Key Legal Developments Shaping Asian Investments in Iraq's Upstream Oil and Gas Sector
China Focus
Thomas CalvertPartner, Head of Corporate Commercial - Iraq, Head of China Group
Iraq has conducted several licensing rounds for oil and gas since 2009 to attract international investment and expertise. The first and second rounds focused on awarding contracts for the development of large oil fields in southern Iraq and natural gas fields. Subsequent rounds expanded to include exploration blocks and smaller fields across the country. These rounds have seen the participation of major international oil companies, resulting in significant production increases.
A major development is the increasing involvement of Asian investors in the Iraqi oil and gas sector, particularly from China, which has become the largest importer of Iraqi crude oil and the most active player in the upstream and downstream segments. China's presence in Iraq is driven by its strategic interests in securing energy supplies and expanding its influence in the region, as well as by its competitive advantages in terms of financing, technology, and risk appetite. China's investments in Iraq have also been facilitated by the close political and economic ties between the two countries, as evidenced by the signing of a strategic partnership agreement in 2019 and the inclusion of Iraq in the Belt and Road Initiative.
The form of upstream contracts in Iraq have also witnessed significant developments in recent years, especially in relation to the Fifth (+) and Sixth Licensing Rounds, which introduced new contractual models and opportunities for foreign investors.
In this article, we will review some of the key features and implications of the Development and Production Contract (DPC) and the Exploration, Development, and Production Contract (EDPC), which are the standard contracts issued by the Ministry of Oil of the Republic of Iraq (MoO) for the Fifth (+) and Sixth Licensing Rounds. We will also highlight some of the legal risks and considerations that Asian investors should be aware of when entering or operating in Iraq's oil and gas sector.
The first four licensing rounds for oil and gas in Iraq included awarding contracts for large oil fields in 2009 (Rumaila, West Qurna-1), additional oil and gas fields later in 2009 (Majnoon, West Qurna-2), natural gas fields in 2010 (Akkas, Mansuriya, Siba), and exploration blocks in 2012.
The Fifth Licensing Round, which was launched in 2018, offered 11 exploration blocks in different regions of Federal Iraq. The Sixth Licensing Round, which was announced in 2023, offered five discovered but undeveloped fields. The Fifth and Sixth Licensing Rounds somewhat departed from the technical service contracts (TSCs) that were used in the first to fourth licensing rounds, which offered fixed remuneration fees for each barrel of oil produced. Instead, the Fifth and Sixth Licensing Rounds adopted standard contracts (DPC and EDPC) that are based on a risk service contract (RSC) model, which allows the contractor to recover its costs and receive a variable remuneration fee linked to the oil price and the production rate.
The DPC and the EDPC have some common features, including fiscal structure. At high-level, the remuneration fee is calculated based on a formula that takes into account the oil price, the production rate, and cumulative production. Generally the revenue flow for recent EDPC/DPCs is as follows:
Deemed Revenue: This is the initial total revenue.
Royalty:
A percentage of the Deemed Revenue is allocated as Royalty to the government.
Net Deemed Revenue:
The remaining Deemed Revenue after the Royalty is considered Net Deemed Revenue.
Cost Recovery:
A percentage of the Net Deemed Revenue is allocated for Cost Recovery to the contractor.
Remaining Net Deemed Revenue:
This is the portion of the Net Deemed Revenue left after Cost Recovery.
Remuneration:
From the ‘Remaining Net Deemed Revenue’, a certain percentage (determined by the bid and subject to a performance factor) is allocated as Remuneration to the contractor.
35% of this Remuneration is then taken as Corporate Income Tax.
Other terms include:
The the term of the standard form contract is 20 years, extendable for five years by mutual agreement.
The contractor must establish a normal presence and necessary personnel and equipment in Iraq within six months after the approval of the exploration plan or the preliminary development plan.
The contractor must contribute to certain funds, such as the employment, training, technology, and scholarship fund, with some contributions not recoverable as petroleum costs.
The contractor must comply with the applicable laws and regulations of Iraq, including the environmental, health, and safety standards.
The contractor's rights to terminate the contract are limited, and termination results in forfeiture of all accrued and future rights, including financial entitlements.
The contract allows for international arbitration governed by the International Chamber of Commerce rules, with proceedings conducted in English.
However, the DPC and the EDPC also have some significant differences, the DPC applies to discovered but undeveloped fields, while the EDPC applies to exploration blocks. The DPC requires the contractor to submit a preliminary development plan within six months after the effective date of the contract, while the EDPC requires the contractor to submit an exploration plan within the same period. Further, the DPC does not have an exploration phase or a relinquishment obligation, while the EDPC has a four-year exploration phase, extendable for two years, and a relinquishment obligation of 25% of the contract area after the first extension and 50% after the second extension.
The DPC and the EDPC reflect the MoO's attempt to attract foreign investment and technology to Iraq's oil and gas sector, while also ensuring a fair share of the revenues for the state. In light of the above developments and challenges, Asian investors in Iraq's oil and gas sector should adopt a proactive and prudent approach to protect their interests and mitigate their risks.
Some of the recommended measures for contractors include:
Conducting a thorough due diligence of the legal, regulatory, and contractual framework applicable to the oil and gas sector, and seeking expert advice from specialist lawyers with local experience.
When considering the terms and conditions of the DPC and EDPC, it is essential to account for the specific requirements of the particular oil or gas field, adhere to best international practices, and comply with local regulations. This process must address the contractor's concerns and demands, particularly regarding the legal and financial aspects of the contracts. This includes the application of definitions, obligations, and rights of all parties involved, ensuring the contractor is fully informed about operational, taxation, and recoverable cost parameters. Ultimately, this approach aims to guarantee the stability and enforceability of the contracts.
Ensuring that preparations are made early for corporate establishment and structuring in Iraq.
Reviewing tax issues, to consider tax laws or their interpretation or application.
Establishing and maintaining good relations with the Iraqi government, the MoO, the ROCs, and other relevant stakeholders, and engaging in constructive dialogue and cooperation to resolve any issues or disputes.
Preparation to ensure compliance with the local content and environmental obligations under the DPC and EDPC and the Iraqi laws, and contributing to the social and economic development and sustainability of Iraq and its people.
In conclusion, Iraq's oil and gas sector offers significant opportunities for Asian investors, especially in the context of the Fifth (+) and Sixth Licensing Rounds, which introduced new contractual models and terms that are more favorable and flexible than the previous TSCs. However, the legal environment in Iraq remains complex. Asian investors should be aware of these issues and seek expert legal advice before entering or operating in Iraq's oil and gas sector.
Our leading Iraq oil and gas team excels in navigating complex legal and financial landscapes, ensuring our clients achieve stability, compliance, and success in their ventures.
For further information,please contact Thomas Calvert.
Published in September 2024
