A recently founded Dutch company is on the road to winning a tender to explore Ukraine’s largest shale gas field after the firm’s proposal was chosen as the best among a group of bidders.
But the move has ignited some controversy: The company, Yuzgaz BV, has not yet disclosed its investors, feeding speculation that people affiliated with the country’s history of corrupt gas deals could be somehow involved.
Ukraine’s Cabinet of Ministers will need to approve the choice before Yuzgaz becomes a partner with Nadra Yuzivska in the exploration of the nearly 8,000 square kilometer Yuzivska gas field in eastern Ukraine.
Royal Dutch Shell won a contract to develop the field with Nadra Yuzivska in 2012, but withdrew in September 2015, citing the war and the steep drop in global oil prices.
The man behind Yuzgaz is former European Bank of Reconstruction and Development Ukraine country director Jaroslaw Kinakh, who controls Yuzgaz through the Luxembourg-based investment fund Emerstone Capital Partners.
Kinakh has declined to name which investors have put up capital for the development project, though he has insisted that the investors are neither Russian nor Ukrainian.
Jaroslaw Kinakh
Shell’s exit came as a blow to Ukraine’s attempt to have foreign companies that are less connected to the country’s web of corrupt interests develop its gas deposits. Finding a replacement was never going to be straightforward – especially since so much is at stake.
The agreement grants rights to the gas field for 50 years.
Non-transparency
Under the terms of the agreement, after Shell walked away, Nadra Yuzivska – and parent company Nadra Ukraine – did not actually need to put the agreement out to tender at all.
“(But) the project was too big and too important to Ukraine… so we chose to go to tender… (as) we didn’t want to start off on a bad foot,” said Victor Nazarkevych, the CEO of Nadra Yuzivska.
But starting off on a “bad foot” is exactly what has happened.
Critics claim there was a complete lack of transparency in the tender competition.
“There was no official information available regarding the members of the competition committee, the tender conditions, or requirements for participants in the competition,” said lawmaker Nataliya Katser-Buchkovska, the chairman of the parliamentary subcommittee that oversees energy investment and sustainable energy.
Last fall, Nadra Yuzivska notified select press, key embassies and the European Business Association about the tender. It also sent a letter to the American Chamber of Commerce, which was then headed by Graham Tiley, the then-head of Shell Ukraine.
Nazarkevych believes that it was in Nadra Yuzivska’s interests to get as many bids as possible. The deadline was extended four times to accommodate the needs of more than one potential bidder.
But, according to Alastair McBain, CEO of Arawak Energy, an unsuccessful bidder in the tender, this wasn’t enough time.
“It took Shell several years to put their bid together…” McBain said. “We wrote to Nadra Yuzivksa twice asking for a (further) extension, but much to our surprise and dismay, this was not granted. We made it clear that we would not have the time to put in a substantive bid as a consequence.”
McBain was told that additional extensions were not granted because members of parliament involved in the process wished to have everything wrapped up before the summer holiday.
Lack of oversight
Once the contest was closed, the selection process became less transparent. A committee was established to evaluate the bids, but the process for selecting committee members seems to have lacked checks and balances.
Back in 2012, the Interagency Commission on Organization of Signing and Execution of Production Sharing Agreements was created to manage the state’s interests in the PSA. Led by the office of the first vice prime minister, it included senior figures from key government ministries as well as six parliament deputies.
Although the individuals on the committee changed in the aftermath of EuroMaidan, it has continued to oversee the agreement.
It was this committee that had the final say on whether to put the bid out to tender and it was also this committee that decided who would be on the committee to evaluate the bids.
But here, the interagency committee selected from among its own ranks: the evaluation committee was essentially a slimmed-down version of the production sharing agreement committee.
Public benefit?
The evaluation committee received the three bids and, according to sources present at the meeting, quickly and unanimously agreed on the Yuzgas bid.
The Kyiv Post is familiar with the content of the various bids and it is immediately apparent why the Yuzgas bid triumphed: It is significantly greater in size and scope than the other two bids.
In particular, the incentives promised to the state and to Nadra Yuzivska are significantly higher in the Yuzgas bid.
At the time this meeting took place in July, Nadra Yuzivska was 90 percent owned by the state company Nadra Ukrainy and 10 percent owned by SPK Geoservice, an opaque company with alleged ties to the family of ousted former Ukrainian President Viktor Yanukovych.
SPK Geoservice sold its share in Nadra Yuzivska soon after the bid winner was announced. The Kyiv Post understands that SPK Geoservice was removed so as not to give the perception of impropriety. Sources say that it only received the Hr 500,000 it put in as part of its settlement, but we have been unable to verify this.
This means that the benefits offered by Yuzgas – namely an incremental $40 million in exchange for a 90 percent share, as well as other bonus payouts and social investments – should all come to the state in one way or another.
Lack of experience
Yuzgas offered significantly more than its two rivals under each criteria of the bid. It offered a greater investment over the riskiest first five year phase, it offered the most seismic studies (joint first with another bid), and it also offered higher “first gas” and “first production” bonuses.
The Yuzgas bid comes with guarantees from its parent companies, but they themselves were also only registered this year.
It is hard to find much financial information about any of these companies. But even if Yuzgas and Emerstone Energy do not have the capital for the promised investment on hand at the moment, they may be able to raise it once they are in receipt of a signed production sharing agreement to a vast gas field.
However, unlike the other two bidders, Yuzgas has no experience in hydrocarbon extraction.
Arawak, which submitted its bid under a wholly-owned affiliate company named Balkash, has considerable experience in hydrocarbon extraction. It is producing oil and gas in the United States, Mexico, Kazakhstan, Azerbaijan and in Ukraine — where it holds a 50 percent stake in GeoAlliance. Arawak is in turn wholly owned by a large private energy and commodities company, Vitol.
The third bidder is Burisma, a scandal-tainted energy firm founded in 2002 by Ukrainian businessman Mykola Zlochevsky, the former ecology minister suspected of corruption — accusations he has long denied. U.S. Vice President Joseph Biden’s son, Hunter, is on Burisma Holding’s board of directors.
Yuzgas’s bid pointed to a memorandum of understanding with oil-and-gas-services giant Schlumberger, likely for a services contract and technical operations support.
Big responsibility
Alternative bids were quite small for such a large field. “Our bid was extremely modest,” admitted Arawak Energy’s McBain.
The difficulty is that the production sharing agreement and the huge gas field is better suited to a much larger organization like Shell.
“The PSA structure lends itself to large international companies investing in mega projects in countries with high degrees of risk and regulatory uncertainty,” said McBain. “It is a way of carving out much of the risk by having a special arrangement for production sharing in lieu of most taxes.”
But Shell is not interested in returning, Shell spokesperson Yuliya Pikhnovska told the Kyiv Post.
“Given the current situation with the oil price slump, there are no plans for new exploration projects in Ukraine in the foreseeable future,” Pikhnovska said.
And it’s not only Shell — there is little international interest in Ukrainian hydrocarbons, said Robert Bensch, senior managing partner at Pelicourt LLC, an organization specializing in Ukraine energy investments.
“If you have money it’s better to invest elsewhere,” Bensch said.
Dividing the field
So the choice could be between waiting for conditions to improve or pressing ahead with an imperfect bid.
The current geopolitical conditions make the idea of waiting less than popular, however. Katser-Buchkovska said that the field could provide up to 20 billion cubic meters of gas, making it “crucial in today’s situation.”
One option would split the field into smaller parcels, making it simpler for medium-sized bidders.
But Nazarkevych dismisses that suggestion. According to him, the field requires horizontal drilling and fracking, which makes it harder to guarantee property rights.
McBain disagrees, “In principle, I don’t see any reason why the land couldn’t be split up – it is a huge exploration project.” But he added that the PSA approach would no longer really apply, which is why breaking it up does not make sense for the various stakeholders.
Now the onus is on Yuzgas to prove that it can fulfil its promises and handle hydrocarbon extraction on this scale: that’s if it gets final approval from the government, which has 90 days to approve the its selection.
But since most of the evaluation committee will be involved in granting final approval, the final decision should not be a great surprise.
Kyiv Post staff writer Mariia Ulianovska contributed to this story.
