11:59 11.04.2024

Michael Bakunenko: The ban on gas exports, ignoring the law and alienation of business - the current state of the industry in Ukraine

17 min read
Michael Bakunenko: The ban on gas exports, ignoring the law and alienation of business - the current state of the industry in Ukraine

Interview of the Chairman of the Board of Directors of JKX Oil & Gas with Interfax-Ukraine

Text: Dmytro Koshovyy

On the British JKX Oil & Gas and its ties with Ihor Kolomoisky

Recently there was news about Russia's nationalization of JKX Oil & Gas assets. Does the company still have any business activities in this country?

We planned to sell the Russian assets back in 2021. In February 2022, the deal was supposed to be finalized, but due to the outbreak of a full-scale invasion, the potential buyer unilaterally withdrew from the deal. The US, EU, UK and Ukrainian sanctions also came into effect, and we complied with them. The Board of Directors decided to cease management and control of these assets and continue to look for another buyer. But we did not even have time to do this: in 2023, we were deprived of any rights as an investor, and in early March this year, the Koshekhabla District Court of Adygea called our company "extremists," nationalized all assets and banned JKX Oil & Gas from operating.

The court cited repeated public statements by the parent company of JKX Oil & Gas, starting on February 24, 2022, regarding the termination of its activities in Russia and compliance with all sanctions restrictions as the main grounds for its decision. But this alienation of private property came as unexpected news to us.

What are the company's plans to protect ownership of assets in Russia?

Our lawyers are currently studying the situation and developing a position for further action. The company will use all international legal mechanisms to recover from the Russian state the full compensation of its investments and losses incurred.

In November 2023, JKX Oil & Gas announced that its largest shareholder, Eclairs Group Limited, which owned 32.66%, would be removed from the shareholder register, and its related party, Ihor Kolomoisky, would be removed from the PSC (persons with the ultimate control of an organization - PFI) register. Did these events take place?

Eclairs Group Limited (EGL) was indeed one of the largest shareholders of JKX Oil & Gas and owned 32.66% of the shares. However, since November 1, 2022, EGL has been excluded from the British Virgin Islands (BVI) Company Registry and liquidated on July 4, 2023. According to the provisions of the BVI Companies Act, the property of a company removed from the Registry becomes the property of the British Crown, which has now happened.

JKX Oil & Gas claims to have no ties to Kolomoisky, but you have experience working at Ukrnafta, which was under his indirect control for a long time. In the media, you were called Kolomoisky's man. How could you explain this and to what extent is it true?

I am personally acquainted with Ihor Valerievich and have actually worked on the boards of companies in which he was one of the shareholders. I think it is important to understand the process of appointment to such positions. In Ukrnafta, the controlling stake belonged to the state, but the ownership structure also included large minority shareholders and many small ones. My candidacy was approved by both the majority shareholder and representatives of large minority shareholders. For example, I was interviewed by the Minister of Energy and the Chairman of Naftogaz. At private gas production company Ukrnaftoburinnya (UNB), Ihor Valeriyovych was one of the shareholders with a minority stake, and my candidacy for the position was approved by all shareholders.

By the way, my candidacy for JKX Oil & Gas, where I am currently the Chairman of the Board of Directors, was proposed by one of the then shareholders of JKX Oil & Gas Group, Proxima Capital, who highly appreciated my experience and understanding of the Ukrainian oil and gas market, as well as the successful management of UNB. So, my relationship with Igor Valerievich is not as close as it is often assumed.

Earlier, JKX Oil & Gas tried to operate in the Hungarian market, but in the summer of 2021, it announced its intention to sell this business for $3 million. Has this deal been finalized?

A very interesting story happened with Hungarian assets. The previous chairman of the Board of Directors presented them as having no potential and offered to sell them. The company received several offers, but each time the deals broke down at different stages. With the start of a full-scale invasion, we decided to take a risk and take a closer look at Hungary's capabilities.

During the year, specialists conducted a new 3D seismic survey with the involvement of highly qualified experts and the most modern design processes. After data processing and interpretation, geological modeling was performed and targets for drilling were determined. Preparations for the drilling of two gas wells are already underway - drilling of the first is planned for April this year, and the second one at a different field - for June 2024. Drilling of a well on an oil asset is planned for the beginning of 2025. If the drilling data of the well is effective, the company will continue the implementation of investment projects, where there may be more than ten wells in total. Then Hungary will become a priority market.

In addition, we have an operational gas processing plant capable of processing 500,000 cubic meters per day of gas, as well as our own connecting pipeline to the regional gas network and a highly qualified technical team. The further goal of JKX Oil & Gas is to create a medium-sized energy company in Central and Eastern Europe.

Also, after analyzing the data, it turned out that the assets in Hungary contain the main prerequisites for the development of geothermal energy: temperatures above 170°C and a favorable geological structure. Currently, we are already negotiating with potential partners for the development of this direction.

About the assets of JKX Oil & Gas in Ukraine

What are the financial and operating results of the JV Poltava Petroleum Company (JV PPC) for 2023 and the company's plans for the current year?

The company does not disclose financial and production indicators. As a result of industrial stagnation and the ongoing ban on gas exports, gas prices fell by 40% during the year. This forced JV PPC to depart from the business logic of an ordinary natural resource extraction company. Management introduced new services for customers, such as gas preparation or well maintenance for third-party companies. This helped JV PPC to survive, to keep a key team of specialists and to continue to maintain the level. And even raise wages.

I must say that the ban on gas exports had a very negative impact. It de facto reshaped the entire oil and gas market of Ukraine. It is clear that with the beginning of a full-scale invasion, the state authorities were forced to quickly look for ways, even if they were unpopular, how to provide the country's multi-million population with a sufficient amount of energy carriers. By the way, the ban did not apply only to natural gas. A zero export quota was established for various types of fuel from wood, as well as hard coal. Thanks to a sufficient amount of energy carriers inside the country, the outflow of the population, as well as due to a decrease in consumption in industry, Ukraine for the first time passed the heating season of 2023-2024 without an imported resource. In 2023, despite shelling and destruction of infrastructure, Ukraine was able to slightly increase gas production.

But now such methods are neither necessary nor economically expedient, because after the introduction of the ban on exports, the natural gas market has turned into a closed system, as a result of which the state trader Naftogaz of Ukraine operates on the market with unlimited financial and technical capabilities. In fact, the Naftogaz eliminated the concept of the natural gas market in Ukraine, turning it into a market of "single seller" and "single buyer" in one person.

Starting from the summer of 2023, in the conditions of a surplus of domestic gas production, the price for it was formed not according to the principle of supply and demand, but was formed by the Naftogaz with a gradual decrease. At the same time, the companies did not understand whether Naftogaz sells gas further or provides it to the population of Ukraine in accordance with the statements. Also, for national mining companies, purchase prices from the same Naftogaz were offered 5-7% below the market.

The market needs transparent rules. Currently, Naftogaz's position is a lever of non-market influence on private gas production companies. Ukraine should return to the EU gas market as a full partner. The economic feasibility of continuing the export ban is highly questionable and sometimes destructive. There are more than enough resources to ensure the internal needs of the state. Ukraine calmly passed this heating season, so private companies should be given the opportunity to work under market conditions, allowing exports, to begin with, at least partially. The European Energy Community has already officially called on Ukraine to cancel this ban and notes that this is a realistic step towards improving the economic situation in our country. I completely agree with them.

Do you expect an increase in oil and gas demand in the country in 2024?

Currently, there are no prerequisites for this. According to the U.S. Energy Information Administration, gas demand is projected to increase by 0.9% globally from 2022 to 2050. The largest growth is expected in India. In Japan and the United States, on the contrary, it will even decrease.

Forecasts for Ukraine also assume that our energy sector may not recover from the devastation of the war until 2030. Currently, these forecasts take into account the condition of Zaporizhzhia and Kakhovka HPPs. But they do not yet take into account the losses caused by the shelling of the Dnipro HPP. And we don't know what the enemy's next strikes might be. Therefore, I see no reason to increase demand for oil and gas in Ukraine.

Another JKX asset in Ukraine is a 10% stake in UNB. The ban on the use of subsoil in its main Sakhalin field and the seizure of UNB shares that preceded it were among the most high-profile events in the Ukrainian market last year. You were the head of UNB and now JKX. How do you assess the possibility of revising these decisions and restoring the value of the asset?

Until the unjustified seizure of UNB's corporate rights and the transfer of the company to the management of Ukrnafta, all special permits of the company were valid. I can only be responsible for what happened during my direct management of the company as CEO. Since 2015, UNB has confidently held leadership positions: it was the second largest private oil and gas production company in Ukraine and one of the largest taxpayers. In 2010-2022, we invested more than UAH 6 billion in the Sakhalin deposit and paid UAH 24 billion in taxes and fees to the budget. And all lawsuits have repeatedly ruled in our favor on disputed issues. Mining never stopped. And what happened from the middle of 2023 is beyond my understanding of the rule of law.

It is obvious that the management and staff of UNB appointed by Ukrnafta do not have the experience and qualifications to solve the problem on their own. In addition, the new leadership of UNB fired all the company's lawyers who know the situation perfectly. And the involved legal advisor is probably interested in continued long-term and highly paid cooperation, and not in quick court proceedings in favor of the client. But considering the fact that it was the court that canceled the special permit, only the court can make the final decision on this issue.

Regarding the unfoundedness of the seizure of shares, as is known, the Pechersk Court of Kyiv, contrary to the criminal procedural legislation and according to an absolutely identical submission from the SBI, twice seized the corporate rights of UNB and handed them over to ARMA management. The first arrest took place on April 7, 2023, and the transfer to the administration - on April 11, 2023, the second arrest and transfer to the administration - on May 4 of the same year. Shareholders and management learned about the court's decision for the first time only 10 days after the first arrest from media representatives. The transfer of ownership of a private asset, contrary to the terms of the Pechersk court's decision on re-seizure and transfer to management, took place under the so-called simplified procedure, which is applied "if there is a risk of failure or interruption of natural gas supply." But this was not true, because there really was no such risk. Before the transition of UNB to the state-owned Ukrnafta in July 2023, the company worked continuously, accumulated UAH 1.2 billion in cash (taking into account concluded contracts) and 74.6 million cubic meters of gas for the autumn-winter period. During the war, we built and prepared for commissioning a post-compressor station and drilled a new well No. 88. At the time of the change in the management of UNB, taxes in the amount of UAH 1.5 billion were prepaid, including UAH 0.7 billion in rent payments and UAH 0.2 billion in income tax. In 2023, according to our plan, production was to increase by 30% compared to 2022. What was the risk of interruption of gas supply? There was no risk. While it has not actually been made a reality, other people have already.

But Ukrnafta is now reporting an increase in UNB production over the past year.

The first and currently most important point is that the company has lost its production license and has been out of business since December 1, 2023, with zero hydrocarbon production. Prior to that, in just three months of external management, the average daily gas flow rate decreased from 1550 to 1300 thousand cubic meters. Point two: the booster compressor station project, which the new management also reports on for some reason, was initiated, invested, and almost 100% implemented by the previous team.

After the appointment of the new management, the real results of the company's work are as follows: monthly losses of own gas production - 42 million cubic meters, oil - 5 thousand tons; monthly losses to the state budget of UAH 0.35 billion (i.e., lost taxes on lost production). In addition, 243.7 million cubic meters of gas were not sold at the peak of the market, resulting in a shortfall of UAH 365 million in revenues from price differences and non-payment of UAH 267 million in rent (excluding an advance payment of UAH 555 million) and UAH 572 million in VAT (at current prices) to the budget.

The complete suspension of production from a technical point of view has a negative impact on the condition of the wells. It will be very difficult, if not impossible, to restore the previous level of production.

Let me return to the question: do UNB shareholders plan to change the situation in any way?

This is a question for all shareholders, not just JKX. The shareholders' position is unequivocal - the seizure of UNB's corporate rights, the subsequent transfer of the company to management and the current management itself are illegal. Such actions around UNB are temporary and exist only in the conditions of war and the current situation in which Ukraine finds itself.

Shareholders are using all available legal tools to protect their rights to manage UNB. But they do not hold out much hope for success in protecting their interests in Ukraine, but they have to go all the way before filing lawsuits with international institutions. Currently, lawyers are developing a position for further action through the use of various international legal mechanisms for investment protection.

This approach may seem self-serving to skeptics, but it is an approach that demonstrates a belief in Ukraine's victory and its prosperity, including economic prosperity, after the war.

Were you offered to stay at UNB after nationalization?

Yes. But I refused, because running a business requires full involvement, not daily running around to different offices of government representatives.

As for Ukrnafta CEO Serhiy Koretsky, the coffee in his personal business is delicious (smiles). He runs marathons very well. He is an ambitious professional. But I don't think I would want to be in his shoes. It is too early to judge the results of his leadership at UNB.

How do you assess the risks of PPCs getting into a similar situation?

Last year's experience showed that you can expect anything. The system failed. As it turned out, it is possible to ignore the law, to carry out "simplified" procedures for the alienation of private assets and to stop profitable companies. There are no objective grounds for such actions against PPC. PPC operates efficiently and paid UAH 1.4 billion in taxes to the budgets of all levels in 2023. And since the beginning of the full-scale invasion, it has transferred more than UAH 200 million to the needs of the Armed Forces. The company regularly purchases necessary clothing and equipment for individual military requests.

On the other hand, we have recently seen that the pressure on business from government agencies has been increasing. This is evidenced by recent high-profile arrests and the fact that businesses have begun to loudly defend their rights. Therefore, we are ready for various scenarios.

About personal business and the Armed Forces of Ukraine

Do you have any assets in Ukraine other than those related to JKX Oil & Gas?

Business is not the only thing that connects me to Ukraine. I was born in Odesa. He was educated in the USA, but before the full-scale invasion, my wife and three children lived in Kyiv and had no plans to change that. Here are friends, business partners, my whole life. Therefore, I am personally interested in Ukraine winning as soon as possible. My family and the business affiliated with us are constantly helping the needs of the Armed Forces: we purchase the necessary clothing, equipment for the military and much more - a total of over UAH 211 million since February 2022. I believe that now it is necessary to support the Ukrainian army on a permanent basis. If this is not done, the prospects of our country may become doubtful.

I also regularly do charity work regardless of income level. Even before the war, he helped and continues to help various orphanages, supported the initiatives of the "Tabletochki" Foundation and much more.

As for other assets, yes, I conduct investment activities both on the territory of Ukraine and outside it. But one must understand that investments are always a risk. And you need to be able not only to choose a promising project, but also to exit it in time in order to get profit, not just "experience". I diversify risks, including a variety of markets and countries.

The first investment projects were in 2009 - together with partners, we started a business of bottling and distribution of premium spirits under the brands Staritsky&Levitsky and DISTIL N9. Now these brands are widely represented in the chains of well-known supermarkets in the premium segment both in Ukraine and abroad. In 2022, I left the project and focused my attention on another direction - trading in raw materials (unrefined sunflower oil and corn).

I am also interested in port infrastructure facilities. Therefore, from 2023, together with other partners, I am engaged in the development of a grain cargo transshipment complex in one of the ports of Ukraine. Our goal is to reach a monthly transshipment volume of 200,000 tons during the marketing season.

Among the foreign investment projects in which I have a minority stake, we can mention the company Notarize - an online platform for notary services in the USA, Facily - a startup in the field of social commerce, one of the largest in Latin America, CityMall - an online store of essentials in India, which quickly is gaining popularity.