BP PLC (NYSE ADR: BP) Attempts Another Venture Into Russian Oil Industry in $16 Billion Deal

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BP PLC (NYSE ADR: BP) on Friday announced it was entering a $16 billion share swap deal with Russian oil industry giant NK Rosneft OAO (PINK: RNFTF). The deal will give BP access to areas of the Russian Arctic that were previously off limits to foreign companies, but it will come at a political cost.

The deal involves BP swapping 5% of its shares, valued at $7.8 billion, for 9.5% of state-controlled Rosneft's shares. The British oil company already owns a 1.3% stake in the Russian business. BP Chief Executive Officer Robert Dudley said the deal is the first cross-shareholding between a Russian state-owned national oil company (NOC) and western oil giant, and called the move "a new template for how business can be done in our industry."

The joint venture will make Rosneft the largest single BP shareholder. Their newly formed joint operating company will be two-thirds owned by Rosneft and one-third owned by BP. It will spend up to $2 billion in an initial phase of testing and well-drilling.

The deal also will give BP access to a 78,000-square mile (125,000 square kilometers) area that BP said could contain billions of barrels of oil.

BP is desperate for new deals, as its share price is still down 25% since last April's oil spill in the Gulf of Mexico. The company has divested itself of many key assets to pay the estimated $40 billion in spill-related costs and must now cement a profitable plan for survival.

Russia looks to be playing a big role in that plan. However, BP's relationship with that country's oil industry has been far from easy.

Its previous joint venture, TNK-BP, forced the exit of BP's current CEO Robert Dudley from Moscow in 2008 after a heated dispute with TNK executives. BP joined with TNK in 2003 to create Russia's No. 3 oil producer. But tensions rose when BP began to feel its Russian partners were trying to take the joint venture over.

BP also paired with Rosneft once before in 1998, but the joint venture never succeeded in finding any significant discoveries and BP closed its Russian office in 2008.

"We think there will be some people that don't like the political risk of doing a deal with Russia," a London-based trader told Reuters.

The news also was met with a backlash in Washington. U.S. politicians are concerned about Rosneft, a Kremlin-controlled energy company, having such a large stake in BP, which was the top petroleum supplier to the U.S. military in 2009.

Rep. Edward Markey, D-MA, requested the Treasury Department's Committee on Foreign Investment to analyze the deal.

"BP once stood for British Petroleum," said Markey. "With this deal, it now stands for Bolshoi Petroleum."

Additionally, U.S. President Barack Obama's National Commission into the Gulf oil spill last week recommended a moratorium on Arctic drilling. But the Russian oil industry's Arctic reserves are seen by many as the final frontier for energy exploration, and too tempting to pass up. A 2008 report by the U.S. Geological Survey estimated that the Arctic has about 1,670 trillion cubic feet of gas and 90 billion barrels of oil.

"It tells the world how important the Arctic is to the future of natural resource production, and while the U.S. dillydallies and resists efforts by U.S. companies to push forward into the Arctic, others are moving on, leaving the U.S. behind," John Hofmeister, former CEO of Shell Oil Co., told Reuters.

Russia is the global leader in oil production with output of more than 10 million barrels of oil per day. The country estimates the Arctic zone holds enough oil to meet global oil demand for more than four years.

"BP is doing what it needs to do to survive," Amy Myers Jaffe, an energy expert at Rice University, told the Financial Times. "It might make it harder to build back its image in the U.S… but there is nothing the U.S. could do if it was a U.S. company, and it is a British company."

The United States isn't the only country Russia has left out in the cold, either.

British-Russian ties have been strained since the 2006 murder of former Russian agent Alexander Litvinenko in London. Litvinenko used to run the Russian security agency formerly known as the KGB. After speaking out against the agency's corruption, Litvinenko fled to London and was eventually poisoned with a rare radioactive isotope. Russian authorities refused to extradite a suspect in the case, which caused heated relations between the countries, and in July 2007 both London and Moscow expelled diplomats.

However, both nations now seem to be rallying around the energy sector.
"You are seeing a sort of recalibration of the relationship, even if some of the fundamental difficulties haven't been resolved," Richard Whitman, a politics professor at Bath University, told Reuters.

Britain is the fifth-largest investor in Russia, and BP is the biggest British business investor in Russia. The Russian oil industry needs BP's deepwater drilling knowledge, and oil giants like BP need Russia's reserves.

"Russia is centrally important to global energy with nearly a fifth of the world's daily gas production and about 13 percent of today's oil production," British Energy Secretary Chris Huhne said Friday. "So this initiative… is good news for Europe, for the UK's energy security and worldwide."

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