Iran Risks Will Curb Investor Enthusiasm Even as Sanctions Ease

The end of economic sanctions on Iran under this week’s nuclear deal has been portrayed as a gold-rush opportunity in an oil-rich Gulf state, but returning to business as usual won’t be as easy as the burst of enthusiasm suggests.

Investors who wait months for sanctions to be lifted will then have to gamble that they won’t run afoul of enduring blacklists or the vow by the U.S. and other world powers that sanctions will “snap back” into place if Iran fails to live up to commitments to restrict its nuclear program.

“Hotel rooms in Tehran will be booked solid for months to come, and I think we’ll see some quick movement even by significant players in different markets,” said Suzanne Maloney, an Iran and Persian Gulf energy analyst at the Brookings Institution in Washington.

Even so, she said, many companies “will probably look with a significant amount of caution based on their previous experiences in Iran as well as concerns about the continuing degree of enforcement of current U.S. sanctions and exactly how the sanctions will be unwound.”

While the reopening of Iran holds appeal for industries from automotive and aircraft manufacturing to makers of consumer goods, the country’s economic attraction is always about energy first of all.

It holds the world’s fourth-largest reserves of oil and the second largest of natural gas. The biggest investment opportunities from abroad may lie in Iran’s need for capital and technology to revive its aging energy infrastructure.

Shell, Eni

Within hours of the news that a deal had been reached between Iran and six world powers on Tuesday in Vienna, Royal Shell Plc and Rome-based Eni SpA expressed interest in returning to Iranian energy projects as soon as it’s legal.

Cabinet ministers from France, Germany, India, South Africa, South Korea, Pakistan and Turkey said their governments support companies exploring business opportunities in the second-largest economy in the Middle East. German Vice Chancellor and Economy Minister Sigmar Gabriel plans to travel to Iran this month.

“Iran will get immediate relief primarily in the form of improved expectations, access to some restricted hard currency, and domestic investment,” said Richard Nephew, a former sanctions expert on the U.S. negotiating team with Iran who’s now a fellow at the Center on Global Energy Policy at Columbia University in New York. “Long-term international investment will lag.”

Six-Month Estimate

Over the past five years, a web of overlapping U.S., European and United Nations sanctions cut off Iran from the international financial system and forced out most foreign businesses. Iran’s oil exports, its leading source of revenue, were slashed by more than half, its currency plummeted and inflation soared.

Under the nuclear accord, which still must survive what is shaping up as a fractious debate in the U.S. Congress, Iran will be freed from economic and financial sanctions once UN monitors verify it has curbed its nuclear activities and addressed suspicions that it sought to develop nuclear weapons in the past.

That could happen by late 2015 or early 2016. U.S. officials estimate it will take about six months.

After that, Iran will be able to export oil without restrictions, and companies from abroad will be permitted to ship, insure, trade, broker, transfer payments and invest.

Significant Exceptions

Iran’s national oil company, its ports and national shipping line, its central bank and most of its airlines will be taken off sanctions blacklists. Most of its banks will be reconnected to the leading global financial-messaging system that facilitates bank transfers, known as Swift.

Iran also will be able to access more than $100 billion in payments for its oil exports that are currently frozen by U.S. sanctions in overseas foreign currency escrow accounts.

But there are significant exceptions to Iran’s reopening. Banks, airlines, construction companies and other entities and individuals that have been sanctioned for supporting terrorism or human rights abuses will remain on blacklists.

Also, U.S. citizens and companies will still be prohibited from doing business with Iran in all but a few cases including civilian aircraft, food and carpets under the longstanding U.S. embargo on trade with the country. However, foreign subsidiaries of American firms will be allowed to trade and invest.

Reputational Risks

“Foreign businesses will be slower to return than Iran expects because of compliance, reputational and counterparty risks,” said Mark Dubowitz, executive director of the Foundation for Defense of Democracies in Washington, who helped devise U.S. sanctions.

“No company wants to wake up to a front-page story that its business partner is Iran’s Islamic Revolutionary Guard Corps or that the new U.S. president has re-imposed tough sanctions,” Dubowitz said.

That’s in part because of lingering fears over record U.S. fines and penalties imposed on companies that violated sanctions on Iran, including $8.97 billion on French bank BNP Paribas SA last year and $233 million on Paris- and Houston-based oil-services giant Schlumberger Ltd. this year.

With such past conflicts in mind, France’s Foreign Minister Laurent Fabius said the French, German and U.K. governments had obtained letters from the U.S. assuring protection from American prosecution for European banks doing business with Iran in the future.

Guard Corps

Companies will need to ensure that they’re not doing business with blacklisted entities such as the Guard Corps, which controls major sectors of Iran’s economy.

“From a compliance perspective, Iran is going to make Cuba and Myanmar look easy.,” said Peter Harrell, a former State Department official who worked on Iran sanctions and is now a fellow with the Center for a New American Security in Washington.

Business in Iran will also be complicated by an outdated legal system, restrictive labor laws and a lack of experience in dealing with international investors, said Firas Abi Ali, head of Middle East analysis at IHS Cambridge Energy Research.

“Banks will remain hesitant to advance Iran trade credits,” said Kenneth Katzman, an analyst at the nonpartisan Congressional Research Service in Washington and an author of reports on Iran sanctions. “Banks are highly risk-averse and will remain hesitant” for a long period of time, he said.

When sanctions are lifted, the first beneficiaries are likely to be Iran’s state-owned oil company and the five countries currently permitted to buy its crude -- China, Japan, South Korea, India and Turkey -- as well as European nations that had ceased buying from Iran. Oil sanctions imposed in 2012 cut Iran’s exports by more than half to 1.1 million barrels per day, depriving the government of its leading source of revenue.

The new agreement will let Iran add about 500,000 barrels a day by mid-2016, and 500,000 a day more by the end of next year, Commerzbank AG estimates.