Exploring Ukraine’s Vanco dispute

The shadowy nature of the company has allowed Ukraine’s government to speculate about its ownership... The manner in which the Tymoshenko government annulled its agreement with Vanco International is questionable...

The Western business community in Ukraine still is reeling over the government’s decision to annul a major deep-water oil and gas exploration contract involving a US-based company.  “How will companies sign contracts if they are canceled at a press conference, without negotiations to find out whether the company is willing to make changes before all this is aired as part of campaign speeches?” asked Morgan Williams, president of the US-Ukraine Business Council.  (1)

To be sure, it is understandable why the unilateral canceling of a contract without benefit of court or mediation decision would send shockwaves through potential investors, and the government must begin to understand that this type of remedy is not supported in Western circles. Nevertheless, while the government handled the situation badly, it does appear to have had grounds for concern.  The issue appears far more complex than originally thought.  The question is whether Ukraine originally approved one deal following a public bidding process, but now has another (thanks to the curious approval of the previous government).

The contract with an affiliate of Vanco International Ltd. - a subsidiary of Houston’s Vanco Energy Company – was “revoked and terminated” on 21 May.  The Production Sharing Agreement had a 30-year span and reportedly could have involved up to 15 billion dollars in investment to complete the surveying, prospecting and possibly extracting of oil and gas on Ukraine’s Black Sea shelf.  Most experts suggest that the area at issue – the Prykerchenska region of the shelf – contains enough gas to provide the country with 25 percent of its domestic needs per year.

The depth of the gas, however, is extremely problematic, and the size of the area is unusually large at 13,000 square kilometers.  Therefore, the government issued a highly specialized request for proposals in late 2005 to conduct the exploration work.

On 19 April 2006, Vanco International Ltd won the tender to develop the Prykerchenska area.  The bid, submitted jointly with UK-based JNR Eastern Investments, beat out, among others, a joint bid by Shell and Exxon Mobil.

Jim Bown, Vanco’s representative in Ukraine, told journalists at the time that the Vanco-JNR bid was a 50/50 partnership, with Vanco providing the technical expertise and JNR “the financial dimension.”  Vanco International, registered in Bermuda, but reportedly based in Switzerland, suggested it would spend around $330 million over eight years to explore the field.   Any financial guarantees associated with the winning bid presumably would be the responsibility of JNR, based on Bown’s comments at the time. (2)

The details of the Production Sharing Agreement were negotiated for 18 months, with much of the time reportedly spent waiting for the government’s responses to Vanco’s proposals.

Finally, the contract was signed in fall 2007.  But while the Production Sharing Agreement (PSA) reportedly was signed between Ukraine and Vanco International Ltd., all licenses for subsoil exploration were awarded to an entity known as Vanco Prykerchenska.  This company, according to the government, was said to have been registered on 18 October 2007, just one day prior to the signing of the PSA.  (3)

(As we go to press, the government suggested that the contract actually was not signed by Vanco International, but by Vanco Prykerchenska Ltd.  This claim is unconfirmed, as the document is unavailable, and a source associated with Vanco Energy denies this statement.  However, Vanco Prykerchenska is the entity requesting arbitration for failure to fulfill a contract, suggesting that it may be the actual party to the contract at this point.)

President Viktor Yushchenko signed the PSA in a public ceremony on 19 October 2007, announcing on his website that he would hold an event “to sign a production sharing agreement to explore the Prykerchenska area of the Black Sea shelf between Ukraine and Vanco Energy Company.” (4)  The deal, he said, “is a strategic project for Ukraine and this is a unique precedent for, on the one hand, formulating a national energy strategy and, on the other hand, for cooperating with the world’s leading international investors.” (5)

The agreement was signed, perhaps not coincidentally, almost directly following a snap parliamentary election that led to a change in government from then-Prime Minister Viktor Yanukovych to current-Prime Minister Yulia Tymoshenko.  The ceremony occurred as the new parliamentary majority coalition was being formed.

In explaining his ministry’s decision to revoke licenses for subsoil use, Environmental Protection Minister Heorhiy Filipchuk suggested that Vanco International was not granted the right in the PSA to transfer rights of subsoil use to its affiliate.  (6)

Moreover, both Filipchuk and Tymoshenko complained that Vanco International did not provide the required information about its affiliate.  On 21 May, Filipchuk said, “We still have not received confirmation of financial, technological or technical documentation from this company [Vanco Prykerchenska].”  (7)

Gene Van Dyke, the President of Vanco Energy Company and Board Chair of VPL, vigorously denies the government’s charges.  “According to the Production Sharing Agreement,” he said, “Vanco International Ltd., winner of the tender, has the right to pass further execution of the agreement to a company founded with this purpose – for example, Vanco Prykerchenska Ltd.”  (8)  Van Dyke also suggested that the government had all necessary information on the Prykerchenska affiliate.  Moreover, in an interview this week, a Vanco representative, who asked that his name be withheld, noted that the company often works through consortiums and profit-sharing agreements.

VPL has called on the Ukrainian government to allow the publication of the PSA (also known as the Hydrocarbons Sharing Agreement), which it says has been misrepresented and quoted out of context for the purpose of misleading the public.  (9)

Tymoshenko is standing her ground, however, suggesting that the deal with Vanco International and VPL was “a corrupt agreement concluded by the previous government.”  The government “has put a stake in the ground on this issue,” she said, and expressed confidence in “a very strong case.”  (10)

Her primary contention appears to be that the VPL ownership includes a company closely linked both to former Prime Minister Yanukovych, who suddenly approved the deal before leaving office, and the current Secretary of the National Security and Defense Council, who has taken the lead in defending the agreement.

Vanco Prykerchenska confirmed in May that it is not owned wholly by Vanco International, as assumed by many.  Instead, its ownership is split “in parity” among four entities:  Vanco International, the Donbass Fuel and Energy Company (DTEK), Integrum Technologies of Austria, and Shadowlight Investments Ltd., linked to Russian businessman Yevgeny Novitsky.  (11)

It is the inclusion of DTEK that reportedly got the government’s attention.  DTEK is the corporation linked to System Capital Management, which is owned by Ukraine’s richest billionaire Rinat Akhmetov.  In addition to his business interests, Akhmetov serves as a parliamentary deputy and is allegedly the chief financier of former Prime Minister Yanukovych’s Party of Regions.  Akhmetov is also a close ally of Raisa Bohateryova, now the head of President Yushchenko’s National Security and Defense Council.  Bohateryova serves on the Party of Regions Political Council and was one of the leaders of the Party’s parliamentary faction during Yanukovych’s premiership. 

Neither DTEK nor any of Vanco International’s current partners in Ukraine were involved in the original bid proposal.  At the same time, JNR Eastern Investments, Vanco’s original financial partner, is no longer involved with the project.

While DTEK’s connections are clear, Integrum Technologies is unknown.  Its ownership has not been disclosed by anyone involved in the project, and the government claims to be unable to find its backers.

An email request from this author to Vanco Prykerchenska asking for contact information for Integrum Technologies received no response.  The Austrian company appears to have no website, or at least none that appears on any general search engine.

Hans Stege of the Kremlin, Inc. Blog, has been one of the most aggressive pursuers of information about Integrum.  Since May, he has spent considerable time calling and emailing Austrian, Ukrainian and Russian companies attempting to locate contact information for Integrum Technologies, but to no avail.  (12)

The shadowy nature of the company has allowed Ukraine’s government to speculate about its ownership – suggesting everything from Gazprom to companies related to the presidential secretariat.  None of this speculation is based on any available information and certainly cannot be proven.

The Vanco Energy Company website is no help; the site makes no mention of Vanco Prykerchenska`s connection to the contract.  In fact, the site has little information about its Ukraine work.  The company is respected for its deep water exploration in several African countries, and openly lists its partners in these countries on its website.   It makes no mention of any partners in its description of its work in Ukraine.  (13)

An archived page located through a Google search (and not available when entering the site through its main page), however, shows what appears to be a graphic of a power point presentation slide.  The slide – titled “Legal Structure” -- provides an overview of the Vanco Energy Company through the use of a flow chart.

“Vanco Energy Company is an integrated independent oil and gas company which operates its exploration and production activities through its wholly owned overseas subsidiary, Vanco International Ltd. and through the wholly owned subsidiaries of Vanco International Ltd.,” the slide explains.  “Vanco`s integrated corporate structure is consistent with generally accepted practices of the international petroleum industry.” (14)

The graphic flow chart appears to show a company called “Vanco Ukraine Ltd. (Bermuda)” as a subsidiary of “Vanco International Ltd. (Bermuda).”  The slide is dated April 2006.  (15)

Vanco International’s bid proposal to Ukraine was submitted in April 2006. 

Despite these questions, like many Western investors, the US Ambassador to Ukraine originally expressed regret over Ukraine’s decision.  “I am very disappointed that the Cabinet of Ministers today took unilateral action to revoke the Production Sharing Agreement [that] the Government of Ukraine negotiated with U.S. company Vanco,” Ambassador William Taylor said in a statement.  “For the government of Ukraine to attract investors,” he continued, “particularly in those sectors vital to its energy security, it needs to make clear that it respects the sanctity of contracts and the rule of law.”  (16)

This is, of course, very true.  The manner in which the Tymoshenko government annulled its agreement with Vanco International is questionable.  The case not only demonstrates the continuing opaque nature of government agreements, but also underscores the utter failure of the country’s judicial system to mediate conflict.  The country long has been criticized for a culture of corruption – judges routinely are accused of accepting bribes or backing down in the face of severe intimidation, while prosecutors often are dependent on political favors for their positions.  As a result, power plays and public relations often are substituted for legal remedies, as even political leaders have little trust in the judicial system.

Following the government’s announcement, President Yushchenko responded by requesting that the country’s prosecutor-general intervene.  Without benefit of investigation or court ruling, the prosecutor immediately issued an order to the government to revoke its decision.  Because Tymoshenko apparently views the prosecutor as a vessel of the president (with some reason), she simply ignored the order. 

On 4 June, Yushchenko issued a decree ordering the government to rescind its decision.  Tymoshenko ignored that decree, too, noting that it had come based on a recommendation of Bohateryova’s National Security and Defense Council.  Yushchenko also created an interdepartmental commission to investigate the situation, and placed Bohateryova—Rinat Akhmetov’s ally—in charge of it.  (17)

The Vanco case highlights many of the most urgent problems facing Ukraine.  Continued reliance on administrative methods to remedy questionable contracts—to say nothing of the fact that so many questionable contracts exist—should cause serious concern for corporations looking to work in the country.  Close relationships between political leaders and businesses involved in major contracts also undoubtedly do not send the appropriate signals.

Furthermore, the ease with which Western corporations may become (sometimes unwittingly) enmeshed in the country’s muddy business environment is unsettling.   Corporations attempting to conduct normal business often find themselves held hostage to political turf battles and politically-oriented business interests.

As the government works to clean up its business dealings, it must also understand the need to reform the judicial and prosecutorial mechanisms that should protect both private investors and the government.  If nothing else, this should be the message of the Vanco dispute.

Source Notes:

(1) Anna Poludenko, “Tymoshenko cancels Vanco contract in fight with Yushchenko,” Kyiv Post, 22 May 08 via www.kyivpost.com.

(2) John Marone, “Vanco wins Black Sea deepwater tender,” Kyiv Post, 27 Apr 06 reprinted in Alexander’s Gas and Oil Connections, Vol 11, Issue 10, 18 May 06 via www.oilandgas.com.

(3)  Alexander Serafimovich, “Ukraine’s government says: Vanco go home!,” Oil and Gas Eurasia, June 2008, No. 6 via www.oilandgaseurasia.com and www.eurasiapress.com.

(4) “Ceremony to sign deal with Vanco,” Press office of President Viktor Yushchenko, 19 Oct 07 via www.president.gov.ua/en/news/7901.html.

(5) “Ukraine strikes deal with Vanco,” Press office of President Viktor Yushchenko, 19 Oct 07 via www.president.gov.ua/en/news/7905.html.

(6) Alla Yeremenko, “The Black Sea Shelf to the Bearer,” Zerkelo Tyzhnia, 17 May 08 via BBC Monitoring, Lexis-Nexis.

(7) Ibid.

(8) Press Release, Vanco Prykerchenska Ltd, 12 Jun 08 via PRNewswire.

(9) Press Release, Vanco Prykerchenska Ltd., 17 July 08 via email to author.

(10) BYuT Inform Newsletter, 22 Jul 08 via email to author.

(11) Alla Yeremenko, “The Black Sea Shelf to the Bearer,” Zerkelo Tyzhnia, 17 May 08 via BBC Monitoring, Lexis-Nexis.

(12) See “A Tale of Two Business Cultures:  The Integrum Technologies Case,” 3 Jul 08, Kremlin, Inc. Blog for an interesting (and sometimes humorous) description of Hans Stege’s attempts to track down Integrum Technologies  (www.dartmouth.edu/~stege/blog/?p=112)

(13) Website located at www.vancoenergy.com.

(14) Vanco Energy Company website, www.vancoenergy.com/aboutus/legalstructure.htm.

(15) Ibid.

(16) “Statement by U.S. Ambassador Taylor on Vanco Case,” Public Affairs Section, U.S. Embassy, 21 May 08.

(17) “Bohateryova will study the agreement between Ukraine and Vanco,” Forex and Finance, 21 May 08 via www.fin-forex.com.

By Tammy Lynch

An Analytical Review

Volume XIV, Number 14, 25 July 2008

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