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Cablegate: Ukraine: Kremenchuk Oil Refinery Crisis Remains Unresolved

VZCZCXRO0111
OO RUEHDBU RUEHIK RUEHLN RUEHPOD RUEHVK RUEHYG
DE RUEHKV #2844/01 3231259
ZNR UUUUU ZZH
O 191259Z NOV 07
FM AMEMBASSY KYIV
TO RUEHC/SECSTATE WASHDC IMMEDIATE 4357
INFO RHEBAAA/DEPARTMENT OF ENERGY WASHDC
RUCPDOC/DEPT OF COMMERCE WASHDC
RUCNCIS/CIS COLLECTIVE
RUEHZG/NATO EU COLLECTIVE

UNCLAS SECTION 01 OF 03 KYIV 002844

SIPDIS

SENSITIVE
SIPDIS

DEPT FOR EUR/UMB,EB/ESC/IEC - GALLOGLY/WRIGHT
DOE PLEASE PASS TO LEKIMOFF, CCALIENDO

E.O. 12958: N/A
TAGS: ENRG EPET ECON UP
SUBJECT: UKRAINE: KREMENCHUK OIL REFINERY CRISIS REMAINS UNRESOLVED


Treat as Sensitive but Unclassified. Not for Internet.

1. (U) Summary. A longstanding, complicated legal dispute over the
ownership of shares in Ukrtatnafta, a company established in 1994
that owns and operates Ukraine's largest oil refinery in Kremenchuk,
recently culminated in the physical enforcement by police on October
19 of a Sumy Court of Appeals order that authorized the replacement
of its CEO, Serhiy Hlushko, by former Ukrtatnafta Head Pavlo
Ovcharenko. Tatarstan shareholders responded by shutting off oil
supplies to the refinery. The Tatarstan and Russian governments
characterized the takeover as commercial "raider activity," and
called for immediate Ukrainian intervention to return Hlushko as CEO
of the refinery. Some Ukrainian officials have noted that the
Kremenchuk refinery produces a third of all gasoline and petroleum
products for domestic consumption and predict negative economic
repercussions if the situation remains unresolved much longer. The
Ukrainian Ministry of Fuel and Energy, however, hopes for a
compromise solution, but so far Tatarstan is not obliging. End
Summary.

New CEO Alleges Malfeasance
---------------------------

2. (SBU) Ovcharenko was head of Ukrtatnafta from early 2003 until
the Ukrtatnafta supervisory board dismissed him in November 2004.
He subsequently appealed his dismissal in the courts, eventually
winning in Sumy on August 29, 2007. Ovcharenko then used this order
to re-install himself forcibly in the company's offices with
Ukrainian police on October 19. Press reports have speculated that
the timing of the takeover by Ovcharenko, who is considered loyal to
Ukrainian shareholders, including the Pryvat Group of Ihor
Kolomoiskiy, was related to the presumed pending naming of Yulia
Tymoshenko as Prime Minister, as Kolomoiskiy in the past backed
Tymoshenko. In private, Tymoshenko's camp has hotly denied any
connection, maintaining that Kolomoisky no longer is providing
support to her party. According to the Ukrainian press, Ovcharenko
sent a letter to Ukrainian government officials accusing Hlushko of
intentionally running up debts to Tatar shareholders and moving the
company towards bankruptcy to increase their stake. The letter
reportedly accuses Ukrainian Deputy Prime Minister Andriy Klyuyev of
complicity in the scheme. Similarly, Ministry of Fuels and Energy
officials told Econ Counselor that Hlushko was using tolling schemes
in refining to shift profits from Ukrtatnafta.

Tatars Halt Oil Supplies to Refinery
------------------------------------

3. (U) Outraged by Ovcharenko's takeover, the government of
Tatarstan, which owns about a 37 percent stake in Ukrtatnafta
ordered Tatneft, the company that supplies oil to the refinery, to
suspend supplies on October 19th. Tatarstan government officials
stated publicly that supplies would be resumed if Hlushko is
reinstated as CEO. The government of Tatarstan controls its large
stake in Ukrtatnafta through Tatneft (8.613 percent) and the
Tatarstan Property and Land Resources Ministry (28.778 percent).
Ovcharenko, however, on the same day said that the refinery had
existing stocks of crude oil (200,000 tons) sufficient for
production at a lower capacity for 12 days. With current production
reduced by more than half, according to a Tatneft official, the
losses amount to $4-5 million a day. Ovcharenko publicly claimed
that Kremenchuk Oil Refinery would receive oil from Ukrainian and
unnamed suppliers to ensure supplies for November. So far, energy
experts expect Tatneft's suspension of oil supplies to the
Kremenchuk refinery to affect Ukraine's domestic fuel market only
moderately, suggesting that imports of refined products from
neighboring countries could fill the gap in the short-term.

Tatars Used Shell Companies to Control Refinery?
--------------------------------------------- ---

4. (SBU) For more than seven years, controversy has surrounded two
of Ukrtatnafta's shareholders that are rumored to be controlled by
Tatarstan, allowing the Tatars de facto control of the refinery.
One of the companies, Amruz Trading AG (Switzerland), owned an 8.336
percent stake in Ukrtatnafta, while the other, SeaGroup
International PLC (USA), reportedly owns a 9.96 percent stake.
Ukrainians in favor of greater Ukrainian control of the refinery
have asserted that the combined shares owned by Tatneft, the
Tatarstan Property and Land Resources Ministry, Amruz, and SeaGroup
allowed the government of Tatarstan to control a 55.687 percent
stake in Ukrtatnafta. It has been alleged in the Ukrainian press
that Amruz and SeaGroup, each of which was established with about
USD 100,000 in capital, might exist only on paper. In June 1999,
the companies promised to invest USD 65.85 million in Ukrtatnafta,
or provide the crude oil equivalent, in exchange for the combined
18.3 percent stake. Ukrtatnafta reportedly only received about USD

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3 million.

Shell Companies' Shares Returned to State Last Summer
--------------------------------------------- --------

5. (SBU) The GOU, which before 2007 controlled only 43.054 percent
of Ukrtatnafta, for years claimed the government of Tatarstan had
illegally gained control of the Kremenchuk oil refinery through the
Amruz and SeaGroup stake. In July, Ukraine's state-owned oil and
gas company, Naftohaz Ukrainy, announced that the 18.3 percent stake
controlled by Amruz and SeaGroup had been written off by the
Ukrnaftohaz Financial Group and transferred to Naftohaz, giving
Naftohaz a 61.346 percent stake in Ukrtatnafta and control of the
Kremenchuk oil refinery. The shareholders from Tatarstan protested,
disputing the legality of the transfer of the 18.3% stake, and have
filed suit with a court to have the write-off declared illegal.


GOU Lacks Unified Response to Refinery Takeover
--------------------------------------------- --

6. (U) The GOU has not provided a unified response to the crisis.
Minister of Economy Kinakh, Deputy Prime Minister for Fuel and
Energy Klyuyev, and First Deputy Prime Minister and Finance Minister
Azarov commented on the debacle from the GOU side. On October 23,
Kinakh announced that, given that the Kremenchuk refinery accounts
for 40 to 45 percent of Ukraine's refined oil products, including
gasoline, the destabilization of the refinery's operations could
lead to shortages. On the same day, Klyuyev, who is rumored to be
close to the Tatarstan side, characterized Ovcharenko's actions as a
hostile takeover and said an investigation would be launched.
Azarov said the takeover was a corporate hijacking and that the
Ukrainian Fuel and Energy Ministry was in talks with representatives
of Tatar shareholders to resolve the situation.

7.(U) According to the Ukrainian press, the Minister of Fuel and
Energy (MFE), Yuriy Boyko, who is considered a rival of Klyuyev's in
the energy sector, has been accused by Tatarstan of engineering the
takeover. Boyko, a former head of Naftohaz and a former Ukrtatnafta
CEO, has called for a legal study of the matter. Earlier this year,
Boyko indicated interest in returning the disputed 18% share of
Ukrtatnafta to state ownership. In July, MFE made an attempt to
replace the management of the refinery but was unable to do so due
to the conflict among the shareholders.

The Russian Reaction
--------------------

8. (U) There is no lack of clarity on the Russian perspective.
Russian Minister of Industry and Energy Viktor Khristenko on October
23, said publicly that his ministry intends to support Tatneft in
its dispute with Ukrtatnafta. According to Russian press reports,
the Kremlin has called the incident an attempted seizure by raiders
and has expressed concern about the threat to Russian business and
government interests. The State Duma has also officially condemned
the seizure. The Russian press indicates that the Russian Foreign
Ministry, on its website, has warned that illegitimate moves with
Russian investors in Ukraine were damaging the investment climate
and hindering deeper bilateral economic ties. The Foreign Ministry
expressed hope that the situation will be quickly resolved in
accordance with the law.

A Brokered Resolution Unlikely
------------------------------

9.(SBU) MFE has proposed talks with Tatarstan shareholders in an
effort to resolve the crisis. In late October, the MFE proposed to
convene an extraordinary meeting of Ukrtatnafta's Supervisory Board
on October 31, but Tatarstan shareholders rejected the proposal, and
also a proposed November 15 shareholders' meeting. A senior MFE
official told Econ Counselor November 2 that the GOU would prefer a
compromise solution. They would propose replacing Ovcharenko and
Hlushko with a neutral figure acceptable to all sides. According to
press reports, the Tatarstan shareholders anticipate filing lawsuits
against the takeover soon. With that prospect, as well as the
ongoing lawsuit regarding the transfer of the 18% stake, it appears
that lengthy court wrangles are almost a given in this case.

10. (SBU) Comment: This latest dispute is perhaps a classic
illustration of the tense relationship between Ukraine and Russia in
the energy sector, as well as of the lack of transparency and murky
corporate governance that characterizes the energy sector. As both
sides seem intent on pursuing zero sum solutions, there seems little
chance of a near-term resolution. It also does not help that the
GOU itself seems far from unified in its approach to the takeover.
For the time being, Ovcharenko seems to be able to obtain crude

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supplies, but given the refinery's role in the domestic refined
product market, any disruption in supply poses a risk of gasoline
supply disruptions throughout Ukraine at some point.
TAYLOR

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