Import substitution means developing the national production base and supplier networks

Sergey Arkhipov

Interview with Sergey Arkhipov, Head of Technological Partnerships and Import Substitution, Gazprom Neft

Siberskaya Neft (Siberian Oil) magazine

— Until recently there was much talk of the need to integrate Russia’s economy with that of the rest of the world. Today we hear precisely the opposite — a striving towards complete independence. Is there a happy medium?

— Integration should be there to reduce the costs of goods, work and services, and to improve companies’ accessibility to these — in our case, improving efficiency in hydrocarbon recovery. There are two key factors in successful market integration and amalgamation. The first is “economies of scale”, leading to lower production costs and greater output. The second is accessing the skills and know-how of a wide range of scientific communities, adopting new technologies from related fields, leading to the development of new and innovative products. If we look at Russia through the prism of these two prerequisites for integration, then we have an enormous market in oil products, and considerable potential in research and development — which means stable demand, from paying customers, and the opportunity for this demand to be met through new developments — which means it’s mainly a matter for producers. Nonetheless, the size and scale of the Russian market is not enough for certain products — certain additives, for example, used in oil refining. There is no point in forcing this market to be opened up — both the Ministry of Energy and the Ministry of Industry and Trade are constantly making this point.

—Are there yet any real-world examples of how sanctions have impacted the domestic oil and gas services sector?

—The imposition of sanctions hasn’t just impacted us, the end-users, but also international producers: many foreign companies have been forced to curtail their activities in Russia. In which context, certain market niches are emerging, which domestic suppliers are starting to fill. Gazprom Neft already has a number of positive practical examples here — and, quite apart from this, I should like to highlight our collaboration with TMK, one of the world’s leading producers of tubular products for the oil and gas industry: with this company’s assistance we have been able to terminate our use of imports for casings on the Prirazlomnaya offshore rig entirely. Testing of domestically produced pumping and compression pipes with premium thread couplings for use on offshore projects is planned for 2016, and opportunities for substituting high-technology equipment for well finishing from the Prirazlomnaya rig are being investigated. For Russian industry, sanctions have given rise to the sort of technological challenges often associated with the development and exploitation of new, unique products — requiring serious research and development (R&D) and production operations, government incentives, and collaboration with customers and clients. So it’s entirely logical that in several instances competitive Russian products are unlikely to appear before 2018–2019.

Non-sanctioned sectors have also noticed increasing activity by Russian companies seeking to oust competitive international solutions, particularly in view of the strengthening dollar and Euro. For example, this year saw the commissioning of a new plant from HMS Group, producing refining pumps to API standards — something not produced in Russia hitherto. This initiative was supported by Gazprom Neft — we helped secure viable sources of government support to ensure the commissioning of the plant as soon as possible.

— How far does the cross-sectoral, industry-wide situation match that at Gazprom Neft, and what areas are the greatest priorities for import substitution?

— Differences in asset portfolios notwithstanding, the majority of vertically integrated companies are having the same problems with ensuring uninterrupted access to the technological solutions they need. Generally, we’re talking about software, high-technology equipment, and materials for which the level of dependency on international technological solutions is at its most critical. This is not an exclusively Russian problem, however: technological dependency, across a range of sectors, is typical for most oil and gas companies worldwide, insofar as various key technologies are under the control of western oligopolies.

More than 20 areas have been identified as priorities at Gazprom Neft currently, on which strategies are being developed to support the expansion of Russia’s industrial base — in which context we are offering wide-ranging support to domestic producers in developing new products and technologies. There is also the option of establishing joint enterprises here, as well as localising the production capacity and R&D facilities of major international manufacturers, within Russia. Strategic areas here include equipment for marine seismic surveys, supporting directional and horizontal drilling, high-technology well finishing, pumps and compressors in oil refining, catalysts in oil refining, and more.

—Can the end-user or consumer, realistically, incentivise a manufacturer to develop new products, improve production, or undertake research and development?

— Only the end-user can do that. Demand comes from the paying customer, and demand from paying customers is what drives investment in new product development. Numerous niches have opened up since the introduction of sanctions, previously unavailable to domestic producers; but in many instances they just “don’t see” the market. Based on the investment plans of our company and the sector as a whole, we have published a list of technologies and equipment in demand at Gazprom Neft on our corporate website (under “Technical Partnerships”). More than that, where there is serious interest on both sides we can also guarantee future demand for producers — something that significantly simplifies the process of attracting investment for new product development for them. Many initiatives in import substitution address technological, administrative and financial barriers. In such cases, a partnership with a large company such as Gazprom Neft — that’s a valuable resource. We help in sourcing finance, in securing government support, in accessing technical expertise, and in offering opportunities for testing prototypes at our production facilities. Already, since starting its activities, Gazprom Neft’s Department for Technological Partnerships and Import Substitution has helped domestic producers secure concessionary (soft) financing in the order of more than RUB1 billion.

—How actively involved is government in this process?

— The government is currently undertaking a certain amount of work in encouraging new domestic production. The necessary regulation is being put in place through the Ministry of Industry and Trade as part of work by cross-industry working groups on import substitution, and dozens of roadmaps on replacing imports of critical components and equipment are being developed.

But the effectiveness of this process is ensured by oil companies such as Gazprom Neft actively engaging in the development and implementation of various governmental incentives. The essence of our participation lies in supporting cutting-edge Russian enterprises, able to master the production of new products in demand within the oil industry, and in securing access to government incentives. The oil industry acts as a lobbyist for Russian industry before the government. Our company, in particular, has put forward a “Buy Russian!” strategy — under which government subsidies compensate for any price differentials and for any risk to early adopters of new products produced in Russia. This mechanism provides for government subsidies of up to 20 percent of the price of domestic innovations if such products prove more expensive than imports or if their usage carries specific technical risks.

— Is there a single common approach to import substitution in various areas, or does every case require an individual approach?

— The approach is typically a standard one: to start with, priorities are identified, then road maps for import substitution developed, with specific strategies and lead times for their implementation — a typical lead time from identification of priorities to development of an import-substitution road plan being two to three months. Nonetheless, the specifics of individual market sectors also have to be taken into account. Various approaches could, for example, include discussions on localisation with international producers, or a domestic company setting up production from scratch. Various technological issues have to be taken into account, as well as intellectual property — for example, in import substitution involving information technology (IT). Import substitution of services, as opposed to products, also brings its own issues. In general, different approaches are determined on the basis of the proportion of imports in question and the availability of the necessary competencies in Russia, the complexity of the product, and the consumption of resources involved in producing domestic alternatives.

— If there were a suggestion that sanctions were to be lifted, would work on import substitution continue, or would everything return to normal?

— What we have chosen to call import substitution is, fundamentally, the development of the country’s industrial base and supplier networks. It is precisely that interpretation of our work that most accurately describes its essence, and on precisely that basis that it is understood by both Russian and international companies. Similar exercises have been successfully completed, in their time, by Norway (in the 1960s and 70s), Brazil (in the early 21st century) — in various other countries. In Brazil, for example, the proportion of domestically produced oil and gas equipment increased from 50 to 75 percent. Sanctions, therefore, have been a good incentive for the Russian fuel and energy sector in introducing proven solutions from other countries to develop the country’s industrial base — so even without sanctions, it would be necessary to do this in order to improve our own competitiveness. These days most companies already understand that it makes sense to rely on locally produced products and services. This reduces the degree of uncertainty and risk, and producers’ proximity means capital and operational costs are reduced, regardless of any currency fluctuations. And, ultimately, it promotes the development of the country’s economy and Russian citizens’ prosperity and wellbeing.

As regards Gazprom Neft itself, our objective — regardless of the existence of sanctions, or otherwise — is to get to a point where each of our 20 strategies for import substitution results in the emergence of the necessary industrial capacity in Russia to ensure the production of critically important products, with the proportion of components produced in Russia running at no less than 90 percent.