March 7, 2009
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Home / Issue Archive / 2009 / February #2 / Implementation of New Reserves Classification Is Suspended

№ 2 (February 2009)

Implementation of New Reserves Classification Is Suspended

Last December, the RF Minister of Natural Resources, Yuri Trutnev, signed an order to delay the implementation of new classifications of oil and combustible gas reserves and undiscovered potential resources, until 2012.

By Elena Zhuk, Oil&Gas Eurasia

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The Ministry, already trying to maintain a double accounting system of reserves on both domestic and international levels, appears to be buying time to streamline new classifications.  Given the expense of the implementation process, more time has been added to ensure that the new system is practical in terms of cost and application.  At present, neither seems to be true.
Oil and Gas Reserves Have Become a Commodity
The Russian classification system has evolved over the years as prior versions failed to take into account the cost during the estimation of recoverable reserves. “Under the market economy, the system contradicted itself with business practice rules as Russia integrated itself into the world economy,” says Elik Khalimov, Deputy General Director of the All-Russia Oil Scientific Research and Geological Exploration Institute (VNIGRI).
“Oil and gas reserves have become a commodity. They are a potential for production, income and profit. The results of the financial activities are in many ways dependant on the quantities and reliability of resources and reserves,” Khalimov continued.
In 2001 the RF MNR issued an order to approve an Interim Classification, and in 2002 the initiative group including scientists and specialists in the area of oil and gas geology was created for its development.
An economic efficiency concept was introduced to bring the system closer toward international standards and to reduce the burden of overlapping domestic and foreign reporting. It also created criteria for defining groups of recoverable reserves and included the commercial significance of a field and a net profit value determined by predictable indicators with fixed discount rates.  The new classification takes into account levels of previous development and geological study whereas the prior classification considered only the latter criterion. The need to assess the industrial development level prohibited the adoption of widely used Western classifications. 
The new classification distinguishes geological reserves and resources.  The first group is further divided into commercial and noncommercial reserves subject to commercial significance and economic efficiency.  The commercial reserves are subdivided into normal economic (recovered) reserves and conditionally economic (recoverable) reserves, i.e. reserves that can become recovered in times of favorable market prices, construction of infrastructure, or changes in tax regulations.  Recoverable reserves are subdivided into the following categories: А (proved), В (established), С1 (measured), and С2 (expected) based on geological study and industrial development levels.  Resources are divided into economic and indefinitely economic resources subject to economic efficiency.  The first group includes recoverable resources that are further subdivided into the following categories: D1 (located), D2 (prospective), and D3 (potential) resources based on the geological study levels. The current classification was approved by the RF Ministry of Natural Resources in 2005.
Who Needs It?
Russia follows the UN framework classification and the international system of SPE/WPG/AAPG guidelines. For the valuation of its own assets, moving shares to the stock market, attracting foreign investors, and to receive loans from foreign banks, Russian companies rely on the services of foreign auditors. These auditors carry out their work based on international standards of reserves classification and estimation.  Why, in this case, was it required to ‘reinvent the wheel’ and to create a separate Russian classification if companies could hardly use it for similar purposes? We interviewed some specialists (who wish to remain anonymous) from core departments and institutions including the State Reserves Committee (SRC) and VNIGRI, as well as auditing specialists. Regretfully, some answers confirmed our suspicions rather than chased them away.  It seems that the older classification was actually more clear and understandable than the latest version, which is both problematic and confusing. 
The State continues to use the older system of resources accounting and estimation. Primary resources significantly exceed proved, economically feasible, and recoverable reserves. As companies apply for international classification estimation systems, the result is a “loss of guidelines in the course of formation and implementation of the State’s strategy for control over nonrenewable resources,” said Khalimov.  The introduction of the new classification system will undoubtedly give the State a clearer picture of the reserves status.  However, all respondents were unanimous that in this case, the classification will require significant revision.
Russian Majors Proposed to Suspend the Introduction
“Since the most recent classification was approved back in 2005, and there has been further legislation since then, the existing legal regulations need to be amended accordingly,” explained Nikolai Gudkov, Head of the MNR Press Service. The second reason, according to the official MNR reports, is the need for its approbation in the fields of allocated subsoil funds.
Another MNR representative Grigori Vygon, Director of the MNR Economics and Finance Department, spoke at the International Conference “Oil & Gas Law” in November. He said that the new classification would be introduced in stages.  Vygon also noted that the MNR was revising the classification, while taking the opinions of the oil and gas companies into consideration.
Last August, the Russian business newspaper RBC Daily, said that the heads of the Russian majors [Gazprom, GazpromNeft, Rosneft, Surgutneftegaz, TNK-BP, LUKOIL and Tatneft] applied to the MNR Head, Yuri Trutnev, to suspend the introduction of the new classification due to its inadequacy and noncompliance with the world standards. RBC also wrote that in the opinion of the letter’s authors, the reserves balance based on the new classification will require revising a number of important documents containing data on reserves values and categories. It would also need to re-issue license agreements, mining allotments, and alter current subsoil use reporting forms. Tax Code rules on concessions would need amending as well as the Law on Subsoil  and its classification criteria for federally significant reserves.
According to data presented by Vygon, geological, economic and estimation guidelines sections of the classification will be prepared. Oil companies will begin re-estimating reserves for the allocated subsoil fund in mid 2009. By the end of 2009, the whole regulatory and legal framework will be ready, and system approvals will also be completed in the fields of the unallocated subsoil fund, which is being carried out now by the MNR.
C1 Category Reserves Are Significantly Reduced
In 2006, VNIGRI specialists started the process of re-estimating reserves of the unallocated subsoil fund. In the course of procedural field trials specialists revealed ambiguities and inconsistencies of the new classification, guidelines for reserves re-estimation and guidelines for application of the classification.
VNIGRI scientists at the conference “Oil and Gas in the Arctic Shelf” in Murmansk in November reported that, “The trial application of the new procedure for the unallocated subsoil fund fields in the Arctic Shelf proves (Novikov, Gazhula, 2008), that areas for estimating С1 category reserves are significantly reduced in comparison with the initial estimation.  The most significant reduction (manifold) is recorded for the largest fields discovered and estimated in the period of 1989-1992, namely Rusanovskoye, Leningradskoye, Ludlovskoye, and Ledovoye; as well as for the Murmanskoye field that was discovered first.
There are anxieties existing that re-estimation of reserves may significantly reduce the capitalization of Russian oil and gas companies.  According to Vygon, “if such tendencies are observed during the introduction of the new classification, it will be revised.” In the SRC representative’s opinion, “companies’ values will change insignificantly.”

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