As Iran Ramps Up Production, Industry Views Contract Terms

Abstract

Middle East Special Section Iran has surprised many global market experts with how rapidly it has increased crude oil production, following the January international agreement that lifted nuclear-related sanctions against the country. Production rose by 25% to hit the pre-sanctions level of 3.6 million B/D in April, shattering major analysts’ predictions that it would take a year to do so, and increased to 4 million B/D during the summer. Exports have doubled to more than 2 million B/D. However, notwithstanding Iran’s early success, most market observers believe the country will be challenged to sustain a 4 million B/D output for the rest of the year. And for Iranian production to grow to 4.8 million B/D in 5 years, a goal that Petroleum Minister Bijan Zangeneh stated in June, the country will require a large infusion of capital from international oil and gas companies. To keep its ambitions on track, Iran has set an objective of attracting USD 180 billion in international investment for its oil and gas sector. Of this amount, between USD 70 billion and 100 billion is needed for upstream projects, and Iran hopes to bring in from USD 20 billion to 30 billion of that for projects in its initial tendering round for licensing projects. The Iran Petroleum Contract Understandably, the global industry has been paying close attention to the Iran Petroleum Contract (IPC), the new framework approved by the Iranian government in early August for signing agreements with international operators to explore for and develop oil and gas resources in the country. While the framework was approved, questions remain over numerous details. For priority projects under the IPC, Iran worked from a technical services contract model, under which an operating company bears all capital costs up to first production, or targeted incremental production, and begins to recover its costs from production proceeds. The percentage of proceeds from which costs can be recovered may be negotiated field by field but will not exceed 50% for oil fields and 75% for gas fields. Previously, Iran used a system of buy-back contracts. Under these, the operator’s capital investment level and cost-recovery period were negotiated with the government and a fixed rate of return was set. If exploratory drilling led to a viable project, the operator’s capital expenditure for exploration and development was considered a loan to the state. The government compensated the company through annuity payments that began when production started, or a production target was met, and continued for the life of the contract. Iran is likely to continue using buyback contracts for lower priority projects. An important question is where it will draw the line between IPC projects and those on a buy-back or other contractual basis.