Kazakhstan Squeezes the Last Drop Out of Eni

By Jason Simpkins
Associate Editor

After months of discussion and management restructuring, work at one of the world's largest oil fields is set to continue.

Under the terms of a new agreement Eni S.p.A (E), the Italian oil company, will cede its control over operations at the Kashagan oil field in Kazakhstan. Kazakhstan's state oil company, KazMunayGaz, will pay $1.78 billion to double its stake in the project from 8.33% to 16.81%.

The Kashagan field is located in the icy shallows of the Caspian Sea, and is one of the largest discoveries of the past 40 years, with estimated oil reserves of 38 billion barrels. But extraction has proved difficult as the project jointly managed by Eni, Exxon Mobil Corp. (XOM), Total SA (TOT), Royal Dutch Shell PLC (RDS.A, RDS.B), Conoco Phillips (COP), and INPEX Holdings Inc., has suffered repeated setbacks and cost overruns.

Eni originally predicted that oil would be flowing from the Kashagan field by 2005, but has since conceded that oil won't be pumped until at least 2011. Meanwhile, Kashagan's price tag has risen from $57 billion to $137 billion.

As the project met with repeated delays and ballooning costs, the Kazakh government became increasingly frustrated. Authorities ordered Eni to stop work at Kashagan on Aug. 27 for at least three months because of "environmental violations."

The move was eerily similar to tactics previously employed by Russia. Both countries use their resources as bargaining chips for foreign investment and technology, but with soaring commodity prices, deals that looked fair five and ten years ago, are being reviewed.

Last year, Royal Dutch Shell was pressured into selling 50% plus one share of the Sakhalin-2 oil and gas project to Russia's state-owned energy giant, OAO Gazprom. In this case, the Eni-led group will pay the Kazakhs restitution of $5 billion for delays. Tax breaks for foreign investors will also be cut back.

"This is likely to be only phase one of the ownership question," Chris Weafer, chief strategist at Moscoa-based Uralsib Financial Corp., told Bloomberg News. "As Kazakhstan appears to be following the path set by its neighbor and mentor Russia, we should expect to see them eventually build their position at least to a blocking stake."

A blocking stake would be about 25%, according to Weafer.

"Although none of the foreign oil companies will be happy to give up equity, it's a small price to pay to resolve this impasse," Weafer said. "It's better to have a reduced equity in a project that has full state support rather than a bigger position in a project that faced an increasing number of problems."

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