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RHEBAAA/DEPT OF ENERGY WASHDC PRIORITY
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C O N F I D E N T I A L SECTION 01 OF 04 BAKU 000031 
 
SIPDIS 
 
ANKARA FOR DAS BRYZA 
 
E.O. 12958: DECL: 01/14/2019 
TAGS: PGOV PREL AJ TK ENRG
SUBJECT: AZERBAIJAN: MOTION ON SHAH DENIZ PHASE TWO TURKEY 
TALKS 
 
REF: A) BAKU 1126 (2008) B) BAKU 1186 (2008) C) 
     ANKARA 56 D) BAKU 30 
 
Classified By: CDA Don Lu, Reasons 1.4 (b,d) 
 
¶1. (C) SUMMARY.  According to Shah Deniz Consortium members 
SOCAR, StatoilHydro and BP Azerbaijan, there has been no 
progress in talks with Turkey on either the price of Shah 
Deniz Phase One gas currently being delivered to Turkey or on 
the marketing and transit of Shah Deniz Phase Two gas to and 
through Turkey.  However, SOCAR President Rovnaq Abdullayev 
is scheduled to meet on January 16 with Turkish 
Parliamentarian Taner Yildez, whom Prime Minister Erdogan has 
authorized to represent him in discussions with SOCAR, and 
SOCAR officials are hopeful that this new channel can 
expedite progress.  If Azerbaijan and Turkey cannot reach 
agreement, StatoilHydro officials say that the Shah Deniz 
Consortium is increasingly contemplating the possibility of 
selling at least some Shah Deniz Phase Two volumes to 
Gazprom, possibly as part of a swap deal, although SOCAR has 
previously assured the USG that it would never sell 
appreciable SD2 volumes to Russia.  EU Commissioner Benita 
Ferrero-Waldner will be visiting Baku on January 21 to 
discuss, inter alia, energy issues.   END SUMMARY. 
¶2. (C) On January 15, EnergyOff met separately with Murad 
Heydarov, advisor to SOCAR President Rovnaq Abdullayev; Olav 
Skalmeros, StatoilHydro Vice-President for Marketing; and, 
Richard Ruddiman, BP Azerbaijan's Shah Deniz gas commercial 
manager, to discuss the status of Shah Deniz Phase one (SD1) 
and Shah Deniz Phase Two (SD2). 
FERRERO-WALDNER VISIT 
¶3. (C) SOCAR Presidential Advisor Murat Heydarov said that EU 
Commissioner Benita Ferrero-Waldner would be visiting Baku on 
January 21 to discuss (inter alia) energy issues, and that he 
was traveling to Vienna on January 18 to meet with EU staff 
to help prepare for the meeting.  This Ferrrero-Waldner visit 
grew out of discussions with European Commission Energy 
Commissioner Piebalgs during his visit to the November 13-14 
Baku Energy Summit, during which he and GOAJ officials agreed 
to intensify EU-GOAJ energy cooperation.  Since the recent 
Ukraine-Russia gas dispute, Heydarov said he senses far 
greater enthusiasm for Nabucco from his EU interlocutors. 
SD1 ) OFFICIAL NEGOTIATIONS 
¶4.  (C) Heydarov denied that Botas has made any upwards 
revision in the price it was offering for SD1 gas (see reftel 
C).  Explaining, he said that there are two fora for 
discussing SD1 price.  The major and official forum is the 
negotiations between Botas (buyer) and the Azerbaijan Gas 
Supply Company (AGSC ) the gas marketing company for Shah 
Deniz Phase One gas, headed by StatoilHydro).  The last 
meeting of this forum was in October 2008, with a subsequent 
meeting in December cancelled.  In this forum Botas has 
continued to adhere to its long-standing proposal of raising 
the SD1 gas price cap (i.e. maximum allowable price) the 
first year by 20 percent, followed by 10 percent raises in 
the second and third years. Heydarov explained that what this 
would mean is that for the first year the price of SD1 would 
be at most USD 144 per thousand cubic meters (tcm), and in 
the third year the price would be approximately USD 180/tcm. 
At that point, this price would have to remain for four 
successive quarters before price renegotiations could resume, 
which means that for all intents and purposes, the pricing 
mechanism arrived at during this phase of negotiations would 
last for (at least) four years.  Since Botas's proposal 
results in a price that is severely sub-market, the AGSC 
Consortium refuses to consider it (COMMENT:  StatoilHydro Gas 
Marketing VP Olav Skalmeros explained to EnergyOff that even 
with the current low oil prices, the resulting SD1 gas price 
using the current pricing formula would exceed USD 180/tcm.) 
The next meeting of this forum is scheduled for January 27. 
SD1 & SD2 ) UNOFFICIAL NEGOTIATIONS 
¶5.  (C) Heydarov explained that outside this formal 
negotiating forum, there is a parallel, supplementary forum 
in which government and energy officials from both countries 
meet to discuss possible solutions for SD1 and SD2.  On the 
GOAJ side, this group's regular and revolving participants 
include Energy Minister Natiq Aliyev, SOCAR President Rovnaq 
Abdullayev, and SOCAR Marketing Vice-President Elshad 
Nasirov; on the GOT side, Energy Minister Guler and Botas 
President Duzyol.  This group met during this November 13-14 
 
BAKU 00000031  002 OF 004 
 
 
Baku Energy Summit, during which, according to SOCAR 
President Abdullayev, Energy Minister Guler was about to sign 
an Energy MOU with Azerbaijan but "backed out at the last 
minute"(ref A). 
SOCAR WILLING TO GIVE 4 BCM TO TURKEY 
¶6. (C) In late November, Energy Minister Aliyev, SOCAR 
President Abdullayev and VP Nasirov traveled to Ankara at 
Energy Minister Guler's invitation to meet with him to 
discuss SD and SD2 issues.  Their already unfavorable 
opinin of Guler was worsened when he kept them waiting ive 
hours, as he was "out of the capitol."  In tis late November 
meeting SOCAR's proposal to Bots was that it would sell a 
minimum of four billin cubic meters annually (bcm/a) to 
Turkey, with the possibility of more volumes, in exchange for 
the right to transit seven bcm/a to Europe.  Turkey refused 
this offer, insisting on eight bcm/a for its own energy 
needs. 
THEN 8 BCM 
¶7. (C) In a December 5 meeting (reftel b) SOCARlatest 
proposal was that it would accede to GOT demands to sell 
eight billion cubic meters annually (bcm/a) to Turkey. 
Heydarov explained that previously SOCAR was reluctant to 
commit eight bcm/a of SD2 to the Turkish market, since it 
needed a minimum of seven bcm/a for transit to Europe in 
order to sanction one of the competing pipeline projects 
(Nabucco, TAP, TGI) (COMMENT:  SD2 production is anticipated 
to be between 13-16 bcm/a, three of which would be needed for 
the Azerbaijani and Georgian markets.  Of this remaining 
10-13 bcm/a, if seven were for European markets, only three 
to six bcm/a would be left for Turkey.  END COMMENT). 
However, in order to meet Turkey's demand for eight bcm/a, 
while still having seven bcm/a for Europe and three for 
Georgia/Azerbaijan, Heydarov said that SOCAR would try to get 
increased gas production from existing SOCAR fields 
(shallow-water Gunashli), the 'Bahar' field, or from ACG 
associated gas. 
¶8. (C) However, in exchange for providing eight bcm/a, SOCAR 
insisted that it be allowed to sell SD2 gas consistent with 
existing GOT gas market liberalization laws, which would 
allow it to sell gas to any licensed buyer, i.e. not being 
forced to sell to BOTAS.  In this way, SOCAR felt it could 
get a fair market price for SD2 gas within Turkey.   As 
Heydarov explained it to EnergyOff, "although SOCAR willing 
to meet Turkey's energy security needs, that doesn't mean it 
is willing to meet Botas's energy security needs."  However, 
Heydarov said that GOT and Botas refused this proposal also, 
insisting that SD2 gas be sold to Botas and only Botas. 
¶9.  (C) As for SD1 gas, Heydarov said that even though the 
two countries' respective presidents in their recent 
bilateral meetings have agreed that the price of Azerbaijani 
gas being sold to Turkey is too low, there has still be no 
hint of an agreement about a new, more realistic price, in 
either the formal or informal forum.  In the latter, Heydarov 
said that Botas has implied that it would be willing to raise 
price caps to allow a price of USD 250-270 at oil prices of 
USD 100 per barrel, but has made no concrete proposals. 
Heydarov explained that while the GOT would like to separate 
the issues of SD1 and SD2, for the GOAJ that is not feasible, 
as it sees GOT unwillingness to pay anything close to market 
price for SD1 as an indication of bad faith that weakens GOT 
assertions that it is willing to pay 'market price' for SD2 
gas. 
¶10.  (C) Referring to the SD1 price formula, Heydarov said 
international best practices for gas marketing are for a 
price formula that is 100 percent 'oil weighted,' i.e. where 
the gas price is a direct function of the oil price. 
However, the current PSA-stipulated SD1 pricing formula is 
only 60 percent 'oil weighted,' and has a price cap.  The 
final gas price is arrived at by adding a fixed element (USD 
100 per thousand cubic meters) to a variable.  SOCAR and SD 
Consortium want to revise the price formula to abolish price 
caps and to raise the fixed element upwards from USD 100, but 
Botas (understandably) likes the current formula. 
¶11.  (C) Heydarov said that on December 23 SOCAR President 
Abdullayev met with GOT Prime Minister Erdogan to brief him 
on SD1 and SD2 developments, mainly because SOCAR felt that 
the Prime Minister was not getting an accurate assessment of 
the situation from Energy Minister Guler.  Erdogan was 
"attentive," "promised to look into the matter deeply," and 
As a result of this meeting Erdogan authorized his energy 
 
BAKU 00000031  003 OF 004 
 
 
advisor (and Parliamentarian) Taner Yildez as his point of 
contact for SOCAR President Abdullayev.  Heydarov said the 
assignment of Yildez as POC pleased SOCAR, as now it feels it 
is less dependent on Energy Minister Guler and Botas 
President Duzyol, both of whom it considers unreliable and 
not empowered to make the necessary decisions. 
¶12. (C) Heydarov said that SOCAR President Abdullayev and VP 
Nasirov are scheduled to meet Yildez in Ankara on January 16. 
 At that time they hope to get feedback to the December 15 
letter from GOAJ Energy Minister Aliyev outlining the latest 
GOAJ SD2 proposal, which offered eight bcm/a of gas for 
Turkey (but not necessarily Botas) in exchange for the right 
to transit seven bcm/a to European markets. 
¶13. (C) In discussing the price of SD2 gas to Turkey with 
EnergyOff, Heydarov admitted that it is unlikely that the 
final price would be equal to a "pure market price," as 
political considerations would also be taken into account. 
As such, it was likely any final SD2 price would be 
discounted below the Gazprom and Iranian prices into Turkey. 
He said that the GOAJ argument to Turkey has been (inter 
alia) that it can glean significant additional revenues from 
being a transit country, given that (for example) it could 
charge o/a three Euros per thousand cubic meters per 
kilometers, which could mean significant revenues given 
Turkey's size and possible transit volumes of up to 50 bcm/a. 
 Given that there are only three possible transit countries 
for eastern gas seeking European markets (Ukraine, Belarus 
and Turkey) and especially given the recent Russia-Ukraine 
problems, Heydarov said it would seem to be in Turkey's 
interest to exploit its transit potential. 
¶14. (C) As for plans for SD2 development, Heydarov confirmed 
that full field development start-up has been delayed, and 
that consequently SD2 development budget has been revised 
downwards.  The latest estimate for SD2 "first gas" is third 
quarter 2015 at the earliest. 
BP/STATOILHYDRO ) NO PROGRESS 
¶15. (C) In a subsequent meeting with StatoilHydro 
Vice-President for Marketing  Olav Skalmeros and BP 
Azerbaijan's Shah Deniz gas commercial manager Richard 
Ruddiman, both said that there had been no progress in SD1 
price negotiations with Botas, with the latest offer still 
being the one that would result in a price over three years 
of approximately USD 180/tcm.  Skalmeros said that the SD 
Consortium was increasingly moving towards at least starting 
arbitration, since "no one in Turkey except the Prime 
Minister is able to make any decision."  SOCAR is relatively 
reluctant to begin arbitration due to reasons of Turkic 
solidarity.  As for SD2, he confirmed development delays, 
saying that although third quarter 2015 is now the earliest 
start date of 'first gas,' the SD Consortium is not excluding 
the possibility of first gas in 2016 or 2017. 
¶16. (C) Referring to SOCAR's latest proposal to be allowed to 
sell SD2 gas to any licensed buyer in Turkey, Skalmeros said 
the idea was a non-starter, since although any licensed 
entity could sell gas in Turkey, only Botas could import it. 
Given that Botas's desire was to maintain its gas monopoly 
within Turkey, it would never allow another SOCAR's proposal. 
GAZPROM LOOKING GOOD FOR SD2? 
¶17.  (C) Commenting on the many recent trips of SOCAR to 
Moscow, Skalmeros said that the Shah Deniz Consortium looks 
favorably upon Gazprom and "would have no problem" selling 
SD2 gas to Gazprom, who is willing to pay market prices for 
it.  Negotiations in this regard are relatively advanced, and 
the SD Consortium to include SOCAR are even paying increased 
attention to the possibility of doing a swap deal with 
Gazprom with SD2 gas, where the SD Consortium sells an amount 
to Russia, then receives an equivalent amount from Russia in 
Europe.  According to Skalmeros, "building 120 kilometers of 
pipeline in the Caspian sand" is a lot easier and cheaper" 
than building Nabucco. 
¶18.  (C) COMMENT:  SOCAR is encouraged by the separate 
channel it has set up with the Prime Minister's office and 
with Taner Yildez, as it feels that it is only the President 
or Prime Minister who will ultimately be able to make a deal 
on gas for the Turkish government.  Separately, information 
gleaned from SOCAR, StatoilHydro and BP Azerbaijan conflicts 
with the Ref C, with the three stating there has been no real 
movement in Botas's proffered price in either the official 
forum or in unofficial discussions.   Although the Embassy 
believes that StatoilHydro's laudatory comments about Gazprom 
 
BAKU 00000031  004 OF 004 
 
 
and the SD Consortium's willingness to sell to it were 
intended to persuade as well as to communicate, there is no 
doubt that any continued inability to reach agreement with 
Turkey on either SD1 or SD2 would increasingly push the SD 
Consortium to consider its other marketing options.  It 
should be kept in mind that SOCAR has previously assured 
Embassy interlocutors that despite commercial negotiating 
activity with Gazprom, it would never sell appreciable 
amounts of SD2 gas to Russia.  Embassy will get a readout of 
the January 16 Yildez-SOCAR meeting as soon as possible. END 
COMMENT 
LU