AZERBAIJAN: SHAH DENIZ PHASE TWO GAS -- MORE,

C O N F I D E N T I A L SECTION 01 OF 02 BAKU 000144

SIPDIS

E.O. 12958: DECL: 02/21/2019
TAGS: PGOV PREL AJ ENRG TU
SUBJECT: AZERBAIJAN: SHAH DENIZ PHASE TWO GAS -- MORE,
LATER THAN EXPECTED; "EUROSTREAM" OPTION?

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


1. (C) SUMMARY. According to BP Azerbaijan executives, gas
production from the second phase of the giant offshore Shah
Deniz gas field will be approximately sixteen billion cubic
meters annually, higher than expected. However due to
inability to reach agreement with Turkey on a gas transit
regime, the Shah Deniz Consortium that controls the field is
drastically slowing down this phase's development, such that
'first gas' will be early- to mid-2016 at the earliest. Shah
Deniz Consortium member StatoilHydro claims that the
Consortium would have "no problem" selling its gas to or
transporting it through Russia, and discusse the advantages
of a "Eurostream" pipeline from zerbaijan to Europe via
Russia as an alternativethat is being explored. END SUMMARY.


2. (C) On February 24 Ambassador Derse met with BP Azerbaijan
President Bill Schrader (strictly protect throughout) in a
semi-regular update provided by BP to the US and UK
Ambassadors. Also present were UK Ambassador Carolyn Browne,
BP Azerbaijan Communications and Government Affairs VP
Seymour Khalilov, the US and UK Embassies' respective energy
officers, and visiting Department Azerbaijan Desk Officer
John Cooney. On February 27 Cooney and Energy Off met with
StatoilHydro Azerbaijan President Kristian Hausken.

SD2 = 16 BCM/A, 2016 AT EARLIEST


3. (C) An upbeat Schrader said that BP had recently received
results from a second appraisal well drilled in the Shah
Deniz offshore gas mega-field, confirming upside estimate
of approximately 16 billion cubic meters annually (bcm/a),
approximately three to four bcm/a higher than previous
estimates. Although this news was not public yet, he said it
would be announced soon.


4. (C) Schrader said that the Shah Deniz (SD) Consortium
partners were executing a "change in strategy," due to both
the ongoing inability to secure commercially viable gas
transit through Turkey and also due to lowered oil and gas
prices. The SD partners were "fully aligned" on this
strategy, with the understandable exception of Turkey's TPAO
(NOTE: The Shah Deniz Consortium partners are: BP and
StatoilHydro, each with 25.5 percent; Total, Socar, LukAgip
and NICO (Iran),each with ten percent, and TPAO with nine
percent). Dubbing it "Go Slow to Go Fast," the SD Consortium
had decided to drastically slow down the Consortium's "spend
rate" on SD2 development in 2009 with the aim of putting
pressure on Turkey to move to agreement on the transit terms
necessary to move ahead with development of the field. As
such, the earliest possible date for SD2 first gas was now no
longer 2014 but rather early- to mid-2016.


5. (C) Schrader said that Azerbaijan President Ilham Aliyev
might not yet be aware of this latest SD2 'first gas'
estimate, as high-level BP executives might have mistakenly
given him an earlier, 2014 'first gas' date while at Davos.
More generally, Aliyev appeared quite enthusiastic about
ongoing cooperation with BP in these Davos talks, talking
positively to BP executives about the possibility of the
AIOC Consortium (developer of the existing offshore ACG oil
mega-field) developing ACG non-associated gas (aka ACG "Deep
Gas" - the gas reserves lying under the ACG field currently
being developed by the Consortium),and about extending the
existing PSA with the AIOC Consortium, allowing it to
increase its investments in the field so as to increase
overall field production.


6. (C) Schrader said that before the Consortium sought to
develop SD2, it would seek to exercise a clause in the
existing PSA that would push back its expiration date five
years from 2030 to 2035. Such an extension would only
require SOCAR consent, which he seemed to think wouldn't be a
problem. The SD Consortium might seek a longer extension,
were it to decide to develop deeper, pre-Fasila reserves.


7. (C) StatoilHydro Azerbaijan President Hausken said he was
"less optimistic" about Shah Deniz Phase Two (SD2)
development than previously, due to the "dramatic failure"
of political efforts in Azerbaijan and Turkey to solve the
deadlock. He specifically alluded to the early December 2008
incident when GOT Energy Minister Guler invited SOCAR
President Abdullayev to Ankara, only to keep him waiting for
most of the day, as indicative of the "disrespectful"

BAKU 00000144 002 OF 002


behavior that led to such a failure. StatoilHydro was
similarly disappointed in the level of EU analysis and action
in regards to the Southern Corridor, and uncertain of what
exactly the "EU agenda" was. Repeating a point made earlier
by SOCAR, he said that the EU and the USG should be focusing
efforts on securing commercially viable transit through
Turkey for Caspian gas, vice lobbying for specific pipeline
projects.

EUROSTREAM


8. (C) In referring to the SD Consortium's current decision
to drastically decrease spending on SD2 development, Hausken
said that getting SD2 gas to the Georgian-Turkish border
alone would cost USD 17 billion. The existing SCP pipeline
to this border could handle up to 30 billion cubic meters
annually (bcm/a),with modifications. However, it was still
unclear whether a new gas trunk line would have to be built
through Turkey to handle SD2 volumes, or whether anticipated
volumes could be accommodated by "piecemeal strengthening" of
the existing Turkish gas grid. Hausken said if a new 30
bcm/a gas trunk line were to be constructed for Nabucco,
anticipated gas volumes would fill at first only 30 percent
of capacity at most. As such, either the EU would have to
subsidize construction and operation, the tariff would have
to be higher than normal, or the price would have to be above
market price. The latter two options were quite unlikely,
leaving EU pipeline subsidy the sole remaining option.


9. (C) Saying that "none of the SD Consortium partners had
any problem with Russia" as a commercial partner, Hausken
produced a map showing an alternative pipeline for SD2 gas,
called "Eurostream." This pipeline would start in
Azerbaijan, go north through Russia while avoiding Georgia,
cross the Black Sea in a route parallel to the planned
"Southstream," entering Europe in Bulgaria then going south
to Greece. Such a pipeline, 42 inches wide with a 20 bcm/a
capacity, would be relatively easy to build both
geographically and geopolitically, and would "please everyone
but Turkey and Georgia."

TURKMENISTAN WAITING


10. (C) Hausken next talked about his recent trip to
Turkmenistan, where he met with Energy Minister Orazgulyyew,
State Hydrocarbon Agency Head Kakayev, Turkmenneft President
Khajimuradov, and Deputy Prime Minister Taqiyev. He got the
impression that while the GOTX hoped to become part of the
value chain that exported GOAJ gas to Europe, it was first
"waiting to see" if Azerbaijan would be able to export its
gas to Europe through Turkey before moving any closer towards
committing Turkmen gas to western export.


11. (C) COMMENT: Doubtless StatoilHydro's mention of
"Eurostream" (the first we've heard of such an option) was
intended at least partially to motivate the USG towards
pressuring the GOT to grant transit to SD2 gas. Previously,
SOCAR has assured USG interlocutors that regardless of what
it hears in the media, SOCAR will 'never' sell SD2 gas to
Russia. However, SOCAR-Gazprom relations have improved
markedly since their low point in December 2006, when Gazprom
unilaterally canceled an existing gas supply contract to
Azerbaijan, then offered the same gas for double the price.
In this light, SOCAR is involved in serious discussions with
Gazprom to sell approximately two bcm/a of non-Shah Deniz gas
to Russia for use in Daghestan as part of a 'swap deal' where
it would get an equivalent amount from Gazprom in Europe.
Other deals could be in the works, though Azerbaijan's
leadership still very clearly prefers non-Russian,
non-Iranian energy export corridors to the West. END COMMENT
DERSE