TNK-BP COO: WE DID THE BEST WE COULD; FUTURE OF

C O N F I D E N T I A L SECTION 01 OF 03 MOSCOW 002941 SIPDIS DEPT FOR EUR/RUS, FOR EEB/ESC/IEC GALLOGLY AND WRIGHT EUR/CARC, SCA (GALLAGHER, SUMAR) DOE FOR FREDRIKSEN, HEGBORG, EKIMOFF E.O. 12958: DECL: 10/01/2018 TAGS: EPET ENRG ECON PREL RS SUBJECT: TNK-BP COO: WE DID THE BEST WE COULD; FUTURE OF SECTOR NOT BRIGHT REF: A. MOSCOW 2671 ¶B. 07 MOSCOW 3054 Classified By: Ambassador John R. Beyrle for Reasons 1.4 (b/d) -------------- SUMMARY -------------- ¶1. (C) TNK-BP COO Tim Summers (protect) told the Ambassador October 1 that BP and AAR are moving forward with the deal on the future of the company (ref A) and should come to agreement on details by the end of December. He called the negotiations "one-sided" but better than continued "open warfare and asset stripping." He said BP CEO Tony Hayward is interviewing CEO candidates for TNK-BP, and will nominate someone who then must be approved by the board. He worried that the future CEO would not be truly independent and expressed pessimism about the future of the company and, more generally, about the oil and gas sector in Russia. Summers said a potential future JV with Venezuela's PDVSA is an example of the type of politically motivated and commercially unattractive deals pushed by AAR. End summary. -------------- NEW CEO -------------- ¶2. (C) Summers told the Ambassador that TNK-BP shareholders had made progress on the deal announced in early September (ref A),but that many details still need to be negotiated. The outlines of the deal have not changed and include a new "independent" CEO, a reconfiguration and expansion of the board, and a 20% share float through an IPO. Among the pending issues to be resolved is unwinding the various legal proceedings AAR had engineered against CEO Robert Dudley. He indicated that BP's position has been substantially weakened, but that the agreement is better than the alternative scenario of continued "open warfare and asset stripping." ¶3. (C) According to Summers, BP CEO Tony Hayward is currently interviewing potential replacements for Dudley. BP will nominate a CEO, but the choice -- a Russian speaker not affiliated with BP -- must be approved by the current TNK-BP board. He said the plan is to have a new CEO in place by December 1, but that January 1 was a more realistic target. He said Dudley is scheduled to leave once details have been worked out. ¶4. (C) Summers said the CEO was unlikely to be either as independent or as powerful as Dudley had been, and expressed concern that the individual might feel pressure to serve AAR's short-term interests rather than the long-term interests of TNK-BP as a whole. The new CEO would lose some of the powers accorded to Dudley over internal controls, but would also gain some powers Dudley did not have, especially over personnel decisions and spending authority (without board approval). The latter would be raised from $50 million to $500 million. Summers indicated these additional powers could be positive, if the new CEO were truly independent. --- IPO --- ¶5. (C) Summers said that given that the new CEO would be unlikely to be settled until the first quarter of 2009 and given the turmoil of the financial markets, the agreed-upon sale of 20% of the company via an IPO would likely not take place until at least mid-2010. Summers suggested the IPO could push AAR to behave more responsibly during this window as it sought to market the company to potential investors. He cautioned, however, that AAR partner German Khan will more likely simply hire some expats "who know how to speak to markets" without fundamentally improving the operations of the company. ¶6. (C) Summers said the shares sold through the IPO would be of TNK-BP Ltd., the umbrella company which owns all TNK-BP assets, and not just of the Russian TNK-BP Holding. He said the status of future shareholders' rights to decision-making MOSCOW 00002941 002 OF 003 authorities is undecided. -------------- FUTURE OF TNK-BP -------------- ¶7. (C) Summers had just returned from a board meeting, which he said was productive and at which he said AAR played a largely cooperative role, driven by their need for a dividend payout. The board agreed on the business plan for 2008 (which was needed before a dividend could be declared), authorized a $1.8 billion dividend payout, and approved a $4.4 billion capital investment plan for 2009. Summers said it was clear from the meeting that some of the AAR members, especially Len Blavatnik (Amcit),were desperate for cash to get through the current financial crisis and were therefore inclined to be cooperative. ¶8. (C) Summers said 2009 would be an "interim" year as the new CEO decides in which direction to take the company. He worried that the new CEO, like many Russian business leaders, would favor "loyalty over competence." While maintaining that the company would "not go off a cliff," Summers predicted that the quality and efficiency of its operations could slowly deteriorate. He said he believes the number of expats at the company, down to 60 currently, would dwindle further. ¶9. (C) Summers said the board also agreed to continue negotiations on the long-pending sale of the Kovykta gas field to Gazprom (ref B). The deal had three major components: price and valuation methodology for the asset, TNK-BP's future re-purchase of 25% of the field, and an agreement on global BP-Gazprom cooperation. According to Summers, the price and methodology is done, the TNK-BP re-purchase is in question, and the BP-Gazprom global alliance is dead. Summers also expressed skepticism about Gazprom's ability to come up with the money to conclude the deal, should an agreement be reached. He added that the negotiations are being led by AAR partner Viktor Vekselberg, and it is unclear whether Vekselberg is looking for the best deal for himself or for TNK-BP. -------------- FUTURE OF RUSSIAN OIL SECTOR -------------- ¶10. (C) Summers expressed great disappointment at the wasted potential of the Russian oil and gas sector and lamented the direction the Russian Government has taken in exerting greater state control over the sector. He said business operates as it did in Britain "250 years ago" with oligarchs making deals in smoke-filled back rooms. ¶11. (C) Summers predicted that despite very favorable geology, Russia would never produce more than the current 10 million barrels per day because the government's command-driven model is inherently inefficient. He claimed TNK-BP is twice as efficient as Lukoil in terms of its costs per barrel produced, and that Lukoil is actually one of the better-run Russian companies. He noted that Slavneft, owned by TNK-BP and on whose board Summers sits, is run so incompetently that it can't make money even at today's record high oil prices. -------------- VENEZUELA -------------- ¶12. (C) In another example of politics trumping business in the sector, Summers said TNK-BP is slowly being dragged in to a joint-venture with the Venezuela's national oil company, PDVSA, as part of a consortium of Russian oil companies (septel). Summers predicted the project will be a "cash sink." Noting that "Venezuela makes Russia look like a safe haven," Summers pointed to this project as an example of the future of the company under greater AAR influence. Despite potentially valuable reserves in Venezuela, he didn't think this deal makes economic or commercial sense for TNK-BP. Summers added that although he is the Chief Operating Officer, the deal is being engineered by German Khan and said "it's the sort of thing I'll know about after it is done." MOSCOW 00002941 003 OF 003 -------------- COMMENT -------------- ¶13. (C) Summers (protect) displayed an acceptable level of corporate loyalty while also making clear, through reference to the unresolved issues that lie ahead, that BP's ability to control TNK-BP affairs will be much weaker after details of the September deal are sorted out. He is almost certainly right that the current state-centric model in the oil and gas sector is inefficient and wasteful. Regardless of any stop-gap measures (such as oil tax relief) that the government may adopt, the model itself is flawed. That said, we don't expect that model to change anytime soon and therefore would agree with Summers that Russia's ability to contribute to increased world supply is limited. End comment. BEYRLE