October 13, 2012
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№ 9 (September 2012)

RK Passes а New Trunk Pipeline Law

   After many changes, extensive negotiations, and numerous interim drafts, the Republic of Kazakhstan (RK) enacted a Trunk Pipeline Law (Pipeline Law) that came into effect on 3 July 2012.

By Aset Shyngyssov, Bauyrzhan Adirbekov, Asem Bakenova, Vladimir Shuster

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   It is the first distinct RK law governing trunk pipelines. Previously, the construction, ownership, and operation of trunk pipelines were regulated by a number of different laws, such as the Subsoil Use Law, the Petroleum Law, and various statutory provisions. The recently adopted Pipeline Law is meant to provide a new unified legislative base for the construction, ownership, and operation of trunk pipelines and is a further step in the RK government’s effort to exert control over strategic areas of the RK economy.

   RK will have a priority right to an interest of no less than 51 percent in new trunk pipeline projects. The priority right allows RK to jointly participate with investors in the creation and/or construction of new trunk pipelines.

   To enable the state (the Government) to exercise its priority right, an investor intending to construct a new trunk pipeline must submit its commercial proposal concerning RK’s participation in trunk pipeline construction to the Ministry of Oil and Gas (MOG). The investor’s proposal should include (i) information regarding the cost of the project, along with details on how the cost was calculated and (ii) technical characteristics of the trunk pipeline.

   The Government has 30 working days after receipt of the commercial offer from the MOG to exercise its priority right. The MOG will then notify the investor of RK’s decision within five business days from when it is taken.  If RK waives its priority right or the MOG does not timely notify the investor, the investor is permitted to participate, develop, and construct the trunk pipeline independently or with any other party on terms and conditions not more favorable than those offered to RK.

   While RK will pursue its interests through a national company, it is unclear whether it's priority right to participate in trunk pipeline “projects” means it has a priority right to acquire an interest (shares) in legal entities that own trunk or to-the-trunk pipelines. It is safe to assume, however, that the intent of lawmakers was to extend RK priority right to both share and asset deals. Time will tell how this rule will be applied in practice.

   The Pipeline Law also suggests that RK’s priority right is not fixed at 51 percent or more. Rather, the government may also choose to have less than a 51 percent participation in a trunk pipeline project. This gives RK some options as to the amount of its interest, which may benefit investors.  

   It is not yet clear under the Pipeline Law what role RK will have in financing projects. The Pipeline Law does not address many issues like these and there may not be a clear picture of how certain provisions of the Pipeline Law will work until the necessary supporting rules and regulations have been adopted.
The only exemption to RK’s priority right is in relation to the expansion of existing trunk pipelines. At this point, it is not clear how broadly this exemption may be interpreted and applied. For example, will the exemption apply only to trunk pipeline extensions that are physically connected to an existing pipeline? If not, will it be applied to new trunk pipelines that are jointly owned but not actually physically connected? Or will it apply to the reorganization (e.g., merger) of legal entities resulting in the expansion of a trunk pipeline? It is clear, however, that existing trunk pipelines, such as the Caspian Pipeline Consortium, will be “grandfathered” and so will benefit from this exemption.

   The Pipeline Law also does not address existing transit and/or cross-border international trunk pipelines that run through RK. It is reasonable to assume that such trunk pipeline projects are also exempt from RK’s priority right under the relevant international treaties.

   The Pipeline Law reflects provisions of the Civil Code and National Security Law that give RK approval and priority rights over trunk pipelines and direct or indirect interest in “strategic objects” – assets of strategic importance to RK that may have an impact on its national security. Provisions of the Pipeline Law that relate to priority right over strategic assets have existed since 2007.

   The Pipeline Law requires the participation of a Kazakh national services operater in all projects that either the RK, the national management holding company, or a national company directly or indirectly owns 50 percent or more of the shares or participatory interest. However, the Goverment may authorize another legal entity to provide such services in order to comply with international treaties. Thus, the Pipeline Law acknowledges the supremacy of ratified international treaties over domestic law; therefore, if an international treaty gives operator’s rights to a party other than the national operator, the 50 percent RK affiliation rule will not apply. RK’s use of its right to appoint an operator may undermine commercial agreements between parties of non-ratified international treaties or intercompany agreements that provide for a non-national operator.

Other Notable Provisions

   Product quality bank. The Pipeline Law also facilitates the establishment of a product quality bank and allows the MOG to, among other things, establish “rules for the operation of a product quality bank”. A product quality bank is similar to an “oil quality bank” that standardizes product quality parameters and enables mutual cash settlement among suppliers that transport oil via pipeline. The establishment and operation of such a product quality bank may potentially burden certain companies that would need to compensate for lower-quality parameters of the products transported.

   Equal access and order of priority in providing pipeline services. The Pipeline Law, as well as the current legislation on natural monopolies, gives suppliers the right to equal access to trunk pipeline services if there is free throughput capacity, subject to statutory limitations. If there is limited throughput pipeline capacity, oil and oil-products transportation services are prioritized, and first priority is given to shippers supplying oil to domestic refineries. The Pipeline Law also provides for the possibility of exchange (swap) operations for the purposes of supplying oil to domestic refineries and gas to the domestic market and/or outside RK, upon written consent of the pipeline owner (or other person legally holding rights to pipeline) and the MOG.

   Ownership. The Pipeline Law provides that trunk pipelines may be state or privately owned, with the exception of individuals and foreign legal entities.
Given that the Pipeline Law has been enacted very recently, the relevant practice is not developed and it is yet to be seen how the Government will enforce the applicable rules. By analogy with the Subsoil Use Law and the Gas Law, we note the general trend is for the Government to enhance its authority over key industries, including trunk pipelines.

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