Oil
Page 30
For more than a year Fridman had occasionally played hardball with Browne. Although he had never properly visited an oilfield, not least because Nizhnyvartovsk, TNK’s operational headquarters, was in the midst of the inhospitable Siberian tundra, where temperatures fell to −50°C, he feigned uncertainty about whether BP was his ideal partner. Lukoil, Yukos and Rosneft, he said, appeared to prosper by hiring Western specialists and admitting only minority foreign shareholders. The attraction of a Western investor for Fridman was not only the technical expertise, but also the money. Unfortunately, he acknowledged, BP was the only candidate able to offer cash, technology and a measure of protection from the Kremlin. One obstacle was Browne’s dislike of Fridman, whom he regarded as arrogant and unpleasant. Another obstacle for Browne was the price.
Ralph Alexander was detailed to value TNK’s assets. The five refineries, 2,100 gas stations, six prospective ventures across Russia and 9.4 billion barrels of proven reserves in nine major areas were attractive, not least because Russian engineers had recovered only 25 percent of the reserves. BP’s experts could easily extract 30 percent, and could expect ultimately to pump out 61 percent. The surveys commissioned by Alexander, however, were discouraging. American reservoir engineers were unaccustomed to the poor levels of maintenance they found at the dilapidated sites. The Russians, they reported, had cracked the reservoirs by injecting water at excessively high pressures to force out the oil. Even the major attraction, the Samotlor oilfield in western Siberia, one of the world’s biggest, had been thrashed during the Soviet era, and was judged by BP’s engineers to be beyond redemption. Similarly, TNK’s refineries were rickety and mismanaged, precisely the kind of sites BP was selling elsewhere as unprofitable, environmental nightmares. Investing in TNK contradicted BP’s policy of selling off old fields in favor of “elephants” at new sites. On those criteria, the conservative engineers reported, TNK’s value was “zero.” Fridman was unimpressed. “Alexander’s sabotaging the deal,” he scoffed, claiming that BP’s experts clearly did not understand how to unlock the reserves’ potential. “These fields are worth billions of dollars,” he said. Samotlor, he would later smile, did eventually produce 140 million barrels a year.
In summer 2002, Browne still had his doubts about Fridman, but he admitted to a banker, “I can’t ignore the historic opportunity.” Russia had improved since 1999, and while there was always risk in oil, a joint company, he thought, would be too important to lose its shirt. Despite his concerns, he decided to trust Fridman. Putin, Browne believed, wanted Western investment, and TNK could be used as a gateway into the Kremlin to unlock other ventures. The partners could manage the political risk through their contacts with the Kremlin, and look for new opportunities while BP managed the business. Despite some BP directors opposing the deal, Browne appointed Rodney Chase to negotiate. “Rodney doesn’t like or trust the Russians,” Browne said. “He’ll make sure the deal is okay.”
The three Alfa-Access-Renova (AAR) partners — Fridman, Vekselberg and Blavatnik — flew to London. According to Fridman, Chase offered to pay $1 billion in cash, emphasising “in cash.” The partners laughed. “Cash?” roared Fridman. “You think we’re wild Russians. $1 billion in cash? You must do it our way or lose the deal.” Chase has no subsequent recollection of the exchange, but clearly his doubts about TNK were not assuaged by his meeting with the proposed partners. He regarded Fridman and Vekselberg as thugs who had won the battles to assert control over their companies by using threats and muscle. German Khan, a key partner in the Alfa Bank since 1992 and worth over $10 billion, was described as “a gorilla,” and like Chase was an enforcer — some described him as “Chase without the charm.” Others regarded him as witty, and willing to “throw a grenade into a room just to see what opportunities would arise out of the chaos.” Khan, born in Kiev, had been a close friend of Fridman’s since they had met at university in 1982, and shared his ambition to build an empire. Unfortunately for Chase, walking away from the deal was not an option. BP needed the Russian oil.
The agreement with AAR was eventually priced at $6.8 billion — $2.6 billion in cash and $4.2 billion in BP shares, to be paid in three annual stages. A further $1.1 billion would be paid for a share of Slavneft, a Siberian oil company. Under the agreement, TNK-BP, with 113,000 employees and estimated reserves of 3.2 billion barrels of oil, would produce 1.2 million barrels a day in western Siberia and the Ural Mountains around the Volga. Russia’s third-largest oil and gas company would be registered in Cyprus and the British Virgin Islands. Chase’s final chore — an exhaustive undertaking — was his cross-examination of and agreement with the Russians about corporate governance, management and shareholders’ rights. The initial agreement stipulated that BP would buy 50 percent of TNK. To those querying the unusual shareholding, Browne emphasized his astuteness in not insisting on 51 percent. In reality, Fridman refused to become a minority investor, and would accept only an equal partnership.
No deal could be finalized without Putin’s blessing. Jealousy among Kremlin officials, and surviving anti-Semitic attitudes, could risk the stability of any business, especially oil. The oligarchs had identified those Kremlin officials requiring favors and those requiring reassurance about Western companies profiting from Russian energy. Still uncertain about their strategy, and unable to anticipate rising oil prices, Sechin and Putin were open to persuasion. “Never assume that the Kremlin has a detailed plan, only long-term ambitions,” Fridman’s adviser Peter Aven noted. Since Fridman barely knew the president, Aven drove out on a Saturday to Putin’s dacha at Nova Ogmarc to explain the agreement. “Blair has already called,” said Putin at the beginning of their 30-minute conversation. At Browne’s request, the British prime minister had encouraged the president to agree to the largest Western investment in Russia. Cautious but positive and well briefed, Putin was persuaded that BP’s investment would confirm to the global market that Russia’s energy sector was a bankable asset, and that foreign investment in the country was safe. Aware of the president’s priorities, Aven stressed that the same would apply to gas as oil. Putin only queried the equal shares. “Who will control the business?” he asked. “How can you successfully manage a company with 50–50 ownership?” “It won’t be a problem,” replied Aven. One prediction proved correct. After BP’s purchase, Gazprom effortlessly raised $1 billion at good rates.
One week after the initial agreement was signed in February 2003, the two sides began negotiating about integrating TNK-BP’s governance and structure. Browne chose Robert Dudley to represent BP. Dudley, a graduate of the University of Illinois, had worked in Moscow for Amoco between 1994 and 1997, but spoke little Russian. Clean-cut and slightly prim, he did not empathize with Russian-Jewish businessmen. Neither Tony Hayward nor Rodney Chase appeared keen on Dudley’s appointment, but Browne was insistent that BP needed an engineer with political savvy in Moscow. Browne judged Dudley to be more than a mere manager. Loyal to BP’s interests during the merger negotiations with Amoco, he was promoted as a rising star after 1999. Browne had been impressed by his skill while serving as an assistant or turtle, and told him to assert BP’s domination of the partnership. “We’ll go through these guys like water,” the Russians would claim that they heard Dudley quip during the early negotiations, although Dudley would deny the suggestion. To persuade BP’s shareholders that Browne was not repeating the Sidanco disaster, Dudley’s brief was to affirm the sanctity of BP’s rights in the shareholders’ agreement. The Russians, he suspected, were not reading the document properly. In their credo, ponyatiyno, an understanding rather than the written agreement, counted. That misjudgment suited Dudley.
In the midst of the negotiations, Browne felt he wanted reassurance of the president’s support. In April 2003, Browne, Chase, Fridman and Vekselberg met Putin for an hour in the Kremlin. Browne, even shorter than Putin, silkily offered the assurances the president sought about the 50–50 structure. Fridman also wanted assurances. The president was due to visit Britain in J
une, and through intermediaries both Fridman and Browne urged him to witness the signing ceremony of the final agreement. After the Kremlin meeting, Tony Blair also asked Putin to do this. Putin consented, in the expectation that when the occasion arose, Blair would return the favor. On June 26, 2003, Putin watched Browne and Fridman formally sign an agreement at Lancaster House, a 19th-century mansion in St James’s. Since the final terms had not been precisely formulated, the ritual was symbolic, but Fridman was grateful nevertheless. “Today is a special day,” he said, clutching the gray fountain pen with which the deal had been signed as a memento, “not only for the Russian oil industry but for the Russian economy as a whole.” Browne, anointed in July 2003 by Fortune magazine as the world’s most powerful businessman outside the USA, shared the enthusiasm, mentioning “my friend Michael.” Browne had reason to be happy. BP’s fortunes had been restored by his latest coup, one of the greatest of the era. Only envious rivals suggested that the company was dependent on the whim of Russia’s president. For just $3 billion, BP had obtained instant access to vast reserves without risking, like Exxon and Shell, billions of dollars off Sakhalin. Conoco had bought 20 percent of Lukoil, but that agreement had soured after Lukoil’s plan to merge with ConocoPhillips was resisted as undesirable to American interests, a snub interpreted in the Kremlin as a signal that the West’s offers of partnership were flawed. BP, Sechin said, was exceptional.
The terms of the contract were finally completed on August 29, 2003. Among Dudley’s first casualties was an experienced BP operator responsible for supervising the Sidanco oilfields. He was replaced by Larry McVeigh, a Texan who spoke no Russian and had not previously worked in the country. German Khan was unamused. Angered by Dudley’s refusal to share control, he complained about the American’s “colonial attitude” and his treatment of Russia as just another Third World natural-resource producer. “It’s like two puppies fighting for dominance,” observed a Russian participant as Khan began throwing ashtrays at walls. “German no longer carries guns into meetings,” Fridman smiled about his partner’s mellowing manners. “It’s only knives.” Strangely, in those early days neither Browne nor Fridman appeared perturbed by the hostility among some of the partners. The contest between Browne, playing chess, and the Russians, boxing like a heavyweight, was dismissed by both sides as “business, not personal.”
The following month, TNK-BP’s directors hosted a celebration for Moscow’s major players at the Armoury, the museum in the Kremlin filled with priceless treasures owned by the Tsars. Beneath big photographs of Fridman and Browne in London with Putin in the background, Fridman offered his interpretation of the situation: “The sound you hear after the BP-TNK deal is the door slamming shut on any more deals.” Fridman knew that the mood in Moscow was changing. Uninterested in politics, he had intentionally presented the deal with BP to the president as unthreatening to Russia’s interests. Khodorkovsky’s agenda had never attracted Fridman. The news in July of Platon Lebedev’s arrest suggested that Khodorkovsky, his partner, should avoid irritating the president. After all, Vladimir Guzinsky, a media mogul, had agreed in 2000 to sell his television station and leave the country. He was followed by Boris Berezovsky, fearful for his life, fleeing to England and selling his Sibneft shares to Roman Abramovich. Khodorkovsky, to Fridman’s surprise, was ignoring Putin’s orders to stay out of politics.
Khodorkovsky’s ambitions outclassed Fridman’s. Yukos produced 20 percent of Russia’s oil, and if Khodorkovsky’s aspiration of merging Yukos with Sibneft materialized, the new $40 billion company would rank fourth in the world, producing 2.16 million barrels of oil a day, or 2 percent of the world’s supply. To Khodorkovsky’s delight, the marriage had been blessed by Mikhail Kasyanov, the prime minister, as “a flagship for the Russian economy.” Abramovich would own 25 percent of the new company, while Khodorkovsky would exchange his 44 percent stake in Yukos for 61 percent of the merged company. Initially, the merger aroused less of Putin’s interest than Khodorkovsky’s plan to build a pipeline to China. Pipelines and the sale of oil to foreigners were regarded by the Kremlin as crucial to Russia’s interests.
Both the Chinese and the Japanese governments were competing for the Kremlin’s approval of a new pipeline to their countries. Rising oil prices and the competition between China and Japan enhanced Russia’s strength. Putin was aggravated by Khodorkovsky’s campaign for a pipeline to Daqing, the center of China’s oil industry. The alternative, proposed by Junichiro Koizumi, the Japanese prime minister, during a visit to Moscow in January 2003, was a 2,500-mile pipeline to carry a million barrels a day from eastern Siberia to Nakhodka, a Russian port facing Japan. The Japanese hoped the Kremlin would also approve Exxon’s construction of a 1,450-mile pipeline from Sakhalin to supply Japan. The two pipelines would provide about 25 percent of Japan’s requirements. Tempted by the Japanese offer to pay $5 billion toward the pipeline, some in the Kremlin argued that a pipeline to a Pacific port would allow Russia to choose its customers. That faction appeared to have been outwitted by Khodorkovsky. President Hu Jintao of China believed that his agreement with Khodorkovsky in May 2003 for the shorter $2.8 billion pipeline to China, to be completed by the end of 2004, had been endorsed by the Kremlin. But the Chinese president was unaware of Putin’s irritation over Khodorkovsky’s unsated ambitions and callow presumptions.
The Kremlin was only hazily aware of Khodorkovsky’s campaign to seduce American oil majors. American executives had been hired by Yukos, Khodorkovsky had pledged donations to American foundations and charities, he sponsored Formula One motor racing, and in 2001 he had hosted a dinner in Moscow for George Bush senior and the Carlyle group. He even sought to finance American politicians. In conversation, the oligarch encouraged the belief that Russia’s oil industry was open to foreign investment, not least by persuading Condoleezza Rice, the national security adviser and former director of Chevron, to approve American finance for Yukos’s pipeline from Siberia to Murmansk to transport oil for the US. Although his American friends were less enamored by the deal to divert Yukos’s oil to China, they were entranced by the sight of an oligarch playing both sides and irritating the Kremlin. To Western applause, Khodorkovsky’s undisguised agenda was to leverage political power. Despite the criminal origins of his fortune, he had bought the support of politicians in the Duma to become a self-appointed scourge of corruption. Challenging the siloviki, he used his supporters to block legislation contrary to his interests. In Russian politics, Khodorkovsky knew, there was no place for a “loyal opposition.” The Kremlin’s reaction was predictable. Insecure and vindictive, Putin did not want merely to defeat, but to utterly crush his enemies. Khodorkovsky ignored those who warned him of the danger, and to finance his ambitions he sought American investment.
The temptation had been first offered to Exxon on a bitterly cold evening in Oslo in January 2002, when an American oil engineer employed by Khodorkovsky had suggested to an Exxon executive that the two companies try to do something together. Four months later an Exxon group arrived in Moscow to discuss an exploration project in Siberia with Yukos. After several days, Hubert Thouvenot, a French oil engineer employed by Khodorkovsky, confessed that the discussions were a ruse. “We’re using these exploration talks,” he told Tim Cejka, Exxon’s president of exploration in charge of negotiations, “as a test whether you sincerely want to invest in Yukos. We want to see whether you’re ready to do something more serious. Khodorkovsky is going to America to see government officials and would like to meet Lee Raymond.” Inevitably, Raymond’s reaction was negative. “Lee doesn’t want to meet an unknown Russian,” Tillerson responded. “Rex,” said the imploring voice from Moscow, “this is something big. You’ve got to meet him.”
Khodorkovsky and Thouvenot met Raymond in Dallas in June 2002. “All of Yukos is for sale,” Khodorkovsky told Raymond, “but we must proceed bit by bit.” Raymond was excited. He had made his name merging Exxon and Mobil in 1999, creating the world’s biggest oil company. Buying Yukos
would double Exxon’s oil reserves, the size of which was the key to an oil company’s survival. Disturbed by BP’s success in Russia, and encouraged that Putin had apparently approved Shell’s $1 billion investment in Salym, Raymond was spurred to forge close links with Yukos. He was unfazed by Khodorkovsky’s high profile.
The negotiations, codenamed “Rugby” and confined by Raymond to six executives, involved few bankers: in a historic shift within ExxonMobil, Raymond declared that bankers added little value. To test the water, ExxonMobil intended to start negotiating the purchase of 10 percent of Yukos, but with Khodorkovsky’s encouragement, Raymond’s initial offer was to pay cash for a 15 percent stake in the corporation, with the intention, if the Kremlin approved, to buy another 25 percent after three years. Unsurprisingly, Raymond was fearful of the deal slipping away. Seeking reassurance, he asked Khodorkovsky for exclusive rights to negotiate, and in early 2003 Khodorkovsky finally agreed to sign a letter promising Exxon four months’ exclusivity. Raymond’s suspicions, however, had been justified. During his return flight to Moscow from Dallas in June 2002, Khodorkovsky had told an aide, “We’ll negotiate with these guys. Now call Chevron and we’ll offer them the same.”