No. 3, 2004

Interview with Nikolay Kobyakov,
General Director of JSC LUKOIL-Perm


In the 75th year of oil production in the Perm Region, one of LUKOIL's chief projects in the Kama area was restructuring its upstream production operations there: LUKOIL-Perm and LUKOIL-Permneft merged to start operating as JSC LUKOIL-Perm on January 1, 2004.

Q: What's the reason for substantial reorganization of LUKOIL upstream subsidiaries in the Perm Region?

A: I'd like to mention a number of weighty reasons. In 2003, an important milestone was reached: LUKOIL's oil production in the Perm Region totaled 10.09 mln. tons. The united company's net profit increased 22%, operating costs per barrel were considerably reduced, and so were unit investments and management costs. The annual oil production target was exceeded 2.1%. We were involved in several LUKOIL corporate projects, including the development of new oil-bearing regions. Our specialists put on stream several oil fields in the Nenets Autonomous Area on schedule and with good quality. The company was certified for compliance with international environmental and industrial safety standards. Previously, LUKOIL-Perm developed its operations as a regional vertically integrated well-to-wheel company, conducting both upstream and downstream operations. But vertical integration is something that should be managed at the corporate level. Within a region, it makes more sense to maintain a horizontal integration pattern, focusing on and building up a single core activity. It is inefficient for one corporation to have two oil producers in the Perm territory, vast as it is. Therefore, LUKOIL's management initiated a structural optimization of its oil production operations in the region. A second major reason has to do with the history of oil production in the Kama area. Although oil production began in the northern part of the area, the most intensive upstream operations were conducted in the south until the mid-1990s. For example, the Chernushkaneft oil production company produced 51% of the Region's crude oil. The Perm Region then consisted of three districts; today, LUKOIL-Perm operates in 23 districts.

As of now, about 80% of oil reserves in the southern part of the Region have been explored, as compared with only about 40% in its northern part. The remaining reserves in the south are mainly hard to recover, so it is impossible to achieve high production rates. In the north, just about all fields are quite active. Investment projects are normally rated by profitability and payback period. Today, the most profitable and fastest-payback fields are in the north. By our leveraging investment potential, labor and intellectual resources, and infrastructure, we can increase oil production considerably. That includes prospecting works in under-explored areas. That was the logic of pooling the efforts of the two companies together.

Q: But such a major project surely calls for a substantial reorganization of the management structure, doesn't it?

A: We now have oilfield development operations, with field personnel, and the management, but no local branches or intermediate management levels in between. The field portfolio is managed through business processes which are maintained by an integrated management system. True, restructuring is not a simple process, especially since the internal reorganization is accompanied by a major pilot project - the development of a standard oil and gas production integrated management system model (OGPIMSM). There are no such models in Russia and very few in the world.

The idea is to monitor and analyze on-line production data in terms of efficiency, economics, physical volumes and value. Such a system would enable us to make timely management decisions, monitor the situation, and make prompt adjustments. The old system simply recorded what had happened. But we need to know what is happening every minute and what will happen in the future. On-line geological and reservoir modeling of all fields and generating electronic "passports" of all oil operations and facilities will enable us to virtually forecast all development options and to minimize negative trends. So we will be able to find solutions through science-based forecast, rather than by trial and error. The current management system uses the well-known SAP R/3 software package, not really adapted to oil production operations so far. The idea to implement the management model project pursues the organizational development program in progress during the past nine years that is aimed at building a two-tier management system. That system was a step toward implementing the new control and management model.

Q: So the restructuring process is nearing completion, isn't it?

A: The LUKOIL corporate management has set the following major goals for us: developing new fields, increasing oil production, and implementing new production projects. In the light of this, restructuring will go on, because improvements in management, organization, personnel compensation and motivation are a never-ending process. In those areas, nothing is completed once and for all. With all those changes going on, the company is showing good performance. In the first half of 2004, all production units achieved good results. There are some snags, you know, such as competencies not properly defined, or responsibilities not allocated among production units. But those issues are manageable. We will soon have an integrated management system to assist us. It is a project we are developing not just for our own operations: when ready, the system will be replicated and implemented in all the oil and gas production structures of LUKOIL. It is an important strategic goal.

Q: What are your company's plans for the near term?

A: We have a major event to celebrate soon - 75 years of oil production in the Perm Region. We should celebrate the accomplishments of the people who had worked before us, and set a good example to the future generations, which should keep up good work in the future. Integrated management modules (of OGPIMSM) are being tested in a pilot project to be launched on full-scale in the second half of 2004. Thereupon, the integrated management system as a unified model can be implemented in other oil production subsidiaries. Since the pilot project is being implemented in Perm, we are running training courses for specialists from other subsidiaries. LUKOIL-Perm's project office will help implement the new system in LUKOIL's subsidiaries in Western Siberia, the Volga area, and the Republic of Komi.

By Oilmen's Day in late August, we are planning to achieve 555 mln. tons of total oil production for the Perm Region. For the longer term, we have a new program in place, planning to increase operations in four areas: prospecting works, field license acquisition through auctions, the accelerated development of oil fields in the north of the Region, and oil recovery enhancement.

There are quite a few efficient processes that were developed by LUKOIL-Perm and LUKOIL-Permneft in the past, so we will be using the most efficient of those. If the program is implemented as planned, annual oil production will go up to 13 mln. tons by 2010. We have a challenging target of increasing production to 2,500 tons of crude oil per employee by the end of this year (as compared with 1,700 tons now).

The 2004 investment budget totals 3 bln. rubles. The investment priority targets are the Krasnovishersk and Usolye districts, which have the greatest development potential.

Q: What are your plans for enhancing the social activities of production units?

A: As you know, LUKOIL adopted a corporate Social Code back in 2002, which obliges us to show a socially responsible behavior in relationships with the authorities, local communities, employees, and partners. With regard to employees, the Company maintains high social responsibility standards, in compliance with the agreement between the LUKOIL management and the International Association of Trade Union Organizations of LUKOIL, which provides the basis for our collective agreement. LUKOIL-Perm is currently being audited to be certified for compliance with SA 8000 - a special social responsibility standard for modern companies.

In a region-wide context, there are agreements in place between LUKOIL and the Perm Region Administration and heads of the areas of LUKOIL operations, under which LUKOIL's subsidiaries make contributions to local and regional budgets and fund specific social programs. As part of that work, LUKOIL-Perm has launched a third competition for social and cultural projects to be implemented in its areas of operations. When the first such competition was launched in 2002, we did not expect so many productive initiatives from people in the Perm Region. Last year, we sponsored a total of 101 projects in the Region (on a consolidated basis). This year, we have a grant budget of 10 mln. rubles, as against last year's 8 mln. rubles (the two companies' combined budget), as compared with the initial 2 mln. rubles.

The main result, in our opinion, is that the contests have helped identify quite a few talented and creative individuals who are prepared to set up businesses of their own. It is also important that we have partner relationships with contest participants: they do not depend on our decision to provide or withhold funding.

Another positive result is that our example has been followed by other businesses and organizations in the Region. For example, a culture and arts center for children was opened in Ashap village last year. It is supported by oil producers, the district government, and the village authorities.

Social development is a major priority for the company. Seventy five years of oil production operations in the Perm Region will be a major celebration not just for the oil workers, but for all the people in the Region.

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Oil of Russia, No. 3, 2004
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