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D-Day for Sakhalin Energy

YUZHNO-SAKHSLINSK, 15 May 2003 - The Sakhalin-2 project is rapidly moving forward with the final go-ahead of the project’s second phase, a positive investment decision by the shareholders and two long-term liquefied natural gas (LNG) sales agreements in the time frame of one week.

May 15 was D-Day for Sakhalin Energy (SEIC) with the ‘Declaration of Development Date’ for the Lunskoye field, following a positive investment decision by the shareholders and the signing of a long-term LNG deal with Tokyo Gas for the supply of 1.1 million tonnes per year for a period of 24 years. On May 19, SEIC signed another long-term agreement with Tokyo Electric for the supply of 1.2 million tonnes per year for a 22-year period.

Together, the contracts make almost a quarter of the planned production capacity of 9.6 million tonnes per year. "Believe me, that is a real significant achievement in the tough market conditions for LNG which prevails nowadays," said SEIC Technical Director Engel van Spronsen, adding he expected further announcements on LNG sales to be made in the near future. Although full production capacity will not be reached in the start-up year 2007, the company expects to get to full capacity as quickly as possible. "I am not aware of any LNG plant in the world that actually has spare capacity," Van Spronsen said.

Head of the Sakhalin oil and gas department Galina Pavlova said the multi-year marathon to make the Sakhalin projects a reality had come to an end and that the actual preparations for oil and gas production could begin. "This is a very significant event," she said.

Major contracts for the construction of the second phase of the project will be awarded in the next few months. Van Spronsen said Sakhalin Energy reached an initial agreement for the LNG plant construction with a consortium with Transstroy and Chiyoda, but the full engineering, procurement and construction (EPC) contract for the world’s largest and Russia’s first 2.5 billion dollar LNG plant has not been awarded yet and can be expected in the next two months when construction will start subject to final approvals from the Russian government.

Work at the pipelines and the onshore processing facility, again subject to government approvals, will start at the end of this year. Outside Sakhalin, in Vostochny, Russian Far East, the company will start constructing the base for the new platform this year, which will be placed off the northeast coast of Sakhalin.

Speaking on May 15, after the shareholders had made the positive investment decision, Royal/Dutch Shell Chairman Philip Watts said "this is a strategic legacy project for Shell that will help unlock the vast energy reserves of the Russian Federation". Shell, which holds a 55-percent share in Sakhalin Energy, is currently world leader in LNG, producing nine million tonnes per year, a figure that with Sakhalin alone would double.

Shoei Utsuda, President and Chief Executive Officer of Mitsui & Co., which holds a 25-percent share, said the Sakhalin-2 project marks the first gas export from Russia to Asia. "With its vast resource and proximity to the market, the project has the potential to change the dynamics of energy flow and contribute to the security of energy supply in Asia and the Russian Far East," he said. Mikio Sasaki, President and Chief Executive Officer of Mitsubishi Corporation, which has a holding of 20-percent, said the project would establish an important new trade partnership between Russia and Asia.

Before the green light could be given, some legal framework issues had to be resolved. Prime Minister Mikhail Kasyanov on May 15 handed over a letter of guarantee from the Russian government to Shell Chairman Philip Watts. Russian Deputy Prime Minister Viktor Khristenko was quoted by Bloomberg as saying "the Russian Federation has taken on obligations and these obligations will be upheld". At the same time, the State Duma voted to place strict limits on the number of projects eligible for Production Sharing Agreements (PSAs), which provide a stable tax regime for foreign investors in Russia, but said the Sakhalin PSAs would be executed as signed.

Phase two calls for the installation of a new platform on the Lunskoye field and a second platform on the Piltun-Astokhskoye field close to the existing Molikpaq platform that has been producing oil since July 1999. The two fields comprise reserves of 160 million tonnes of oil (1.2 billion barrels) and 500 billion cubic metres of natural gas. Lunskoye hydrocarbon production will then be sent via pipeline to an onshore processing facility, where condensate and oil will be separated and mixed with the crude oil. Both the oil and gas will be transported via 850-kilometre oil and gas pipelines to an oil export terminal and LNG plant in Prigorodnoye at the island’s southern tip. The LNG is cooled to minus 160 degrees, reducing the volume 600 times and making it liquid, allowing transportation of large quantities by tanker ship to customers in different locations.

Sakhalin Energy plans to spend 1.7 billion dollars this year, the company’s Chief Executive Officer Steve McVeigh said on May 15. The 10-billion Sakhalin-2 project is expected to bring about 45 billion dollars in value to Russia in the form of taxes and royalties. Russian companies have already won contracts worth about one billion dollars for the first phase and Russian contractors are expected to undertake further contracts worth more than 4.5 billion dollars during the construction of the second phase. The project will also involve approximately 300 million dollars worth of upgrades to Sakhalin’s infrastructure including roads, bridges, railways, Nogliki airport and Kholmsk port.

This article was published in the Sakhalin Indepent.