Lifting of sanctions on Iran and New Iranian Petroleum Contract

Navid Rahbar Attorney at Law Partner and Director of International Practice Group

Disclaimer:

Please note that the content of new IPC is confidential and this article can only disclose the guidelines that have been approved and published by the cabinet.

Exploration and development of oil fields in Iran dates back to 1901, when William Knox D’Arcy received a concession from Mozzafar Al-Din Shāh Qājār for sixty years to exclusively explore for oil in Iran.

Exploitation of oil fields without fair payment to people and government, lack of control of the government over its natural resources and emergence of concept of right of self-determination as well as permanent sovereignty over natural resources in 1950s resulted in nationalization of the petroleum industry in Iran. The government of Prime Minister Mohammad Mossadeq formed the National Iranian Oil Company (NIOC) and led the movement. However, 1953 coup d’edat overthrew his government and therefore his effort to take control over the petroleum industry failed. Another attempt by Mohammad Reza shah Pahlavi in 1970s to fully take control of petroleum industry was not successful as well.

After the Islamic Republic of Iran’s Revolution, all concession agreements were terminated and investments of foreign investors were confiscated or nationalized.

The fear from dominance of foreigners over natural resources has been reflected in various articles of Islamic Republic of Iran’s Constitution (Articles 81 and 153). For instance, Article 153 expressly prohibits conclusion of any agreement with foreigners which lead to dominance of foreigners over natural and economic resources.

That is the reason that concession, joint venture agreements, product-sharing agreements have not been approved and accepted by the government of Iran.

As an alternative, various forms of agreement such as Buy-Back or other service agreements are the main frameworks to invest in Iran’s petroleum industry. Nevertheless such framework is not appealing enough for foreign investors to accept the risk of investing in Iran’s market.

After the Islamic Republic Revolution 1979, the new constitution banned the concession agreements.  As NOIC’s knowledge and technology was insufficient to explore and develop oil and gas fields and because of political and economic instability because of the Revolution and Iran-Iraq war, the Government of Iran (Ministry of Petroleum, NIOC and parliament) had to come up with a solution to provide enough incentives and assurance to foreign investors to invest in oil and gas fields of Iran.  That solution was buy-back agreements. Since 1995, buy-back agreements as one form of service agreements have been concluded between international petroleum companies and NIOC. In buy back agreements, International Oil Companies (IOCs) invest, explore for petroleum and after initiation of production, hand over the oil and gas reserves to government authorities. Meanwhile, IOCs and NIOC agree on development and production costs and particularly on ceiling of capital expenditure investment, period of recovery, operating and financial expenditures, and rate of returns that shall be paid to IOCs out of sale of produced oils of buy-back projects.

Couple of factors have negatively affected appealing of buy-back agreements in Iran. First of all, price of oil is decreasing and such instability in oil price might lead to delay in return of investment and all expenditures of IOCs. Second, it is not clear that how much investment in required for development of an oil field and setting a ceiling for capital expenditure might limit development of oil fields. Moreover, long term development of oil fields and optimizing production from oil fields require constant investment and such cap might limit the amount of oil that can be produced from such oil field and therefore might lead to postponement of repayment of investments and profits. Third, booking reserve is not allowed and IOCs cannot show the value of reserves that they have developed in their portfolios in compliance with disclosure rules for oil and gas reserves under securities and capital investment regulations.

Iran, 5+1 and the European Union concluded the Joint Comprehensive Plan of Action (JCPOA) last year and this agreement has been implemented in Januar y 16th, 2016. As a result many sanctions relevant to nuclear activities that banned investment on oil and gas industry are lifted now.

As Iran desperately needs to develop its oil and gas and the government of Iran relies on oil and gas revenue, NIOC and MOP were are of the view that buy back agreements are not sufficient enough to attract foreign investors. Therefore, MOP pursuant to Article 7 of Law on Duties and Authorities of MOP (May 8, 2012) proposed a new framework for Iranian Petroleum Contract (IPC) and the cabinet of President Rouhani approved it on October 1, 2015.^[1]

MOP pursuant to Article 3 of the Law on Duties and Authorities of MOP can propose new forms and framework of agreement for joint ventures with foreign investors and domestic and international contractors to develop hydrocarbon resources. The law emphasizes that ownership of hydrocarbon fields shall remain with the government of Iran and cannot be transferred to foreign investors. MOP shall own all hydrocarbons (oil, gas, liquids) and whatever is derived from them.^[2]

The term and duration of new IPCs, based on needs of each project, can be up to twenty years from the date of beginning of development operations. This term can be extended up to five years in certain circumstances.^[3]

In new IPCs, government, the central bank of I.R. Iran and governmental banks cannot guarantee the commitments of foreign investors.^[4] All risks and expenses in case of failure to find oil and gas or failure to reach to amount agreed to be produce by IOCs shall be born by IOCs.^[5] In case of lack of sufficiency of production capacity to reimburse IOCs’ expenses, such expenses shall be paid in a longer term and such term should be agreed by IOCs and Iranian partner.^[6]

The new IPCs are more flexible in terms of payment of fees. The new IPCs do not require to set a ceiling for capital expenditure and in new IPCs capital expenditure can be modified based on changes in fields and reservoirs or oil and gas price in the market^.[7]

The new IPC has introduced three categories of agreements.^[8] The first category is exploration, development and production agreements as one package. The second category is development of green fields and reservoirs and production. The last one is improving and enhancing oil recovery of brown fields and reservoirs^.[9]

Transfer of technology from IOCs to Iranian local partners is one of the main objectives of new IPCs. Therefore, new IPCs require establishment of joint operating companies or agreements to operate in Iran. The new decision requires foreign investors to utilize engineering and technical capacity of Iranian partners in all projects.^[10] IOCs are also obliged to train local partners and transfer technology to them. Moreover, in joint operating companies, the management shall be periodic and Iranian partners and executive positions should be gradually transferred to Iranian partners.^[11] 

The rule on reserve booking has not changed yet.

The new framework of Iranian Petroleum Contracts were proposed to find a solution for existing imbalance of interests of IOCs and NIOC is buy back agreements. These agreements have been seriously criticized by some political parties in Iran as being in favor of foreign investors. As noted above, the content of the new IPCs are confidential and detailed information about this contract cannot be disclosed.

[1] Published November 9, 2015 in Gazette No. 20588 (Decision on General Terms, Structure, and Models of Upstream Oil and Gas Contracts)

[2] Decision on General Terms, Structure, and Models of Upstream Oil and Gas Contracts, Article 11:5

[3] Ibid, Article 7.

[4] Ibid, Article 3:b.

[5] Ibid, Article 3:d.

[6] Ibid.

[7] Decision on General Terms, Structure, and Models of Upstream Oil and Gas Contracts, Article 1:28.

[8] Ibid, Article 2.

[9] Green fields/reservoirs are the ones that have been discovered by NIOC or other entities and are ready to be developed. Brown fields/reservoirs are the ones which have been already developed are in production phase.

[10] Decision on General Terms, Structure, and Models of Upstream Oil and Gas Contracts, Article 4.

[11] Ibid, 4:2.