rig deal

A deal that could solve one of the biggest headaches in global oil: How India’s ONGC might come to Kazakhstan’s rescue

November 30, 2012
Obsession
Energy Shocks
November 30, 2012

Kashagan is one of the largest discoveries in the history of petroleum—and also one of the most troublesome. A monster field containing at least 38 billion barrels of oil (a 1-billion-barrel field is regarded as a “supergiant”), Kashagan occupies the extreme end of the industry risk scale—difficult to develop, far over budget, and very late indeed. It’s so huge that no less than seven big oil firms have partnered up to exploit it (which is part of the problem.) Discovered in Kazakhstan in 2000, Kashagan was supposed to deliver first oil seven years ago, at a development cost of about $24 billion. Instead, it is expected to produce only next March, after some $46 billion has been spent.

Now yet another firm is buying in to Kashagan. Under the terms of all-cash deal, announced Nov. 25, India’s state-controlled ONGC will buy the 8.4% stake currently owned by ConocoPhillips.

This will expand India’s strategic toehold on the Caspian Sea (ONGC already holds various other assets there), but it could also be a break for the other six partners in Kashagan—Shell, ExxonMobil, Japan’s Inpex, Italy’s Eni and France’s Total, plus Kazakhstan’s state-owned KMG. They now have six months to pre-empt ONGC and buy the 8.4% stake themselves. None of the foreign partners is likely to do so. Instead, they may use ONGC’s entry to resolve what has been a huge headache for all, by helping KMG take over the stake instead.

Reaching the market by 2005 was always ambitious given Kashagan’s extraordinary complexity. Yet, far more than the usual delays plagued the two companies put in charge—first Shell, then Eni. They simply could not pull it off. Kashagan is a challenge that perhaps only one of the partners—ExxonMobil, with its exactingly militaristic engineering and budgeting team—could have managed. Its partners preferred not to be under the boot, and selected, successively, Shell and Eni to manage the development.

Much that has gone wrong has flowed from that fateful decision. The contract runs out in 2041, and it seems clear that, even with oil prices much higher than anyone could expect back in 2000, no one is going to earn what they hoped. The field is scheduled to start delivering 150,000 barrels a day of oil next March, and 370,000 barrels a day by 2016. Some time after 2020, the aim is 1.5 million barrels a day. That is far slower than envisioned, and the companies are too disillusioned to think about upping their current stakes.

Enter the Kazakhs. They would like to increase their share, given that the field is situated on their land. The problem is money—the Kazakhs have already suggested that adding the Conoco share could be difficult for them to manage. The regional practice is for foreign partners to cover the locals’ share of expenses, in what is called “carried interest”—the foreign companies currently carry the Kazakhs’ 16.8% interest (equal to the shares held by Shell, Total, Eni and ExxonMobil). But the foreigners would rebel at a demand to carry an even greater Kazakh shareholding.

Unless, that is, there is a sweetener. The foreign companies have suggested that they are keen on extending the contract for two decades in order to capture more profit and come closer to their original economic model. If the Kazakhs grant two concessions—agreement on a rapid production buildup to 450,000 barrels a day, which the foreigners have sought, plus the contract extension to 2061—they would fundamentally improve the risks and economics of Kashagan. That would make the foreigners much more favorable toward carrying the larger Kazakh share.

The troublesome point is the Indians. The Kazakhs would have to find a way to assuage ONGC. But finally unleashing Kashagan would make doing so worthwhile.

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