March 17, 2013

Major Shakeout in Iraq

This piece by Guy Chazan, part of a retrospective at the Financial Times on Iraq ten years after the American invasion, offers a fascinating look at the dashed expectations attending the Iraqi oil industry. By contrast with the heady expectations of Cheney and company in 2003, “American companies are now almost absent from the Iraqi upstream scene.” Forced to choose between Iraq and Kurdistan, Exxon seems to have thrown in with the Kurds. China, led by its state oil companies, has a big and growing presence in Iraq, forming a new trade axis between Baghdad and Beijing. The Iraqis have brought down estimates of future production from 12 to 9 mbd by 2017-2020, still quite optimistic in a country that presents “the toughest environment” in the world for oil companies.    

When Iraq held its first postwar oil licensing round in June 2009, groups like ExxonMobil, Royal Dutch Shell and BP flocked to Baghdad for what was one of the most eagerly anticipated events in the oil industry calendar. At the fourth round last May, none of them bid. The poor attendance epitomises a general disenchantment with Iraq’s oil sector. The country was once the hottest ticket in global energy. But the widely predicted bonanza for western oil companies in postwar Iraq has failed to materialise.

Political instability, poor contractual terms and infrastructure bottlenecks have sharply reduced the country’s appeal to Big Oil. Many companies have shifted their attention from the south to the semi-autonomous Kurdistan region, angering Baghdad. “Iraq is the toughest environment we operate in,” says the chief executive of a big western oil company. “And it will be tough for many years to come.”

It is an ironic outcome. When US troops invaded Iraq 10 years ago, conspiracy theorists predicted that American oil companies would immediately seize control of the country’s vast oilfields. “People say that the Iraq war was fought over oil,” says Robin Mills of Dubai-based Manaar Energy Consulting. “But American companies are now almost absent from the Iraqi upstream scene.”

With the fifth-largest proven oil reserves in the world, easy geology and low production costs, Iraq was expected to become a hotspot of global oil investment. The victorious Americans set out a blueprint for rehabilitating vast oilfields and raising production from about 1.5m b/d in 2003. Investment poured in. In August, Iraq overtook Iran to become Opec’s second-largest oil producer, for the first time since the late 1980s, pumping more than 3m barrels a day – the highest level since the US-led invasion.

But the business climate has soured. Political volatility, fears about security and problems with infrastructure, including a lack of pipelines, pumping stations and oil storage facilities, have slowed the oil sector’s recovery. Iraq is now talking about increasing production capacity to around 9m barrels a day by 2017-20, sharply down from an earlier target of 12m b/d.

“Iraq is still nowhere near achieving its potential, considering the resources that it has,” says Raad Alkadiri of PFC Energy, a consultancy. “The Iraqi oil industry has always been bedevilled by politics.” The country has yet to pass a hydrocarbon law, first mooted in 2007, which would resolve who controls its oil and gas resources.

One part of Iraq that has retained – and even increased – its appeal for western energy groups however is Iraqi Kurdistan, a semi-autonomous region that has run its own affairs for about 20 years. The Kurdish regional government (KRG) has signed 50 deals with foreign oil companies, including Exxon, Chevron, Total SA and Russia’s Gazprom Neft. Officials there want to raise production from about 200,000 barrels a day now to 1m b/d by 2015.

The production-sharing contracts offered by Kurdistan are more generous to the majors than the technical service contracts on offer in southern Iraq, where oil companies earn a flat fee per barrel of oil produced and the lion’s share of earnings goes to the government.

But Baghdad considers the Kurdish deals illegal and refuses to pay oil companies operating in Kurdistan their share of export revenues. In retaliation, the KRG has stopped oil exports through Iraq’s main pipeline. Baghdad has told oil companies they can work either in the south or in Kurdistan, but not in both. Faced with that choice, Exxon decided last year to sell its stake in the $50bn West Qurna-1 oil project.

People close to the two sides say Baghdad might be open to sweetening the terms of Exxon’s contract in order to keep the company in Iraq. In January, Rex Tillerson, Exxon’s chief executive, met Nouri al-Maliki, the Iraqi prime minister, in Baghdad. But there are still no signs of a breakthrough.

Other western companies have found Iraq tough going. Statoil, the Norwegian company, quit the country last year in frustration.

But state oil companies have flourished. Of these, the Chinese are the most prominent: CNPC is a partner in the BP-led consortium developing Rumaila, one of the largest Iraqi oilfields, and also operates the Ahdab field. PetroChina operates Halfaya and Cnooc the Missan group of fields.

According to the International Energy Agency, a quarter of Iraqi oil, about 2m barrels a day, will be heading for China by 2035. “A new trade axis is being formed between Baghdad and Beijing,” said Fatih Birol, the IEA’s chief economist.

Analysts say state companies are much less likely than the oil majors to be deterred by low fees and low returns: for them, the key is access to Iraq’s hydrocarbon resources, and the off-take deals that allow them to export crude.

But ultimately, the winner of the past decade has been the Iraqi state. The IEA predicts Baghdad stands to gain almost $5tn in revenues from oil exports to 2035 – offering a “transformative opportunity” for the economy.

“It has secured a tremendous amount of investment and international help to develop its energy sector while giving away very little,” says PFC Energy’s Mr Alkadiri. “The Iraqis are well and truly in control of their own oil industry.” 

Guy Chazan, “Iraq’s appeal wanes for oil majors,” Financial Times, March 17, 2013

See also on the shifting estimates for Iraq's production my earlier posts of May 14, 2011 and March 2, 2011.  

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