SHELL-SOUTH GAS JOINT VENTURE -- ENDING NATURAL

S E C R E T BAGHDAD 003101

C O R R E C T E D C O P Y (TEXT)

SIPDIS

DEPT ALSO FOR NEA/I, DOE FOR PERSON

E.O. 12958: DECL: 09/26/2018
TAGS: EPET ENRG SENV EINV IZ
SUBJECT: SHELL-SOUTH GAS JOINT VENTURE -- ENDING NATURAL
GAS FLARING IN THE SOUTH

REF: A. BAGHDAD 3002

B. BAGHDAD 2891

Classified By: Economic Counselor Michael Dodman, reasons 1.4(b,d)


1. (SBU) SUMMARY: The headline-grabbing signing ceremony on
September 22 between Royal Dutch Shell and the Ministry of
Oil only finalized a Heads of Agreement that must be followed
within a year or so by a joint venture agreement between
Shell and the South Gas Company to gather and market
associated natural gas currently being flared at Iraq's
southern oil fields. If and when the joint venture is under
way, however, 700 million cubic feet of natural gas per day
will no longer burn and pollute the atmosphere, but will
instead be a potential source of fuel for a theoretical 3,500
MW of power. Shell, however, will also want to export some
portion of the gas, for the higher revenue and possibly to
support its other projects in the region. The Shell project
will not start from scratch, since natural gas collection and
processing facilities are in place, although idled in many
cases. Shell appears intent on bringing a liquefied natural
gas facility to Iraq to export natural gas. END SUMMARY


2. (U) Major newspapers and wire services covered a September
22 signing ceremony of an agreement in which Royal Dutch
Shell committed to a project to capture and market natural
gas now being flared from major oil fields in the south of
Iraq. The reporting focused on Shell's decision to open a
Baghdad office, Shell's return to Iraq after a 36-year
absence, and its role as one of the original partners in the
Iraq Petroleum Company (IPC),which pioneered and developed
Iraq's oil fields. The articles noted that 700 million cubic
feet of gas, or the energy equivalent of 130,000 barrels of
oil, was being burned daily. The Wall Street Journal noted
that the project would eventually deliver gas to Iraq's
domestic market, mainly for electricity generation, but later
would seek to export it, possibly as liquefied natural gas
(LNG); the New York Times story quoted Oil Minister
Shahristani as saying the gas would also be sent to
petrochemical and fertilizer plants.

Shell's Perspective
--------------


3. (SBU) Just prior to the signing ceremony, Shell Executive
Director for Gas and Power Linda Cook briefed EMIN Ambassador
Marc Wall during a courtesy call that included Shell Gas and
Power Vice President Mounir Bouaziz and Shell Exploration and
Production Iraq Logistics Manager Ayman Al-Shukr (both based
in Dubai). Cook emphasized that the Heads of Agreement to be
signed was only the initial step and provided just a general
framework for a more detailed agreement forming a joint
venture between Shell and the South Gas Company. (Note:
Initial press stories incorrectly reported that the joint
venture would be between Shell and South Oil Company.) Shell
representatives still needed to visit oil fields to evaluate
the condition of natural gas gathering and processing
facilities and negotiate detailed terms and conditions for
the actual joint venture agreement. Once the agreement was
signed, the joint venture would immediately take possession
of the existing gas facilities, have responsibility for the
associated gas, and become the employer of South Gas
Company's 3,000-strong workforce.


4. (SBU) Cook said Shell believed the joint venture was
consistent with existing legislation, since the deal did not
involve production of new gas resources, but was only an
agreement to capture and market associated gas. Cook later
observed that development of additional oil fields containing
associated gas would be essential for the joint venture's
future success. Bouaziz noted that an existing Public
Company Law allowed state-owned enterprises to form joint
ventures with other companies. While Cook and Bouaziz did
not want to speculate about the future gas supply or market,
they said that emplacement of a floating LNG facility would
allow excess gas to be sold that would otherwise need to be
flared or require shut-down of oil-producing wells. Bouaziz
characterized an LNG production option as a "necessary
solution, but not a target." In response to our question,
Cook was coy about which of six oil fields and two gas fields
for which the Ministry of Oil would request tenders for
long-term service contracts would be of most interest to
Shell. Her oblique comments, however, suggested that Shell's
focus would not be the gas fields.

Terms of the Deal
--------------


5. (S) Our review of a draft Heads of Agreement, which could
differ in details of a final text but not in the broad
outline, established that the agreement would expire after a
maximum of 20 months, since the parties have 30 days to
nominate members to a "Joint Management Committee," the
Committee must meet once a month, and the agreement expires
12 months after the Committee's first meeting, but an
automatic 6-month extension is also provided. It also awards
the joint venture a monopoly to take and market associated
gas in southern Iraq for the 25 years of the joint venture,
with a possibility of extension. The Heads of Agreement
authorizes the joint venture to gather raw gas and
commercialize the gas, LPG, and condensate, and deliver it to
domestic and export markets. The joint venture will also aim
to develop LNG production and export facilities; investigate
alternate export routes for dry gas; and develop potential
commercial options for sulfur handling. The Heads of
Agreement commits the joint venture to purchase and sell gas
and gas products at "prices linked to international market
prices." South Gas Company, a wholly owned subsidiary of the
Ministry of Oil, would have 51% and Shell 49% of the joint
venture.


6. (S) The Heads of Agreement provides that it shall be
governed, interpreted and construed in accordance with the
laws of Iraq, but that disputes will be referred to a panel
of three arbitrators in Geneva to be resolved according to
International Chamber of Commerce rules and in the English
language. The Heads of Agreement references Shell's
strategic alliance with General Electric "for the benefit of
the Joint Venture" and the Parties' intent to develop a
similar strategic alliance "with others such as Mitsubishi
Corporation." We have also heard separately that the Oil
Ministry has required Shell to bring in another international
oil company into the project, specifically Chevron.

The Potential
--------------


7. (U) Widely quoted figures are that Iraq has 110 trillion
cubic feet (Tcf) of proven gas reserves and 150 Tcf of
probable reserves, although DOE Energy Information Agency
suggests that probable reserves could be as high as 275-300
Tcf. Shell will not be starting from scratch with its
project in the south, but will likely begin by renovating
parts of the original South Gas/Liquefied Petroleum Gas (LPG)
supply system, completed in 1983. Degassing and gas
compression/dehydration systems are in place at the North
Rumaila, South Rumaila, and Zubair oil fields, with some
pipelines feeding into the Khor al-Zubair (KAZ) natural gas
liquids (NGL) plant. No gathering system is in place at the
West Qurna, Luhais, Majnoon, Nahran Umr, or Misan oil fields.


8. (U) On the North Rumaila field, there is an NGL plant with
the capacity to process 350 million standard cubic feet of
gas per day (mmscf/d) from five degassing stations, but it
currently only takes sweet gas from two of the stations.
Sweet gas from two of four degassing stations at the South
Rumaila field is also piped to the North Rumaila NGL plant,
although pipelines exist to the Khor al-Zubair NGL plant. At
the Zubair oil field, five degassing stations would deliver
first stage gas to a central treatment plant that is now
under commissioning. The treatment plant would remove
liquids, compress the gas, and deliver it by pipe to the Khor
al-Zubair NGL Plant. The Khor al-Zubair facilities comprise
two NGL plants with a capacity of 350 mmscf/d each. One of
the plants is currently non-operational due to lack of
natural gas. The second plant is totally out of commission.
In addition, three liquid petroleum gas (LPG) plants have a
capacity to treat 260 tons/hour of broad cut liquids from the
NGL plants. Two could be operational, but only one is
operating at about 30% capacity. The third LPG train is
totally out of commission.

Issues
--------------


9. (SBU) A commonly accepted calculation is that the flared
gas from southern oil fields could provide 3,500 MW of
electricity (ref A). (Note: Iraq now produces about 5,000 MW
of power per day with a feasible capacity of about 9,900 MW
installed.) Although about 45% of Iraq's power comes from
combustion turbines, which operate most optimally on natural
gas, the vast majority of the turbines have been modified to
run on crude, heavy fuel oil or diesel; some are idled due to
a lack of fuel. Operation of the combustion turbines on
other than natural gas shortens their life, reduces their
maximum output, requires greater down time for maintenance,
and triples or quadruples maintenance costs. By some
calculations, converting all the combustion turbines to


natural gas would be equivalent to adding 1,500 MW of
production to the grid while reducing Iraq's imports of
diesel and freeing crude for export.


10. (U) Despite the pressing need and obvious benefits, how
much of the Shell project's gas will ultimately be supplied
for power generation is unclear. The requirement to provide
gas at market-based prices is problematic, since fuel for
power is now supplied to the Electricity Ministry at
below-market prices. In ref B, Shell representatives did say
the project would have the objective of developing and
supplying power generation required for oil field and gas
processing operations, which would free up power for
households and other industrial uses. They also said that
half of the gas would be supplied domestically and the other
half exported. In addition, of the gas available for the
domestic market, some natural gas will likely need to be
re-injected to maintain pressure at the oil fields and other
gas might go to competing use as feedstock for petrochemical
and fertilizer plants.

CROCKER