Vorobyev S. Yu., Head of IRTTEK
Alikhashkin S. A., IRTTEK Analyst
Nadtochey I. V., IRTTEK Analyst
The saga of contamination of oil in the Druzhba pipeline with organic chloride has been going on for almost two months. According to the Transneft Company, about 3 million tons of oil have been contaminated . The consumers of Russian oil in the East European countries have made claims that, at the end of the day, might result in the first hundreds of millions of dollars.
The investigation into the cause of the accident has not been completed. The official narrative published by Russia’s Investigative Committee, says that the executives of Neftperechalka LLC, the owner of the CODAP near the city of Samara, and related companies had stolen the oil delivered to the point and, to sweep the theft under the carpet, went to the market to purchase dirty oil products with high levels of organic chlorides .
Experts do not believe the theory to be plausible. There is still no clear answer to the question of how dichloroethane might enter Transneft’s pipelines and contaminate that large volumes of oil.
The report analyzes the legislative aspects of the problem, both those that might have led to the contamination of the Druzhba Friendship, and those that might result in negative implications in the future.
Among others, the following factors are identified:
- unclear legal status of oil in main pipelines;
- unclear legal status of regulations concerning the measurement of raw material quality instigated by the Russian government and Transneft;
- natural levels and maximum allowed limits of organic chlorides in oil;
- effects of the Federal Antimonopoly Service’s (FAS) moves on the liberalization of oil and oil products market;
- effects of the refusal to pass the Main Pipelines Act and potential of its adoption.
The authors believe one of the key factors resulting in the Samara accident to be the moves of the Federal Antimonopoly Service’s (FAS) on liberalization of Russian laws regulating fuel and energy sector as well as some non-constructive steps the country's largest oil company Rosneft that, together with the FAS, prevented the adoption of the Federal Law on Oil and Petroleum Products Transportation via Main Pipelines and Amendments to Several Russian Regulative Acts. The adoption of the law would allow to create a tool for solution of the problem existing since the Soviet era linked to the fact that the midstream monopoly is responsible for the quality of the oil supplied to consumers, but has no authority to guarantee the quality of the material at the entrance to the main pipeline system.
1. Control of organic chlorides levels in oil and maximum allowed limits
In the course of discussions on the Samara incident, the experts suggested a theory that high levels of organic chlorides in the oil moved via the Druzhba have actually existed in recent years, because of both fluctuations of the natural levels of chlorine compounds in the pumped oil and the increasing usage of organic chlorides in oil production and processing.
Control of organic chloride levels in oil
It is widely believed that the problem of organic chloride in oil goes back to the 1970s the oil industry first tried to increase oil recovery using organ chloride compounds in the production. After the refineries faced problems, the use of organic chlorides was prohibited, but in the 1990s, they were in use again with the authorities loosened the oversight of the business.
The Energy Ministry had to confirm the ban on the use of organic chlorides. Its order # 294 of October 18, 2001, On Prohibition of Use of Organic-Chloride Reagents in Oil Production reads:
“Recently, the refineries have seen an increasing number of failures of the preliminary hydrotreating units, reformers, jet and diesel fuel hydrotreating units due to the formation of hydrogen chloride in the process of hydrogenation. Quality control in the laboratories of the cities of Ventspils and Klaipeda confirmed the higher levels of organic chloride compounds in the exported straight-run gasoline.
“The higher levels of organic chloride compounds in petroleum products originate from the processed crude oil that attracts the compounds from chemical reagents used in the production. To prevent active corrosive wear of refineries’ equipment due to higher levels of organic chloride compounds in the processed crude oil, it is hereby ordered:
1. To oil-producing agencies and businesses irrespective of their form of ownership:
Prohibit the use of organic chloride reagents in oil production [. . .]”
The order instructed every business producing, transporting or refining oil “to arrange the quality control of oil for the levels of organic chloride compounds using the ASTM D 4929 method, and, for that aim, by December 30, 2001, to equip laboratories involved in the quality control of the treated oil at the LACT units with necessary testing devices in accordance with ASTM D 4929”.
Under the order, the state standard “Oil. General Specifications” has been amended setting the maximum allowed limits for organic chloride compounds at 10 ppm. Measurements had to be performed every 10 days. Since then, the requirements on maximum allowed limits for organic chloride or the frequency of measurements have not changed - until the Samara accident.
The 10-day period was obviously introduced because the industry could not immediately meet the more strict time limitations for measuring of organic chloride levels, as it required investments in the purchase of equipment and the ASTM D 4929 standard of the American Petroleum Institute, personnel training, and the construction of laboratory facilities. With a 10-day period, samples could easily be moved to existing laboratories over considerable distances.
The order of the Energy Ministry on May 5, 2012, aggravated the situation with organic chloride lifting the ban on the use of organic chloride compounds in oil production. “AT Samara fields of paraffinic oil, organic chloride might provide a decent increase,” Energy Minister Sergei Shmatko explained. The irony is that it was just near Samara where the excessive contamination of the Druzhba oil with organic chloride occurred.
Experts immediately saw the potential danger of S. Shmatko’s decision. The explanatory note of ANO GSSS "NEFTEPROMKHIM"  read: “The repeal of Order #294 of October 18, 2001, On Prohibition of Use of Organic-Chloride Reagents in Oil Production is of particular concern as the move can result in unpredictable consequences similar to those that had already occurred in the oil industry in 1993-95 and 2000-03.”
On July 1, 2019, the Eurasian Economic Union’s technical regulation On Safety of Oil prepared for Transportation and / or Use that reduces the levels of organic chloride in oil to 6 ppm, comes into force.
Maximum allowed limits of organic chloride in oil
Limitation of organic chloride in oil with 10 ppm, in force since 2001, has not solved the problems of safe processing. In 2015, The Chemical Engineering journal published an article covering problems refinery equipment faces at the organic chloride levels just above 3.5 ppm.
Most European and American refiners consider a level of 1 ppm-1.5 ppm to be right.
The issue of organic chloride role in formation of hydrogen chloride, the most aggressive corrosive compound in the process of oil processing, got quite thorough analysis in the above-mentioned article Origins of corrosive hcl formation in primary distillation of oil. The authors wrote:
“It was, however, established that even after quite a deep disposal of inorganic chlorides from oil at the present-day crude desalter units (to residual level of chloride 3mg-5mg/dm3), the hydrochloric corrosion of condensing and refrigerative equipment of oil refining units does not stop. In primary distillation units, for example, the consumption of neutralizing agents (alkalis and amines) is considerably (5-10 times) higher than the level required to neutralize the hydrogen chloride released in the hydrolysis of calcium and magnesium chlorides remaining in oil. The reason for this is the presence in all oils, with rare exceptions, of native (natural) organic chloride compounds (COCs).”
The authors also pointed out that the decomposition level of COCs to HCl for different oils varies from 7 percent to 70 percent.
Organic chloride compounds can cause major damage to refinery equipment. In his work, A. Okhlopkov writes:
“However, since the second half of 2001, high rates of hydrochloric corrosion and buildup of ammonium chloride in preliminary hydrotreating units of catalytic reformers have been seen. The corrosion rate reached 2mm-4 mm per year, multiply exceeding the maximum allowed limits of 0.1mm-0.3 mm per year. Within the period, 7-10 emergency shutdowns had been recorded at some refineries including Khabarovsk, Komsomolsk, Ryazan, Angarsk and Achinsk. It was later established that the cause was the intrusion of large quantities of volatile organic chloride compounds into oil during its production.”
The 2001 ban on the use of organic chloride contributed to the solution of the problem, but it has not been fully resolved yet.
The problem of organic chloride in oil is of complex nature as it involves the amount of organic chloride compounds and the reliability of its measurement, the structure of organic chloride molecules, the efficiency of oil purification from organic chloride before processing at a refinery, the levels and specifics of COCs decomposition in processing. Those indicator vary for various oil grades and COCs. To comprehensively link them to processes of damage to refinery equipment full-on research is necessary as the stimulation of production with organic chloride is what the industry actually needs. It is counterproductive to limit the problem with only the measurement of COCs levels in oil and the frequency of the measurement.
2. Unclear legal status of oil in main pipelines
The root cause hindering the proper settlement between oil companies and the pipeline monopoly that resulted in the Samara accident is the unclear legal status of the oil pumped into the pipe.
If Transneft is only an intermediary between a seller and a buyer of oil rather than the owner of the oil in the pipe, then it is only responsible for the delivery from one place to another at a certain price to a certain deadline of what was pumped into the pipe. And in case of contamination of the oil with chlorine, the one who pumped that oil into the pipe should be called to answer.
If Transneft is responsible for the quality of oil, then it is the owner of this oil. Therefore it should make purchase and sale contracts with oil companies that, in turn, have purchase and sale contracts with consumers. The status is consistent with the principles of trading - you bought here, sold there and it is the trader who assumes the responsibility for the quality of the product. At the same time, the oil companies can sell oil independently other than via Transneft, and many do just that.
But in this scheme, the trader has the right to make or not to make a deal, while Transneft, in the status of a natural monopolist, is deprived of this opportunity. It is obliged to accept oil into the pipe, and the requirements for the quality of the injected oil are set by the Ministry of Energy, and these requirements may contradict the requirements set by the same Ministry of Energy for oil at the consumer’s valve. For example, the Urals supplied to the foreign market should have a sulfur content of not more than 1.8%, and in the Transneft system it is allowed to inject oil with a sulfur content of more than 3%. The promotion of such conflicting demands to Transneft is inconsistent with the company's commercial status.
In that framework, however, the trader has the right to make or not to make a deal, while Transneft, being a natural monopolist, has no such an opportunity. It has to accept the oil into the pipe, while the requirements for the quality of the pumped oil are set by the Energy Ministry and may contradict to the requirements for oil at the consumer’s valve set by the same Energy Ministry. Thus, the Urals oil delivered to the export market should have a sulfur level of 1.8 percent or less, while, at the same time, Transneft system is allowed to accept oil with a sulfur level of more than 3 percent. Those conflicting requirements Transneft gets are inconsistent with the company's commercial status.
It is possible to settle the contradiction by defining “who owns the oil in the pipe after the pumping” S. L. Sitnikov in Civil legal handling of oil transportation through the oil pipeline system: Essential problems argues that we deal with the so-called “death” of oil pumped into the pipe as having certain specifications and properties. And, at the same time, a new matter with its own specifications and properties appears. “Both the law doctrine and the law (Article 235 of the Civil Code of the Russian Federation) link that instance to only one legal implication, the termination of the ownership of the relevant thing,” the author concludes.
It is hard to disagree. From the angle of the nature of commercial transactions, only the owner of the product or a third party, on the owner’s instructions and on the owner’s terms, can change the properties of the product. If Transneft is forced (has the right, is obliged) to change the oil properties between the purchases from oil companies and selling to the end consumer, without permission of the seller or special arrangements, Transneft should be recognized as the owner of the oil.
S. Sitnikov sees the following possible variants of status of oil in the pipe:
- the sender’s ownership of the oil pumped into the pipeline system is terminated, but the property right to claim against the transporting organization arises upon delivery and completion of the transportation of the agreed volume of oil, even though it is not the same oil the sender transferred but meets the indicators agreed by the parties under the state standard for transportation (“mechanism of providing services”);
- the sender’s ownership of the oil pumped into the pipeline system is terminated, and instead the property rights of an appropriate part (share) in the same res sui generis oil being in the oil pipeline system arises (“mechanism of joint shared property”);
- the sender’s ownership of the oil that belonged to the sender before transferring to the oil pipeline system is terminated, and instead a virtually binding sender’s right to demand from the transporting organization to transfer to the recipient at the valve appropriate equivalent arises, while the ownership of the oil transferred to the pipeline system (therefore, the same res sui generis constantly being in the pipeline system and constantly changing) goes to the transporting organization (“mechanism of exchange”).
In its letter to Deputy Justice Minister of the Russian Federation M. L. Galperin with concern of the draft of the Federal Law on Oil and Petroleum Products Transportation via Main Pipelines and Amendments to Several Russian Regulative Acts, dated March 15, 2017, Rosneft says: “The draft law has still left open the question of the legal status of the pipeline transportation agreement”. At the same time, neither Rosneft nor any other oil company or government agency made suggestions on the definition of the “agreement status”. The problem has remained unsettled although its solution might prevent the Samara accident and other similar incidents in the future.
Thus, if the law recognized Transneft as the owner of the oil pumped into the pipe, the company itself would be able to set the requirements for the quality of oil and establish the procedure for measuring the quality. It means that not the Energy Ministry would decide on a 10-day period for measurements of chlorine levels but Transneft would swiftly set the optimal deadlines for oil suppliers. Moreover, under contracts with suppliers, the period might vary depending on the probability of exceeding the chlorine level in the materials of specific suppliers. For example, every 2 hours for Samara fields and once a month for Western Siberia.
Giving Transneft the status of owner for oil in pipelines would allow the Energy Ministry to reclaim the natural role of mediator between market participants and the regulator of fundamental issues rather than such a minor technical particulars as the number of days between chlorine level measurements and the procedure for oil quality control.
At present, reference documents for measuring oil quality developed by Transneft are not legally binding for oil companies. It means that Transneft is responsible for the quality of oil delivered to consumers, but does has no authority to guarantee the quality of materials at the entrance to the main pipeline system
3. Effects of the FAS moves on the liberalization of oil and oil products market
In recent years, Russian oil industry has seen two trends: the liberalization of the oil industry and the tightening of the control over it.
Protecting its commercial and technological interests, Transneft has been on the side of the “tightening” policies. The FAS, in line with its functions, together with oil companies seeking to loosen the requirements to materials pumped to the main pipeline system and conditions of connecting to the system, has tilted to the liberalization.
Liberalization of the market in “teapots’” best interests
Instigated by Transneft the Resolution of the Russian Federation Government of December 21, 2009 # 1039 On Procedure for Connecting of Refineries to Main Oil Pipelines and (or) Oil Product Pipelines and Recording of Refineries in the Russian Federation, elementary straight-run distillation units, so-called “teapots” were prevented from the claims for connection to the system of main oil pipelines. For all the following years, the FAS has been fighting for the “teapots’” “right” to gain access to the Transneft system.
Transneft is sure the very existence of “teapots” to be the result of a wrong taxation policy and technical requirements to the companies processing strategic materials.
Thus, pursuant to the instructions of the Russian Federation President and Government, Russian Federal Service for Environmental, Technological and Nuclear Oversight (Rostechnadzor), back in 2010, inspected mini-refineries with visual checks of the used equipment and examination of the companies’ paperwork. The inspectors found that about 75 percent of the checked mini-refineries had low refining depth of 50 percent or less. Analysis of the inspection documentation showed that most checked companies were not capable to manufacture high-quality products or resolve irregularities exposed due to the lack of the necessary funds. Besides, those “enterprises” violate rules of industrial safety and licensing regulations, while their owners typically focus on making quick profits at the expense of the safety of life and health both of employees and third parties, as well as of environmental safety.
At the meeting of the Transneft Expert Council, on March 13, 2014, it was pointed out that the products of “teapots” with a refining depth of 30-40 percent are fuel oil and straight-run gasoline (naphtha), which, at that time, was much more profitable export than oil. The rest 60 percent of heavy oil is sold to foreign refineries for processing as fuel oil. The experts said that the mini-refineries connected to the Transneft system more often than not returned the produced fuel oil to the pipeline. That results in higher levels of sulfur in the oil in the pipeline system. Over the previous two years, the amount of high-sulfur oil in the Transneft system increased by almost 3 million tons.
Earlier, the FAS insisted on removal from the executive order #1039 the requirement to submit to the Russian Energy Ministry and Transneft certified copies of contracts for supply of oil to the refinery, within three years after its launch, as a necessary precondition for its connection to main pipelines, on the grounds that the exchange trade in oil becomes more and more common. The FAS did not embrace the argument that the exchange contract does not automatically ensure the appropriate increase in pipeline capacities.
Transneft experts believe that unavailability of contracts for the supply of oil would inevitably result in an increase in criminal theft of materials from pipelines and illegal oil production.
The experts calculated that the changes in the existing connection rules on the FAS insistence, would result in budget losses of $2 billion - $3 billion per year, without taking into account the statistics of the illegal market.
Transneft, meanwhile, insisted on tightening of the Rule as follows:
1. To connect a refinery to the main pipelines upon the availability of:
1.1. Confirmation of oil producers’ willingness to supply a refinery with oil for the run of more than three years;
1.2. Readiness of advanced refining capacities at the start-up of the refinery.
2. To disconnect from the main pipeline system the existing refineries not complying the Rules.
Private CODAPs as a factor of potential criminal threat
Since 2015, a draft law on the main pipeline transport has been in development in the Russian Federation, by the President’s order. The draft, as envisioned by Transneft, was to create a basis for eliminating of existing uncertainties in regulating of interaction between the pipeline monopoly and oil producers, and become a tool for resolving of not only existing, but also potential problems in their future interaction.
Whatever the specific points of the draft law, the very fact of its adoption would have created a tool to tighten the pipeline monopolist’s control over the main pipeline system and the process of oil delivery to it. By amending the adopted law, Transneft might have eventually achieved the environment where its instructions were binding for all market participants without the support of those instructions by government decrees or rulings of the Energy Ministry.
Rosneft adamantly opposed the law seeing it as an attempt on its commercial interests, and the FAS protested from its traditional liberalization stance.
One of the major controversies (although not covered in the draft law directly) is the existence of private crude oil delivery and acceptance points (CODAPs). In the early years of privatization, the status of the pipeline company was much lower than one of the VIOCs, and about 150 CODAPs found themselves in private companies’ hands, under their control and protection.
Back in 2015, just when the President said that it was necessary to draft a law which would cleanup the industry, another private CODAP was built near Samara.
The CODAP was built due to the FAS and Rosneft consistently pursued policies of liberalization of legislation regulating the industry. It was a purely market project. No oil company backed it.
It was just the CODAP through which the organic chloride was pumped into the Druzhba pipeline
The federal regulatory documents governing relations in the industry say nothing on who and how should measure the quality of materials and be responsible for the results. At present, either oil producing companies or intermediaries perform the quality control of oil and its transfer to the system of main oil pipelines at their CODAPs. Without the law on pipeline transportation, oil companies have an opportunity to ignore regulatory documents on techniques and arrangements of measurements developed by Transneft. Thus, Rosneft refused to accept the paper OP-17.060.00-KTN-227-14 prepared by Transneft back in 2014, Main Pipeline Transportation of Oil and Petroleum Products: Prevention of Acception of Substandard Oil in Main Pipeline System: Procedure for Activities of Operations and Dispatcher Personnel. Even the title says a lot after the Samara accident.
Although Transneft representatives sign reports of oil quality measurement results even at private CODAPs, the reports cannot give a 100-percent guarantee for the material pumped into the pipe. After pumping oil into the pipe, it is virtually impossible to find the source of contamination while the industry is interested in delivering the maximum possible volume of material. With private CODAPs being guarded by private security divisions of owners, it further increases the probability and potential of pumping substandard oil into the pipeline
The FAS has destroyed the barrier between the domestic and export fuel markets
The adjustment of the Rules for non-discriminatory access to the main pipeline system, masterminded by the FAS back in 2014, has opened for oil companies an opportunity to bypass regulatory restrictions and agreements with the government on the protection of the domestic market.
In August 2014, at the FAS’ suggestion, the Rules for ensuring of non-discriminatory access to the services of natural monopolies in transportation of oil and petroleum products through main pipelines (the Rules) were amended. Requirements to a notarized copies of extraction licenses and a certified extract from the Russian Federation Registry of refineries or a certified extract from the Registry of business entities engaged in oil production for applicants participating in exchange trading at the commodity exchange were excluded from the Rules.
In the explanatory note to the draft Government decree On Amendments to the Rules for ensuring non-discriminatory access to the services of natural monopolies in transportation of oil (petroleum products) through main pipelines the changes were substantiated by the proposals of market participants.
The note says that in 2011, the FAS received appeals of business entities participating in the oil products market but not belonging to any oil company complaining that they cannot make contracts with Transneft for services of transportation of oil (petroleum products) through pipelines. The essence of aforementioned appeals can be summarized by saying that those business entities cannot obtain contracts for the transportation of petroleum products through main pipelines, as, under sub-clause “l” of clause 13 of the Rules, an applicant requesting for the transportation of petroleum products should submit “a certified extract from the Russian Federation Registry of refineries”. Business entities that are not owners of cannot submit an extract from the Registry of refineries.
At the same time, the FAS pointed out, the above-mentioned business entities are participants in the oil and oil products market; they purchase oil products both at exchange trading and via direct contracts to supply oil products to independent retail market participants and large industrial consumers. Denial of access to pipelines for those entities, in the FAS’ opinion, lowers the volume of petroleum products transportation, and that results in reduced utilization of the main oil product pipeline.
According to the FAS, the existence of that condition in the Rules regulating applications for the transportation of petroleum products creates discriminatory situation for independent business entities in making contracts for the transportation of petroleum products through the main pipeline system in the Russian Federation, which is a violation of the Federal Law of July 26, 2006, 135-FZ On Protection of Competition (Part 1 of Article 10).
The existing procedure, the FAS wrote, deprives Russian producers of flexibility in shaping the balance between the supply of oil for foreign and domestic refineries, and “the redistribution of export schedule in favor of companies where more resources are available results in the outflow of oil from the domestic market abroad”.
The Institute experts failed to find an explanation for how the existence of an “administrative barrier for oil companies’ trying to exercise the right of access to export pipelines” results in the “outflow of oil from the domestic market abroad”. In reality we see that, on the contrary, intermediaries’ broader access to export pipelines results in the disappearance of the barrier between the domestic and foreign markets and contributes to the outflow of material from the domestic market to the global one.
The 2018 agreement between the government and the largest oil companies to restrain fuel prices and supply the domestic market relied on the assumption that the distribution of fuel between domestic and foreign markets by the VIOCs is crucial for the market. At the same time, fuel sold through the exchange or directly to independent traders was considered to be for consuming at the domestic market. An opportunity, on the FAS initiative, to export the fuel purchased independent traders at the exchange or directly from refineries means that the fuel sold for the domestic market can be sent abroad by the trader, including through the system of Transneft obliged to take it into the pipe.
The destruction, due to the FAS initiative, of the barrier between domestic and foreign markets of oil and oil products might potentially result in a shortage of fuel in the domestic market and the consequent price increase, which we are seeing at present.
4. Consequences of refusal to adopt the law on main pipelines
The law on main pipelines, pushed by the President of the Russian Federation back in 2015, has not been adopted yet. The potential of its adoption in the future will be considered in the next chapter, while in this section we will discuss the consequences of not adopting the law.
Unclearness of responsibility for the quality of oil
Russian regulatory papers offer no clear definition of who, how and on what basis is responsible for the quality of oil pumped into the system of main pipelines. These issues might be settled in the law on main pipelines.
If a supplier delivered oil with a high level of chlorine, why the transport company should be responsible for the quality of that oil if it delivered to the consumer just what was pumped into the pipes. If Transneft is responsible for the quality of material in the pipes, then it is a trader, a full owner of oil, and, in the trader’s capacity, has the right to reject a bad deal or acceptance of oil non-compliant to the company's quality standards, or to set its own fair price for that oil. Transneft should also establish the procedure for delivery and acceptance of material. If a supplier refuses to comply to Transneft regulatory requirements the company should have the right to refuse acceptance of the products.
If Transneft is a natural monopolist who does not enjoy the right to refuse to provide transportation services, then it is ridiculous to demand for improvements in the quality of the transported product on move.
The refusal to adopt the law implies the persistence of existing problems and the lack of a mechanism that might contribute to the solutions which inevitably results in accidents of the Samara scale or even greater.
Sooner or later, the issue of the status of oil and the ensuing consequences will have to be resolved. In one of the most likely scenarios, Transneft will receive the status of a government’s agent and will be able to set preconditions for suppliers of material in the capacity of a trader and the owner of the oil in its pipes.
Unclearness of the legal status of regulatory documents on oil quality
The Government Decree #218 of March 29, 2011, On Non-Discriminatory Access to the Services of Natural Monopolies Transporting Oil (Petroleum Products) Through Main Pipelines in the Russian Federation and Invalidation of Certain Acts of the Russian Federation Government says nothing about private CODAPs. Paragraph 2 of the Decree just mentions that there is a “transfer point”, a place where they record the volumes and assess the quality of oil (petroleum products), while the divisions of delivering and accepting parties perform the appropriate operations. A consumer of transportation services is obliged (clause 7, b) “to ensure the delivery of oil (oil products) for transportation through the main pipeline at the points of departure in compliance to characteristics specified in the oil quality certificate and other papers confirming the oil products’ compliance to the requirements set by technological regulation, as well as to volumes and deadlines defined in the contract”.
Thus, the Decree is, in essence, a framework law, that says nothing about:
- ownership of a CODAP that can actually be controlled by foreign citizens (a number of media  reported that the CODAP near Samara through which the organic chloride was pumped, belongs to a German national);
- responsibility for the discrepancy between the oil quality certificate and its actual specifications;
- who and how measures those specifications and so on.
Framework laws typically refer to an agency that determines the particulars necessary for the implementation of the law. The Decree does not contain such references. As a result, it remains unclear who should issue regulatory papers, under what procedure and what their status would be.
Since Transneft is actually responsible for the quality of oil, the issue of regulations and guidelines is its prerogative right. However, the attempts to introduce the necessary guidelines have faced the stubborn opposition of a number of oil companies including Rosneft. That company has refused to accept even the papers accepted for execution by oil companies and issued by independent expert institutions rather than by Transneft. For instance, the paper MI 2525-99 (the MI index stands for metrology recommendations) was prepared by the FSUE VNIIMS, the main research center of the Russian Federation National Service of Metrology.
Transneft points out that the drawing-in and consideration of MI papers were performed under the procedure set in paragraph 4 of MI 2525-99 and Article 4 of the Russian Federation Federal Law #184-FZ On Technical Regulation of December 27, 2002. Major companies and research of the oil and gas industry, including oil senders, contributed to the papers.
- MI 2837-2003 was prepared by FSUE VNIIR, ZAO Centre MO, OAO AK Transneft, OAO IMS, OAO NK LUKOIL, OAO Surgutneftegas, OAO Sibneft-Noyabrskneftegaz;
- MI 2773-2002 was prepared by OAO IMS, ZAO Centre MO;
- MI 2825-2003 was prepared by OAO IMS, ZAO Centre MO, OAO Nefteavtomatika, FSUE VNIIR.
By present, papers MI 2837-2003, MI 2773-2002, MI 2825-2003, MI 3342-11 have been included in the existing contracts for the transportation of oil with other senders, Transneft reported.
The above-mentioned papers have been approved the state national research institutes under the authority of the Rosstandart:
- MI 2837-2003 was approved by FSUE VNIIR;
- MI 2773-2002 was approved by FSUE VNIIMS;
- MI 2825-2003 was approved by FSUE VNIIR;
- MI 3342-2011 was approved by FSUE VNIIMS.
Transneft answers to Rosneft's reason that the company is not obliged to accept for execution local regulations citing the fact fact that the above-mentioned papers have no references to Transneft internal regulatory papers.
Unclearness of the status of regulatory papers has put market participants on uneven playing field. The oil companies recognizing Transneft’s requirements as valid have to spend more on meeting those requirements. Rosneft saves on non-meeting them.
In this report, we do not discuss the validity of the regulatory papers put forward by Transneft, but establish the lack of a mechanism for coordinating those requirements with all market participants until they are accepted as mandatory or rejected.
If the law were adopted, there would be no problems (or they might be solved routinely) with the introduction of not only methodological, but also organizational guidelines for suppliers, which Transneft is trying to include in offers of the transportation service, and which Rosneft bluntly refuses to introduce at its measuring stations and CODAPs describing them as “unnecessary” and “redundant”. The right to federal regulations on metrology and the procedure for material acceptance would automatically come to Transneft in a capacity of a buyer of material from oil companies.
By present, Rosneft, as was said above, has refused to accept for example, the OP-17.060.00-KTN-227-14 paper prepared by Transneft in 2014. It is titled Main Pipeline Transportation of Oil and Petroleum Products: Prevention of Acception of Substandard Oil in Main Pipeline System: Procedure for Activities of Operations and Dispatcher Personnel. The Rosneft’s objection: “The requirements of OR-17.060.00-KTN-227-14 are one-sided and envisage no penalties for the delivery of substandard oil from the Transneft system of main pipelines.”
The result of the company’s stance is a million tons of oil contaminated with chlorine, and claims against Transneft rather than those who pumped chlorine into the pipe.
It deserves mentioning that not all market participants share the Rosneft’s views. At present, OR-17.060.00-KTN-227-14 has been included in existing contracts for the transportation of oil with almost all suppliers.
At the end of May, Rosstandard  hosted the meeting of the Interdepartmental Working Group on Combating the Illicit Trafficking of Petroleum Products at the State Commission on Combating the Illicit Trafficking of Industrial Products. It was the second meeting this year. Summarizing the proposals on the control of oil quality indicators presented by Transneft Deputy Vice President I. Katsal, the meeting made a resolution “on elaboration of moves to ensure the accreditation of existing laboratories against the technical regulations, the update of standardization guidelines, the inspections of oil quality together with Rostechnadzor and a comprehensive metrological examination on ensuring the quality control of oil prepared for transportation and / or use”.
The report above suggests that the Commission’s attention is, as before, focused on the technical side of measurements. The organizational side - the powers of the participants in the process - remains under the radar.
Lack of law and safety of pipelines
Rosneft reasons the irrelevance of a special law on pipeline transportation with, for instance, the fact that the proposed draft law “repeats regulatory papers setting the requirements for fuel and energy complex facilities”.
Below is a quote from Rosneft letter to Deputy Justice Minister of the Russian Federation M. L. Galperin, dated March 15, 2017, explaining the irrelevance of the law on pipeline transportation:
“The original purpose of drafting a law was to regulate the issues of industrial and antiterrorist security of pipelines. Meanwhile, with regards to security issues, the draft law mostly repeats the parts of the existing legislation - Regulation #226-FZ On Safety of Fuel and Energy Facilities; #77-FZ On Inhouse Security Service; #116-FZ On Industrial Safety of Production Facilities.”
Rationale for the law irrelevance with the fact that its provisions “repeat” existing acts seems to be without merit because the acts of the lower level in the regulatory hierarchy always, to some extent, repeat the acts of the upper level. It would be strange if the draft law on pipeline transportation “contradicted” Russian federal laws. Besides, the regulations covering particular issues, if necessary, contain provisions concerning those particular issues which have no logical or even possible place in the regulations of a higher level.
In the evaluation of security regulations, the significant thing is sufficiency and adequacy of the existing regulatory framework to the actual security situation rather than duplication of the provisions from higher level papers in lower level ones. In reality we see that the existing requirements are not sufficient, as the pipeline transport has its own specific features that are not covered by general regulations.
At present, the main security problem Transneft pipelines system faces is criminal tapping. This is an industry-specific type of crime. In no other segment malefactors, in large numbers, drill holes in the equipment.
The existing legislation and practice have shown their insufficiency in the fight against criminal tapping. Over the past five years, the number of tie-ins to main pipelines carrying oil and diesel has not decreased, doing Transneft billions of dollars in damage.
Some efforts in tightening the Criminal Code and improving security have not given the desired result in the face of regulatory enforcement. For instance, the mere fact of making an illegal tie-in is not a basis for imprisonment while the penal fines imposed are out of proportion with criminals’ real income. The tappers get suspended sentences, pay fines and continue stealing fuel. Some experts see the cause of the Samara accident in large-scale theft of oil through illegal tie-ins.
With law enforcement agencies incapability to provide the adequate protection of pipelines, Transneft’s draft law suggests that the “protection of main pipeline (oil products pipeline) facilities is performed by the security division of operator of the main oil pipelines and oil products pipelines under the Russian Federation laws”. If the law is adopted in that word, Transneft will be able to develop regulations specifying the powers of the operator’s security division. In means that company's ability to combat criminal tie-ins gets stronger.
In its official comment to the draft law, sent to the Energy Minister A. Novak on April 24, 2017, Rosneft suggests a different wording of that paragraph:
“Protection of main pipeline (oil products pipeline) facilities is performed by the security division of operator of the main oil pipelines and oil products pipelines, divisions and / agencies of the federal executive authority responsible for development and implementation of the governmental policies and legal regulations of independent security entities, security division of the federal executive authority responsible for development and implementation of the governmental policies and legal regulations of the fuel and energy complex, under the Russian Federation laws.”
At the first glance, Rosneft’s demand to admit third-party security entities to the protection of oil pipelines does not worsen, but only expands the Transneft’s proposal. But a controversy arises. In addition to pipes per se, the main pipeline system CODAPs. Oil companies are the owners of more than 150 CODAPs. If the CODAPs, in their function, are qualified as a part of the main pipeline system, then even their private status will not prevent Transneft from including them in its security system. Had the proposal been implemented, the massive theft of oil or the pumping of organic chloride at the CODAP near Samara would be impossible or, at least, difficult.
The Samara incident showed that private CODAPs and their private security guards cannot ensure the safety of main pipelines, because the driving forces of the dirty oil pumping can give orders to the guards.
In the case of a task-oriented sabotage, the perpetrators may pump into the pipeline not only organic chloride but also any substance that can make the pipeline inoperative by, for example, causing an explosion of the contents of the pipe.
Unsettled issue of protected zones
Another issue linked to the safety of main pipelines with oil and oil products is the development in protected zones.
Transneft proposed to include provisions on protected zones and zones of minimum permissible distances in the draft law. The proposal was rejected on the grounds that those provisions imply the amendments to town-planning and land laws and duplicate the law #342-FZ of August 3, 2018, that sets the procedure for establishing of use-restricted zones (URZ). However, the provisions on protection zones exist in Article 28 of the Law On Gas Supply and nobody objects.
The issues of harmonizing the wording of regulations are important but certainly inferior to the issues of actual security. In reality we see that existing regulations do not resolve the problem of protected areas. Thousands of buildings still remain in protected zones and new structures are under construction. Transneft has no real authority to resolve the problem or at least to make it less severe. In recent years, major accidents at the main oil and gas pipelines have shown that the existing regulatory framework is insufficient to ensure the safety. The inclusion of protection-zone provisions in the law on pipeline transportation would allow Transneft to use it and work out its own regulations on ensuring the safety of main pipelines taking into account particular properties of the oil and oil product pipelines and the real situation. At present, Transneft has no other solution except for the demolition of houses in protected zones. In the event of an accident, the company managers would be found guilty of damage and loss of life. At the same time, the local authorities bluntly oppose the demolition of houses fearing violent protests of the residents. The situation again hangs in mid-air.
5. Chances for the adoption of the law on main pipelines
Almost all state strategic life support systems have by present received their framework laws: 35-FZ On Electric-Power Industry; 257-FZ On Motor Ways and Road Activities; 416-FZ "On water and Sanitation"; 126-FZ On Communications; 69-FZ On Gas Supply in Russian Federation; 190-FZ On Heat Supply; 17-FZ On Railway Transport in Russian Federation. Only pipeline transportation of oil and oil products has no such regulatory framework/
Backstory of the draft law
President of the Russian Federation instructed the Government to work out the law on July 30, 2015. Whatever the reasons why the government has not transferred the law to the parliament for more than three years, under any legal norm, that behavior can be only described as undermining.
Let’s recall how the work on the draft law went on. Russian Energy Ministry prepared a draft law on Oil and Petroleum Products Transportation via Main Pipelines and Amendments to Several Russian Regulative Acts by early 2016. In the same year, the law passed the stage of public consultations (regulation.gov.ru), gathered support from appropriate federal executive agencies (FEAs) and subjects with the right of legislative initiative (the State Duma Commission on Energy, the Federation Council Commission on Defense and Security).
In December 2016, the draft law was included in the government's Plan of Legislative Drafting Activities 2017. However, it had never reached the State Duma. In 2017, the law was sent to a new round of approvals.
In March-September 2017, the draft law, revised to reflect the previous comments received from the appropriate FEAs, was on the recurrent interagency approvals. The Energy Ministry and the Economic Development Ministry held meetings with major oil companies, including OAO “Surgutneftegaz”, PAO Lukoil, PAO NK Rosneft, PAO Tatneft, PAO Russneft, PAO Gazprom Neft.
The draft law was also a topic of the recurrent public consultation.
In addition to the previously existing ones, the opinions of the Institute of Legislation and Comparative Law at the Government of the Russian Federation, Russian Ministry of Economic Development on regulatory impact assessment (RIA) and Russian Justice Ministry were obtained.
At the end of the day, the law, with all associated documents was submitted to the Government by the Energy Ministry on October 2, 2017. The government’ administrative office then sent it to the next round of approvals.
Under the Government’s order of October 24, 2017 #AD-P9-7128, the draft was once again approved by the appropriate FEAs. It was approved without comments by the Internal Affairs Ministry, the Federal Security Service, Rosgvardiya, the Emergencies Ministry, the Ministry of Industry and Trade. The staff of the Energy Ministry managed, in conciliation efforts, to determine the comments of the Finance Ministry, Rostechnadzor, the Ministry of Construction Housing and Utilities, and the Ministry of Culture.
But the law had failed to reach the State Duma again. Under the order of Deputy Prime Minister D. N. Kozak of December 12, 2017, #DK-P9-8374, the draft law sent for adjustment with draft laws the government had introduced to the State Duma.
In early 2018, a new round of approvals started. Conciliation meetings were held at the Department of Industry and Infrastructure of the Government on February 26 and March 6. The version of the law revised with consideration of FEAs’ updated stances was approved March 23, 2018, by Deputy Prime Minister Arkady Dvorkovich. The law was sent to the President’s Administration that approved it in principle and pointed out (opinion #A6-4290 of April 19, 2018) that no comments prevent the State Duma from discussing the draft law in the first reading. But again, the law had not been sent to the State Duma
After the presidential elections in Russia, the composition of the government changed. Dmitry Kozak, who received some of Arkady Dvorkovich’s powers, revoked the law signed by the latter and, by the order of the Russian government of May 7, 2018, #AD-P9-2638, sent it to FEAs for new approvals.
Rosstandard, the Ministry of Culture, Rosgvardia, the Ministry of Natural Resources, the Ministry of Industry and Trade, the Finance Ministry, the Emergencies Ministry approved the provisions of the law, while the Justice Ministry, the FAS, the Ministry of Economic Development and the Ministry of Construction repeated in their opinions the comments, earlier removed.
A summary sheet with the Energy Ministry annotations and stance with regard to the comments of the FEAs was sent to the Government Office in a letter of June 29, 2018. The law was once again discussed at the meeting with D. N. Kozak (minutes of August 22, 2018 #DK-P9-139pr) and, as a result, a working group chaired by the Deputy Energy Minister P. Yu. Sorokin was formed. As part of the working group's activities, proposals for the revision of the draft law were submitted by oil companies PAO Tatneft, PAO NK RussNeft, PAO SIBUR Holding, PAO Gazprom Neft, PAO Lukoil, AO Zarubezhneti, PAO NK Rosneft and AO Neftegazholding, as well as by the FAS and the Justice Ministry. Some FEAs repeated the previously reviewed and removed comments, some of the oil companies’ comments were removed unofficially.
Taking into account the results of the meeting at the Deputy Head of Government Office A. K. Uvarov, on September 21, 2018, the Energy Ministry improved the draft law and, on September 25, 2018, sent it to the Government for further consideration.
Under the order of the Deputy Prime Minister D. N. Kozak (DK-P9-6523, September 27, 2018), the law was again returned to the Energy Ministry for revision taking into account the comments made by the Deputy Head of the Government Office Secretariat D. B. Aratsky (letter of September 27,2018 #Z-P25-29268).
On December 6, President of Transneft, Nikolay Tokarev said about the results of P. Yu. Sorokin’s and D. B. Aratsky’s activities: “Unfortunately, despite the President’s direct instructions, the attempts to ‘demolish’ the law, primarily by Rosneft, continue”. According to Tokarev, the law was changed to such an extent that the company itself would be against its introduction to the State Duma.
As a result, on December 12, 2018, at the meeting at Dmitry Kozak with participation of officials from appropriate agencies, Transneft and oil companies again failed to reach a compromise on the key points of the law. Kozak's representative Ilya Dzhus told RBC news agency that the controversies about the “definition of main oil pipelines of common and non-common use, the parameters of investment in the construction of such facilities and their ownership structure”. According to Dzhus, the discussions on the draft law On Main Pipeline Transportation of Oil and Oil Products will continue in 2019. By the date of the writing of this report (May 2019), the law has not been adopted, work on it has been stopped.
Let’s consider the main disagreements between the participants of the work.
Are private main pipelines possible?
In the original version of the draft law, the main pipeline was understood as a pipeline, that, as an object of strategic infrastructure, can only be owned by the state or a state operator, the tariffs for the use of it are approved by a governmental agency, and all the market participants have equal and non-discriminatory access to for transportation but only in compliance with state standards.
In the latest version, at Rosneft’s suggestion, main pipelines of “common” and “non-common” use emerged. The owners of the latter may be individuals or entities “registered in the territory of the Russian Federation, including oil companies”. If we rely on the principle of task sharing - production is one thing, the transport infrastructure is another - there should be no “private” main pipelines. That principle is established for example, in the law on electric power industry, Article 6 of which reads: “Legal entities, small business owners and affiliated persons within the boundaries of the same price zone of the wholesale market are prohibited from merging activities in electricity transmission and / or operational dispatch control in the electric power industry with activities in the production and / or purchase and sale of electric energy.”
The status of “main” per se changes nothing in the operations of the oil pipeline pumps but the consequences of the status matter with regard to taxation (main pipelines are entitled to tax deduction under Article 380 paragraph 3 of the Tax Code), allocation of plots for construction of main not-main pipelines (the land for state facilities is allocated under one law, for private facilities under other). Access to private pipe and tariffs sets the owner of the pipe rather than the governmental agencies.
The observers link Rosneft’s desire to enshrine in law the possibility of privately owned pipelines with the status of “main” with twists around its oil pipeline connecting the Vankor field with Purpe oil pumping station. In June 2018, Rosneft lost a dispute with the Federal Tax Service that charged in with 2.46 billion rubles of additional taxes and penalties for 2012-13 for unjustified use of property tax exemptions, available to only state main pipelines. However, under the amicable agreement, the company obtained the right to use the privilege for that pipe retroactively, since 2014.
In the event of legislative consolidation of the possibility to lodge private pipes owned by oil companies with the “main” status, Rosneft and other companies will inevitably want to extend the status to as many of their pipelines as possible. The state budget will lose billions of rubles, and the principle of equal and non-discriminatory access to the main oil pipelines will be buried
The parties’ responsibilities in the construction of main pipelines
Another controversial issue becoming an obstacle to the adoption of the law is who and how will pay for the construction of new pipelines. The necessity to include in the law on oil pipelines the matter of cost recovery for facilities built at public expense while commissioned by private companies is disputable. The authors believe that a framework law on the commercial relations between business and the budget would be more logical. But until such a law is adopted it is acceptable to protect state-owned companies and market participants from unsound expenses.
The September 2018 version of the draft law approved by market participants and the Energy Ministry, presents the pattern of increased tariffs for companies who commissioned the building of new or the expansion of existing pipeline capacities, that have been applied for over two decades. Those provisions disappeared from the latest version at the insistence of Rosneft. In the Rosneft’s wording, the “construction of main pipelines is performed exclusively in accordance with the investment program of the specified entity of the natural monopoly at the expense of the investment component of the tariff for the transportation of oil and petroleum products, with the exception of the provisions implying the regulation of the main pipeline construction on the conditions of reimbursement to the specified subject of the natural monopoly cost incurred by certain consumers of relevant services (oil and gas companies).
If this version of the law is adopted, all oil companies will pay, as a component of the tariff for the entire system of main pipelines, the projects to expand existing or build new capacities being implemented in the interests of one or a few oil companies.
The “ship or pay” formula also disappeared from the law. It means that oil pipelines will be built at the public expense while the companies will not have to pay for unfulfilled promises to deliver oil to a new pipe. At present Zapolyarye-Purpe and Kuyumba-Taishet oil pipelines commissioned by oil companies and built with the funds of the state-controlled Transneft do not operate at full capacity and are often idle. Oil companies with impunity disrupted delivery schedules, while the FAS set tariffs with which payback of oil pipelines moved beyond the horizon of service life. The state budget, through the financial entity of Transneft whose operating cash flow has become negative, will pay for the half-empty oil pipeline.
The adoption of the law has become senseless. The amount of controversial issues in the course of consultations increased at each new stage of approvals. For example, the controversy was raised by the question whether the government should approve the Transneft investment program or the approval of the company's Long-term Development Program and the principles of the investment program formation is sufficient, and the investment program per se might be approved by the Energy Ministry. The difference is the speed of decision-making, and it is significant, with the process able to take months and years as we see in the saga of the law adoption.
Due to the FAS’ efforts the provision on the inclusion of the operator’s investments in tariffs was removed from the latest version of the draft law. At present the FAS refuses to include investments in the tariffs for Transneft and stubbornly adheres to the principle of “inflation minus”. After negotiations on tariffs at the FAS President of Transneft Nikolai Tokarev heatedly said: “It is useless to discuss, because any conversation with the FAS end with one well-known phrase - ‘inflation minus’. The FAS doesn’t care how our tariffs grow, whereon they grow, how we will live, the FAS, I repeat, doesn’t care. They learned that mantra and from any platform . . . they only say one thing - inflation minus.”
In 2018, tariffs managed to cover only 16 percent of Transneft’s investment projects. The company's eventual cash flow is negative. Like in 2018, the FAS proposed the indexation of the tariff in 2019 at the level of 0.9 percent of inflation. They virtually forced the company to draw upon bank loans to pay dividends.
Another controversial issue is the level of detail in the approval of tariffs for connecting to pipelines: whether the draft law should include a standard form of the contract or it should be approved by the government; whether it is necessary to include in the law the specifics of land allocation for new pipelines or the existing land laws are sufficient; whether Transneft enjoys the right to keep the materials obtained by reducing technological losses below standard, and so on.
In the latest version of the draft law, among other things, some quite exotic provisions emerged that, particularly propose to strip Transneft of the right to refuse making a transportation contract because of low quality of oil; to obligate the operator to compensate oil companies for losses in the event of lack of technical capabilities to ship oil; to prohibit Transneft from shipping oil and oil products through its pipes meeting its own technological needs and allow the transportation of only companies’ material.
The latest version of the draft law has not been supported by key federal agencies. Among others, there was a proposal to “consider in principle the relevance of adopting the law”.
In such circumstances, the adoption of the law seems unlikely
The practice of legislative activity, and any other activity for that matter, strongly indicates that even the poorest paper, the poorest decision rising a lot of fundamental objections, is better than the complete lack of it which freezes the situation with all the accumulated contradictions. And the situation “resolves itself”, sometimes with grave consequences, which the Samara incident proved once again, and the current circumstances prove further.
After the Samara accident, the Energy Ministry obligated the companies to measure the levels of organic chloride compounds in oil cargoes daily, but left the acceptable level of organic chloride compounds at 10 ppm.
By way of contrast, after one of the most well-known incidents of oil contamination with organic chloride compounds occurred in Canada in February 1993, the Alberta government tightened the requirements for organic chloride compounds levels in oil transported through pipelines (no more than 1 ppm) and the organic chloride compounds use in oil production.
The Russian media reported about the daily measurement of organic chloride compounds but the status of that requirement has not been cleared. As of June 6, 2019, we only know that the requirement for the daily measurement of organic chloride compounds was sounded in Transneft’s letters to oil companies. The responses to the letter highlight its “regulation” status.
From the letter of OOO RN-Severnaya Neft to AO Transneft Sever, May 23, #05 / AT-7230:
- [. . .] the testing of marketable oil for “total mass fraction of organic chlorides to a temperature of 204 ºÑ” daily is impossible at the present time due to the lack of sufficient amount of expendable materials necessary for that testing.
OOO RN-Uvatneftegaz says that the “. . . shift of testing for total mass fraction of organic chlorides to a temperature of 204 ºÑ to the daily basis will be possible from August 15, 2019”.
OOO RN-Yuganskneftegaz plans to transfer measurements of organic chlorides to the category of acceptance by August 5.
The refusal of Rosneft's companies to measure the organic chlorides levels on a daily basis ostensibly due to the “lack of expendable materials” [at one of the top ten companies in the world], continues the probability of another excessive oil contamination in the system of main oil pipelines. It also maintains the uncertainty about Transneft’s right to refuse acceptance of material with unknown levels of organic chloride to the system.
Numerous articles on the causes of the Druzhba oil contamination with organic chloride poorly cover the topic of key players’ refusing to adopt a law on pipeline transportation. We have to conclude that the arguments of Rosneft and the FAS pointing out that the current situation “does not require the development and adoption of a special legislative act” resulted in an obvious outcome - the Samara disaster with multi-million dollar losses and damage to Russia's reputation as a reliable energy supplier.
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