Investors see Kazakhstan as the smiling assassin

By bne IntelliNews October 28, 2010

Nicholas Watson in Astana -

Kazakhstan's prime minister kicked off October's KazEnergy Eurasian Forum in Astana by insisting his government is working to improve the rather battered image of his country as a safe place for foreigners to invest in. Privately, though, international oil majors continue to express concern about the state's ongoing efforts to reassert its control over oil and gas projects.

Karim Massimov, the prime minister, talked about the need to "reduce the uncertainty gap" for foreign investors, an acknowledgement that his government's actions over the past few years to claw back stakes in major oil and gas projects is having an adverse effect on investor confidence. "These uncertainties have had a corrosive effect on investment," he told delegates in his opening speech.

The most high-profile case involved the largest oil development in the world, the giant Kashagan project in the Caspian Sea, which has approximately 35bn barrels of oil in place and reserves of over 10bn barrels. A long-drawn-out dispute over the huge delays and cost overruns was finally resolved in late 2008 when the shareholders in the project - Eni, Shell, Total, Exxon Mobil, ConocoPhillips and Inpex - agreed to give up part of their shares in the project to allow the state-owned KazMunaiGas to raise its stake to 16.81% from 8.33%. Further, a new operating company called the North Caspian Operating Company replaced the previous operator, Eni subsidiary Agip KCO.

Most concede that the Kazakh government had reasonable grounds for pressing its case against the majors, particularly Eni, and altering the production sharing agreement (PSA), which was signed way back in 1997 when the world was a very different place. Instead of 2005, delays now mean that Kashagan won't see first oil until next year, while costs have soared from the initially envisaged $57bn to $136bn. "Circumstances change and it may be necessary in some cases to renegotiate certain terms of contracts and certainly Kazakhstan has a right to do that - contract sanctity works both ways and the Kazakh side can insist that companies meet their obligations," said Daniel Stein, the US State Department's senior adviser to the special envoy for Eurasian energy.

However, the manner by which the Kazakh government ratcheted up the pressure on the project's partners was reminiscent of tactics used by Russia in its various fights with foreign oil companies over outdated PSAs, including those that forced Shell in 2006 to cede control of its Sakhalin-2 project to Gazprom - ie. tax bills and environmental fines.

These tactics have also been employed in other disputes with foreign firms where the Kazakh government is trying to renegotiate agreements. The Tengizchevroil consortium, led by Chevron, that's developing the Tengiz field in Western Kazakhstan was once threatened with having its license withdrawn because of accusations it breached environmental legislation, while the partners of the consortium developing the Karachaganak field - Italy's Eni (32.5%), the UK's BG Group (32.5%), Chevron (20%) and Russia's Lukoil (15%) - have been accused of tax fraud.

These hardball tactics are conveniently glossed over by the government and, indeed, the IOCs themselves. "Maybe I agree this kind of decision or negotiations will increase uncertainties, but the authorities of Kazakhstan try to solve all issues in a reasonable way," the Kazakh oil minister, Sauat Mynbayev, said.

Thus, judging from Mynbayev and Massimov's comments, it appears the Kazakh government's strategy is to concede publicly that their actions might be harming its reputations with investors, while insisting it's only trying to redress past iniquities in the way the contracts were negotiated and it's doing so in a fair and reasonable way. The subtext of this is: at least we're not as bad as the Russians, who aggressively expropriate projects from foreign partners.

Keeping schtum

The foreign majors too are at pains to say in public that the renegotiations of the contracts are being conducted in good faith and are sensitive to ideas otherwise, so much so that Mark Albers, senior vice president at Exxon, when asked at a press conference surrounded by Kazakh government officials whether he believed the government's actions belied its words, snapped back that the question "sounded like a set-up."

"Investors have to evaluate technical, geopolitical, financial conditions and when agreements are changed along the way that increases the risk. Generally, we have been able to resolve issues in this country in our experience over the last 10 years, where there have been disagreements we have been able to come to a resolution of those issues that have enabled the projects to go forward," Albers said through gritted teeth.

In private, however, foreign majors are more forthright. The US State Department's Stein lambasted the Kazakh government during his speech to delegates for resorting to punitive measures such as "public tax audits, intrusive investigations and criminal investigations," and in an interview afterwards he said the complaints are not restricted to US firms. "I wouldn't limit this to the American side, there have been concerns raised by many of the IOCs operating in Kazakhstan," he said.

The concerns have even spread to Kazakh firms. Kenzhebek Ibrashev, head of KazMunaiGaz Exploration Production (KMG EP), the listed subsidiary of Kazakhstan's national oil company, complained before the conference about a lack of clarity over possible changes to the fiscal regime governing oil and gas producers.

It has been widely reported that the government intends to double the export duty on crude oil to $5.40 a barrel from January, in an attempt to shore up the country's budget, as well as force projects such as Tengizchevroil whose PSAs exempt them from the export tax into paying it. Even after the rise, the tax would equal only one-fifth of the duty that was in force until January 2009, when it was abolished to help producers through the global economic crisis, but industry insiders like Ibrashev worry about the lack of a consistent message coming out of the government. "We are obviously concerned about the long-term consequences [of a change in the tax] - when many investors bought our shares, they counted on the stability of the fiscal regime in the country," said Ibrashev. "We hope that by the end of year, the government's plans will be more clear, because companies such as ours and other firms operating in Kazakhstan need clarity in the tax regime - we need to know what to budget for, what to plan for."

Few with knowledge of the inner workings of the Kazakh power structure - essentially a benign dictatorship under President Nursultan Nazarbayev, whose family members are prominently represented - are willing to comment publicly on whether there are divisions with the government. However, examining comments by various officials suggest there might be. Mynbayev, the oil minister, surprised many at the conference by saying that Kazakhstan is not in fact trying to force the partners in Karachaganak to cede a stake in the project to state-owned KMG. "We're not talking about buying a stake," he insists. "The parties are discussing how to improve the project."

Yet this contradicts what Timur Kulibayev, Nazarbayev's son-in-law and a man with huge influence over the country's hydrocarbon industry through various posts on the boards of state firms, said publicly over the summer about how Kazakhstan wants to take a stake of up to 10% in the Karachaganak project.

Either circumstances have changed, various parts of the government are at odds with each other, or Mynbayev is fibbing. Foreign investors are watching closely to see which is true.

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