Commodities

Julian Lee is an oil strategist for Bloomberg First Word. Previously he worked as a senior analyst at the Centre for Global Energy Studies.

(Updated )

Iran has taken a big step toward bringing foreign investors back into its oil and gas sector. The experience of neighboring Iraq shows it still has a long road to walk, though -- if successful -- there may well be a lesson here for Saudi Arabia on opening up to outside help.

Iran has restored most of the production it lost because of sanctions imposed in 2012, confounding analysts with its speed of recovery. Crude exports are back at 2 million barrels a day and the country is slowly re-establishing itself in European markets.

Sanctions Effect
Iran has restored most of its sanctions-hit production - now it looks ahead to growth
Source: Bloomberg

But the next step -- taking output back to levels last seen before the 1979 revolution -- needs the assistance of foreign oil companies. And that's much more complicated.

Long-term Goal
Iran's longer-term aim is to restore production to the level enjoyed before the Islamic Revolution
Sources: Bloomberg, Centre for Global Energy Studies

Last week, Iran's cabinet approved the general terms of a contract model that will govern foreign oil and gas investments. In doing so, it overcame months of hostility from hardliners in Tehran, who oppose the concessions made to get sanctions lifted. The resolution now has to be endorsed by parliament, where it also faces opposition.

Assuming it makes it through, the model looks promising enough. It reaffirms that oil and gas reserves will remain under sovereign ownership, so no surprise there. But it opens the way for foreign involvement in three types of project:

1. Exploration - leading, if successful, to development and production;

2. Development of already discovered, but undeveloped, reserves;

3. Using enhanced oil recovery techniques to raise output from mature fields.

Contracts will be valid for up to 20 years from the start of development, with an extra exploration period if appropriate. Enhanced oil recovery projects may be extended for another five years beyond that. Payment to foreign investors will be in cash or as a share of output at the discretion of the National Iranian Oil Company.

Investors are also being offered protection from any future OPEC output reductions, remote as that possibility may seem today. The resolution states that non-technical production cuts will fall on fields with no repayment commitments -- effectively, those without external partners.

Iraq's experience shows that even with an agreed model, things may move slowly. Baghdad approved its oil law in March 2007, four years after the U.S.-led invasion that toppled Saddam Hussein. Yet the first contract wasn't awarded for another two and a half years, after an initial bidding round in which no would-be investor proposed an acceptable fee. For Iran, too, the payment requested by foreign bidders will be the big factor in determining winners. 

Iraq's Slow Burn
Iraq has added 2.5 million barrels a day of production in 13 years since the U.S.-led invasion
Source: Bloomberg

Once implemented, though, the Iraq contracts helped it boost production by 2 million barrels a day, or 80 percent, within about six years. Plus investors in Iran won't face the same sort of security and stability problems as in Iraq, meaning they may be willing to pay more from the start. That said, uncertainty over any potential snap-back of sanctions, or reluctance by Western banks to lend to projects in Iran could bring their own delays.

As I noted a couple of months ago, if Iran is successful it will leave Saudi Arabia and Kuwait as the only oil producers determined to go it alone, as former champions of oil nationalism have, one by one, embraced foreign investment. Will a partial privatization of Saudi Aramco increase pressure for the kingdom to follow suit? It ought to.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Julian Lee in London at jlee1627@bloomberg.net

To contact the editor responsible for this story:
James Boxell at jboxell@bloomberg.net