backAlthough the Islamic Republic of Iran has the worlds fourth largest proven oil reserves and second largest natural gas reserves, UN, U.S. and EU sanctions relating to its nuclear program have significantly affected Irans energy sector. Negotiations between the P5+1 countries (China, France, Russia, the United Kingdom, the United States and Germany) and Iran to ease those sanctions have been ongoing for almost two years, and the parties self-imposed deadline to reach agreement has once again been extended, this time to June 30, 2015. But even before the imposition of sanctions, Irans energy sector suffered from a lack of foreign capital and technology due in large part to the unpopularity of the contractual regime that governed upstream oil and gas activities in Iran. In anticipation of international sanctions being eased, Iran planned to announce a new model petroleum contract intended to encourage foreign investment in its energy sector, but uncertainty relating to the sanctions negotiations continues to create uncertainty regarding the release of the new model contract.
Nuclear Negotiations and the JPOA
On November 24, 2013, the P5+1 and Iran agreed to a framework and timeline under which negotiations relating to Irans nuclear program would be conducted (the Joint Plan of Action or JPOA). The JPOA was designed [1] to provide temporary sanctions relief to foster a mutually-agreed long-term comprehensive solution for dismantling Irans nuclear program. The JPOA originally contemplated a six-month negotiation period; the deadline for reaching a deal has since been extended twice, most recently from November 24, 2014 to June 30, 2015 [2] as a result of the parties negotiations in Vienna this past November, with top diplomats convening in Geneva [3] in mid-January to continue negotiations. The latest extension maintains [4] the provisions of the original JPOA, and provides for the continued modest unfreezing of Irans assets at a rate of about $700 million per month.
Topping the list of contested issues [5] is the size of Irans nuclear fuel-making capacity. The P5+1 want a large dismantlement of Irans nuclear centrifugesused to enrich uraniumwhereas Iran has pushed for less significant cuts. Many are skeptical of Irans professed commitment to nonproliferation, particularly given that as it was negotiating with the P5+1 in November, Iran signed a deal with Russia [6] to build two new nuclear reactor units at the Bushehr plant in Iran. This is the first step in a plan potentially to build eight new reactor units, a project meant to significantly expand Russian-Iranian cooperation.
U.S. Sanctions Relief Extended, U.S. Lawmakers Respond
As King & Spalding reported in 2014 [7], under the JPOA, the U.S. agreed to refrain from pursuing certain sanctions against non-U.S. persons who engage in specified transactions with Iran. This agreement permitted China, India, Japan, South Korea, Taiwan, and Turkey to continue to import crude oil from Iran provided that such imports do not exceed the current average level of imports of crude oil from Iran to these countries. The Office of Foreign Assets Control (OFAC) has released new guidance [8] related to the JPOA extension, announcing that the U.S. government will continue to provide sanctions relief for certain activities in the crude oil, as well as the petrochemical, auto, gold and precious metals, and civil aviation sectors in Iran. However, the U.S. government retains the authority to revoke this limited sanctions relief at any time if Iran fails to meet its commitments under the JPOA.
Importantly, the limited relief of the JPOA by-and-large does not extend to U.S. persons and, where applicable, U.S.-owned or -controlled entities, except for transactions involving certain civil aviation and humanitarian activities. Licenses for civil aviation activities may be specifically applied for and granted by OFAC, and OFAC will continue to authorize certain humanitarian activities. It remains prohibited for U.S. persons to conduct business transactions with persons on OFACs List of Specially Designated Nationals and Blocked Persons (the SDN List).
Many U.S. lawmakers have criticized the Obama Administration for permitting an extension of the JPOA. In a joint statement [9], Senators Lindsey Graham (R-SC), Kelly Ayotte (R-NH), and John McCain (R-AZ) pronounced that the extension should be coupled with increased sanctions. U.S. House Speaker John Boehner (R-OH) also released a statement [10] saying all an extension does is leave open the possibility this administration will make additional concessions, and calling for Iran to be held accountable for its promises. President Obama has also faced opposition from members of the Democratic Party, including Senator Robert Menendez 11, the previous Chairman of the Senate Foreign Relations Committee.
Bipartisan lawmakers are currently pursuing legislation [12] that would strengthen sanctions against Iran in the event that a nonproliferation deal is not reached by the end of the latest JPOA extension period on June 30, 2015. Iran has threatened to end negotiations [13] if the U.S. imposes new sanctions, and President Obama has promised to veto the proposed sanctions bill [14], urging Congress to have patience with the negotiation process.
Sanctions Status Quo in the EU
The European Union also extended its relief [15] provisions under the JPOA to June 30, 2015. EU relief provisions include the suspension of restrictions on: providing insurance and transport for crude oil; purchasing or transporting petrochemical products and providing related services; and trading in gold and precious metals with the government and related public bodies. Furthermore, the EUs increase on thresholds authorizing financial transfers to and from Iran also remains in effect.
Russia and China Support Negotiations Amidst Complicated Relationships
Russia continues to negotiate with the P5+1 while striving to strengthen its relationship with Iran. Leading up to the previous JPOA deadline, former Russian Foreign Minister Igor Ivanov cautioned against [16] putting additional pressure on Iran, stating that a mutually beneficial solution is in the best interests of all. Following the JPOA extension, Russian Foreign Minister Sergey Lavrov stated [17] that considerable progress had been made in Vienna, and expressed optimism that a final agreement could be reached in the next three or four months. Meanwhile, in addition to the new deal for nuclear reactors in Bushehr, Russia is also reportedly planning an oil-for-grain [18] program with Iran. In December, President Vladimir Putin reported that progress had been made [19] in implementing an oil contract with Iran.
Though Chinas top diplomat Wang Yi was present at the Vienna negotiations, China has been relatively quiet leading up to and following the extension of the JPOA. Mr. Wang indicated [20] that the negotiations with Iran have been progressing noticeably, and sees China as a mediator [21] who can provide a comprehensive solution among the P5+1 countries and Iran. However, some analysts note [22] that while China and Iran have shared a relatively close relationship, China has benefitted from the Western sanctions on Iran, having established a stronger economic foothold in the country in the last several years. However, Iran has pushed back on Chinas encroaching presence in the Iranian oil sector, and last spring canceled a $2.5 billion oil field development deal.
Global Firms Stand at the Ready
While the future of Iranian sanctions remains uncertain, members of the global business sector are preparing for what the eventual end of the JPOA could mean for opportunities in the oil and gas sector. While the JPOA was under negotiation in November, Iranian Oil Minister Bijan Zanganeh reportedly claimed [23] that Iran could increase its oil production to 4 million bpd within three months of sanctions being lifted. Iran has reportedly [24] been exceeding the 1 million bpd crude oil export cap for some time.
In the weeks leading up to the November 24 deadline, Iran received visits from leaders of top global firmsthough none overtly from the U.S.interested in exploring future cooperation. Shortly after the JPOA was extended, the Russian company Lukoil indicated [25] its intention to return to the lucrative Aranan oil field when sanctions are lifted.
However, the terms of such potential, future cooperation are not yet clear as Iran has announced that it is in the process of reforming its petroleum regime from its historic buy-back arrangements to a new hybrid petroleum contract.
Irans Historic Buy-Back Contracts
The Iranian constitution prohibits minerals being owned by any foreign person, and Iranian law prohibits production sharing contracts. Therefore, Irans buy-back contract was developed as a short-term risk-service contract, allowing title to hydrocarbons to remain with the State and requiring contractors to pay for oil and gas exploration and development activities and then recover their investment from actual production at a prearranged rate of return.
The first generation of these contracts focused on development of existing brownfields; subsequent generations extended to exploration and development of greenfield projects. These contracts were intended to attract much needed foreign capital and technology to Irans dwindling energy sector while not violating Iranian law nor requiring the National Iranian Oil Company (NIOC) to relinquish control over production. But throughout their various iterations, these buy-back contracts have remained unpopular with international oil companies as compared against other regional contractual arrangements for a variety of reasons, including:*limitation to exploration and development activities despite payments being based on production as carried out by the NIOC;
*inability to book reserves;
*a shorter term (5-7 years) as compared against typical production sharing agreements, particularly in light of the contracts technology transfer requirements; and
*lack of flexibility regarding operating targets and recovery of capital expenses.
New Iranian Petroleum Contract (IPC)
In order to rekindle interest in its energy sector and attract foreign capital and technology, in 2013 Iran announced that it was drafting a new model contract to govern upstream hydrocarbon activities (the Iranian Petroleum Contract or IPC). Although the actual draft IPC has yet to be made public, Iranian representatives have indicated that the IPC will have characteristics of both a buy-back and a production sharing contract, tailored specifically for Western oil companies with an enhanced focus on profit-sharing ( Newsbase,MEOG-Week 45). While the technology transfer and hydrocarbon ownership requirements will remain, contractors will partner with the NIOC to carry out exploration, development, and production activities, possibly extending to enhanced oil recovery. The IPC is to be a longer-term agreement, first announced to run up to 20 years and subsequently announced to be up to 25 years. The seven year limitation on capital recovery will remain, but this period may be extended in the event that the contractors costs are not recouped in that period. In addition, the IPC will aim to reduce delays in the decision-making process with the NIOC as compared against under the buy-back contracts.
Presentation of the IPC
The new IPC was originally scheduled to be presented in London in April of 2014, when Brent crude oil prices were topping $110/barrel. Presumably due to lack of progress with the P5+1, that date was postponed to summer of 2014, then to November 2014. When the JPOA deadline was extended to November 2014, the Iranian oil and gas conference at which the IPC was to be presented was postponed to 23-25 February 2015. A day after the November 2014 deadline passed, it was announced that the Iranian February 2015 oil and gas conference would nonetheless take place together with the presentation of the IPC. Shortly thereafter, however, the event was cancelled. From the time the IPC was first announced in 2014, crude oil prices have crashed to less than $50/barrel. Sources have indicated that the next tentative date for the conference and the IPC unveiling may be September or October 2015.
[1] http://eeas.europa.eu/statements/docs/2013/131124_03_en.pdf
[2] http://www.treasury.gov/resource-center/sanctions/OFAC-Enforcement/Pages/20141125.aspx
[6] http://www.wsj.com/articles/SB22749693127881543319304580270653313013496
[7] http://www.kslaw.com/library/newsletters/EnergyNewsletter/2014/March/article3.html
[8] http://www.treasury.gov/resource-center/sanctions/Programs/Documents/guidance_ext_11252004.pdf
[10] http://www.speaker.gov/press-release/speaker-boehner-iran-nuclear-talks?Source=GovD
[12] http://www.reuters.com/article/2015/01/15/us-usa-congress-iran-idUSKBN0KO01X20150115
[13] http://www.rttnews.com/2441874/iran-cautions-against-new-sanctions.aspx
[14] http://abcnews.go.com/Politics/president-obama-vows-veto-iran-sanctions/story?id=28273986
[15] http://eur-lex.europa.eu/legal-content/EN/TXT/PDF/?uri=CELEX:32014D0829
[16] http://en.itar-tass.com/world/761339
[17] http://en.itar-tass.com/world/761430
[18] http://uk.reuters.com/article/2014/11/30/russia-iran-idUKL6N0TK0G920141130
[19] http://itar-tass.com/en/russia/767903
[20] http://www.fmprc.gov.cn/mfa_eng/zxxx_662805/t1214623.shtml
[21] http://www.fmprc.gov.cn/mfa_eng/zxxx_662805/t1214619.shtml
[22] https://uk.news.yahoo.com/reconfiguring-iran-china-relations-083156470.html#omSzfN0
[23] http://online.wsj.com/articles/SB10001424052702303939404579531111999051656
[24] http://www.reuters.com/article/2014/11/20/opec-iran-saudi-idUSL6N0TA1DT20141120
[25] http://www.reuters.com/article/2014/04/11/us-iran-oil-idUSBREA3A1R020140411