China Just Got Handed The Oil Deal Of A Lifetime

Authored by Simon Watkins via OilPrice.com,

China and Russia are sewing up whatever oil and gas fields and accompanying infrastructure that they can in Iran and Iraq, as Iraq tries to markedly up the pace of development on the fields it shares with Iran. Iraq only wants the U.S. for the Common Seawater Supply Project (CSSP) because ExxonMobil is the only firm that can do it properly and within a reasonable timeframe. ExxonMobil’s participation, though, is far from guaranteed.

Of all the key shared fields – Azadegan (Iran side)/Majnoon (Iraq side), Azar/Badra, Yadavaran/Sinbad, and Dehloran/Abu Ghurab, Naft Shahr/Khorramshahr – the first of these has been a priority for Iran since it was severely flooded in March. It is this field that was the focus of the announcement last week that two major new drilling contracts have been signed: one with China’s Hilong Oil Service & Engineering Company to drill 80 wells at a cost of US$54 million and the other with the Iraq Drilling Company to drill 43 wells at a cost of US$255 million.

According to senior oil and gas industry sources spoken to by OilPrice.com last week, it is China that will do all of the work and finance all of the drilling, with the headline ‘Iraq Drilling Company’ being on the contract simply to assuage the followers of Moqtada al-Sadr, the de facto leader of Iraq, and his Sairoon (‘Marching Towards Reform’) power bloc whose public message at the last election was that Iraq should not be beholden to any other country. OilPrice.com understands that al-Sadr privately has approved the project, otherwise, of course, it would not be going ahead.

Located around 60 kilometres to the north-east of the main southern export terminal of Basra, the supergiant Majnoon oilfield is one of the world’s largest, holding an estimated 38 billion barrels of oil in place. Rather literally, the field’s name means ‘insane’ in Arabic, derived from its possessing an ‘insanely’ large amount of oil. Discovered in 1975 by Brazil’s Braspetro (now part of Petrobras), it has been subject to a microcosm of the troubles that have affected the Iraq oil industry as a whole, with two U.S.-led wars, the war against Iran, and ongoing domes­tic security issues leading to the cancellation of various deals with international oil companies (IOCs) over the past 40 years. A major ongoing problem for development remains the substantial quantity of unexploded ordinance in and around the site that dates back to the 1980-1988 Iran Iraq War.

Having been awarded the licence for the field on 11 December, 2009, it took Shell Iraq Petroleum Development (SIPD) and its partner Petronas nearly 18 months to clear 28 square km of land of explosives, prior to constructing and opening the first well, and then restarting production on 20 September 2013. The Shell subsidiary had to develop a new approach for removing mines, involving the use of heavily-armoured bulldozers and loaders. During the site’s construction phase, over 12,000 items were cleared and destroyed using this technique.

Additionally, in order to circumvent the dangerous conditions, the super-major had to transport an initial 48,000 tonnes of steel via the Shatt al-Arab waterway, which had previously been closed to commercial transport for 31 years. Given these logistical constraints and the longer-than-expected delay in generating any revenue from the project – already fixed under the terms of the technical service contract (TSC) terms at a relatively tight per barrel fee of US$1.39 per barrel for the developers – there was much talk that the consortium at the time (SIPD 45%, Pet­ronas 35% and Iraq’s Missan Oil 20%) was in the process of renegotiating key parameters of the concession.

As it transpired, given the Iraqi view that the enormous reserves in situ and the low costs of recovery would more than offset any other con­siderations, negotiations were unsuccessful. The consortium moved quickly to boost output from the 46,000 barrels per day (bpd) level being produced when it took over in 2009. Within a very short timeframe from production re-commencing, the consor­tium managed to boost output to the 175,000 bpd first commercial production target (the threshold for cost-recovery payments for Shell), and by the end of the first quarter of 2014, the field had an average output of 210,000 bpd. As it stands, the field is now producing only marginally more, at 240,000 bpd.

Longer term, the original production tar­get figures for the Shell-led consortium still stand: the first production target of 175,000 bpd (already reached), and the plateau production for the site of 1.8 million bpd. The Iraq Ministry of Oil’s own latest target is for 450,000 bpd by the end of 2021. All things remaining equal, the International Energy Agency (IEA) maintains its projection for 700,000-1 million bpd at some point in the 2030s.

As it has transpired, the floods in March handed China ‘a deal of a lifetime’, according to Iraq oil industry sources. It is widely posited that much of the structural damage to the Majnoon area was caused by the erosion of subsoil across over one million hectares of forest and brush land in both sides of the region – Azadegan and Majnoon – by Iran’s Islamic Revolutionary Guard Corps (IRGC) as a result of extensive building programmes. Because of the geology of the region, Majnoon fared worse than its neighbouring Azadegan. Crucially, though, China is currently the lead operator of the North Azadegan field, and is in prime position in South Azadegan as well, so it is in a position to address the potential flooding problem across the entire region, covering both Iran and Iraq sides, and including widespread berm building and maintenance, and directing of water flows.

Partly because of this, China has been negotiating a deal with Iraq for one of its oil and gas entities (China National Offshore Oil Corporation is the one on the table currently) that involves a 25-year contract. However, the contract would officially start two years after the signing date, so allowing CNOOC to recoup more profits on average per year and less upfront investment, according to a senior Iraq source. The per barrel payments to China will be the higher of either the mean average of the 18 month spot price for crude oil produced, or the past six months’ mean average price.

It also involves at least a 10% discount to China for at least five years on the value of the oil it recovers. China, for its part will make good on the structural damage to the site and will increase output to at least 500,000 bpd by the end of May 2021.

“With the terms of the deal on the table, China would make between eight and nine billion dollars profit every year from Majnoon alone,” concluded the Iraq source.