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Iraqi Oil: Why Companies Will Risk Losing Money to Get In Now

BP awarded the first major contracts to develop the Rumaila oil field in southern Iraq, a sort of unofficial kickoff for foreign firms that aim to quadruple production in Iraq in the next seven years. For companies like Schlumberger (SLB) and Weatherford (WFT) -- two firms that secured the $500 million in contracts from BP -- the risks and obstacles to profitability in Iraq are enormous. Competition will be cutthroat, start-up costs will be high and revenue won't flow for at least a year. Companies will spend millions keeping workers safe and face the prospect of having to shut down or delay operations if the tentative political stability abruptly changes.

But the opportunity to enter Iraq, which has been closed to foreigners for years and which just so happens to sit atop the world's third-largest oil reserves, is simply too good to pass up.

Weatherford is already operating in the Kurdistan region and in southern Iraq. And while Schlumberger isn't in Iraq yet, it has already spent considerable money to prepare for an opportunity there. The company completed a new operating base in the south and is currently bidding to 10 customers, Schlumberger Chairman and CEO Andrew Gould said in a speech this month at the 38th annual Howard Weil Energy Conference. Gould is well aware of the risks. He doesn't expect the company to see any revenue from operations there before 2011 and has said the significance of Iraq will only really emerge once the post-election political landscape is understood and some form of oil law has been passed. There's already some concern that the oil contracts set up with foreign firms are in jeopardy. Ayad Allawi's Iraqiya block, which won the most parliamentary seats, said it would like to review oil contracts signed with foreign countries, according to the WSJ.

Even if Iraq was basking in a political utopia, there are other massive challenges to boosting oil production there. Roads and ports need to be built. Basic stuff like water and power. And it's not just to get the Rumaila oil field, Iraq's largest, back on track. Foreign oil companies, including Royal Dutch Shell (RDS), Eni, Exxon (XOM) and China National Petroleum Corp., have contracts to develop seven major fields in Iraq. With so many of these fields located near each other, the demand for workers and infrastructure will be huge. Think of it like adding entire towns and all of the basic necessities that come with it -- roads, power, water and housing.

All this comes together to form what looks like an insurmountable obstacle. So why are oil field services companies like Schlumberger fighting for a chance to enter Iraq when the whole darned thing could fall apart? It's not as if Schlumberger, Weatherford or any other oil field services company want to throw money away. It's the scale of opportunity there that has so many folks all atwitter.

Iraq happens to have totally unrealistic aspirations for oil production. Iraq officials want to produce some 12 million barrels a day of oil by 2017 -- that's 10 million more than today. That dwarfs the world's most rapid oil production buildups in Russia and Saudi Arabia. But even if the country manages to reach half of that goal -- a far more likely target -- it will mean billions in revenue for oil field services companies.

Hopes for a swift boost in Iraq's oil production have been snuffed out before. But those were the years right after the U.S-led invasion in 2003, when the insurgency made it impossible to walk across the street, let alone bring foreign oil companies into to start producing crude. This time around, the risks are big, but not impossible. And the foreign companies that get in early, stand to make a lot of dough.

Here is a breakdown of the recent contract award:

  • Schlumberger in partnership with the Iraqi Drilling Co. has been awarded contracts for three rigs;
  • Daqing Drilling has been awarded contracts for three rigs;
  • Weatherford has been awarded a contract for one rig;
  • BP, and its partner China National Petroleum Company, expect around 70 wells to be drilled on Rumaila this year;
  • Two two-year contracts, worth about $100 million, have been awarded for the supply and installation of electrical submersible pumps and associated services to Centrilift, a division of U.S.-based Baker Hughes; and Al-Korayef Petroleum. Houston-based Cameron will supply the associated trees and wellheads.
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