SCENESETTER FOR SCA A/S BOUCHER,S MAY 30 VISIT TO

C O N F I D E N T I A L SECTION 01 OF 03 BAKU 000478

SIPDIS

E.O. 12958: DECL: 05/20/2018
TAGS: PGOV PREL AJ ENRG
SUBJECT: SCENESETTER FOR SCA A/S BOUCHER,S MAY 30 VISIT TO
BAKU

Classified By: Ambassador Anne E. Derse, reasons 1.4 (b,d)


1. (C) SUMMARY: Building on the success of the BTC and SCP
pipelines, Azerbaijan could become a still more important
producer and transit country for Capsian energy reserves.
Several key issues must be resolved. Azerbaijan is working
quietly with Turkmenistan to improve their relationship,
setting the stage for possible new bilateral Caspian energy
development. Turkish gas transit issues - and increasingly
difficult negotiations with IOC,s over developing new gas
production - must be resolved in order to realize
Azerbaijan,s potential as a gas producer. Although
Azerbaijan and Kazakhstan have signed agreements to transit
Kazakh oil through Azerbaijan, The two countries'
rent-seeking activities could harm the commercial viability
of the 'Southern Corridor' for overland transportation of
Kazakh oil. The Azerbaijani Government also will be eager to
hear your views on Afghanistan, particularly how Azerbaijan
can maximize the effectiveness of new ISAF contributions
announced by President Aliyev at Bucharest. END SUMMARY

GOAJ COMES INTO MONEY
--------------


2. (C) The catalyst for Azerbaijan's economic "great leap
forward" since 2007 is the flood of revenue from the offshore
Azeri-Chiraq-Gunashli (ACG) oil field, developed by the
Azerbaijan International Oil Consortium (AIOC - nine
international oil companies plus the State Oil Company of
Azerbaijan - SOCAR). As of April of this year, Azerbaijan
is receiving approximately 80 percent of the profit oil from
this field, which finds its way to market through the
Baku-Tbilisi-Ceyhan (BTC) pipeline, itself owned by a
Consortium with many of the same members of the AIOC. Like
many countries with a sudden infusion of mineral-based
revenues, Azerbaijan is undergoing sweeping changes, much of
which can be seen in the Baku construction boom. In the
energy sector, the state energy company SOCAR, flush with a
success it did relatively little to bring about, is seeking
to increase its proximity to its final consumers downstream,
for example purchasing a terminal in Georgia and a refinery
in Turkey. It is also seeking to in essence "renegotiate"
existing Production Sharing Agreements (PSAs),originally
penned at a time when its negotiating position was far weaker
than now.

ENERGY - OIL
--------------


3. (C) BP, the AIOC operator, has been engaged in a long and
acrimonious dispute with the GOAJ over respective shares of
AIOC profit oil. Extending the current AIOC PSA would
increase recoverable reserves and allow greater revenues (and
allow the U.S. companies to book these additional reserves
now). However, SOCAR is unwilling to discuss PSA extension
until not just the revenue split issues are resolved, but
also issues surrounding ownership of the BTC pipeline after
the PSA ends, ownership of the Baku-Supsa oil pipeline
(currently owned by the AIOC but coveted by SOCAR),and
allocation of the associated gas from the ACG field. The
GOAJ is also dragging its feet on expanding BTC capacity as
it seeks to optimize future revenue streams by in essence
trying to renegotiate the terms of the current PSAs. You
should encourage the GOAJ to work out its issues
expeditiously with the AIOC Consortium so that PSA extension
can go forward.

GAS: PROVE UP/DEVELOP RESERVES
--------------


4. (C) Azerbaijan became a gas exporter in 2007, with
production starting for the offshore Shah Deniz (SD)
mega-field, and currently exports gas to Georgia and Turkey,
and a very small amount to Greece, via the South Caucasus
Pipeline (SCP). The field is being developed by the Shah
Deniz Consortium (six international energy companies and
SOCAR). When the second phase of SD production comes online
in late 2014 (SD2),in addition to Turkey and Georgia,
Azerbaijani gas volumes can be sold to European customers,
either via the Turkey-Greece-Italy (TGI),Nabucco, or
Trans-Adriatic Pipeline project (TAP).


5. (C) President Aliyev has said that he intends for
Azerbaijan's domestic gas needs to be met by SOCAR's gas

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production (approximately 7 billion cubic meters annually -
bcm/a),with the approximately 13 bcm/a of SD2 production
being exported. Flush with oil revenues, Azerbaijan sees its
gas exports as a way to increase its geopolitical connections
with a Europe that for reasons of security is seeking to
increase its non-Gazprom gas supplies.


6. (C) President Aliyev has stated that Azerbaijan seeks to
"export as much gas to Europe as possible as quickly as
possible." But Azerbaijan has yet to take the aggressive
steps necessary to prove up and develop its reserves. The
next significant gas field to be developed is "ACG Deep Gas,"
the non-associated gas that lies under the
Azeri-Chiraq-Gunashli (ACG) oil field currently being
developed by the AIOC. ACG Deep Gas reserves are estimated
at approximately seven trillion cubic feet (tcf),about
one-third of the Shah Deniz mega-field's, making this field
the logical choice for development.


7. (C) While the AIOC Consortium is eager to develop this
gas, the GOAJ and SOCAR are holding ACG Deep Gas development
hostage to resolving other issues revolving around revenue
allocation between the AIOC and the GOAJ. Given the long
timelines involved with developing gas and the shortage of
Caspian construction assets, even if the GOAJ decided today
to develop ACG Deep Gas expeditiously, production from this
field would not begin until 2018-2020 at the earliest,
according to Baku-based energy executives. Unless the GOAJ
can persuade the AIOC Consortium to part with some of the 11
bcm/a of associated ACG gas currently being re-injected, it
is unclear whether Azerbaijan will have significant new
sources of gas to export after SD2 comes online o/a 2015,
until at the earliest 2018-2020. You should encourage the
GOAJ to systematically prove up its gas reserves and to work
with IOCs to develop ACG Deep Gas as expeditiously as
possible, in order to fulfill its strategic goal of being a
significant gas exporter to Europe.

GAS -TURKISH TRANSIT
--------------


8. (C) SD2 cannot move to the next phase of its development,
scheduled for the first quarter of 2009 and at which point
significant sums begin to be spent, until preliminary sales
and purchase contracts are signed between European gas
consumers and the Shah Deniz Consortium. SOCAR will be the
lead for SD2 gas marketing, but SOCAR is unwilling to sign
any agreements until Turkey provides a fair and transparent
tariff on which SOCAR can calculate its negotiations with
downstream customers. Turkey, by signing a June 2007
Intergovernmental Agreement (IGA) with Greece and Italy,
sought to lock in the right to buy a percentage of all GOAJ
gas transiting Turkey at what SOCAR took to be sub-market
prices. Since the IGA signing there had been little progress
in resolving the "Turkish gas transit issue;" the sides are
now talking and it seems that the answer may lie in
Azerbaijan selling additional volumes of SD2 gas to Turkey.
Regardless of the exact parameters, the final solution is
going to probably require the active intervention of both
President Aliyev and Prime Minister Erdogan.

TURKMENISTAN
--------------


9. (C) Azerbaijan seeks to draw Turkmen gas volumes from
offshore fields through Azerbaijan to Europe, to increase its
own strategic importance. Azerbaijan is to be commended for
its efforts to strengthen the bilateral relationship with
Turkmenistan since Turkmanbashi's death. The May 19-20 visit
to Baku of Turkmen President Berdimuhamedov, made possible by
President Aliyev's previous settlement of the bilateral debt
issue to the benefit of Ashgabat, was an important step in
this regard. It is not yet clear how much progress was made
during this visit on the bilateral development of Caspian
energy deposits, although initial indications are positive.
The GOTX position prior to this visit focused on its
long-standing claims to the ACG and the Sardar-Kapaz fields.
The GOAJ had been unwilling to discuss GOTX claims on ACG,
although they indicated they might be willing to cede
majority ownership of Serdar-Kapaz to the GOTX if the two
could jointly develop the field. In theory, the two sides
have been willing to discuss cooperation in Caspian energy
development absent an overarching five-part delimitation
agreement among the littoral countries. The GOAJ is to be

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commended for its outreach to Turkmenistan and encouraged to
continue cooperation on bilateral offshore energy
development, even absent an overarching delimitation
agreement.

KAZAKH OIL TRANSIT
--------------


10. (C) Even if the recently announced doubling of Caspian
Pipeline Consortium (CPC) capacity occurs, Kazakh oil volumes
from Tengiz and Kashagan fields will need to transit
Azerbaijan via a "Southern Corridor" consisting of ship, rail
and pipeline. Although the corridor is technically ready to
transit TengizChevroil (TCO) volumes, the inability of the
Azerbaijani freight forwarding company (controlled by SOCAR)
to reach agreement with TCO has prevented this corridor from
being used for TCO volumes. Azerbaijan should be encouraged
to ensure the commercial viability of this corridor and to
focus on setting up the infrastructure to handle increasing
volumes of Kazakh oil.

AFGHANISTAN
--------------


11. (C) At the NATO Bucharest Summit, President Aliyev
announced a significant increase to Azerbaijan,s military
and civilian ISAF contributions. The GOAJ is refining its
plans and will announce the specifics during a high-level,
multi-agency visit to Afghanistan in late June or early July.
The Foreign Ministry has sought U.S. and NATO feedback on
its specific proposals, and will welcome any advice you could
offer on how Azerbaijan could be advance NATO objectives in
Afghanistan.


12. (C) The GOAJ plans to double its military presence in
Afghanistan, to 90-95 individuals. The GOAJ will complement
this force increase with a number of training opportunities
offered to Afghan security personnel. The Military College
of Azerbaijan will enroll Afghanistan cadets in either
short-term or long-term courses; the Academy of the Ministry
of National Security will enroll Afghan students in
short-term courses on counterterrorism; and the State Border
Service Academy will also enroll Afghan students. The Police
Academy and the Education Centers of the Ministry of Internal
Affairs troops are currently evaluating whether they will be
able to host enrollees from Afghanistan. The GOAJ plans to
cover all costs associated with the training, including
travel expenses. The GOAJ also is willing to donate weapons
to Afghanistan's security forces, but seeks clear and
specific guidance from NATO on these donations.


13. (C) On the civilian side, the GOAJ plans to establish
diplomatic representation in Afghanistan, likely through its
embassy in Pakistan. The GOAJ wants to use funds from the
Heydar Aliyev Foundation to build either a hospital or a
school in one of the Provincial Reconstruction Team (PRT)
areas. The GOAJ hopes to build the facility in a relatively
safe part of Afghanistan and has requested U.S. and NATO
feedback on what projects would be most useful. The GOAJ is
also willing to provide experts to the PRTs, especially
individuals with Farsi language skills. The MFA has
indicated that the GOAJ can provide 3-4 military doctors and
3-4 military engineers, including deminers, to PRTs as needed
and suggested that the Azerbaijan National Agency for Mine
Action (ANAMA) could be deployed in some capacity in
Afghanistan. The GOAJ also is interested in providing
financial assistance to Afghanistan, either through NATO
trust funds or UNDP's Law and Order Fund.
DERSE