Venezuela Takes Over Control of Extra-Heavy Oil Projects

Government Takes Over Orinoco Projects

The Venezuelan state oil company PDVSA yesterday took over operational control of the extra-heavy oil projects in the Orinoco Basin, complying with the 1 May deadline announced by President Chávez in January as well as an executive decree signed in February ordering the “nationalisation” of the existing strategic associations for the Sincor, Cerro Negro, Petrozuata, and Ameriven extra-heavy crude projects in the Orinoco Belt (see Venezuela: 27 February 2007: President Signs Decree Nationalising Extra-Heavy Oil Production in Venezuela). The move was widely expected after 10 companies operating in the Orinoco Belt last week signed memoranda of understanding (MoUs) with PDVSA for the transfer of operating control to the state. However, the government was able to claim an additional victory with the take over of ConocoPhillips’ operations as this company, along with Eni was not among those that signed the MoUs. PDVSA also took over three fields that were previously under risk exploration contracts.

The move was accompanied by much fanfare. As previously announced, troops were sent in to occupy the projects and the Venezuelan flag was raised over the oil installations affected. President Chávez attended a ceremony at the José industrial complex at which he welcomed the “new PDVSA” and announced that Venezuela had “buried 10 years of a perverse process known as the oil opening”. He also welcomed the move to recover “sovereignty” over the country's oil sector as a victory over the United States, saying that “Venezuela will never be a North American colony”.

The Devil is in the Detail

The move was largely symbolic as the details for new contracts for extra-heavy oil production are still to be worked out. The government has its work cut out to meet the 26 June deadline that it has set itself to resolve issues such as establishing the new shareholder structure in individual projects, the size of any compensation payments, and restructuring any debt held by the projects. Negotiations over compensation could prove difficult as the government has stated that it will observe the book value, not the market value, of investments. According to a report by the Financial Times, stakes held by Total, Chevron Corp., BP, ExxonMobil, Statoil, ConocoPhillips and Eni are worth around US$15 billion. Other reports put the total value of the projects at around US$30 billion.

Under Venezuela's “nationalisation” model, the strategic associations signed during the 1990s are expected to be converted into mixed companies in which PDVSA has a minimum 60% stake. The government previously established the legal foundations for this move—the 2001 hydrocarbons law. Venezuela has indicated that the companies involved are welcome to stay as long as they abide by the new rules. Limited opportunities for new investment by international oil companies (IOCs) in the major oil producing countries around the world and high oil prices mean that most are expected to stay as long as the final agreements reached with the government are not too onerous. However, even if companies do stay, they are unlikely to invest as much as they would have done under the previous terms.

Although discussions with the foreign companies involved have been under way for some time, negotiations over the next few weeks will be critical in determining whether companies decide to stay or go. In a sign that the government may be increasing the pressure for companies to reach an agreement, the state tax agency Seniat announced a few days ago that the tax review of extra-heavy oil projects was not yet completed and that it would be presenting bills to three of the projects by 19 May. President Chávez also upped the pressure with comments in his speech yesterday that companies could be sued over drilling practices that did not recover as much oil from fields as they could have done using more advanced technology, according to a Dow Jones report.

Outlook and Implications

Although the process is not quite finished, yesterday was indeed a historic day. During the apertura period of the 1990s Venezuela signed three types of contracts for foreign-company participation in the upstream oil sector: operating contracts for marginal fields; risk exploration and production-sharing contracts between private companies and PDVSA; and strategic associations between PDVSA and private companies for extra-heavy oil projects in the Orinoco Belt. The operating agreements were last year replaced by mixed companies in which PDVSA has a controlling stake and the replacement of the strategic associations and the risk contracts will complete the process. The government has defended the policy changes using the argument that the previous policies were “illegal”, because the operating agreements and strategic associations did not respect the spirit of Article 5 of the 1975 nationalisation law and promoted the new contracts as a means to recover “full petroleum sovereignty”. Oil nationalisation has also become a key element of the government's “socialist” platform and is now being extended to other sectors.

Since the beginning of his second full term in office in January 2007, President Hugo Chávez has stepped up his “Revolutionary” rhetoric and measures, supported by the strong mandate he received from the December 2006 presidential election. Surfing on high approval ratings fuelled by oil-wealth-driven social programmes, Chávez has freely moved forward with radicalising his “socialism of the 21^st century”. State control over the oil sector, telecom firm CANTV (see Venezuela: 13 February 2007: State to Pay US$572 mil. for Verizon's 28.5% Stake in CANTV), and power utilities (see Venezuela: 14 February 2007: Venezuela Reaches Agreement to Acquire CMS's Stake in Electricity Company Under Nationalisation Drive) has formed part of a wider agenda to ensure the government's dominion over strategic areas of the economy and associated revenue. His momentum has also led to the possible nationalisation of the distribution chain and the healthcare sector, prompting a feeling of vulnerability in all private sectors. With constitutional reform pending and the advent of rule by decree (see Venezuela: 1 February 2007: President Granted Powers to Shape "A New Venezuela"), the operational backdrop has seriously deteriorated in Venezuela and uncertainty as to the extent of his nationalisation drive is high.

To date, the president has demonstrated a keenness to avoid fully fledged nationalisations by maintaining a role for foreign investors and stressing his wish for a “mixed economy”. In any case, the radicalisation of the vaguely sketched “Bolivarian Revolution” is under way. With surging oil prices and allies emerging at the head of neighbouring countries, Chávez is in an undeniably good position. Regional bonding over integration projects have boosted the president’s profile and given him yet more freedom to distance Venezuela from mainstream politics and economics. His decision to break away with the IMF and the World Bank, announced on the eve of May Day, is symptomatic of this state of affairs. The sovereign, independent, anti-imperialist, and anti-neoliberal rationale is prevalent in all his policy decisions, with concomitant unpredictability for Venezuela-based businesses (see Venezuela: 1 May 2007: Venezuela to Walk Out of IMF and World Bank).