TNK BP Announces Terms of Corporate Restructuring
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TNK BP Announces Terms of Corporate Restructuring

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    TNK BP Announces Terms of Corporate Restructuring TNK BP Announces Terms of Corporate Restructuring Document Transcript

    • april 2005 Corporate Restructuring Terms Announced (p. 1) TNK BP Holds Roundtable on Impact of Oil Prices (p. 8) inside CFO Kent Potter Discusses Corporate Restructuring (p. 3) TNK BP Website Named ‘Best Corporate Site’ (p. 9) CEO Bob Dudley’s Speech at the Russian Economic Forum (p. 6) Overview of 2005 Business Plan (p. 9) TNK BP Announces Existing group structure Terms of Corporate Restructuring Bob Dudley President and CEO On January 14, 2005, TNK BP announced the terms of its compre hensive corporate restructuring pro gram. This restructuring is designed to deliver a simple and efficient cor porate structure that ensures high levels of corporate governance and enables all shareholders to participate in the company's success. The restructuring program's ultimate goal is to consolidate ownership of all TNK BP oil and gas assets in Russia into a sin gle company, owned by majority and minority shareholders and was approved by the majority and minority shareholders of registered in Russia. The new structure will reduce the number these companies at their respective Extraordinary General of legal entities, streamlining business processes and reducing Meetings (EGM), which took place on March 1, 2005. costs. It will facilitate greater transparency, improve manage Approval of 75% of shareholders present at the EGMs was ment information required for optimal decision making and required and was comfortably achieved at each of the meetings. ensure fair treatment of all shareholders. As such, it will fully All shareholders who voted for accession will now exchange meet the new standard for operating in the Russian Federation. their shares for shares in TNK BP Holding on the conversion terms recommended by the Boards of Directors of TNK, Through our heritage companies we have inherited a very Sidanco and ONACO. complex, multi tiered corporate structure. This is typical of Russian oil companies, as the industry consolidated and many Those shareholders of TNK, ONACO and Sidanco who chose companies were built from parts over time. Right now we have not to vote or who voted against may request a buy out and over 600 legal entities within the group. Our goal is to stream receive cash for their shares. However, if they do not do this, line this structure, make it efficient, transparent and relevant then their shares will be converted into shares of TNK BP to the current needs of the business. Holding. The table below indicates the 100% equity value of Restructuring Process Accession of TNK, ONACO and Sidanco to TNK BP Holding A few words on the mechanics of the restructuring process. As the first step, at the end of 2004, we registered a Russian compa Conversion ratio ny called TNK BP Holding, domiciled in the Uvat District of the Company 100% Equity value, RUR Billion (shares in TNK-BP Buy-out price per share, RUR Tyumen Region. This company will eventually consolidate all Holding) shareholdings in TNK, ONACO and Sidanco. Thus the first step TNK-BP Holding 517.8 N/A N/A of the restructuring process, namely the creation of an onshore TNK 292.5 2.66 92.5 Russian holding company, has been successfully completed. ONACO 35.1 1.89 65.6 The next phase in the process is the accession of TNK, Sidanco 160.1 23.49 815.9 ONACO and Sidanco into the new holding company. The accession of TNK, ONACO and Sidanco to TNK BP Holding
    • the value is in the upstream business, with the remaining Results of the independent valuation, per barrel amount in refining and marketing. Of the value in the of production and per barrel of reserves upstream, approximately one third is in our subsidiaries with minority shareholders. TNK BP's international financial advi Aggregate value1 / Aggregate value / sor, Morgan Stanley, has confirmed that the methodologies Company Production2 ($ 000s) Reserves3 used in the valuation process conform to international stan dards. It is interesting to note that the values of the three com TNK BP Holding $ 17 $ 2.4 panies being bought out compare very favorably to previous TNK $ 20 $ 2.0 acquisitions on a per barrel of reserves basis. BP paid $1.85 per ONACO $ 14 $ 2.5 barrel for its interest in TNK BP while ConocoPhillips recent ly paid $1.46 per barrel for its stake in LUKOIL. Deloitte val Sidanco $ 16 $ 3.1 ued TNK at $2.0 per barrel, ONACO at $2.5 per barrel and 1 Aggregate value is the sum of equity capitalization and debt. 2 2003 daily production in barrels. 3 SPE (Society of Petroleum Engineers) proved reserves in barrels of oil equivalent as of December 31, 2003. TNK BP Holding Profile each company, the conversion ratio for shares in TNK BP TNK BP Holding is currently man majority of TNK BP's Russian oil Holding and the buy out price. aged by TNK BP Management, in and gas assets. The temporary common with the approach exceptions to this are the follow In deciding upon the conversion terms, the Boards of Directors adopted for OAO TNK, and does ing companies: the network of considered a number of factors, with the primary driver being not have a board of directors. BP branded retail sites in the valuations conducted by the independent appraiser, However before completion of the Moscow, RUSIA Petroleum and Deloitte. Russian law requires that any valuation be carried accessions of TNK, Sidanco and Slavneft. These assets will out independently, and Deloitte determined all of the critical ONACO, we expect to see remain outside of TNK BP changes to the governance struc Holding until an agreement with assumptions (such as production rates, oil price and discount ture. The existing TNK BP Holding the other shareholders is reached rates) using reputable international and independent sources. shareholders, together with those and the respective businesses The results of this valuation indicated that more than 50% of of TNK, Sidanco and ONACO who are structured. In addition, TNK the value of TNK BP Holding comes from its ownership in have elected to exchange their BP's assets in Ukraine are not OAO TNK, with roughly 30% from Sidanco, less than 10% shares for shares in TNK BP being consolidated into TNK BP from ONACO and the remainder from additional companies Holding, will decide on this at a Holding, although a similar including Rospan and stakes in various upstream and other joint EGM later this year. restructuring process will be subsidiaries. implemented, over time, with Following the completion of the regard to TNK BP's business in In terms of value distribution across TNK BP's integrated accessions, TNK BP Holding will that country. business portfolio, Deloitte estimates that more than 90% of replace OAO TNK as TNK BP's principal onshore borrower. TNK The chart on this page illustrates International Ltd will continue to the main dimensions of the new Valuation and swap ratios for key subsidiaries be the guarantor for the external company today on a consolidated debt. TNK BP Holding will distrib basis. The upstream dimensions ute income to its shareholders as (i.e., reserves and production) for Swap ratio dividends, as determined in TNK BP (excluding Slavneft) and 100% Equity value, Company (shares in TNK BP RUR million Holding) accordance with Russian joint TNK BP Holding are virtually iden stock company law by the Board tical, while the key differences are 1 Orenburgneft 70,392 24.28 of Directors and shareholders. in refining and retail, where TNK BP numbers are higher than 2 Udmurtneft 32,193 273.93 Following the completion of the those of TNK BP Holding. The dif 3 Saratovneftegaz 8,938 81.95 restructuring program, TNK BP ference reflects TNK BP's Holding will consolidate the Ukrainian business. 4 Varyoganneftegaz 22,345 28.22 5 Orenburggeologia 4,050 1.64 TNK BP Holding: key metrics 6 Saratovsky NPZ 1,327 40.32 TNK BP Metric Period Units TNK BP2 Holding1 7 Neftemaslozavod 2,237 939.25 Liquids production 2004 '000 bpd 1,450 1,450 Ryazansky Zavod as of 8 57 259.73 SPE proved Neftekhimproduktov Dec. 31, billion bbl 9.1 9.1 liquids reserves 2003 9 Kaluganefteprodukt 328 97.40 Rated refining 2004 '000 bpd 700 1,030 capacity 10 Tulanefteprodukt 137 33.62 Refining throughput 2004 '000 bpd 440 570 11 Ryazannefteprodukt 1,824 1.17 Retail network3 2004 Retail sites 1,000 2,100 12 Saratovnefteprodukt 1,960 22.06 1 TNK BP Holding data exclude assets that are not part of the 13 Rostovnefteprodukt 160 2.53 restructuring at this stage: Slavneft, RUSIA Petroleum, STBP Holding (BP branded Moscow retail business) and the Ukrainian business. 14 Orenburgnefteprodukt 2,119 92.24 2 TNK BP data, excluding Slavneft. 3 Retail network includes TNK BP owned and jobbers' gas stations. 2
    • Holding. At that point, minority shareholders in these sub Group structure after accessions sidiaries would once again have two options: to swap into TNK BP Holding, or to be bought out. New swap ratios will be determined at that stage on the basis of a new independ ent valuation. The commencement of this step remains sub ject to successful completion of TNK, ONACO and Sidanco accession to TNK BP Holding, the voluntary offer and obtaining the relevant approvals. Restructuring has been a complex and lengthy process, and it will continue to require a substantial investment of resources and senior management time. Yet I believe this is an important and necessary investment in transforming TNK BP into a more transparent and better governed company. Completion of corporate restructuring will ensure a step change in our cor porate governance, and will generate substantial added value to all shareholders. The investment community and several of our largest minori ty shareholders reacted favorably to our restructuring plans following the announcement on January 14. This reaction is also reflected in the robust increase in the share price for some of our subsidiaries, shares of which are quoted on the organized stock exchanges in Russia. Sidanco at $3.1 per barrel. This supports the view taken by various financial analysts who have commented on the fairness of the valuations. Subject to government approvals, the second step in the cur Kent Potter: “All rent phase of restructuring will further consolidate TNK BP Holding's ownership of its major subsidiaries by making a vol Stakeholders Will untary offer to the minority shareholders in 14 of our larger operating companies to swap their shares for TNK BP Benefit from Holding shares. Five of these companies are key upstream sub sidiaries, three are refineries and the remaining six are market ing and retail subsidiaries. The table on page 2 outlines the Economies of Scale equity values and swap ratios for these 14 companies. and a Better Managed Although there is no legal requirement to base the swap ratios on an independent valuation, we made a conscious decision to Portfolio” use the independent valuation carried out by Deloitte for this purpose. We believe this to be a fair and consistent approach. It is also important to note that the exchange offer is volun tary and minority shareholders who choose not to swap will TNK BP CFO discusses corporate remain shareholders in their existing companies. restructuring After the accessions of TNK, Sidanco and ONACO, and – assuming final government approvals are received – the con Q: What is the essence of the restructuring project? Why is version of some or all of the minority shareholders in the 14 it taking place now? What benefits does it bring to TNK BP major operating companies, the new group structure will be and its shareholders? much simpler, as shown in the table above. At this point, one Russian company will hold most of the group's Russian assets After TNK BP was established in 2003, we ended up with more and operations, creating a much more transparent organization than 600 subsidiaries in the Group. From the start it was clear for management and shareholders alike. that this structure must be optimized – not least, for the sake of effective governance. We are working to complete the accessions of TNK, Sidanco Our challenge is to sim and ONACO and the voluntary exchange offers to the 14 oper plify the company's ating subsidiaries this year. Upon completion of accessions and structure so that busi the voluntary exchange offer, some shares of TNK BP will be ness, financial and tax in free float. Ultimately, the percentage of floating shares will planning are seamless depend upon the minority take up, but if all minority share and accountability cas holders swapped in the accession of TNK, Sidanco and cades down through ONACO and during the voluntary exchange offer, the TNK out the company. BP Holding free float would be just under 7%. The essence of the The next, and final, stage of the restructuring process, envi restructuring program sions accession of our large operating subsidiaries (both is the consolidation of 100% owned and with minority shareholders) to TNK BP the majority of TNK april 2005 3
    • national norms or precedents as to how it plans to treat its minority shareholders as part of the proposed restructuring? Kent Potter TNK BP seeks to act responsibly towards all its shareholders, Kent Potter , originally from Kazakhstan and CFO of Chevron minority and majority alike. We realize that our corporate rep California, received his Overseas Petroleum, Chevron's utation represents a great value, and we will do everything pos Bachelor’s Degree in engineering international exploration and pro sible to increase that value. Key principles of the restructuring from the University of California, duction company. include the fair treatment of all shareholders as well as broad Berkeley, in 1969. After spending consultations with all stakeholders, including government, three years as an officer in the US Following his last Chevron assign majority and minority shareholders, lenders and rating agen Army (with service in Okinawa ment, Mr. Potter assumed the cies. We are committed to doing this at a level of transparency and Vietnam), he returned to position of Senior Vice President that goes beyond what is required by law. And our internation Berkeley for his MBA. and Chief Financial Officer for al advisors are playing a key role throughout this process. ChevronPhillips Chemical He joined Chevron Corp. in 1974. Company (CPChem). While also We have received and continue to receive feedback from the In his 27 years with Chevron, Mr. serving as a member of investment community ever since we announced the beginning Potter lived in Belgium, England CPChem's Board of Directors, he of restructuring on January 14. That feedback indicates that and Kazakhstan and held financial helped direct the merger and people understand what we are doing and appreciate our efforts. management positions in all areas integration of Chevron's and of Chevron's operations. These Phillips' worldwide chemical Q: Why are some assets not being brought into TNK BP included Finance Director for operations. In this position, Mr. Holding? Chevron's North Sea operations, Potter was responsible for all CFO of Chevron's mining compa finance and information technol As a general principle, TNK BP intends for all Russian assets ny, CFO of Tengizchevroil in ogy activities of CPChem. to be directly or indirectly owned by TNK BP Holding. However, there will be a few exceptions, at least at this stage. These exceptions include RUSIA Petroleum, the license hold BP's oil and gas assets in Russia into one company that would er for the Kovykta field in East Siberia. This is because we are be owned by majority and minority shareholders. still in the process of finalizing the terms for the JV that will operate that field's development. Slavneft, in which TNK BP Out of more than 600 subsidiaries, the three heritage hold shareholders own approximately 50%, will remain outside ing companies (TNK, ONACO and Sidanco) account for TNK BP Holding pending the resolution of the asset split 85% of TNK BP’s oil and gas production, including that of with Sibneft, which owns the other 50%. Finally, STBP, the JV Slavneft. These three holding companies also account for a that owns the BP branded retail stations in Moscow and in half of our minority shareholders (in terms of value). which TNK BP owns 75%, will not be included in the holding According to existing plans, the three holding companies company, pending further discussions with our partner in this will merge into the new TNK BP Holding during the first particular venture. phase of the restructuring. Before the first consolidation phase is complete, a voluntary swap offer will be made to the Q: You mentioned the three holding companies and about 14 minority shareholders of 14 large operating subsidiaries. material subsidiaries – what about all the other companies After the first consolidation phase and the voluntary swap in the group? offer are completed, the second consolidation phase will These 17 companies (plus a very few other 100% owned com commence, during which key operating subsidiaries (both panies) represent the vast majority of TNK BP's oil and gas those that are 100% owned and those with minority share related activities in Russia. Thus this program addresses all of holders) will merge with TNK BP Holding. Non core busi the material oil and gas companies with minority interests. ness subsidiaries will be divested over time. Once these steps have been implemented, we'll evaluate fur For a number of legal and logistical reasons, TNK BP's ther steps as appropriate. restructuring process will take several years. When it is Q: Can you detail the role of external advisors in this project? completed, all stakeholders will benefit from economies of scale and a better managed portfolio of more diversified Morgan Stanley, White & Case and PwC have been working assets. on the project for almost a year. White & Case provided legal support. PwC provided tax advice. Morgan Stanley provided We have repeatedly said that corporate restructuring is a financial advice to TNK BP including advice with respect to priority for the new company and we effectively have been the independent valuation prepared by Deloitte. On a regular working on it since the BP AAR transaction closed in basis, we seek feedback on our restructuring plans from the 2003. Given the significant number of consultations and auditors – PwC (auditors of the Group's US GAAP consoli approvals required, this is the earliest we could announce dated financial statements) and BDO Unicon (statutory audi our plans. tors of the Russian subsidiaries). Deloitte undertook the valu Q: Why is the existing corporate structure so complicated? ation, for which DeGolyer and MacNaughton provided pro duction and cost profiles based on the end 2003 TNK BP In a way, this is typical of the Russian oil industry, where com reserve audit. panies were built over time from smaller component parts through privatization and M&A activity. Our situation is no Q: Looking at the restructuring plan, one gets the impres different and it reflects, among other things, the legacy of pri sion that some minority shareholders (namely those in the vatization, active inorganic growth of heritage companies and holding companies TNK, ONACO and Sidanco) are being the BP AAR transaction itself, which brought TNK BP into given more options than those in the 14 subsidiary compa existence. nies. Why is that? Q: Is TNK BP following any established procedures or inter For the three holding companies, the Boards of Directors have recommended that shareholders approve the proposed acces 4
    • sion to TNK BP Holding. Under Russian law, shareholders and ONACO and the voluntary offer. There are no plans to voting against the proposed accession are entitled to demand float an additional stake. If all the shareholders in the three the buy out of their shares at a price determined by the Board holding companies and 14 large subsidiaries opt for the of Directors that cannot be lower than the market price deter share exchange offer, we estimate that the restructuring may mined in an independent valuation. Hence, shareholders in the eventually result in TNK BP Holding having a potential holding companies have a choice, as required under the law for free float of just under 7%. such transactions. Q: What impact will this restructuring have on TNK BP's For the 14 subsidiaries, we are making a voluntary offer to tax rate? swap into shares of TNK BP Holding. We are not legally required to do so, but we wanted to give them a chance to swap The accessions and the voluntary offer we have announced soon as opposed to waiting for the possible next stage of acces will not materially impact TNK BP's tax position. In 2004, sion. Minority shareholders in these subsidiaries may have an TNK BP paid more than $6.5 billion in taxes, duties and opportunity to sell at a later stage if decisions to proceed with excises in the Russian Federation. In 2005, we estimate we their accession into TNK BP Holding are adopted by their will pay more than $10 billion. We have said before that respective shareholders' meetings and the TNK BP Holding TNK BP is paying income tax at the corporate rate of 24% shareholders' meeting. in Russia. Having registered TNK BP Holding in the Tyumen Region, the company became entitled to a 4% Q: How does this process compare with other restructuring investment incentive in that region. Tyumen is an important processes that have been undertaken, whether by BP or by heritage region for the Group and an operation center for other companies? upstream; OAO TNK is registered in Tyumen. This incentive reflects the scope of the Company's commitments in this It is difficult to make direct comparisons with other Russian region, including development of the Uvat group of fields. and international restructuring programs, as each company Development of this greenfield project, which requires sig that has undertaken restructuring has had its own objectives nificant investment in the region's infrastructure, will utilize and starting points, which have determined the approach many local contractors, and will also have a significant "mul adopted. But, based on my experience, this is certainly the tiplier effect" on the local economy. most complex restructuring effort I am aware of. And we believe our approach best meets the needs of TNK BP and its Q: What are the tax implications of restructuring for TNK shareholders today. BP and for the federal and regional governments? Q: What international principles and/or standards have Once we have undertaken the accession of key subsidiaries to been followed in the valuation process? TNK BP Holding, the allocation of profit tax to each region will be based on the share of TNK BP Holding's fixed assets The valuation performed by Deloitte has been completed in and employees located in each region. We believe this to be fair accordance with Russian law, and from our perspective is con and transparent. sistent with internationally accepted methodologies, which included both Discounted Cash Flow (DCF) analysis and Q: You expect that the completed restructuring will enable comparative multiples. better management of the Group. Have these benefits been factored into the valuation? Q: How much will it cost, if, for instance, all the minority shareholders opted for cash? We haven't factored them into the valuation. But, clearly, minority shareholders will get access to these potential bene This is not a simple issue. We are committed to act within the fits if they swap. RF Joint Stock Company Law, which sets legal restrictions on the aggregate amount of funds that a company may spend on Q: Finally, could you please explain why you believe the val the buy out of shares from its shareholders. The law stipulates uations to be fair? that it may not exceed 10% of the value of such company's net assets as of the date of adoption of the decision that gave rise The valuation was conducted by an independent appraiser, to the shareholders' right to require buy out of their shares by as Russian law requires. I already mentioned that in our the company. The sum of 10% of the net asset value of TNK, case it was Deloitte. Deloitte identified the information Sidanco and ONACO is about $100 million. But the exact required, made its own assumptions and determined which amount the shareholders will eventually receive will ultimate methodologies to apply. In addition to the Group's audited ly depend on what they opt to do. financial statements, Deloitte had full access to updated and detailed production profiles for our upstream subsidiaries, Q: What financial statements will TNK BP Holding produce? provided by our independent reserve auditor DeGolyer and MacNaughton. TNK BP Holding will produce financial statements in accor dance with Russian standards as required under law. A deci Morgan Stanley reviewed the Deloitte valuations and has con sion on whether TNK BP Holding will produce US GAAP firmed that Deloitte's adopted approach is consistent with consolidated financial statements will be made closer to the international methodologies. In our view, the resulting valua time when the accession is completed. TNK BP and TNK tions are fair and reflect a lengthy and diligent process International will continue to produce and publish its US designed and implemented by Deloitte to accurately reflect GAAP accounts. the value of the Group's future cash flows. Q: Are there plans to list or float part of TNK BP Holding in I will also note that if you compare these valuations with future? What is your estimate of the free float TNK BP the two largest recent strategic transactions in the Russian might have at that time? oil and gas sector – the BP AAR transaction and the recent LUKOIL ConocoPhillips transaction, which was actually We will consider listing options for TNK BP Holding later completed after the Deloitte valuation – Deloitte's valua in 2005, upon completion of the accession of TNK, Sidanco tions appear entirely fair. april 2005 5
    • Bob Dudley Speaks at Nevertheless, despite these impressive macroeconomic indica tors, foreign investment has not poured into Russia and indeed there are reliable reports we are again witnessing significant the Russian Economic net capital flight from Russia. And it has long been known that FDI remains lower per head than in other countries of its peer Forum group. Investor confidence remains uncertain – and not only among foreign investors. Russia has consistently professed a desire to attract what TNK BP CEO Bob Dudley delivered a should be its rightful share of annual global investment. The agreement between the Russian groups of Alfa, Access and speech at the Eighth Russian Economic Renova and BP to establish TNK BP was reached in Forum, an annual London based confer February 2003 and was immediately heralded by some as a "breakthrough" investment; one which would lead the way ence. The full text of the speech is below. for many more to come in our sector. In fact, some have fol lowed but I suggest fewer and smaller than were hoped at Good morning ladies and gentlemen. It is good to be here this the time. year at the Russian Economic Forum. Given my faith in the ultimate wisdom of the marketplace, I I speak to you today representing TNK BP – the company that believe there must be some reasons for this. It is certainly not was created by the largest single foreign investment in Russian because the scale of the opportunity or the resource base have history. However, I also speak to you representing a company diminished, or that global demand for these resources has born with a long term commitment to Russia in its blood. decreased. For the most part the competing investment oppor Whilst we do employ a small and important cadre of interna tunities remain unchanged also. So I must look internally, tional oil specialists, we are, and we think of ourselves as, a inside Russia's borders to find my answers. Russian company; a company which employs 100,000 Russians; I believe we have seen some changes in Russia's investment cli a company with a clear Russian heritage whose producing and mate since February 2003. And I suspect not all these changes main operating assets and investments lie squarely within have been positively received by the investment community. It Russia. As Russia's second largest oil producer, we contribute is my contention that Russia is inadvertently becoming more billions of dollars in taxes to the Russian state, and our fortunes difficult to navigate for well intentioned investors – Russian are inextricably linked to Russia's success as a nation. and foreign alike. And I am happy to say that over the brief period we have been I cannot claim original thought here, or pretend that others, operating, our experience has been very positive. Russia has (including senior Russian governmental officials) do not also been good for us – and we have been good for Russia. And we share a desire for faster progress on certain important fronts. trust this relationship built on mutual advantage will contin But I do believe it is instructive to keep the following issues ue. We have been able to make a difference and deliver real firmly in our collective sights. success. Last year, we produced an average of 1.44 million barrels of oil per day, a 13% increase on 2003. Last year alone, Over the past two years, a new configuration has emerged in we made capital investments of $1.5 billion and contributed the Russian economy: The state has progressively asserted more than $6.5 billion in taxes, duties and excises to Russian its influence over the commanding heights of the economy, budgets at all levels. This year's estimates are higher again for and state owned companies have begun to play an increas both these numbers. ingly prominent role. This trend is particularly evident in the oil and gas sector. Over the next decade we will invest more than $15 billion in capital back into our operations – possibly much more. The oil This in itself is not necessarily a negative development. This business is a long term business, and we are working hard to configuration can be effective, and both state owned and build a truly world class Russian oil and gas company that will private companies can work together to deliver economic consistently deliver excellent performance and make a real and growth. However, experience shows that for this model to be positive contribution to Russia – social and otherwise. From successful, a clear set of fair and transparent rules must be the very beginning we have developed a long term outlook established. This common set of rules must apply to both reflected in our strategy and our 20 year plan – both of which state owned and private sector players alike – across the are actively reviewed. board to enable competition, efficiency gains and growth. Yet it's hard not to agree with many observers who say that Both these words this morning and – more importantly – our progress in this area has been difficult. actions as a company, speak to a real and common interest between what is good for Russia and what is also good for An abundance of unclear regulation continues to be problem TNK BP. It is from this perspective that I make my remarks atic. Most commentators and participants alike believe this today. I would like to share a few observations about some leaves too much room for discretionary decision making and trends in Russia's investment climate, from the standpoint of a selective enforcement. major investor with a genuine stake in the country's progress and ultimate success. Finally, the industry continues to face an increasing govern ment take in the form of growing tax pressures. Russia today presents a mixed picture for the investor. On the one hand, the macroeconomic environment is favorable. These are important considerations for all investors and in Economic growth is strong, driven not only by high commodi combination these factors tend to impede investment, both ty prices, but also by recovering domestic demand. Foreign domestic and foreign, and slow down economic growth. reserves are rising; the trade and current account balances are strongly positive, and the state of government finances could There is no question that each government has a sovereign rightfully make some OECD governments envious. right to regulate its investment climate. To its credit, Russia 6
    • has consistently professed a desire to attract and encourage The draft Subsoil Law, which is soon to be submitted to the investment, including foreign investment. And experience Duma. This will be an important indicator of whether Russia shows that certain international skills, technologies and seriously wants to attract private and international invest expertise, can play a uniquely positive role in stimulating ment in the sector. I am happy to say that there are some very development in economies such as Russia's. positive elements to this proposed legislation. However, there are also some real concerns. The current drafts all agree Companies with international reach and skills can also bring that companies with foreign affiliation will be excluded from new standards of corporate governance, transparency and bidding for "strategic fields." Yet there is so far, no clear list or health, safety and environment to change the way the business definition of these strategic fields. This exclusion may affect operates in Russia. They can deliver to Russia the internation not only companies that are equally owned by foreign and al linkages to markets, finance and investors, which are impor Russian entities, but also those with relatively small interna tant in an increasingly global economy. tional stakes. Again investors are looking for a clearly defined set of rules for everyone to play by. Investors will need these Just last week, Minister Gref stated that Russia was trying to rules to clarify what constitutes "strategic fields" and to also build an economic policy based on: clearly spell out just what are the levels of international par ticipation that Russia is concerned about. Competitiveness Transparency In addition, new regulations on work permits for expatriates have become progressively more restrictive. At the time when Openness and Russia's economy is in need of knowledge and management Free markets. skills, it is becoming increasingly difficult to bring in managers and executives who would not only provide unique experience, I applaud this approach and believe it will augur well for but also pass on their skills to a new generation of Russian Russia's future if it can be implemented. It will necessarily managers and experts. have to address the issues I noted earlier. And overall regulatory and fiscal stability still remains an Minister Gref has also underscored the need for improving man issue. To sustain Russia's role as a key global oil power, agement skills and increasing the international linkages of Russian companies will need to increasingly focus on finding Russia's economy. And these are precisely the areas where compa and developing new reserves. Most of these reserves lie in nies with international connections can help. Let me tie this back new and undeveloped provinces. New projects are by defini to just four concrete examples from our ongoing work at TNK BP. tion capital intensive, as they entail large development and infrastructure costs. Such developments will require an We view technology as a key value driver for our company. investment framework that provides greater stability and We have established an in house technology stream, which predictability. I believe this will be crucial for implementing stewards world class technology from the BP Group into the "mega projects" in Russia's new hydrocarbon provinces the company. This is now successfully driving new levels of such as East Siberia, the Far East and the Arctic offshore. understanding and performance in our oilfields and Given the scale of these projects, any investor, Russian or for refineries. eign, will need a clear and stable set of rules to invest by. As part of our effort to build a sustainable and long term So, the challenges are evident. Yet they are by no means insur business, we have committed to replacing 100% of our annu mountable. While I may seem to have focused on those areas al production with new proved reserves – something we where we would like to see faster progress, we at TNK BP have done again in 2004. Our new focus on reserve replace remain positive about Russia and we are implementing solid, ment, backed by robust investment plans, is beneficial not long term investment plans. only to our company but to the sector as a whole. As part of our long term vision we are also investing in our Our business plan for 2005 foresees total capital investment people. This includes a variety of training programs that will of $1.8 billion. help develop a new generation of Russia's business leaders. In addition we will spend about $3.5 billion in ongoing oper These programs will enrich the existing technical expertise ating expenses this year. with new skills such as project management, enhanced reser We continue to employ and provide training and develop voir management, capital value analysis and so on. And we ment for our 100,000 Russian staff. are building learning partnerships with key Russian and international oil and gas universities. We expect to contribute more than $10 billion in taxes, duties and excise this year. Much has been said about corporate governance and trans parency. We are currently implementing a corporate restruc And we will also pay transportation costs of roughly $2.2 bil turing program that will make our company more efficient lion to the state owned pipeline and rail companies. and more transparent. Upon completion, it will establish a These are significant amounts. They reflect a young and Russian based holding company that will consolidate the dynamic company doing well in a dynamic country. So, we majority of TNK BP assets in Russia, and ensure fair treat very much want Russia to make the right calls on the choices ment of majority and minority shareholders alike. This is a before her; to meet the challenges I have outlined and to help good thing for Russia. us sustain such investment. If fair, predictable and transparent rules are in place, Russia and her corporate sector will benefit Our ability to continue making this sort of positive difference from strong and sustainable economic growth, and will create will depend upon the role we and other private investors are wealth for her people. permitted to play in Russia's oil and gas sector and upon Russia's ongoing investment climate. Some of the yardsticks As a long term investor in Russia, and as someone from a com which will determine the investment climate and define the pany with a vital stake in the success of her economy, I sin scope of our role, aside from tax issues, in Russia include: cerely hope that the current opportunities can be captured. april 2005 7
    • Sergei Brezitsky SOURCE: BP Growth in world oil consumption Appointed Executive Vice President, Oilfield Services for TNK BP Sergei Brezitsky has been named TNK BP Executive Vice President, Oilfield Services, replacing Felix Lyubashevsky. Mr. Brezitsky, who began his career in the oil and gas industry in 1984, holds a degree in oil and gas produc tion technology from the Ivano Frankovsk Oil and Gas Institute. Council of the Entrepreneurs' Union, the first keynote speech was made by Professor Peter Davies, BP Group Chief Mr. Brezitsky joined TNK in 1999, Economist. Professor Davies presented a global perspective on where he served in a number of sen energy markets, outlining his views on why oil prices have ior positions, including Head of risen so significantly recently and what price trends can be Upstream from July 1999 until June expected in the medium term future. 2000. After TNK BP was established in 2003, he was appoint ed to head TNK's key production Business Unit, Samotlor. In Professor Davies identified the rapid recent growth in world January 2005, he was appointed Executive Vice President, oil demand, led but not dominated by growth in Chinese con Oilfield Services. sumption, as a major factor in the sustained oil price increase over the past 18 months. This situation was further exacerbat Mr. Brezitsky has received several government awards, includ ed by a reduction in spare OPEC production capacity, said ing "Honorary Oilman of the Tyumen Region," "FEC Professor Davies. Political instability in key oil producing Employee of Merit," "Subsoil Exploration Expert" and the regions such as the Middle East, speculative buying by com Energy Ministry's "Honorary Oilman." modity funds and a more aggressive OPEC pricing policy have underpinned the move to a new price range above $40 for the "We look forward to working with Sergei Brezitsky, who brings a past 12 months. Professor Davies predicted that this new vast knowledge of the oil industry into TNK BP's oilfield servic range would be maintained at least throughout 2005. es businesses," said Chief Operating Officer Larry McVay. In the medium term, fundamentals of supply and demand should bring prices down to a new lower range of about $30 per barrel, said Professor Davies. This belief is based on his analysis indicating that world oil consumption growth is like TNK BP Hosts ly to slow, and will be outpaced by growth in global oil pro Roundtable Discussion Cumulative growth, 2005 2008 SOURCE: BP On March 1, 2005, TNK BP hosted the first in a planned series of roundtables dedicated to the discussion of current economic and investment issues. The goal of these events is to initiate an infor mal dialogue and create a network of shared and informed opinion among think tanks, business groups and government ministries, fostering greater understanding and cooperation in the future. The first roundtable, co hosted with The Coordinating Council of the Entrepreneurs' Union, was titled "Challenges of a High Oil Price Environment." It was designed as an open forum for the exchange of ideas and viewpoints on Russian economic trends related to, but not dominated by, the energy sector. Approximately 50 participants took part in the first gathering, including government officials, oil industry representatives, financial analysts, industry consultants and academics. Following opening remarks by Bob Dudley, TNK BP CEO, and Alexander Shokhin, Chairman of the Coordinating 8
    • duction capacity. This will ease the current capacity con ment activities. The new website provides detailed and regu straints and help reduce the risk premium inherent in the cur larly updated information on TNK BP Ukraine's assets, oper rent price levels. Professor Davies emphasized that, for the ations and plans. time being, we are in an era when OPEC policy is having a greater impact on prices than market forces, and that while this In developing the new site, TNK BP Ukraine aimed to create continues, a price at or above $30 per barrel could be expected. an informative and user friendly resource. "We hope that this website will serve as a source of objective and topical informa Other key speakers included Stephen O'Sullivan, Head of tion about TNK BP operations in Ukraine to audiences in that Research at United Financial Group; Al Breach, Head of country and beyond," commented Peter Henshaw, TNK BP Research at UBS Brunswick; Vladimir Konovalov, Director of Vice President, Communications and Public Affairs. the Petroleum Advisory Forum; Jean Louis Lavroff, Counselor of the EU Delegation to Russia; and Neven Mates, head of the IMF office in Russia. An interesting contribution was made by Oyvind Nordsletten, the Norwegian Ambassador to the Russian Federation, who discussed how his country had managed the huge influx of TNK BP Site Named export revenues since the discovery of oil and gas in the Norwegian sector of the North Sea. In particular, he empha 'Best Corporate sized that the Norwegian oil fund, which now stands at around $150 billion, is used as a cushion against falling oil prices, a Website' in Internet buffer against inflation and security for the future when it will be needed to fund the pensions of an aging population. Vote The IMF's Mr. Mates then reiterated that windfall profits need to be saved in anticipation of a worsening of the external A contest held by open direct vote over the Internet named TNK environment, and advised against relaxing fiscal policy as this BP's site "Best Corporate Website" among major companies could create problems if budget revenues fall. active in Russia. TNK BP's website overwhelmingly won the Andrei Illarionov, Economic Advisor to the RF President, then popular vote, surpassing its nearest rival by nearly 200,000 votes. delivered a concluding keynote speech, which brought togeth The competition for the Best Corporate Website is organized er the key themes of the discussion. In particular, he highlight by the daily business Internet publication Moscow Business ed the need for strong institutions to prevent potential misuse Times. The contest's goal is to provide insight into public per of windfall oil revenues. ceptions of the effectiveness and development of corporate communications via the Internet. The contest is held annually in March, and rates only companies whose corporate websites fit criteria stipulated by the publication. TNK BP Ukraine To be considered, a site must represent a well established large or medium sized company. It must have an international version in Launches New English, and its technical organization scheme (code) must meet the standards set by the independent international organization World Wide Web Consortium. The site must include regularly Website updated corporate news, and must qualify in a preliminary selec tion via open vote at the Moscow Business Times server. The contest rated sites of companies from various sectors, On March 10, 2005, TNK BP Ukraine, part of the TNK BP including major oil and gas companies Gazprom, LUKOIL and Group, launched a new corporate website. The English version YUKOS, major aluminum producers SUAL and Rusal, insurer of the site is located at www.tnk bp.com.ua/en. Ingosstrakh, retailer IKEA and major Russian telecom opera tor MTU Intel, among others. The voting was open to every TNK BP Ukraine is the corporate center of the TNK BP one with access to the Moscow Business Times server. Group in Ukraine, which manages the Group's substantial business in that country, including sales, refining and invest TNK BP 2005 Business Plan TNK BP's commitment to long term investment in Russia and Ukraine has been a core element in the Company's planning process since 2003. This year we have extended this approach to include a 20 year strategy for the Company as a whole and 5 year, as well as annual, plans for each of our business streams. These are designed to help the Company plot a better course toward our long term goal of becoming Russia's premier oil april 2005 9
    • they are highly interlinked in terms of their impact on the deliv TNK BP capital expenditure ery of the corporate business plan and should be considered together. As an example, a number of the Upstream objectives are shared with those for Technology and Oilfield Services (OFS). Upstream Objectives The Upstream business faces the challenging task of increasing oil production by at least 7% in 2005, which should make TNK BP one of the top performers in the Russian oil industry. This growth will continue the trend in 2003 and 2004, when output increased by 14% and 13%, respectively. In addition, Upstream and Technology will target replacing 100% of oil produced through a combination of exploration success and improved reservoir man agement, and will be working closely with the Technology and OFS business streams to achieve this goal. Indeed, many of the challenges confronting the Upstream business will be faced in partnership with Technology and OFS, and so it is appropriate to company while retaining the flexibility needed given the discuss some of their more specific objectives together. uncertainties of the global oil environment. Production: Upstream, Technology and OFS will be working TNK BP's goal of building a successful long term, sustainable closely together to deliver the production challenge of grow business in Russia is clearly reflected in the capital expenditure ing crude output by at least 7% this year. In particular, the plans for 2005. This year will see an overall increase in capital Upstream business will be working with Technology to spending by more than 20% to $1.8 billion. The share of capi ensure the appropriate deployment of operating techniques tal expenditure allocated to new projects that will ensure long and investments to areas that will deliver the greatest bene term growth is to increase sharply. The plan foresees tripling fit. Both streams will be focusing on optimal reservoir man expenditure on greenfield projects, exploration and new devel agement and development plans to ensure the maximization opments. Spending on gas projects is set to increase by 50%. of reserves recovery and value over the life of the Company's Base expenditure on integrity programs to maintain the fields. In addition, the Upstream business will be working Company's core asset base is also set to increase and, as the with OFS to keep lifting costs at or better than the levels seen table above demonstrates, the Company’s commitment to in 2004 (normalized for exchange rate and inflation) while future growth is underpinned by increased capital spending despite the increasing tax burden on the industry. continuing to improve the overall quality of service delivery, which will translate into improved production rates. These investment levels will allow TNK BP to continue grow Major Projects: In line with the Company's increased focus ing production above the industry average, while maintaining on longer term growth, Upstream, Technology and OFS will the size and quality of its asset base. Within that framework, in be making a combined push to deliver major new projects 2005, TNK BP will aim to increase production by at least 7%, such as at Ust Vakh, Uvat, Kamennoye and Rospan. Where while balancing this growth with a robust reserve replacement possible, activity is being accelerated to help secure the 2005 program that will ensure replacement of no less than 100% of production target as well as achieving longer term produc annual production with new proved reserves. tion growth in order to provide the optimal performance In order to ensure that growth in spending and production mix. Importantly, Technology's Project Management Group does not undermine efficiency, we have set a target of flat or will be closely involved in these new projects in order to declining unit operating costs. Thus, the plan foresees keeping ensure that the appropriate levels of quality and cost effi unit lifting costs flat in ruble terms, with increases in efficien ciency are applied during their implementation. cy and volume growth offsetting the negative impact of infla Cost Control: This challenge will be met not only by keeping tion. In the downstream business, we will seek to achieve a fur the costs of specific operations down but also by delivering ther improvement in netbacks (normalized for price and for incremental production as efficiently as possible in order to eign exchange). Finally, at the corporate level, the Company control unit costs. Cooperation with OFS and Technology will seek to control general and administrative (G&A) costs by maintaining staff numbers at the approved staff list levels, with will be vital in both respects. OFS will be instrumental in the exception of staff for certain key projects that have been restraining cost growth caused by Russian oil sector infla approved separately. tion and in ensuring the delivery of quality contractor serv ices. Technology, meanwhile, will be critical for transferring These key projects are focused primarily on building the new technology and experience to improve the planning and organizational capacity required to deliver our growth plans (for implementation of all investment projects that should lead example, in the gas business and other major new projects). Also to higher incremental production. among these projects are corporate restructuring, designed to improve TNK BP's corporate governance and transparency, and the reengineering of procurement and supply chain management, Technology Objectives which will enable the Company to enhance margins, reduce capi Technology has a joint responsibility with Upstream for deliv tal costs and improve efficiency in the long term. ering TNK BP's challenging production and reserve targets, with a focus on capital efficiency. Key elements of Technology's The key to achieving these goals is the performance of business 2005 plan to support these targets include: streams. Their objectives represent the building blocks for reach ing the Company's overall targets. Specific business stream plans A significant program to upgrade and expand waterflood are discussed below. It is important to emphasize, however, that applications in our key fields, in order to maintain and 10
    • increase production volumes over the next several years. Downstream Objectives Current workovers, well optimizations and drilling efficien During 2005, Downstream will deliver an extensive HSE pro cy will also receive special focus in 2005. gram, focusing on implementing group standards across the downstream organization, delivering higher standards of ship A major focus on Technical training in 2005 in order to fully ping safety on the Volga River and further improving its crisis capitalize on the implementation of improved technologies. management systems. As a result the Technology plan for this year envisages an increase in training of more than 50% over 2004. The key goal of the Downstream business is to enhance the value Building upon the introduction of the Capital Project of TNK BP's oil production by maximizing the value of the Process (CPP) in late 2004. The process of communicating Company's crude oil sales, as well as by producing oil products and embedding the practice of project management into the that are demanded by the domestic and export markets that the organization will be accelerated this year. we aim to supply. Within that framework, Downstream will con tinue to improve the netback received from our crude and prod Continued implementation of a major integrity program, uct oil sales by investing in logistics in order to open new and which began in 2004. An increased focus on pipeline corro more profitable export routes to international markets. sion management, mechanical integrity standards, and the preparation of five year Integrity Plans will positively Downstream will continue to invest in upgrading the Company's impact both operational excellence and the implementation major refineries: Ryazan and Saratov in Russia and LINOS in of the Company's HSE standards. Ukraine. Our aim is to improve their performance to a level com petitive with global industry benchmarks in terms of operations Expansion of the technical expert networks. Seven technical and financial performance. A major modernization program at expert networks, implemented jointly with Upstream in Ryazan will be completed in 2005 with the startup of the new 2004, continue to provide enabling technologies, share best VGO unit in Q4, and the mechanical completion of the alkylation practices and provide for the development of regional isomerization unit by the end of the year. expertise. The groups span a variety of production technolo gy disciplines. In 2005, this concept of technical expert net The Marketing Business Unit will aim to continue to increase works is being introduced into downstream, with two new market share in the Russian and Ukrainian retail markets. This networks being introduced there. will include the building and acquisition of new retail sites, while continuing to develop strong TNK and BP brands to target the In addition, Technology is accountable for implementing an most profitable customer segments. The newly established exploration program designed to add reserves from acreage Lubricants BU will bring together production and marketing adjacent to producing fields as well as to evaluate the poten assets to enable an integrated focus on this market. Downstream tial for developing new core areas for TNK BP. In line with will also work to improve the efficiency of its distribution systems the Company's longer term goals our exploration program through rationalization of assets and investment in technology. will be increased significantly over 2004 levels, particularly in greenfield areas. This will make an important contribution In addition, Downstream aims to significantly increase the effi toward replacing 100% of annual production. ciency of operations through the development and standardization of IT systems and business processes. Data capture will be further automated to enable faster, more accurate and more flexible opti mization and scheduling, while investing in mid and back office Oilfield Services Objectives systems and processes to increase efficiency and control. The key objectives of the OFS stream are to enhance opera tional efficiency and to continually identify opportunities that can contribute to production growth. A particular focus for OFS is improving the quality of services provided to Upstream. 2005 Outlook Specific objectives for the OFS business stream in 2005 include: Achieving all these goals will present a significant challenge to the business streams. Nevertheless, as the TNK BP organization Decreasing well construction cycle time, reducing non pro continues to develop as an integrated team, management remains ductive time in the drilling and workover operations, confident these challenges will be met. The goals set by manage improving ESP run times, improving transport fleet utiliza ment focus on providing incentives for all employees to achieve tion and improving the quality of repairs in the production the highest levels of individual and team performance and on pro tubing repair bases. fessional development of staff, as well as increasing Undertaking capital investment: In 2005 the Service Stream efficiency and transparen plans capital investment in the areas of drilling, capital and cy throughout the current workover, and specialized transport. These invest Company and improving ments will result in more efficient and safe operations. HSE performance. Staff training: The stream has the objective of improving the This combination of technical qualifications of specialists in all areas and to improve stretch operational goals HSE performance in all areas, especially in transportation. and integrated teamwork Streamlining the management and operating structure of the will enable TNK BP to service companies, leading to improved responsiveness and continue making both reduced cost. immediate and long term progress toward building Further development of a contractor performance system. a world class Russian This will enable the Upstream and Technology stream to company – an industry closely monitor their contractors' performance, with the leader eventually to be ultimate goal of establishing a performance database to valued on a par with glob benchmark and improve performance parameters. al peers. april 2005 11
    • Russian Oil and Gas RF Government Sets Oil Price Assumption The Russian government's commission on projections for the 2006 budget and mid term development assumed the average price of oil Industry News at $34 per barrel when drafting the budget for next year. The government's press service said that the cut off price of oil for the Stabilization Fund has been set at $27 per barrel. Russian Production and Export Data The commission met to discuss scenarios for Russia's socio eco Russia's oil and gas condensate production in January March nomic development in 2006 2008. The scenarios were presented 2005 rose 3.5 percent over the same period last year, totaling by Economic Development and Trade Minister German Gref. 114.266 million tons (9.24 million barrels per day). In the same period, Russia exported 48.91 million tons (3.96 million barrels per day) of crude to non FSU countries, a 13 Russian LNG to US in 2010 2011 Russia will start deliveries of liquefied natural gas (LNG) to percent increase over the comparable year earlier period. the American market in 2010 2011, Russian President Russian oil companies shipped 46.61 million tons of oil to for Vladimir Putin told journalists in the Slovak capital of eign markets via the Transneft operated oil pipeline grid; 2.3 Bratislava after meeting with US President George W. Bush. million tons were delivered bypassing Transneft's network, Putin emphasized the potential of bilateral cooperation in the according to official statistics. area of LNG supply. "There is a great deal of work to be done Russia's gas production in January March 2005 totaled involving deliveries of large volumes of Russian LNG to the 172.656 billion cubic meters (67.2 billion cubic feet per day), US market [starting] in 2010 2011," he said. representing a 2.7 percent increase from the same period in The two leaders encouraged their respective administrations 2004. In March alone, Russia produced 59.98 billion cubic to continue pursuing the energy dialogue and to pay special meters of gas (69.9 billion cubic feet per day). attention to the issue of strengthening energy security. Russian oil and gas production and exports, January March 2005 Transneft to Finish BPS Expansion by Q1 2006 Throughput capacity of the Baltic Pipeline System (BPS) could be expanded to 60 million tons per year as early as the first quar ter of 2006, said Transneft President Semyon Vainshtok. Transneft's board of directors had planned to complete con struction of the third phase of BPS by the end of June 2006, but Transneft now plans to accelerate the project's execution, he added. Vainshtok said that he expected the BPS to reach its target throughput capacity of 60 million tons per year by the first quarter of 2006, adding that expansion of the pipeline system will require up to $500 million. Announcement Oil Export Duty Hits Record High The Russian government will introduce a new export duty on TNK BP has recently published its first corporate brochure, crude oil, effective April 1. The new duty is set at a record titled This is TNK BP. The goal of this publication is to provide $102.6 per ton of crude. information on the company’s assets, operations, corporate cul ture, values and plans. The publication is available online at In February March, Russian oil exporters paid $83 per ton. http://www.tnk bp.com/press/publications/brochure/. Earlier, the export duty was set at $101 per ton – that rate was in effect from December 1, 2004 to February 1, 2005. All subscribers to Insight TNK BP will receive a hard copy of The average price of Russia's crude on international mar the brochure. If you do not subscribe to Insight TNK BP and kets in January February totaled $40.47 per barrel would like to receive a hard copy of the new corporate ($295.44 per ton). brochure, please contact Anastasia Rubina at Communications and Public Affairs at ASRubina@tnk bp.com. Insight TNK-BP is published by the Communications and Public Affairs Division 1 Arbat Street, Moscow, Russia 119019 www.tnk-bp.com For additional information please contact: Communications and Public Affairs Investor Relations Investor Relations (Fixed Income) Alexander Mikhailiants Ruslan Nickolov Dmitry Logvinenko Phone: +7 (095) 363 2757 Phone: +7 (095) 787 9630 Phone: +7 (095) 745 7854 Fax: +7 (095) 787 8837 Fax: +7 (095) 787 8837 Fax: +7 (095) 787 9675 E-mail: agmikhailiants@tnk-bp.ru E-mail: rznickolov@tnk-bp.ru E-mail: ddlogvinenko@tnk-bp.ru 12