PHOTO: After its nuclear deal, Iran is struggling to confirm foreign investment in its oil sector
Diane Munro writes for the Arab Gulf States Institute in Washington about “Iran’s Oil Industry Post-Sanctions“. The executive summary and conclusion to the report:
Iran is navigating a myriad of challenges in its efforts to restore oil production to pre-sanctions levels and attract foreign investment amid the worst downturn in oil markets in more than a decade. Iranian crude oil production has steadily increased since sanctions were lifted in
mid-January, to 3.5 million barrels per day (mb/d) in April, up by 500,000 b/d since the start of the year. Plans to raise production to 4 mb/d by the end of the Iranian calendar year in March 2017 appear ambitious and even modest growth of a further 600,000 b/d by 2021, to 4.6 mb/d, may be out of reach given political, legal, and investment challenges.
President Hassan Rouhani, under fire from conservative politicians who argue the Joint Comprehensive Plan of Action (JCPOA) nuclear deal has failed to deliver the economic benefits promised, is banking on the proposed Iran Petroleum Contract (IPC) that will govern new joint ventures with international oil companies (IOCs) to secure tens of billions of dollars from foreign investment in the country’s oil and gas sector.
Political opposition from hard-line conservative politicians to foreign investment has repeatedly delayed the release of the much-anticipated revised model IPC for IOCs, which is now set for this summer. Industry executives are reserving judgment until more details on the contract emerge and remain cautious about entering into new business deals in Iran given significant political, financial, and legal risks.
Indeed, the initial enthusiasm over Iran’s return to the global community following the signing of the historic nuclear agreement on January 16 has given way to a more pragmatic assessment of complex commercial opportunities in Iran. Tehran’s escalating war of words over what it perceives as U.S. obstacles to achieving economic benefits from the deal is also causing concern among foreign oil companies. Iranian officials argue existing U.S. sanctions that prohibit financial transactions in U.S. dollars, among other restrictions, are blocking European and Asian banks from handling new business ventures with the country. In response, U.S. Secretary of State John Kerry, EU foreign policy chief Federica Mogherini, and their European counterparts have undertaken a series of extraordinary meetings with banks and the broader business communities to clarify that remaining primary U.S. sanctions, outside the scope of the JCPOA, are not a barrier to doing business with Iran. However, reassurances from high-level U.S. and European government officials have so far failed to dampen the criticism leveled by Iran.
Moreover, companies say primary U.S. sanctions are just one obstacle that is limiting their engagement with Iran and that other serious risks remain. Iran’s well-documented history of money laundering and financing terrorist activities has made it subject to derogatory reports from the Financial Action Task Force. That, in addition to Iran’s opaque financial industry, makes it a high-risk country with which to conduct business. Rouhani is taking some measures to address the country’s substandard banking industry and implementing economic reforms but it will be a long, arduous process.
While the nuclear agreement appears to be fraying at the edges, the architects of the hard-won deal, both in the West and Tehran, are committed to staying the course. Rouhani has the unenviable task of managing over-inflated economic expectations at home and at the same time delivering a meaningful financial dividend in the coming year. European and U.S. officials, mindful that Rouhani needs an economic windfall to maintain support for the deal, continue to encourage companies, outside the United States, to invest in Iran and explore options that will ease the process.
The successful launch this summer of the new petroleum contract for foreign oil company investment could provide a much-needed boost to Rouhani’s reformist government. Indeed, the political and financial imperative to increase oil production and revenue may lead the government to pursue a more commercial and investment friendly approach than in the past.
Equally, continued political interference with the contracts may further dampen IOCs’ interest. Finalizing new oil contracts for foreign participation would likely not take place until 2017 but announcements of new contracts worth billions of dollars could provide a valuable political
dividend in the short term.
While political and financial obstacles are tempering the enthusiasm of international oil companies [IOCs], left unsaid publicly is a reluctance by companies to re-engage with Iran given the long history of poor contract terms coupled with the difficult working relationship with the oil ministry and the National Iranian Oil Company. An uneasy balance has existed between foreign operators and an oil sector steeped in nationalism and compounded by the politicization of the country’s oil sector since the 1979 revolution. A more pragmatic, commercial approach is likely required now to attract foreign investment against the current low oil price environment and oil companies’ razor sharp focus on the bottom line.
Release of the final Iran Petroleum Contract this summer will add some clarity on the country’s future oil industry prospects. Given the complexities, formalizing contracts with IOCs will likely not take place until 2017, which makes the country’s production target of 4.6 mb/d by 2021 near impossible given the long lead times of five to seven years needed to bring on new production. Industry experts are forecasting a much more modest increase in Iranian production plateauing at around 3.9 mb/d to 4.0 mb/d by 2021. Iranian officials have readily stated that to boost production much beyond 4.0 mb/d will require foreign oil company expertise.
This timeline, however, is vulnerable to the multitude of obstacles that need to be traversed for the development of the oil sector. Casting a long shadow over foreign investment prospects is Iran’s continued intransigence over its ballistic missile tests, which may lead to additional sanctions from the United States and EU. Fears also loom large that Iran will violate terms of the JCPOA agreement and trigger the so-called “snapback” mechanism, allowing for a resumption of bilateral sanctions from P5+1 members (the United States, Russia, Britain, France, China,
Near term, a continuation of Tehran’s war of words over existing U.S. primary sanctions may serve to further erode investor confidence and fuel opposition from the country’s hard liners and disappointment within its population. The high-pitched rhetoric blaming the United States for blocking the much-anticipated economic windfall less than five months after sanctions were lifted appears hyperbolic, especially measured against the more than 10 years of diplomatic efforts to reach the final agreement. No doubt it was necessary for Iranian negotiators to expound on the economic benefits to get the deal finalized, but managing expectations among the voters is critical to retain support for the accord.
European and Asian energy companies will tread carefully due to existing U.S. sanctions, political machinations, and Iran’s opaque financial structure. That said, the global oil industry has always operated in high-risk environments and Iran is no exception. Attractive investment terms in the final petroleum contract may ultimately offset the geopolitical risks for IOCs and deliver the much hoped for economic dividend. However, sustaining the enormous amount of political willpower that was garnered to achieve the landmark nuclear agreement will be challenging but critical for a resurgence of Iran’s oil sector.