Government Acquirement of Kirkuk’s Oil Reshapes Iraq’s Balances

In a five day show of force by the central government of Baghdad, the Kurds saw their aspirations for independence collapse with a contracting territory control and plunging oil exports. As uncertainty is cast upon the future of Kurdistan’s oil sector, the central government has not yet emerged as a clear victor. Nevertheless, a large portion of Iraq’s northern exports have become consolidated under federal control, at least technically.

  • Avana & Bai Hasan recaptured but production ceased.
  • Kirkuk production has been substituted by additional exports from Basra.
  • Any potential ramp-up of KRG’s own production maybe both timely and infeasible on the short to mid-range.

Kurdish Collapse

With the objective of reasserting authority over disputed territories in the aftermath of the Kurdistan independence referendum, a swift advance by federal security forces towards Kirkuk beginning on October 16th struck a hard blow to KRI’s exports to Ceyhan. Two crucial oil assets; Avana Dome and Bai Hasan field were retaken from Peshmerga. Their combined average 280 thousand barrels per day of production makes 46% of the 610,000 contentious exports marketed through Erbil’s own pipeline to Turkey.

Exporting oil without Baghdad’s oversight was long considered as the economic means to support a future independent Kurdistan. After ISIS’s advance through Northern provinces of Iraq in 2014, the Peshmerga moved into the oil-rich province of Kirkuk claiming to provide security in the multi-ethnic city. Kurdistan’s oil is sold to several European refiners in Italy, Greece, Croatia, and controversially Israel with revenues banked at Turkey’s Halkbank.

Oil is produced from three geological domes in Kirkuk; Khurmala, Avana and Baba Gurgur. Territory gained expanded beyond Kirkuk’s oil fields to include Ain Zalah, Butmah, and Sufya in Nineveh province. Traditionally, the federal Ministry of Oil’s national operator; North Oil Company (NOC) has overseen production from Northern Iraq.

Earlier in 2007, the KRI resorted to designed confrontations with NOC workers in Khurmala ultimately strong-arming Baghdad into handing over the dome in 2007. Annexing two of the three domes by 2014, the KRI effectively dominated production from most of the 9 billion reserves. KAR Group, a local oil company with ties to influential officials was directly tasked with the technical operatorship of the newly acquired fields after dismissing the NOC.

Despite a force build-up weeks before the referendum, Kurdish fighters fled the scene without firing a single bullet against marching Iraqi troops. Surprisingly, Peshmerga commanders and local politicians failed to reorganize their troops in the immediate aftermath. Rather, awakening memories of internal disputes of 1996, immediately accused each other of treason.

Kurdistan Region of Iraq and Kirkuk Oil Infrastructure [Source: BloombergGadfly]

Impact on Exports

Prior to these developments, 95,000 barrels were produced from Avana on average daily while Bai Hasan had an output of 185,000 barrels per day. Both made half of the 555,000 barrels produced from all fields in Kirkuk every day, whether operated by NOC or KAR. Inspecting the captured facilities, Iraqi Ministry of Oil engineers realized that crucial equipment was missing from processing plants and control panels encrypted.

Fearing a permanent damage to the oil wells, they immediately shut down production. Oil stopped flowing to the Saralu pumping station that links Avana to KRI’s pipeline to Ceyhan where flows plummeted to 210,000 barrels per day, 66% below September’s exports, casting a heavy shadow of new realities in Northern Iraq.

Reacting to the situation, the Brent oil price shot up to $58. Major commodity trading houses expressed concerns as it has become increasingly likely that the Barzani government will not come through their loan repayments. Iraq’s ministry of oil expressed commitment to recommissioning exports from Kirkuk soonest. Yet, Basra was to export 200,000 barrels per day in compensation.

By October 26th, the State Oil Marketing Organization (SOMO), Iraq’s federal oil trader was reported to have started pumping 90,000 barrels a day from Avana after providing security guarantees to KAR Group. However, this news was soon contradicted with others that confirmed the fields still offline. Up to this point, the actual reasons behind stopping production from Avana and Bai Hasan are not clear.

Even if Baghdad was to continue exports, there is little to no incentive for the central government to do so. KRI still controls the depot where oil is sent in Ceyhan, effectively all revenues of oil sold from there end up in Erbil’s own bank account. By contrast, the 234,000 barrels per day exported from Basra to counterweigh lost Kirkuk production goes fully to SOMO. Baghdad is not in a hurry to restart Avana and Bai Hasan.

KRI’s Oil & Gas Sector

Reaching Makhmour district, the Iraqi federal forces are only 30 kilometers away from Khurmala. With 115,000 per day on average, the third Kirkuk oil dome provided 18% of the Kurdish production preceding the conflict. Now, has risen to 33% of the 350,000 produced.

Peshmerga fighters were seen digging trenches and taking the hilltops near the site. Losing Khurmala could be the final nail in the coffin for KRI’s oil sector. Nearby in Kalak, satellite imagery shows falling crude tanks at KAR’s refinery, Erbil is exporting every drop it can from Khurmala.

Losing Kirkuk’s oil assets couldn’t have been in a worse time for the KRI. Earlier in the year, Genel revised reserve estimation for Taq Taq from 683 to 356 million barrels with remaining reserves of 172 million barrels. Also, 2018 production forecasts were amended from previous 80,000 barrels per day to 50,000 barrels per day. By September 2017, Taq Taq was only producing 13,500 barrels a day.  The other flag field, DNO’s Tawke is in a better position at 110,000 barrels per day. The KRI was in practice ever more reliant on Kirkuk’s production to boost exports.

Erbil’s struggle started in early 2014 when the central government stopped budgetary allocations to the KRI in response to their independent exports. Meanwhile, international oil companies active within the official boundaries of the Kurdistan region struggled to divert critical investments into the sector as incentive eroded with dwindling compensation from the region’s Ministry of Natural Resources. A series of unsuccessful exploration campaigns in more than a dozen awarded blocks within the official boundaries of the region added to the woes, even causing some investors to declare bankruptcy.

Frightened by the global oil price collapse and the fear of fleeing investors, Kurdish authorities soon began to incorporate oil production from the Kirkuk cluster of fields into their own separate pipeline to Turkey with the hopes of mitigating their economic catastrophe. The combined exports averaged 500-600 thousand barrels daily, just below the pipeline’s overall capacity of 700,000 barrels per day. By September 2017, oil production from Kirkuk totaled 395,000 barrels daily on average from Khurmala, Avana and the Bai Hasan field at 115,000, 95,000, and 185,000 respectively, making up 62% of KRI’s entire production of 630,000 barrels.

Pressed for financial liquidity amidst extreme self-imposed austerity measures, Kurdistan borrowed $3.5 billion for advance oil shipments. $2.5 billion was lent by Vitol, Glencore, Petraco, and Trafigura while the other $1.2 billion by Rosneft’s oil trading arm in 2017. Considered too risky to credit, the traders shared the risk with banks and investors. Glencore was reported to have raised $500 million dollars through a 5-year special-purpose vehicle (SPV) loan with an interest as high as 12%. Being the target of US and European sanctions, no information has been uncovered on the sources of Rosneft’s loan.

Abadi’s Baghdad for the meantime, occupied with ousting ISIS militants from Sunni provinces in a series of measured victories, stood watching and maintained a limited presence in Kirkuk. NOC was producing from Baba Gurgur, Khabaz and Jambour fields with an average of 140-160 thousand barrels daily making up 29% of Kirkuk’s production. Today, this has jumped to 79% with the inclusion of Avana and Bai Hasan

In August 2017, a deal brokered by the governor of Kirkuk Najimaldin Karim with the Ministry of Oil helped divert the majority of Kirkuk’s federal production to KRI based refineries involving third-party Kurdish traders. This scheme provided needed relief in recently liberated provinces given Iraq’s great loss of Baiji’s 310,000 barrel strong refining capacity.

Is it Erbil’s Demise?

Today, the Iraqi Kurdistan regional government can produce 350,000 barrels per day from several oil fields within its own legal boundaries in addition to Khurmala. The latter is part of the Kirkuk oil field but lies within the jurisdiction borders of Erbil province. It contributes 115,000 barrels daily and another 110,000 barrels come from DNO’s Tawke. Taq Taq’s 13,500 barrels a day connect to the Ceyhan pipeline using the same pumping facilities at Khurmala. Losing the latter will strip KRI from 128,500 barrels per day exports.

Ramping up other fields in the region cannot be done as quickly as one might imagine. Taqa operated Atrush field is at initial stages with 22,000 barrels produced a day. This is certainly a better level than Gazprom’s Sarqala at 2,000 barrels daily. Most of these companies do possess the liquidity but are not willing to invest given the late payments the KRI owes them already. DNO delayed investment in drilling to increase Tawke’s production to 135,000 barrels per day as regular and predictable payments from the KRI were not provided.

Gulf Keystone’s heavy Shaikhan grade is still trucked at 38,000 barrels per day to the Turkish border. In the case of Shaikhan, Erbil used to mix the crude with Ceyhan bound cocktail causing lots of criticism by buyers, eventually, the MNR decided to carry the cost of trucking to the port of Drotyol in Turkey, but the profits proved marginal. On the long-term, Shaikhan has a large store of heavy oil which if lightened by Pearl’s Khor Mor condensates then exported can become a reliable source of revenue.

Given the hefty discounts on Kurdish oil, these assets combined at the current rate can secure almost $300 million dollars a month, a figure that will not cover the $700 million budget that does not include loan repayments. Erbil is in a tricky position, they neither have the time nor the funds to help ease the fallout from losing Kirkuk.

Baghdad’s Opportunities

Assured by regional and international support for Iraq’s unity and latest measures, the federal government has continued the push further north to re-institute the 2003 borders. Prime Minister Abadi has vowed not to cross the blue demarcation line set by the United Nations 688 resolution in spring of 1991. A Kurdish proposal for a ceasefire with the suspension of the Kurdish referendum results was met with a solid demand for an annulment from Baghdad.

Iraq is pushing all the way to Feshkhabor, the point where KRG’s pipeline meets with the Iraqi Pipeline to Turkey (IPT) and eventually Ceyhan. Baghdad’s move to impose federal authority over border crossings with Syria and Turkey comes with the full support of the Iraqi parliament. Reaching Feshkhabour, Baghdad will effectively choke KRG’s pipeline from both ends either to pressure Erbil politically and economically or a step towards future dismantlement when the IPT come back online.

Iraq’s oil minister has tasked his technical teams to draw plans for rehabilitation; Erdogan expressed Turkey’s interest to have their firms involved. Yet, the arbitration case started by Iraq against Turkey for breaching the ITP treaty is still standing with reports that Ankara will only allow full control over exports at Ceyhan if the case is dropped. Baghdad will lose legal claim to revenues from oil exported by KRI for years if dropped.

NOC is poised to play a more important role in the near future. Four days after moving into Kirkuk, Zummar, a district in Ninevah province was back to federal control. In total, 44 oil wells were recaptured. Iraq has sought BP to rejuvenate old plans for Kirkuk field development they were tasked to conduct a few years back by the ministry of oil. Also, another 2,000 barrels a day of production can be added from Ain Zalah. Another prospect lies in Kirkuk’s 30 thousand barrel refinery that will help ease Iraq’s fuel import bill.

With the resignation of President Masoud Barzani, Baghdad has the chance of re-engaging friendly and moderate parties in the KRI. Using the constitution as a framework for any future dialogue may help finally produce a nationally accepted oil and gas law in addition to fulfillment of article 140.

Interested in energy, economics, and current affairs. I endeavor to learn and share my views with the world. I hold an MSc in Petroleum Economics & Management from IFP School, Paris.

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