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Unclaimed "black gold": Why Ukraine’s oil production is not growing?

Author : Olena Holubeva

Source : 112 Ukraine

Against the background of talks on energy security and a discussion of Ukraine’s dependence on the supply of oil products from Belarus and Russia, our country has not taken serious steps to stimulate the oil industry. Ukrnafta, the largest oil company in Ukraine, is now in conditions in which it cannot freely trade the oil produced or sell it for export, and private companies are in conditions in which oil is extracted according to the residual principle
23:31, 15 July 2019

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Over the past 20 years, oil production in Ukraine has been steadily stagnating. In the past three years, however, the situation has relatively stabilized. Last year, the country produced 1.6 million tons of oil and 660 thousand tons of gas condensate, in 2016 it was the same 1.6 million tons of oil and 640 thousand tons of condensate, the director of special projects in Scientific -technical center Gennady Ryabtsev states.

At the same time, in the last 5 months of this year, oil production went up sharply - 1.06 million tons were produced against 895 thousand tons for the same period last year, says Director of ExPro Consulting Gennady Kobal. According to him, this is due to the fact that, on the one hand, private companies have increased production volumes, and on the other hand, they optimize their processes and increase oil production by the country's largest producer, the semi-state Ukrnafta (50% + 1 share belongs to Naftogaz of Ukraine ", and 42% - to the structures associated with the Privat group of oligarch Igor Kolomoisky).

In particular, in May, thanks to overhauls at five wells of the Rybalske, Anastasievske, Novohrygorovske, Strutynske fields, as well as optimization of the wells of another three fields, the company increased production by 145 tons / day, reaching production of May - 130.7 thousand tons of oil and condensate, which is 8.5% more than in May last year. In general, the company only last year was able to reverse the negative trend of reducing its production volumes, having increased production by 5% to 1.4 million tons of oil and condensate. We received a positive trend for the first time in several years: in 2015, the decline in oil and condensate production was 11.5 and 13.5%, respectively, in 2016 - 9.2 and 13.5%.

The company notes that, despite the increase in capital investment in recent years, it has not yet been possible to compensate for the lack of sufficient investment in the past. Experts have repeatedly pointed out that when the company was under the management of people associated with the Privat group, oil and gas were literally pumped out of it, and no investments were observed.

Ukrnafta claims that in 2018 capital investment increased by 8% (compared to 2017), which allowed for the overhaul of 121 wells, as well as 17 fracturing operations to increase production at depleted fields. For 2019, the company has planned to drill 3 new wells. Moreover, the drilling program is resumed after a break of almost two years. On June 24, the first new well was drilled in the Verkhnyomaslovetske field in the Lviv region. The well is being drilled by the old, practically museum-working-bench “Uralmash 3D” from the company's own drilling fleet, which made it possible to significantly reduce the cost of the process and compensate the cost of the services of the Schlumberger and Weatherford subcontractors.

It is worth noting that, in general, due to the use of worn-out equipment at Ukrnafta’s fields, the average production of one barrel of oil costs the company about $ 18.5 per barrel, with international standards about $ 10 per barrel.

The company could not update the fleet of equipment and invest in the expansion of production, even after the appointment of compromise management led by Briton Mark Rollins. One of the reasons is the tax debt, which, according to experts, was formed during the period when the company was under the management of Privat group.

Due to the debt, the Fiscal Service regularly applied interim measures to the company's accounts, freezing the flow of funds on them. In 2018, the ex-chairman of the Ukrnafta board, Mark Rollins, stated that as a result of the debt, the company had problems with rent payment, and Derzhgeonadra might not extend 27 special permits for the development of fields, which would lead to a catastrophic decline in production. As of today, the issue with special permits has been settled: there is only one lawsuit in court - for the Borislav deposit of Ukrnafta (it was filed on the basis of the environmental inspection findings).

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Tax debt at the end of 2018 was 28.8 billion UAH; of this amount, UAH 16.9 billion comes from fines and penalties. Several debt repayment scenarios were considered. At a meeting of shareholders in March, a plan was approved, according to which shareholders agreed on a buyout of 4 billion cubic meters Ukrnafta natural gas at the market price. Of this volume, 2 billion cubic meters is gas from underground storage facilities and 2 billion cubic meters is gas of future production. With VAT, the amount of the transaction could be up to UAH 30 billion, which was quite enough to cover the tax debt. As reported by 112.ua, the most remarkable thing in the proposed scheme was that Naftogaz would redeem gas, but not for its own funds, but for the money, the government would compensate for the gas supplied to the population. However, the deal approved by the shareholders has not yet taken place, as the Cabinet of Ministers did not take the relevant decisions.

Another reason for which Ukrnafta is limited in investment opportunities is the imperfect system of selling produced oil, which is enshrined at the legislative level. The company is obliged to sell its oil exclusively at auctions, which are appointed by the Ministry of Energy. In this case, the starting price is calculated by the formula of the ministry, and, as the company claims, it often does not keep up with the market price, which is the reason for the failure of auctions. In 2018, 12 out of 24 auctions did not take place. This year, 7 out of 11 auctions appointed by the Ministry of Energy did not take place. Again due to legal restrictions.

The only buyer of oil at the auctions is one of two refineries operating in Ukraine - the Kremenchuk refinery (controlled by Igor Kolomoisky and Olexander Yaroslavsky). To cover its own needs, the Kremenchuk refinery imports Azerbaijani oil. According to Gennady Ryabtsev, in 2017 about 1 million tons were imported into the country, in 2018 - 600 thousand tons.

Ukrnafta repeatedly came out to the government with a proposal to allow it to export oil in case there is no buyer for it in the domestic market. However, the government does not allow this. Theoretically, if export were allowed, it would be possible, Gennady Kobal noted, recalling that oil was exported to Lithuania and Poland by Gals K (affiliated with Ukrnafta).

Ukrnafta should be allowed to export oil at least so that the Kremenchuk refinery could not receive it at a favorable price. Also, it would be necessary to change the sales scheme for oil produced by Ukrnafta, making the company more flexible:" So that it can ship oil along with private companies on market conditions, and to those buyers (in the foreign or domestic market) who are ready to offer a reasonable price."

The second-largest oil producer in the country is Ukrgasvydobuvannia, but oil is not the main business for it. Historically, Ukrnafta had licenses for oil fields, while Ukrgasvydobuvannia had licenses for gas fields. However, where there is gas, there are oil wells and they need to be pumped out, and vice versa. At the expense of its own oil, the Ukrgasvydobuvannia provides raw materials for the Shebelinsky gas processing plant, which sells its products, including through its own network of gas stations, said Gennady Ryabtsev. According to the annual report of Naftogaz, the volume of processing at the enterprise last year decreased by 8% compared with the figures for 2017 - to 454 thousand tons.

Among the relatively large oil producers in Ukraine are Naftogasvydobuvannia (part of DTEK), Natural Resources (included in Geo-Alliance), Poltava Petroleum Company, Ukrnaftoburinnia, and Esko-Sever. All other private owners produce a “pair of buckets” - less than 20 thousand tons of raw materials per year, says Gennady Ryabtsev. The growth of production from private companies in the current realities is associated more with the growing interest in gas and, consequently, an increase in the volume of development of fields with oil. Due to the fact that industrial enterprises in the country are buying gas at a market price linked to import priority, its production is now a profitable line of business. As reported, together with private and state-owned companies in Ukraine in 2018 increased production volumes to 21 billion cubic meters (with the country required 32 billion cubic meters per year).

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At the same time, there is no place for private owners to sell oil in Ukraine. Of the seven refineries that once worked in Ukraine, two were left, but their oil needs are satisfied. Private owners are left to sell oil for the so-called mini-refineries that supply oil products to regional networks, says Gennady Kobal. The segment of these enterprises is one of the most unexplored in Ukraine. According to the Scientific and Technical Center, there are 89 enterprises in Ukraine which main activity is the processing of oil and gas condensate, but what kind of enterprises they are, what kind of oil products they produce, to whom they are sold and to whom they belong is a secret!

In informal conversations, market participants say that most often the representatives of such enterprises buy crude oil for cash, and due to the lack of proper control over their activities they minimize tax payments. It only remains to be wondered if this is not the main reason for the fact that about 1.5 thousand gas stations operate illegally in Ukraine, through which at least 40 thousand tons of oil products are sold per month, which have been repeatedly stated by the Oil and Gas Association of Ukraine? According to the Association, in our country, the shadow diesel market accounts for about 20%, and liquefied gas market – for 50%.

Meanwhile, despite the fact that the traditional oil fields in the Lviv-Volyn basin and the Donetsk-Dnipro field have been depleted by about 80-85%, Gennady Ryabtsev is sure that there is a potential for increasing domestic oil production in Ukraine: We are inferior to most countries that produce oil in the Middle East, however, according to estimates of the resource base, we have enough to meet at least half of Ukraine’s needs. Now the country provides less than a quarter of its own volume at the expense of its own production. The expert stressed that a huge amount of potential resources had not been explored at all. For the last 15–20 years, exploration and pilot production has been very insignificant, money for exploring new deposits and their development was not invested, "he said. According to Kobal, Ukraine right now could increase oil production at least twice.

In the meantime, the state does not stimulate its own oil production and does not make any tangible steps towards withdrawing from the shadow and the development of the oil refining industry. So Ukraine remains dependent on the supply of petroleum products from Russia and Belarus and responds with a rise in wholesale prices when the northern neighbor takes steps towards tightening control over shipments to Ukraine.

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