A Game of Gas Bluff in Azerbaijan

BP has been a major presence in Azerbaijan for so long that one almost cannot imagine the country without it. The company’s willingness to invest billions in the early 1990s brought Azerbaijan back from the brink, after the war with Armenia over Nagorno-Karabakh almost tore the country apart.

The ‘Contract of the Century’ signed with a BP-led consortium in 1994, was not just the start of work on the lucrative Azeri-Chirag-Guneshli field; it was a vote of confidence in Azerbaijan’s new leadership. Baku has repaid the trust (and the investment) by allowing BP to become a dominant force in the energy industry, rivalled only by state energy firm SOCAR.

Given that cosy relationship, the broadside which President Ilham Aliyev unleashed against BP this month was all the more surprising. Speaking on 11 October, he said that the company’s “grave mistakes” and “false promises” were responsible for a slump in oil output at the giant ACG field, which specifically occurred after the profit-sharing balance shifted away from the BP-led consortium operating the field and towards the government. BP, in other words, put less effort in when it started getting less money.

Aliyev said that the fall was “unacceptable…. strict measures should be and will be taken”. He was echoed by his Energy Minister Natig Aliyev, who declared that SOCAR should strengthen control at ACG, and - unusually – the Speaker of Parliament, who said this was BP’s “final warning”. The barrage of criticism was unprecedentedly high-level, public, and harsh.

ACG may be an oilfield - but the sudden criticism also holds lessons for the country’s gas industry, because it suggests that the ground is starting to shift for Western majors in Azerbaijan’s energy sector. This is despite a hurried reassurance by Energy Minister Aliyev that “There is no and cannot be any threat to BP or any other foreign company.” 

The decline in output at ACG is hardly a secret, so why did the attack on BP come now? The Baku rumour mill has gone into overdrive, focusing on two main issues. Firstly, the likelihood that Azerbaijan is trying to push BP towards the exit on at least some of its projects – with ExxonMobil and ConocoPhillips reportedly front of the queue to take over. Secondly, that criticising BP is just the opening salvo in a bid to renegotiate contracts with all major energy companies in Azerbaijan.

The first scenario has been investigated by analyst Matthew Hulbert, who heard from a senior SOCAR official in September that Exxon was in discussions with the state firm over entering major Azerbaijani gas fields. This could refer to the Shah Deniz Two field, or to the new generation of fields such as Umid, Babek (both set to be operated by SOCAR alone, at present) or currently contracted fields like Absheron or Nakhichevan (being explored by Total and RWE respectively).

Neither of the US giants has been willing to speak about the rumours, although as usual in Caspian energy circles a lack of a denial is being taken as a cast-iron confirmation.

Hulbert suggests that Exxon’s entry would help it sew up the wider Caspian region, with big stakes in Russia, Kazakhstan and further south in Iraqi Kurdistan, allowing it to dominate European exports. But the opposite may also be true: that getting a stake in Azerbaijan will allow Exxon to retain a foothold in the Caspian. If the rumours of the company preparing to leave Kazakhstan’s Kashagan field are true, it would make strategic sense to just shift across the Caspian. This logic is even stronger in the case of Conoco, which is much closer to walking away from Kashagan.

If Exxon (or Conoco) were to enter one of the big fields, it could replace at Shah Deniz or at the least end its undisputed dominance as the biggest company in town. If it moved into as-yet untapped fields, it would significantly accelerate the growth of Azerbaijan’s gas industry.

Much depends, of course, on the terms which Baku is willing to offer. This is where the second scenario comes in: that Azerbaijan is not just trying to push BP out but is using the company as - in Hulbert’s phrase - “cannon fodder” for renegotiating contract terms across the board, particularly for new entrants.

The government has become increasingly assertive in the energy sector over the past few years, partly thanks to SOCAR’s growing exploration and production capabilities, themselves a product of years of training by BP. There is a growing sense – underscored by Aliyev’s comments – that Baku is getting a poor deal from its oil and gas wealth, particularly given Europe’s constant tributes to Azerbaijan’s importance for energy security.

But taking a tough line on new gas contracts will not be easy. Getting gas out of the Caspian is not an easy task, as BP has found. Although the EU remains committed to the Southern Corridor, alternative supplies have made getting Caspian gas less of a crusade than five or six years ago. And unlike European firms, the US majors which are expected to be the new entrants have no ‘strategic’ interests in taking gas to Europe. Terms would have to be extremely good to make it commercially worthwhile.

But although analysts may feel that the government doesn’t have a strong hand, this doesn’t mean that Baku feels the same way. There seems to be a belief that it has both the carrots and the sticks to get energy companies to fall into line: the question is whether the government or the Western majors will win this game of bluff.

Alex Jackson is an analyst of political, energy and security issues in the Caspian region. He is based in London and can be contacted at ajackson320@gmail.com.