Sibir Energy Reports Record Profit

Last September Sibir Energy reported that it was a company transformed from an enterprise of promise into an enterprise of profit. The results for 2006 show that transformation is in full swing, with record levels of earnings and production, a strong balance sheet and additional assets that will contribute to future growth.

Year-on-year Operating Profit (including the Salym joint venture) was up eight-fold to £71.1 million, driven by contributions from all three core businesses: Salym Petroleum Development (SPD) contributed approximately £24.7 million; Sales of oil products contributed £45.6 million, and Magma's upstream operations contributed £16.5 million. These three contributions total £86.8 million and after deduction of general and administrative expenses of £15.7 million the resultant Operating Profit is £71.1 million. As a result, EBITDA increased seven-fold to £87.2 million and Net Profit After Tax grew to £46.8 million versus a loss of £21.9 million in 2005, a turnaround in our performance of £68.7 million.

Production from our upstream ventures reached a record high of 9.9 million barrels, of which 7.5 million barrels came from Salym and 2.4 million barrels from Magma's production unit, in total a one and a half fold increase on 2005 production of 4.0 million barrels. We finished the year with a daily production rate of 38,901 barrels of oil per day (bopd) versus 12,107 bopd at the end of 2005. In the first half of 2007 production has continued its upward trajectory with current daily production in excess of 47,000 bopd as we go to print and a projected year-end production rate of over 60,000 bopd.

General and Administrative Costs of £15.7 million were reduced 12.6% on last year's figure despite the fact that for the first time the company paid bonuses to key employees.

Earnings per share showed dramatic improvement from a loss of 10.57 pence per share in 2005 to a profit of 16.77 pence per share in 2006.

Our balance sheet was likewise transformed with the placement of 78,813,008 shares in the first quarter of 2006, raising a total of £305.8 million net of placement costs. This transaction allowed the company to pay off debt accumulated in the financing of its Salym project, leaving the company with a net cash position at the end of 2006. Up until now we have assumed that we would enjoy early repayment of our loans to SPD but we have decided that it will be in our best interests in respect of our dealings with the Russian tax authorities to capitalize a large element of these loans. We also believe that any residual loans will be better employed in re-investing into the expansion of SPD. Surplus cash will now flow to us through dividends as opposed to loan repayments.

The company's transformation to profitability and your board's confidence in the future prospects of the company are such that we announce an interim dividend of 7 pence per share in respect of 2006. The Board is particularly pleased to have achieved this long standing ambition to reward shareholders and has every intention of maintaining a robust dividend policy in the future.

Comparison between first and second halves of the year

The net profit performance in the second half of the year exceeded that in the first half by 39%. The improved profitability was due to a 67% increase in production at Salym to 4.7 million barrels in the second half up from 2.8 million barrels in the first half of 2006. However, financial performance during the second half was hampered by a combination of events. First, oil prices dropped materially before starting to recover towards the end of the year. This was reflected in lower revenues and disproportionately higher mineral extraction taxes and export duties, which are based on the previous months' oil prices as described in greater detail in the Financial Review section of our report. Second, operating costs at Salym were higher than expected and, third, our operating joint venture SPD was assessed in respect of an un-anticipated tax liability, which meant that SPD has had to provide for the liability at this stage. Together these events adversely impacted financial results in the second half of 2006.

We are pleased to say that our production is back on line, reductions in costs at SPD have been made or are ongoing, the tax assessment is under appeal and oil prices have been much stronger in 2007. We expect continued improvement in 2007 especially in the second half of the year provided oil prices remain at present levels.

Orekhovskoye Field

In December of 2006 we announced plans to commence development at the Orekhovskoye oil field. This added 54 million barrels of C1 and C2 reserves (Russian classification) and is expected to deliver an additional 5,000 bopd of production when development is complete. The development is being operated by Sibir's subsidiary, Magma, and will take advantage of existing infrastructure at the company's nearby Yuzhnoye field just 22 kilometers away. Development permits for the project have been secured and infrastructure development is well advanced, clearing the way for spudding the first well in July of this year.

Completion of acquisition of our interest in the BP branded network in Moscow

Approved by shareholders in December 2004 this transaction was completed in late December 2006. The results of this investment will not be included in our results until 2007. When originally approved this acquisition was part of a larger transaction and the consideration was not shown separately, but the consideration was in the region of $95 million based on an independent valuation. Based on the current profitability of this business we bought on a multiplier of less than five times net profit. Dividends have been declared and we are about to receive the first dividend of approximately $15 million. The sales volumes and financial performance of this business are truly extraordinary and will contribute materially to 2007 profits and cash flow.

First major step in exploration

In 2006 our acquisition team sourced a large exploration play known as Koltagorsky near our Magma operations base in western Siberia. Negotiations with the incumbent licensees extended into 2007 when in March we announced the completion of the acquisition for a consideration of $50 million. Covering 2,100 square kilometers this prospect has an officially estimated 970 million barrels of resources (Russian classification). We will drill eight wells over the course of the next 18 months with the first results of the drilling program to be announced before the end of this year. In addition we continue our plans to expand SPD and are looking with Shell at prospects where we can use the operational skills of SPD to good effect.

These are very exciting developments for your company and sends clear signals of our commitment to grow the business through the drill bit.

Moscow Oil and Gas Company

In our report to you last September we expressed an expectation "that we would acquire a larger stake in Moscow Oil and Gas Company (MOGC)". This remains our expectation and we are in the final stages of completing the complicated processes and valuations, which will lead to an expansion in our interest. We expect to announce the results of our negotiations during this summer.

Sibneft Yugra

Our efforts to seek restitution of our impaired value in this company continue unabated. Originally a well publicized case of seeking justice and restitution in respect of corporate fraud this matter has been complicated by the acquisition by Gazprom of Sibneft (now known as Gazprom Neft). You will appreciate that with the involvement of the Russian Federation through Gazprom Neft this is a delicate and sensitive issue and we must tread with great care and respect as we seek to find a solution to this long standing litigious matter. We are encouraged by recent developments when a number of attractive options for all concerned have been openly and constructively discussed.

Russian Risk and Political situation

The volatility in our share price reflects the degree of Russian risk perceived by the market. We have sought to insulate ourselves against this risk by complying with all our obligations, by having ultimate control of Sibir in the hands of influential and patriotic Russians and partnering as much as possible with State enterprises as evidenced by our mature relationship with the City of Moscow as co-shareholders in MOGC. While our dealings with Gazprom Neft involve from time to time robust exchanges, our relations with Gazprom Neft may now evolve in such a way as to significantly reduce the effect of Russian risk on Sibir and thus the volatility in our share price.

Looking Forward

With prodigious operational achievements at Salym and Magma, record production and profitability in all of our core businesses and the declaration of the first dividend in our company's history 2006 was truly a watershed year for Sibir. Our financial position has never been stronger and this new financial strength gives us the energy and resources to take on projects that will fuel the company's growth many years into the future. It is with this in mind that we look forward with great confidence to reporting ever stronger performance and more exciting developments in the months and years ahead.

Operations Review

In 2006 Sibir began to see the fruits of its investment at Salym. This came in the form of rapidly growing production, from just over 10,000 bopd at the beginning of the year to over 60,000 bopd by year-end, as the project moved from construction to the production phase. This was achieved in spite of unseasonably cold weather in the early part of the year and difficulties with water injection in the second half. At the Yuzhnoye field infrastructure investments made throughout 2004 and 2005 were commissioned in early 2006 thus increasing the effective capacity of the Yuzhnoye Central Processing Facility (CPF) almost twofold, thus setting the stage for development of the nearby Orekhovskoye satellite field. Both at Salym and Magma our operational colleagues in Moscow and in the field were able to deliver impressive operational results as you will see from the following detailed report.

Salym Petroleum Development N.V. (SPD)

SPD is Sibir's 50/50 joint venture between its 100% owned subsidiary Evikhon and Shell Salym Development B.V., a member of the Royal Dutch Shell Group. SPD operates the Salym Group of fields (West Salym, Vadelyp and Upper Salym) in the Khanty-Mansiysk District in West Siberia.

Salym Fields

Having launched commercial production in late November of 2005, SPD delivered first oil in January 2006 to the Transneft national pipeline system from SPD's CPF at West Salym, via SPD's 88-kilometer export pipeline and SPD's Custody Transfer Facilities (CTF) at the Transneft tie-in point. Extreme cold in the first quarter and technical difficulties with water injection facilities in the second half of the year resulted in a slower than internally forecast ramp up of production, but this was compensated by intense activity to bring production rates back in line with projections and the year-end target of 60,000 bopd was ultimately surpassed.


Total Salym production grew from 10,341 bopd at the beginning of the year to nearly 63,000 bopd by year-end, an increase of some 500% and a total production of 14.9 million barrels was recorded for the year. Crude sales for the period totaled 14.7 million barrels of which exports comprised 6.15 million barrels and domestic sales 8.55 million barrels.