Williams' negotiations with Lukoil to drag on

VILNIUS – Less than two weeks after its president, John Bumgarner, visited Lithuania for a public relations overhaul before speeding off to Moscow for supply negotiations, Williams International is quickly realizing just how hard it can be to strike a long-term deal with Russian suppliers.

The two parties have so far agreed to two short-term arrangements. In one deal, Lukoil Baltija, the Lukoil subsidiary in charge of Baltic markets, would sell 1 million tons this year to Mazeikiu Nafta for $15 to $17 per barrel. This oil will be processed for use in the St. Petersburg and Kaliningrad markets. In another agreement, Lukoil would buy 365,000 tons of reprocessed oil from Mazeikiu Nafta, to be sold to gas stations in the Baltics.

"These contracts were signed for a year. If they will sign long term agreements, these contracts will be extended for 10 years automatically," says Aleksandras Juozapaitis, press attache for Lukoil Baltija.

However, as Williams spokesman Darius Silas explains, the short-term agreements aren't so attractive for Williams.

"In the past, Mazeikiu Nafta was tied into short-term supply agreements that were often unilaterally changed by the Russian side. And Mazeikiu Nafta didn't protect itself," said Silas. "If it was in a contract for three or four months and world oil prices changed, Mazeikiu Nafta was put into a position of having to pay a price that had nothing to do with those prices."

On the idea of a more attractive long-term agreement for crude, Russian Lukoil has been almost intractable until now, insisting that 10-year deals are too long to sign with a newcomer to the Baltic oil market. "Maybe two, three or four years, but 10 years is not realistic," Juozapaitis says. "It's very hard to predict how Williams will work here because they don't have a market. They don't [know] where they're going to sell their products in Europe. It's not possible to immediately sign a 10-year contract."

As many have suggested, one sure way to sign on Lukoil to a long-term deal would be to give it what it really wants: A large stake in Mazeikiu Nafta, a prize the Lithuanian government has thus far resisted.

The Lithuanian government has given some ground, hinting on Feb. 21 that the sale of a 10 percent stake for $45.5 million might be in the offing.

But Lukoil says this is too small. "Just 10 percent or 15 percent or more is not enough," says Juozapaitis. "The only thing we're talking about is 33 percent."

"Negotiations have been ongoing, yes they've been hard," Silas concedes. "The bottom line is that Mazeikiu Nafta is offering Russian suppliers conditions that were equal to, if not better than, the best conditions they get from Western buyers of Russian crude."

In the meantime Williams will try to keep the oil flowing at Mazeikiu Nafta, even if it means using the Butinge Oil Terminal to import oil from foreign sources.

"[Williams] is committed to using the Butinge oil terminal's import capacity,' said Silas. "It has done that and will do that again."

This tactic has some merits: Imported oil has a significantly lower sulfur content than Russian oil, which means that more high-grade petrol can be gleaned from each barrel of crude. On the minus side, it is costlier to import oil than to simply pipe it in from Russia.

"Williams' position is it won't be as profitable, but can still be profitable," said Silas.

Another problem with importing crude is that the refinery will need to be modernized to handle "sweeter" imported oil at full capacity. "The refinery was engineered to work on Russian grade," said Silas.

On this plank, Lukoil may have a severe bargaining chip – the Primorsk Oil Terminal near St. Petersburg, due to be completed next year. This terminal, which Lukoil claims has a capacity to handle 21 to 22 million tons per year, could add an unwanted competitor to the Baltic oil market.

"There will be very tough competition for Ventspils and Butinge," Juozapaitis said. "Russia will not have oil to export somewhere else. As [Russian President Vladimir] Putin said, they need oil products for themselves, that's why the oil exports decreased."

One cannot expect a long-term agreement to be signed any time soon. Silas admits that a long-term agreement that both sides find beneficial is going to take time. And, the political climate in Moscow is hardly conducive towards a speedy conclusion.

"It's very hard to say when [the negotiations] will end," said Juozapaitis. "Because truly, the situation in Russia is very difficult before elections. I think those kinds of things are stopping negotiations right now."