KAZAKHSTAN: WILL KAZTRANSGAS LEAVE GEORGIA?

UNCLAS SECTION 01 OF 02 ASTANA 000531

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SUBJECT: KAZAKHSTAN: WILL KAZTRANSGAS LEAVE GEORGIA?

REF: (A) TBILISI 0529 (B) ASTANA 2081

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1. SUMMARY: This report provides a Kazakhstani perspective on the
management changes to KazTransGas-Tbilisi (KTG-Tbilisi) reported in
reftel A. It is derived entirely from open source material. On
March 16, the Georgian National Energy and Water Supply Regulatory
Commission appointed the Chief of Security Department of the
Georgian Oil and Gas Corporation (GOGC) to serve as interim manager
in KazTransGas-Tbilisi (KTG-Tbilisi),which allegedly incurred a
$47.9-million debt to GOGC. KTG-Tbilisi, which is wholly owned by
national oil company KazMunaiGas (KMG),in turn complained that
residents of Tbilisi have not paid for more than $30 million of
natural gas already delivered. GOGC's interim manager will remain
in charge until KTG-Tbilisi clears its debts. In the meantime,
KTG-Tbilisi will retain ownership of its assets in Georgia. END
SUMMARY.

GEORGIA TAKES OVER MANAGEMENT OF THE COMPANY


2. The Director General of KTG-Tbilisi, Sanzhar Shokatayev,
promised to cooperate with the new Georgian management, ensuring
that "this decision has nothing to do with politics, and there can
be no talks about seizure of property." Nevertheless, he was
skeptical of the decision, saying, "I doubt that a new management
can change the situation." According to the Georgian National
Energy and Water Supply Regulatory Commission (GNERC),KTG-Tbilisi
has debts of $47.9 million, of which $40.7 million is owed to GOGC.


A DISTRESSED ASSET


3. In May 2006, KazTransGas bought the natural gas distribution
company Tbilgas for $12.5 million, including 2,400 kilometers of gas
pipeline and associated transportation and distribution
infrastructure. Although Tbilgas had no debt when KazTransGas made
its acquisition, its distribution network was built during the
Soviet era and was rapidly deteriorating. During its first year of
operation, the company incurred significant losses of natural gas
due to leaky gas pipelines and outright theft. In 2006, losses
totaled 42 percent of total gas consumed, but this was reduced to 13
percent by August 2008, partly due to a new partnership with
U.S.-based Climate Capital Change.

KAZTRANSGAS INSISTS INVESTMENT WILL PAY DIVIDENDS


4. KazTransGas said on March 25 that it has invested more than $100
million in KTG-Tbilisi to buy new meters, construct new gas
distributing stations, purchase equipment for the technical
diagnosis of gas pipes, and develop technical staff. In its first
year of operation, KTG-Tbilisi revenue totaled $26.5 million; two
years later, revenue tripled to $75 million. KTG-Tbilisi annually
sells more than 300 million cubic meters of gas to 300,000 Tbilisi
residents and 5,000 companies, which comprise 37% of the Georgian
gas market.

KAZTRANSGAS CONSIDERING INTERNATIONAL ARBITRATION


5. On March 25, KazTransGas announced that it is reviewing a
Georgian court decision to replace the company's management and may
go to international arbitration to appeal the ruling. On March 16,
a city court in Kutaisi endorsed GNERC's decision that day to
appoint a special administrator to run KazTransGas-Tbilisi. The
court ruling was made without company representatives present. In a
press statement, KazTransGas said it "finds the decision of the
regulator invalid and the steps it took premature and unjustified."
KazTransGas said it had not violated its licensing agreement and
announced that it will review the court decision to determine
whether it constitutes a breach of contract. KTG said it may
ultimately file an appeal with an international arbitration court,
although KMG President Kairgeldy Kabyldin said on March 25 that
Kazakhstan would prefer to settle the dispute out of court. "We
have no desire to initiate litigation," he said at a press
conference. "We have a well-grounded position and we acknowledge

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the mutual obligations." Kabyldin claimed that KMG's Georgian
partners failed to fulfill their obligations. "They first cited the
elections, then the war, as reasons not to raise gas rates. As a
result, (KTG-Tbilisi) began experiencing financial problems and
accumulated debt that we acknowledge, although it cannot be settled
immediately, as Georgia wants," he said.

KAZTRANSGAS READY TO LEAVE GEORGIA


6. Despite early optimism about the company's prospects,
Shokatayev, speaking in October 2008, did not rule out the
possibility that parent company KMG might sell KTG-Tbilisi if it
needed "quick money." On March 25, KMG President Kabyldin confirmed
that intention. He told local press in Astana, "We are ready to
sell Tbilgas, if our investment contributions, including debt
financing and financial support, are paid back." Kabyldin also
promised that KTG-Tbilisi would repay its debts to Georgian
companies according to "a certain time-schedule." He said
KTG-Tbilisi will use funds from Tbilisi clients to settle its debt
for $30 million for gas supplied to the company. According to
Kabyldin, the remaining $10 million is owed to a Georgian bank,
which has demanded expedited payment, which Kabyldin said "runs
counter to our bilateral agreement with the bank."

A SOCAR SQUEEZE PLAY?


7. Kabyldin ruled out the possibility that there may be a political
motive behind the dispute, such as plans by the State Oil Company of
the Azerbaijan Republic (SOCAR) to squeeze KMG out of the Georgian
market. "I don't believe that someone intends to drive a wedge
between KazMunayGas and SOCAR," he said, noting that cooperation
between the two national oil companies is increasing. "We have
agreed with SOCAR on Baku-Ceyhan and we have a plan to boost transit
shipment via Baku-Batumi," he added. However, he noted somewhat
ruefully that KazTransGas' losses increased sharply due to the price
increase for gas from SOCAR. "If they really want to help Georgia,
why sell gas to Georgia at such a horrendously high price? SOCAR
sells gas to Russia and Ukraine at $280 per thousand cubic meters,
while it offers gas to Georgia at $400 per thousand cubic meters.
This is ridiculous," he said, "such a price does not exist."
Kabyldin emphasized that both Azerbaijan and Georgia are interested
in the transit of Kazakhstani oil. "Georgia, Kazakhstan, and SOCAR
are all interested in the transportation of Kazakhstani oil though
their pipelines. This will yield bigger returns than a one-time
profit from reselling KazTransGas-Tbilisi and ousting KazMunaiGas
from Georgia," he said.


8. KTG-Tbilisi has struggled with nonpayment from corporate and
residential customers. In addition, the company has had tense
relations with political parties and non-governmental organizations
in Tbilisi, particularly when it forced customers to settle their
debts and raised gas tariffs. On December 9, 2008, the leader of
the Georgian Labor Party, Paata Jibladze, accused KTG-Tbilisi of
forcing Tbilisi residents to replace old meters with new ones at
their own expense. At a press conference, he said, "We demand that
the actual owner of KazTransGas, Nursultan Nazarbayev, withdraw his
company from Georgia, so that the residents of Tbilisi can manage
this strategic object on their own."

MILAS