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Sunday, August 07, 2005

OPI WEEKLY: EU-3 POLITICS AND THE UNCERTAIN FUTURE OF IRAN'S AGING FIELDS

Things are getting tricky in Iran. Just as relations with the West are taking a sharp downward turn, there are increasing signs of production trouble in several of Iran’s aging oil fields. The combination is a bad one. The oil markets are looking for an extra million barrels of oil from Iran by 2010 and if production problems continue or worsen, the Iranians will need Western help to maintain, let alone increase, production. To make matters worse, the newly elected president in Iran, who promised during the campaign to replace the country’s “oil mafia,” is set to name a new Oil Minister. All this put together spells trouble for one of the world’s stalwart oil producers and the market it serves.

NUCLEAR TALKS WITH THE EU-3

Iran’s nuclear talks with the Britain, France, and Germany are all but dead. Frustrated at the pace of the negations, Iran announced last week that it would once again resume processing uranium. Although Europe responded with a new package of economic and incentives to dissuade Iran from resuming uranium processing, Iran rejected the offer outright. The EU-3 has now joined the U.S. in insisting that if Iran resumes its nuclear program, the matter will have to be referred to the U.N. Security Council. Iran says that it will nonetheless recommence uranium processing as early as next week.

For Britain and Germany the collapse of the talks is practically a non-issue. Both countries are far too concerned with internal security (Britain) and internal politics (Germany) to care much about Iran. And neither has held out much hope or desire of late for a common European foreign policy.

For France, however, the collapse of the talks constitutes yet another embarrassing defeat. While France had hoped to use the talks to show itself it be an alternative global power-broker to the U.S. and as the leader of a (sort of) common European voice, they are now left with no choice but to echo the U.S. in calling for a Security Council referral.

As for Iran, it never cared much about the EU-3 talks in the first place. In fact, Iran is not as intrinsically concerned at the moment to become a nuclear state –although they would certainly relish the importance in the world generally, and the admiration in the Muslim world in particular, that possession of nuclear weapons would bring—as they are to use the nuclear issue as a pressure point with the U.S. to gain ground in the unfolding political order in Iraq. While Iran certainly does not wish for a confrontation at the U.N., it does want the attention of the U.S. in order to make headway in Iraqi politics.

While Iran said today that it does not fear referral to the Security Council, the move would have an immediate effect on the international oil company (IOC) involvement in the state. Even though Russia and/or China would almost certainly block any proffered sanctions package, European and Canadian firms in particular would be unlikely to buck the political pressure to withhold investment in Iran.

The possibility of such a freeze on investment in its oil industry comes at a particularly unwelcome time for Iran. As survey of Iran’s oil industry reveals, investment in expensive recovery technologies is exactly what Iran needs if it is to meet its production targets.

IRAN'S AGING OIL FIELDS

Cambridge Energy Research Associates released a report recently painting a relatively comforting picture of the prospects that oil supply through 2010 would be adequate to meet ever-increasing demand. Among the countries that its authors identify as the sources for this medium term production is Iran, which they say will increase production by a little over a million barrels per day from its current level of about 4 million bpd to 5.4 million bpd. A 20% plus increase such as this is a lot, but shouldn’t be too much to expect from one of the world’s most prolific producers. Or is it?

There are serious questions about Iran’s ability to maintain current oil production levels, let alone increase production by 1.4 million barrels per day in the next five years. Like Saudi Arabia, most of Iran’s production comes from aging super-giant fields that increasingly require maintenance to sustain production. Unlike Saudi Arabia, however, the geology of Iran’s fields is generally more fractured and complex, making field maintenance more difficult and ultimate yield percentages lower.

Industry analysts estimate that Iran is losing 350,000 to 400,000 bpd per year of oil production capacity. Decline rates are now about 8% per year for Iran’s onshore fields and 13% per year at its offshore production sites. Unless stemmed, the decline rate could increase to 500,000 bpd per year by 2010.

So where will Iran get the extra 1 to 2 million barrels per day of capacity to replace the declines and meet the increased production targets?

Outgoing Iranian Oil Minister Bijan Namdar Zanghaneh recently announced that Iran would bring three new fields online in the near-term in order to raise production from 3.95 million bpd to 4.2 million bpd. Those fields are Soroush and Norouz in the Persian Gulf (190,000 bpd) and the Darkhovin field run by Italy’s ENI in the southwest province of Khuzestan. Darkhovin is slated to add 160,000 bpd to Iran’s total output by year end 2006, although the field is currently producing only 55,000 bpd. Another offshore field, Sirri, also was also recently upgraded to make up for declines elsewhere.

Where the rest will come from, however, is less clear. According to the Energy Information Administration six fields, all in the prolific Zagros belt stretching through southern Iran and Iraq, make up almost three-fourths of Iran’s production:


bbl/d % Total Production

Ahwaz-Asmari
700,000 21%
Gachsaran 560,000 17%
Marun 520,000 16%
Bangestan 245,000 7%
Agha Jari 200,000 6%
Karanj-Parsi 200,000 6%


72%


These fields, however, are not without their differences. The giant Ahwaz field, Iran’s most prolific producer, draws its oil from two disparate formations, the high permeability Asmari sandstone and the less porous reservoirs of the Bangestan group. While the Asmari sandstone formation is expected to yield as much as 64% of total oil in place, the often fractured, tight carbonates of the Bangestan group have yield percentages as low as 20%. The overall yield for the field may thus be a modest 40% of oil in place.

However, even that 40% can be recovered only with the assistance of aggressive recovery programs requiring substantial foreign investment. Production from the Bangestan group of Ahwaz, for example, has fallen from its peak 250,000 bpd to 160,000 bpd and is likely to fall to 60,000 bpd within one to two years without a massive gas injection program. While a successful injection program could bring production rates back up to over 200,000 bpd the steep and rapid decline it is a sure sign that the field is past its producing prime.

In fact, the National Iranian Oil Company has been forced to cut back and shut in some wells in most of its major fields due to rapid pressure drops and rising water cuts. This has occurred in all of the giant fields of the Zagros belt, including Ahwaz, Gachsaran, Marun, and Agha Jari.

The Agha Jari field is an instructive case in point. Initially discovered in 1938, the field continues to be on of Iran’s top five or six producers. However, almost 10 billion of the field’s 15 billion recoverable barrels have already been produced. Production from the field peaked in 1974 at 1 million barrels per day, after which the field produced a steady 850,000 barrels per day for 17 consecutive years. The field now clearly on its last legs, producing 187,000 barrels per day, with the help of a whopping 3 bcf per day of injected gas.

What is key here is not that Agha Jari field or any of the other Zagros fields are old and depend upon the application of advanced recovery methods –such is the fate of even the world’s greatest producers—but rather Iran recently identified the field as one upon which they are counting to meet their aggressive production targets.

One further source, the Darkhovin field run by Italy’s ENI in the southwest province of Khuzestan, is slated to add 160,000 bpd to Iran’s total output. However, the field is currently producing only 55,000 bpd.

Offshore production, which now stands at around 750,000 bpd is projected to increase to as much as 1.1 million bpd by 2010. The projected output boost would be made possible following extraction of oil from Sorush, Norouz, Dorud, Salman, Behregansar, and Hendijan fields.

NEW OIL

Iran has had some success in adding new reserves through exploration, particularly in the Abadan Plain bordering Iraq. The Azadegan and Yadavaran oil fields in southwestern Iran hold an estimated 10 billion barrels of estimated reserves.

However, these fields will be expensive and technologically challenging to produce. The reserves are contained within the fractured, low-permeability carbonates of the Bangestan group. In addition, the quality of the crude produced is relatively heavy low, with a gravity less than 28˚, as opposed to the 34˚ plus crude produced elsewhere in the country.

Regardless, once developed the fields could produce 50,000 bpd of crude oil by 2007, 150,000 bpd by 2008, and a final 260,000 bpd by March 2012.

A ROUGH ROAD FOR IOC'S IN IRAN

Given the complex and mature character of Iran’s mainstay fields, technology will make or break Iran in its ability to hit its production targets. Bijan Zanganeh, Iran’s Oil Minister, told reporters recently that “With heavy investment, there is capacity for one million barrels per day to come from unfinished projects.” But will that investment be forthcoming?

Barriers to foreign oil company involvement in Iran’s oil sector have been high. The Iran-Libya Sanctions Act has prevented U.S. companies and dissuaded many non-U.S. companies from developing fields there. In addition, the buy-back system that Iran uses to contract with foreign operators is complicated, inconsistent, and often does not yield attractive investment terms. Increasing uncertainty about Iranian production and reserve estimates has also softened interest in Iranian involvement.

Regardless, many foreign companies recently have entered into exploration, development, and production contracts with the National Oil Company of Iran, including ENI in the Darkhovin onshore and Doroud offshore fields. A Japanese consortium inked a deal in February 2004 to develop the recently discovered Azadegan and Yadavaran fields, and Royal Dutch/Shell, Petronas, Total, Repsol YPF SA, and ENI SPA have also expressed interest in Iranian projects.

There is increasing pressure, however, from Iran’s resurgent conservatives to curtail foreign involvement in its oil sector. Many claim that the oil ministry awarded contracts to foreign firms although Iranians could have done them just as well, but at a lower cost. In March 2005, a the potentially lucrative contract to revive the giant Bangestan field was awarded to Petro Iran Development Co., after having been delayed several times since 2001. Shell pulled out of talks on involvement in the project in 2003 saying that it was frustrated with the slow pace of negotiations, including numerous changes to terms of the project. France’s Total and BP also bid on the project before it was awarded to the Iranian firm.

Despite conservative claims to the contrary, the Iranian company alone does not have the technological sophistication necessary to salvage the aging field. This inability has been made clear by the rapid declines in Iranian production and is widely acknowledged within the industry.

THE NEW IRANIAN LEADERSHIP: POPULIST HYPERBOLE OR FUTURE POLICY?

The anti-IOC camp has been buoyed by the presidential election win of Mahmoud Ahmadinejad who vowed during the recent campaign to “cut off the hands of the mafias of power and factions which have a grasp on our oil.” The problem for Iran and the markets which depend on Iranian oil is that it is the “oil Mafia” in the country which is most cognizant of the need for IOC involvement in the country.

However, the extent to which such promises are populist bluster or indicative of future policy will be determined when he announces who will become his Oil Minister.

Deputy Oil Minister Hadi Nejad-Hosseinian was among the early frontrunners. He is well respected in the international oil industry and during an earlier stint as Iran’s Ambassador to the U.N. made a point of meeting with all the IOC heads. However, because of this identification with the old oil regime in Iran, he has faded from consideration for the top post.

Others on the short-list include Kamal Daneshyar and Hossein Nejabat, conservatives on parliament’s energy commission, and Ali Beheshtian, a highly experienced Iranian oil executive. Daneshyar has been outspoken in opposition of IOC involvement in Iran’s gas industry but has not suggested that current IOC contracts should be reconsidered. The same cannot be said of Nejabat who has unsettled investors by not only criticizing the buy-back structure of IOC deals but has suggested going back and reconsidering deals already signed.

Beheshtian, on the other hand, is an experienced executive who now manages the Iranian petrochemical industry’s investment company. However, his previous stint at the National Iranian Southern Oil Company ended in a spat with outgoing oil minister Zanganeh when the latter charged Beheshtian with surrendering too much in foreign contracts.

CONCLUSION

The coming week will be an interesting one in Iran. The new president in Iran will have to proffer a response one way or another to the U.S. and Europe, and his choice for Oil Minister will send important signals to the oil market. However, IOC involvement in Iran looks destined to decrease and given the current predicament of Iran’s oil industry the country seems destined to miss the production marks the oil markets are counting on.

7 Comments:

At 3:29 PM, Blogger David Amulet said...

This is an insightful, exhaustive analysis that brings a lot of things together. I can only wonder how Iran's decision to remove the IAEA seals at its facility in Isfahan will further inflame the situation. I would be interested in your views on what a ratcheting up in US-Iranian tensions would do to the oil markets. -- David Amulet of DavidAmulet.blogspot.com

 
At 7:05 PM, Blogger David W. Martin said...

Thanks for your comments, David. There is no doubt that the oil market counts on Iran's oil. Any indication that less Iranian oil will come to market will lead the market to tighten. In the short term, I think Iranian oil is fairly safe --I don't think the U.N., thanks to Russia and China, will sanction Iran. However, any indication that the U.S. is contemplating strikes on Iran's nuclear facilities will rattle the market and force prices up that way. In the long term, the outlook is even less rosy. The more acrimony there is with Iran over nukes, the less likely U.S. allies will be to participate in the rehabilitation of Iranian fields.

 
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