What happens when two nations, that together account for more than fourth quarter of global oil production, begin collaborating on future energy projects?

Russian President Vladimir Putin met Saudi Prince Mohammad in St. Petersburg on June 18 at a meeting in which Saudi Arabia and Russia, the world’s leading two oil giants, decided to form a working group for joint energy projects.

“At the end of the year, in October, we will summon a meeting of the intergovernmental commission, which hasn’t operated for five years,” Russia’s Energy Minister Aleksandr Novak said recently at the St Petersburg economic forum. He further clarified that his country was not looking to replace its existing oil and gas partners but wanted to create newer ones. “There are no specific projects in the energy field yet, we only have an agreement to create a working group between our ministry and the Saudi Arabian oil ministry, which, together our companies will work on specific projects,” the Energy Minister told reporters.

Image Source: Forbes

What are these ‘specific’ projects that Russia is talking about? Why are the two biggest producers of oil in the world now cooperating? Is this a natural response to the U.S. and EU sanctions that have targeted Russia’s oil and gas industry, specifically its arctic exploration and unconventional drilling sector? Related: The Front-Runners In Fusion Energy

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Russia – Hedging its risk and shifting its focus towards Asia

In May, Russia’s oil output reached a record 10.78 million barrels a day, which was very close to the Soviet era production of 1987. “Russian output has proven to be pretty resilient to the fall in prices, and they will not have a problem keeping production up for the next year or two,” said James Henderson of Oxford Institute of Energy Studies. Russia’s economy is heavily dependent on oil and gas revenues as they account for more than 50% of the federal budget. The U.S. and European Union sanctions after the Ukraine crisis have affected Russia’s energy sector and the sustained drop in oil prices has made the situation even more challenging for the Kremlin. Following the recent announcement by OPEC to maintain its production level of 30 million barrels per day, Russia has no choice but to produce more oil in order to maintain its own market share. "We are losing around $40 billion per year due to geopolitical sanctions and we are losing some $90 billion to $100 billion per year due to oil prices falling 30 percent," Russian Finance Minister Anton Siluanov said in November 2014.

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Image Source: Forbes

With a focus on partnering with rising Asian economies that have a huge domestic demand for oil and gas, Russia’s biggest oil company Rosneft has been signing new crude oil supply deals with Chinese and Indian companies, in an effort to form long-term strategic partnerships. Related: Oil Prices Responding Positively To Bad News, But Why?

Saudi Arabia’s future energy plans – Does Russia fit in?

The desert kingdom is in the process of restructuring its biggest National Oil Company, Saudi Aramco, by separating it from the country’s powerful and influential oil ministry. With nearly 16 percent of the world’s proven oil reserves and a massive sovereign wealth fund, Saudi Arabia has enough cash reserves to weather the slump in oil prices.

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Saudi Arabia’s budget is insulated from oil price movements

Saudi Arabia is all set to go aggressive in its spending on new exploration projects. “[t]he bulk of this spending (exploration and production) will be in our upstream activities to ensure we maintain adequate spare crude oil production capacity to help stabilize the world oil market whenever disruptions occur,” the 2014 Aramco annual report stated.

The report goes on to state that Asia would be an important growth area for Aramco’s future investments. However, the report does not reference any future collaboration with Russia. In fact, Russia and Saudi Arabia have, in the past, opposed each other on issues such as Saudi Arabia’s attack on Yemen, OPEC’s production policy and the Syrian war. However, a lot has changed since Putin and Prince Mohammad met in St. Petersburg.

A joint nuclear agreement which included building new nuclear power reactors was one of the six co-operation documents signed by Russia and Saudi Arabia during the meeting. Currently, Saudi Arabia does not have any industrial nuclear power plants. Related:Investors Should Prepare For The Long Infrastructure Boom

What could be the scale of a potential Russia- Saudi Arabia relationship?

Saudi Arabia has a high rate of domestic consumption of oil to satisfy its electricity needs. The desert kingdom is planning to build around 20 nuclear reactors which would provide it with around 15 percent of total power in the next 20 years. If Saudi Arabia takes Russian assistance in developing its nuclear energy program, the quantum of investments could be in the range of $30 to $40 billion. On the other hand, Saudi Arabia might be interested in investing in Russia’s unconventional shale assets and deep water exploration.

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Given that U.S. and EU sanctions limit the transfer of new oil and gas technology to Russian state oil firms, the logical conclusion would be that Russia would seek Saudi technology related to enhanced oil and gas recovery and advanced drilling, especially for use in the older fields in West Siberia. With a growing list of global research centers in Beijing, Houston, Aberdeen, Massachusetts and others, Saudi Arabia’s national oil company Aramco is the biggest global investor in new oil and gas technologies.

Russia and Saudi Arabia have met multiple times over the past year to discuss oil production and exporting strategies. While the two sides have been unable to agree to coordination, owing to Russia’s unwillingness to cut production, the latest meeting suggests both countries see a strategic opportunity in some sort of cooperation. We will have to wait and see what they have in store.

By Gaurav Agnihotri for Oilprice.com

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