The announcement on 14th July that an unlikely deal had been struck between Iran and the E3/EU+3 (China, France, Germany, Russia, the UK and the US, with the EU) represents a unique opportunity for the international oil and gas industry. Under the Joint Comprehensive Plan of Action (JCPOA), Iran has accepted a range of restrictions limiting its nuclear programme in exchange for the lifting of current sanctions imposed by the UN, US and EU, subject to extensive continuing verification. Sanctions relief will not be immediate, however the limited interim relief granted to Iran under the previously agreed Joint Plan of Action (JPOA) has been extended until January 2016.
Sanctions have significantly reduced Iranian oil production, with crude oil output falling from 3.6mmbbl per day to around 2.8mmbbl per day. Iran is now seeking the extensive investment required to boost production, with the Government targeting significant increases relative to both present and pre-sanctions levels of production capacity. Over $100bn of foreign investment is being sought in order to achieve a production target of 5mmbbl per day within the next 5 years. Meanwhile Iran may finally be able to access the natural gas liquefaction technology that could make its long-delayed LNG export projects a reality. With the world’s second largest proven reserves of natural gas and the fourth largest of crude oil, the size of this opportunity is unprecedented.
International oil and gas companies await with interest the new contractual framework under which foreign investors will operate in the Iranian oil and gas sector. The contractual mechanism by which oil and gas is currently extracted in Iran is unattractive, with foreign investors unable to take equity stakes in Iranian companies or book reserves. There is an understanding within the Iranian government that, to attract the desired level of foreign investment, the terms on which investment is made must be made considerably sweeter. Mehdi Hosseini, an adviser to Iran’s oil ministry responsible for drafting the new energy contract, has proposed a flexible fee mechanism to ensure profitability despite fluctuations in the oil price. Such a flexible fee also has the potential to take into account varying costs and associated degrees of risk on a project by project basis. The booking of reserves has also been contemplated.
In anticipation of significantly more favourable investment terms, many companies have already visited Tehran. Shell, Eni and Glencore have all recently sent executives, whilst a high level German trade delegation is due in the coming days. Huge opportunities are available not only in exploration and production, but to companies operating at all levels in the oil and gas supply chain.
Consequences for the oil price
The price of Brent crude fell marginally on the news of the JCPOA being agreed. Downward pressure on the oil price from the supply side appears likely, provided the agreement holds. After years of restrictions, Iranian inventories are stocked, with up to 40mmbbl in storage on tankers ready to be released to the market once the sanctions are lifted following the inspections agreed in the JCPOA.
The response of OPEC to the re-emergence of Iran in international oil markets will be critical. Iran’s previous market share, once second only to Saudi Arabia in OPEC, has rapidly become the market share of rival producers. Saudi Arabia pumped a record 10.6mmbbl a day in June 2015, whilst neighbouring Iraq has also boosted production. If the response of OPEC is not to allow Iran to regain its market share, a price war is a possibility.
A new LNG player?
Looking further ahead, Iran could finally see its long-delayed plans to fully exploit the South Pars offshore gas field come to fruition. This gas reservoir, forming the northern section of Qatar’s North Field, is one of the world’s largest natural gas discoveries. International sanctions are believed to have prevented a succession of projects, led by European and Chinese companies, from achieving the increases in production that would be required to meet surging domestic gas demand and to enable a meaningful gas export programme via pipeline and LNG. The LNG strategy, a long-standing ambition of Iran, has historically been stymied by international sanctions, with access to the necessary proprietary liquefaction technology believed to have been the principal stumbling block. If sufficient gas supply can be earmarked for export via LNG and Iran is able to attract project sponsors and licensors of the necessary technology, a new player may emerge on the supply side of the LNG market.