Kashagan Oil Bubble: Project Failures and Consequences

In April 2017, Crude Accountability presented the report, “The Kashagan Oil Bubble. The Case of an Offshore Field Development in Kazakhstan.” The report examines the main reasons that led to the failure of the Kashagan oil field development project promoted by the government of Kazakhstan.For your convenience, we publish a condensed version of that report outlining the said issues with Kashagan. The full report can be found here. The condensed version is also available in PDF.

Kashagan Report Highlights

After the Soviet Union collapsed in 1991, Kazakhstan gained independence and ownership of its rich hydrocarbon reserves. External players suddenly began to show interest in the energy potential of the Caspian Sea, whose oil and gas reserves acquired international and political significance.[1] Attracted by Kazakhstan’s location between the current and emerging markets for oil and petroleum products in Europe and Asia,  hosts of large and small companies, influential lobbyists and senior officials, entrepreneurs and dealers rushed into the country to fight for control of the Caspian energy resources.[2]

Playing this geopolitical game in the Caspian Sea required that the region be generally recognized as rich in oil. Inflated expectations concerning the region’s energy reserves first appeared in the 1990s following publications by Western think tanks and government agencies highlighting global significance of the Caspian Sea’s hydrocarbon potential and comparing it to the Persian Gulf and North Sea.[3] These estimates, however, ignored Russian experts’ calculations and the findings of many distinguished experts from Azerbaijan and Kazakhstan, which radically differed from the estimates of both local politicians and foreign experts regarding the oil reserves and production outlook of the Caspian Basin.[4]

The decision to start the development of Caspian offshore reserves was made in 1992 pursuant to President Nazarbayev’s instructions.[5] The protected territory status of the North Caspian was promptly amended. The Kazakh Government’s Resolution of September 23, 1993 lifted the ban on oil exploration and production.[6]

In 2000, Kashagan was officially launched with promises that commercial production would start in 2005.[7] In 2015, according to the State Program for Development of Kazakhstan’s Sector of the Caspian Sea, oil production from Kashagan was projected at 60 million tons.[8] Kazakhstan had aspired to join the top ten oil-producing states, and the Kashagan project was hailed as the dawn of a new era in cooperation between oil-rich countries and Western companies.[9] Instead, Kashagan has been plagued by budget blowouts, engineering missteps, and scandals. The project is years late, almost ten times over budget and full-blown extraction has not yet begun.[10]

Agip,  the “daughter” company of the Italian company Eni, was assigned to be the field operator of the first phase of work at Kashagan in February 2001.[11] As Western experts admitted later, Agip was not the best choice. According to prosecutors in Milan investigating Eni’s alleged international corruption in 2012,  Eni was suspected of major bribery at the time the Kashagan agreement was signed: it was reported that a bribe of at least $20 million was paid to Kazakh policy-makers at phase one of the Kashagan project.[12]  It also became known that in addition to making planning mistakes during the project implementation phase, Agip purchased goods and services at inflated prices from its subsidiaries and affiliates located outside of Kazakhstan’s jurisdiction.[13] Tasks that could have been performed by Kazakh companies were instead commissioned to foreign sub-contractors whose services were much more expensive. Agip also made a number of costly planning mistakes that increased the price of the already expensive project.

And finally, Agip was accused of having charged twice for the same construction work at the Bolashak gas treatment plant; the stated expense of $110 million was to be reimbursed from future Kashagan oil revenues.[14] A criminal investigation was opened, but eventually dropped, as “compensation for damages has been provided.”[15] The overall effect was not only higher costs, but a reduction of the taxable base, adversely affecting Kazakhstan’s fiscal interests. [16]

In 2012, CNN Money rated Kashagan the world’s most expensive energy project at $116 billion of investment.[17] As part of this sum, the consortium spent $46.3 billion, as of March 2012, on phase one of the Kashagan project.[18]

Deadly rush

In order to speed up oil extraction, the consortium used fast-track methods, thus violating safety rules in this already technologically challenging project. The rush reflected on the project’s technical readiness for start-up as serious issues were found during the commissioning operation.[19] In November 2012 at Bolashak, pressure testing at half the planned capacity blew a valve off a tank designed to contain traces of hydrogen sulfide. Had such an accident occurred during actual operation, with hydrogen sulfide instead of water in the pipe, the deadly gas emission would have been lethal for the plant personnel.[20]

 In addition to technological controversies, disputes erupted over the fact that the consortium was pushing the limits on the project’s environmental impact, which also ended in scandal. The planned amounts of hazardous emissions at Bolashak exceeded by several-fold the estimates produced at the Environmental Impact Assessment (EIA) stage.[21] The main reason for excessive emissions was gas flaring, which the company had added to the originally approved design in violation of applicable laws. On top of that, the company was actually planning to flare much higher volumes of gas than officially stated,[22] with toxic compounds in emissions expected to reach 61,000 tons in 2013.[23] The consortium also expected emissions to increase for two more years after the launch.[24]

Also, the issue of storage and disposal of sulfur generated by oil and gas refining operations at Kashagan was the subject of heated debate.[25] According to calculations made by consortium experts, once production was launched, Bolashak would produce more than 1 million tons of sulfur per year. Six sulfur pads were built on the facility and permissions obtained for the storage of 4 million tons of sulfur.[26] As a result of pressure from the public and from experts, it was decided that sulfur at Bolashak must be stored in sealed insulated boxes.[27]

In the spring of 2012, it was reported that Agip had been dumping toxic wastewater from the hydro-testing of pipes at Bolashak into the municipal sewage system in the city of Atyrau.[28] The wastewater contained toxic substances in amounts exceeding by ten- and hundred-fold the maximum permissible concentrations.[29] Another public concern was the unpreparedness of both the consortium and government agencies for a major oil spill. Still unresolved was the issue of liability for consequences of a potential accident at Kashagan, in particular, who was going to compensate for the damage done to nature and to people’s lives and health.

Bursting at the seams

And then came the reckoning day for Kashagan. After numerous delays, oil production started on September 11, 2013…and almost immediately stopped. Scheduled testing on September 24 found a gas leak from a ground pipeline near Bolashak. The operation was halted, and the residual gas was flared at the field’s onshore and offshore facilities.[30] Production was resumed on October 6[31] and then stopped completely on October 9 after a functional failure at Island D facilities.[32] On October 14 and 16, gas leaks were discovered in other parts of the pipeline. In total, oil production from Kashagan was at 320,000 barrels before it stopped.[33]

In the period following its launch, some 2.8 million cubic meters of gas had to be flared at Kashagan due to accidents and failures.[34] In reality, even more gas must have been flared, since following the second accident, the company shut off its air monitoring equipment without giving any reasons.[35] Later, the consortium was fined 134.2 billion tenge or more than $730 million for excessive gas flaring.[36]

At first, both the consortium and government officials only admitted minor failures, but it soon became clear that a major disaster had occurred: the pipelines had literally burst at the seams.[37] The accident involved the pipelines designed to transport oil and gas from Island D to Bolashak. Most experts who have worked at the site are convinced that neither the offshore nor the onshore facilities were ready for commercial oil production in 2013.[38]

By preliminary estimates, the total cost of “recovery operations” stands at $4 billion. Combined with the money already spent, this makes Kashagan the most expensive project in the history of the oil industry.[39]

As for the environmental damage from gas flaring during the test run, Kazakhstan has “written off” a multi-billion-dollar environmental penalty for which the consortium was liable.  For three years, Kashagan, the most expensive project in the history of oil production, “healed its wounds,” or rather, buried billions of dollars’ worth of new pipes. Finally, on September 28, 2016 the consortium tested its equipment both at sea and on land.  On October 14, the first oil for export was launched It is going to take a while for a sustainable work regime to be underway.[40] Although the uncertainty of stable extraction is, as it was before, great.

While the country’s top officials remain hopeful, international rating agency Standard & Poors no longer counts Kashagan among factors it takes into account in forecasting Kazakhstan’s economic development due to repeated delays with the field’s commissioning.[41]

Victims of Kashagan

The project that is not operating at full speed is already creating its first victims: the local wildlife and residents. Since the beginning of Kashagan and other offshore field’s development, there has hardly been a year without accidents killing the Caspian Sea’s marine fauna. The circumstances of Caspian seals’ massive deaths suggest that the animals fell victim to development of Kashagan. Local people are also in danger. The construction of Bolashak caused water shortages in the Makat district of Atyrau region. After the sewage dump scandal, management of the Atyrau refinery prohibited Agip’s subcontractor from dumping toxic waste into their evaporation ponds, as the oil-saturated wastewater had caused fires. However, dumping in a new location in Atyrau did not last long as municipal drainage pipes soon got clogged by hardened oil products, outraging local residents and utility companies. As a result, the company reportedly switched to dumping wastewater outside the city and thus continued poisoning the environment. 

Oil dreams of Kazakhstan shattered due to the failures of the Kashagan development and the overall oil global market changes. One of the main image projects of the country became the international leader in inflation of estimates, miscalculations and scandals. The failure of Kashagan also resulted in the collapse of Kazakhstan’s economic strategy, which was too reliant on the rich hydrocarbon resources of the Caspian Sea. Further development of Kashagan may result in serious economic losses for Kazakhstan and cause a regional environmental disaster.

 

 

[1] Diana Ayvazyan, “Uglevodorodnyi potenstial Kaspiiskogo regiona. Otsenki na regionalnom i mezhdunarodnom urovnyakh,” INION, Moscow, 2010.

[2] Akhmed Butaev, “Kaspii: status, neft’, uroven’,” http://caspiy.net/knigi/kaspij-status-neft-uroven/29-kaspij-status-neft-uroven-1-protivostoyanie.html, 1999; Kaspiiskaya neft’,   http://www.caspiy.net/dir3/sol/sol4.html, 17.09.2014.

[3] Sergey Zhil’tsov, Kaspiiskaya energeticheskaya igra,”  http://www.ng.ru/ng_energiya/2014-01-14/11_kaspiy.html, 14.01.2014.

[4] El’mar Guseinov, “Afera veka,” Monitor, 20.09.2003; Yaroslav Razumov, “Ni Kuveita, ni Venesuely iz Kazakhstana ne vyshlo,” http://www.respublika-kz.info/news/politics/29979/, 22.04.2013.

[5] Gani Karin, “Osvoenie Kashagana—zadacha grandioznaya,” http://ogni.kz/rubrika/lyudi-tvoi-mangistau/osvoenie-kashagana-zadacha-grandioznaya.html, 25.12.2013.

[6] Glavnye ekologicheskie problemy Kaspiiskogo morya, http://www.biodiversity.ru/programs/seal/publications/soes20020709.html, 17.11.2014.

[7] Guy Chazan, “Cash All Gone, [In Caspian, Big Oil Fights Ice, Lethal Fumes — and Kazakhs],” Wall Street Journal, 28.08.2007.

[8] Gosudarstvennaya programma osvoeniya kazakhstanskogo sektora Kaspisskogo morya, 2003, http://adilet.zan.kz/rus/docs/U030001095_, 17.11.2014.

[9]  Selina Williams, Géraldine Amiel, Justin Scheck, “Developed by Western Oil Companies, Giant Project Off Kazakhstan Is Years Late, More Than $30 Billion Over Budget,” The Wall Street Journal, 31.03.2014.

[10] Ibid.

[11] Guy Chazan, “Cash All Gone, [In Caspian, Big Oil Fights Ice, Lethal Fumes — and Kazakhs],” Wall Street Journal, 28.08.2007.

[12] Mariya Malysheva, “Eni popalas’ na vzyakte v Kashagane,” http://m.gazeta.ru/business/2012/05/10/kz_4578673.shtml, 10.05.2012.

[13] Nurlan Bakhtygerei, “Dolgaya istoriya Kashagana, Ital’yanskaya Eni ne soblyudaet usloviya kontrakta,”  http://titus.kz/?previd=1458, 03.09.2007.

[14] Lev Guzikov, “’Adzhipu’ predyavleno obvinenie v moshennichestve na 110 millionov dollarov,” http://azh.kz/ru/news/view/5558, 22.11.2010.

[15] “Kompaniyu Agip KCO, obvinennuyu v moshennichestve na mnogomillionuyu summu, prostili,” http://www.diapazon.kz/kazakhstan/kaz-economy/35886-kompaniju-agip-kco-obvinjonnuju-v-moshennichestve.html, 18.02.2011.

[16] Nurlan Bakhtygerei, “Dolgaya istoriya Kashagana, Ital’yanskaya Eni ne soblyudaet usloviya kontrakta,”  http://titus.kz/?previd=1458, 03.09.2007.

[17] Laura Suleimenova, “Kashagan: uprostili sistemu,” http://azh.kz/ru/news/view/30201, 03.07.2015.

[18] Olzhas Baidil’dinov, “Kashaganskii gambit,”  http://expertonline.kz/a831/, 15.10.2012

[19] Sergey Smirnov, “Kashagan: smena karaula?”  http://www.kazakhstan-oil-gas.com/ru/analitika/4949-kashagan-smena-karaula.html, 13.09.2010.

[20] Oksana Martynyuk, “Ekologi trizhdy perekrestili Kashagan,” Kursiv, 13.12.2012.

[21] Saule Tasbulatova, “Sernyi dozhd’ na vashi golovy,” http://azh.kz/ru/news/view/12829, 05.12.2012.

[22] Artur Shakhnazaryan, “Kashagan mozhet stoit’ 200 tysyach zhisnei?”   http://www.respublika-kz.info/news/business/27455/, 13.12.2012.

[23] Ibid.

[24] Ibid.

[25]  The Republic of Chevron—20 Years in Kazakhstan, Crude Accountability, 2013, http://ru.crudeaccountability.org/respublika-chevron-20-let-v-kazaxstane/.

[26] Laura Suleimenova, “Osennyaya progulka po ostrovam,” http://azh.kz/ru/news/view/12080, 15.10.2012.

[27] Ibid.

[28] Oksana Martynyuk, “Agip KKO poimali na slivakh,” Kursiv, 21.06.2012. 

[29] Oksana Martynyuk, “Ekologi trizhdy perekrestili Kashagan,” Kursiv, 13.12.2012.

[30] Saule Tasbulatova, “Po vsem shvam,”  http://azh.kz/ru/news/view/22678, 26.08.2014.

[31] Ibid.

[32] Ibid.

[33] Ibid.

[34] Zlata Manzhevskaya, “Kashagan obzhegsya na kislote,” Kursiv, 15.05.2014.

[35] Zlata Manzhevskaya, “Igra vokrug Kashaganskogo provala,” Kursiv, 20.02.2014.

[36]  Zlata Manzhevskaya, “Kashagan Obzhegsya na kislote,” Kursiv, 15.05.2014.

[37] “Truba—Kashaganu,” http://www.ratel.kz/, 16.02.2015.

[38] Saule Tasbulatova, “Tuchi nad Kashaganom,” http://azh.kz/ru/news/view/17579, 13.11.2013.

[39] Kseniya Gur’evskaya, “Stalo izvestno, pochemu rastreskalis’ truby na Kashagane,” http://liter.kz/ru/articles/show/6793-stalo_izvestno_pochemu_rastreskalis_truby_na_kashagane, 05.02.2015.

[40] “Neft’ s Kashagana poshla na eksport,”  https://kapital.kz/economic/54413/neft-s-kashagana-poshla-na-eksport.html, 14.10.2016.

[41] “S&P isklyuchilo Kashagan iz reitingovykh faktorov dlya RK iz-za sryvov srokov, IA Novosti-Kazakhstan, 20.10.2015.