DEPARTMENT ENERGY ADVISER HELLMAN'S ENERGY

C O N F I D E N T I A L SECTION 01 OF 05 WARSAW 001592

SIPDIS

STATE FOR EUR, E. EUR/NCE. EUR/ERA,EB/ESC
EUR/NCE FOR A/S DFRIED, DAS MPEKALA, DAS MBRYZA
EUR/NCE FOR DKOSTELANCIK AND MSESSOMS
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DOE FOR LEKIMOFF
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PARIS PASS USMISSION OECD AND IAE

E.O. 12958: DECL: 12/31/2020
TAGS: ENRG EPET LH PL PREL
SUBJECT: DEPARTMENT ENERGY ADVISER HELLMAN'S ENERGY
SECURITY DISCUSSIONS IN WARSAW: POLES WATCHING LITHUANIAN
SITUATION CLOSELY

REF: WARSAW 1336

Classified By: Econ Couns. Richard Rorvig for reasons 1.4(b) and (d).

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Summary
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1. (C) Economics Ministry State Secretary Piotr Naimski told
visiting State Department Energy Advisor Steve Hellman August
1 that Poland is very concerned by the cut-off of Russian oil
shipments to Lithuania's Mazeikiu Nafta refinery due to
alleged 'accidents and technical difficulties.' The Poles
believe that there is sufficient off-loading capacity at the
Lithuanian port of Butinge to supply Mazeikiu by sea. The
problem is that there is only 100,000 tons of storage
capacity in Lithuania, enough for about five days of normal
refinery operations. The State Secretary said that 100,000
tons of oil had reached Butinge August 1 via tanker, a fact
confirmed by Polish refiner PKN Orlen. PKN Orlen Vice
President Cezary Filipowicz said Orlen is buying Mazeikiu for
strategic reasons, fearing that otherwise the Russians will
take over the Lithuanian refiner. The Russians would then
have a refinery inside the EU tariff wall, and could lower
prices to a few cents below Orlen's refining costs,
eventually driving it out of business. Orlen thinks it is
better to fight the battle with the Russians today in
Lithuania than tomorrow in Poland.


2. (C) Orlen is in a delicate position, since its acquisition
of Mazeikiu has yet to be approved by the EU competition
authority. Orlen estimates the approval process could take
until December. Until that time, it must keep legal distance
from the Lithuanian refiner. Hellman urged the Poles to get
on top of the oil trading situation, and bring in a technical
specialist who could advise it on blending issues, if it is
forced to replace Russian oil. He said that even though
Orlen could not intervene to supply the refinery, it could
consider discussions for sourcing crude to one safe port in
north-west Europe without specifying Butinge, thus not
violating the prohibition of commercial contact with the
refinery. Continued operation of Mazeikiu would show the
Russians that their strategy is not working. On Slovakia's
Transpetrol, Naimski said that the Poles fear that Prime
Minister Fico is politically isolated in the EU and will
succumb to Russian pressure. They plan to invite him to
Warsaw to show him he has other options. The Poles were
receptive to Hellman's suggestion that he organize a
brainstorming session in the U.S. with them on energy issues.


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Economic Ministry Views
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Mazeikiu


3. (C) Polish Economics Ministry State Secretary Piotr
Naimski told visiting State Department Energy Advisor Steve
Hellman August 1 that Poland is very concerned by the cut-off
of Russian oil shipments to Lithuania's Mazeikiu Nafta
refinery, due to alleged 'accidents and technical
difficulties.' Naimski said he fears that this is the big
crisis that many have been expecting. According to Polish
information, there is sufficient off-loading capacity at the
Lithuanian port of Butinge to supply Mazeikiu by sea. The
problem is that there is only 100,000 tons of storage
capacity in Lithuania, enough for about five days of normal
refinery operations or a bit more than a week at reduced
10-12,000 ton per day operating levels. Naimski said that
100,000 tons of oil had reached Butinge August 1 via tanker.
This is now being unloaded. However, it would take two weeks
to secure alternative spot supplies from Rotterdam. Naimski
said that Orlen had accommodated itself to the idea of buying
Mazeikiu Nafta and that it must be prepared to supply the
refinery eventually by sea.


4. (C) Hellman told Naimski that the Russians do not believe
that Mazeikiu can be supplied by Butinge. Rosneft and Lukoil
are left as suppliers. Rosneft wants to get the $3 billion
it thinks it is owed by Yukos. It either wants to take over
the Mazeikiu refinery cheaply, which it might then even
resell, or it wants to extort money from the buyers. The
Russians are prepared to exert pressure on Poland directly to
get it. Elements in Transneft do not support this strategy,
but the order comes straight from the Rosneft Chairman and
Igor Sechin within the presidential administration.


5. (C) Hellman advised the Poles to do their best not to
aggravate the situation -- for example by closing down
Russian shipments through Poland to Germany, lest Poland
appear to be the aggressor. This would also undercut
Poland's natural allies within Russia. Naimski said that
Poland was not considering cutting off the pipeline across
Poland as a strategy. However, if the situation in Lithuania
gets desperate enough, Poland could either stand by and do
nothing (which is unacceptable) or consider breaking other
contracts or shipping agreements. Naimksi suggested, for
example, that perhaps a Russian export shipment from Gdansk
could be diverted to Butinge. Charge urged that Poland
pursue a strategy that does not put them at odds with
Germany, whose support will be key. Hellman urged the Poles
to react calmly to the situation. There is lots of oil
available. Two hundred thousand barrels per day, Mazeikiu's
needs, are not a great amount. Perhaps the Polish Government
could recommend that Orlen consider contracting a tanker load
from Rotterdam for delivery to a Northern European port of
its nomination. It is important to keep Mazeikiu operating
and show the Russians that their strategy is not working.
The Poles could even offer to help repair the pipeline, then
let the Russians make the first move. Poland should show
strength and wait. Once they have shown that the Russian
strategy is not working, they will have an opportunity to
re-engage with Transneft to restart supplies. Hellman
suggested the GOP persuade Orlen to get on top of the oil
trading situation, and bring in a technical specialist who
could advise it on blending issues, if it is forced to
replace Russian oil.


Slovakian Sale of Transpetrol


6. (C) Naimski said that Poland wants to buy Transpetrol, and
that it understands that the Slovak Government is under a
pressure from the Russians to sell it to Gazprom. Hellman
replied that we must convince the Slovaks that it is not a
good idea to give in to the Russians. Hellman suggested the
Poles use their influence with the Czech Republic, where PKN
Orlen owns Unipetrol, to get the Czechs to lobby the Slovaks
on the issue in the name of both Slovak and Czech energy
independence. All of us have an interest in seeing Gazprom
not get it. Naimski said that, due to political problems in
forming a government in Prague, it is difficult to talk to
the Czechs now. In any case, he is skeptical that the Czechs
have much influence in Bratislava. However, it was worth a
try. With regard to a quick decision on the Transpetrol
sale, the Poles believe that there is a provision in the
existing Transpetrol arrangement which would allow the
Slovaks to block any sales agreement until April 2007.
(Note: Several hours after the meeting, Naimski's office
informed Hellman that Poland believed that the financial
company Slavia, backing the Czech bid, is a front for Russian
interests.)


7. (C) Naimski said he thinks new Slovak prime minister Fico
is somewhat isolated in Europe, and is seen as a kind of new
Meciar by many Western European states. So far only the
Russians have invited him for an official visit. For this
reason, the Poles plan to invite him soon to Warsaw. Foreign
Minister Kubis visited last month. It would be helpful if we
could all persuade other EU states to invite him also. Fico
needs to know that he has other options than the Russians.


Odessa-Brody-Plock Pipeline


8. (C) Hellman said that the US would very much like to see a
complete copy of the Odessa-Brody-Plock feasibility study so
that it can assure itself that the project is commercially
viable. Naimski said that the study has still not been
officially approved by the Consortium. Poland so far is not
entirely satisfied with it, and is discussing it with the
Ukrainians. A good feasibility report is a prerequisite to
approaching the Kazakhs and Azeris on the project. Naimski
expects to have the final version by September. He said that
he had held good discussions with the firm Baker Donelson in
Washington, but has not yet responded to it, due in part to
the change in Poland's Prime Minister. Poland is still
considering the best way to attract the interest of major
Western firms. The potential actors, which range from PERN
to Kazmunigaz, are from countries where the political forces
are quite different. Poland understands that some of the big
western companies are afraid to do anything in the back yard
of Russia's big energy monopoly. Companies like Baker
Donelson, and others, want to play a connecting role.
Naimski said he is unsure what they would be connecting.


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Discussions with Polish Refiner PKN Orlen
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9. (C) PKN Orlen Vice President Cezary Filipowicz opened the
discussion by stating that he had just received confirmation
from Mazeikiu that the Russian oil cut off would take a month
or longer to resolve. He said the Russians had told the
Lithuanians that they would have to pig about 700 kilometers
of pipe to evaluate the state of the pipeline. Filipowicz
said that Orlen is in a delicate position, since its
acquisition of Mazeikiu has yet to be approved by the EU
competition authority. Filipowicz estimated that the review
process would take three to four months and that Orlen would
not receive a green light until December at the earliest.
("The clerks in Brussels do not like to be rushed.") Until
that time, it could not complete the takeover of Mazeikiu or
assume management control of the company. EU legal
requirements were very strict. In this context, Filipowicz
noted that PKN Orlen's previous takeover of Unipetrol in the
Czech Republic, which was more complicated since it also
involved chemical plants, took eight months to obtain EU
approval. Nonetheless, the Poles were getting daily reports
of developments from the refinery.


10. (C) Filipowicz said that Orlen is buying Mazeikiu for
strategic reasons. It figures that if it fails to do so,
then the Lithuanian refiner will be taken over by the
Russians. The Russians would then have a refinery inside the
EU tariff wall. They would lower prices to a few cents below
Orlen's retail prices (using favorable terms for crude
supplies to compete unfairly). Within four or five years,
first Poland's Gdansk-based Lotos Group and then Orlen would
be bankrupt. Orlen thought it is better to fight this battle
with the Russians today in Lithuania than tomorrow in Poland.
The situation today is also better than a decade ago when
Williams faced problems with Mazeikiu. At that time there
was no Butinge off-loading option and no Primorsk.
Filipowicz said that it is also in Russia's interest to work
with Orlen. Between Mazeikiu Unipetrol, and Orlen's
operations in Poland, Orlen will be Russia's largest single
crude oil customer, buying or transiting roughly one-third of
its total oil exports. Russia's cannot afford not to sell
one-third of its oil and would have no place to put such a
quantity on the domestic market without driving down prices.
Nobody would logically walk away from such an export business.


11. (C) PKN Orlen is confident that Mazeikiu refining head
Nelson English will respond properly to the situation.
Filipowicz confirmed that 100,000 tons from Primorsk was
being off-loaded in Butinge on August 1-2. He said, it is an
open question how far the Russians will go with the
situation. Will they still allow supplies to Mazeikiu from
Primorsk? Filipowicz said that he had just received a call
from Lukoil saying it wanted a meeting with him in Geneva.
Lukoil said the subject was too sensitive to be discussed
over the phone. Filipowicz wondered whether it might be to
discuss a cut-off in deliveries to Orlen. However, Orlen
could buy oil from other places -- Africa, Venezuela, the
North Sea. It could still make a profit as long as it had an
EU customs barrier to keep the Russians from flooding the
market for refined products.


12. (C) PKN Orlen is interested potentially in joining with
the Kazakhs, who lost out in the competition for Mazeikiu, to
buy a refinery in Germany. PKN Orlen President Igor
Chalupiec told the Kazakhs that Orlen could bring a network
of 2500 gas stations to the deal, while the Kazakhs had
upstream assets. Chalupiec told the Kazakhs that Orlen
realizes that they are upset. However, if Kazmunigaz had
acquired Mazeikiu it would have had 27 gas stations in
Lithuania. It would have had to learn the downstream
business in Europe, an area where they had no experience.
However, a combined effort on a new project in Europe would
be good for both sides. Kazakhstan would get a foot in the
EU and Poland would find an upstream partner.


13. (C) In response, Hellman reiterated the points made
earlier to Naimski regarding Rosneft's intentions to extort
$3 billion it feels is owed to it by Yukos. He suggested
that Orlen needed to brace itself for a possible crude
shutdown. Furthermore, Orlen, once it takes over Mazeikiu,
should make sure via internal transfer pricing that Mazeikiu
appears to show a profit. That way the Russians will see
that their policy is not having the intended effect. Orlen
also should think about contracting in Rotterdam for a term
crude contract to a Northern European port of its choosing.
It should also consider bringing in a blending specialist to
advise it in the event it needs to find substitutes for
Russian oil. In response to Filipowicz' suggestions of
strategic infrastructure development, Hellman proposed that
Filipowicz and a Polish delegation come to the United States
in the near future for a strategic brainstorming session,
which could include US industry people. Filipowicz said he
would be very interested in this proposal and would
personally be delighted to accept.


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Discussions with Polish National Pipeline Company PERN
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14. (C) Hellman opened the meeting with PERN Vice President
Marcin Jastrzebski by reviewing the state of play in
Lithuania and Russian intentions. Jastrzebski said that PERN
is concerned by Russian pressure on the Slovaks over the
Transpetrol sale. PERN would be making a pitch to buy
Transpetrol to the Slovaks on August 4. Sixty percent of the
presentation would be about energy independence. We have to
convince the Slovaks that it is important that the Russians
not buy it. PERN has already had a bad experience with
Yukos-influenced Transpetrol. For three years, PERN has been
trying to conduct a test shipment of 25,000 tons of oil
through the pipeline to the Kralupe refinery, as a proof of
concept test for the Odessa-Brody-Plock pipeline. A
Transpetrol source told him that there would be no such tests
unless Transneft also agrees. It is important to buy the
Yukos-owned part of Transpetrol to eliminate such Russian
influence. Jastrzebski said that many companies are now
interested in buying Transpetrol, including apparently
Kazakhstan's Kazmunigaz, Hungary's Mol, a US group and a
Czech firm. Hellman said that we all could agree that the
Slovaks should not sell Transpetrol to the Russians.


15. (C) Jastrzebski said that one of the problems that PERN
faces is that its existing shipment contracts with Germany
require the company to guarantee shipment of Rebco to Gdansk
in an emergency. The company does not have the capacity to
ship non-Russian crude from Plock to Gdansk as potentially
envisioned in the Odessa-Brody-Plock project and guarantee
the Germans a supply of Rebco. PERN would therefore like to
modify its contracts with the Germans so that it can provide
other crude rather than Rebco. With regard to a potential
cut-off of Russian oil to the Czech Republic, the main Czech
refineries are supplied from the Adriatic. It would also be
possible to supply Slovakia through this route. Hellman
again advised that PERN try and get the Czechs to weigh in
with the Slovaks to encourage a Transpetrol sale to
non-Russian buyers.

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Comment
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16. (C) All of our Polish interlocutors were extremely
forthcoming with information and greatly appreciated the
exchange with Mr. Hellman. The visit, coming as it did at
the same moment as the Lithuanian oil disruption, could not
have been better timed. Orlen seemed to take a much more
relaxed attitude to the Lithuanian situation than Poland's
Economics Ministry. The Polish refiner is confident that
Mazeikiu has the ability to overcome its problems and the
company said it knows that the Mazeikiu situation will remain
problematic for some time. The company said it is prepared
to go ahead with the transaction for strategic reasons. It
does not see any grounds to alter those plans based on
current Russian actions, which it expected to some extent.
We repeatedly stressed that the U.S. needs to see a complete
copy of the Odessa-Brody-Plock feasibility study to advise
Poland on how to engage the private sector. Naimski promised
to try to be helpful in this regard. Mr. Hellman's offer to
arrange a brainstorming session in the U.S. met with
considerable interest.


HILLAS