Iraq looks to Chinese investors to meet ambitious output growth plans

Iraq's ambitious and long-stated drive to boost its crude production capacity has Baghdad increasingly looking eastward for needed investment, as western majors recalibrate their portfolios and seek higher returns.

Many western international oil companies have pulled back from Iraq, with China, by far the biggest buyer of Iraqi crude, bidding aggressively to replace them in recent years.

Some 34% of Iraq's proven reserves and two-thirds of current production is managed by Chinese companies.

CNPC is the largest Chinese investor in Iraq and holds stakes in Ahdab, Halfaya, Rumaila and West Qurna 1. CNOOC, Union, ZenHua and other minor players are also involved in production in Iraq.

Chinese companies combined have direct shares in around 24 billion barrels of reserves and are responsible for production of around 3.0 million b/d.

Other Asian investors including Indonesia's Pertamina, and Japan's Japex and Ituchu have also taken stakes in Iraqi projects.

But any expansion plans are constrained by domestic issues, including limited export capacity and access to water. Disputes over control of production in the semi-autonomous Kurdistan region have also taken a major bite out of Iraq's crude output.

Iraq is also subject to an OPEC+ quota of 4 million b/d, though its recent production has been much higher -- 4.27 million b/d in January, according to the latest Platts survey of the alliance's output. Iraq's oil ministry said Feb. 14 that it will review output and compensate for any increases over the next four months.

OPEC's second-largest crude producer Iraq is targeting 7 million b/d of capacity by 2027, up from around 5.4 million b/d in mid-2023.

Analysts see major challenges to this target, however.

"Increasing production is feasible from a geological perspective, but from a practical perspective it will be more challenging due to export capacity constraints," said Sarah Haggas, S&P Global Commodity Insights head of Middle East technical research.

Export struggles

Iraq's export capacity is limited by dated and deteriorating infrastructure, as well as a political and financial dispute with Turkey, which is blocking exports from northern Iraq via the Turkish port of Ceyhan.

The Kirkuk-Ceyhan pipeline was closed in March 2023. Ceyhan exports typically included around 375,000 b/d of Kurdish Blend Test and about 75,000 b/d of Kirkuk grade.

In response, Iraq has increased output at other fields to compensate for lost production in the north. S&P Global forecasts that most production could bounce back quickly if the Ceyhan pipeline dispute is resolved.

While there have been intermittent reports of negotiations, little progress has been made.

"The oil export from Kurdish oil fields are not likely to resume soon unless the parties involved compromise on their positions and so far, cannot see significant movement from any of them," Shwan Zulal, managing director of Carduchi Consulting, told S&P Global.

Foreign oil companies in the Kurdistan region have cut costs and have continued to make crude oil sales to the local market, at discounted prices with advance payments received directly by the IOCs to cover their operational costs.

Hence, some output has already come back on stream, as companies found local buyers. Norwegian oil and natural gas operator DNO said Feb. 8 that the gross output from its Tawke license in Kurdistan had largely recovered to levels before exports to Ceyhan were suspended.

A major issue continues to be a dispute over ownership of oil and gas produced in the Kurdistan region. Iraq's Federal Supreme Court ruled in 2022 that the KRG does not have the authority to independently market its oil and natural gas. The lack of clarity over control is reducing investor confidence.

Investment woes

Iraq's production plans require ongoing foreign investment, including in its key oil producing Basrah province. Foreign investors in the region, which is home to major fields Rumaila, West Qurna 1, Zubair, Majnoon, and West Qurna Phase 2, include Western majors, as well as Russian and Chinese investors.

Changes in shareholder structure could have a significant impact on Iraq's ability to ramp up production, with rumors frequently circulating about planned exits. Often these companies renegotiate terms and decide to stay, but ExxonMobil recently exited Iraq, when it transferred its 22.7% stake in West Qurna 1 to Iraq's BOC.

PetroChina is taking over as operator of the project. ExxonMobil previously sold a 32% stake in the Baeshiqa license in Kurdistan in 2021.

This followed Shell's exit from the Majnoon field in 2018. Currently, BP operates Rumaila oil field, and Eni runs Zubair.

Western sell-offs have increased China's control of the Iraqi oil sector. To date their involvement in Iraq has been met positively, with companies complying with local regulations and operations at their projects running smoothly.

China is also by far the biggest buyer of Iraqi crude. Around an average of 1.18 million b/d, or 35% of Iraqi crude is exported to China. It was the third-biggest supplier to China in 2023, after Russia and Saudi Arabia.

For now, Russia's invasion of Ukraine has not affected Russian companies' energy operations in Iraq, which include Gazprom's participation in Badra, and Rosneft's operations in Kurdistan, as well as Lukoil's stake in West Qurna 2 and the newly discovered field of Erido. In a sign that Iraq is committed to cooperation with Russian companies, Lukoil recently signed an agreement with Iraq's state-owned Basrah Oil Co. to extend its oil service contract for West Qurna 2 by 10 years to 2045 and double oil production from the asset to 800,000 b/d.

One area where Iraq could improve investment attractiveness is improving access to water. TotalEnergies is building a seawater treatment plant to provide water for injection to maintain pressure at oil fields. This is an alternative to unreliable fresh water supplies from rivers and aquifers.

Analysts see little difference in output plans if exiting companies transfer stakes to other experienced foreign companies, but if they come under Iraqi state control, there may be delays.

Iraq is heavily dependent on energy revenues. It will continue to need high oil prices as well as foreign investment to support output as well as the state budget over the next few years. S&P Global estimates its fiscal breakeven oil price at $101/b in 2023, $97/b in 2024, and $103/b in 2025. This is significantly above current prices, which are under downward pressure from non-OPEC supply growth and concerns about the global economy.

Platts, part of S&P Global, assessed Iraq's key crude grade Basrah Heavy at $77.97/b on Feb. 14.