A Few Hundred Millions Dollars Between Friends

Just two weeks ago, Chevron Chairman Dave O'Reilly scurried aboard the corporate jet to Kazakhstan after a legislator urged a shutdown of the company's supergiant Tengiz oilfield for environmental violations.

But O'Reilly emerged cheerily from a meeting with President Nazarbayev -- the Kazakh leader had called Tengiz "an excellent example of how the government and a foreign investor can work together successfully," O'Reilly crowed.

In other works, he seemed to imply, Chevron wasn't in the same boat as the Eni-led Kashagan development, a sister oilfield whose work the Kazakhs have suspended.

Maybe, depending how one defines working successfully. Yesterday, the Kazakhs quantified their own view, and the number is $609 million. That's the fine the Kazakhs have levied against Chevron for three years of alleged sulfur violations at Tengiz.

Dow Jones reports that Chevron is challenging the fine. And it is true that, five years ago, Chevron successfully resisted a similar ecological penalty by the Kazakhs, who sought $71 million but finally accepted $7 million.

Yet, nothwithstanding the warm and fuzzy shoulder massaging that went on between O'Reilly and Nazarbayev last month, look for the current dispute not to end as peaceably.

For one thing, it's a wholly different atmosphere, both in the global oil industry in general, and in Kazakhstan specifically.

Big Oil has been knocked on its heels by a sea change in who gets access to the newest oil fields around the world -- by far, it's nationally owned oil companies and state ministries, not publicly held oil majors like Exxon Mobil, BP and Chevron.

In addition, Russia is leading the way locally in tearing up 1990s-era oil contracts in order to take control of its most promising oilfields. While Kazakhstan is acting under different circumstances, the impact could be similar -- Kashagan (the largest discovery on the planet in more than three decades) is under threat of a Kazakh state assumption of joint operatorship.

In the 2002-2003 row, Chevron played brinksmanship with Kazakhstan, even temporarily shutting down the Tengiz operations to demonstrate its resolve. It will hardly try such antics today, given the possibility -- even if remote -- that Kazakhstan could simply push the envelope all the way and find ready companies or contractors, in China or India, say, prepared enthusiastically to take over Tengiz.

Free Lunch at Kashagan

Kazakhstan has offered up another important piece to the jigsaw puzzle in terms of what it wants to allow development to proceed on the suspended supergiant Kashagan oilfield.

A free ride.

The Kazakhs, whose move on Kashagan has made some wonder whether the nation is aping Russia's oil nationalism, had already made it clear that they want at least joint control of the field, the largest oil discovery on the planet in more than three decades. Until they get it, plus a big cash payment, they are holding up field development.

Customarily, in order to be operator of an oilfield, one's share must at least match the largest stake held by any other partner. That's meant to ensure that the operator has at least as much investment at stake -- in other words as much to lose if things go wrong -- as anyone else involved. The current operator, Italy's Eni, has 16.6% of Kashagan, as do Exxon Mobil, Shell and France's Total.

So one apprehension regarding Kazakhstan's demands has been who would be called upon to sell part of their ownership in order to increase the state's current 8.3% share and make it equal to or greater than the rest.

That seemed one of the hardest likely nuts to crack in talks under way with the Kazakhs, since none of the foreigners was likely to want to give up some of their share. Then there was the matter of getting the state to pay a market price certainly exceeding $1 billion. (BG sold its 16.6% of the field for $1.8 million in March 2005, a time of much lower world crude oil prices.)

But in a statement Thursday, Energy Minister Sauat Mynbayev raised the idea of the state obtaining joint control without increasing its stake.

"It's not essential for us to raise the share. That's not the main question," the minister said, quoted by Reuters. "What is essential is to approve or disapprove of Kashagan's development plan and budget." Read Reuters story

Kazakhstan seems not to be guilty of petro-state nationalism as much as trying to get the country's so-far horribly managed jewel in the crown to pay out.

But if Kazakhstan's KazMunaiGas obtains an equal footing without sharing equally in investment and field development costs, that would seem to instantly and considerably raise the foreign partners' risk profile for Kashagan.

And one wonders how company lawyers would get that past their boards of directors and shareholders back home.

Kazakhstan: Lining Up More Ducks

In case the point were not yet ultra-clear, Kazakhstan wants to make it so – it is deadly serious about getting its way on the supergiant Kashagan oilfield.


Kazakhstan wants cash and effective control of the field -- the largest discovery of the last three decades -- and is in discussions with the Italian-led consortium developing it.

As of now, Kazakhstan has suspended new work on the field for three months. Italian Prime Minister Romano Prodi plans to visit Kazakhstan early next month on a charm offensive.

But given the current state of the industry -- with the demand curve on oil far exceeding expected supply, and Western oil majors locked out of most oil-exporting countries -- Kazakhstan one way or the other will probably get close to what it seeks. The companies will request, and may be able to obtain, some concrete assurance that whatever new deal is set will not be a wedge for an ongoing series of ever-tougher demands down the road.

The Caspian republic’s latest communication of its posture is a law making its way through the rubber-stamp Parliament.

The Wall Street Journal on-line has a piece on the topic today. Here are the first two paragraphs: A proposed law that would allow the Kazakh government to annul natural-resources contracts appears aimed at pressuring Kashagan oil developers led by the Eni SpA amid tense negotiations, rather than as a broad-based threat to energy and mining companies, analysts and a person familiar with the matter said. The proposed amendment, which would give the Kazakh government the right to pull out of natural-resources contracts if there is a threat to national security and economic interests, is expected to be adopted in the next two weeks, lawmaker Valeriy Kotovich said. Read story

The assurance that the law is deal-specific -- meaning only for Kashagan -- cannot be regarded seriously. A renegotiation of terms on Kashagan is bound to whet Kazakhstan's appetite. Russia has led the way in this more assertive attitude. Look for future demands for better terms at both the supergiant Tengiz and Kashagan fields.

The Kazakhs Want Control

An article today in The Wall Street Journal advances the ball toward discovering Kazakhstan's wish list if it's to lift the suspension of work at the supergiant Kashagan oilfield. Its apparent aim: to take over.

It’s been evident for some time that Kazakhstan had high demands in mind of the Italian-led developers of Kashagan, particularly after the government halted development of the field last week. But it turns out that far larger and earlier payment of oil profit isn’t the only issue on Kazakhstan's list.

Greg White, my former colleague at the Journal, rang up the Kazakhs’ deputy finance minister, Daulet Ergozhin, who said that the country has its complaints about how Eni, the Italian oil major, is operating the field.

Here is the key paragraph from the piece: Kazakhstan isn't insisting that state oil company KazMunaiGaz become the operator of Kashagan, he noted, but said the government would "look positively" on a proposal to put a Kazakh company in control or jointly operate the project. Read story

Steve's comment: The Kazakhs are interested in operatorship out of pride and prestige, not to mention lucrative contracts for the actual work.

There is a noticeable pattern in how such assertiveness takes place. In Russia, Moscow acted after Shell got far over budget on its Sakhalin II project, and a bit presumptuous that the Russians would simply swallow it. The Russians used that wedge to force concessions from Total and BP.

Similarly, the Kazakhs moved after warning signs about Eni's competence -- a series of huge cost overruns, plus at least a seven-year postponement in first oil. Because of this, the demands of the Kashagan consortium do not say anything negative in my view about the Kazakhs -- the foreigners probably deserved it a long time ago. But they do suggest that similar action will take place in the much better-run supergiant Tengiz and Karachaganak fields.

There will be high tension during the designated 60-day talking period over Kashagan, because the foreigners won't voluntarily agree to cede control of development when they are putting in all the money. If they are forced to, one can imagine one or more of the companies heading for the exits.

One wonders separately about the future of President Nazarbayev's second son-in-law, Timur Kulibayev, whom he has dismissed from his executive position with the state investment fund.

Kulibayev, a billionaire who as Nazarbayev's representative in the oil industry dominates the sphere in Kazakhstan, will definitely be re-appointed to an important government post; Nazarbayev needs him.

One wonders whether that new position will be linked with the crucial operatorship of Kashagan.