Oil & Gas Journal Russia, February 2013
Active consolidation in the Russian geophysical services market. The year 2012 was marked by the advent of the new holding company IGSS through a combination of the assets of Geotech Holding, Integra, and Schlumberger. It is forecasted that consolidation in the market will continue. With the end of the easy oil era in Russia, growth in the demand for advanced technologies and the growth in the size of the market, its key players expand and consolidate their positions. This trend is quite aligned with the trends in global markets.
Key words: geophysical services market, seismic acquisition, M&A.
Oil production in Russia in 2012 grew by 1.3%. Growth in oil production in the last two years has been slow in comparison with 2000-2007: i.e. before the global crisis. Experts continue to ring the alarm bell: in the future, Russia risks seeing a reduction in crude production not because of a fall in demand but due to problems with resources. The last large fields discovered before the reforms in the 90s were allocated last December: Lodochnoye, Imilorskoye, and Severo-Rogozhnikovskoye (the Shpilman field). Reserves replenishment ratios are not very high. While the global average reserves replenishment ratio is 2.2, in Russia this parameter does not exceed 1.0. Viktor Orlov, President of the Russian Geological Society, believes that the ratio should be at least 1.5. Otherwise, he predicts that production will drop in the next 10-15 years. Russian oil companies are seriously focusing on challenging oil reserves (namely, the Bazhenov suite). New hope is related to the resources in Eastern Siberia and the Arctic shelf. Naturally, this has an impact on the oilfield services market; namely, the geophysical services market. Special requirements are set for geophysicists both at the exploration and development stages. Denis Cherednichenko, Executive Vice President of Geotech Holding and IGSS, says: “Oil is different and geology is different in Eastern Siberia so much more powerful financial, human, technological resources are needed in comparison with traditional production regions. On the other hand, new approaches are needed in the old fields to recover challenging reserves.”
The structure of the Russian geophysical market that spontaneously formed in the 90s and persisted in the 2000s did not facilitate a large-scale shift to challenging oil resources and complete technological upgrading. Many independent Russian geophysical companies are successors of Soviet enterprises of the Ministry of Geology and Ministry of the Oil Industry that were not taken over by vertically integrated oil companies. The government still has interests in some of them, such as Samaraneftegeofizika, Nizhnevartovskneftegeofizika, and Permgeofizika. New diversified companies combining geophysical services with other oilfield services were set up based on these assets. Vertically integrated oil companies, initially, also concentrated geophysical assets and despite widespread outsourcing still retained some of them. Such companies, controlled by vertically integrated oil companies such as Surgutnefteogeofizika and Gazpromgeofizika mainly provide well logging services. There is also a group of small companies that specialize on specific services (different logging services, geosteering, etc.). However, the presence of global oilfield services majors such as Schlumberger, Halliburton, Baker Hughes, and Weatherford is the determining factor in the market landscape. In the 90s they gained free access to the Russian market and operate here independently and purchase local assets. Maksim Matuk, Reseach Director, PRI, says: “Services majors have concentrated advanced technologies and research resources. The Big Four in the services industry invest billions of dollars in R&D. This to a great degree explains their strong presence in our country."
As a result, the market has all the conditions for a consolidation: on the one hand, there are numerous participants. On the other hand, we face the task of intensifying oil exploration and production. Mergers and acquisitions are also driven by overall growth in the market following the recovery after the 2008-2009 crisis: customers are ready to invest in big projects. It is quite logical that consolidation started in seismic exploration, which leads in new resources exploration efforts. Between 2011 and 2012, Integra, Geothech Holding, and Schlumberger announced a merger of their seismic services assets in the holding IG Seismic Services (IGSS) (see also “ IGSS Ownership Structure”). In the first year, the new holding signed a three-year seismic acquisition contract with GazpromNeft. Despite objective conditions for a merger of market players the participation of such an international major as Schlumberger can be surprising. Did the western company really need to participate in the alliance? It has the most powerful technological and financial resources, it has many years of experience in Russia, and it had taken over many local companies. Experts say that in Russia western companies face certain legal hurdles. Observers also see another benefit for Schlumberger in taking this step. Volga Resources Foundation owner by Gennady Timchenko gained around 13% in IGSS. It is could be assumed that, in addition to all its other considerable resources, this provides quite a serious administrative resource for the development of the holding.
Expecting a Doubling of the Size of the Market
The seismic services market in Russia at the end of 2012 was estimated at around $US1.4 bln, which accounts for around a third of the domestic geophysical market. According to forecasts the market is to double in size by 2020. According to estimates, IGSS could control more than half of the seismic exploration market. There are only two other major companies such as TNG Group and Bashneftegeofizika in the market. By consolidating its Russian seismic assets IGSS is aiming to grab third or fourth place among international players, and, according to experts, the group has all the chances to accomplish this, especially taking into account the participation of an international partner.
Logging Alliances Are Coming
According to forecasts, market consolidation will continue. Consolidation of well logging services can become the next step. Maksim Matuk notes: “As oil companies shift to the development of more challenging geological formations, the share of horizontal and directional drilling will continue to grow. This significantly increases complexity in logging. More expensive equipment and more highly skilled employees are required. Investment costs grow. Logging costs on challenging structures multiplies in comparison with traditional fields. Therefore, oil companies are interested in engaging large services companies that can address serious challenges and perform large scale operations.” It is always possible to find targets for takeovers in the market. Vertically integrated oil companies continue to spin off their logging divisions. According to the expert, vertically integrated oil companies are not interested in owning such assets due to economics, as the complexities associated with the interaction of geographically distributed production divisions results in underusage of logging capabilities.
Niches for the Small Ones
Further takeovers in the geophysics market will be driven by absorption of narrowly specialized smaller players by large oilfield services companies. Azad Babaev, President of oilfield services company Ru-Energy, says: “For example, the condition in the domestic geophysical tools manufacturers market is such that without the introduction of western technologies their products are not competitive. They have no other alternative but integration with foreigners.” However, apparently, small and medium-sized companies will still have opportunities in the geophysical market. Primarily, this is true about niche sectors (narrow specialization companies or regional companies). For example, such companies can provide well geosteering services, some types of logging services, and they can undertake different geological studies. Matuk adds: “Small companies will remain in the specialized services sphere. They will continue to operate where a relatively small amount of work is required during a year with small crews.” Meanwhile, no new players are expected to enter the market. It is necessary to invest at least $US40 mln to enter the high-tech seismic exploration market. There are only a few companies capable of entering this market in the near future.
Speaking about the market outlook, we should keep in mind the geophysical assets with government participation. The government has been thinking about consolidating these companies in recent years: initially, in Rosneftegaz and then in OJSC Rusgeology after 2011. Supporters of this concept underline the strategic value of information about subsoil resources. According to Azada Babaev, implementation of such a project would counterbalance the consolidation of private giants and would contribute to a more harmonic development of the seismic acquisition sector. It is quite likely that the geophysics sector will face the current trend of a stronger presence of the government in the oil and gas industry. However, we have seen many stillborn or tepid projects based more on slogans than on real economic assumptions.
IGSS Ownership Structure
Integra Group, Schlumberger, and Geotech Oil Services Holding (GOSH) in December 2011 reached a deal to merge their production assets in Russia and the CIS in IGSS Holding. As a result of the transaction, GOSH obtained 52% in the charter capital of IGSS, Integra obtained 36%, Schlumberger obtained 12%, and IGSS acquired 99% of the charter capital of CJSC Geotech Holding. IGSS became a public company, and in December it floated its global depositary receipts at the London Stock Exchange. As a result of the completed transactions, IGSS PLC now has the following owners: Nikolay Levitsky, President of Geotech Holding, around 27%; Volga Resources, owned by Gennady Timchenko, 13%; and Schlumberger, 12%.
Big Differences or Problems for Foreigners in Russia
The success of seismic exploration in Russia depends on adequate organization of field services and on a proper application of foreign technologies in our challenging conditions. Denis Cherednichenko, Vice President of Geotech Holding and IGSS, says: “The most difficult is to provide logistical services in Eastern Siberia. A foreign company is limited in Russia in its ability to hire specialists and workers without an understanding of Russian conditions and without local support. For example, in Canada seismic an exploration company can easily chose a contractor from 15 helicopter companies, while in Eastern Siberia at best the company will find 15 persons ready to chop wood.” (By the way, there is already a fresh example of entrance of a completely new player in the stable and long established international geophysical services market. China’s BGP, controlled by CNPS, has been squeezing competitors in Latin America and Africa. BGP is supported by the government and can afford to undertake some projects event at a loss. Market participants note the extremely aggressive marketing policy of BGP, in combination with dumping prices.)