetheless

One Giant Leap…

On the face of it, the idea that an Italian joint venture could win an auction for upstream Russian oil and gas assets sounds absurd, particularly given the increasingly chilly climate for foreign investors in Russia’s oil and gas industries. Together with the fact that Russian authorities have a demonstrated knack for orchestrating property auctions to favour state companies, the victory by EniNeftegaz, the Italian venture comprised of Eni (60%) and Enel (40%), in yesterday’s second auction of Yukos assets also appears somewhat shocking—but only at first glance. When you have the real winner of the auction sitting out and a deal agreed in advance between the state-run gas Russian gas giant and the Italian joint venture, the winning bid placed by EniNeftegaz no longer seems quite so surprising; in fact, it was pre-determined (see “Related Articles”).
So it was yesterday that EniNeftegaz outbid two other potential suitors and walked away the big winner, agreeing to pay 151.5 billion roubles (US$5.8 billion) for Yukos’s 20% stake in Gazprom Neft and its 100% stakes in several gas assets, including Arktikgaz and Urengoil. EniNeftegaz outbid NefteTradeGroup, an investment vehicle representing Rosneft, and Uniteks, an unknown suitor reported to represent either Gazprom or Novatek. The winning bid was less than 5% above the starting price of 145 billion roubles, but a spokesperson for Yukos receiver Eduard Rebgun said that the price was fair.

In submitting the winning bid, EniNeftegaz takes control—for now—of the 20% stake in Gazprom Neft, the Gazprom oil division formerly known as Sibneft. As part of the arrangement between the two Italian companies, Enel said it contributed only US$852 million to the deal, with all of the Gazprom Neft shares to be transferred to Eni. The Gazprom oil division, including its 50% stake in Slavneft, is Russia’s fifth-largest oil producer, with over 900,000 b/d in output and refining capacity of 690,000 b/d. EniNeftegaz also will secure control of gas production units Arktikgaz and Urengoil, together with energy unit Neftegaztechnologia, giving it stakes in five oil and gas fields with a combined 5 billion barrels of oil equivalent (boe) in reserves.

…Gives Way to One Small Step

Of course, the size of the Italian joint venture’s investment in Russia—the third-largest single foreign investment in Russia’s energy sector—is going to shrink in the near future. Eni and Gazprom announced that the two sides had negotiated a call option for the Russian gas giant to acquire the 20% Gazprom Neft stake for US$3.7 billion, plus financing and operating costs, any time in the next two years, while Gazprom also has the option to buy a 51% stake in the Yukos gas assets. Gazprom board chairman Dmitry Medvedev said that Gazprom plans to exercise the option, which would allow the company to buy the Gazprom Neft stake at below its current market value. Gazprom Neft shares traded on Russia’s RTS exchange at US$4.20/share immediately after the auction, valuing the 20% stake at US$3.98 billion.

Gazprom may get a discount on the Gazprom Neft stake, but then EniNeftegaz surely got a deal on the Yukos assets in the first place. The Enineftegaz-Gazprom deal on the call option indicates that, as usual in Russia, the winner of yesterday’s auction was pre-determined. Rosneft’s last-minute announcement on Monday (2 April) that it planned to bid appears to have been not to challenge Gazprom or inflate the price of the Yukos assets, but merely to make sure that there were at least two bidders so that the auction was legitimate (a separate auction of Yukos’s research and development assets that was to be held later yesterday was cancelled due to a lack of bids).

Not surprisingly, Yukos officials decried the auction results. “The buyer of this stock should understand what the market price is. If you pay less, you expose yourself to criticism from the company's majority and minority shareholders alike," said Viktor Gerashchenko, Yukos’s chairman. “These are not open, free auctions but rather organised sales at knockdown prices and with predetermined winners," said Robert Amsterdam, the lawyer for Yukos’s former chief executive officer (CEO) Mikhail Khodorkovsky. "While Eni appears at first sight to have won this auction, in reality Gazprom is the winner."

Outlook and Implications

Indeed, despite not participating in the auction directly—apparently out of fear of becoming ensnared in the legal mess surrounding Yukos—Gazprom is surely the big winner from yesterday. The gas giant is sure to exercise its call option on both the Gazprom Neft stake and the gas assets, leaving Eni and Enel with just a combined minority stake in Urengoil and Arktikgaz. Moreover, by opening themselves up to potential litigation from Yukos, Amsterdam said that participating in the auction was “a form of reputation laundering that some Western companies make themselves available for."

However, Western companies do not appear to be too concerned about legal repercussions from the Yukos asset auctions, particularly as it has become obvious that the future of foreign investment in Russia’s upstream oil and gas sectors is in the form of partnerships with state-owned companies. If Gazprom exercises its call option on the gas assets, the gas units will be managed by a joint venture between Eni and the Russian company. Eni noted that the agreement on the call option was “another step on the way toward the development of a strategic partnership between Eni and Gazprom”, an agreement on which was signed in November 2006.

Given the Russian government’s current policy towards foreign investment in the country’s oil and gas industries, the EniNeftegaz auction win, even if a “conditional” victory in which Gazprom will ultimately control the assets, has to be considered an important victory for Eni and Enel nevertheless. Instead of one giant leap forward, one small step ahead is all that can be expected. Minority stakes in Russian upstream projects are the best that foreign companies can hope to achieve in today’s Russia, and the auction win gives Eni the foothold in Russia that it has long coveted. A strategic partnership with Gazprom gives Eni an enviable position in Russia, providing the Italian company with growth prospects that others can only dream about.

For its part, Enel’s participation in the auction gives it a potential source of gas that could be used as a fuel input for Russian power stations. Enel has made no secret of its intention to buy generation assets in Russia’s electricity-sector privatisation programme, so the acquisition of upstream gas assets in Russia would go hand-in-hand with that strategy. Hence, Enel will be content with the fact that Urengoil and Arktikgaz are unable to export their gas output, which avoids any potential conflict with Gazprom as well. Therefore, even if the EniNeftegaz auction win is not quite as monumental as it seems on the surface, it still represents an important step forward for both Enel and Eni in their expansion goals in Russia.

Related Articles

Russia: 4 April 2007: Eni Wins Yukos Gas Asset Auction; Gazprom Has Call Option 

Russia: 3 April 2007: Gazprom Legal Reluctance Opens the Door for Others Interested in Yukos Gazprom Neft Stake

Russia: 29 March 2007: Enel Confirms Plans to Participate in Yukos Gas Asset Auction

Russia: 28 March 2007: In the End, No Surprises in First Yukos Auction

Russia: 26 March 2007: In Strategic Move, TNK-BP Announces Plan to Bid on Yukos Stake in Rosneft

Russia: 16 March 2007: Report Suggests Gazprom Not to Bid for Yukos Assets as Part of Deal with Eni 

Russia: 13 March 2007: Eni Reportedly May Take Stake in Gazprom as Russia-Italy Talks Loom

Russia: 22 February 2007: Yukos Asset Auctions Set to Begin in March; Gazprom, Rosneft Tipped to Be Big Winners

Russia: 28 November 2006: What Future for Foreign Investment in the Russian Oil Industry?

Russia: 15 November 2006: Eni, Gazprom Sign Strategic Partnership Giving Reciprocal Access to Gas Markets