Nationalisation in Kazakhstan.The Taming of the Shrew
By Sergey Smirnov
When prices of energy resources grow sharply, countries that are rich in oil and gas start to behave independently and toughly, limiting foreign investors’ access to their hydrocarbon reserves. For example, foreign companies’ share in developing the world’s oil and gas resources stood at 85% in the 1960s, whereas this share has now fallen to 16%. Multinationals have to give in to pressure from national governments – they have no other choice because there are no large free fields either. Some countries – such as Russia, Venezuela and Bolivia – are currently nationalising the energy industry and it seems that Kazakhstan has also joined this process, starting to return the ownership of a number of facilities that are important for the economy to the hands of the state.
Indeed, there is plenty of scope for manoeuvring here. Between 1991 and 2006, over 39,000 state-owned facilities, including 3,700 state stakes in joint stock companies and over 36,000 enterprises, pieces of property, unfinished construction sites and so on, had been sold to private hands. Moreover, foreigners, as a rule, received pure assets of enterprises without their debts and losses. Revenue from privatisation stood at 350 billion tenge in that period (this sum is, of course, incomparable to the real cost of the enterprises sold).
The experience of other CIS countries has shown that no-one has managed to receive big sums of money from privatising energy systems. Actually, enterprises were sold for a faction of their real cost because of desperation: the state could not manage either to run the energy sector or to develop fields. At the same time, buyers, who at the time promised the moon, have failed to fully fulfil their investment obligations everywhere. And this is understandable. Basic assets are very expensive in the energy sector, which means large amortisation payments for repairing and recovering them. Using these funds for other reasons over several years enabled new owners to cover all their payments for the already cheap privatisation.
As a result, it is no surprise that the latest amendments to the Tax Code, the law On Subsoil and Subsoil Use and environmental protection legislation have tightened requirements for foreign investors. The requirements includes the state’s right to claim half of any new project and on secondary markets, a ban on reselling mining licences within two years, the Environmental Protection Ministry’s steps to tighten control, the compulsory requirement of attracting "Kazakh content" and using the factor of national security as a reason for refusing to issue a mining licence.
One of the first steps taken by the Kazakh government to return energy assets was the nationalisation of the uranium sector and its consolidation into one enterprise – the Kazatomprom national atomic company – in 1997. This national company, which now employs over 23,000 people, is a holding company that manages six main aspects of activities: geological prospecting, uranium extraction, metallurgy, power engineering, scientific back-up of production and retraining specialists. This decision has significantly strengthened Kazakhstan’s position on the world market.
The country’s uranium reserves total about 1.5 million tonnes (over 20% of the world’s total reserves), while the cost of extracting uranium is one of the world’s lowest. At the same time, Kazakhstan does not have its own nuclear power plants, so the entire uranium output is being exported now.
Kazatomprom has set up a number of joint ventures to extract and process uranium with foreign companies: Canada’s Uranium One and Cameco, Japan’s Sumitomo and Kansai Electric Power, France’s Areva and Russia’s Effective Energy NV. Joint ventures were set up according to the principle of exchanging assets for access to nuclear and fuel production and new markets for the Kazakh company.
Kazatomprom intends to invest $600m in building new and developing existing mines, and this will enable the company to produce 18,700 tonnes of uranium a year by 2010 and become the world’s leading uranium producer.
“Lost Paradise” of Kashagan
All state-owned assets in the oil and gas sector are combined into the KazMunayGas national oil and gas company, which accounts for 15% of the country’s total oil output. In addition, the national company has stakes in Tengizchevroil (20%), Kazakhoil-Aktobe (50%), Kazgermunay (50%), Kazakhturkmunay (51%) and other oil and gas enterprises. According to KazMunayGas, the company’s current oil and gas reserves total 615 million tonnes. However, many of them are not just hard to recover, but also have already peaked, which is why KazMunayGas has a lot of interest in projects to explore new fields.
Kazakhstan is pinning high hopes on three Caspian offshore fields – Kurmangazy, Central and Khvalynskoye – in which it owns 50% in each. However, they, like Tyubkaragan, have not yet produced positive results. As a result, the only jewel in the country’s oil crown is Kashagan so far.
In autumn 1998, Kazakhstan sold its stake (14.29%) in this field to two new members of the North Caspian Project – Japan’s Inpex and the USA’s Phillips Petroleum Co – for $500m. In spring 2005, the state with great difficulty only managed to buy back 8.33% of shares owned by the outgoing BG from the Agip KCO consortium, but for $630m. This is not the only example of “doing business in the Kazakh way”. For example, Almaty’s power engineering sector was sold to Belgium’s Tractebel for $7m in August 1997, whereas it was bought back for a far higher sum. As a result, Kashagan is a “lost paradise” of its kind for the Kazakh authorities. That is why there is growing pressure on the consortium.
Of course, the ghosts of Bolivia’s Evo Morales and Venezuela’s Hugo Chaves frightens the Agip KCO consortium’s investors, especially when one of the members of the project, Royal Dutch/Shell, has already faced an upsetting experience in Russia when it had to concede half of involvement in a Production Sharing Agreement to Russia’s Gazprom. Of course, the authorities’ conflict with the consortium will not follow the “Sakhalin scenario”: without either specialists or necessary technology to develop complicated fields, KazMunayGas will not be able to develop Kashagan independently. However, with the help of the levers of power it will quite easily manage to achieve changes in its favour in the contract.
It is suffice to recall how quickly the usually sluggish state machinery passed changes in oil legislation to ensure an advantageous right to buy the share of Britain’s BG in the North Caspian Project and oil fields owned by Canada’s PetroKazakhstan. For example, the case of the latter when former owners had to sell it off due to constant fines and suspensions of production clearly show how environmental protection legislation could be used to replace one investor with another investor, who is ready to offer Kazakhstan a share in the project. Let us recall that the new owner of the company, the CNPC International Ltd handed over 33% of shares in PetroKazakhstan’s oil refinery and 50% in its subsidiary Kazgermunay to KazMunayGas.
Countdown for Samruk?
By a decree issued in January 2006, the head of state set up the Samruk holding company which is now managing state stakes in the whales of the domestic economy, such as Kazakhtelecom, Kazpost, the KEGOC power grid company, KazMunayGas and Kazakhstan Temir Zholy railway company. Samruk now combines over 300 legal entities, in which it is playing the role of an “active shareholder”, which does not get involved in operating management but only in strategic decision-making. For example, Samruk has already started to defend the state’s interests in four power companies, whose assets have been transferred to its long-term concession and trust managements. These are the Yekibastuz Electric Power Centre, the Ust-Kamenogorsk, Shulba and Bukhtarma hydroelectric power stations.
The new head of Samruk, Kanat Bozumbayev, has said that “these facilities are very attractive and there will be long negotiations, court and, possibly, arbitration trials. However, the holding company will definitely try to break off these contracts or at least amend them to make it possible to protect the state’s interests in the activities of the enterprises”.
In particular, in May 2007, Samruk initiated a legal case to terminate an agreement with Access Industries on the temporary management of 50% shares in the Yekibastus-2 thermal power plant, and this decision was also upheld by a court of appeal in September. Later, Mr Bozumbayev told a government meeting that “the state should ensure its shares in mining contracts on major coal fields in Kazakhstan”. The next target is the USA’s AES.
This power company owns AES-Yekibastuz (the Yekibastuz-1 thermal power plant) and the Ust-Kamenogorsk and Sogrinsk thermal and heating plant in Kazakhstan. In addition, the AES has a 20-year-long concession over the Ust-Kamenogorsk and Shulba hydroelectric power stations. In 1999, the AES’s subsidiary Silk Road was given two regional power distribution companies (East Kazakhstan and Semey companies). The AES also owns the Maykuben coal mine.
The Kazakh government has charged the AES with violating antimonopoly legislation and intends to fine this company to the tune of $198m. Experts believe that this fine, which equals the AES’s investment in the Kazakh economy, opens up prospects for taking away part of its power assets and nationalising them through handing them over to Samruk. Let us note that in February-March 2007, the AES had already been accused of violating antimonopoly legislation and the Kazakh authorities recovered about $22m from it in June.
On the other hand, Kanat Bozumbayev promised to get rid of all non-core assets. Speaking at a meeting of the Mazhilis’s working group on drafting the law On the Central Budget for 2008 in September, he said: “We will sell off all non-core assets, which have nothing to do with the main activities of the Samruk group of companies.” This move causes bewilderment. The issue is that national companies that are included in Samruk had already taken measures to get rid of non-core assets. It seems that after their merger into one structure there will be another campaign to transfer part of their assets to individuals concerned, despite the fact that the state holding company needs to exert control over these companies in order to, above all, achieve long-term tasks of national significance.
The Country of Frightened Investors
The latest package of amendments to the law On Subsoil and Subsoil Use was passed by the Kazakh parliament in record time: they were endorsed by the Mazhilis on 26 September and by the Senate the following day. These amendments granted the Kazakh government the right to unilaterally change or terminate contracts in the energy sector to “protect national interests and ensure Kazakhstan’s economic security”.
The foreign investors’ community (the Foreign Investors’ Council, the Kazakhstan Petroleum Association, the International Tax and Investment Centre, the US Trade Chamber in Kazakhstan and the European Business Association of Kazakhstan) have even written a collective letter to the Kazakh leadership to express “serious concerns” about the proposed amendments.
The head of the Bracewell & Giuliani LLP law firm, Gregory Vojack, commenting on these amendments, said backstage at the KIOGE international conference: “If the Senate endorses and the president signs these amendments, they will have very serious and far-reaching consequences.” At the same time, he noted that “new legislation was adopted to show foreign investors that they should fulfil their obligations, if investors want the state to do the same thing and respect the provisions of contracts”, pointing to the absence of a provision about compensation in case of nationalisation.
It seems that investors’ concerns about the Kazakh authorities’ intention to bring the entire market economy of the country under their control are groundless. The state has the right to return assets that have been handed over to investors in the following cases:
· If enterprises have been privatised with serious violations of the existing legislation;
· enterprises have been sold by the state to investors for unjustifiably low prices;
· If owners of facilities are not fulfilling obligations stipulated in contracts.
Of course, “nationalisation” will be selective in nature, while the owners of nationalised facilities will be paid compensation. This is understandable. Otherwise, investors will leave Kazakhstan en masse, and the country will not be able to ensure the development of its resources independently, especially when many fields are, in many terms, complicated for exploitation and have poorly-developed infrastructure.
The danger lies elsewhere: our bureaucrats may get too involved in the process and start illegal seizures of enterprises. The situation around the Karagandy-Nan company can serve as an example. Despite the fact that the legality of the privatisation of this company has been proven by courts of all levels, including the presidium of the Kazakh Supreme Court, Interior Minister Baurzhan Mukhamedzhanov, said in April 2007, speaking at the Senate: “I believe that the property of Karagandy-Nan should be given no-one, but the state…” This is unbelievable, given that the Interior Ministry has neither mechanisms nor powers to consider, let alone decide on strangers’ property.
On 24 October, President Nursultan Nazarbayev (without listening to concerns of investors about “extreme freedom of action the amendments grant government bodies”, and, possibly, unsatisfied with negotiations on Kashagan) signed the amendments to the law On Subsoil and Subsoil Use. However, their adoption will not necessarily lead to increasing political and economic risks for foreign capital. The amendments bring risks of protracted legal actions in international courts of appeal and will mostly likely play the role of a stick, strengthening Kazakhstan’s positions in negotiations in conflicts with shrew investors.
As a result, we believe that the policy on returning some assets under the state’s control, on the one hand, points to the authorities’ desire to take a greater part in major energy projects and reflects the national bourgeoisie’s desire to obtain access to the raw material pie which had been earlier given to foreign investors; on the other hand, it represents a certain reaction to the moods in society, in which the criticism of Western companies, despite its populist nature, provokes a brisk response.
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