Lukewarm on Lukoil

After Sasol's (NYSE: SSL) brief departure from the trend, we're back to the land of grimacing oil giants. On Wednesday we learned Russian heavyweight OAO Lukoil's (OTCBB: LUKOY) first-half results, and they tell a tale of another company running just to stay in place.

Don't get me wrong. Results looked quite strong on the face of it. Quarterly sales and earnings hit new records, and they looked particularly strong on a sequential basis. Compared to the first quarter, sales were up 28% and net income nearly doubled. The jump was due, in part, to a lag on the adjustment of taxes linked to the price of oil. In other words, crude prices jumped and the tariff hasn't caught up yet.

Zooming out to first-half comparisons, though, reveals a greater-than-20% rise in per-barrel lifting costs accompanied by little better than a 4% output boost. Not that Lukoil has all that great an incentive to ramp up domestic flows, mind you. In 2006, the firm's effective tax rate was an astonishing 77%.

To avoid exorbitant export taxes, Lukoil needs to look abroad for new wells. That's an expensive proposition for the company: International exploration and production capital expenditures were up over 50% for the first half. This also goes directly against Lukoil's comparative advantage -- the fact that it sits on the second-largest reserves of any oil company anywhere.

Not only does Lukoil have a rough go at the taxation turnstile; it's also facing regulatory scrutiny from the Russian Natural Resources Ministry. You thought this kind of heat was only put to the feet of foreigners? The fact is that while Lukoil may be a cash cow for the Russian government, it isn't owned by the Russian government. Insiders alone hold over 25% of the company, while U.S.-based ConocoPhillips (NYSE: COP) holds a 20% stake. As my Foolish colleague David Lee Smith has noted, the Russian government is far more interested in creating a state-controlled giant. Lukoil isn't seeing anything remotely like favorable treatment.

Given the political and regulatory environment, Lukoil's discount to the value of its reserves is understandable. Fools would be better off looking at firms with unshakeable state backing, such as PetroChina (NYSE: PTR) and Petrobras (NYSE: PBR), if they're looking for international energy clout. Lukoil's claim on its reserves simply looks too tenuous, given Russia's recent bad habits.

Related Foolishness:

• Sasol had a sweet year.
• Lukoil and Conoco go way back.
• There's no pause over at deepwater maestro Petrobras.