Azeri Gas Arrives, Contract Issue Unresolved

UNCLAS SECTION 01 OF 02 ANKARA 001709 SIPDIS USDOE FOR ALAN HEGBURG USDOC FOR 4212/ITA/MAC/CPD/CRUSNAK TDA FOR DAN STEIN SENSITIVE SIPDIS E.O. 12958: N/A TAGS: ENRG EPET EINV TU SUBJECT: Azeri Gas Arrives, Contract Issue Unresolved ANKARA 00001709 001.2 OF 002 SENSITIVE BUT UNCLASSIFIED ¶1. (SBU) Summary. After months of delay, Turkish officials confirm that natural gas from Azerbaijan's Shah Deniz field should begin flowing into Turkey in the next few days despite the lack of resolution to the issue of the contract period. The head of Azerbaijan's SOCAR is coming to Turkey within the week, hopefully to discuss this subject as well as the broader issue of transit arrangements for Azeri gas going to Greece and Italy via Turkey. Senior GOT energy officials ask for U.S. help in resolving the contractual issue with Azerbaijan and working with Greek and Italian authorities to include Turkey's key principle of netback pricing for a fixed amount of transit gas in the Intergovernmental Agreement that Turkey, Greece and Italy are currently negotiating. End Summary. -------------- "First Year" Contract Issue Still Unresolved -------------- ¶2. (SBU) Acting BOTAS Director General Sakir Arikan confirmed July 3 that pressurization of the Baku-Tbilisi-Erzurum gas pipeline is underway and that the first flows at the contractual level (about 8 mcm/day, equivalent to 3 bcm/year) will begin arriving in Turkey within a day or so. Arikan said, however, that the contractual issue of when to begin counting the first year of deliveries remained unresolved. The first year contract was orginally scheduled to run from October 2006 until October 2007 at the initial price of $120 per cm, but neither the Azeris nor the Turks were ready last October. Turkey believes the first year should begin concurrently with the first delivery, while their Azeri partners are pushing for a much earlier date. Saying he had taken a risk by accepting delivery without agreement on the issue, Arikan asked for USG support with Azeribaijan (specifically AGSC). He said a dispute with Turkey that went into arbitration would send bad signals to markets and interfere with other projects (e.g. TGI). Arikan said Statoil agrees as a commercial matter that the period should start with the first delivery, but that SOCAR's board had not concurred -- apparently for political reasons. ¶3. (SBU) Consistent with Arikan's report, Energy Undersecretary Sami Demirbilek told EUR DAS Matt Bryza on June 30 that AGSC agrees with Statoil that the 365 days should start with the first delivery but had asked for the GOAJ's "opinion" on the issue. Minister Guler discussed this with Energy Minister Natiq Aliyev in Istanbul during the last week of June. Aliyev was reportedly "positive" about Turkey's position. Demirbilek said he believed that starting the gas flow would make it easier to resolve the contract issue. During our July 3 meeting, Arikan received a telephone call from SOCAR official Vaqif Aliyev arranging for a visit to Turkey by himself and SOCAR CEO Rovnaq Abdullayev with the next few days. Arikan said he hoped that Abdullayev and Energy Minister Guler would resolve the contract issue during their meeting. He thought they would also discuss transit arrangements for Azeri gas going to Greece and Italy (see below). -------------- Greece Interconnector Almost Ready -------------- ¶4. (SBU) Arikan said that the physical work on the Turkish portion (up to the Meric/Martiza River) of the Turkey-Greece gas interconnector should be completed this week. Work on the cross-border section under the river was underway and should be complete at latest by the end of the first week of August. Then, 15 days is needed for testing and to complete the connection (golden weld) on the Greek side. If this schedule holds, gas could not flow before around August 20, vice the Aug 10 date earlier agreed with Greece. (Arikan said they heard from DEPA in May that more work was needed to finish the 85 km segment within Greece. He didn't know the current status of this.) The later flow would not necessarily, he said, interfere with a "first gas" ceremony on August 10 as recently announced by Minister Guler. He did not have any information on the ceremony, however. ¶5. (SBU) Arikan said that Greece would receive gas at the same daily rate provided for by the first year contract. -------------- But IGA Still not Resolved ANKARA 00001709 002.2 OF 002 -------------- ¶6. (SBU) Confirming Demirbilek's earlier comments to Bryza, Arikan said that the Turkey-Greece-Italy Inter-Governmental Agreement (IGA) remained held up over Turkey's desire to include language ensuring that Turkey would have access to up to a fixed percentage of gas transiting its territory (15-20%) at a "netback" price that only included transportation costs up to the Turkish border. While Italian Edison had agreed, Demirbilek and Arikan said the Greek Government was asserting that the language regarding the percentage was a commercial issue that should not be in the IGA. Demirbilek, however, said that this was a crucial point of principle for Turkey. Arikan said the issue was "Turkey's energy security." ¶7. (SBU) Demirbilek explained at some detail to Bryza why the new pricing methodology Turkey is pushing is so critical. Rather than setting prices based on formula linked to other energy sources, Turkey's method would reflect the actual costs involved in producing and transporting gas to the consumer. Thus, the price paid to the producer would reflect the cost of production plus a return, while the purchaser would additionally pay the cost of transporting the gas from the producer to the consuming country. This was more fair and transparent than the current method of selling gas, whereby every consumer pays the same price regardless of the distance from the producer and regardless of the relative costs. ¶8. (SBU) Since Turkey is closer to producers, this would result in a reduction in the price paid by Turkey. In fact, Demirbilek said, if he obtains these lower prices from Azerbaijan, he would have the right under his current contracts with Russia and Iran to renegotiate Russian and Iranian price downward. Those contracts contain clauses obligating the producer to match the lowest price Turkey can obtain elsewhere. This would be a very large financial benefit to Turkey, far exceeding the smaller financial benefits coming from the Azeri deal. -------------- The Heat is On -------------- ¶9. (SBU) Both Demirbilek and Arikan agreed that it was critical to resolve all these contractual issues in the very short term and to thereby send a convincing signal to markets of the viability of sending Caspian Gas to Europe. Arikan also pushed for a higher profile effort with Turkmenistan. Both Arikan and Demirbilek were dismissive of the Russia-Greece South Stream announcement. Arikan pointed to the extremely high cost of such a project ($10 billion, he said),while Demirbilek thought it would not work technically ("it would require compressor stations underneath the Black Sea"). Both, however, took it seriously as intended to turn up the political and psychological heat against TGI and Nabucco. -------------- Comment -------------- ¶10. (SBU) The long-awaited start of Shah Deniz gas flow to Turkey is an excellent signal to markets that the southern corridor holds promise as new source of supply for Europe. We need to build on this progress quickly, including by pushing for a resolution of the first year contract issue and the broader IGA problem. Wilson