Global Insight Perspective | |
Significance | The Shell-SOC heads of agreement (HoA) establishes the commercial outlines for the creation of a joint venture (JV) between the companies, through which associated gas-gathering facilities will be constructed and gas marketed domestically and internationally. |
Implications | The Iraqi Oil Ministry has put the value of the initial phase of the project—gathering the 700-800 mmcf/d currently being flared—at US$3-4 billion, making it the largest deal signed by an IOC in Iraq since the 2003 invasion. It also allows Shell to sidestep the increasingly resource-nationalistic insistence on low-profit technical service contracts (TSCs) by Iraqi legislators, as the gas is already produced as a by-product of oil by state-owned SOC. |
Outlook | Shell's deal has a huge upside potential, as the associated gas production in southern Iraq with development could reach 3–4 bcf/d, or more, opening up for the potential LNG exports further down the line. |
The Gathering
Shell's heads of agreement (HoA) with the state-owned South Oil Company (SOC) will result in detailed studies and discussions about the actual organisation and financial details, but its signing—together with the Iraqi cabinet clearance given earlier this month—has propelled the initiative a far way closer to the finalisation of a definitive contract (see Iraq: 22 September 2008: Shell Prepares to Sign Groundbreaking Iraqi Gas Deal Today and Iraq: 8 September 2008: Shell's South Iraq Gas Initiative Cleared by Government; Floating Liquefaction Eyed). The resulting joint venture (JV) after Shell and the Iraqi Oil Ministry (through SOC) finally commit to a contract will gather all associated gas currently being produced as a by-product in southern Iraq. Shell will hold a 49% share in the company, with SOC keeping a majority stake.
Iraq currently lacks the resources to gather, treat, transport, and monetise around 700-800 mmcf/d of natural gas produced in the south and has to flare it, wasting a natural resource on the scale of around US$40 million per day as well as seriously damaging its environment. All in all, Iraq currently produces 1.2 bcf/d of associated gas in its hydrocarbons-rich southern region, with little more than 400 mmcf/d being utilised, mainly as feedstock for power generation. The first phase of the gathering project will aim to provide further feedstock for domestic power production and industrial use, as well as to launch and expand production of liquid petroleum gas (LPG) and natural gas liquids (NGLs) for the Iraqi market, Shell said in a statement. As upstream oil production is rehabilitated and developed in the south by SOC and contractors, the associated gas available to the JV will increase, with volumes potentially reaching as high as 4-5 bcf/d. These will be available for Shell's proposed LNG export scheme, using a floating liquefaction facility off Basra, some years down the line (see Iraq: 19 June 2008: Shell's Iraqi Gas Master Plan Gains Traction with Officials, Floating Liquefaction Suggested and Iraq: 8 February 2008: Shell Tempts Iraq with Floating LNG Plant Proposal).
Purchase, No Production
The JV will "own and operate existing gas gathering, treating and processing facilities; and invest to repair non-functioning assets and develop new facilities", Shell said in a press statement. The JV will not, however, technically produce any of the gas, but will purchase it from SOC—and in the future perhaps also from other oil companies developing oilfields in the region, such as the China National Petroleum Corp. (CNPC) which recently signed a technical service contract (TSC) to develop the al-Ahdab field (see Iraq: 28 August 2008: CNPC Strikes US$3-bil. Oilfield Deal with Iraq, Reviving Old Deal Under New Terms). This is significant, as it allows Shell access to Iraqi gas without actually producing it, and thereby avoids the necessity of an oil law that allows private investment and ownership in Iraq's hydrocarbons industry. The Iraqi oil law remains stalled in parliament, amid an inability to agree on its basics between the country's main different factions.
More importantly in the longer run, it also shields Shell from much (but perhaps not all) of the resource-nationalistic policies that a majority within the Iraqi parliament—with what appears to be strong popular support—are veering towards. If Shell's investments through a JV with a state-owned company do not include ownership of reserves or actual production assets, they are likely to be viewed benignly by those advocating against foreign oil and gas companies getting access to Iraq's hydrocarbon reserves. At the same time the deal is likely, further down the line, to allow Shell to market gas internationally with a healthy profit margin, making the expensive long-term investments involved in rebuilding and developing the gas infrastructure look worthwhile, while Iraq can focus its resources—including its already overstretched skilled workforce—on developing its oil export capacity.
Winning Concept?
Shell's pursuit of the gas deal might prove to be a winning concept, making the major the most tangible beneficiary of hydrocarbon investment in Iraq, if the country chooses to develop its oil and gas production under a TSC framework instead of a coveted production-sharing agreement (PSA). CNPC's recent signing of a 20-year TSC contract for the development of the al-Ahdab field has been characterised by Iraqi Oil Minister Hussein al-Shahristani as a precedent for deals to come. Nevertheless, the seemingly very low profit margin given to the company for its work will be regarded as unattractive by many IOCs and might prompt companies to start withdrawing their participation in the coming licensing round (see Iraq: 3 September 2008: China's CNPC to Charge US$6/b in Oil Service Production Contract as Iraqi Government Clears Deal and Iraq: 9 September 2008: CNPC Must Launch Oilfield Work within Two Months, Says Iraqi Oil Minister). Indeed, if CNPC's contract is to be used as a blueprint for the industry, many might regard Iraq's investment opportunities for oil companies as having evaporated, with Shell the shining exception through a deal allowing it a profit share in the long-term marketing of Iraq's natural gas.
Outlook and Implications
While the details of the deal yet have to be finalised and committed to by both sides, there seems to be a firm willingness on the Iraqi side to get it under way, amid a broad understanding that the country lacks the skills, technology, and workforce to develop its associated gas production, while increasingly having to rehabilitate and develop its oil industry without international investment. The increasing political trend of resource nationalism in Iraq tends to—as in most other places—view oil as the main prize, seeing gas as a bonus, or add-on. The gathering—but not production of—associated gas by a JV 49% owned by Shell will therefore likely be viewed as less politically challenging than awarding PSAs for oilfields by Iraq's political parties, especially as it will contribute to stopping blatant waste, raising revenues, easing domestic energy constraints, and ending environmentally damaging practices.