Iranian Oil & Gas contracts - Buy backs Vs the new Iran Petroleum Contract (IPC)

The Iranian constitution prohibits foreign or private ownership of natural resources, and all production-sharing agreements are prohibited under Iranian law," as outlined by the Energy Information Administration (EIA).

To get around this issue, buyback contracts allowed international oil companies to enter into exploration and development contracts through an Iranian affiliate. Through these buyback contracts, investors were paid in oil and gas from projects they developed with their own money, and then ownership of the field reverted back to the National Iranian Oil Company once development completed. With the lax in economic sanctions and Iran's attempt to lure foreign investment, it is believed that these contracts would be amended.

Salient points of a Buy Back Contract:

• Buy  Back  contracts,  are  arrangements  in  which  the  contractor  funds  all  investments, then  transfers  Operatorship of  the  field  to  NIOC (Hand Over) after  the  facilities are in place and production has commenced and then receives  remuneration  from NIOC ( National  Iranian  Oil  Co.),
• In  other  words , Buy  Back’s  are  essentially  risk-service  contracts, according  to  which  the  contractor  funds  all  investments, takes all risks such as exploration risk, production risk, etc.
• The  contractor  then  recoups  it’s  investment  after commercialization and subsequent development  of the field  and  receives  remuneration  from  the  NIOC. The  remuneration fee is  based  on  an  agreed  contracted  Rate  of  Return (ROR) and  can be paid  in  the  form  of  NIOC’s  allocation  of  a  share  of  it’s  production  equal  in  value  to  the  amount  due or cash.
• In addition to this, the Contractor is entitled to bank charges at LIBOR plus 0.75% on the costs incurred till it has recovered the same.
• Cost Recovery by Contractor: The Contractor is allowed to recover all costs, bank charges, Iranian tax and Remuneration fee from a maximum of 50% of gross revenue less operating costs of the year. Capital Costs and Non-Capital Costs, incurred and paid by Contractor together with Bank Charges shall be amortized in equal monthly installments over 8-10 Cost Recovery Years from commencement of production. 
• Remuneration Fee to Contractor: Remuneration Fee will be calculated immediately after Development Ceiling Costs are determined so as to give a ROR (as bid) to Contractor based on the Production profile as per the Development Plan. The calculation of ROR will be based on the Contractors’ Net Cash flow calculated as the difference between Cash Outflow by Contractor and the Cash Inflow to Contractor. Cash Outflow is defined as the sum of Capital Costs and Non-Capital Costs and Cash Inflow is defined as the sum of Capital Costs recovery, Non-Capital Costs recovery and Remuneration Fee. The ROR will be the nominal discount rate that brings the NPV of the Contractor Net Cash flow to zero.
• If the actual production is lower than MDP production profile, the Remuneration Fee decreases consequently the return decreases, as the difference between the resulting adjusted monthly installment and the initially projected monthly installment is not allowed for carry over and thus is not recoverable by contractor.
• If actual production is higher than the production profile as per Development Plan, the ROR may be increased by up to 1% for the relevant installment.
• No recovery of Capital Costs beyond the agreed amount is allowed.

Proposed new Iran Petroleum Contract (IPC):

The new Iran Petroleum Contract( IPC) is still a work-in-progress. It was expected to be unveiled at a conference in London in November 2014 (earlier it was July) but now its been further pushed back to perhaps early 2015. However this is probably linked to the lifting of sanctions. In no way does it move away from the basic tenet of the Iranian Constitution that ownership of oil and gas produced from Iranian fields rests with the Iran. However for the first time, there is recognition/acknowledgement that transfer of ownership of hydrocarbons at certain defined delivery points is legally permissible.

Key objectives of the IPC are:

• Integrating both the Exploration and Production phases;

• Helping the Iranians achieve enhanced capacity, maintenance and reserve recovery;

• Attracting foreign capital, services, know how and technology;

• Establishing long term relationships with foreign partners; and reducing the investment risks by offering more flexibility in investment costs.

Under the new terms, state-run National Iranian Oil Co. will form joint ventures for crude and gas production with international companies to manage projects, provide financing and maximize hydrocarbon recovery. Foreign companies conducting exploration projects will be paid for their work with a share of the output, according to presentations at a recent oil and gas conference in Tehran.

International companies seek access to hydrocarbons to book reserves, a form of reporting by which they can claim a share of oil and show they can replace barrels they produce. Under the IPC, there will be provisions allowing transfer of ownership of hydrocarbons to the foreign parties at defined deliver points. The companies, which would have no rights over the reserves, would be able to report output they receive as payment once a field reaches its production targets and after exploration is complete.

International companies will act as the sole operator at oil and gas exploration blocks and will be responsible for the risks of those projects. NIOC may be a technical partner in the developments. The ventures will have 15 to 20 years to pump oil after seven to nine years of exploration under the new contracts.

Fees paid to international companies will be linked to the oil price and determined on a sliding scale, with riskier developments paying more. Iran is giving priority to investment in common fields shared with neighboring countries such as Iraq and Qatar, and work on those deposits will be remunerated at the higher rate.

The IPC is also to be designed to take advantage of the IOCs marketing expertise and give Iran access to their supply network to find an export market. However, the IOC will be required to meet the Iranian local content requirement which will be 51% of the contract value. Additionally disputes will be settled under Iranian Laws.

It is clear that the IPC is geared for the large IOCs and for the shared fields ( i.e. fields shared with other countries – Iraq, Qatar, Saudi Arabia). Iran is seeking to access technology and upgrade it’s technical capability through joint ventures. Iranian content is to be at 51% as currently proposed. The new IPC seeks to alleviate concerns associated with buybacks as under:

1. Avoidance of all existing obstacles in current Buy-Backs

2. Moving towards international recognized concept

3. Balance the Risk-Rewards of the investors

4. Maximize incentives for investors in low and high risk Areas

5. Integrated operation (E ,D, P)

6. Maximize alignment of the benefits of the parties

7. Best technical approach to the operations ( E,D,P)

8. Partnership for better operations

9. maximize recovery factor

10. Adoption of model for IOR/EOR operations

11. Premiership of the common fields

12. Flexibility in scope and costs changes