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You're Working For Ch??ez Now


What's it like to do business in the global capital of oil nationalism? Most international oil executives in Caracas don't want to speak on the record about the tricky game of dealing with Venezuelan President Hugo Ch??vez. But one executive confides that this has been a brutal year. The low point came on Mar. 31 when he was required to attend a ceremony at the Miraflores presidential palace, where Ch??vez took pleasure in bringing representatives of the world's oil elite -- companies such as Chevron (CVX), Royal YPF Dutch Shell (RDSA), BP (BP), and Repsol (REP) -- to heel. The occasion: the signing of documents that gave the state control over much of Big Oil's existing production in Venezuela. "It left a bad taste in my mouth," says the executive, adding that his child caught sight of him on TV and remarked to a friend: "My dad is angry. I'd better not go home."

The ceremony was another sign that the global oil companies are taking a beating from national governments in many parts of the globe. Venezuela opened 32 so-called marginal fields to international companies in the 1990s, contracting out operations to Chevron Corp., Royal Dutch Shell PLC, and others, which got a per-barrel fee depending on volume and price over a 20-year term. The companies poured an estimated $12 billion into these fields, increasing production by some 400,000 barrels a day with no capital expenditure by the government. But because these operating contracts were pegged to the oil price, Ch??vez condemned them as concessions in disguise -- an illegal violation of the country's sovereignty.

Now state-owned Petr??leos de Venezuela (PDVSA) will convert these contracts into joint ventures that give it at least a 60% stake and control of the board. Oil executives fear the government will interfere with key investments and operational decisions. The oil majors are taking a financial hit, too. Gero Farruggio, an analyst at Edinburgh energy consultants Wood Mackenzie, estimates that if the contracts had remained in force, the companies stood to make another $7.7 billion. Now he figures they will lose $3.7 billion of that amount. France's Total and Italy's ENI lost the most: The government seized fields run by them when they rejected the new terms. ENI, which has invested some $1.65 billion in its 60,000 barrel-per-day field, lost $900 million, Farruggio estimates. Total probably lost $320 million. The government is offering the companies a total of $900 million compensation in the form of vouchers, but that won't cover the value of the projects. One executive calls the vouchers "Monopoly money."

Certainly, when prices are high, oil is the most political of commodities, and nowhere is that more true than in Ch??vez' Venezuela, a country that provides the U.S. with about 15% of its daily oil needs. Ch??vez, like leaders in other oil-producing countries from Russia to Bolivia, has been squeezing the international oil companies for everything he can get -- without quite going so far as to drive the industry out altogether. The ex-paratrooper, who came to power in 1999 and faces reelection in December, wants ever-higher revenues to boost his already lavish programs for Venezuela's poor, from monthly stipends for needy students to rice-and-beans subsidies for the barrios.

TURNING THE TABLES?br>

This environment is a far cry from the 1990s, when Venezuela welcomed the big oil companies to invest in marginal fields at a time of low prices. Now Chávez and Oil Minister Rafael Ramírez, who also heads PDVSA, have turned the tables. Besides pushing the companies into joint ventures, Chávez has sharply hiked royalties and taxes on these operations to an effective take of more than 80%.

These moves are not sitting well with the global players. BP CEO John Browne echoes what others say privately: that Venezuela risks losing the investment it needs to keep its oil flowing. The recent changes "certainly don't give [the Venezuelans] access to investment for the future," warns Browne. "It takes time to get over a change like this."

The atmosphere in Caracas may soon get worse. PDVSA is suggesting that it wants control of key heavy oil projects in the Orinoco Belt. They produce 600,000 barrels a day of sludgy crude and pipe it to the coast, where it is processed into refinable crude. ExxonMobil (XOM), Total, Chevron, ConocoPhillips (COP), BP, and Statoil (STO), along with PDVSA as a minority partner, have invested a total of $12.4 billion in these projects since the mid-1990s. They could produce an estimated $3 billion in cash flow this year, according to Wood Mackenzie. Venezuela claims 235 billion barrels of heavy oil, which would put it in a league with Saudi Arabia; heavy oil is considered the future.

Now, PDVSA wants to control these capital and technology-driven projects, a move that could put them at risk. In an interview with BusinessWeek, Eulogio Del Pino, president of PDVSA CVP, which handles joint ventures, predicted that his company would take at least 51% positions in the four heavy oil companies, while royalties and income taxes would rise to 30% and 50%, up from 16.7% and 34%, respectively. The silver lining would be that the new arrangements offer companies the chance of increased production. "There are many, many new possibilities," he says.

Would taking control of the heavy oil projects be enough to make Big Oil turn and run? Most executives think staying in Venezuela worthwhile because there are not many other places where they can tap such massive reserves. "It's naive to expect stability in a developing country," says one executive. The key to business survival, they add, is to establish strong relationships with competent officials below Chávez and Ramírez. One important contact is Deputy Oil Minister Bernard Mommer. An internationally known policy expert who spent several years at the Oxford Institute of Energy Studies, he is a proponent of subordinating the petroleum majors to the state. "He has very fixed ideas on how it should be done," says one key executive, but Mommer recognizes the need for foreign capital. In the latest round of talks, Mommer and Del Pino were "very polite but very determined. There was no real negotiation. It's hard to blame the government for trying to get a bigger share of the pie when prices are high," another executive adds. What bothers the oil companies is the "substantial change in how the contracts are laid out -- all of a sudden private investors are not in control."

Mommer knew that Chevron and Shell were likely to accept the government's deal, figuring that if they went along they could get better access to the country's resources. He was right. Only two,Total and ENI, rejected the terms outright, while ExxonMobil had already sold its small Venezuelan stake to Repsol. (ExxonMobil remains active in a bigger, heavy oil project.)

These results please Del Pino. Over coffee at his office above Caracas' middle-class La Campiña section, he looked tired recently but seemed proud that he persuaded 16 companies to convert their contract agreements into joint ventures. "It was not easy with Shell," he admits. "But now they are happy. We are ready to talk about new business." Shell was chagrined that its field in Lake Maracaibo, which produces 50,000 barrels a day, would be part of a company in which it owns just 40%. But Shell gained sweeteners such as a 13-year extension on its contract. The company hopes that it can expand the venture to nearby PDVSA fields. The new arrangement, says Del Pino, is "much more transparent and legal."

While they bridle at the new terms, the oil execs know they have little choice. What really worries them is that PDVSA may start calling too many of the shots at the new ventures. Industry sources say PDVSA lacks the managerial skills to run its own operations, let alone take on 32 more fields. After the company went on strike in 2002 in an unsuccessful attempt to oust Chávez, the government fired about 18,000 employees. At the fields PDVSA manages exclusively, production has fallen by almost 50% since Chávez gained power, to about 1.6 million barrels a day, according to consultants PFC Energy. (PDVSA says it produces 2.3 million barrels a day, but most analysts dispute that number.)

PDVSA has big plans to raise production to 5 million barrels or so -- but the plans have been on the books for years. "Venezuela has a resource base for 300 years," says Ali Moshiri, president of Chevron Latin America. But he adds that the country needs to show it can develop those reserves. For now, Big Oil can only hang on while Chávez shakes things up even more.

By Stanley Reed, with Stephen Ixer in Caracas


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