Contract Concerns Loom Over Iraq’s Upstream Outlook

Abstract

Middle East Special Section Iraq is producing oil at record levels this year but low oil prices have cast doubts on the economic feasibility of its licensing contracts, which some analysts and policy advisers say are holding back higher output. International oil companies (IOCs) in Iraq operate under cost-plus contracts that require them to make upfront investments before seeking government reimbursements and a per-barrel fee for their profit. This model has enabled the country to reach a new production benchmark of 4.8 million B/D—an achievement diminished by the fact that Iraq’s export revenues have plummeted by more than two-thirds in the past 2 years. As a result, reimbursements owed to the IOCs have ballooned from around 10% of the national budget to 25%. Luay Al-Khatteeb, executive director of the Iraq Energy Institute and a fellow at the Columbia Center on Global Energy Policy, said both the government and the IOCs failed to prepare for the consequences of a possible downturn in the industry when they entered into the contracts in 2009–2010. “They were signed on the basis of high oil prices and were very much technical service contracts with no risk-sharing aspect to them,” he explained. “So everything is being paid by the government, and because high oil prices helped in accommodating such huge repayments, the IOCs in general accepted that.” In response to its cash flow problems, which include a costly war, the government has held off on funding major infrastructure projects and ordered IOCs to reduce their spending programs. These decisions may limit the ability of IOCs to deliver any new supplies of crude while they are still waiting on billions of dollars from the government. Last year, the government paid USD 9 billion in arrears to IOCs for work done in 2014. This year, Iraq must make good on another USD 3.6 billion in arrears, according to the terms of a new loan agreement it secured with the International Monetary Fund. As an adviser to the Iraqi parliament and the prime minister’s office, Al-Khatteeb is recommending that new licensing rounds be issued with production-sharing agreements or tax royalty contracts to drive higher output from the areas operated by IOCs.