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Oil: Recent Trends in Caspian Basin Energy Complex

Teymur Huseyinov - 3/7/2006

While Russia’s oil companies fuelled by the global surge in prices are pumping and exporting crude at full steam, its southern neighbors from Central Asia are concentrating their efforts in downstream sector, that is, development, production and marketing of petroleum products. The long-term strategic task is to gain a solid foothold in Russian and European energy markets.

Transformation of vast importance is taking place in petroleum products market of the CIS, a trend left largely unnoticed by the roar of soaring world oil prices. Oil producing states of Central Asia have embarked on a large-scale modernization programs of their refining sector in an effort to improve their regional market shares. In October of last year Uzbekistan started the technological modernization of its Fergana Refinery, which is projected to increase production by 35% and improve the quality of the output. Tashkent hopes to reach an export level of 1 mln tons until the end of this year, majority consisting of “bright” types of fuel. Parallel to this, the pace of modernization and reconstruction of refineries in Turkmenistan, Kazakhstan and Azerbaijan is indeed impressive.

With some differences in indicators for each renewed enterprise, generally as a result of modernization the depth of refining comes close to between 50% and 85%. Although these levels are well below those achieved by the refineries in Northern, Central and Western Europe, they nevertheless, leave behind the majority of their Russian competitors. Within such a conjuncture it is not hard to discern that these countries have entered into competition with Russia for the most promising segments of the petroleum products market, mainly the production and marketing of high-octane fuel, kerosene, diesel oil, and high quality lubricants. Thus a representative from the Turkmen trade corporation Turkmenneftegaz, responsible for management of refining and export of hydrocarbons, stated that under current situation their highest priority is to enhance their positions as the exporter of high quality petroleum and gas products in foreign markets. Achieving that goal will encourage the authorities to successfully solve the strategic task of exporting tens of millions tons of products ranging from regular fuel to polypropylene.

Turkmenistan is clearly ahead of the other Caspian states in developing and implementing its export strategy. Numerically, the ratio of refined crude to the total sum of extracted was 10% in 2002 and 20% in 2003 and almost 28% for the year 2004. Demand for Turkmen oil products is sharply on the rise as it attracts buyers from Europe, North America, East Asia, Middle East, among them the oil giant BP, Glencore International, Swiss Vitol, Argomar Oil of Austria and Japanese heavyweight Itochu. Meanwhile, the export of dark products such as mazut is falling at the average annual rate of 30% while the exit of various types of diesel oil and fuel oil is increasing by the same margin. Demand for lubricants rose for more than 800% (!) in 2004 in comparison with 2003. Last year, for the first time in the post-Soviet era, Russia started importing high-octane fuel from Turkmenistan.

Among the reasons for such a success was the reconstruction of Turkmenbashi Refinery, which up to this point absorbed around $1 bln of direct investments. The first stage of the project was completed in 2002 and currently enables 85% of refining depth in contrast to previous 64%. Additionally, in summer of last year the German Tecknip launched the installation of hydro-cleaning mechanism for the same refinery that will result in production of extra-clean diesel oil. Tecknip project marks the second leg of reconstruction, which aims to increase the refining capacity of the enterprise up to 10 mln tons a year. Among other goals is the production of bright products in accordance with latest EU specifications and standards. Turkmenistan develops its export strategy--continuous increase of the volume of refined crude--in accordance with the prospects of the market rather than formal policies based on the current state of affairs. The official plan is to push the aforementioned volume up to 32 mln tons a year, which is 500% more in comparison with relevant figures of 2004. The “Turkmen way” gives analysts an idea about the most probable directions that the other three states around the Caspian Sea are moving in the sphere of refining.

The neighboring Kazakhstan has crafted two strategic tasks: to stop the import of oil products from Russia and boost domestic export. In mid-1990’s the Shimkent Refinery was reconstructed, which is being fed by the oil developed from the Kumkol area in the southern part of the country. The Atyrau Refinery, which has been undergoing full modernization starting from 2002, is poised to be the base of new volumes of products for export. The refinery is based in Western Kazakhstan not far away from major oil production sites of the country. In this case, the depth of refining is expected to rise to 82% while the production of high-octane fuel will see an increase of 640% by the end of the current year. Production capacity according to official remarks will be 4,6 mln tons per year. Investments-largely from Japanese companies-now total $600 mln and the work is scheduled to be completed by mid- 2006. If realized successfully this project will raise Astana’s chances of exporting to Russia and eventually to European consumers.

What differs Azerbaijan and Uzbekistan in reconstruction and modernization process of their refining industry is that these two prefer to rely more on internal financial resources. The modernization of Azerneftyag Refinery, with production capacity of 14 mln tons a year and the more modern of two refineries in Azerbaijan, has already started. Nevertheless, further investment on modernization is dependent upon the pace and volume of extraction and development of crude in its offshore fields inside the Caspian Sea. For Uzbekistan, the main task is the advancement of technological capacity of refining as many types of crude oil as possible, among them Western Siberian, Kumkol, and Heavy Kazakh. The depth of refining capacity in this particular case had already been improved long before others in the 1990’s.

There is a perception of direct and positive relationship between development of new oil fields and production of an increasing quantity of petroleum products by Central Asia’s governments. Turkmenistan’s long-term plans towards this end are built on the development of new offshore fields in the Caspian shelf. Companies such as Dragon Oil of UAE, Maersk Oil and Petronas are already engaged in significant projects here. The most recent action taken in this regard has been the opening of the talks with the Russian energy giant Gazprom.

Similar to Turkmen legislative method of the use of offshore resources is that of Kazakhstan’s. One of the conditions set for tenders regarding its offshore projects is that 20% of extracted crude should be directed to Kazakh refineries in Atyrau, Shimkent and later Pavlodar with latter currently refining only Russian crude. A source at the state oil company, Kazmunaygaz told the Interfax news agency that Kazakhstan bases its strategy of developing its offshore fields on the long-term plans of improving refining and petrochemical industry. The official stated that after 2015 the country would produce approximately 200 mln tons of oil a year with significant part to be converted to products in the modernized refineries.

Not surprisingly then, Uzbekistan’s president Islam Karimov, issued a decree last year obliging participants of oil projects to refine most of the crude developed inside the country and to export products abroad.

All of the aforementioned actions of state leaders in Central Asia points to the importance of the refining industry for the countries’ strategic export plans as well as for the overall vitality and diversification of their national economies. The advantages that they posses, namely, their proximity to Russian and European consumers as well as the quality of the products are worth bearing in mind. It is these very factors that give these countries an upper hand vis-à-vis their competitors and stimulates investment. It is strongly hoped though that the expected boom will benefit all layers of societies (through fair wealth distribution) in this region and not only the tiny circle of political and business elites.