I INTRODUCTION

With proven oil reserves of more than 109 billion barrels and natural gas reserves of over 32 trillion cubic metres (according to BP’s Statistical Review of World Energy 2017), Russia is a major global producer, supplier and consumer of oil and gas. In 2016, Russia was once again the world’s largest exporter of natural gas by pipeline and its production and export of oil have again increased. Its share of total global exports of LNG remained modest, but comparable with historical exporters of LNG, such as Algeria. Russia’s economy continued to be heavily reliant on revenues derived from its oil and natural gas exports and taxes paid by major hydrocarbon companies. In the medium term, Russia needs to explore for and discover significant additional resources in order to maintain and grow current production levels. This has resulted in an increased focus on exploration both offshore and of unconventional resources, as well as on exploration in the Far East. The worsening geopolitical situation since 2014 and the sanctions that are targeted specifically at the ability of Russian oil and gas companies to access external financing and certain technologies, have not so far had a material impact on Russia’s ability to maintain growth in the resources basis and production levels.

Historically, the EU has been the main market for Russian hydrocarbons. Given the present geopolitical environment, the Energy Strategy to 2030 provides for the diversification of its export markets away from the core European market to prospective eastern markets and the sizable growth of oil and gas production and energy infrastructure in the Arctic North, East Siberia and the Far East. This is likely to affect the legal environment for the industry. In the meantime, Russia’s pipeline gas exports to Europe increased in 2016 and have set new records in 2017, and are still successfully competing with LNG supplies.

Although Russia’s revenues were adversely affected by the significant drop in oil prices in 2015–16, the oil and gas industry in Russia has remained relatively robust. As a result of continued investments, the second largest increase in proved oil reserves in 2016 of 7 billion barrels came from Russia (according to BP’s Statistical Review of World Energy 2017).

II LEGAL AND REGULATORY FRAMEWORK

Much of the current legislation governing the use of natural resources in Russia emerged around 1995 and has been evolving over the years since then. All of the key laws in this area have undergone continuous revisions and amendments and remain in a state of development.

i Domestic oil and gas legislation

The legal framework of the oil and gas legislation in Russia revolves around the following laws:

  • a The Constitution of the Russian Federation. It sets forth the principal rules on ownership rights to natural resources.
  • b The Federal Law on Subsoil (the Subsoil Law). This is the core law governing a vast range of rules covering the geological study, allocation, development and protection of natural resources.
  • c The Federal Law on Gas Supply in the Russian Federation (the Gas Supply Law). This law primarily governs natural gas development, transportation and sales.
  • d The Federal Law on Natural Monopolies. This law in part governs transportation of oil and gas via trunk pipelines.
  • e The Federal Law on the Continental Shelf of the Russian Federation. This law contains specific rules on the development of natural resources on the continental shelf.
  • f The Federal Law on Production Sharing Agreements. This sets forth the regime for the development of natural resources via production sharing agreements.
  • g The Federal Law on Energy Saving and Energy Efficiency.
  • h The Federal Law on Export of Gas.

The following federal laws are also relevant to the legal framework of the natural resources industry of Russia:

  • a The Codes of the Russian Federation, including the Civil Code, Land Code, Water Code, Forest Code, Tax Code, Code on Administrative Violations and Criminal Code.
  • b The Federal Law on Environmental Protection.
  • c The Federal Law on Ecological Expertise.
  • d The Supreme Council Regulations on the Procedure of Enactment of the Provisions on the Procedure of Licensing of the Subsoil Use of 1992 (the Subsoil Use Licensing Regulations).
  • e The Federal Law on Exclusive Economic Zone of the Russian Federation.
  • f The Federal Law on Sanitary and Epidemiological Welfare of Population.
  • g The Federal Law on Protection of Atmospheric Air.
  • h The Federal Law on Internal Waters, Territorial Sea and Contiguous Zone.
  • i The Federal Law on the Zones of Territorial Development in the Russian Federation.

The federal government has also adopted a policy on the oil and gas sector, the main document setting forth that policy being the 2030 Energy Strategy. The main objectives determined are:

  • a creation of an innovative and efficient energy sector;
  • b adequate development of the energy sector to comply with the needs of the growing economy and Russia’s economic interests in international markets; and
  • c the energy sector as a driving force of the socially oriented innovative development.

In December 2012, the government approved the State Programme for the Protection of the Environment for 2012–20. The main objective of the programme is to improve ecological safety and preserve natural ecosystems in Russia.

In February 2013, the President signed into law the ambitious Strategic Programme for the Development of the (Russian) Arctic up to 2020. The main objective of the programme is to explore the Arctic shelf, prepare its oil and gas resources for exploration, and form an Arctic reserve fund.

In December 2013, the government approved the Federal Programme of Economic and Social Development of the Far East and Baykal Region until 2018.

Regions (i.e., the constituent subjects of Russia) may adopt their own laws and other legal acts governing the use of natural resources. Such legal acts, however, cannot be in conflict with federal legal acts.

ii Regulation

The Ministry of Natural Resources and Environment is the government body that is responsible for the preparation and subsequent implementation of government policies in the oil and gas sector, as well as the development and regulation of research, use, replacement and protection of natural resources, including subsoil.

The Ministry of Natural Resources and Environment’s main objective is the replacement of reserves, since new discoveries are falling as the large producing deposits are being depleted. The Ministry has prepared a programme for the replacement of natural reserves to stimulate geological exploration up until 2020. From 2014, the Ministry will determine the procedure for setting regular payments for the use of subsoil.

The Federal Agency for Subsoil Use, an agency subordinate to the Ministry of Natural Resources and Environment, is the key regulator of oil and gas extraction. Its responsibilities include:

  • a issuing subsoil licences and supervising the holders’ compliance with the terms of such licences;
  • b making decisions on the termination or suspension of subsoil licences;
  • c organising geological exploration of the subsoil by the state;
  • d maintaining federal and territorial geological data on the subsoil;
  • e organising the conduct of tenders and auctions for the right to use subsoil;
  • f maintaining the state cadastre of deposits; and
  • g making decisions on the discovery of deposits by holders of geological research licences.

The Federal Service for Environmental, Technological and Nuclear Surveillance is the key regulator of technical issues in the development of natural resources. It issues:

  • a mining allotments determining the boundaries of deposits; and
  • b industrial safety certificates and operating licences, including for hazardous industrial activities relating to oil and gas operations.

The Federal Service for the Supervision of the Use of Natural Resources is a federal government body subordinate to the Ministry of Natural Resources and Environment whose main responsibility is to ensure rational, uninterrupted and environmentally safe use of subsoil. It monitors and takes enforcement action in connection with violations in the use of subsoil and illegal actions causing a negative effect on the environment.

The Ministry of Energy is the government body that prepares and subsequently implements government policies and develops regulation in the fuel and energy industry, including oil and gas development, refining sectors, trunk oil, oil products and gas pipelines, the development of hydrocarbons on the basis of production sharing agreements, and the petrochemical industry. Although the Minister of Energy is often on the world news in relation to the efforts of Russia to stabilise the global oil market and balance oil prices, the powers of the Ministry in relation to the oil and gas sector are limited mainly to controlling the fuel and energy balance of Russia and its regions, development of gas supply programmes and gasification plans.

iii Treaties

Foreign arbitral awards are in principle recognised and enforceable in Russia under the 1958 New York Convention on the Recognition and Enforcement of Foreign Arbitral Awards, to which Russia is a party. In general, foreign arbitral awards are more enforceable internationally than court judgments rendered outside Russia as foreign judgments, as a rule, are enforceable under bilateral treaties only.

Russia has implemented the Law on International Commercial Arbitration, which is based on the UNCITRAL Model Law and under which any disputes of a commercial nature that involve a foreign party or commercial disputes where at least one party is a Russian company with foreign investments may be referred to international commercial arbitration. An arbitration agreement is mandatory for referral of disputes to international commercial arbitration and it must be in writing. There are certain exceptions, including, for example; insolvency proceedings, disputes about registration, reorganisation or liquidation of companies, disputes between companies and their shareholders, and competition issues. It is important to remember that an arbitral award rendered by a tribunal in Russia may be set aside by the state arbitration court. Recognition and enforcement of foreign commercial arbitral awards is conducted through state (federal) arbitration courts.

To promote foreign investment, Russia has signed and ratified a number of bilateral investment treaties (BITs). Although Russia has signed the Energy Charter Treaty (ECT), which is aimed, in part, at protection of foreign investments and protection against key non-commercial risks, it has never ratified the ECT. Under Russian law, the ECT is subject to ratification and as a result, has never become effective for Russia. Diligent investors structure their holdings in Russia so that they might gain protection from such a BIT. Many such BITs give investors a direct right of action against the state and the right to bring claims in international arbitration outside Russia. Although tax planning objectives typically prevail, some investors will structure their deals to obtain access to the investment protection remedies available through a BIT. Such structuring should occur at the time the deal is discussed and should be coordinated with tax planning.

Russia has entered into more than 80 bilateral treaties for the avoidance of double taxation.

III LICENSING

Russian law provides for both a licensing and a production sharing regime for the use of natural resources.

The licensing regime is the main regime in Russia. It is governed primarily by the Subsoil Law and the subsoil regulations adopted under it. In general, the licensing regime is based on the administrative relationships between the state (the owner of subsoil) and private legal entities and individual entrepreneurs (the users of subsoil). A subsoil licence is a special government consent, which certifies the right of its holder to use a deposit within the stated boundaries, according to the stated purpose, during the stated period and in compliance with determined terms. Many such terms are determined in a licence agreement, which is an auxiliary and constituent part of a subsoil licence. Breach of the terms of a licence and a licence agreement by the subsoil user may result in termination or suspension of the licence, and, consequently, of the right to use the subsoil deposit. Such termination or suspension may be challenged in court.

The production sharing regime is characterised as a civil law relationship between the state and a private investor. However, it has very limited application. The use of subsoil under a production sharing agreement is governed primarily by the production sharing agreement itself, which is entered into under the Law on Production Sharing Agreements, but is also certified by a licence issued under the Subsoil Law. Under this regime, the grant of rights to exploit deposits under a production sharing agreement can only be approved by the passing of a special federal law. No production sharing agreements have been signed since the Law was adopted. There are only a few operational production sharing agreements now in Russia, all of which were signed before the end of 1995 when the Law on Production Sharing Agreements was adopted.

Under the Subsoil Law, a subsoil licence grants the licence holder an exclusive right to use a particular subsoil plot on the terms and conditions specified in the licence. These include terms specifying:

  • a the purpose of the subsoil use;
  • b the borders of the land plot granted for subsoil use;
  • c the deadlines (such as the start and end of the production);
  • d the production volume; and
  • e the payments for subsoil use.

These may be specified in more detail in a licence agreement entered into by a competent state authority and the licence holder.

There are several types of subsoil licences granted in relation to geological research and exploration, and the production of natural resources, including:

  • a a licence for the geological exploration and assessment of a subsoil plot;
  • b a licence for the production of natural resources; and
  • c a combined geological research, exploration and production licence allowing for geological exploration and assessment and subsequent production of natural resources.

Under the Constitution, natural resources in subsoil are state property and are subject to the joint jurisdiction of Russia and the region, i.e., the constituent subject of Russia, where the relevant natural resources are located. They are not owned by a holder of a subsoil licence until they are extracted. Russian law does not provide for any rights of an owner of the land surface to the subsoil under the land surface. Disposal of subsoil deposits is prohibited. Deposits cannot be the subject of any purchase, sale, gift, succession, contribution or pledge, or be disposed of in any other way.

Holders of subsoil licences have the right to perform geological research or extract natural resources. Such rights (certified by the applicable subsoil licence) can be transferred from one person to another if their transfer is permitted by federal laws. The Subsoil Law imposes very harsh limitations on any transfers of the rights to use subsoil.

When extracted, natural resources become the property of the holder of the right to use subsoil and extract the relevant natural resources.

IV PRODUCTION RESTRICTIONS

A subsoil licence, a licence agreement or other documents enclosed with a subsoil licence usually impose certain obligations on a licence holder, including the obligation to reach and maintain certain agreed volumes of production. Production of resources above such volumes is prohibited. Production below such volumes or delay in reaching production levels are also considered breaches of the licence.

The right to use subsoil can be restricted, suspended or terminated in a number of cases and, in particular, if:

  • a there is a direct threat to the life or health of people working or living in the area affected by the subsoil use;
  • b the licence holder has breached material terms of the licence;
  • c the licence holder systematically violates the subsoil use procedures;
  • d an emergency occurs (natural disaster, military action, etc.);
  • e the licence holder’s production does not reach the volumes required by the terms of the licence;
  • f the licence holder has been liquidated;
  • g the licence holder requests suspension or termination; or
  • h the licence holder has failed to file reporting data in accordance with the subsoil laws.

The export of oil from Russia is restricted only by the capacity of the transportation system owned and operated by Transneft. Capacity in its trunk pipeline network and sea terminals is allocated to oil producers for export deliveries in accordance with the principle of equal access, based on information gathered by the Central Dispatching Department of the Fuel and Energy Complex.

As far as natural gas is concerned, Gazprom has a monopoly to export natural gas by pipeline. Historically, this monopoly also extended to the export of LNG but recent developments, discussed further below, have resulted in a modest liberalisation of the regime as far as LNG is concerned. Inside Russia, Gazprom, as the owner of the United Gas Supply System (UGSS), must provide independent gas producers access to its natural gas transportation system, subject only to: availability of capacity on the UGSS; compliance of the gas being transported with established quality and technical parameters; and availability of connecting and branch pipelines to consumers. Reportedly, in some cases Gazprom abuses its rights.

Oil prices are not regulated. Natural gas prices and oil and natural gas transportation tariffs in Russia are regulated under the Law on Natural Monopolies and the Gas Supply Law. Wholesale price regulation applies to gas produced by Gazprom and its subsidiaries, but does not apply to gas produced by entities not affiliated with Gazprom.

The wholesale price of natural gas produced by independent gas producers is not regulated. However, certain consumers, such as residential consumers, are entitled to fixed retail gas prices. Historically, Gazprom has enjoyed the deficit of natural gas in the domestic market. At present, there is an overproduction of natural gas. The flexibility in terms of pricing available to independent gas producers who can offer discounts to customers has gradually helped them to gain, at Gazprom’s expense, a sizable share of the internal market.

V ASSIGNMENTS OF INTERESTS

In general, under Russian law, rights to use natural resources cannot be transferred by a holder to third parties through a direct transactional arrangement. As a result, the acquisition of shares (participation interests) in Russian companies that hold subsoil licences remains the primary mechanism of acquiring any existing interest in natural resources in Russia. Rights to use natural resources cannot be pledged or leased.

The Subsoil Law provides for a limited number of cases where subsoil use rights are, or can be, transferred from a subsoil user to another person or entity and the subsoil use licence is reissued in the name of the transferee without the need to undergo the procedure of applying for a new licence through a tender or auction. Such cases generally include corporate reorganisations, acquisitions of businesses in the course of bankruptcy proceedings, and transfers of subsoil use rights to related companies (from a parent to a subsidiary, from a subsidiary to a parent or between subsidiaries).

The acquisition of subsoil rights by foreign investors may be subject to certain restrictions and is discussed further below.

VI TAX

The principal tax payable by extractors of natural resources in Russia is the mineral extraction tax. It is generally calculated based on the value of natural resources extracted from the subsoil with reference to the price (excluding VAT and excise taxes) at which the extracted resources were sold, and is paid on a monthly basis. However, for oil, gas condensate and gas, mineral extraction tax is calculated based on the physical volumes of extracted resources.

In addition, producers of oil and gas are subject to corporate profits tax at the rate of 20 per cent. It applies to all taxpayers in Russia. Of the 20 per cent rate, 2 per cent is payable to the federal treasury and 18 per cent to the treasury of the relevant member region. Member regions (i.e., the constituent subjects of Russia) can grant a tax privilege of up to 2.5 per cent.

Producers of oil and gas are also subject to value added tax (VAT), which applies to the sales of goods, works and services in Russia or imported into Russia and is payable to the federal treasury. The main VAT rate is 18 per cent. Exports enjoy zero rate VAT and the right of recovery of input VAT.

In addition, Russian oil and oil products are subject to export customs duties. The Russian government establishes the rates of export customs duties for oil, oil products and liquefied petroleum gas (LPG) monthly. The rates are determined generally based on the methodology approved by the federal government, which generally accounts for the average world price of the Urals blend, Mediterranean and Rotterdam (for oil and its products), and the average prices for LPG at the border with Poland.

On 1 January 2015, Russia launched a reform in the taxation of the oil and gas upstream and downstream sectors. In general, the tax reform involves increasing the mineral extraction tax and decreasing the export customs duties and excises from oil products. The period of implementation of the tax manoeuvre is 2015–17. The aim of the reform is broadly to shift the fiscal burden from the export of oil and oil products to its production through reduction of export duties and increase of mineral extraction tax. The next phase of the reform currently under discussion is the proposed replacement of mineral extraction tax with a tax on added income calculated as a difference between receipts from sales and cost of extraction.

Reportedly, the tax burden of Russian oil companies amounts to about 30 per cent of their income. Rosneft and Gazprom are the first and second largest taxpayers.

VII ENVIRONMENTAL IMPACT AND DECOMMISSIONING

Russian environmental legislation applies in full to oil and gas development. It establishes a pay-to-pollute regime administered generally by the Federal Service for Environmental, Technological and Nuclear Surveillance, which issues pollution discharge (harmful emissions) permits. Oil and gas production projects require both an environmental impact assessment by an independent environmental expert and a prior favourable environmental opinion issued by the competent public authorities. The purpose of this evaluation is to: (1) verify that the project ensures protection of the environment and the rational use and restoration of natural resources; and (2) assess the short-term and long-term environmental, economic and demographic impact of the subsoil use.

Further, subsoil licences are granted on the condition that the licence holder undertakes to comply with Russian environmental standards and norms (these include air, water and soil pollution limits, waste management requirements, animal protection, human health, and so on). Once a subsoil licence is issued, the licence holder’s compliance with licensing requirements is supervised by the Federal Agency for Subsoil Use (Rosnedra).

On expiration (or termination) of a licence, a licence holder must, at its own expense:

  • a ensure mining allotments and drilling wells are brought to a safe condition that is not hazardous to the life and health of the population and environment;
  • b recultivate the land and return it to a condition adequate for future use; and
  • c submit geological and other documentation.

Conservation must be conducted in a manner securing preservation of a deposit, mining allotment and drilling wells for the period of conservation.

VIII FOREIGN INVESTMENT CONSIDERATIONS

i Establishment

According to the Law on Foreign Investment in the Russian Federation (the Investment Law), foreign investors, including investors in the oil and gas sector, are allowed to make investments in Russia in any form that is not prohibited by law. Generally, foreign direct investment in Russia can be conducted either by forming (or purchasing an interest in) a Russian legal entity or by establishing a branch of a non-Russian company in Russia (without forming a separate legal entity). There are a variety of business structures that may be used by investors to form a subsidiary or create a joint venture with Russian partners.

According to the Civil Code of Russia (the Civil Code), commercial legal entities may be created in the form of, inter alia, business partnerships and corporations. The business forms that are typically used by foreign investors are joint-stock companies (public or non-public) and limited liability companies.

Formation of a joint-stock company or a limited liability company requires the adoption of a charter and the capitalisation of the company. The minimum charter capital of a limited liability company and of a non-public joint-stock company is 10,000 roubles and of a public joint-stock company 100,000 roubles.

A company must be registered with the state registration authority, which is the local tax inspectorate at the place of location of the company’s executive body. The registration of a company usually takes between five and 15 days. The newly created company is granted a main state registration number and a taxpayer’s identification number. The state registration is confirmed by a certificate of state registration issued by the tax inspectorate.

Simultaneously with the state registration, tax registration and registration with various funds (such as the Pension Fund) is conducted by the same authority. Following the state registration, shares in a joint-stock company must be registered by the Bank of Russia. The charter capital of a limited liability company is divided into participation interests, rather than stock.

Information on the state registration of a legal entity is incorporated in the Unified State Register of Legal Entities and is publicly available on the webpage of the Federal Tax Service on the internet at: www.nalog.ru.

According to the Civil Code, commercial companies can engage in any types of activities that are not prohibited by law. Some activities require obtaining of an operational licence (as discussed below) or participation in a self-regulatory organisation.

The predominant approach to structuring a business by foreign investors with Russian partners in Russia is still to use a non-Russian company formed in an offshore jurisdiction as a joint venture vehicle for the entire corporate structure. There are two primary reasons for this: (1) greater tax advantages and BIT protection; and (2) use of developed and predictable corporate governance rules to govern the relationship between the foreign investor and its Russian partners. Russian law allows corporate agreements between members or shareholders of Russian companies but the substantive law and, more importantly, Russian judicial practice, are still untested and controversial.

ii Capital, labour and content restrictions

At present, the hard currency control regime is very liberal. There are no hard currency control requirements, such as government consent to loans or opening bank accounts outside Russia, or mandatory sales of hard currency proceeds. However, there are still a few requirements that are obligatory for Russian residents, including: (1) a general prohibition on payments in a foreign currency between Russian residents; (2) repatriation of hard currency export proceeds by Russian residents; and (3) opening of ‘transaction passports’ with servicing banks in relation to transactions equal to or exceeding US$50,000 or equivalent, and certain others. In addition, Russian residents are subject to rather burdensome reporting requirements.

Subject to a few exceptions set forth in international treaties, to work in Russia a foreign employee must have an individual work permit, and to employ foreign employees, a Russian employer generally must have the relevant permit or a patent. The validity of such permits or patents is generally limited to the region of Russia where they were issued. Such permits must be applied for by an employer well in advance without any guarantee that they will be obtained. The term of the above permits are typically one year only and they are linked to a specific region. A significantly less burdensome and expedited regime of employment of foreign citizens, a ‘highly qualified specialists regime’ is available in all industries, including oil and gas. At present, the main criteria that must be complied with in order to use such regime is to pay foreign employees no less than 167,000 roubles as a practical matter, each calendar month of the term of employment and to provide evidence quarterly of such payment to the Russian authorities.

Some natural resources deposits (‘fields of federal significance’) are subject to special national security restrictions. In terms of oil and gas, these are deposits with reserves of 70 million tonnes of oil or more or reserves of 50 billion cubic metres or more of gas. Acquisitions of shares or indirect control over companies that hold subsoil licences to fields of federal significance are subject to significant restrictions pursuant to the Law on the Procedure of Foreign Investment in Business Entities Having Strategic Importance for the Defence of the Country and the Security of the State (the Law on Foreign Investments in Strategic Companies).

Foreign investment proposals are reviewed by the strategic investment government commission headed by the Prime Minister. The Commission’s prior approval is required for the acquisition of control over a target company involved in geological study or exploration and development of a field of federal significance. For these purposes, control is generally defined as the acquisition (directly or indirectly) of 25 per cent or more of the shares in such target company. If the acquirer is a foreign state or an international organisation (with certain exceptions) or a legal entity controlled by a foreign state or an international organisation, the threshold at which the prior approval of the Commission is required is reduced to 5 per cent. In addition, such acquirers are generally prohibited to acquire control (25 per cent or more) over the above target companies. According to the most recent amendments in the Law on Foreign Investments in Strategic Companies, the above prohibitions now apply where the aggregate interest of one or several foreign states, or of separate companies controlled by one or several foreign states, exceeds the required thresholds (until recently, the law would look at the states’ or companies’ interests on a separate basis).

Other restrictions on the rights of foreign investors or Russian companies with foreign investments of any size to deposits of natural resources that are of federal significance are provided for in the Subsoil Law and the Law on the Continental Shelf and certain other laws. Russian law imposes the following restrictions that affect the ability of foreign companies and Russian companies with foreign investment of any size to acquire or keep control of significant natural resources deposits in Russia:

  • a the Russian government has the right to refuse to grant a production licence to, or to terminate a combined geological research, exploration and production licence held by, a foreign or Russian company with foreign investment, if it discovers a deposit that falls under criteria of a deposit of federal significance; and
  • b Russian national defence and security executive bodies are allowed to prohibit participation of Russian companies with foreign investment in auctions or tenders for the rights to use deposits of federal significance.

According to the most recent amendments to the Subsoil Law, however, restrictions to combined geological research, exploration and production on a deposit of federal significance apply to foreign investors and Russian companies controlled by foreign investors. Although not free from internal contradictions, the Subsoil Law appears to show a move towards limiting restrictions to Russian companies controlled by foreign investors (and non-Russian companies), rather than imposing restrictions on Russian companies that have a level of foreign investment that is short of ‘control’.

Any transfers of existing licences for such deposits to companies with foreign investment that exceed the thresholds or do not otherwise comply with the criteria outlined in the Law on Foreign Investments in Strategic Companies with regard to natural resources in deposits of federal significance are prohibited. The only exemption to this prohibition is a transfer pursuant to a resolution of the government of Russia. The production of natural resources from a deposit of federal significance under a combined licence can commence only after the geological study stage is completed and a resolution of the government granting the right to production is taken.

Further, licence holders for deposits located or partially located on the Russian continental shelf must be Russian companies with no less than five years’ experience of working on the continental shelf and with more than 50 per cent of their voting shares directly or indirectly owned or otherwise controlled by Russia. This restriction effectively prohibits any foreign investment in the Russian continental shelf other than via the Russian state-controlled majors Gazprom and Rosneft. Such prohibition specifically affects Russian Arctic oil and gas programmes. Non-Russian companies participating in such programmes do not have an interest in the deposits.

A transferee of a licence relating to a field of federal significance that is a Russian entity with foreign participation must submit evidence supporting that the transfer of the licence to such transferee is not prohibited under the Subsoil Law or, alternatively, the resolution of the government granting consent to such transfer. If such government resolution is not provided by the transferee, then the Federal Agency for Subsoil Use must forward the supporting evidence to the Federal Antimonopoly Service and it is entitled to reject the requested transfer of the licence.

If, in the course of a geological study, a subsoil user who is a foreign investor or a Russian legal entity with foreign equity investment makes a discovery of a field of federal significance, the government may refuse to grant the right to use the deposit for exploration and production or, if the licence is a combined licence, may terminate the right to use the deposit for exploration and production, on the grounds of a threat to national defence and security. In such circumstances, the licence holder’s expenses incurred in carrying out the survey and evaluation, as well as the lump sum payment made by a licence holder in accordance with the combined licence terms, must be compensated.

iii Anti-corruption

The state of corruption in Russia is often characterised as endemic. It is an overall perception that corruption within government and, in particular, law enforcement bodies and the lack of an accountable, competent and reliable court system are the main problems that Russia faces in attempting to secure increased levels of foreign direct investment. Some businesses and individuals do not trust the government and law enforcers, and generally view them not as protective, but as dangerous factors. The oil and gas industry is arguably less affected by government corruption because of the dominance of state-controlled major companies.

IX CURRENT DEVELOPMENTS

Historically, Gazprom has had a legal monopoly to export natural gas in all its forms, including LNG. However, there had been a perception that if Russia does not adopt an active policy, it risks completely losing the global LNG market to competitors.

In November 2013, amendments to the Law on Export of Gas were adopted that allow to export LNG, in addition to Gazprom and its subsidiaries, those subsoil users whose subsoil licence provides for the construction of an LNG plant as of 1 January 2013, as well as those state-controlled companies whose deposits are located within territorial waters, internal seas, on the continental shelf, or the Black and Azov Seas. The effect of this ‘liberalisation’ (and its obvious purpose) was to benefit Yamal LNG (in which stakes are owned by NOVATEK, Total and CNPC) and Rosneft, without restricting Gazprom’s monopoly to supply natural gas through pipelines to external markets. Other gas producers in Russia, in particular Rosneft, continue to seek further restrictions on that monopoly.

In 2015, according to the Deputy Prime Minister, there were no political obstacles to offering controlling interests in Russian strategic companies to Chinese state-owned oil and gas companies.

However, there have been fundamental legal obstacles to foreign state-controlled companies (which would primarily include most likely candidates for investment from China or India) acquiring control in Russian strategic upstream companies, as the Strategic Law absolutely prohibits such investment.

The Russian government has found a way around the prohibition. The first known example of this is the Yamal LNG project in the Russian Arctic. In 2014, the China National Petroleum Corporation (CNPC) acquired a 20 per cent interest in the project. Simultaneously with this acquisition, the Chinese and Russian governments signed a treaty for cooperation in the development of the Yamal LNG project. In late December 2015, the Russian government approved the protocol to the above treaty, which provides, inter alia, that the Chinese Silk Road Fund will acquire a 9.9 per cent interest in the Yamal LNG project. The acquisition was closed in March 2016 bringing the total foreign state-controlled investment in the Russian strategic company to a 29.9 per cent level which is prohibited by the Strategic Law. However, according to the Russian Constitution, international treaties supersede national laws. Since the protocol was ratified by the State Duma (the highest legislative authority), it became an international treaty of Russia that supersedes the Strategic Law to the extent the protocol allows a higher threshold as opposed to the Strategic Law. Obviously, the same legal mechanism can be used in other potential projects to overcome the Strategic Law prohibitions.

1 Natalya Morozova and Rob Patterson are partners at Vinson & Elkins.