KazRosGaz Case Study

KazRosGaz (KRG) Case Study Charles Dainoff The joint venture agreement for KRG was signed between Russian and Kazakh representatives of Gazprom and KazMunaiGaz (KMG) in St. Petersburg, Russia on June 7, 2002, and presented to the Department of Justice in Almaty, Kazakhstan three days later. The official account of this arrangement suggests that Gazprom and KRG held 50% stakes in the company from the start, but the possibility exists that the original arrangement gave a Gazprom a 30% stake, which they increased to 50% in 2003. The business plan for KRG is to recover natural gas condensate from the Karachaganak oil and gas field in northwestern Kazakhstan. The field was discovered by the Soviet Ministry of Gas Industry in 1979 and started producing gas in 1984. The Ministry was transformed into Gazprom (a contraction of the Russian words for “gas industry”) in 1989, and in 1992 Gazprom transferred Karachaganak to the newly-formed Kazakh government, which declared independence from Russia in December of 1991. KMG itself had only just been formed in 2002, the result of a merger between the previous national gas and oil company Kazakhoil and a Kazakh company whose name translates as Oil and Gas Transportation. The Karachaganak Field The Kazakh government, headed by current President – and former Soviet-appointed Secretary General of the Communist Party for the Kazakh SSR before its independence - Nursultan Nazarbayev, lost no time in negotiating a 40-year-long production sharing agreement with the Karachaganak Petroleum Operating (KPO) consortium formed by Italian company AGIP (now ENI) and British Gas (now BG Group), the production sharing principles agreement of which was finalized in 1995. American company Chevron (now ChevronTexaco) and Russian company Lukoil bought in to KPO in 1997, cementing the ownership structure until late 2011, when KMG bought a 10% stake for $2 billion in cash and $1 billion in cost-recovery claims settlements. Extrapolating each firm’s share valuation from the purchase price gives KPO a total valuation of $30 billion. Table 1: Karachaganak Petroleum Operating (KPO) consortium ownership structure Company Nationality Initial Ownership % (1992) Second Ownership % (1997) Current % Owned (2011) Percentage Owned (from top) Extrapolated Share Value ($billion) ENI (formerly AGIP) Italy 50 32.5 29.25 29.25 $8.775 BG Group (formerly British Gas) UK 50 32.5 29.25 58.5 $8.775 ChevronTexaco (formerly Chevron) US 20 18 76.5 $5.4 Lukoil Russia 15 13.5 90 $4.05 KazMunaiGaz Kazakhstan 10 100 $3 KPO signed a gas sale agreement with KRG to transport the gas condensate from Karachaganak roughly 100 miles via raw gas pipeline across the border to the refinery in Orenburg, Russia. Gazprom subsidiary Orenburggazprom (which changed its name to Gazprom Dobycha Orenburg in 2008) owned the refinery at Orenburg, meaning that Gazprom would, in part, be paying fees to itself to purify the gas of the high content of sulfides, sulfur, and helium the Karachaganak gas possesses, in order to make the Karachaganak gas saleable. KRG signed a fifteen-year contract with KPO in June of 2007 to purchase the gas condensate at Karachaganak for $33 per thousand cubic meters. Once the gas is refined at Orenburg, KRG will sell it for $160 per thousand cubic meters. Since the contract calls for KRG to buy 16 billion cubic meters of gas per year from KPO, that is a potential gain of $2.032 billion per year. For the first three years (2007-2010) of the fifteen-year contract (from 2007 to 2022), 6 billion cubic meters of refined gas will be sold by KRG on the Kazakh domestic market, with the remaining 10 billion cubic meters sold in Europe. The Orenburg Plant and its Modernization There was, naturally, some dispute about the terms of the agreement that created KRG. In addition to the agreement being delayed for most of 2006 while the parties haggled over the price they would set for the gas, there was also disagreement over what KMG would contribute to the deal in exchange for its 50% stake. Gazprom transferred the ownership of the Orenburg plant to the joint venture, which has been valued by industry experts at $710 million, dropping a costly asset off its intermediary’s account books and into a limited liability partnership where there would be presumably less government oversight. In addition, the plant – though located in Russia – would now be owned by a joint venture located in Kazakhstan, where the taxes and safety regulations are presumably less onerous. What KMG contributed, on the other hand, is murkier. KMG’s executive director for gas projects Bakhytzhan Isengaliev said in late 2006 that KMG would pay in $350 million for their 50% stake, and that KMG and Gazprom would each contribute $250 million towards the modernization of the Orenburg plant, now owned by KRG. Deputy head of Orenburggazprom Vasily Stolypin, however, said in 2007 that KMG would be paying for the modernization of the plant by themselves out the money paid in for their stake, and then estimated the modernization’s cost at $480 million. According to the head of Orenburggazprom Sergei Ivanov, the modernization funds will come from KMG and will be spent on constructing two new gas pipelines running from Karachaganak to Orenburg, as well as constructing a sulfur processing unit and gas processing units. Table 2: KazRosGaz joint venture arrangement and contested Orenburg plant modernization plans Company Stake Payment Orenburg Modernization Estimate Orenburg Modernization Payment Source KMG Stake Gazprom 50% Orenburg Plant $480M 100% KMG out of stake At least $480M KMG 50% ? $500M 50% Gazprom/50% KMG independent of stake $350M Difference $20M $130M Timing is Everything Nevertheless, BBC Monitoring Central Asia reported on September 5, 2007 that the agreement between KPO and KRG to purchase gas from Karachaganak had been signed in June and was in effect, meaning that KRG would start purchasing gas from KPO in 2012. The timing of this success after five years of negotiating might be due to a structural change in Gazprom’s ownership. When Vladimir Putin became Russia’s President in June 2000, one of his first acts was to fire Gazprom founder and chair Viktor Chernomyrdin. Putin then forced out CEO Rem Viakhirev and replaced him with Alexei Miller, who had worked for Putin in St. Petersburg mayor Anatoly Sobchak’s office from 1991 to 1996. In addition, Putin installed Dmitri Medvedev – who had been Sobchak’s campaign manager - as Gazprom’s chair. Amazingly, Putin’s cronies engineered a stock sale that brought Gazprom back under the control (through majority share ownership) of the state of which Putin was in charge by the end of 2005. Seven months later, Russia passed a law granting Gazprom the exclusive right to export natural gas. Around the same time, the purchase agreement between KPO and KRG – the one that had been in discussion since 2002 – was finalized. Less than one month after the September 5 announcement, however, Kazakhstan made an announcement seemingly designed to irritate Russia. At the Kazakh Oil and Gas Exhibition on October 3 in Almaty, Deputy Energy Minister Lyazzat Kiinov said in his opening remarks that, contrary to the predictions both sides made for the Karachaganak field, Kazakhstan would be lowering its annual gas targets for the next eight years. Kiinov said Kazakhstan would be producing 40 billion cubic meters of gas by 2010 instead of the previous target of 52.2 billion, and that Kazakhstan would be producing only 70 billion cubic meters of gas by 2015 instead of 79.5 billion. In essence, the Kazakh government was threatening to cut production by 12-25%, a move that would cost Gazprom hundreds of millions of dollars. While it is true that this reduction would be a breach of contract, and while it is also true that the reductions would not translate entirely to the gas bought at Karachaganak by KRG, the threat to reduce production, and therefore profits, is still there, and still worth nine figures. It is, nevertheless, an indication that the arrangement between Russia and Kazakhstan was far from settled, at least to Kazakhstan’s taste. Table 3: Threatened Loss by Kazakhstan Government in October 3, 2007 Speech Price of Gas Bought at Karachaganak ($/1,000 m3) Price of Gas Sold from Orenburg ($/1,000 m3) Price Difference ($/1,000 m3) Contracted Production Target (1,000 m3) Threatened Reduction, 2010 (1,000 m3) Loss, 2010 ($ million) Threatened Reduction, 2015 (1,000 m3) Loss, 2015 ($ million) 33 160 127 16,000,000 3,739,464 475 1,911,950 243 Kazakhstan kept up the pressure the following March, with deputy director of the gas department of the Kazakh energy ministry Timur Imashev announcing that the Kazakh government had ratified an intergovernmental agreement with Russia to establish KRG in January, 2008, and that Kazakhstan expects KRG to start operating at the end of 2008. “We in Kazakhstan, as the state, have completed all the procedures, including the ratification of the agreement,” Imashev said, “now it is all up to Russia.” This statement acknowledges the essentially national character of the process establishing KRG; not just two companies, but two governments and, perhaps most important, two leaders in Putin and Nazarbayev. Cults of Personality Dr. Valery Aleksandrovich Golubev is the very model of the New Soviet Man turned New Russian Man. His official CV notes that Golubev graduated from the V.I. Lenin Leningrad Power Generation Engineering Institute in 1975, after which he went to work for the Central Shipbuilding Power Generation Engineering and Technology Research Institute in Leningrad. As the next line of Golubev’s CV references 1991, one might be forgiven for assuming he spent the ensuing 16 years ensconced at the Institute. This assumption, however, would be mistaken, as Golubev spent 1979 to 1991 working for the KGB. Vladimir Putin also worked for the KGB during this time, and Putin and Golubev became friends working in the same analytical department during the 1980s. In 1991, both Putin and Golubev left the KGB and went to work for Anatoly Sobchak, the first democratically elected mayor of St. Petersburg. Putin became Sobchak’s deputy and Golubev held a variety of key positions, including head of administration for the critical Vasileostrovsky District and the Chairman of the Tourism Committee while also earning his Ph.D. in economics from the Academy of National Economy in Moscow in 1997. At the turn of the century, Sobchak died under suspicious circumstances, Putin ascended to the Russian presidency, and in 2002, Golubev was elected the St. Petersburg representative to the Russian Federation’s Federal Assembly. Golubev held this post for a little under a year until he was rewarded with a directorship of gas equipment supply company Gazkomplektimpex and a membership on the Gazprom management committee. He resigned his position with Gazkomplektimpex in November of 2006 – around the time Gazprom was effectively nationalized and the KRG negotiations got more serious - because he was promoted to Deputy Chair of Gazprom, where he remains. Gazprom is an extension not just of Russian gas policy, but of Putin himself, as Golubev is one of many friends and relatives tasked with running the company. Golubev’s presence on KRG’s supervisory board is an indicator of Putin’s influence on the joint venture, and the importance attached to it by the Russians. table 4: KazRosGaz Senior Management Team Headquarters: Almaty, Kazakhstan Russian Kazakh Chairman of the Board Kairat Boranbaev Former Deputy Director General, KazTransGaz x Member of the Managing Board Marat Garaev CEO, Gazprom Energoset x Chairman, Supervisory Board Alexander Medvedev Director General, Gazprom Export x Member, Supervisory Board Valery Golubev Deputy Chairman, Managing Board, Gazprom Former Federation Council Member, former head of Vasilyevsky Administrative District, St. Petersburg x Member, Supervisory Board Kirill Seleznyov Member of Managing Board, Gazprom x Member, Supervisory Board Daniyar Berlibayev First Deputy Chairman, Managing Board, KazMunaiGaz x Member, Supervisory Board Ardak Kazymbek Deputy Chairman, Management Board, KazMunaiGaz x Member, Supervisory Board Assiya Syrgabekova Director, KazMunaiGaz x By contrast, Dr. Timur Askarovich Kulibayev is less Kazakh avatar and more embarrassment. Kulibayev is what the Chinese now call a “princeling,” the son of an official in the Kazakh government while it was still an SSR. Shortly after graduating from Moscow State University in 1988, Kulibayev was fortunate enough to marry Dinara Nazarbayeva, daughter of Kazakh President Nazarbayev. Under the President’s tutelage, Kulibayev rose from being a humble economist at the Fund for Cultural, Social, and Technological Development to co-founding the Almaty Trade and Industry Bank to assuming the vice-chairmanship of Kazakhoil in 1997. Kulibayev stayed in senior management positions as the company morphed into KazMunaiGaz, and was a senior vice president from 2002 to 2005, or precisely the years when the KRG negotiations were stalled. Kulibayev, routinely described in news reports at the time as “the second most powerful man in Kazakhstan,” resigned from KMG on October 25, leaving a company that produced 20% of Kazakh oil, owned the pipes through which that oil flowed, and regulated the other companies in the Kazakh oil industry. In fact, Kulibayev left right in the middle of negotiations between KMG, CNPC of China, and Lukoil of Russia to carve up Kazakhstan’s top two independent oil companies. There were suggestions that Kulibayev resigned in order to combat accusations against Nazarbayev of nepotism during Nazarbayev’s 2005 “re-election” campaign, but given that Kulibayev immediately took a job as Nazarbayev’s special advisor, this explanation seems unlikely. Kulibayev also founded and then ran the Samruk national holding company, which consolidated all Kazakh public energy companies under one organizational umbrella as well as KEGOC, the Kazakh national power grid company. In addition, Kulibayev was re-installed as director of KMG in June 2006. Of course, someone as uniquely positioned as Kulibayev now found himself subject to certain financial inducements, and the man once quoted as saying, “if you want to see father, it will cost you one hundred thousand,” was not going to turn them down. Right about the time Forbes magazine listed Kulibayev as Kazakhstan’s first billionaire, in early 2007, Italian authorities started to investigate payments made by Italian company – and KPO shareholder – ENI to Kazakh officials including Kulibayev. Investigators alleged that Kulibayev received roughly $21 million from ENI, money which he then turned around and used to buy an estate belonging to England’s Prince Andrew. The estate, known as Sunninghill (and referred to by the British press as “Southyork” for its resemblance to an American-style ranch home), was a wedding present from Queen Elizabeth to Andrew and then-Duchess of York Sarah Ferguson, and had been unoccupied and on the market since 2002 with an asking price of about $20 million. As a result, Kulibayev’s purchase of Sunninghill via a British Virgin Islands-registered company called Enviro Pacific Investments for around $25 million, relatively soon after receiving a visit from ENI representatives, raised a few eyebrows. Why, journalists and prosecutors wondered, would Kulibayev overpay “Airmiles Andy” (as Fleet Street wags dubbed him) $5 million for a derelict house in which neither of them would ever occupy? Did the deal have something to do with Prince Andrew’s increasingly frequent visits to Kazakhstan as an English trade ambassador? Or perhaps the Kazakh woman known as Goga Ashkenazi (nee’ Gaukhar Berkalieva), described as a “close friend” of Prince Andrew and who had named Kulibayev on at least one of her two sons’ birth certificates as the father, had something to do with it. Ashkenazi, after all, attended the meeting between Prince Andrew and Kulibayev at a resort in Phuket, Thailand from January 31 to February 5, 2007 where the deal was struck, as did KRG chairman Boranbayev, among 15 others, including assorted lawyers and business partners. Indeed, the excess amount paid for an asset neither party particularly valued, amongst company more suitable to a business meeting than a real estate deal, suggests that the Sunninghill sale was about solidifying influence networks between Kazakhstan and Britain, as well as about Kulibayev disposing of cash that would cause more problems than it solved if he held on to it. Given the potential for selling billions of dollars of KRG gas to the British market, a few million must have seemed a prudent investment. Kulibayev and Nazarbayev continued to consolidate their control over Kazakh industry in 2008 with the creation of the Samruk-Kazyn National Welfare Fund, whose purpose was to stabilize the Kazakh national economy and promote competitiveness by merging the Kazakhstan Holding for the Management of State Assets Samruk and the Kazyna Sustainable Development Fund. As Kulibayev had already been deputy chair of Samruk, he was made deputy chair of the newly-merged fund. This new fund – which had a worth of $80 billion when it was formed - holds 100% of the shares of KMG, which makes it a 50% shareholder of KRG. By April 12, 2011, when Kulibayev was appointed chairman of the board of Samruk-Kazyn, he was on the boards of every large energy company in Kzakhstan. Then the strikes came, and Kulibayev fell from favor with Nazarbayev. In May, 2011, workers for KMG subsidiary OzenMunaiGaz went on strike in the southwestern city of Zhanaozen, triggering strikes by thousands of oil workers at Karazhanbasmunai (a joint venture between KMG and Chinese company Citic) and KMG, which lasted throughout the summer and fall, despite the brutal attempts to break the strike by the Kazakh government and the mass firing of hundreds of striking workers. The fired workers in Zhanaozen responded by peacefully occupying the town square, which they held until December 11, 2011, when local officials attempting to organize celebrations marking the city’s 20th anniversary of independence from the USSR tried to drive the protestors from the square. Riots broke out, and security forces opened fire on the unarmed protestors, killing 16 and wounding 100. Nazarbayev acted swiftly, blaming the riots on the “incompetence” of government officials and KMG management. On December 22, 2011, during a visit to Zhanaozen, fired the head of KMG Bolat Ackchulakov as well as the head of the KMG subsidiary that controlled UzenMunaiGaz and the region’s governor. He also announced his intention to fire Kulibayev, forcing Kulibayev to tender his resignation as head of Samruk-Kazyn and effectively ending his tenure as Kazakh golden boy and heir to the throne. Going Forward: KRG in Operation Despite the turmoil of KMG operations during 2011, KRG actually began operating as intended. In fact, KRG had expanded their operations, as Gazprom and KMG signed an agreement in April designating KRG the operator of the Imashevsky gas field that spans the Russia/Kazakhstan border, an agreement doubtless aided by the implementation of the Common Economic Space for Russia, Belarus, and Kazakhstan on January 1. The Imashevsky field is not as large as Karachaganak – 100 billion cubic meters of gas and 21 million tons of condensate as opposed to 1.2 trillion cubic meters of gas and one billion tons of gas and crude oil – but it is still a sizeable field and represents an intensifying of the Russian-Kazakh gas partnership and a leap forward for KRG. In 2012, KRG transferred 8,039 million cubic meters of gas from Karachaganak to Orenburg, which produced 6,907 million cubic meters of marketable gas, 4,035 million cubic meters of which flowed back to the Kazakh domestic market. This left 2,872 million cubic meters for export. At the rates discussed above, or a difference of $127 per 1,000 cubic meters, it is possible KRG realized earnings of around $877 million in 2012 alone. KRG and Kazakhstan’s aggressive attempts to market itself to Russia and the rest of the world have succeeded, at least in terms of natural gas. While Kazakh natural gas production has slowly increased during most of the first decade of the 21st century from around 300 billion cubic feet per year to around 400 billion cubic feet per year, natural gas exports have jumped from around 200 billion cubic feet per year to around 350 billion cubic feet per year over the same time period. At the same time, Foreign Direct Investment jumped tenfold during the KRG started operating in the latter part of the decade, jumping from $1.9 billion in 2005 to nearly $13 billion in 2011, and GDP per capita grew from $3,771 in 2005 to $11,357 in 2011 (by contrast GDP per capita in the United States grew from $44,314 in 2005 to $49,854 in 2011.) suggesting that, strikers notwithstanding, the standard of living in Kazakhstan increased during the time KRG operated. It certainly increased for the high-level managers of KRG. Additional Information Concerning the Scope of Gazprom’s Natural Gas Business in Central Asia Gazprom subsidiary companies doing business in Central Asia (i.e. Kazakhstan, Kyrgyzstan, Tajikistan, Turkmenistan, Uzbekistan, Armenia, and Azerbaijan) Company Country Activity in Central Asia RosUkrEnergo (RUE) Registered in Switzerland, operates in Ukraine Gazprom sells its central Asian gas to RUE, which is then re-sold to Ukraine Armrosgazprom Armenia Sale of natural gas in Armenia Gazprom Dobycha Orenburg Russia Processes KazRosGaz gas from Karachaganak field in Kazakhstan Zarubezhneftegaz Russia Production Sharing Agreement signed with Swiss company Gas Project Development Central Asia AG and the Uzbekneftegaz to create Zarubezhneftegaz – GPD Central Asia to carry out PSA. Company then absorbed into Gazprom EP International, which runs upstream development projects in Uzbekistan, Tajikistan, Kyrgyzstan, Vietnam. Libya, Algeria, Nigeria, Venezuela, Bolivia, Bangladesh, and India. TsentrCaspneftegaz Kazakhstan Created by Gazprom and Lukoil to explore future Kazakh oil and gas fields Gazprom Neft Asia Kyrgyzstan Buys and sells petroleum and liquefied petroleum gas in Kyrgyzstan. The company is actually a subsidiary of Gazprom Neft, which is itself a subsidiary of Gazprom. Gazprom Schweiz AG (subsidiary of Gazprom Germania) Switzerland Natural gas purchasing in Uzbekistan, Kazakhstan, Turkmenistan, and Azerbaijan, and transports the natural gas from Central Asia to Europe, where it is then sold. Over 90 % of the natural gas produced is sold to other Gazprom Group companies, with Gazprom Schweiz AG selling the remaining gas directly to its own buyers in Central Asia and Europe. Gazprom Schweiz AG also owns shares in Uzbek natural gas producer Gissarneftgaz ZMB GmbH (subsidiary of Gazprom Germania) Switzerland Trades natural gas in Uzebkistan; owns stock in Bosphorus Gaz Corporation of Turkey, among others. Gazprom Germania (subsidiary of Gazprom Export) Germany Purchases all central Asian gas for Gazprom Gazprom Export Russia Signed a 25-year Cooperation Agreement with Turkmenneftegaz to buy natural gas from Turkmenistan, as well as a contract to sell natural gas with the State Oil Company of Azerbaijan Republic (SOCAR). Morneftgazproject Russia Constructs and develops offshore oil and gas production facilities in Azerbaijan in addition to Russia and Vietnam. Founded by Gazprom, Rosneft, and CD8 ME Rubin. Sources: Russian Financial Control Monitor: “Gazprom consolidates Austrian gas trader.” April 20, 2011. Russian Financial Control Monitor: “Gazprom to gain foothold in Turkey.” August 20, 2009. SKIRIN Market and Corporate News: “Gazprom Germania reports 1st quarter 2010 results.” September 15, 2010. SKIRIN Market and Corporate News: “ZMB GmbH opens representation in Uzbekistan.” November 15, 2007. The Russian Oil and Gas Report: “Gazprom bought a 4.45% stake in ArmRosGazprom.” April 1, 2009. Armenpress News Agency: “Voting for Armenian-Russian ‘gas’ agreements to hold on December 23.” December 20, 2013. Gazprom Schweiz AG web site (http://www.gazprom-schweiz.ch/en.html). Morneftgazproject web site (http://www.mngproject.ru/en/). Gazprom web site. Gazprom International web site. Natural gas purchased by Gazprom Group in Central Asia from 2007 through 2012, billion cubic meters. Source: Gazprom web site. Projected Pre-Caspian gas pipeline and Central Asia – Center gas pipeline. Source: Gazprom web site. 12