It is just as well that international oil companies are among the most risk-tolerant in the business world, because Iraq carries no shortage of hazards.  

Gulfsands Petroleum 

Among the companies looking to get a toehold in Iraq’s burgeoning oil sector by participating in the next licensing round is Gulfsands Petroleum, a UK-listed energy company operating in Italy, Syria, Tunisia and the US. The company’s president, Mahdi Sajjad, is among the thriving class of Iraqi expatriates who rose the business ranks outside the country and are now keen to play a part in its reconstruction and development as investors. 

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“Iraq offers the best opportunities for exploration and production companies for expansion and Gulfsands hopes, with its recent qualification for the fourth tender round, to participate in this process and work with a successful consortium to secure a position in the development of Iraq’s hydrocarbon industry,” Mr Sajjad tells fDi.

But oil majors will not be easily scared off reserves the size of those in Iraq: last year the country's government announced it was sitting on an estimated 143 billion barrels, some of the largest reserves in the world. Iraq says it intends to be pumping out an audacious 13 million barrels per day (bpd) within the next seven years, which would surpass Saudi Arabian production levels and more than quadruple current levels.  

Internal issues

Iraqi oil will make a splash. But not yet. There are, of course, significant internal hurdles to be crossed before Iraq is able to bring oil to the international market in substantial quantities. The country's now infamous Hydrocarbon Law, drafted in 2007, has still to be passed. Tensions over the legislation reflect the internal Iraqi debate as to whether the law most benefits the people and state of Iraq, or the community of international oil companies: a significant body of opinion believes that Iraq should and can develop its own resources without opening the floodgates to outside help, which, they say, would be tantamount to handing over the keys to its most valuable oil fields.

Progress on this front came in late August when Iraq's cabinet approved a long-languishing draft of the law and sent it to parliament for final passage. Having been here before, cynics suggest it is debatable as to the true significance of this step – a potentially protracted parliamentary tussle still looms – yet is nonetheless a distinct step forward. “It is not clear if this is the beginning of the end or the end of the beginning, to quote Winston Churchill,” says one foreign adviser who works in Iraq.

Kurdistan dispute

The other, possibly most potent internal issue is the disagreement between the Kurdish regional government and the central Iraqi government as to whether the latter should have sign-off on all oil concessions, including those within the Kurdish-administered areas.

Depressingly, this is an argument that stretches back almost four decades, and remains structurally little advanced since the ousting of Saddam Hussein in 2003. A paper recently written for the well-respected Baker Institute foreign policy think-tank in the US declared this and other related issues to be “daunting…complex, and urgent”. (To show displeasure with the newly approved oil law, the Kurdish government promptly halted oil exports on September 12.)

And, it should be noted, any Iraqi efforts to thrive on its oil production are hostage to its ability to export. Iraq may have the volumes to make an impact, but not until some very major infrastructure and logistics constraints are overcome. Its only port is Basra, on the Shatt al-Arab, a river that has for more than one and a half centuries been a source of friction with Iran. Pipelines through surrounding countries are problematic and dependent on knife-edge diplomatic balancing. In-country, they are simply in disrepair or non-existent.

An export pipeline from southern Iraqi terminals is expected to be ready later this year, adding 1 million bpd of export capacity from that region. Pipelines running from northern fields in Kirkuk to Turkey are due to be repaired by 2013, more than doubling capacity on that export route. A new pipeline planned to run through Syria would add the capacity for another 1.25 million bpd. All told, export capacity will be raised to 11 million bpd through these upgrades, the government says.

Security quandary

The spectre of violence and instability is ever present in Iraq, and the all-important oil sector is locked in the middle of the great security ‘catch 22’ that characterises most post-conflict zones: key economy-driving industries have the power to enhance security by providing jobs and prosperity yet it is hard to harness their full potential and tempt in investors while security remains precarious. Iraq’s future hinges most of all on how it handles its natural wealth. Oil accounts for more than 40% of Iraq’s GDP and 90% of government revenues.

“Iraq’s ability to increase production and harvest the revenue is fundamental to the future stability of the government,” says Llewellyn Werner, chairman of private equity firm C3 Invest, which has invested in a number of projects in Iraq. “The oil revenues are [essential] to job development with Iraq’s alarmingly high youth unemployment. In the [General David] Petraeus model, employment, or soft power, is critical to stabilisation and Iraq’s future as a sovereign, independent nation.”

And here lies the catch-22. “Security and the ability to insure against risk will be helpful to buttressing oil production as investment capital seeks manageable risk before commitment of much-needed investment. Without significant job creation, of which oil production is inextricably linked, Iraq will have a tough time working its way out of the state instability and security challenges facing it daily,” he says.

Other risks

Physical security risks can always be managed, though, and energy companies are well-versed in this game. The greater business risk – and in some ways the greater risk to the ultimate success of Iraq’s oil sector – is in the red tape and graft that plagues Iraq’s investment environment, keeping it near the very bottom of the World Bank’s Ease of Doing Business index.

“We are facing a new terrorism, which is corruption. We don’t yet have the proper and transparent system to guarantee that there won’t be corruption,” says minister of state and chief Iraqi government spokesman Ali al-Dabbagh. “But the media is playing a major role in exposing it to the people, and this along with demonstrations puts pressure on the politicians to not engage in corrupt activities. We are in a transitional phase. In general there is good progress in fighting corruption.”

A great deal of impatience and exasperation colours Iraq’s relationship with investor companies and international partners. “It is very slow,” one Chinese oil executive tells fDi of progress related to his company’s projects in Iraq. “If you ask for information [from the government], you have to send several letters and wait a month for a response. And with some rights it is not clear which government agency to best seek help from – for example, as there is no central agency in charge of land use, do you deal with local authorities or does the land belong to the central government? This kind of thing can delay projects.”

For international oil companies, the economic evaluation for Iraq is difficult. The Chinese oil executive, who chatted with fDi on an outbound flight from Baghdad, says: “The biggest question is the pricing mechanism and the biggest issue is whether we can recover the costs of petroleum operations in Iraq.”

It is generally perceived that Chinese firms have an edge over Anglo-Saxon competitors in capitalising on Iraq’s oil potential, but this executive, a fluent English speaker, does not necessarily agree. “Sometimes it’s difficult to connect [due to language and cultural barriers]. I heard there are only seven Chinese speakers in Iraq – and I have met three of them!” he says.

But he thinks the long-term outlook is positive. “We hope … we think,” he concludes, hesitantly.

Black oil rush

If Iraq can be criticised, fairly at times, for foot-dragging, its government also faces the opposite complaint, that it is rushing things – trying to run before it can walk – with its planned fourth oil licensing round, which comes quickly on the heels of its predecessors. Abdul Mahdy al-Ameedi, director-general for the licensing directorate within the Ministry of Oil, says that may have been a valid criticism after the (initially bungled) first round but not now.

“Maybe at that time it would have been reasonable to wait and see what the bottleneck problems and difficulties were and what the advantages of our [oil] contracts were... But after implementing these surface contracts for the previous three licensing rounds I can say at least we have the minimum capabilities and abilities to manage the implementation of the new contracts,” he says. 

“Our model contract will be distinguished, it will override any weak points in the previous contracts and I hope that the international oil companies that will participate in the roadshow or in this licensing round will find the contract quite fair and balanced for them in order to achieve their interests and benefits.” 

Gas potential

The auction is scheduled for January 25 and 26, 2012, (but that may slip back by two days) and 40-odd companies have been pre-qualified to participate. What is on offer are 12 exploration blocks; seven of them are potential gas fields. To date, Iraqi efforts have focused on the low-hanging fruit of oil, but attention is turning to natural gas, in which Iraq is also potentially rich.

“Iraq has been in the oil industry for the past 60 years. Now the Ministry of Oil is intending to enter the gas industry, which is a new area that we need to enter in order to develop our capabilities and to build new companies, new organisations and new facilities,” says Mr Ameedi.

There is a geopolitical impetus behind the push for natural gas exploration as well: Iraq is heavily reliant on natural gas from its neighbour Iran. An Iraq that would not only be self-sufficient in gas but also be among the world’s top oil exporters is a prospect, however yet distant, worth preparing for.

Additional reporting by Tom Blass