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30/06/2005 | Kazakhstan: Troubled PetroKazakhstan Listening to Acquisition Offers

WMRC Staff

Canadian-based PetroKazakhstan, which has been beset this year by a string of problems in Kazakhstan - its sole country of operations - has confirmed reports that it is entertaining offers for a potential merger or acquisition of the company.

 

Global Insight Perspective

Significance

PetroKazakhstan (PKZ), which is currently embroiled in a bitter dispute with joint venture partner LUKoil, has suffered a series of legal setbacks in Kazakh courts that have found in favour of the Russian oil major, putting PKZ in a vulnerable position and leaving it open to potential buyout offers.

Implications

The Financial Times reported that unnamed Chinese and Indian companies were the front-runners for PetroKazakhstan, but PKZ's problematic relationship with Kazakh authorities, the company's ongoing legal battle with LUKoil, and - most importantly - a Kazakh law giving the state the right to pre-empt any sale likely will dictate the course of any potential sale.

Outlook

PKZ said in a press statement that it was far from certain that any sale would occur, but should shareholders decided to cut a deal, Kazmunaigaz, the Kazakh state oil and gas company, appears in prime position to further the state's goal of expanding its influence in the Central Asian country's lucrative oil sector.

On the Rocks

Until yesterday, the operative question with regard to PetroKazakhstan, the Canadian-based number three Kazakh oil producer, had been 'how long will the company last?' Since a marketing dispute erupted last December between PetroKazakhstan and LUKoil, partners in the Turgai Petroleum joint venture (JV) in south-central Kazakhstan, the Canadian company had suffered a series of legal setbacks in Kazakh courts, leaving PKZ liable for millions of dollars in economic damages (see 'Related Articles'). The much larger Russian oil major has pressed PKZ on various fronts, seeking replacement of nearly 3 million barrels of oil 'lost' in the marketing dispute, and the unfavourable court rulings have pushed PKZ - which has all of its operations in Kazakhstan - to the edge.

Thus, a report in the Financial Times (FT) yesterday - confirmed by PKZ itself - that the company is considering a sale effectively answers that question. In addition to the deterioration of relations between the Turgai JV partners - which essentially boils down to a dispute over whether the JV was bound to an agreement to sell oil from the North Kumkol field at fixed prices to the Shymkent (ShNOS) refinery, owned by PKZ - the Canadian company has been under attack from Kazakh regulators. PKZ, which produced just over 150,000 b/d in Kazakhstan in 2004, has been forced to cut back output from its Kumkol fields owing to a Kazakh law on eliminating gas flaring. The company holds 100% of the licence for the South Kumkol field in addition to 50% of the North Kumkol field.

PetroKazakhstan at a Glance

Oil production* (2004)

151,102 b/d

Market capitalisation

US$2.5 billion (approximate)

Reserves (proven plus probable)

550 million barrels

Q1 2005 Net Income

US$165.6 million (up 89.3% year-on-year)

Field Licences*

Kumkol South, South Kumkol, Kumkol North, Kyzylkiya, Akshabulak, Aryskum, Maibulak, East Kumkol, North Nurali, Nurali and Aksai

Refineries* (capacity)

Shymkent (140,600 b/d)

PKZ ranks behind only Chevron and Kazmunaigaz in terms of oil output in the resource-rich Central Asian republic, but PKZ's luck in gearing up to become one of Kazakhstan's largest producers appears to have run out. The company, which saw its first-quarter income jump nearly 90% in spite of the turbulence at the Turgai JV (see table), is fighting a parallel battle with Kazakh authorities over accusations of monopolistic behaviour in the local oil product market. While PKZ has found itself on the losing side of the argument over oil supplies to its Shymkent refinery, the company has also been fined by Kazakh regulators in a series of cases for alleged manipulation of petroleum product prices. 

Catch a Falling Star

For PKZ, the situation in Kazakhstan is simultaneously promising and bleak: promising, in that it has a strong portfolio with production growth potential; yet bleak, because what appear to be its most important relationships with both LUKoil and Kazakh authorities seem to have deteriorated beyond repair. Thus, although PKZ couched its confirmation of the FT report in language suggesting that no sale is imminent - noting only that it received 'approaches' from various parties about a potential acquisition or merger - a sale does now seem inevitable.

In turn, the new question surrounding PKZ is not 'how long will it last?' but 'who will buy it?' The FT article suggested that Chinese and Indian companies were the 'front-runners', although it did not rule out a Western buyer. Given the increasingly desperate global search for oil that both China National Petroleum Corp. (CNPC) and India's Oil and Natural Gas Company (ONGC) have been conducting, it makes sense that these two state-owned energy companies (or their affiliates) would be eager to snap up an available asset in their backyard. A 'trans-Kazakhstan' pipeline connecting the Caspian Sea to the western Chinese border - including a link to PKZ's assets in central Kazakhstan - is being built to facilitate Kazakh oil exports to its eastern neighbour. Similarly, India's ONGC has been in talks with Kazmunaigaz to acquire acreage in the Kazakh sector of the Caspian Sea, and would be keen to acquire all or part of PKZ's oil-producing assets.

While Western energy companies would no doubt be interested in PKZ's assets, international oil companies (IOCs) are likely to be tempered in their enthusiasm given their recent experience in negotiating the share-out of BG's 16.67% stake in the consortium developing the massive Kashagan field. The Kazakh state's increasingly confrontational approach to foreign investors has translated into a worsening investment climate, with higher taxes, restrictions on the use of production-sharing agreements (PSAs), and stipulations on a majority stake for the state in all new projects. PetroKazakhstan's relatively costly oil export system - the company sends the bulk of its oil exports via barge and rail across the Caspian and Caucasus - and its current legal baggage could scare off IOCs, who may opt to wait for better terms and new projects in Kazakhstan's offshore licensing programme.

LUKoil, of course, should not be dismissed as a potential suitor for PKZ, despite the brouhaha over Turgai Petroleum's operations. Indeed, Dow Jones quoted a source close to the situation as suggesting that a potential LUKoil acquisition of PKZ would be one method of resolving the dispute over lost oil and income from the marketing disagreement. LUKoil, which already has a stake in the Karachaganak and Tengiz projects in Kazakhstan, as well as the drilling rights to the Tyub-Karagan and Atashskaya fields in the Kazakh sector of the Caspian, is known to be interested in expanding its presence in Central Asia. The company has inked a US$1-billion PSA in Uzbekistan and has been targeting projects in Turkmenistan, although LUKoil's bid to acquire a stake in UAE-based Dragon Oil was recently rejected by the Turkmen government.

Outlook and Implications

Although LUKoil would certainly look kindly upon a proposition by PKZ shareholders to offer up all or part of the company's assets in exchange for peace with the Russian oil major, Kazmunaigaz, the Kazakh state oil and gas company, is in a better position to gobble up PKZ. In a record oil price environment, and with geopolitical forces pulling PKZ in the direction of China, India, Russia, and the West, the sudden merger and acquisition frenzy surrounding PKZ should not overlook the one home-grown potential buyer.

Kazmunaigaz, which has boosted its production by nearly 10% in the first quarter to reach an average of 184,000 b/d, has aspirations of becoming a true industry heavyweight, not merely window dressing for the series of IOC-led projects unfolding in Kazakhstan. Kazmunaigaz officials have unveiled a programme of aggressive expansion - plans that are significantly bolstered by a government eager to build up the nascent national oil company (NOC) and strengthen the state's control over the country's bountiful oil and gas reserves. Legislation that gives Kazmunaigaz at least a 51% stake in all new projects and allows the state to 'pre-empt' any sale of stakes in energy projects underpins Kazmunaigaz's authority and buttresses any potential claim to PKZ's assets.

Hence, while Kazmunaigaz may lack the financial clout of the IOCs, the Russian oil majors, or even the Chinese and Indian state oil companies, it has one thing that the other companies do not - the full backing of the Kazakh government. The oft-contentious negotiations over the share-out of BG's 16.67% stake in the Kashagan consortium finally resulted in Kazmunaigaz securing an 8.33% stake in the development of the elephantine offshore field, signalling the government's determination to increase its role in Kazakhstan's natural resource sector. 

By comparison, a potential pre-emptive acquisition of some or all of PKZ's assets looks to be a foregone conclusion. Lest anyone question the government's ability to finance the potential US$2.5-billion acquisition, the rising tide of oil export revenues will continue to feed Kazakh government coffers, and the country's plans to more than treble oil production over the next decade - along with the oil reserves in place to back up that goal - should ensure that lenders will be eager to provide Kazakhstan with any money needed to complete a potential transaction. Of course, Kazakh officials could just as easily help push down the potential acquisition price of PKZ by throwing the company a few more curveballs with some additional charges of market manipulation.

On the other hand, Kazakh officials could decide to be magnanimous, allowing LUKoil to settle its dispute with PKZ by snatching up the Canadian company's stake in the Turgai JV while Kazmunaigaz adds the remaining PKZ assets to its portfolio. This solution would have the added bonus for the government of catering to the desires of LUKoil, a trusted foreign investor, to expand its activities in Kazakhstan while allowing the state to effectively regulate the oil products market via Kazmunaigaz's control of the Shymkent refinery. For Kazakhstan, PKZ's demise appears to be a win-win scenario. Thus, now that PKZ has said it is listening to acquisition offers, the Kazakh government may make the Canadian company an offer it cannot refuse.

WMRC (Reino Unido)

 



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