From 2000 to 2015, the international accounting firm PwC audited Gazprom, and it signed off on its annual reports without revealing anything of real interest. In 2015, Gazprom chose a Russian auditor instead, presumably to liberate itself from Western insight following the Western sanctions against Russia after its aggression against Ukraine starting in 2014.50
No CEO in the world has overseen such value destruction as Gazprom’s Miller, but even after seventeen years of disastrous management, Miller’s tenure appears secure, reinforcing the perception that he is a transmission belt for Putin’s decisions about crony enrichment and geopolitics. In 2013, Forbes quoted an anonymous banker saying, “If Miller goes, the stock price of Gazprom will rise by 15% the same day.” The Economist summarized the situation at Gazprom at around the same time: “Gazprom is not a normal company. . . . As a firm that issues shares to outside investors, it should in theory strive to maximise profits in the long run. But since it is majority-owned by the Russian state, it pursues political goals too. . . . As President Vladimir Putin consolidated his power in the early 2000s, he built Gazprom into a main instrument of Russia’s new state capitalism. He appointed allies to top positions. He used Gazprom as a tool of foreign policy.”51
Even at Gazprom there are healthy parts arising from private companies it has bought. Gazprom Neft, formerly Sibneft, bought by Gazprom in 2005, is still considered the most efficient and modern oil company in Russia, thanks to the modernization pursued under Roman Abramovich. Gazprom’s ultimate advantage is its vast resources of cheap gas, while its drawback is that it has damaged its reputation for reliability so beyond contempt that it is unable to sell its plentiful gas even at rock-bottom prices.
Gazprom is probably Russia’s foremost geopolitical tool in the former Soviet Union and Eastern Europe. In the 1990s, Gazprom often allowed its customers to run up large arrears but then called for debt-equity swaps and seized control of the pipeline system in several countries—Belarus, Moldova, and the Baltic countries.
Gazprom has been notorious for cutting supplies for flimsy reasons in Eastern Europe. A study by the Swedish Defense Research Agency established that Russia used “coercive energy policy,” such as supply cuts, coercive price policy, and sabotage, fifty-five times from 1991 until 2006. Of these incidents, thirty-six had political underpinnings and forty-eight had economic foundations. Gazprom was the dominant actor in sixteen of these cases. The main targets have been Lithuania, Georgia, Belarus, Ukraine, and Moldova. The two biggest and most famous incidents of cuts to gas supply were to and through Ukraine in January 2006 and January 2009.52
Gazprom claims to be reliable and generous, but the Kremlin has pursued a combination of self-dealing and geopolitics. The Russian-Ukrainian gas trade is a case in point. Reuters revealed how it functioned. From 2002, the Ukrainian gas trader Dmytro Firtash, one of pro-Russian president Viktor Yanukovych’s main backers, dominated this trade. “Gazprom sold more than 20 billion cubic metres of gas well below market prices to Firtash” from 2010 to 2013. The price he paid was so low that companies he controlled made $3.7 billion on the arrangement, and Gazprombank “granted Firtash credit lines of up to $11 billion.” In 2014, Firtash was arrested in Vienna at the request of the US Department of Justice for corruption in India, but a Russian businessman close to Putin “loaned the Ukrainian businessman $155 million for bail.” Thus, Firtash appears to have been a Kremlin influence agent rather than a businessman.53
Gazprom’s blatant cuts of gas supplies through Ukraine for four days in 2006 and especially for two weeks in 2009 greatly upset the European Union. It responded by demanding a different trading regime. In 2009, the European Union adopted its third energy package, compelling the unbundling of supply and production from networks. In February 2015, the European Commission went further, proposing an energy union. European Commission president Jean-Claude Juncker declared that the free movement of energy would become a fifth freedom of the European Union, in addition to the free movement of goods, services, people, and capital.54
Gazprom has allied with the big energy companies in Western Europe, often being accused of oligopolistic aspirations. The main victims have been East European countries and the consumers of gas. In August 2012, the European Commission opened an investigation for anticompetitive behavior against Gazprom’s pricing and trading policies. In April 2015, the commission expressed its preliminary view that Gazprom had broken EU antitrust rules by pursuing an overall strategy to partition Central and Eastern European gas markets. The European Commission established that “6 EU Member States are dependent on one single external supplier for all their gas imports.” These countries are Bulgaria, Estonia, Finland, Latvia, Lithuania, and Slovakia, whose sole supplier is Russia, and all but Finland had suffered multiple politically motivated supply cuts.55
The commission had three major concerns: Gazprom’s prohibition of the reexport of gas, unduly high gas prices in monopolized markets, and Gazprom’s use of its pipeline monopolies to seize markets. The European Commission alleged that Gazprom had used monopolistic power in Central and Eastern Europe for geopolitical purposes. Gazprom decided to cooperate. In March 2017, the commission acknowledged that Gazprom had made sufficient concessions on all three points, adopting a market-economic approach with free trade of gas.56
In May 2018, the European Commission finally issued its verdict, imposing on Gazprom “a detailed set of rules that will significantly change the way Gazprom operates in Central and Eastern European gas markets.” Gazprom had “to remove any restrictions placed on customers to re-sell gas cross-border,” enabling “gas flows to and from parts of Central and Eastern Europe that are still isolated from other Member States.” Gazprom had to render pricing transparent and was prohibited from taking advantage of its control of gas infrastructure. Yet the energy giant did not have to pay any fines.57
Ukraine has the greatest troubles with Gazprom. Traditionally, it was Gazprom’s biggest customer, but this gas trade has been notoriously corrupt, involving both Russian and Ukrainian gas traders, as Margarita Balmaceda has documented so well. In early April 2014, one month after President Yanukovych had fled the country, Russia hiked Gazprom’s gas price to Ukraine by 80 percent from $268.50 per billion cubic meters to $485 per bcm. Naturally, Ukraine’s Naftogaz objected and stopped accepting Russian gas, for which Gazprom sued it. Because of Gazprom’s arbitrary pricing and erratic supplies, Ukraine stopped importing gas from Russia from November 2015.58
In June 2014, Gazprom filed a lawsuit against Naftogaz at the Stockholm International Arbitration Court, claiming that Naftogaz owed it some $75 billion for not having bought all the gas it had contracted for ten years in January 2009. Naftogaz countersued the same day. In 2017, Naftogaz won on all the three counts, which largely coincide with the issues raised by the European Commission. The arbitration court dismissed Gazprom’s claim that it should be paid for gas that Naftogaz had not purchased. The court also revised the price formula, tying the price to market prices at European gas hubs. Finally, the court ruled against the ban on gas re-export. Later on, Naftogaz won an award from Gazprom in a separate case about Gazprom underpaying for gas transit through Ukraine and won a net award of $2.6 billion. Gazprom responded by refusing to pay.59
Gazprom continues its battle for market dominance in Europe. It is proceeding with the construction of two big pipelines: Nord Stream 2, from Russia to Germany through the Baltic Sea, and Turkish Stream. Its obvious aim is to monopolize transportation of gas from the east to the European Union. Since Gazprom offers attractive conditions to several large European energy companies, they bank on Gazprom. The opposing forces are parts of the European Commission, which favors energy security and a well-functioning energy market, the East European countries, and the United States, which is facilitating the exports of liquefied natural gas to Europe. For the time being, the market is winning, as natural gas sold on the spot market has become the price setter in Europe, and some of the gas comes from the U
nited States.
Gazprom has not been sanctioned by any Western country because of European resistance, whereas the United States sanctioned Novatek, Rosneft, and Gazprombank on July 16, 2014, and Miller on April 6, 2018. As the Financial Times has stated, “Dealing with Gazprom is a delicate matter. This is no ordinary parastatal enterprise, being as much a tool of geopolitics as an energy company. Vladimir Putin . . . made clear his hostility to the [EU] probe from the outset, passing a law forbidding state companies from passing information to foreign regulators without Moscow’s consent.”60
Together with Gazprom, Rosneft, which produces half of Russia’s crude oil, is Russia’s prime cash cow. It stands out as Russia’s most aggressive corporate raider. Because its average production costs are low, it generates large rents. Like Gazprom, however, Rosneft’s free cash flow is usually small because of excessive capital expenditures, mainly on acquisitions of other oil companies but also on capital investment. Rosneft is generally considered more modern than Gazprom because most of its assets were acquired relatively recently from excellent private companies—Yukos, TNK-BP, and Bashneft. Furthermore, it has hired many Western managers for senior positions. Its development, too, has differed from Gazprom’s, because from the outset Rosneft was much smaller, but it has compensated by being more aggressive. Over time, Rosneft appears to be becoming more monopolistic and less efficient, as its poor stock price reflects.
In the early 1990s, the Russian reform government broke up the Russian oil industry into many independent companies. From 1992 to 1999, they were first privatized and then consolidated into large, vertically integrated oil companies—Yukos, Lukoil, TNK, Surgutneftegaz, Sibneft, and a handful of others. From 1999 to 2004, the oil industry went through a major recovery, and oil production surged by 50 percent. The three oil companies that had been privatized by financial outsiders—Yukos, TNK, and Sibneft—led the surge (fig. 4.1, p. 111).61
Rosneft originally comprised various remaining state-owned oil assets, but two men drove its expansion: Sergei Bogdanchikov, its CEO until 2010, and Igor Sechin. Both benefited from Putin’s energetic but understated assistance. Sechin has been one of Putin’s closest aides since 1991. Putin has described him as “a philologist by training. He knows Portuguese, French, and Spanish. He worked abroad, in Mozambique and Angola.” He presumably worked for military intelligence (GRU) in Africa. As probably Putin’s closest aide in the Kremlin in the early 2000s, Sechin seized control over Rosneft soon after 2000. From 2004 to 2012, he was chairman of Rosneft’s board of directors. He maintained control over the company as deputy prime minister for energy policy, 2008–2012, and since 2012 he has been the CEO of Rosneft, despite having worked previously only in the public sector.62
In a complex series of maneuvers from 2004 to 2005, almost all Yukos assets were expropriated to the benefit of Rosneft, which acquired the assets at prices far below their market level in “auctions” without competition. Thanks to these Yukos assets, Rosneft tripled its oil production and became one of Russia’s biggest oil companies, roughly equal to the privately held Lukoil.
Rosneft’s second major expansion occurred in October 2012, when it acquired TNK-BP for the high price of $55 billion. From its formation as a joint venture in 2003, TNK-BP had been the most successful big oil company in the world measured on return on investment. In March 2013, BP stated: “BP initially invested around $8 billion in its 50 per cent interest in TNK-BP in 2003. Since then TNK-BP has grown its production by 41 per cent [and] has replaced its reserves by an average of 125 per cent a year.” BP received net $12.5 billion in cash and 18.5 per cent of Rosneft shares, then valued at $14.5 billion. In addition, BP received dividends exceeding its initial investment of $8 billion. Thus, in a decade BP made an extraordinary gain of nearly 350 percent on its initial investment of $8 billion.63
When asked about Rosneft’s purchase of TNK-BP soon after the deal, Putin offered no commercial rationale, but his detailed response revealed considerable involvement: “It is true that the Cabinet and I had mixed feelings . . . [about] Rosneft’s purchase of BP’s interest.” Putin claimed not very credibly that he opposed nationalization as “there was concern that . . . the Russian part of TNK, could also be absorbed by Rosneft, a state company. . . . That does not correspond to our trend of curbing government sector growth.” He continued: “We had a difficult choice to make. But ultimately, we nevertheless agreed with Rosneft and BP’s suggestion, their joint suggestion that they could work together.” He welcomed BP to “the board of directors, this will ensure additional transparency in activities of our biggest oil company, Rosneft, which incidentally is the world’s biggest crude oil producer.”64
Despite the company’s excessive debt, Sechin wanted to continue Rosneft’s expansion. In 2014, he announced that he wished to buy Bashneft. In 2009, when Dmitri Medvedev was president, the Russian state had sold Bashneft to the private Russian company Sistema, controlled by the apolitical businessman Vladimir Yevtushenkov. Sistema quickly turned Bashneft from a mediocre company to Russia’s fastest-growing oil company. In the summer of 2014, Sechin claimed, as did a Moscow court, that Sistema had paid too little, so it renationalized Bashneft, and Yevtushenkov was arrested. Moscow’s business community feared a new Yukos affair. The arrest was perceived as particularly unfair, since few were as cautious and detached from politics as Yevtushenkov. After a few months, Yevtushenkov was acquitted, having lost Bashneft and most of his wealth. In the fall of 2016, Rosneft bought Bashneft for $5.3 billion in an “auction.” It was supposed to be a privatization without the participation of state companies, but Putin changed the rules, allowing Rosneft to gobble up another excellent private oil company.65
Adding insult to injury, in May 2017 the indefatigable Sechin claimed damages, alleging that Sistema had stripped assets from Bashneft, although Sistema had invested heavily and developed the company profitably. As a result, Sistema’s stock prices fell by 37 percent in one day, and in the ensuing month the broader Russian stock market fell by 14 percent. The Financial Times reported that “some international investors say the lawsuit is the most worrying aspect because a private enterprise has not only been stripped of its asset, but the Kremlin-controlled beneficiary is also seeking further compensation.” In August, the Bashkortostan arbitration court in Ufa awarded Rosneft $2.3 billion in a case with no merit. Sistema had lost more than half of its stock price. One Western portfolio investor commented: “For anyone wondering why the Russian market trades on giveaway multiples, Sistema’s sorry saga is a salutary tale.” This case illustrates how Putin allows Sechin to damage Russia’s national economic interests for what seems to be lawless self-indulgence.66
In December 2016, Rosneft carried out an unusual financial operation that was labeled “privatization.” The first announcement of the deal came from Putin’s press secretary Dmitri Peskov, who stated that 19.5 percent shares of Rosneft had been sold to “a consortium of Glencore and Qatar’s sovereign fund.” Putin met with Sechin, who claimed that “this amounts to over 1 trillion rubles, which will come to the budget, including 10.5 billion euros for Rosneft’s 19.5 percent stake.” Putin concurred: “It is the largest privatization deal, the largest sale and acquisition in the global oil and gas sector in 2016.”67
But nothing was what it seemed. Glencore had contributed only Ä300 million, and it benefited from a trading agreement with Rosneft, which might have covered the whole cost. Qatar contributed Ä2.5 billion, and the rest came as bank loans from Italy’s biggest bank, Intesa Sanpaolo, Gazprombank, and other Russian banks. Rosneft had just sold $10.8 billion in domestic ruble bonds, which had been purchased by Bank Otkritie and appear to have financed most of the “privatization.” The mystery deepened when Putin awarded the three main foreign participants in the deal the prestigious Order of Friendship.68
The actual beneficiary owners of these stocks remain to be identified, but formally the Rosneft shares are owned by Singaporean QHG Shares Pte, which belongs to Britis
h QHG Invest, which is controlled by QHG Holding, which is owned by the Cayman offshore company QHG Cayman Limited. Evidently, someone is trying to hide the real owners through a large number of shell companies. In June 2017, Rosneft announced that it wanted to renationalize the stake it had just sold, raising further suspicions about the real beneficiary owners.69
In September 2017, the puzzle of ownership increased when this shell company sold off 14 percent of Rosneft to a little-known private Chinese company. The owner of that company was arrested by the Chinese authorities in an anticorruption drive, and the deal was canceled in May 2018.70
Rosneft prides itself on having all the paraphernalia of good corporate governance, such as published annual reports that are internationally audited, independent directors, and, like Gazprom, a listing on the London Stock Exchange. Sechin possibly enjoys more direct access to Putin than anybody else, having had his office next to Putin’s from 1991 to 2012. In September 2017, Germany’s former chancellor Gerhard Schröder became chairman of Rosneft’s supervisory board. Of its eleven members, no fewer than seven are foreigners, but the Putin circle maintains full control, and Sechin is in charge.71
Rosneft’s oil production increased significantly between 2005 and 2012, but this was largely thanks to the Yukos assets and their good production management. At present, it accounts for roughly half of Russia’s oil production, nearly five million barrels a day, which makes it the largest listed oil company in the world in terms of oil production, but it is so inefficient and focused on the interests of the state and managers rather than its shareholders that its market capitalization was $68 billion in 2018, and ExxonMobil is five times more valuable. Rosneft is also overindebted, with a total debt that is twice as large as its market capitalization.72
Its stock prices and market evaluations speak a different language. In July 2006, Rosneft carried out an initial public offering of $10.7 billion, which was largely bought by big foreign energy companies that wanted to develop business alliances with Rosneft. Just after the TNK-BP acquisition, Rosneft’s market capitalization reached $96 billion. Sechin “pledged [that] the combined company would be worth $120 billion.” Its share prices have not done as poorly as Gazprom’s, but in August 2018 its market capitalization, even though buoyed by higher oil prices, had fallen by 30 percent to just $68 billion, while it had paid $55 billion for TNK-BP and Yukos was worth $45 billion in October 2003 before it was confiscated. Even considering today’s lower oil prices, if Rosneft had a profit-oriented management, it should be worth four times more, comparing it with other oil majors. Its poor financial performance is indicative of serious financial mismanagement destroying the value of the company.73
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