Trade with Iraq is expected to increase exponentially over the next few years. But will exporters find ways to overcome the heightened political risks that bedevil the country? Nick Lord reports.


In December 13, 2011 Iraqi prime minister Nouri al-Maliki stood in front of a room crowded with the great and good from US business. He told them Iraq was open for business. “As much as we are committed to defeat terrorism, we are now committed to grow the private sector,” he said to the standing room-only crowd at the US Chamber of Commerce in Washington DC. “It is now not the generals but corporations and business leaders who will be at the front of this stage.”

The Iraqi government has said that it plans to spend some US$186bn over the next five years on 2,700 separate development projects. These projects will be in the all important energy sector, but will also be in areas that seek to diversify the economy away from its 95% reliance on energy. These include agriculture, telecoms, construction and healthcare.

For companies looking to export their goods into the Middle East, Iraq is now too big to ignore. Indeed some private sector analysts put the total investment that will eventually be made into the country’s economy at close to US$500bn. And most of the goods that will form the backbone of the country will be sourced from outside.

Iraq presents the almost perfect example of a high-risk, high-return environment. Despite the huge opportunities for increased trade and the government’s increasingly impressive financial resources, the country is undoubtedly a highly risky place with which to do business. Nevertheless, such an environment is perfect for the use of structured trade finance techniques, which allow exporters to take advantage of the underlying opportunities while also using financing techniques to mitigate their risks. The use of these mitigation tools is increasing rapidly.

For instance, in 2011, US exports of farming machines, drilling tools and telecoms equipment were expected to reach US$2.5bn. But most of this was sold on open account. “Past transactions don’t necessarily accurately reflect the bank’s interest in Iraq,” says Phil Cogan, vice-president at US Export Import Bank (US Exim) in Washington DC. “In early 2012 a high-level delegation from US Exim will be in Iraq to meet with government, lenders and others to perform due diligence and examine the feasibility of expanding bank financing of US exports to Iraq.”

Over the last year US Exim undertook three short-term LC insurance deals for exports to Iraq. These covered two US$20mn solar turbine deals and a US$5.2mn carbon steel pipeline deal.


ECA involvement

US Exim’s increasing involvement in Iraq follows that of other ECAs. The UK’s ECGD (now UK Export Finance) became one of the first to significantly increase its cover of Iraqi risks when it opened coverage in 2009. It now has an appetite for market risk cover of between £150mn and £250mn, with cash, short-term, medium-term and long-term cover.

In November 2011, Japan’s Nippon Export and Investment Insurance (Nexi) also began coverage of Iraqi risks. It signed an MOU with the Iraqi ministry of finance and the Trade Bank of Iraq which allows Nexi to issue purchase authorisation to Japanese exporters and approve issuance of LCs on the request of Iraqi buyers.

The new support from international ECAs is allowing some smaller deals to get done, especially in areas of the economy not linked to the oil sector. For instance, in November 2011, HSBC signed a US$24mn export finance loan with Iraqi mobile operator Asiacell, for the purchase of new equipment from Nokia Siemens Networks. The deal was backed by Euler Hermes and it is claimed to be the first ECA backed financing in Iraq since 1980.

“Iraq has a substantial infrastructure development requirement and ECA financing will be a very important part of the associated financing needs,” says Simon Lee, director in HSBC’s project and export finance team in London. “This Euler Hermes-supported financing emphasises yet again the continued importance and attraction of medium and long-term ECA-supported finance to Middle Eastern borrowers for the financing of capital expenditure.”

A further deal was signed a month later, when IFC and Proparco together lent US$70mn (US$50mn by IFC and US$20mn by Proparco) to Bazian Cement Company, a local Iraqi subsidiary of Lafarge, the French cement group. The loan – while not technically trade-related – is nevertheless a sign of the international financial community’s increasing interest in financing projects in Iraq.

“This financing will help address the cement shortage that the country urgently needs to build key infrastructure, and play a catalytic role in attracting other potential foreign investors into other sectors in Iraq, increasing much-needed foreign direct investment into the country,” says Dimitris Tsitsiragos, IFC vice-president for Eastern and Southern Europe, Central Asia, Middle East and North Africa.

The cement deal was the latest sign of intent by IFC to rapidly increase its presence in the country. In February 2011 it signed a US$400mn, seven-year project facility with Zain Telecom of Kuwait for the expansion of its Iraqi operation. In the next three years, IFC plans to pump more than US$800mn into the country’s energy and banking sectors, as well as agribusiness and domestic construction. Given that most of these projects will need to import raw materials and equipment, there is scope for trade financiers to reap the benefits of this new liquidity.


Lucrative prospects

The real excitement however is within the oil and gas sectors, with the IMF’s latest country report on Iraq conservatively estimating that oil production will double over the medium term from its current level of about 2.7 million barrels of oil per day. But to reach this level, large amounts will need to be spent on new equipment, all of which will be sourced from outside.

Perhaps most exciting are projects in the Northern Kurdistan region of the country.

This region benefits from having a very low level of penetration given years of isolation under the Saddam regime. It also has low geological risk and political risk, according to analysts at UBS.

The Kurdistani oil company Genel Energy, which is now listed on the London Stock Exchange, hosted a group of London-based research analysts in mid-January. They visited the company’s headquarters in Arbil as well as the company’s Taq Taq field. In a report for clients written after the visit, UBS analyst Melanie Savage noted that “in recent years Kurdistan has been growing in importance on the world oil map with positive momentum … that would allow the region to export oil and allow more contractors to commit to full scale developments”. Savage noted that there are potentially 40 billion barrels of oil in the region as well as 60 trillion cubic feet of gas “in what can be thought of as easy geology… Prospects are onshore [and] therefore easy to access, with low cost drilling and development costs.”

Perhaps the greatest seal of approval came in late 2011 when ExxonMobil announced that it had been awarded licenses for oil production by the Kurdistan regional government. This was important because as the largest publicly traded oil company in the world, Exxon clearly believes the rewards of investment in the region outweigh the risks. But it is also important because the company has licenses with the central Iraqi government, which had previously said that anyone who did business with the Kurdistan regional government could not do business with the central government. That Exxon Mobil can now do both shows that there is some level of political accommodation between the two governments.

Kurdistan’s main political risk surrounds its relations with the central government. Bankers and analysts report that the region does not suffer from the same level of violence and security concerns as other parts of the country. Corruption, while definitely an issue, is not as pronounced as it is in other parts of the country.


Risky business

Political unrest is clearly the biggest risk that financiers and their clients face when operating in Iraq. Since US troops withdrew from the country on December 18, there has been a worrying spike in sectarian violence. On December 22, 2011 a dozen bombs went off in Baghdad killing 60 people. On January 5, more bombs exploded in Kadhimiya, Sadr City and Karbala, killing more than 30 people. On January 14, 53 were killed in Basra. The next day, 10 died in bomb attacks on Ramadi.

This sudden and brutal spike in sectarian violence clearly worries the international financial community. Trade deals for infrastructure that is going to get blown up, will be hard to finance, and although no ECAs have said that they are reducing or removing cover from the country, sources say they are watching the situation closely.

As worrying as the security situation are the political risks of doing business in a country that is looking increasingly autocratic under the leadership of Nouri al-Maliki. In 2011, the general sense of unease in the country morphed into a very particular problem for bankers working in trade finance.

Trade Bank of Iraq (TBI) was established in July 2003 as the main international bank operating in Iraq. It now has the largest list of international correspondent banks in the country and was seen as something of a beacon of hope for the country’s beleaguered financial system.

Over the summer, the prime minister’s office removed the senior management of TBI including the CEO Hussein Al Uzri and replaced them with eleven appointees from Rafidain Bank. In an outspoken attack on this move, Sir Claude Hankes, an independent advisor to the board of TBI asserted that these individuals had lost Rafidain Bank US$300mn. He also claimed that the reason the management was sacked was because they refused to sign LCs worth some US$7bn for the purchase – by al-Maliki personally – of power equipment from suppliers in Korea.

“The corruption in successive Iraqi governments has been an insult to the Iraqi people,” wrote Sir Claude in an open letter on the issue. “The action by Mr Maliki to undermine the standing and credibility of TBI, the success story of Iraq, is the most damning example of political corruption.”

Bankers and exporters can probably just about work within a dangerous security situation. Indeed many have done so for years, from Asia in the 1970s to South America in the 1980s. But when politicians begin interfering in their credit decisions, the situation can become untenable. That Iraq’s main trade bank – with assets of more than US$15bn, equity of US$1.5bn, profits of US$360mn and a cumulative LC book of US$44bn – can fall victim to this kind of interference
is extremely worrying for all concerned.

The opportunities in Iraq are rife. There are massive infrastructure needs and there is a government with increasing resources to pay for them. An analysis of the market and commercial risks would suggest that there is great upside. But with political and security risks weighing heavily on investors’ and traders’ minds, these opportunities might not be taken. Admittedly, trade finance was invented for just such scenarios, allowing trade to continue while these political risks are passed onto the institutions best placed to handle them.

And so it will be with a very close eye that the private sector watches to see if there is any diminution of engagement by the governments and supranational agencies.

They in turn will be watching closely to see if the al-Maliki government lives up to the promises it made in that packed out conference room in December.