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Simon Watkins

Simon Watkins

Simon Watkins is a former senior FX trader and salesman, financial journalist, and best-selling author. He was Head of Forex Institutional Sales and Trading for…

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Iran Looks To Poach Saudi Oil Contracts With New Projects

Iran has been looking in earnest to poach major oil supply contracts from Saudi Arabia since the Tehran-backed Houthi attacks on two of the Kingdom’s key oil facilities on 14 September 2019, especially for coveted Asian customers. Following Saudi’s decision to unilaterally cut one million barrels per day (bpd) below its latest OPEC+ quota originally set last month, Tehran announced last week that the National Iranian Oil Company (NIOC) has signed US$1.2 billion-worth of contracts for eight new projects designed to significantly increase its crude oil production. Although these projects will be broadly managed by Iranian companies, they are part of a patchwork of projects that were formulated in tandem with the 25-year deal made with China in 2019, which will heavily feature Chinese companies working on a ‘contract-only’ basis, albeit lots of contracts across all business sectors across all fields.

When Iran’s Foreign Minister, Mohammad Zarif, visited his China counterpart, Wang Li, in August 2019 to present his Chinese hosts with a road map on the China-Iran comprehensive strategic partnership that had been originally signed in 2016, a dramatic phased scaling up of the initial 2016 strategic co-operation framework was agreed. For its part, Iran was to give a swathe of beneficial terms to China, beginning with granting Chinese companies the first option to bid on any new or stalled or uncompleted oil (and gas) field developments. China was also to be given the right to buy any and all oil (gas, and petchems) output at a minimum guaranteed discount of 12 per cent to the six-month rolling mean average price of comparable benchmark products, plus another 6 to 8 per cent of that metric for risk-adjusted compensation. Critically as well, China was allowed to pay for all of the oil (and gas and petchems) products in soft currencies that it has accrued from doing business in Africa and the Former Soviet Union states, which effectively gave a further discount to China of up to 12 per cent, giving a total discount of around 32 per cent for China on all oil gas, and petchems purchases. Related: UAE Oil Major Turns To Hydrogen

For its part, China’s key commitment on oil – over and above its key political commitment to support Iran in the U.N. Security Council (on which it has one of just five Permanent Member votes, with Russia, France, the U.S., and the U.K. being the others) – was to increase crude oil production from Iran’s West Karoun oil fields cluster. At that time, the West Karoun fields – which include the huge oil reservoirs of South and North Azadegan, South and North Yaran, and Yadavaran, among other lesser-known sites – were together producing around 355,000 bpd of oil only, based on a recovery rate across the West Karoun oil region of between 3.5 and 5.5 per cent only. According to Iran’s Petroleum Ministry, each 1 per cent increase in the rate of recovery from the West Karoun fields will increase recoverable reserves by 670 million barrels, or US$33.5 billion in additional revenues with oil at an average of US$50 per barrel. Given that the average lifting cost per barrel of crude oil in Iran is almost exactly the same as in Saudi Arabia, at US$1-2 per barrel, there is no reason why the recovery rates in each country should not be almost exactly the same as well, rather than the 4 per cent or so average in Iran and the 50 per cent current average in Saudi Arabia (with realistic plans to rise this to at least 70 per cent). It was decided between Zarif and Wang back in August 2019 that Chinese companies would increase the 355,000 bpd output from West Karoun by another 145,000 bpd in the first phase (to 500,000 bpd) and then by another 500,000 bpd (to 1 million bpd).

It was around that point, though, that the trade war rhetoric began to be scaled up by former U.S. President Donald Trump, together with a consistent ramping up of sanctions against Iran and those trading with it following the U.S.’s unilateral withdrawal from the Joint Comprehensive Plan of Action in 2018. This meant equally that China felt that it should tread more softly in its dealings with Iran but that its help was more needed than ever, One year after the U.S. withdrawal from the JCPOA, OilPrice.com exclusively highlighted the true economic figures from Iran, which made grim reading if you were Iranian. Using a comparison benchmark of November 2019, as of the May/June 2020, Iran’s GDP growth was minus 22 per cent, unemployment was around 37 per cent, inflation was over 65 per cent, and the rial had depreciated at least 65 per cent over that period against a basket of core global currencies. Iran was also currently running a budget deficit of 80 per cent, and a trade balance of negative US$6.5 billion. Related: Saudi Output Cut Boosts Demand For Russia’s Urals Crude

As a product of these dynamics, two peculiar types of low-key announcements started to appear regarding new developments in Iran (and Iran-sponsored Iraq as well). The first of these involved extremely high-cost projects being announced in Iran, bewildering given the fact that it was technically bankrupt, and the second mentioned new ‘contract-only’ involvement by various firms, all of which were Chinese.  Two prime examples of this new type of announcement were made in July 2020, both concerning developments for supergiant fields in the West Karoun region. The second announcement – the bigger one – came from Iran’s Petroleum Ministry that it had awarded a US$1.3 billion development deal to more than double oil production at the South Azadegan oilfield, while the second such oil project signed that month was a US$300 million development contract for the Yaran oil site. The reality of the situation was that various Chinese companies had been awarded 11 ‘contract-only’ projects in a number of operational areas of Iran’s South Azadegan oil field development, including contracts for drilling-only, field maintenance-only, engineering-only, construction-only, and technology-only, among others. A further pointer to what is really going on with South Azadegan is that the supposed Iranian lead partner in South Azadegan – Petropars - was also the partner at that point to the China National Petroleum Corporation in the stalled Phase 11 project of the supergiant South Pars non-associated natural gas field.  “In reality, it doesn’t make any difference what name is on the publicly-available contract, China is just going ahead with what has already been agreed,” a senior oil and gas industry source in Iran exclusively told OilPrice.com at the time. 

In exactly the same vein, it does not matter either what name is on the financing for the projects announced last week to boost the crude oil output from West Karoun, as whatever money Iran needs to achieve the aims agreed in the 25-year deal with China, Beijing will happily provide it, given how irreplaceable Iran is in its multi-generational global balance of power shifting ‘One Belt, One Road’ plan. It is true that Iran’s Petroleum Minister, Bijan Zanganeh, said last week that the oil projects will be financed by bond issues but it is equally true that any of these bonds that are not readily bought in the markets will be bought by Chinese or China-related entities. Indeed, as exclusively reported by OilPrice.com in October 2019, it was China that agreed with Iran to act as a backstop bid for a new type of bond that would be an issue denominated in Iranian rials but - crucially for potential foreign buyers – carrying with them the option not only to be redeemed in rials but also in a range of more mainstream currencies at the prevailing spot rate of the day that the buyer decided to redeem the paper. Although the full range of currencies had yet to be finalised, they preliminarily included Chinese renminbi and Russian rubles, plus potentially Euros, Japanese yen, and Swiss Francs.

In addition, again as exclusively highlighted by OilPrice.com, May 2020 saw a small and tedious-looking announcement of the ratification of a bylaw relating to the issuance of securities appeared on Iranian government-affiliated websites that was unsurprisingly ignored by the rest of the world’s international media. However, the blank statement that Iran’s First Vice President, Eshaq Jahangiri, signed off on the issuance of Islamic compliant securities in the calendar year of 1399 (which began on 20 March 2020) meant that Iran would have access to a massive new stream of capital that it would use to drive forward its oil and gas development programme. All of it, OilPrice.com highlighted at the time, would be back-stopped by China and this is exactly to what NIOC managing director, Masoud Karbasian, was alluding last week as he talked of having sold IRR30 trillion (US$712.5 million) of bonds to finance the new projects with plans to issue at least another IRR20 trillion more in the near future if required.

By Simon Watkins for Oilprice.com

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Leave a comment
  • Mel on January 18 2021 said:
    I found this article difficult to understand. Be that as it may, cooperative agreements between Iran and China can not be positive by any interpretation—for the US.
  • Mamdouh Salameh on January 19 2021 said:
    In a global oil market, competition prevails with every major oil player doing its best to increase its market share at the expense of rivals either by cutting prices of its crude or by signing a preferential agreement with major crude oil buyers. Saudi Arabia does it all the time trying to snatch market share from Russia in the Chinese and the EU energy markets. The United States is also a past master in that game trying in a futile manner to derail the Russian Nord Stream 2 gas pipeline which will bring Russian gas supplies under the Baltic Sea to Germany and the EU in order to sell its more expensive LNG to the EU.

    It is up to Iran to give preferential terms to China whether they are in the form of discounted oil prices or first option to bid on any new or stalled or uncompleted oil and gas field developments. This is no more than rewarding China for its political support particularly in the UN Security Council, buying 31% of all Iranian crude oil exports, providing the funds to finance new oil and gas projects in Iran and above all defying US sanctions and continuing to deal with Iran. Furthermore, China has allocated a pride of a place for Iran in its Belt and Road Initiative (BRI).

    And contrary to the author’s claim, the average recovery factor rate (RF) from Iran's oilfields is around 20% compared with the global average of 34%-35% and not 4% as the author wrongly mentioned. The Iranian RF of 20% enables Iran in theory to recover some 140 billion barrels from in-place oil reserves of 700 billion barrels. Recovery rates in Iran’s oilfields range between 25% in Aghajari Oilfield to 15% in Ahvaz Oilfield in Khuzestan.

    Furthermore, the average lifting cost per barrel of crude oil in Iran is around $10 and not $1.0-$2.0 a barrel as the author wrongly claimed. Even Saudi Arabia’s lifting cost is estimated at $2.8-$4.0 a barrel and not $1.0-$2.0.

    China could easily pay Iran for its Iranian crude oil imports in renminbi which is a world reserve currency convertible to any currency under the sun or alternatively in Russian rubles, Euros, Japanese yen, and Swiss Francs.

    Dr Mamdouh G Salameh
    International Oil Economist
    Visiting Professor of Energy Economics at ESCP Europe Business School, London

Leave a comment




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