Analysis: Azeri production to increase

May 26, 2009 02:00 AM

by John C.K. Daly

The global recession has hammered most energy-exporting nations, with many of them, along with OPEC, cutting production in a bid to shore up prices.
Not so Azerbaijan. Last year Azeri oil production totalled 44.5 mm tons of crude, while the government's original forecast was for 50 mm tons. Speaking in Baku on May 22, Industry and Energy Minister Natik Aliyev told, "We have a vast potential for building up oil production over the next 3-4 years. Azerbaijan may easily reach a level of 65 mm tons. An annual output of 65 mm tons of crude would be quite enough for Azerbaijan. We do not need more. The issue on the agenda is to maintain this level in the future."

If recent history is anything to go by, then Azerbaijan will likely accomplish its goal. In 1991 four new nations emerged on the shores of the Caspian from the debris of the Soviet Union -- Azerbaijan, Kazakhstan, the Russian Federation and Turkmenistan.
Of the quartet, Azerbaijan had the most highly developed Caspian offshore production platforms. In 1991 Azerbaijan produced 12 mm tons of oil, about the same amount as in 1901, when Baku became the world's first oil boomtown and Azerbaijan was producing more than 50 % of the world's oil.

The immediate problem of Azerbaijan's first post-Soviet government was how to attract sufficient foreign investment to developing countries' hydrocarbon reserves. The political conundrum was not solved until 1993, when the country's Byzantine political process was aided by a military coup headed by rebel army commander Col.
Surat Huseynov, who seized control of Azerbaijan's second city, Ganja, and subsequently marched on Baku, forcing President Abulfaz Elchibey to turn to a man who many Azeris would later affectionately refer to as "Baba" ("Grandpa") -- Heydar Aliyev, a supreme survivor of nearly 50 years in the jungle of Kremlin politics. In a slow but steady rise to power, Aliyev held positions ranging from deputy chairman of the Azeri Committee of State Security, first secretary of Soviet Azerbaijan's Communist Party and served in the Soviet Union's Politburo as its first Muslim member until General Secretary Mikhail Gorbachev forced him out in October 1987.

After Elchibey fled Baku, Aliyev became acting president and the National Assembly elected him president, a post he would hold for the next decade until October 2003, when he stood down from the presidency after appointing his son Ilham as his New Azerbaijan Party's sole presidential candidate, who continues as president after winning elections in 2003 and 2008, decried by many international observers as undemocratic and fraudulent, a view strengthened when in March a referendum scrapped presidential term limits.
While little in Aliyev's Soviet apparatchik indicated any attraction to capitalist ideals, more than any other post-Soviet leader Aliyev understood the need for foreign investment if Azerbaijan was to escape its Soviet legacy of economic inefficiency.

Accordingly in 1994, Aliyev's first year as president, Azerbaijan signed the "contract of the century" -- an unprecedented $ 7.4 bn production-sharing agreement with Western oil companies. The results were quickly seen in Azerbaijan's economy, which by 2007 was expanding at more than triple the rate of China's, becoming the fastest-growing economy in the world, with the International Monetary Fund pegging its growth at 29 %.
Key to the success of the Azeri economy was Aliyev's realization that Western investors sought both significant percentages of ownership of any joint ventures as well as an investor-friendly legal climate, both of which Baku provided. Azerbaijan's business investment-friendly template had a significant impact in Kazakhstan, which saw a corresponding rise in foreign investment, topping more than $ 40 bn in the last decade.

Ilham Aliyev is continuing the investment-friendly policies of his father; two months ago the State Oil Co. of the Azerbaijani Republic and France's Total signed a 30-year production-sharing agreement contract for developing the Caspian offshore 747 sq-mile oil and gas Absheron concession block, 62 miles south of Baku at a depth of 1,600 feet. On May 22 the Milli Mejlis, Azerbaijan's national assembly, ratified the agreement. The terms give Total a 60-% stake in the project, with SOCAR retaining the remaining 40 %.
The contract commits Total to fund all costs of sinking the first exploration well at Absheron, estimated at $ 100 mm, which specialists estimate will take three years to drill, along with drilling an additional two exploratory wells, if necessary.

The payoff on the joint venture is potentially immense. While Azerbaijan's Industry and Energy Ministry originally estimated Absheron reserves at 300 bn cm of gas and 45 mm tons of gas condensate, more recently both the ministry and SOCAR believe that Absheron's potential gas reserves may rival those of the neighbouring Shah Deniz field, whose confirmed deposits are estimated at 1.2 tcm.
The development builds on the 2001 experiences of Chevron, whose Caspian Drilling Co. joint venture drilled 21,350 feet into the Absheron geological structure, striking natural gas and gas condensate, but not in the quantities anticipated. The agreement is the largest offshore PSA that SOCAR has concluded since its 2005 Surakhani PSA with Rafi Oil, based in the United Arab Emirates, and its significance extends beyond merely providing profits to Total and SOCAR.

If Absheron's estimated reserves prove accurate and production can be quickly ramped up, then its output could become a major factor in the eventual development of one of Europe's pet energy projects, the 2,050-mile Nabucco pipeline, stymied up to now by both funding issues and concerns about where its throughput would come from.
Currently the only promised volume for Nabucco's proposed 31 bn cm throughput is Azerbaijan's future Caspian Shah Deniz production, estimated at 8 bn cm, a number that mature production at Absheron could effectively double, allaying investors' fears and making Nabuccothat much more potentially viable.

Accordingly, more than French shareholders and Azeri energy officials will be closely monitoring the PSA's development.
While the Caucasus is hardly the world's most stable region, jittery foreigners can take heart in the fact that in a region known for political unpredictability, it seems likely that an Aliyev will be heading the Azeri executive branch if and when the Absheron PSA fulfils its potential.

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