Russian financial authorities are once again reminding international investors who is boss and who is just a guest in this country. Two recent events should give foreign investors food for thought: First, the checks on foreign-owned oil and gas companies initiated by environmental watchdog and nature conservation agency Rosprirodnadzor; and secondly, a bill tightening the rules for foreign companies to gain access to Russia's mineral and other natural resources. However, experts believe that even the most stringent oversight and restrictions will not dissuade foreign investors from striking lucrative deals in Russia.

Purged for Trifles

Two weeks ago, Rosprirodnadzor announced that it was starting unannounced checks on 19 foreign companies active in Russia. Among them are Timan Oil and Gas, Heritage Oil, Arawak Energy, JKX Oil and Gas, and Dana Petroleum. The shares of all five companies are traded on the London Stock Exchange. The reason given by Rosprirodnadzor's deputy head Oleg Mitvol for the inspections - the same for all the companies involved - was that they are overstating data on their crude reserves, by listing other companies' oil fields as their own. Rosprirodnadzor lashed out at Britain's Imperial Energy, alleging that it had overstated its crude deposits by a factor of six.

Why is the environmental watchdog going out of its way to speak up for the interests of the shareholders of these companies? Because it believes that its responsibilities go beyond its formal jurisdiction. The press service of the Ministry of Environmental Protection and Natural Resources quotes Rosprirodnadzor's Oleg Mitvol as saying: "We don't want the inhabitants of Britain and the United States, or those of any other country for that matter, to invest their savings in a company active in Russia that declares it has vast mineral reserves here and promises large dividends to its shareholders, while in fact few people living outside the [Russian] region where the company is operating have accurate data on these reserves." This criticism has resulted in a 24-percent drop in the share price of Imperial Energy; the shares of the other disgraced companies are also falling.

The claims of the Natural Resources Ministry would have sounded credible had it not been for the scandal over the Sakhalin-2 project. The true motives behind the ministry's claims were hidden behind expressions of ecological concern (recall that Sakhalin Energy's problems disappeared as soon as Gazprom acquired 51 percent of its shares).

Timur Khairullin, analyst with investment company Antanta Capital, doesn't exclude the possibility that the investigations into Western business interests are preparing the ground for takeovers by state-owned Rosneft or Gazprom. Khairullin points out that there have been recent precedents: In July, Gazprom acquired the controlling stock interest in a subsidiary of Sweden's Lundin Petroleum, which was developing the Laganskoye deposit in the Caspian Sea, after Russian authorities threatened to revoke its license for breaching the drilling deadline.

Maxim Shein, chief analyst at BrokerKreditServis investment company, attributes the present inspections to the government's intention to "bring order" to the oil and gas sector. He says: "They started with a huge company and are finishing with small ones. I suppose the Natural Resources Minister was instructed to regulate oil and gas extraction, and it set about doing just that."

Legal Scare Tactics

Essentially, the state has decided to build its new relations with foreign companies on legal foundations, as is clear from the Bill on Foreign Investment brought before the State Duma. After heated debates between the relevant departments and lawmakers, agreement was reached on a list of 39 strategic sectors from which foreign investors will be barred. Most of these sectors are associated with the natural monopolies.

Under the bill, a foreign company will only be able to buy more than 50 percent of the shares in a Russian company classified as 'strategic' with prior permission from the Russian government. And state-owned foreign companies will be allowed to buy only small stakes of less than 25 percent of 'strategic' Russian companies. The Federal Security Service will monitor the law's enforcement. If it finds that foreigners have been buying up shares in strategic enterprises via front firms, the Russian government will have the right to protest against such purchases in court.

Gennady Shmal, president of the Union of Russian Oil and Gas Producers, believes that such a law would scare off foreign investors. Not all of them are seeking to make megabucks in Russia, he says; many of them are willing to undertake the tough job of developing untapped fields in this country. For example, it would be difficult to exploit gas fields in Yamal without the aid of foreign specialists.

However, the majority of analysts believe that the new investment law, far from scaring foreigners away, will define clear-cut rules of the game. Antanta Capital's Khairullin does not doubt that foreign oil majors will be willing to come to Russia even on new, stringent terms. As an example, he cited France's Total's recent agreement to cooperate with Gazprom to develop the Shtokman gas field, despite the fact that Total will not receive any of the gas output. Under the terms and conditions of the agreement, Gazprom will wholly own the new Russian-French joint venture that will exploit the Shtokman deposit and take the venture's entire output of hydrocarbons. Total will reportedly hold a 25 percent stake in the company controlling the infrastructure of the Shtokman gas field, located in the Barents Sea.

According to Alexander Blokhin, analyst with AK Bars Finans investment company, the law on foreign investment should have been introduced 10 years ago. "Since 1995, we have been told time and again that Russia should open all its borders, and that capital has no nationality. It now turns out that it does. When our capital was flowing out to the West, it was subject to all sorts of restrictions there," says Khairullin. Incidentally, U.S. President George W. Bush on July 26 signed the Foreign Investment and National Security Act into law; it stipulates that "acquisitions of U.S. companies by foreign firms that may present security considerations" will be monitored by the special services. This U.S. law came as a retaliation to a recent attempt by Dubai Ports World (a company in the United Arab Emirates) to snap up six major U.S. ports. Similar laws have been adopted in some other countries.

In the light of that, the Russian law on foreign investment looks like a manifestation of healthy protectionism. The governing authorities seem to have realized that it is far more convenient to regulate foreign investors through the law, than by contriving exotic scenarios for each company.