Caspian Sea Change

As a private helicopter of Russia’s Lukoil swooped low over the Dada Gorgud drilling platform, the proprietary air among Lukoil’s executives would hardly seem a source of comfort for Azerbaijani owners of the great oil wealth gushing up from the Caspian Sea.

But the Russian oil giant’s expanding investments in the newly independent “near abroad” signal a change in Moscow’s strategy for cashing in on its former colonies’ natural bounty.

Stripped of valuable resources when the Soviet Union broke up five years ago, Russia until recently had been demanding more of the Caspian mother lode through pressure tactics ranging from economic sanctions to alleged backing of coups and assassinations.

But as the “Great Game” of global oil politics has resumed over the unfathomable wealth below a water body now the property of five nations, analysts see a more pragmatic strategy emanating from the Kremlin: If you can’t beat them, join them.

As Lukoil has become a major player in the international oil ventures in the Caspian, the government in Moscow appears to have realized the comparatively limited value of sabotage, arm-twisting and intimidation.

Lukoil is the biggest of the private companies to emerge from the old Soviet military-dominated oil structures. And unlike its smaller competitors, Lukoil has, in the five short years of its existence, sought profit and market share over ideology and regional political power.

The company’s meteoric rise in the Russian economy is traced to a few strategic acquisitions of Siberian exploration rights shortly after the collapse of the Soviet Union and a well-timed expansion into oil-rich neighboring countries when other Russian government and business figures were still resting on expired laurels as the onetime world leader in oil production.

“Lukoil’s goal is not Russian domination of the region but the improvement of its bottom line,” said Laurent Ruseckas, a specialist on the Caspian region with Cambridge Energy Research Associates of Massachusetts. “This is one of the most dynamic players in Russia today, and they are increasingly talking like an oil company and not like a wing of the Kremlin.”

As do other industry analysts, he sees the publicly traded company--the Russian government owns about a third of the shares--as having triumphed over the petty and often conflicting interests of Moscow ministries and shortsighted military men who ran Russia’s oil works during the Communist era.

“Lukoil is now acting as Russia’s representative in the Caspian, and because it has its own assets to bring to bear, it is as legitimate a partner as any other,” said Elaine Holoboff, a professor at King’s College in London and an expert on energy issues in the former Soviet Union. “It is a much more mature strategy . . , and I hope the payoffs are great enough that Russia realizes it is not in its interests to sabotage projects it is involved in.”

Russia still has far to go in making the transition from imperial bully to pragmatic partner in deals involving neighbors now out from under its yoke. But the behavioral sea change in the Caspian reflects a general tendency for Russia to play a less menacing role in the region.

“Russia, through Lukoil, is trying to keep its hand in the Caspian--not controlling it, as they certainly would like, but at least getting a piece of it,” said Damian Marhefka, associate editor of Russian Petroleum Investor, a trade publication. “Russia has definitely taken a softer line lately.”

The Caspian region’s proven recoverable reserves of 30 billion barrels and the estimates of as many as 250 billion--which would rival those of Saudi Arabia--have given Russia good reason to mend fences with its neighbors. International oil companies have flocked to the region and plunked down billions of dollars to secure new sources as deposits in Alaska, the North Sea and Siberia dwindle or become too expensive to exploit.

But there is no easy way of getting oil from the landlocked Caspian to the world market: The region is ringed with some of the most geopolitically unstable territory in the world.

There is also an unresolved dispute over how the oil wealth of the Caspian should be shared among the five states sharing the Caspian shoreline: Russia, Azerbaijan, Kazakhstan, Turkmenistan and Iran.

To kick-start projects, three multinational consortia have formed to merge major oil companies with the government owners. The development groups have forged ahead on the easy part: setting up production-sharing deals and constructing movable derricks. How they will get the oil to market once full field development gets underway in the next few years is another question.

Wars in Chechnya, Nagorno-Karabakh and Abkhazia have simmered down, but the ethnic conflicts that provoked them remain unresolved. That makes developers reluctant to build pipelines through those territories en route to the Black Sea tanker ports from which oil will be shipped to Western markets.

Iran, under boycott by the United States for alleged support of terrorism, stands between the Caspian and potential outlets in the Persian Gulf and Arabian Sea ports, and a raging war among Afghan militias continues to discourage consideration of a route to the east.

“If it was easy, someone else would have done it a long time ago,” said Terry Adams, president of the eight-nation Azerbaijani International Operating Co. “Pipelines are pretty robust projects--the only sensitive pieces of equipment are the pumping stations. But, clearly, the regional unrest does have an influence and will affect our long-term planning.”

The Russian government has been trying to convince AIOC that a damaged Soviet-era pipeline across its southern territory, traversing Chechnya, is the best of a bad lot of transport choices. Even with repairs and modernization estimated at $30 million, the Russian route would be far less expensive than building a new pipeline elsewhere.

But Moscow’s past pressure tactics have made developers eager to expand their options.

AIOC decided a year ago to pursue a second pipeline route across Georgia to ensure against manipulations by Moscow, and in October announced an impending tender for the $275-million link from Baku to Georgia’s Black Sea coast at Poti.

Alternatives are also under consideration that would bypass the Black Sea or at least the crowded Bosporus. One route being studied would cross Turkey and terminate at the Mediterranean port of Ceyhan. Another would ship oil from Russian or Georgian Black Sea ports to Burgas, Bulgaria, and from there overland to the Greek Mediterranean port of Alexandroupolos.

Much is at stake for the contenders to transport Caspian oil, as tariffs would be a big hard-currency generator and the oil companies would be likely to invest in the ports.

That Lukoil is helping to underwrite the rival pipeline project appears to have forced the Kremlin to accept the failure of its strong-arm tactics and the need to be active in the region through commercial ventures.

“Russia is interested in getting a major share in exploration of deposits, to secure transport to Europe via its territory and to achieve a balance to Western influences in Azerbaijan and Kazakhstan,” said Alexander B. Vasilenko, Lukoil’s public relations director.

That Lukoil is viewed as a government surrogate ruffles few feathers in a region where the state still wields tremendous power over lucrative resources. “We would like that to be the case,” Lukoil spokesman Dmitri M. Dolgov said when asked if his company is often considered a plenipotentiary of the Kremlin.

Lukoil, the largest oil company in Russia and the only one significantly involved in the Caspian, has invested deeply in extending its vertically integrated network to neighboring republics.

The company has launched a chain of joint ventures with Azerbaijani partners to bankroll a new phone network, an insurance company and a repair yard for offshore drilling platforms. It has also secured Russian government guarantees of safe delivery of oil crossing unstable southern areas such as Chechnya--an insurance policy only a company closely entwined with the Kremlin could have secured.

Industry analysts say Russia’s switch from bad cop to good cop reflects a gradual acceptance of its lost superpower status and the need to put its money where, until recently, only its mouth had been.

Rather than undermining foreign projects, Russia is now acquiring stakes in them through the participation of Lukoil.

The company has acquired a 10% share of AIOC, which bands together major oil companies from eight countries--including Amoco, Unocal, Exxon and Pennzoil of the United States. The consortium expects its first output of 80,000 barrels per day next summer and peak volumes from its three Caspian projects of 700,000 barrels per day within a decade.

Lukoil President Vagit Alekperov has described the Caspian venture as “Project No. 1” and predicts his company will produce as much as 20% of the region’s oil by 2005.

The company is also a partner in the Caspian Pipeline Consortium seeking to map a safe and cost-effective route to Western oil markets. The consortium also holds sizable stakes in oil field projects in Kazakhstan and recently increased its joint venture with Los Angeles-based Atlantic Richfield Co. for oil and gas development in the region.

Despite Lukoil’s high visibility in the region and the frenetic pace of its activities, the company lacks the capital needed to get major oil and gas projects underway and has joined Arco in a strategic partnership expected to invest $5 billion in the former Soviet Union over the next 18 years.

What pushed Russia into the spoiler role in the Caspian was the loss of its status as unchallenged steward of the region’s riches after the Soviet Union broke up in 1991.

Once Azerbaijan, Kazakhstan and Turkmenistan gained authority over their Caspian resources, Russia was left with only the unendowed zone off its coastline. Iran’s sector is also unpromising, at least compared with the ocean of oil that prospectors have detected in the Azerbaijani and Kazakh zones.

Miffed at having been cheated by history and left out of major new oil deals, such as Chevron’s $20-billion venture in Kazakhstan, Moscow held up work on Caspian projects by insisting that the five states ringing the Caspian share the oil in equal measures.

Although Russia appeared to signal a compromise at the latest negotiations over the Caspian’s status in the Turkmen capital, Ashgabat, on Nov. 12, uncertainty over how, when and whether ownership rights will be resolved is believed to have stifled some investments.

Industry analysts suspect Russian security services of instigating two coup attempts against Azerbaijani President Heydar A. Aliyev in a shadowy campaign to convince the new oil magnates that they should choose a pipeline route across Russia. Georgian President Eduard A. Shevardnadze has also accused Russian oil interests of backing an assassination attempt against him in August 1995.

Other pressures applied to the governments deciding the fate of Caspian oil included a Russian blockade of Azerbaijani trade goods and artificially restricted access to Russian pipelines for oil from Kazakhstan.

The tactics backfired, reinforcing suspicions that Russia would exploit its advantage if its pipeline across southern Russia remains the only option for shipping out oil. It was then that Lukoil began acquiring stakes in the rival ventures, which, as Marhefka of Russian Petroleum Investor observed, “wouldn’t have happened without the tacit approval of Moscow.”

“Lukoil was driving the policy,” said one oil industry analyst in Moscow who declined to be named. “Alekperov is an Azeri, he’s close to Aliyev and has a better feel for what is going on. He recognized that government policy was doomed and acted as a catalyst for changing it.”

Some analysts see the change in behavior by Moscow as a natural maturing as Russia becomes more familiar with the internationally accepted ways of doing business.

Others, however, say Russia has simply been made aware of its diminished status now that the Cold War is over.

“The most interesting thing about the whole issue of Caspian development is how Russian influence has declined,” Caspian specialist Ruseckas said. “It would be unthinkable now for Russia to do anything having to do with military intervention after what happened in Chechnya, but it wasn’t that way in 1992 or 1993, when everyone thought there was this big, mean Russia that had to be feared.”

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Pipeline Dreams

The oil riches of the Caspian Sea are surrounded--and shared--by some of the world’s most politically volatile nations, confounding efforts to get the oil to customers in the West. Developers are especially dubious about the security of an existing pipeline through troubled southern Russia to the Black Sea port of Novorossiysk. Two alternatives: through Georgia to the port of Poti, or through Turkey to the Mediterranean port of Ceyhan.

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A Global Cast

Oil firms from eight nations, including four U.S. companies, have pieces of the Azerbaijani International Operating Co., which is developing oil fields containing an estimated 30 billion barrels of crude beneath the Caspian Sea:

U.S.* 39.9%

Britain 19.0

Azerbaijan 10.0

Russia 10.0

Norway 8.6

Japan 3.9

Turkey 6.8

Saudi Arabia 1.7

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* Amoco 17.0 %

Unocal 10.0

Exxon 8.0

Pennzoil 4.8

Note: Figures have been rounded.

Source: Azerbaijani International Operating Co.