Tyumen Oil: Getting Primed for the Majors

The privately held company wants to lure a Western oil giant by getting big--fast. But is it growing too quickly?

Magic marker in hand, Tyumen Oil Co. President and CEO Simon G. Kukes is at his customary station: a white plastic drawing board. It's a routine Tuesday morning staff meeting in late May, but Kukes is trying to squeeze in a lesson in management. As a veteran oilman with 17 years of experience at U.S.-based Phillips Petroleum Co. and Amoco, Kukes has plenty to teach the junior executives of a Siberian company still steeped in Soviet-style practices. He chides one deputy for complaining about a lack of financing for a pipeline order without knowing precisely how much money is required to complete the purchase. Don't just bring us a problem, Kukes instructs the increasingly red-faced fellow--arrive with a solution. Asked later about the episode, Kukes, 54, acknowledges his patience has limits: "Sometimes I want to take a chair and hit a guy."

Kukes is going to have to check that impulse, because it looks like a tough job is about to get a lot more demanding. Tyumen's owners, a private group of investors led by Moscow-based Alfa Group, are committed to rapid growth. Their strategy is to boost the market capitalization of the company through acquisitions and good management, then sell it off to a Western oil major in three to five years. So last October, Tyumen's backers plunked down $1.08 billion for control of formerly state-controlled energy company Onako, a move that made Tyumen Russia's fourth-largest oil producer. Now, in a bid to push Tyumen to No. 3, the owners are negotiating for a controlling stake in another Russian oil giant, Sidanco Oil Co. "We want to create a really big company," says Alfa Group Chairman Mikhail M. Fridman, who believes investors will pay a premium for added production capacity.

The question is whether Tyumen, Russia's only privately held oil producer, is growing too fast. Since Kukes arrived at Tyumen in January, 1998, the company has tripled its sales--expected to reach $4.3 billion this year--and more than doubled pretax profits, on track to reach $1.4 billion for the year. Daily output has doubled, to 822,547 barrels, and Sidanco would add 140,000 more. But even without Sidanco, Kukes is finding himself stretched to the limit. "We are getting too big to be managed by a Russian staff, even if it is very bright," says Kukes, himself a native of Russia who trained in chemical engineering in Moscow before emigrating to the U.S. in 1977.

OLD WAYS. Typical of their brethren in Russian oil, Tyumen's local managers tend to gum up decision-making because they are reluctant to delegate, and they often value production as a primary goal in itself, without regard to cost. The old ways die hard. A year ago, Kukes hired a 25-year veteran of the Russian oil industry as his head of production and exploration--one of the company's most important jobs. Nine months later, the chief was shown the door. His "very totalitarian" methods sparked friction with the staff, Kukes says.

With nobody else fit for the job, Kukes took it for himself. So now he's living out of a company-owned hotel at Tyumen's principal field base in the Western Siberia oil town of Nizhnevartovsk, with mosquitoes aplenty. When he needs to return to Moscow headquarters, he charters a jet--a three-hour-plus trip that at least gives him a chance to relax. "I get a little bit isolated, but I think this happens with all executives," Kukes says.

Seeking help, Kukes has installed at Nizhnevartovsk a 300-plus-member contractor team from Dallas-based Halliburton Co. to improve the productivity of Tyumen's aging Samotlor field, from which the company is obtaining nearly half its current crude production. Halliburton's work is being financed by a $560 million credit from the U.S. Export-Import bank.

Downstream, Texaco Inc. is jointly producing lubricants with Tyumen at the company's Ryazan refinery, as well as developing Texaco Star Mart gas stations and convenience stores around Moscow and Kiev. Before Texaco announced its merger with Chevron Corp. last October, Texaco talked about taking a stake in Tyumen. Such talks could be resumed, Kukes says, once the Chevron merger is completed.

INVESTOR CONCERNS. Controlling costs is becoming imperative. Net income this year is expected to drop by 15%, to $1.16 billion, because of rising expenses, aggravated by a depreciating ruble and lower oil prices. Big layoffs are planned at recently acquired Onako, which has a workforce of 32,350, just over a third of Tyumen's total workers.

Meanwhile, the Sidanco deal is not yet finalized. Fridman says he and other Tyumen owners have purchased a 40% stake in Sidanco from Cyprus-based Kantupan Holdings, whose investors include George Soros. The Tyumen owners expect to receive a second stake in Sidanco, giving them more than 50% of all shares, once they sign an agreement with other Sidanco shareholders, including BP PLC. In return, Tyumen will finally return to Sidanco a valuable oil subsidiary, Chernogorneft, that Alfa and its partners purchased in a controversial 1999 bankruptcy auction. A BP spokesman in Moscow says the delay of Tyumen owners in returning Chernogorneft to Sidanco raises anew questions of fair treatment of Western investors in Russia. Another major Sidanco shareholder, the Interros Group controlled by Moscow magnate Vladimir Potanin, sides with BP on this issue.

Kukes and Fridman both say they have no wish to alienate BP, and in fact plan to keep the Sidanco management team, led by BP executive Robert A. Sheppard. Kukes says BP is exactly the kind of company that can help him to implant Western business practices at Tyumen. Sheppard, a veteran of oil projects in Egypt and Argentina, says he'll work for whomever ends up controlling Sidanco--although he acknowledges that in topsy-turvy Russia "it's difficult to figure out what the rules are."

Whatever the rules are, Kukes and the Tyumen owners seem to be doing a very good job of mastering how the game is played. Kukes says he plans to leave the company once the owners are able to sell their shares to a strategic investor. But, he adds, don't expect him to be leaving anytime soon. For now, it's back to the plastic drawing board.

By Paul Starobin in Nizhnevartovsk, with Catherine Belton in Moscow

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