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"Russia can create provocations." Interview with Lana Zerkal

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The Cabinet of Ministers’ decision to allocate a portion of the Black Sea shelf to Naftogaz for prospecting and developing oil and gas reserves has been highly criticized by both inside Ukraine and outside. The Russian authorities, their Ukrainian satellites, as well as small oil and gas producers accustomed to speculating in licenses by reselling them in foreign markets, spoke out against it. What is behind the Naftogaz intentions, why is the monopoly seeking a project that requires significant capital investments, and whether this will lead to a full-scale war with Russia, Lana Zerkal, Advisor to CEO of Naftogaz Group, told The Page.

- How do you assess the Cabinet of Ministers’ decision to give up the Black Sea shelf for prospecting?

- I consider this decision to be positive for Ukraine as a state. It creates a chance for achieving full energy independence and transformation from an importing country to an exporting country in the next 3-5 years. Our subsidiary Chernomornaftogaz has experience in the effective development of the Black Sea shelf. At the end of 2012, Ukraine produced about 2.2 billion cubic meters of gas in the Black Sea, and the plans for 2015 were even to reach production of 3.5 billion cubic meters. Unfortunately, the occupation of Crimea, the expropriation of platforms and all the fields that we developed in the Black Sea, have changed these plans significantly. Moreover, the security situation in the Black Sea did not allow Ukraine to implement the rest of the projects planned for 2014-2019.

- Well, the situation during this time, the situation with Russia has not changed.

- We understand that the window of opportunity is being greatly reduced. Investments in fossil energy extraction will be possible only over the next 5-10 years. International financial institutions are revising their investment portfolios, as well as energy sector major players. This is already a reality.

Despite this, we understand that our country still has a chance to use our resources in the Black Sea region. But this requires certain coordinated actions with our partners. Increasing the presence of NATO warships in the Black Sea is one of the necessary actions to create a safe conduct of both 3D seismic and subsequent field development. After the incident in the Black Sea that happened to Ukrainian warships in November 2018, the Alliance is already monitoring the situation there. Taking into account all the threats existing in the region, the NATO Secretary General, after the meeting of the Foreign Ministers on December 2, 2020, stated that the Alliance, in response to the Russian Federation actions, is increasing its presence on land, sea and in the airspace over the Black Sea region.

We plan to start the implementation of works on the shelf study and development as early as next summer. This will be a 3D seismic survey to explore reserves and determine where to start development.

QuoteWe understand that the window of opportunity is being greatly reduced. Investments in fossil energy extraction will be possible only over the next 5-10 years. International financial institutions are revising their investment portfolios, as well as energy sector major players. This is already a reality.

- How much investment is needed at the first stage of research?

- The first stage of a 3D seismic survey will cost about $100 million. These funds will be used to rent special vessels and conduct geological and technical investigations. We have a team of specialists from Chernomornaftogaz and Naukanaftogaz, we also involved specialists who worked for Shell and ExxonMobil. That is, now the team is formed from precisely those people who have direct experience in the offshore fields development in order to begin practical work on the gas reserves investigation in the offshore section, as well as in the exclusive economic zone, in the summer of 2021.

The starting date will depend on many factors including obtaining a license, carrying out all procedures related to the services purchase. At the same time, we can take advantage of the situation created by the pandemic and the economic crisis. These negative events led to the revision of the many companies’ plans related to the new offshore fields development. The drop in demand has led to a decrease in the 3D seismic surveys cost and creates additional opportunities for us to choose companies.

- Suppose the 3D seismic results are positive. What will you do next?

- We do not even doubt that the results of the 3D seismic survey results will be positive. The question is where exactly the most promising portions will be found. When there are proven reserves, it is much easier for you to attract investments, you become more attractive from an investment point of view.

At the same time, we have already started preliminary negotiations with large companies involved in the offshore fields development. And the interest in the Ukrainian portion of the Black Sea is very high. Proceeding from the fact that the strategic goal that the state as a shareholder has set for us is to increase the volume of gas production to ensure the energy security of Ukraine, our choice of possible partners, first of all, will be determined by the possibility of achieving these goals.

Romania received confirmation of gas reserves in the field Neptune in 2012, but at the moment they have not yet started commercial development. We do not plan to repeat this situation. Therefore, it is important to draw the right conclusions from the mistakes made by our Romanian colleagues and create conditions to make industrial production possible in 3-5 years.

QuoteWe do not even doubt that the results of the 3D seismic survey results will be positive. The question is where exactly the most promising portions will be found. When there are proven reserves, it is much easier for you to attract investments, you become more attractive from an investment point of view.

- The Romanian side failed to start development due to the decrease in the gas price. Do you have any guarantees that the price will continue to rise?

- In Romania, one of the main factors that led to such a long delay in the start of industrial production is unacceptable legislation. It strictly regulates the activities of companies related to the offshore fields development and regulates the mandatory sale of produced gas on the domestic market. Exxon considered this approach unreasonable and economically disadvantageous. An additional negative factor was the local authorities’ decision regarding the building of the pipeline.

The volume of the Romanian gas market is very limited, and the reserves discovered in the "Romanian" part of the Black Sea make it possible to produce at the level of 8 billion cubic meters of gas per year. And that significantly exceeds the demand of the Romanian market. Exxon's decision to withdraw from the project led to a complete reformatting of the consortium and an additional delay in the start of commercial gas production. At the same time, it served as an incentive for revising the legislation that regulates production.

- How do you feel about the statements of the National Extractive Industries Association that criticized the Cabinet of Ministers’ decision to give Naftogaz the portion without a tender?

- Last year there was an attempt to hold an auction that was soon canceled. The question is to what extent the companies that come to the auctions are ready to really engage in development and production, and not just get a license and freeze it. Naftogaz is a state-owned company that acts in the interests of the state; the state is its sole shareholder. We cannot fail to comply with the shareholder's decision. For us, this is a priori a task that we must accomplish in the most economically attractive way. Therefore, Naftogaz has four advantages. We will not just "own" a license and will definitely start work. We are a transparent state-owned company, we have experience in the Black Sea, and we are a company with the correct western corporate governance that gives us the opportunity to attract a quality investor for work in the Black Sea.

QuoteWe will not just "own" a license and will definitely start work. We are a transparent state-owned company, we have experience in the Black Sea, and we are a company with the correct western corporate governance that gives us the opportunity to attract a quality investor for work in the Black Sea.

- Are you already conducting specific negotiations on involving an investor?

- Yes, they have started. But with whom exactly—we cannot say, this is a commercial secret.

- Is a legal or military conflict with Russia possible in case the production starts?

- We are already in arbitration over expropriated property and the inability to use licenses issued for production in the Black Sea. The defendant in this process is the Russian Federation, the arbitration was established in 2017. In terms of jurisdiction, the arbitration tribunal’s authority to consider this issue has already been confirmed and the violation of investment protection requirements was established in February last year. Arbitration is now at the stage of considering the losses calculation. In the summer, hearings will be held, which, unfortunately, were postponed for more than six months due to the pandemic. We expect a decision in this process in early 2022.

And you are absolutely right—Russia can create provocations. Therefore, we are in constant communication with the main partners in the West, informing them about our plans, and also discussing the possibility of providing such a "protective umbrella" for us during the period of work, including those related to 3D seismic. We expect that the partner who will be directly involved in the development will be from countries that have the capacity to protect their own investments and to protect their own citizens in the Black Sea region.

At the same time, as already mentioned, we expect an increase in the naval forces presence of NATO member states in the Black Sea and the creation of a safe environment for 3D seismic surveys and the unhindered development of natural resources.

QuoteWe are already in arbitration over expropriated property and the inability to use licenses issued for production in the Black Sea. The defendant in this process is the Russian Federation, the arbitration was established in 2017.

- Aren't you afraid that World War III will start because of these fields?

- I think that the Russian Federation is now not in a position to start World War III. Of course, there is a statement made by one of the deputies of the State Duma of the Russian Federation that, in his opinion, until the delimitation in the Black Sea is carried out, Ukraine has no right to move somewhere. For the whole world, there are no questions about the ownership of the Crimean Peninsula. We have carried out a delimitation with Romania. And all the work that we plan to carry out will take place not far from the delimitation line with Romania determined by the decision of the International Court of Justice.

When we presented our transformation strategy a few months ago, we also said that we were planning to develop the shelf. Literally a couple of hours later, Gazeta.ru came out with a statement: as soon as Ukrainian ships enter this segment with prospection, Russia will consider it an invasion. That is, they publicly stated their position.

But the question is that 3D seismic will be carried out by non-Ukrainian vessels. I really want to see how Russian warships will attack, for example, Turkish or Canadian research ships.

In addition, there is a preliminary agreement at the political level that we will synchronize certain actions with the Romanians. And that can significantly reduce our and their costs for the work. Ideally, we would like the "Romanian" pipe to run through the Ukrainian portion of the Black Sea. This would significantly increase the liquidity of our market, and the Romanians would have access to the European market when they could use our storage facilities in the summer and then sell gas from them in the winter. And that would increase their economic attractiveness.

QuoteWhen we presented our transformation strategy a few months ago, we also said that we were planning to develop the shelf. Literally a couple of hours later, Gazeta.ru came out with a statement: as soon as Ukrainian ships enter this segment with prospection, Russia will consider it an invasion. That is, they publicly stated their position.

- How long can the research itself take?

Ideally, to conduct a 3D seismic survey over the next summer. At the same time, we will simultaneously carry out all other work related to infrastructure projects onshore, preparation for production. This is a set of issues related to each other.

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