PowerPoint Presentation

PDVSAPetrleos de Venezuela, S.A.Introduction1976 early 2000s Most capable forward-thinking, autonomous NOC 2002 2003 Launched a series of politically disastrous strikes against President Hugo Chavez2003 Chavez purged PDVSA of dissidents & converted co from commercially oriented to a less proficient firm with more attention to state objectives

Introduction ContdCurrently PDVSA functions simultaneously as an operating company, developing agency, political tool, and government cash cowMaintains status as one of the worlds 50 largest companies and one of the largest NOCsSince the 1980s, has held extensive international interest, including US gas chain CITGOSince 1990s, Partner with IOCs in domestic upstream operations

History of Venezuelan Oil SectorIOCs turned Venezuela into an early and important oil producerCommercial development began in 1914 when Caribbean Petroleum started producing from the Mene Grand fieldMajor discoveries followed in fields at Las Cruces (1916) and especially at La Rosa (1922)Control under General Juan Vicente GomezExisting taxation framework allowed IOCs,Paid low royalty rate (3%)Subsurface tax ratesIOCs enjoyed tremendous success under these conditionsBy 1920s, Venezuela became the worlds leading oil exporter and second-largest oil producer (behind the US)

History of Venezuelan Oil SectorIn 1935, after Vicente Gomezs death, the government began pressing for changes in taxes and concession terms Landmark Laws in 1943 and 1948Created 50-50 profit splitsGovernment and IOCs reached 40 year concession agreement under this taxation frameworkRelations remained steady for the next 15 yearsFrom 1944 to 1958, oil production increased at annual rate of 19.5%capital stock grew by 14.3% annuallyOil sector wealth spilled over to the broader Venezuelan economyBy 1960, Venezuela became the wealthiest country in Latin America

NationalismEconomics Venezuelas Military civilian regime raised taxes in 1958, shattering the long-established 50/50 profit Government chose not to renew the 40 year concessionsIn 1958, new law and fee system for foreign workers By the time of nationalization, nearly all Venezuelas oil sector employees were VenezuelanIn 1960, OPEC was founded in Baghdad, Iraq. Five countries namely Islamic Republic of Iran, Iraq, Kuwait, Saudi Arabia and Venezuela.

In 1958, new law and fee system for foreign workers where Venezuela governments established local employment preferences for private oil companiesBy the time of nationalization, nearly all Venezuelas oil sector employees, including most top managers and engineers were VenezuelanIn 1960, OPEC was founded (Organization of the Petroleum Exporting Countries)Founded in Baghdad, Iraq, with the signing of an agreement in September 1960 by five countries namely Islamic Republic of Iran, Iraq, Kuwait, Saudi Arabia and Venezuela. They were to become the Founder Members of the Organization. Oil Minister Juan Pablo Perez Alfonzo under President Romulo Betancourt

6NationalismIn 1970, Congress passes law mandating reversion of oil sector concessiongovernment approval of IOC changes to operationprohibitions on movement of assets1974 Presidential Commission on NationalizationCommission brokered compromises among different groupsGovernment agreed to compensate private companies for the value (paying an equivalent of $1.02B over time1976, January 1 PDVSA is 100% state owned

Private Business Under Government ControlVenezuelan IOC employees immediately joined PDVSA, holding same roles and responsibilities as beforeThrough the 1980s, some PDVSA managers followed the private sector tradition PDVSA adopted a federal modelPDVSA implemented broader scale reforms balancing the benefits of increased economies of scale and intra-firm competitionBetween 1976 and 1978, PDVSA cut the number of major operator subsidiaries from 14 to 4Promoted competition among its operating subsidiariesOperator subsidiaries also had the power to negotiate with individual clients over services, delivery, and time (price competition was discouraged)

Through the 1980s, some PDVSA managers followed the private sector tradition of holding meetings and writing reports in EnglishPDVSA adopted a federal model in which its formerly private-owned affiliates retained control over operational decisionsTwo important affiliates, Maraven and Lagoven behaved like their private sector predecessors, Shell de Venezuela (Shell) and Creole (Exxon)Nationalization led to few immediate changes in corporate structurePDVSA converted 22 private sector concessionaries into 13 state-run operator subsidiariesCPV, 1st failed experiment in state-run oil became operator subsidiary #14Suffered from substantial overlap and duplication because they had their own departments of marketing, accounting, etcBut . . . well positioned to compete with one another because they had done so prior to nationalization

Between 1976 and 1978, PDVSA cut the # of major operator subsidiaries from 14 to 4 -->Maraven, Lagoven, Corpoven, and MenevenPDVSA also maintained the legal status of other operating subsidiaries like Bariven and Palmaven (though these companies were no longer active) because it wanted to preserve flexibility for future corporate changes. PDVSA also established other types of subsidiaries such as petro chemical subsidiary Pequiven

8Private Business Under Government ControlDuring the late 1970s, PDVSA and Venezuelan state thrived Nominal PDVSA investment in exploration grew by more than 500%Production grew by more than 600%Venezuela became known as Saudi Venezuela

PDVSA Goes International1980 Internationalization strategy to secure downstream markets for its production and place assets outside direct reach of the state Initial joint ventures were for refineries in overseas marketsIn 1982 first contract with German counterpart Veba Oel3 yrs later, acquired further refinery interests in Belgium, Curacoa, Sweden, and UK, and US

(PDVSA never internationalized its upstream exploration and production activities.PDVSA was most aggressive internationalization strategy of any NOC in the worldDue to its heavy oil endownmentOil price declinesOPEC domestic production quotas,Periodic government interference

10PDVSA Goes InternationalTargeted downstream consumersIn 1986, purchased a 50% stake in Citgo Paid out $120M in cash and $170M in crude supplies1990, acquired remaining 50% share By 1999, had 13K Citgo gas stations and controlled more than 10% of the US marketInternationalization promotes conflict between PDVSA and the Venezuelan stateCongress blasted PDVSA for not seeking its approval for overseas acquisitionsAcademics would later condemned internationalization for its high costs and for depriving Venezuela of tax revenues

Targeted downstream consumersIn 1986, purchased a 50% stake in Citgo major distribution channel for gasoline products to US consumersBecame one of 1st developing countries companies to run a major US oil business and the 1st foreign co anywhere to obtain an important piece of the US energy industry

Congress blasted PDVSA for not seeking its approval for overseas acquisitions, especially the 1982 Veba Oel contract and the 1990 Citgo purchase

11Technological AdvancementsCreated a top-flight research center known as INTEVEPIts work focused on devising marketable products from the extra-heavy oil in the ORINCO BeltMid to late 1980s, research led to ORIMULSIONA patented underboiler fuel substitute made form the Orinocos extra-heavy An oil bitumen-based fuel that was developed for industrial use Companys first revenue sources from that regionWith nationalization under way, PDVSA became on of the worlds most technologically advanced NOCs.

Orimulsion is a registered trademark name for a bitumen-based fuel that was developed for industrial use by Intevep, the Research and Development Affiliate of Petroleos de Venezuela SA (PDVSA), following earlier collaboration on oil emulsions with British PetroleumRaw bitumen has an extremely high viscosity and specific gravity between 8 to 10 API gravity, at ambient temperatures and is unsuitable for direct use in conventional power stations. Orimulsion is made by mixing the bitumen with about 30% fresh water and a small amount of surfactant. The result behaves similarly to fuel oil. An alcohol-based surfactant recently replaced the original phenol-based version; improving the transport properties of the fuel and eliminating the health concerns associated with the phenol group of surfactants.

12Venezuelan Economy While PDVSA grew during the 1980s, the Venezuelan economy falteredLow oil prices and Latin American debt crisisVenezuelan oil revenues plungedAccess to capital markets dried upPublic spending declinedEconomy shrank 2.6% annually per capita

1980s - Known as the lost decade

13InvestorsLa Apertura Petrolera (Oil Sector Opening)

AA (Association Agreement) 30-35 year - set low royalty (1%) and tax (34% of income) ratesCombined marginal rates were more advantageous than the rates for traditional projectsOSA (Operational Service Agreement)Outside oil companiess operate the oil fieldsOSAs designated outside companies as operational service providers rather than oil producers, those companies paid a lower than normal 34% income taxPDVSA paid the full royalty and oil tax on the oil produced32 OSAs with 22 separate cos

PDVSAs strategy shifted toward Venezuelan upstream operationsHad limited monies for reinvestmentSolicited outside investor participation known as La Apertura Petrolera (oil sector opening) - strategy used by other Latin American cosRolled out 1991, 1992, and 1997Gave private cos majority equity interests (interests took the form of profit sharing agreements and operational agreements)La Apertura Petrolera (Oil Sector Opening)AA (Association Agreement) aimed at encouraging investment in the Orinoco Belt Orinoco Belt was largest oil resource yet barely tappedInvolved heavy crude upgrading association agreements between PDVSA and outside companies30-35 year AA set low royalty (1%) and tax (34% of income) rates4 AAs issuedParticipants included BP, Conoco Philips, Chevron, ExxonMobile, Statoil and TotalCombined marginal rates were more advantageous than the rates for traditional projectsOSA (Operational Service AgreementExploit marginal fieldsOutside oil cos operate the oil fieldsPDSVA paid the cos a fee for their service with structures varying by aperture roundBecause OSAs designated outside companies as operational service providers rather than oil producers, those companies paid a lower than normal 34% income taxPDVSA paid the full royalty and oil tax on the oil produced32 OSAs with 22 separate cos

14InvestorsReduced Risk and Profit Sharing Agreements (RPSAs)Investment in high risk blocks39 year contract set a baseline 16.67% royalty rate and an income tax rate of 66.67%PDVSA had the option to purchase up to 35% state in the project if a company discovered commercial quantities of oil in the exploration phaseOutside company would retain majority control.Results of AperturaInvestment went from $619M in 1995 to $4.4B in 1999Question of Legality of Contracts Controversial reduced the share of revenues given to the Venezuelan state

Investment in high risk blocks39 year contract set a baseline 16.67% royalty rate and an income tax rate of 66.67%Contractual provisions allowed for a reduction in royalty depending on the rate of returnPDVSA had the option to purchase up to 35% state in the project if a company discovered commercial quantities of in in the exploration phaseBut outside co would retain majority control.Results of AperturaSuccessfulInvestment went from $619 in 1995 to $$4.4 in 1999Legality of contracts (NOTE OSA is producing oil but PDVSA went to great extents to obtain OK from congress to approve this circumvention.)Controversial reduced the share of revenues given to the Venezuelan state(NOTE contract gave cos the right to subject disputes under those contracts to international arbitration. Contracts also contained force majeure clauses providing for compensatory damages if the state were to act in a discriminatory way and impeded production

15Firmer State Control1999 Hugo Chavez . . .Appoints Robert Mandini as PDVSA president Signs an investment-friendly gas hydrocarbons lawLobbied for and won ratification of a new constitution reaffirming the pre-existing legal regime for the energy sectorNew constitution prohibits privatization of PDVSAAppoints Hector Ciavaldini as new PDVSA presidentIn 2000 - After Chavezs re-election . . Asserts greater power over PDVSAAppoints Army Brigadier Genernal Guaicaipuro Lameda as new PDVSA presidentChavez appoints industry expert Robert Mandini as PDVSA president and signed an investment-friendly gas hydrocarbons lawLobbied for and won ratification of a new constitution by popular referendum which reaffirmed the pre-existing legal regime for the energy sectorNew constitution prohibited privatization of PDVSA, (but not the privatization of its operations companies)Appointed Hector Ciavaldini as new PDVSA president

Army Brigadier Genernal Guaicaipuro Lameda is not an industry expert)

16Firmer State ControlIn 2001, New Laws are enactedControversial hydrocarbons lawsRequired future private investment to take the form of joint ventures with majority PDVSA ownershipJoint ventures carried higher royalty rates (30%) and lower income tax rates (50%) for oil projectsAlthough new law granted PDVSA greater power over the oil industry and actually reduced the aggregate tax burden above $15-20/barrel, management feared the tax consequences if oil prices fell and therefore opposed itLameda became allied with the companies management and opposed this law as wellLey de la tierra (law of the land)Gave government power to tax and expropriate idle lands for the rural poorNew banking lawrequires banks to allocate 15% of their lending portfolio to small farmers

In 2001, New Laws are enactedControversial hydrocarbons lawsRequired Future private investment to take the form of joint ventures with majority PDVSA ownershipJoint ventures carried higher royalty rates (30%) and lower income tax rates (50%) for oil projectsAlthough new law granted PDVSA greater power over the oil industry and actually reduced the aggregate tax burden above $15-20/barrel, co management feared the tax consequences if oil prices fell and therefore opposed itLameda became allied with the cos management and joind in opposition to the new lawLey de la tierra (law of the land)Gave government power to tax and expropriate idle lands for the rural poorNew banking lawrequired banks to allocate 15% of their lending portfolio to small farmersAll of this led to December 2001 A one-day strike portended future strife

17PDVSA Current AssessmentPrior to Chavez, company was well run, vertically integrated, and ranked as best managed NOC by Petroleum EconomistProduction by conservative estimates has dropped 10-15 % since before the 2003 strikeAble to perform most operations

Risk score of 6.76 is 5th from the bottom.. Worse than Nigeria..

Bottom five are Libya, Syria, South Sudan, Iraq, Venezuela.. 18Exploration and ProductionPDVSA produced around 2.9 mpb of oil in 2012. Crude oil represented 2.6 mpb of this total, with condensates and natural gas liquids (NGLs) accounting for the remaining production. Venezuela's conventional crude oil is heavy and sour by international standards. As a result, much of Venezuela's oil production must go to specialized domestic and international refineries. The country's most prolific production area is the Maracaibo basin, which contains slightly less than half of Venezuela's oil production.Many of Venezuela's fields are very mature, requiring heavy investment to maintain current capacity. Industry analysts estimate that PDVSA must spend some $3 billion each year just to maintain production levels at existing fields, given decline rates of at least 25 percent.

Production & Consumption

PDVSA Government RelationshipRelationship keys:

Plentiful oil reservesHeavy oil is costly to develop and refineInvestment cycleUnderdeveloped Natural Gas reserves21

Oil Reserves

Venezuela has some of the largest crude oil reserves in the world, perhaps even more than Saudi Arabia. The BP Statistical Review of World Energy 2012 sees Venezuela's reserves at 296.5 billion barrels, above Saudi Arabia's 265.4 billion barrels. Reserves & CapacityThe BP Statistical Review of World Energy 2012 sees Venezuela's reserves at 296.5 billion barrels, above Saudi Arabia's 265.4 billion barrels.

PDVSAS oil and gas reserves are located only in Venezuela

235 billion barrels of extra heavy oil in the Orinoco Belt region

PDVSA is the 5th largest company in proven oil & gas reserves

Worlds 5th largest oil exporter

EconomyModest and undiversifiedGDP: $382.4 billionOil has supplied 80-90% of exports50-60% of government revenues20-35% of GDPOil industry is seen as the key to economic and social development in Venezuela

Types of Oil

Between 1900 and 1970, Venezuela drained much of its supply of lower cost and higher profit light and medium crudes. Current production is ~180 b/d (Middle East 7000 b/d).

Near-exhaustion of older oil sources has made the oil even heavier.

Making extra-heavy oil suitable for conventional applications requires expensive, complex refining techniques.

Significant adverse environmental consequences; consumes greater water and energy and yields more mineral contaminant and other waste products.

25Orinoco heavy oil beltThe mean estimate of recoverable oil resources from the Orinoco Belt is 513 billion barrels of crude oil. PDVSA began the 'Magna Reserva' project in 2005, which involved dividing the Orinoco region into four areas and further divided into 28 blocks and quantifying the reserves in place. This initiative resulted in the upgrading of Venezuelan reserve estimates by more than 100 billion barrels.Venezuela plans to develop further the Orinoco Belt oil resources in the coming years. In 2009 Venezuela signed bilateral agreements for the development of four major blocks in the Junin area. Last year the country awarded two more major development licenses in the Carabobo region. Venezuela expects these projects to add more than 2 million barrels per day of heavy oil production capacity by the end of the decade Refining Capacity

Refining capacity almost exclusive to Western Hemisphere due to heavy oil refining complexity.27Investment Cycles Recurring PatternHeavy oil requires large capital expenditures solicit outside investment at favorable termsOnce external funding is committed, government modifies terms of agreementReturn to offering better terms once more development is requiredPDVSA shifts from government policymaker to trusted agent

Natural Gas ReservesVenezuelas natural gas reserves 195.1 trillion cubic ftOil industry absorbs 70% of natural gas productionUses large share for reinjection into oil fields to produce heavy oil

Different development strategy than oil since Venezuela has built natural gas infrastructure from the ground up instead of seeking outside investment.

Natural Gas sector mostly exempt from governmental influence (PDVSA still takes a 35% share of projects that reach commercial stage).29Shift in PDVSA Government RelationshipPDVSA State within a StateVenezuelas government institutions generally weakLow accountability largely ineffective in providing public goodsWidespread corruptionConsistently in bottom 50% for all six World Bank governance indicatorsPDVSA stepped in to control energy policyWeak Energy Ministry top talent left to work for PDVSALoaned economists to other government agenciesEasy target for Chvez during his rise to powerPDVSA still manages most of Chvezs social programs due to its competence and large cash flow

PDVSA under Chvez

Under the influence of President Chvez, the Venezuelan government has reduced PDVSAs previous autonomy.Nearly one-half of PDVSAs employees walked off the job on December 2, 2002 in protest against the rule of President Chavez, practically bringing all the companys operations to a halt. Chvez fired 19,000 workers following the strike, draining the company of technical knowledge and expertise. From 2005 on, PDVSA began converting Operating Service Agreements into new PDVSA joint ventures, meaning many expropriations of foreign investments.

Expropriation

Chavez forced foreign oil producers into joint ventures as minority partners in 2007Assets of ExxonMobil and ConocoPhillips were expropriated in 2007 after they declined to restructure their holdings in Venezuela to give PDVSA majority controlTotal, Chevron, Statoil and BP agreed and retain minority interests in their Venezuelan projects. PDVSA has paid compensation for assets it has nationalized including $255 million paid to ExxonMobil on February 2012 Government take from PDVSA

Rising oil prices gave Chavez the power to install the 2001 Hydrocarbons Law royalties set at 30%Administration is sole shareholder instituted dividend program (previously pegged for reinvestment).Government received over $125 billion in taxes between 2003 and 2008.Extra-budgetary taxes National Development Fund (FONDEN) - $28 billion between 2005-2008.34Breakeven oil priceAbout half of Venezuela's exports are committed to others, due to the need to service debts, particularly to China. PDVSA debt rose to some 11% of GDP ($35 billion) last year, up from $8.5 billion at the beginning of the last decade when debt amounted to 7% of GDPIt is hard to pinpoint breakeven price for oil. That is, the oil price needed to generate the oil revenues sufficient to balance its fiscal budget , but it may run at over $120 per barrel. PDVSA's profits are diverted to social contributions, having risen from 0% to 24% of its revenue over 2002-2011;These financial burdens on PDVSA include domestic subsidies, foreign aid as well as oil-backed loans from other countries, particularly China. Petrocaribe and the Bolivarian Revolution2005 agreement between Venezuela and 17 importing countries60% paid upfront and remaining 40% financed over 25 years at 1% interest rate180,000 b/dMounting debts levels are becoming too large to ignoreDominican Republic - $3 billionJamaica - $1.9 billionDiscouraged private investment that could have helped diversify Caribbean countries' energy mixThe basic framework of the 2005 agreement allows Petrocaribe importing countries -- now totaling 17 -- to receive Venezuelan oil under preferential terms: approximately 60% on average is paid for upfront and the remaining 40% financed over 25 years at the heavily subsidized 1% interest rate. Importers can also repay with goods, agricultural products or, in the case of Cuba, doctors. About 180,000 barrels per day of oil flows from Venezuela to Petrocaribe countries, of which roughly 80% is crude and 20% refined products.

36Current State of InvestmentCaracas has spent billions of dollars of PDVSA's earnings on projects ranging from the construction of low-income housing to subsidized food distributionPDV is short of cash to fund critical investment projects -Orinoco Belt heavy-oil regionChina last year ordered a freeze of new financing for VenezuelaPDVSA now required to meet benchmarks before receiving the next round of fundingSpain's Repsol agreed to invest an additional $1.2 billion in its Petroquiriquire partnership with PDVSAMoney will go into a trust overseen by the joint venturePDV has over these years relied on cash infusions from joint-venture partners to finance its oil projects, many of which have experienced years of delays. China last year ordered a freeze of new financing for Venezuela. Most of the earlier lending was for upstream projects in which Chinese state companies are involved, and China is counting on the output going to its domestic refining system.PDV's financial woes also seem to be leading the company to give greater priority to projects in mature fields where it can boost output relatively simply and quickly. PDV is looking at numerous inactive fields around Lake Maracaibo where production could restart easily after basic maintenance. PDV also appears to be exploring ways to use enhanced oil recovery to boost output.

37PDVSA is In Good HandsThe bird stood on a wooden beam and began whistling, a nice hissing," he said imitating the sound. "Then I stared at him and whistled back... The bird looked strange at me, right? He whistled for a little while, flew around and left, and I felt the spirit of Chavez," said Maduro.