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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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Russia And China Tighten Grip On Iraqi Oil Crescent

  • Lukoil’s oil service contract for the Iraqi West Qurna 2 oilfield got extended by 10 years to 2045.
  • Chinese contractors working in and around the West Qurna 2 field have been instructed by Beijing to expedite their drilling work.
  • ExxonMobil’s exit from West-Qurna is set to benefit both China and Russia.
Iraqi oil

In line with Moscow and Beijing’s objective of keeping the West out of energy deals in Iraq to keep Baghdad closer to the new Iran-Saudi axis and to “end [the] Western hegemony in the Middle East [that] will become the decisive chapter in the West’s final demise,” Russia has struck a new deal in one of Iraq’s biggest oil fields. Around the same time, another Chinese company has been granted full exploration and development rights across Iraq’s oil and gas reservoirs. 

Russian oil and gas giant Lukoil announced just over a week ago that it has signed a deal with Iraq’s state-owned Basrah Oil Company to extend its oil service contract for the West Qurna 2 oilfield by 10 years to 2045 and to double oil production to 800,000 barrels per day (bpd). Located 65 kilometres northwest of the southern port of Basra and with roughly 14 billion barrels of reserves in place, West Qurna 2’s initial production target in Phase 1 was 120,000 bpd. The target for Phase 2 was 480,000 bpd, based largely on developing the Mishrif formation. Phase 3 will focus on the deeper Yamama formation. Originally this was to have targeted the addition of a further 650,000 bpd to the production mix, and from there the intention was to reach a plateau target of 1.8 million bpd. According to comments from Lukoil last week, it appears that this plateau has now been reduced to just 800,000 bpd, at least for the time being.

This said, and unlike previous comments from Lukoil on production data relating to West Qurna 2, the Russian company’s assurances that output will be doubled over time are likely to be true, according to a senior source who works closely with Iraq’s Oil Ministry. “The push is on from Russia and China to help remove the last elements of independence from [Iraqi] Kurdistan and to unify the whole country under the rule of Baghdad, which means all of its oil and gas projects are run out of the south, so this time the Russians will do what they have promised in terms of West Qurna 2 production,” the source exclusively told OilPrice.com last week. From early 2018 to last week’s comments from Lukoil, facts relating to oil production from West Qurna 2 have been a matter of enormous controversy between Iraq’s Oil Ministry and the Russian firm. Lukoil for its part had long felt aggrieved at the paltry remuneration fee that it was being paid for oil recovered from West Qurna 2 - US$1.15 per barrel, compared to the US$1.90 per barrel being paid to ExxonMobil in West Qurna 1, which is of the same geological extraction difficulty rating. In reality, the geology of both is not exacting, with the ‘lifting cost’ per barrel in each being under US$2, according to the International Energy Agency. 

Related: U.S. Oil Rigs Continue To Fall

Back in 2018, Lukoil’s standard production capacity test runs revealed that it could easily reach 635,000 bpd of oil from West Qurna 2 and sustain it without too much trouble (or cost). However, it did not tell Iraq’s Oil Ministry this, as it wanted to renegotiate its per barrel remuneration rate first. Unfortunately, the Oil Ministry found out anyway and ordered Lukoil to start drilling to full capacity - Lukoil refused, and there was a standoff. Following a visit to both Lukoil Iraq and Iraq’s Oil Ministry by a Special Representative of Russian President Vladimir Putin, compromises were agreed, as analysed in full in my new book on the new global oil market order. In essence, the Oil Ministry agreed to extend the timeframe of Lukoil’s contract in the future, effectively reducing the daily cost of capital per barrel of oil recovered and to also allow Lukoil the option of increasing its stake from the present 75 percent to 80 percent. In return, Lukoil agreed to invest an extra US$1.4 billion in the short-term and a further US$3.6 billion down the line, depending on variables including OPEC quotas, Iran export levels, and the continued development of export capacity in the south.

As an adjunct to this, Chinese contractors working in and around the West Qurna 2 field have been instructed by Beijing to expedite their drilling work. In this context, China’s Bohai Drilling Engineering Company in 2018 agreed a deal with the Oil Ministry under which it would drill 28 new production oil wells at West Qurna 2 by the end of 2020, but progress was slow back then. However, last week also saw the addition of China’s Zhongman Petroleum and Natural Gas Group Corporation (ZPEC) to the very long list of Chinese companies that have been approved by Iraq’s Petroleum Contracts and Licensing Directorate (PCLD) to carry out exploration, development, and drilling work on the country’s oil and gas fields. ‘Contract-only’ projects (such as ‘storage-only’, ‘maintenance-only’, ‘technology-only’, and so on) have been used extensively by China in Iraq as a way of ducking under the radar of the U.S. whilst Washington still had a significant presence on the ground in the country, as also analysed in full in my new book. The advent of the full range of permissions being given to ZPEC – including for major fields’ exploration and development – may mark the end of Beijing’s more surreptitious approach in Iraq. 

Either way, a ramping up of Russian and Chinese activity in one of Iraq’s biggest oil (and associated gas) fields will strengthen their activities elsewhere in the country, including in the neighbouring supergiant field of West Qurna 1. Holding a considerable portion of the estimated 43 billion barrels of recoverable reserves held in the entire supergiant West Qurna oil reservoir, West Qurna 1 was thought to have around 9 billion barrels of these reserves. However, in 2019 Iraq’s Oil Ministry said it had recoverable reserves of more than 20 billion barrels and the plans were to boost the field’s crude oil production capacity to more than 700,000 bpd by the end of 2025, from the then- (and now) 520,000-570,000 bpd level.

ExxonMobil has been seeking for around two years to sell its 32.7 percent stake, and a very recent statement from the deputy director general of the Basra Oil Company, Hassan Mohammed, highlighted that Iraq has now signed a sale agreement of the U.S. company’s stake in the field. The removal of the U.S. supermajor will be of huge benefit to China (and Russia) for three key reasons. First, it will allow China and Russia to even more completely takeover the entire West Qurna oil reservoir (both fields – West Qurna 1 and West Qurna 2), as PetroChina already holds a 25 percent stake in West Qurna 1. Second, it will remove a major commercial and geopolitically-significant rival from Iraq’s oil fields as whole, allowing Chinese and Russian firms to continue their expansion across the country. And third, it will remove a longstanding rival to the China National Petroleum Corporation in the matter of building out the long-awaited Common Seawater Supply Project (CSSP). This project involves taking seawater from the Persian Gulf and transporting it to oil production facilities to boost the pressure and recovery rates at key oil reservoirs, and it remains crucial to Iraq reaching its 8 million bpd production target by 2028, as also analysed in full in my new book on the new global oil market order. Currently, the CSSP falls broadly under the purview of the US$27 billion four-pronged deal with France’s TotalEnergies, but things can change very quickly in Iraq, especially when Chinese and Russian interests are involved.

By Simon Watkins for Oilprice.com

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