Published on January 6, 2014
Understanding Investment Patterns in Iraq 8th Meeting of the Working Group on Infrastructure Finance in Iraq Cairo, Egypt April 30, 2013 © Dunia Frontier Consultants 2013
Introduction § Iraq oﬀers an interesting value proposition for international investors and businesses. The country’s economic infrastructure has been destroyed by more than 25 years of war and sanctions that began with the Iraq-Iran War in 1980. Iraq needs hundreds of billions of dollars in foreign capital in order to rebuild infrastructure and kick-start private sector growth. With its rapidly growing, predominantly young population and vast hydrocarbon resources, Iraq should experience near double-digit economic growth for decades to come. § Central to the process of rebuilding Iraq is the need to reduce large scale and widespread unemployment in a labor force of over 10 million. Providing growth in labor-intensive economic sectors will be key. § Nevertheless, the process of securing, stabilizing and rebuilding Iraq has been uneven to date. Growing confidence in the Iraqi government’s ability to reduce violence and otherwise maintain stability has increased foreign investment—but to date FDI flows appear to be modest and heavily skewed towards hydrocarbons and lighter activities targeting the Iraqi consumer market (such as sales and distribution). § However, reliable data on foreign direct investment in Iraq is extremely limited, and one of the priorities of MENA-OECD Investment Programme in Iraq is to have a good quality of data so as to better evaluate recent developments and build future scenarios. Working Group on Infrastructure Finance in Iraq | © 2013 Dunia Frontier Consultants || 2
Oﬃcial Data on Foreign Direct Investment UNCTAD $2,000 World Bank $1,856 $1,800 $1,617 $1,598 $1,600 $1,396 US$ (millions) $1,400 $1,200 $1,000 $800 $623 $600 $400 $200 $0 2007 § 2008 2009 2010 2011 This is what the oﬃcial data on FDI for Iraq looks like. A few observations: • The data is not very rich. While you can see progression from 2007 – 2011, these topline numbers do not give a nuanced view of the pattern of investment and development in Iraq. There is little sense of geographic and/or sector distribution. • The data is not necessarily accurate. As seen in the chart, there are discrepancies within the oﬃcial numbers. Moreover, there may be discrepancies in the methodology for recording flows, which create important gaps. Working Group on Infrastructure Finance in Iraq | © 2013 Dunia Frontier Consultants || 3
Another Look at Oﬃcial FDI Data Partner country Type of FDI Currency Year 2001 Reporting country Australia .. Belgium .. Denmark .. France .. Germany -6.269 Hungary .. Italy .. Japan .. Korea .. Norway .. Sweden -0.387 Turkey 0 2002 2003 2004 Iraq Outward US dollars, millions 2005 2006 2007 .. .. .. 0 0 .. .. .. .. .. -0.206 0 0 .. .. 0 0 0 0 .. .. .. -0.248 0 0 .. .. 0 1.242 0 0 .. 0 .. -0.272 0 0 .. 0 2.486 0 0 0 0 .. .. -0.401 0 0 0 0 1.255 0 0 -8.786 .. 0 .. -0.271 0 .. 0 0 .. 0 0 0 .. 0.253 .. -0.74 8 2008 2009 .. 0 0 0 0 0 .. .. 2.924 2.779 0 360.073 0 29.689 .. .. 0 64.16 -232.303 -30.842 -2.274 -1.699 0 36 2010 2011 0 26.49 0 .. 5.298 10.729 -5.563 0 89.488 -0.165 -0.278 11 0 51.532 0 .. 0 -10.428 1.657 0 120.595 .. -0.771 26 § Even when looking at the oﬃcial data on flows from individual countries, the data is not very meaningful, and there appear to be gaps in the collection methodology. In the above table, one of the largest transactions comes from Hungary in 2009—which appears to be ownership swap of 6% in Hungary's MOL for a 10% stake in Pearl Petroleum in the Kurdish region—but there were similar transactions with Turkey's Genel Enerji, which are apparently not recorded. § So, where do we look for a more nuanced and granular data set for understanding the pattern of investment and economic development in Iraq’s economy? Working Group on Infrastructure Finance in Iraq | © 2013 Dunia Frontier Consultants || 4
What is Foreign Commercial Activity (FCA) ? § Since late 2009, Dunia Frontier Consultants has maintained a database of public “publicly reported investments, service contracts and other revenue-generating activities that involve foreign-domiciled firms operating in Iraq.” § This is a broad umbrella category that does not correspond to the narrow definition of FDI per se, but it does represent a unique longitudinal dataset for Iraq’s reconstruction and economic development during the period 2010-2012. This is particularly true for any attempt to understand economic activity with geographic or sector-specific granularity. Date Company Name Sector US$ (mil) Country of Origin Province 2011 Shanghai Electric Electricity $999.0 China Wassit 2012 Samsung Oil & Gas $998.0 South Korea Basra 2010 Undisclosed Water & Sanitation $965.6 France Baghdad 2012 Weatherford Oil & Gas $843.0 Switzerland Basra 2010 Leighton Offshore Private Oil & Gas $733.0 Australia Basra 2010 Wintercroft Capital Water & Sanitation $700.0 Russia | Switzerland Maysan 2012 POSCO & KNOC Electricity $700.0 South Korea KRG 2012 Marmara Real Estate Residential $700.0 Turkey Baghdad 2012 United Brothers (UB) Holdings Industry $700.0 Turkey Basra 2011 Undisclosed Industry $692.0 Iraq | Italy Qadissiyah 2011 Ericsson Telecommunications $650.0 Sweden Iraq-wide 2011 Baker Hughes Oil & Gas $640.0 United States Basra 2011 Nursoy Real Estate Residential $600.0 Turkey Baghdad Working Group on Infrastructure Finance in Iraq | © 2013 Dunia Frontier Consultants || 5
Methodology & Qualifications Behind FCA § As the process of reconstruction in Iraq began in earnest in 2010, many of the major deals and contracts being concluded were not in private foreign investment, but rather Iraqi government or private-sector service contracts, production sharing agreements, lease agreements, or foreign partnerships with private Iraqi investors. Increasingly complex and opaque financing (soft loans by foreign governments, conditional or staggered project financing, etc.) further complicate isolating FDI. § The data come from a combination of publicly available regional, Iraqi, and industry-specific media, as well as private sources. Given the source and nature of the data collection, it is inevitable that there are observational biases that produce inaccuracies. Many firms have no incentive to announce their market entry or signed contracts. Open-source or voluntary reporting of deals is likelier to capture activity in Baghdad and Basra, where more news media are located/focused, while the KRG has superior record keeping of investment licenses issued through Kurdistan Board of Investment. § The data generally includes only those projects that have either actually broken ground or which have seen final contracts signed — rather than simply memoranda of understanding, or investment licenses issued by the governorates — although final contracts themselves oﬀer little guarantee that any deal will actually materialize. § Many of the deals announced in Iraq have no assigned monetary value, and few financial details are released. In order to fill these data gaps, estimates of deal value are made, comparing pools of similar contracts and investments. Where possible, estimates were made on the basis of more detailed averages (such as per MW or per housing unit average cost). Working Group on Infrastructure Finance in Iraq | © 2013 Dunia Frontier Consultants || 6
Broad Trends After three years of tracking FCA, several major early trends have emerged: § Oil and Gas to Drive Growth. With more than a dozen oil fields now under development by foreign firms, IOCs are investing billions of dollars in developing the fields, but growing oil revenues are finally allowing the Iraqi government to invest in other sector infrastructure upgrades. § Stability Allows Broader Investment. 2009 and 2010 saw a major expansion of foreign commercial activity beyond Baghdad and Iraqi Kurdistan. Major improvements in the security situation across Iraq encouraged investors to look beyond the safety and stability of the Kurdish region. § Non-O&G Sectors (esp. Real Estate, Electricty) Also Growing. Although investments in oil and natural gas are expected to drive the majority of investment in Iraq, there is major activity in other sectors as well. The National Investment Commission hopes to build millions of new homes, as well as attract at least US$300 billion in foreign investment by 2015. § Regional Firms Lead, with Internationals Following. Outside of the oil and gas sectors, regional investors from Turkey, Iran and the GCC have traditionally driven most FCA. However, beginning with the second half of 2010, a significant number of European and Asian firms began their participation in the Iraq market. Working Group on Infrastructure Finance in Iraq | © 2013 Dunia Frontier Consultants || 7
Oil Exports Remain Primary Indicator for Investors Source: State Oil Marketing Company (somooil.gov.iq) 2.7 2.42 Million barrels per day (bpd) 2.5 2.3 2.16 2.1 1.9 1.9 1.7 1.5 § Bad weather was blamed at the start of the year, but now logistical issues are likely to keep exports close to 2.4 million bpd (the average for 2012) through the first half of this year. § Total oil production in February is still 272,000 bpd lower than the post-1990 record of 3.235 million bpd achieved only five months ago. Production in the South rose by 45,000 bpd in February (month-on-month) to 2.281 million bpd, while production from the northern fields fell by 2,000 bpd in February to 682,000 bpd. There was no contribution from KRG. Working Group on Infrastructure Finance in Iraq | © 2013 Dunia Frontier Consultants || 8
Security Also Closely Monitored 800 Reported Monthly Fatalities 700 600 500 407 400 300 339 200 100 0 § Dunia carefully tracks security developments in Iraq, and has done since 2008. Although the security outlook remains much improved since March 2008—and volatility in monthly reported fatalities has been the norm during this period—there has been a slight increase in violence from 2009 to 2013. § For now, investors who have entered Iraq will remain committed, but backsliding on the security front may change this, and other investors will continue to be deterred. Working Group on Infrastructure Finance in Iraq | © 2013 Dunia Frontier Consultants || 9
First Look at FCA: Monthly Deal Flow 40 35 Reported Deals 30 25 24 20 15 14 10 5 0 § There has been a clear increase in the number of monthly announcement of deals since 2010 —with the monthly average nearly doubling from 14 to 24. § However, the peak monthly deal volume occurred in late 2011 / early 2012, and there has been a gradual decline since then. This may be methodological (because of reduced international and regional media coverage of Iraq), or it may reflect foreign firms’ reaction to more recent political and security developments. Working Group on Infrastructure Finance in Iraq | © 2013 10 Dunia Frontier Consultants | |10
FCA Deal Value Over Time 60 52.54 50 36.47 US$ billions 40 30 28.70 Estimates not covered in data collection. 17.93 20 10 28.31 6.74 3.87 5.04 1.17 2.70 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 § FCA peaked in 2011 at US$52.54 billion in what was an exceptionally strong year for the residential real estate, oil & gas, and electricity sectors. § Despite the sharp 46% drop in overall FCA, 2012 was still a very strong year for Iraq, with a decline in deals valued at under US$1 billion of only around 12.7%. Some cooling oﬀ was inevitable following the announcement of 12 billion-dollar deals in 2011. § However, during the entire period of 2010 – 2012, an average of 21 deals were announced each month at an average value of just over US$150 million. Working Group on Infrastructure Finance in Iraq | © 2013 11 Dunia Frontier Consultants | |11
Geographic Distribution of FCA (2010 – 2012) § § This distribution speaks to three primary drivers of FCA: the population and relative importance of the capital Baghdad; the oil industry in Basra; and the security and unique legal and political environment in the Kurdish region. § Working Group on Infrastructure Finance in Iraq | © 2013 The cumulative FCA data shows a clear concentration in three areas: Baghdad, Basra and the three Kurdish governorates. However, despite the overwhelming dominance of these three regions, there have been significant FCA in other southern governorates related to a host of reconstruction activities in non O&G sectors. 12 Dunia Frontier Consultants | |12
Geographic Distribution of FCA 2010 2011 2012 $16,000.0 $14,000.0 (US $ millions) $12,000.0 $10,000.0 $8,000.0 $6,000.0 $4,000.0 $2,000.0 $- § There has been some important year-on-year variation… » Steady decline in Baghdad » Peak in Basra in 2011 » Spike in Ninewa in 2011 § … but overall the same geographic concentration is evident. Working Group on Infrastructure Finance in Iraq | © 2013 13 Dunia Frontier Consultants | |13
Per Capita Geographic Distribution of FCA 2010 2011 2012 $7,000 $6,000 (US $) $5,000 $4,000 $3,000 $2,000 $1,000 $- § However, a per capita analysis of the same data shows the extreme concentration of FCA in Basra – much of which is concentrated in the oil and gas sector, or in peripheral activity in electricity, transportation infrastructure, etc., that is designed to bolster the oil production and export process. Working Group on Infrastructure Finance in Iraq | © 2013 14 Dunia Frontier Consultants | |14
Distribution of FCA by Top Sectors 2010 2011 2012 $18,000 $16,000 (US $ millions) $14,000 $12,000 $10,000 $8,000 $6,000 $4,000 $2,000 $Electricity § Industry Oil & Gas Real Estate Residential Transportation Water & Sanitation Major residential real estate deals have dominated FCA with several multi-billion dollar investment projects promising tens of thousands of new units across major population centers. Dunia estimated a nationwide housing deficit in 2012 at nearly 4 million housing units, requiring the construction of around 650,000 housing units per year for a population of 38 million by 2018. Working Group on Infrastructure Finance in Iraq | © 2013 15 Dunia Frontier Consultants | |15
Distribution of FCA Valued Under $1 Billion 2010 2011 2012 $8,000 $7,000 (US $ millions) $6,000 $5,000 $4,000 $3,000 $2,000 $1,000 $Real Estate Residential Oil & Gas Water & Sanitation Transportation Electricity Industry § Multi-billion dollar deals (particularly in real estate and industry) distort FCA data. Looking at deals valued only at under $1 billion, the prominence of oil & gas is again evident. However, there are a healthy number of residential real estate deals as well. § The data also reflects the reconstruction priority of electricity, which spiked in 2011. § Industry has also been dominated by large-value individual deals in heavy or basic industries like steel (US$2.088 billion), cement (US$1.9645 billion), fertilizer (US$2.125 billion). Working Group on Infrastructure Finance in Iraq | © 2013 16 Dunia Frontier Consultants | |16
Top 10 Countries of Origin (2010 – 2012) (US $ millions) $- $2,000 $4,000 $6,000 $8,000 $10,000 $12,000 $14,000 $16,000 Australia Canada China Czech Republic Egypt France Germany Italy Japan Netherlands Russia South Korea Switzerland Turkey UAE United Kingdom United States 2010 § 2011 2012 The geographic origin of FCA has varied widely from year to year, but it is relatively diverse with 54 diﬀerent countries active in Iraq, and the top 10 spot has been swapped between at least 17 countries. Working Group on Infrastructure Finance in Iraq | © 2013 17 Dunia Frontier Consultants | |17
Policy Recommendations: Investor Experience Dunia and the OECD conducted a survey of active investors in Iraq across a variety of sectors, and asked them about their experiences to date, their expectations for economic activity outside of oil & gas. While many of the investors believed the next three to five years would be challenging ones for non-hydrocarbon sectors, they also provided a series of recommendations for reforms by the Iraqi government that would improve their business prospects. § Address security concerns / personal mobility. This issue was highlighted by all the investors—either as a debilitating cost of doing business, or as a factor in trying to develop consumer markets. § Enhance rule of law. Investors united around a simple program of (a) strengthening contract enforcement mechanisms through the judicial and regulatory systems, (b) reducing corruption, and (c) increasing transparency, and (d) clarifying lines of authority. § Improve liquidity conditions and access to risk insurance. Several investors noted diﬃculties in securing cheap financing, and the extreme costs of risk insurance. It is unclear how many investors have been dissuaded from doing business in Iraq because of these constraints, but active investors stressed the need for financial sector development that allows for the emergence of private banks, electronic payment systems and record keeping. § Relaxing customs / import controls. All investors faced delays and costs associated with the diﬃculties of bring equipment and supplies into Iraq. This is partly to do with the quality of transportation infrastructure (especially sea ports), but also requires reforming bureacratic process. Working Group on Infrastructure Finance in Iraq | © 2013 18 Dunia Frontier Consultants | |18
Policy Recommendations: Investor Experience Cont. § Streamlining and decentralizing the investment regulatory processes to unlock other geographic areas in Iraq. Although most of the investors interviewed have followed the dominant pattern of investing in Baghdad, Basra or the KRG, several noted that if there is to be any hope of geographic diversification, the supervisory process of provincial activity must be simplified and / or relaxed. § Improve market data. Across nearly every sector, investors said they needed more and better data to build investment plans and to properly assess credit and counterparty risks. This is not only for market data to be used by private businesses, but also for building credit records of firms and individuals. § Capacity building and improved education of the Iraqi workforce. Several investors lamented their ability to attract talented mid-level and senior-level staﬀ from within Iraq. Facilitating engagement between foreign firms and Iraqi professional associations could help create “matchmaking” services to remove opacity from the labor market and help reduce unemployment among more productive individuals. Another approach is to accelerate educational exchange and study abroad programs to counteract brain-drain and the reluctance of the Iraqi diaspora to return. This issue will gain in critical importance as the current demographic youth bubble in Iraq reaches working age. Working Group on Infrastructure Finance in Iraq | © 2013 19 Dunia Frontier Consultants | |19
Policy Recommendations: Development Strategy SEQUENTIAL RECONSTRUCTION PROCESS § Export-Led Growth Sectors In order to unlock investment in highly productive sectors that will stimulate growth and reduce unemployment, key market reforms and legislation will be required. § This level and quality of growth requires a carefully constructed enabling environment that is a result of a conscious industrial policy on the part of the government. § Import-Substitution (Native Industry, Correcting BoP) § Infrastructure Base (Electricity, Transportation, etc.) Working Group on Infrastructure Finance in Iraq | © 2013 Knock on eﬀects in peripheral industries will result in investments in sectors that are less competitive to do transportation costs and import restrictions. Given increased oil revenues, a large part of this process will happen organically to facilitate hydrocarbon extraction, and address most dire reconstruction needs (e.g. heavy industry). 20 Dunia Frontier Consultants | |20
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