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Of crude oil derogations and discounts

Ilian Vassilev

For quite some time, the interests of Lukoil’s trading arm Litasco have been at the centre of a story of ever-widening Brent-Urals spreads and chronic transfer pricing problems, which between them regularly drain hundreds of millions of leva from Bulgaria. Now intensified by the war in Ukraine, they could cost Bulgarian consumers and the Bulgarian treasury nearly BGN 2 billion leva by end-2022. Yet the government does nothing to contain these practices – instead asking Brussels for a derogation that allows their continuation. Why?

The war in Ukraine has sharply widened the spread between the prices of Urals (the Russian crude oil grade that Bulgaria uses) and Brent, the UK benchmark crude. This has risen from $3-4/bbl before the war to $35-38/bbl at present. But the Bulgarian government doesn’t seem worried that fuel prices at home do not reflect these spreads, even though the implied sum at stake over a year exceeds a staggering $1.2 billion (35 million bbl of crude consumed annually by Bulgaria, multiplied by $35-38/bbl).

All EU importers of the Urals crude mix, including Hungary, Slovakia, Germany, and Czechia, take Russian crude from the Druzhba oil pipeline with the due discounts. All but Bulgaria.

So Russia’s Litasco enjoys a windfall in profits at the expense of Bulgarians, and the government does not take any action. Were it to take such action, the government could be toppled unless it had the support of the public and our allies, given the resources Russian oil giant Lukoil and Russian agents-of-influence could mobilise.

Today, May 20th, the price of the Russian crude oil delivered to the Lukoil Neftochim oil refinery in Bulgaria’s Black Sea port of Burgas – the country’s only major refinery, owned by the Russian firm  – should be no more than $74/bbl, which would mean pump prices below BGN 2.50-2.60/litre. At such price levels, the current government measures to combat high prices and inflation would just be superfluous.

With European sanctions against Russian crude oil ‘pending’, Russian oil prices continue to fall worldwide, while remaining highest in Bulgaria. Worldwide, the market for Russian oil is a buyers’ market. India and other major oil importers are benefitting from the abundant supply of Russian oil, setting take-it-or-leave-it conditions for buying Russian oil – $40/bbl prices, for instance.

But Bulgaria is the exception to this global trends.

Litasco sells Russian crude in Bulgaria to itself, avoiding the need to discount Urals-Brent margins. The company operates a tolling agreement with the Lukoil Neftochim refinery to avoid paying any eligible crude discounts while selling the resultant refined products in Bulgaria at market cost. The end-of-year tally of $1.2 billion, ironically, exceeds the acquisition price that Lukoil paid for the refinery – a total of $550 million (in cash paid plus debt taken over) – back in 1999, when it was spared competition from the US giant Exxon Mobil and the Anglo-Dutch company Shell, which did not receive a welcome nod from the then government.

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This tidy sum of $1 + billion leaves the pockets of Bulgarian consumers with the blessing of the politicians in power. As a result, despite that huge Urals-Brent spread, it makes no difference at all for Bulgarians whether Lukoil-Nefotchim refines Brent-quoted oil or Russian oil.

The National Revenue Agency just doesn’t seem interested. It should be double-checking balance sheets and performing parallel accounting for undisclosed and transferred profits. Under the sanctions regime, all the company’s hidden potential dues to the budget could be transformed into debt and swapped for assets, guaranteeing sanctions compliance and safeguarding against foul play on the retail fuel market. Instead, the current Minister of Finance is demanding a derogation from EU sanctions, securing Litasco’s right to refine and effectively launder Russian crude oil, with the ridiculous excuse that the company is Swiss-registered. Despite Lukoil’s complex web of shell companies, EU sanctions cover the ultimate owner – the parent company – and its affiliates. The actual owner of all Russian energy assets sits in the Kremlin. His name is Vladimir Putin and he is the ultimate beneficiary of Litasco’s schemes, which the Bulgarian finance minister is shielding. And it is the Kremlin’s war chest into which the resultant money is being funnelled.

The ruling coalition in Bulgaria is doing little or nothing to break a critical link in the chain of corruption that has been imported from Russia along with Russian energy.

On the contrary, it is threatening its own existence by failing to replace the top management of the state-owned gas transmission company Bulgartransgaz, a management left over from the era of long-term prime minister Boyko Borissov – the very same management that financed and built that epitome of grand corruption in modern Bulgaria, the Turk Stream pipeline.

Furthermore, the government ignores the role that is being played in the process of corruption by the quaintly-named Competition Protection Commission – a fine example of a state institution captured by special interests – and pretends that what is going on is just “business as usual”.

Moreover, the government shows no sign of replacing the Borissov-era government representative on the supervisory board of Lukoil Neftochim, even though this is a critical post through which all essential aspects of the refinery’s operations can be closely monitored, optimising policy options.

The explanation lies in the corruption mechanisms that engulf every new politician at the top. Flawlessly and effectively.

The Bulgarian budget and the Bulgarian consumers will derive no benefit from a derogation from EU sanctions to allow Russian crude oil to continue to be refined at the Lukoil-Necftochim refinery. No, the beneficiaries will be the corruption networks. And they will thrive.

If Kiril Petkov’s government falls from power, it will only have itself to blame. It will be a victim of disillusionment among those who elected it and entrusted with the fight against corruption. And of the corrupt, whom, by its negligence, it has empowered, instead of fighting.

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