BP Falls Out with Azerbaijan as Baku Gambles on Future

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That Azeri President Ilham Aliyev is so ferociously lashing out at British Petroleum (BP) for declining output in Azerbaijan’s largest oilfield has very little to do with BP and everything to do with Baku’s ambitions to raise the stakes as it seeks the top spot on the Caspian oil and gas chain.

Aliyev is simply setting the stage for changes in the regulations governing Azerbaijan’s oil and gas resources. From where I’m sitting, BP can’t afford to play this game and may be pushed out to make room for other oil majors.

Earlier this week, Aliyev took his show on the road personally—which is significant in itself. Speaking on public TV, the Azeri president has attacked the BP-led consortium for failing to meet its projected production targets in the Azeri-Chirag-Guneshli (ACG) field, referring to the situation as “totally unacceptable”.

The simple math is this: In 2010, ACG reached production of 823,000 bpd. Production at ACG declined 12% in the first half of 2012, to 684,000 bpd.  BP, which operates the field and holds a 35.8% stake in the consortium, had promised that ACG would produce more than 1 million bpd after its third phase was completed in 2008.

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According to Aliyev’s math, this BP failure has cost Baku $8.1 billion in revenues.

When BP initially made its 1 million bpd promise, it was to great fanfare and much uncorking of the champagne in Western diplomatic circles whose eyes glossed over at the prospect of access to so much non-OPEC crude oil.

But no sooner had the fizz gone out of the champagne that everyone realized that these predictions were a bit on the over-optimistic side. Azerbaijan’s reserves are limited, and from the start it was clear that production would experience a sharp increase and then a sharp decline. In fact, for 2012, Azerbaijan’s whole oil sector combined was only projected to produce just under 1 million bpd by the end of this year.  

Aliyev knew this. His very public attack on BP is intended to send a message that requires some reading between the lines.

"It is absolutely unacceptable … investors who cannot stick to their obligations and contract terms must learn lessons. Serious measures must and will be taken," Aliyev said.

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The message is that contracts are about to re-negotiated and BP is being used as a guinea pig for a re-mapping of Azerbaijan’s energy players. We are not just talking about oil here, but gas, and BP is also knee-deep in Azeri gas via the Shah Dengiz II field. Baku isn’t convinced that BP is the best choice for reaching the full potential of Shah Dengiz II. So look for a “reorganization” of this as well. 

Can BP pull itself up out of the Azerbaijani mire? Right now, it’s looking very promising. The company is already spending some $2 billion just to maintain its currently unacceptable production levels, and if it has any chances of ramping up production to appease Baku and make good on an impossible promise, it will have to invest billions more. Unfortunately, investment on this level will not pay out, especially since BP only has a contract until 2024.

At the same time, Baku is making it clear that the contract will not be extended beyond 2024. And BP will be lucky if it isn’t pushed out before then.

Certainly, it’s a bad time for BP, which is battling on multiple front lines. Company shares have dropped around 5% this year, even after plunging about 25% over the Macondo disaster of 2010.   

By. Jen Alic of Oilprice.com

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