VZCZCXRO5258
RR RUEHDA RUEHDE RUEHDH RUEHIHL RUEHKUK
DE RUEHBC #0054/01 2701225
ZNR UUUUU ZZH
R 271225Z SEP 09
FM REO BASRAH
TO RUEHC/SECSTATE WASHDC 0924
INFO RUEHGB/AMEMBASSY BAGHDAD 0502
RHMFISS/DEPT OF ENERGY WASHINGTON DC
RUCNRAQ/IRAQ COLLECTIVE
RUEHBC/REO BASRAH 0962

UNCLAS SECTION 01 OF 03 BASRAH 000054 
 
SIPDIS, SENSITIVE 
 
E.O. 12958: N/A 
TAGS: ECON EINV ENRG EPET PGOV IZ
SUBJECT: BASRA: A GLUM SHELL WONDERS ABOUT NEXT STEPS ON (DELAYED?) 
FLARED GAS DEAL 
 
REF: A. BAGHDAD 1960 
     ¶B. BASRAH 36 
     ¶C. BAGHDAD 1151 
     ¶D. BAGHDAD 955 
 
BASRAH 00000054  001.2 OF 003 
 
 
¶1. (SBU) Summary.  During a recent visit to Basra, Royal Dutch 
Shell representatives told PRT EconOff that local stakeholders 
expressed continued strong support for its flared-gas project. 
However, they also expressed frustration about Shell's apparent 
inability to finalize the deal with the GOI anytime soon, 
evidently due to GOI's political hesitation ahead of upcoming 
national elections.  Media reports have also hinted at a 
possible delay, also citing the January 2010 elections.  Local 
Basra businesses and government leaders have also widely noted a 
"wait and see" attitude among businessmen, who now prefer to 
wait until the formation of the next GOI before committing to 
any new projects.  For Shell, any such a delay past elections 
could translate into several more months of uncertainty. 
Nonetheless, despite their frustrations, Shell reps told EconOff 
that given the project's vast potential, they are "in it for the 
long haul," and reminded us that they work in "tougher climates" 
in many parts of the world.  And if indeed the project is 
delayed (and this is still uncertain), maybe it is best in the 
long run for Shell to deal with a new GOI in power in 2010, 
rather than negotiating with what is now essentially a lame duck 
GOI.  And for a project that could be a multi-decade, 
multi-billion dollar deal to the benefit of many Iraqis, it 
could be worth the wait.  End summary. 
 
Project offers financial, environmental benefits 
============================================= ==== 
 
¶2. (SBU) As reported in refs C and D, the South Gas Utilization 
Project is a 51-44-5 percent, South Gas Company 
(SGC)-Shell-Mitsubishi joint venture (JV) to gather, process and 
market the natural gas currently flared (openly burned) from 
Basra Province-based oil fields.  (Note: As forecast in ref B, 
Mitsubishi recently bought a five percent stake in the JV. End 
note.)  The project commits Shell to install processing 
facilities and other infrastructure required to end the flaring 
of about 700 million cubic feet per day of associated gas.  A 
preliminary "Heads of Agreement" deal signed in September 2008 
called for a final agreement within 12 months.  Among the 
pending agreements are a Shareholder Agreement, South Gas 
Development Agreement, and a pricing mechanism.  A final 
approval by the Council of Ministers (COM) is also required. 
 
¶3. (SBU) The benefits to Basra and the Iraqi treasury are clear. 
 According to Shell, the flared gas is equivalent to 130,000 
barrels/day of oil, and the energy equivalent of 3,500 megawatts 
of electricity, the latter almost half of Iraq's current 
production.  According to Shell, the lost commercial value from 
this flared gas is USD 6 million per day, or about USD 70 per 
second.  The dry gas and natural gas liquids, including 
liquefied petroleum gas (LPG) produced by the JV could allow 
Iraq to reduce its weekly current LPG imports of 4,000 tons. 
The GOI would also benefit from Shell's 15% corporate tax 
payments and SGC's 51% share of any JV net revenues.  Last but 
not least, and according to Shell's calculations, the 
elimination of this gas would save 20 million tons per year in 
CO2 equivalent emissions, which equates to the emissions from 
three million cars. 
 
Shell's latest Basra visit, and continuing "quick wins" 
============================================= ========== 
 
¶4. (SBU) Shell's latest visit to Basra, led by security and 
infrastructure executives Ms. Elsine Van Os and John Davies, 
included meetings with its local staff, subcontractors, members 
of the Provincial Council, the Basra Investment Commission, and 
the U.S. 34th Infantry Division Commander.  According to Shell, 
local stakeholders expressed their continued support for the 
project.  Shell representatives also reviewed for Basra PRT 
EconOff its several months-long "quick win" projects, which they 
admitted are designed in part to win public approval for the 
project.  Projects include the rehabilitation of an 18 MW 
generator at the Rumaila oilfield, which will help SGC achieve 
electricity self-sufficiency (allowing more electricity to a 
power-starved public); the rehabilitation of a dry gas 
compressor to facilitate gas export; and the refurbishment of 
two vocational technical schools (which will also supply 
graduates for Shell to hire). 
 
South Gas DG also expresses general optimism 
============================================ 
 
¶5. (SBU) Separately, in two recent meetings with PRT EconOff, 
South Gas Director General Mr. Ali Hussein Khadayer expressed 
enthusiasm about the Shell project, that it will help raise gas 
production, and that it had the support of workers and 
management ("there is no controversy" about it).  (Note: While 
 
BASRAH 00000054  002.2 OF 003 
 
 
Ali said that the project is still on track for a late 2009 
final agreement, SGC plays no role in negotiations, as all 
decisions are made within the MOO. End note.) 
 
Still, project could face delays 
================================ 
 
¶6. (SBU) However, Shell acknowledged that signed contracts and 
final COM approval that had been previously expected by the July 
to September timeframe remain elusive, for several reasons. 
They indicated that the main problem, and the one widely heard 
in Basra business circles, is the upcoming January elections, 
which they contend are complicating GOI efforts to finalize the 
Shell deal.  They also indicated that disagreements have emerged 
between Shell and MOO on the asset valuation study that 
accounting firm Ernst and Young did (ref C), and which will 
establish the current replacement value for SGC's facilities. 
According to Shell, the study will establish a value on the GOI 
contribution to the JV, and the less value that a dilapidated 
SGC infrastructure is considered to be worth, the more MOO would 
theoretically have to pay.  Shell also cited bureaucratic 
problems delaying the deal, with the recently-concluded 27-day 
Ramadan season which slowed down negotiations, and more 
generally, the MOO bureaucracy which they contend lacks the 
capacity to negotiate and execute these Shell contracts. 
 
Shell's frustration 
=================== 
 
¶7. (SBU) Davies and Van Os expressed frustration, impatience and 
even some surprise at the GOI's "irrational" and 
"self-defeating" behavior for such a "clearly beneficial" deal. 
Despite one year of time-consuming and expensive work executing 
quick wins and lobbying the GOI and interest groups, the GOI 
"can't see how important this project is and that it is in 
everyone's interest."  Although Shell has not made figures 
available, so far, project's costs so far could be in the range 
of tens of millions of dollars.  They acknowledged that a delay 
until after elections could translate into months more of delay, 
as it could take an additional several weeks or months for a new 
government to form.  They said that despite all their lobbying 
and outreach, there is still a lot of "resistance" to and 
"ignorance" about Shell's intentions, and that there is still a 
very strong belief in Basra (and Iraq) that foreign companies 
will do nothing but "exploit," "hurt workers," and in this case 
raise gas prices. 
 
Media reports also hint at delay 
================================ 
 
¶8. (SBU) Recent media reports have also indicated a possible 
delay.  Deputy Oil Minister Ahmed al-Shamaa was quoted last week 
that the political atmosphere was "not right" for the Shell deal 
because of the focus on the election, and that the deal is 
likely to be delayed until after the election.  Oil Ministry 
spokesman Assem Jihad said that while an agreement was "not far 
off," he acknowledged that negotiations "are still ongoing, and 
the one-year deadline can be extended."  Other media reports 
have cited objections from "nationalist" legislators and worker 
groups, who argue that the deal would allow Shell to monopolize 
the area's gas market, and unduly influence prices. 
 
Local businesses also in a "wait and see" mode 
============================================= = 
 
¶9. (SBU) Local contacts also note a widespread local perception 
that due to elections and attendant uncertainties about the 
composition of the next national government (and its views about 
foreign investment), many businesspeople are now in a "wait and 
see" mode.  They contend that it is unknown "who will be on top 
and who will be out of a job," and that it would be pointless to 
negotiate contracts with people who may be out of a job soon, 
and for projects that could soon be out of favor.  Prospective 
investors -- Iraqi and foreign -- think it best to let the dust 
settle after post-election horse-trading, which could take weeks 
or months after the January election.  Even Basra-based UK 
diplomats, keen to see the deal move forward, acknowledge that 
signing the deal at this late stage of the GOI's term could be 
difficult. 
 
But Shell still in for the long haul 
==================================== 
 
¶10. (SBU) Shell reps said that while "there is a limit to our 
patience," and despite the delays and "pressures from Shell 
headquarters," for now it has no plans to give up on the 
project, as potential returns are still too great to walk away 
from.  They also pointed out that Shell's activities seek to 
create whole new areas of wealth with this new source of gas and 
revenue, so it is not threatening any existing or vested 
 
BASRAH 00000054  003.2 OF 003 
 
 
interests.  They said that this fact could stand in contrast to 
many international oil companies (IOCs) seeking business in Iraq 
which could sometimes open up a "hornet's nest" with the 
prospect of new and transparent business practices that might 
threaten local interests (such as IOCs' intentions to meter 
production and/or exports, any lack of which is alleged to 
facilitate theft).  While Shell certainly plans to observe 
strictly transparent business practices, by creating entirely 
new sources of wealth, it could face less local resistance to 
its activities. 
 
And is experienced in tough climates 
==================================== 
 
¶11. (SBU) Van Os and Davies reminded PRTOffs that while for some 
IOCs, working in Iraq might seem risky, Shell actually faces 
equally tough or tougher environments in places such as Nigeria, 
Russia, and Venezuela.  Nevertheless, they admitted that Iraq 
presents "its own set" of unique and complex security, 
bureaucratic and political challenges, many of which they've not 
encountered before.  On this latest trip, Shell sought the PRT's 
own security assessment of Basra.  They noted that Shell's 
corporate headquarters is "extremely risk averse" to the 
potential loss of life -- and Mitsubishi is "even more so." 
Senior Shell representatives (and PRTOffs) were present during a 
March 2009 rocket attack on the Basra COB, and the event 
evidently sent them back to their Kuwait base to re-assess. 
Nevertheless, they came back. 
 
Comment 
======= 
 
¶12. (SBU) While a possible delay is frustrating to Shell, such 
holdups during election seasons are not uncommon in democracies 
in the run-up to a big election, as people in power (who seek 
re-election) can be reluctant to make decisions that can be used 
against them for political gain.  GOI politicians are very 
sensitive to the perception of any "giveaway" to Shell, or 
otherwise having their nationalist credentials questioned.  And 
the fact that Shell's was a "no-bid" contract could make some 
politicians even more wary (even though there are strong legal 
arguments against the need to tender this "mid-stream" activity 
- ref C). 
 
¶13. (SBU) And as hard as a delay might be for Shell, if there is 
a delay, maybe it is best in the long run.  A deal signed with 
the next government, rather with a government in its final days 
of power, could have more staying power.  Signing a deal now 
could be a waste of time and money if a radically different GOI 
comes into power.  And if the Shell flared-gas deal truly is one 
than can be a multi-decade, multi-billion dollar project 
benefiting a wide sector of the population, which we believe it 
can be, it could be worth the extra months wait. 
NALAND