KMG EP Abandons Akkas Gas Field Contract, Disrupting Iraq's Gas Strategy

The international exploration and production arm of state-owned Kazmunaigaz, United Kingdom-listed Kazmunaigaz Exploration Production (KMG EP), has withdrawn from its participation in the Akkas field development contract in western Iraq, which it secured with South Korea's KOGAS, in Iraq's first gas-focused licensing round last year (see Iraq: 21 October 2010: Iraq's Gas Development Awarded to Untested Hands While Marathon Farms Into KRG Acreage and Iraq: 20 October 2010: Iraqi Gas Auction All But a Neighbourhood Affair As Three Out of Three Awards Are Made). The company today (11 May) said that it was withdrawing as it had failed to secure an agreement with the Iraqi government, telling Reuters that, "Unfortunately, the talks have failed to resolve all issues which emerged at a late stage and it has not been possible to develop a consensus document that would fully meet the interests of all parties", in a statement. It added, explicably, that "victory in a tender does not automatically mean entry to the project. It's only the start of negotiations. As a result of such negotiations the sides either reach agreement and conclude a service contract, or they don't". KMG EP also said that it continued to see Iraq as "an attractive area for investment" and that it had not incurred any substantial losses, as serious investment had yet to begin, Reuters relayed.

It was not immediately clear whether KMG EP's partner KOGAS would continue with the project by taking on the full stake in the 50:50 joint venture (JV), or by finding a new partner. Either way, the withdrawal has put the crucial project under severe doubts and in the best case scenario it faces very significant further delays. The failure by the Iraqi Oil Ministry, the KMG EP and KOGAS JV and the local Anbar regional authorities and tribes to come to an agreement and sign a contract will have significant repercussions on Iraq's gas development. For now, only four gas projects have really been defined and can be seen to be moving forward: the three gas fields licensed in the October 2010 gas auction and Shell and Mitsubishi's South Gas project to gather associated gas in the southern Basra province. In the gas licensing round, one field each in the south, west and north was offered to investors, with the obvious thought that the development of those three fields would support the reconstruction and expansion of gas supplies to Iraq's south, centre, west and north (although Iraqi Kurdistan is developing its own gas resources and much of the northern Mansuriya output is likely to be fed to the centre-north regions). Akkas would naturally supply its surrounding population centres in the Anbar region, although it would also be able to export gas, as it is located only a few tens of kilometres from Syrian gas transport infrastructure, while the whole Western desert lays between it and central Iraq.

In the aftermath of the first gas plans being defined and over the past few months, it has become clear, however, that the notion of exporting gas is quite abhorrent to a wide strata of the Iraqi population until the national power generation and transmission network has been reconstructed. This work has been very slow to get off the ground, with most Iraqis still only having electricity a few hours per day and it is likely that it might be almost a decade until Iraq's actual power demand—on the basis of how it has grown over the past decades—will be fully met. At the same time, the Iraqi government is naturally keen to make sure that gas sold to the domestic market—at subsidised rates—is bought from gas producers at the lowest potential cost, undermining the profitability at projects, especially if they were initially devised in part as export projects, but which now exclusively will have to be earmarked for domestic supply (see Iraq: 16 September 2010: Iraq Improves Gas Licensing Round Terms by Removing Export Uncertainties and Iraq: 26 August 2010: Sweetened Iraqi Gas Terms Could Backfire As Kurds Push for Gas Exports).

Local Demands

To add to the KMG EP and KOGAS partnership's problems were troubled relations with the regional authorities, who initially demanded that a portion of the income from the project, larger than the small current fee per barrel of oil equivalent produced, should be paid to the regional authority. Subsequently a compromise initiative seemed to gain traction, under which the Akkas developers would be required to construct a 200-km pipeline to a regional power plant, as well as build and supply a new 250-MW power plant in the field's vicinity. As IHS Energy reported earlier this year, the Anbar region governor Qasim Mohammed, appeared to have received Iraqi government assurances that no gas exports would be allowed until all local/regional demand had been met (see Iraq: 28 January 2011: Iraq Moves Forward on Refining, Gas Production Projects and Iraq: 19 October 2010: As Iraq Prepares for First Gas Licensing, Regions Seek to Keep More Revenue). For the two companies this immediately became hard to reconcile with the fast field development schedule they had committed to in their contracts, as the construction of both integrated—and worse, non-integrated—power projects would be a very time-consuming task, leaving the developers with a situation where much of their production capacity would have been stranded, perhaps indefinitely.

More Troubles?

For Iraq, the failure of Akkas's progress will mean that one of its more geographically isolated region's will lack the only linchpin of its gas strategy, while there will also be few chances to start exports anytime soon unless domestic opinion against them can be overcome. Recent movements to launch the first phase of Iraq's vast pipeline infrastructure master plan could counteract this effect, with a pipeline planned to bring gas from the southern Basra region to Haditha and from there towards the Syrian border, although that depends on the progress of Shell and Mitsubishi's troubled South Gas project. While Deputy Prime Minister for Energy Hussein al-Shahristani earlier this week—in his characteristic bullish fashion—said that the Shell deal had been finalised and now only had to be ratified by the cabinet, reports by Reuters today (11 May), quoting Deputy Oil Minister Ahmed al-Shamma, had him saying that a final contract agreement was still to be reached. "I just came back from meetings with Shell in Istanbul. We have found satisfactory solutions for all the issues that we (disagreed) upon before", Shamma told Reuters, adding that "we have reached a common agreement". Without putting a definitive timeline on the creation of a final draft, he, however, cautioned that "we left it now to the lawyers to draft the final agreement", explaining that "the deal has been delayed because the country does not have instructions or laws that govern gas (production). There is not enough understanding. Gas is more difficult than oil in processing".

Outlook and Implications

The Akkas development has been a key part of Iraq's effort to re-electrify its remote west, as well as providing parts of central Iraq with gas. There were also hopes both from the companies involved and from the government that some easy exports could be attained from the border area field. KMG EP's withdrawal will significantly dent Iraq's plans and delay the power recovery of Anbar, even if partner KOGAS does decide to go it alone or find a new partner. Apart from showing the politico-economical problems involved in gas monetisation in Iraq, the withdrawal also casts the spotlight on a much-criticised mechanism within the licensing rounds, until now largely forgotten, namely the fact that the bidder accepting the lowest remuneration fee always wins the contract, even if they are not necessary the most skilled or capable bidder, even from Iraq's perspective. This was particularly clear after the gas licensing round last October in Iraq, as IHS Energy wrote, when a set of companies largely below the size and capability sought by the Iraqis managed to win all three fields by undercutting more established players (see table). Ultimately, however, it might have been Iraq's way of using potential gas exports as a lure to investors that damaged the Akkas project, given that the government is struggling to accommodate almost any permanent gas export plans for the foreseeable future for political reasons.

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