Rosneft CEO Igor Sechin has defied expectations. Following the recent sentencing of Ulyukayev, the former Russian economy minister, to 8 years in jail for accepting a bribe, Sechin has managed to exceed everyone’s expectations as to the limits of his power. Longtime Russia watcher Mark Galeotti even considered this a change in the dynamic of Russia. But perhaps in this case the change has more to do with what people expected the outcome to be, that it would be the peak of Sechin’s ambition. However, upon reviewing just the last few years worth of laws and deals that Rosneft as a company has forced through, it might be better to view the fate of Ulyukayev as a by-product, rather than a direct goal.
Rosneft’s growth produced three kinds of symptoms that could be observed even if the underlying variables can rarely be easily seen. The first symptom was introducing legislation and practices to sidestep the planning set forth by the Central Bank and the Finance Ministry. The second symptom was raising capital inside Russia to invest, usually in troubled assets outside Russia — which occurred in statistically significant volumes, comparable to the total outflows of capital from Russia. The third symptom is the tendency towards aggressive raiding and acquisition practices, abusing Rosneft’s de facto “most-favoured” company status.
Back in 2014 Rosneft, facing a substantial debt in the near term just as sanctions were beginning, helped engineer a run on the ruble of remarkable proportions. Rosneft — via Otkritie Holding — raised 625 billion in rubles to buy USD and repay its 18 billion USD debt.1.www.ft.com/content/0a008492-c3ab-11e6-9bca-2b93a6856354 – FT Due to a lack of transparency in the Russian banking system, the move was interpreted as an investment strategy. In essence, Rosneft was using high-interest, short-term debt in rubles to raise USD, which it bought from the Central Bank to pay off debt or buy up assets in USD. In such a scenario Rosneft would be expected to prefer a lower exchange rate for the ruble, as its profits are from oil and are denominated in USD, while its domestic debt is in rubles. It also helped Rosneft that the due to western sanctions the Central Bank’s FX reserves were falling far quicker than independent analysts anticipated. Meanwhile Sechin’s proximity to the Kremlin suggested to some observers that the devaluation of the ruble was deliberate.
Russia’s currency experienced a rapid free fall, followed by a considerable tightening from the Central Bank. This coincided with a spike in consumer inflation, with Rosneft raising USD via ruble debt instead of selling assets and gaming the currency for its own benefit, even if not entirely deliberate. Further down the road, the Otkritie Holding cemented its position in terms of its banking operation, and thus became a systemic risk to the Russian financial system, eventually becoming nationalised in September 2017. This nationalisation followed its listing in the infamous Alfa Capital Memo, which notified investors of large capital outflows from a list of banks deemed unlikely to survive through 2017.2.www.bloomberg.com/news/articles/2017-09-21/the-russian-banking-analyst-who-predicted-a-deluge-of-bailouts – Bloomberg At the time of writing, both PromSvyaz3.www.vedomosti.ru/finance/articles/2017/11/30/743630-promsvyazbank-prognali-trillion – Vedomosti and B&N Bank4.www.banki.ru/news/lenta/?id=10169611 – Banki, which employed similar practices such as high-risk deals, have also collapsed.5.www.rbc.ru/rbcfreenews/59c52fb79a7947582634d85f – RBC Moreover, the devaluation of the ruble was later adopted by the Finance and Oil ministry officials as a method to cope with declining oil prices in USD terms and the need to balance a ruble-based budget.
Rosneft employed similar practices when it came to the privatisation of the state oil company Bashneft, where a state company privatised a state company6.themoscowtimes.com/articles/a-very-public-privatization-55606 – Moscow Times and used it as an excuse not to pay dividends to the state, since from an accounting viewpoint, the company was at a loss.7.www.rbc.ru/economics/20/11/2017/5a0dd2f59a7947316057bc8f – RBC The unusual privatisation of Bashneft was not without precedent, as prior to that the Russian state sold a stake in Alrosa,8.www.ft.com/content/13397952-4772-11e6-8d68-72e9211e86ab – FT the gold mining conglomerate, for 814 million USD. In the former case, Bashneft was seen as the second step in a cautious attempt at raising money while reducing state ownership in the economy. However, after the Bashneft deal, privatisation efforts came to halt, with Ulyukayev’s successor Oreshkin stating that Sovcomflot, another big entity pegged for privatisation, would not be privatised in 2017.9.www.ft.com/content/13397952-4772-11e6-8d68-72e9211e86a – FT A single action again by Rosneft, driven by its own internal practices, had far-reaching political implications on the work of both the Ministries of Economics and of Finance. In practice, the ministry of Economics was prevented from conducting policy, while the arrest of its minister came as a further humiliation to this powerful organisation of the Russian state.
At the tail end of lobbying for beneficial laws came efforts to secure state subsidies for flooded oil fields by Rosneft. In this instance, Rosneft gladly cooperated with other oil companies in Russia like Lukoil, Gazprom and Surgtneftgaz.10.www.vedomosti.ru/business/articles/2017/06/30/702394-neftyanie-kompanii-lgoti#%2Fgalleries%2F140737493371780%2Fnormal%2F1 – Vedomosti However, the following law which halved the mineral tax on flooded oil fields was acknowledged by people privy to it to have been written by Rosneft against the efforts of the finance ministry. A representative of the ministry was quoted as saying, ‘if Rosneft was such a key industry, why didn’t the government instead re-route pension payments to it?’ The meeting that brokered the deal received the blessing of the presidential administration. Estimates on the losses incurred by the budget vary, but at the time the finance ministry put them at over a 1.2 billion USD a year from the Samotlor field (operated by Rosneft) alone. Such context should serve as a counterweight to the articles that profile the growing importance of Russia’s energy minister Alexander Novak on a global scale,11.www.bloomberg.com/news/articles/2017-12-20/putin-s-mr-opec-becomes-an-oil-market-player – Bloomberg as domestically Russian oil companies continue to manipulate and influence him.
When moving capital, the scheme has been a continuation of the one used in conjunction with Otkritie’s banking group. Rosneft has used the Russian banking system as a way to fund its expansion spree worldwide by raising debt in Russia to over a trillion rubles per year.12.www.vedomosti.ru/business/articles/2017/10/26/739486-rosneft-trilliona-rublei – Vedomosti This figure is projected to grow from 1.1 trillion in 2017 to 1.3 trillion in 2018. Moreover, some of the purchases have been carrying debt burdens of their own, like the India based Essar Oil company which had already experienced trouble13.www.livemint.com/Industry/VpU7PwSW2kK9P5l76TeZhK/Rosneft-closes-13billion-Essar-Oil-acquisition-deal.html – Livemint servicing its debt, similar to PDVSA of Venezuela towards which Rosneft14.www.vedomosti.ru/business/articles/2017/08/08/728511-rosneft-odolzhila – Vedomosti has extended considerable advance payments to keep it afloat. As the large private banks in Russia are now dominated by state-owned banks, it is these state-owned banks (which the public considers secure) that are raising money for such deals, like the upcoming 6 billion USD credit line from VTB to China’s CEFC to purchase15.www.vedomosti.ru/business/articles/2017/10/12/737610-pokupki-rosnefti – Vedomosti a portion of Rosneft and further muddy the state of affairs surrounding the company — creating a continuous and rising systemic risk for the remaining state owned portion of the Russian financial system. In past years, debts by state enterprises to these companies have had to be repaid by the finance ministry.16.www.kommersant.ru/doc/3118635 – Kommersant While it was considered part of the defence spending, if the exposure of state banks and state companies is too great, the ministry of finance would likely take similar measures again for other industries of similar size to Russia’s military industrial complex.
Rosneft has been equally unrelenting in its practice of aggressive raiding. A fight Rosneft started with AFK Sistema forced the latter to sell part of its assets, and was resolved only after a meeting brokered by the Russian presidential administration, which netted a profit for Rosneft of more than 2 billion USD.17.www.kommersant.ru/doc/3118635 – Kommersant The implications for Russia are far more serious, however, as Sistema’s stock plunged by more than 60% over the time of the trial. This set a precedent for the market where a company targeted by Rosneft appears almost condemned, allowing them undue influence over the market. The root cause came from the forced nationalisation of Bashneft in 2013 from Sistema’s Yevtushenko18.https://www.theguardian.com/business/2014/sep/26/russian-oligarch-vladimir-yevtushenkov-stake-bashneft-oil-seized – Guardian which offered a way for Rosneft to get easy profits to offset its spending. This allowed Rosneft to take on other portions of the Russian corporate environment, in particular sister firm Gazprom, which has dominance in the export of natural gas from Russia. In this venture Rosneft has seen some success, while Gazprom has not been broken up and had its profitable parts handed over, Rosneft has been able to secure a commitment from Gazprom to sell Rosneft’s gas to China through the Power of Siberia pipeline.19.www.rbc.ru/business/21/09/2017/59c27f329a7947107ca50ca3 – RBC While Novak, as energy minister, has suggested in the past that he supports Gazprom’s monopoly on exports of natural gas,20.www.vedomosti.ru/business/articles/2017/09/08/732922-rosneft-novatek-gazproma – Vedomosti in practice this deal has undermined it, and is unfavourable to Gazprom as it alone bears the costs to build the pipeline. But it presents a compromise of Rosneft’s demand to be given access to the Gazprom pipeline infrastructure as another option would have been to separate the pipeline infrastructure from the extraction portion of Gazprom, weakening the company and making it easier for Rosneft to gradually consume it. To this end Rosneft has enjoyed the backing of BP21.www.kommersant.ru/doc/3503252 – Kommersant which provides a western corporate partner with considerable lobbying potential, something the Kremlin considers an important asset and cannot ignore. So as Rosneft secures more joint fields with BP to produce gas, it creates an implicit incentive to be given access to the export pipeline network, and BP creates a reason for the Kremlin to value these ties over ethical business practices. If this is the way Russia’s presidential administration sees things, the ability of Alexander Novak to broker compromises may soon be further limited, and could even be revoked by representatives of the Kremlin. At that point it would become the unwelcome responsibility of the Russian state to service the debts Gazprom incurred building pipelines over which it no longer has influence.
The drive to control much of the less profitable hydrocarbon market results from Rosneft’s bet on oil, hoping for a future price resurgence. And there’s a case to make for their defence, in that companies are entitled to bet on the market provided they are willing to put their money and weight behind the bet and accept that if they bet wrongly they will pay the price. This doesn’t suggest what the future of the oil market might be, but that Rosneft is within its rights to place this bet. If they’re willing to put cash behind it, they will take the benefit of almost cost free funding to go off and build their vision, with all the implied pros and cons. In this regard Rosneft is a typical corporation, the key difference being that corporations can’t typically manipulate the entire state to the point that if they have a poor margin or make a bad bet they can destroy the finances and economy of an entire country. Corporations also have an obligation to their shareholders, yet Rosneft is obliged only to an internal shadow cabal of whom Sechin is the speaker and public leader. A company that’s slowly overturning decades of Russian energy and export strategy is perhaps more powerful than a few ministers, and ominously it has started another bid for more of Russia’s state owned natural gas infrastructure.22.www.vedomosti.ru/business/news/2017/12/27/746807-rosneft-alrosa