In 1996, Yukos Oil Company’s future looked bleak.
After the collapse of the Soviet Union in 1991, Russia found itself with a weak and inexperienced central government in charge of a huge country. The national economy was in the hands of a cabal of managers running powerful state-owned enterprises. These managers were unwilling to undertake any desperately needed reform.
This difficult situation was made worse by the Russian financial crisis of the mid-90s. A national disaster loomed, and the Russian authorities agreed that the urgent privatisation of certain assets, including the government-run oil industry, was essential.
Yukos was the result of that privatisation. Cobbled together in 1995 and 1996, it had crumbling infrastructure and soaring costs. This was the result of ineffectual management and little, if any, strategic planning. Investment in production development had been essentially zero, and huge wage arrears had created simmering social tension in many areas that threatened to explode.
Making matters worse, the new company’s largest and most important extraction complex, Yuganskneftegaz (YNG), was producing only 0.5 million barrels a day, down from 1.4 million barrels a day in 1987. Siberia-based YNG constituted around 80 per cent of Yukos’s value and was responsible for pumping most of Russia’s oil.
Despite this, once privatised, Yukos staged a remarkable comeback.
Entrepreneurial leadership, sound management and simple hard work were the key to a gradual, then spectacular, recovery. Yukos focussed on generating maximum profit through efficiency, using the most advanced Western technologies to increase production capacities. This resulted in a dramatic rise in output and reduction of costs: YNG started producing well over a million barrels a day, while production costs were slashed, from a high of US$12 per barrel in the early 1990s to only US$1.50 per barrel.
Yukos also embarked on a programme of aggressive and ambitious international expansion, focusing particularly on Eastern Europe. In 2002 it purchased Lithuanian oil refinery Mazeikiu Nafta, which had a capacity of 58.5 million barrels. This followed Yukos’ acquisition of 49% (and management rights) of the Slovak Transpetrol oil transportation company in 2001. Yukos also sponsored the Adria pipeline project to bring Russian oil to Mediterranean markets, and partnered with Hungary’s MOL to develop an oil field in Hungary, thereby securing its stake in that country’s market. It also developed a contract with PKN Orlen, one of Eastern Europe’s biggest refiners, to ensure deliveries to Poland.
Perhaps even more significantly, Yukos developed a style of corporate governance that was distinctly Western. An essential part of this policy was the level of corporate transparency the company adhered to. For a Russian company, this was unprecedented. From 2000, Yukos established an international, independent board of directors, including representatives of the global business community. It also developed a corporate governance code, published financial statements in accordance with GAAP, was audited by outside accountants, and was open to financial analysis. This insistence on complying with international standards of the rule of law increasingly set Yukos apart.
The company quickly came to be seen as a pioneer of modernisation in the Russian oil sector. Focussing on generating profit for shareholders was a new approach for Russian companies, and one that was at odds with the Soviet style of doing business. The Financial Times put Yukos on its list of ‘Top Ten Companies for Shareholder Confidence’ in 2003, and the company quickly found itself courted by Western banks and investors as a result.
Yukos was also willing to disclose information for financial analysis, which was unprecedented in Russian company history. It raised dividends on common stock from US$300m in 2000 to US$500million in 2001 to US$2 billion in the first months of 2003. Earnings of top management directly depended on corporate growth and stock appreciation. The most highly-qualified and valuable employees became shareholders while mid-level managers were awarded stock options.
Yukos also developed partnerships with many Western companies and institutions to develop cutting-edge IT systems and training programmes. For example, it formed a strategic alliance with the oil field services firm Schlumberger in 1998 to increase production efficiency, while the French Petroleum Institute created education programmes for Yukos employees in 2000. Yukos also established partnerships with international business schools such as Yale University, and brought in specialists from the University of Texas and Stanford to create technology infrastructure.
The company also became the first to hire foreign specialists and expat executives for crucial positions, bringing in American oil experts Bruce Misamore, who joined in 2001 as CFO, and Steven Theede, who joined in 2003 as Chief Operating Officer. These international appointments helped reinforce the ethos of professionalism and fiduciary duty that underscored senior management decisions regarding Yukos’ strategy, shareholders and staff.
A native of Ohio, Bruce Misamore played a crucial role in ensuring Yukos met world-class standards of operational excellence, corporate governance, financial reporting, and investor relations.
“It seemed like a place where I would be able to make a major positive contribution”, Misamore explained, “not just to the company itself, but also to the wider Russian economy”.
Kansas-born Steven Theede was widely regarded as a leading industry expert when he joined Yukos, with over 30 years’ experience at oil companies. After graduating from Kansas State University in 1974 with a degree in mechanical engineering, Conoco had employed Theede in a variety of management positions, including President for Exploration and Production in Europe, Russia, and the Caspian.
So it was that, against remarkable odds, Yukos had become an internationally respected, and highly successful, company. Its market capitalisation grew from US$320 million in 1999 to US$21 billion in 2003, peaking in March 2004 at US$36 billion.
Equally as important, Yukos had also set the stage for a new era of corporate transparency in Russia. The Russian daily newspaper Nezavisimaya Gazeta wrote at the time that, “Yukos is a company with management philosophy that is totally different from that of the old oil barons. It is the philosophy based on the studies of Western experience. And it practically does not trace its origins to the Soviet-type economy”.
This success, however, seemingly sowed the seeds of the company’s eventual downfall.
The majority of Russia’s economic and administrative systems were still largely Soviet, and Yukos’ more modern approach was often seen as a rejection of the Soviet way. Although it could be described as having pioneered the Russian model of corporate governance, financial reporting and investor relations, Yukos’ alienation from the socialist past might have been the catalyst for its downfall. Culturally, Yukos was making a gigantic leap, which required a mindset many were not yet ready to adopt.
As a result, the Russian authorities decided to reassert control over what was now thought to be a strategic asset. They began a campaign not of nationalisation, (which would imply compensation from the State) but simple expropriation.