February 27, 2005
Venezuelan Minister of Energy: Citgo has nothing to fear

(Petroleum Intelligence Weekly) - "(...) In a PIW interview, Minister of Energy and Petroleum Rafael Ramírez, who is newly installed as head of state Petróleos de Venezuela, says that business principles rather than ideology are guiding his review and reform of the country's oil interests

Q. Is Venezuela considering selling the Citgo refineries in the US?

A. We are reviewing the possible sale of these assets, but it's important to point out that this is being carried out from a business perspective -- it has nothing to do with our political relationship with the United States. We are in conversations with several interested companies and are reviewing which refineries are beneficial for the country and which aren't. But this is a complicated issue and will take some time (...)

Q. Why divest international refineries? Aren't they strategically important for the industry?

A. We have started to question the entire process known as the petroleum "apertura" (opening) of the 1990s, which led to the acquisition of Citgo. This group of policies also led to the acquisition of European assets like Ruhr Oel in Germany and the refineries we have in Sweden and England. We have started to question these decisions. We don't think these acquisitions were good for the country because they have a series of structural problems.

Q. What type of problems?

A. The first of these is that all of these businesses have contracts that include discounts of an average of $2 per barrel. We send 1.5 million barrels to the United States with a discount of $2, which is very bad for us, because the upstream is subsidizing the downstream. In addition, there is a problem for the state because the royalty calculations are based on the discounted price and taxes are paid to the United States. This has nothing to do with politics; it's the same review that Chevron or Ford Motor Co. would carry out if it had a foreign subsidiary that was receiving discounted supplies.

The costs of that whole system of refining are charged to PDV here in Caracas. The operating costs of the 14,000 gasoline stations in the US are paid in Caracas. That was a financial engineering strategy designed to ensure that costs in the US, where taxes on petroleum were lower, would be passed to Venezuela.

Q. The Citgo refineries are specifically designed to refine Venezuelan crude. Why would Venezuela sell these assets if that would leave it competing with other heavy crudes on the international market? Where would Venezuela refine its crude if it didn't have Citgo?

A. The Citgo acquisition was made with the argument that we were going to refine Venezuelan crude but the reality is that 50% of the petroleum that goes through those refineries comes from other countries. Venezuela spends $18 billion per year buying gasoline and products from Canada and Mexico. For a trader this would probably be a good business but it doesn't make any sense for us.

Does that mean we're going to abandon our refineries and leave the American market? No. That would be very damaging to our commercial structure because North America is our natural market. We will continue to supply petroleum to the US. We are not going to pull out of that market but rather fortify our position and optimize the business for our country.

Q. Companies have expressed concerns over the budget negotiations for 33 privately run operating service agreements. What is the government seeking in these discussions?

A. These operating agreements were created under the previous legislations as service contracts, which have a cost structure that must be subject to review because they're very expensive. We spend more than $2 billion over five years to sustain them. But in addition, we have questioned whether or not these are service contracts at all. For example, the costs in some contracts are indexed to the price of oil in the US, which means these are not service contracts but rather concessions. Any business must review its contracts to make sure that the service is as efficient as possible and hire another company if costs are too high. Some of these contracts are very bad because the cost per barrel is very high (...) We've decided to review the numbers of some of these contracts that have very bad returns (...)

Q. Would you prefer that those contracts be converted to joint ventures?

A. We prefer that all the projects that were developed under the old law be converted to the new law. It's beneficial for both sides because the operating service agreements are legally fragile. Previous governments used a legal shortcut to allow private participation under a law that did not allow it. We now have a new law that allows for transparent participation of private capital in our oil and gas industry. The process has been slowed down because in the last three years we've had a coup d'etat and two months of petroleum sabotage. But Venezuela is still inviting foreign companies to carry out their business here. There should be nothing for Houston to fear. If anyone has a problem to discuss with us, we have a team in charge of negotiations.

Q. A number of companies are reportedly interested in creating joint ventures with PDV under the 2001 Hydrocarbons Law. When would you expect the first of these joint ventures to be formed?

A. We are close not only with Shell, but also with Repsol and Vinccler about their operating agreements, as well as CNPC, which is working on 14 fields in the area of Zumano. The technical economic side of this has already been resolved. The mixed company, which will have a single model, will go to the National Assembly for approval. That's the next step. Companies are clear that [the new hydrocarbons law] is going to be the backbone of hydrocarbons policy. These companies are working to do business under this law.

Q. ConocoPhillips CEO James Mulva recently met with President Hugo Chavez following a dispute over the Corocoro field. What was the nature of the dispute? How was it resolved?

A. The Corocoro project was designed such that once the exploration activity was carried out, the company had to receive approval for the project from both the regulatory agency, which is the Ministry of Energy and Petroleum, and the commercial partner, which is PDV. When we received a project that was $300 million above what was necessary, like any other business in the world, we would review the plan to see what was increasing the costs. This has nothing to do with politics -- as an administrator I am responsible for the business agreements that we sign. In addition, we saw that the royalty payment was only 1%. We could have blocked that project and shut it down completely -- instead, we discussed it, reached an agreement to adjust the budget and raised the royalty rate to 16.6%. We don't want Conoco or any other business to leave the country -- we just want to do good business here. That was a very transparent situation.

Q. The exploration in Corocoro was carried out in the 1990s, but the actual production agreement was negotiated this year. Doesn't that mean that it would fall under the 2001 Hydrocarbons Law, which would require a 30% royalty and 51% state participation?

A. No. We have insisted that we respect the law that was in effect when the contract was signed. It was a risk-sharing exploration agreement in which both sides had agreed that any oil found under that agreement would be produced under the terms of the previous law. That decision is important because it guarantees the security of investments in the country. We cannot retroactively apply the conditions of the new law to contracts signed under the old one. In the case of the strategic associations, we raised royalties from 1% to 16.6% as was allowed under the previous law (...)

Q. What is the expected growth in oil production for this year?

A. We are expected by the end of the year to produce 3.4 million barrels per day, which implies an increase of 300,000 b/d. For 2009, we plan to have a production capacity of 5 million b/d.

Q. Where would it come from?

A. The really important production opportunities here will come from the Orinoco Belt. That's why we've opened discussions with our partners about how additional production can take place under the new law. As ChevronTexaco recently pointed out, there is no exploration risk -- if you drill a well you find crude within three days. The Orinoco Belt is the most important petroleum reserve on the planet. We have adjudicated 5% of the total production capacity that the area has. We are going to see very immediate results in the Orinoco because nearly all of our commercial partners have approached us about it.

To put it in numeric terms, the Faja has 272 billion bbl of heavy and extra heavy oil, which we can exploit with the technology we have. The 600,000 b/d currently being developed in the Orinoco Belt has been an extraordinary success. The companies are now seeking new projects. The president of Total has come to visit us, as well as the CEO of ConocoPhillips. Shell is developing its own in situ upgrading technology that would improve the recovery rate of more than 80%. These projects will be carried out under the new law. We could have an additional 1 million b/d of production with new projects that will come online over the next five years. And those projects are ready to be developed.

Q. The Orinoco upgraders were originally discussed as integrated upstream/downstream projects. Is this still the idea?

A. No, the new law is flexible enough that PDV can have a 51% participation on the upstream end, but private companies could have 100% participation on the downstream end. That means crude could be produced by one joint venture and sent to an upgrader that is operated by another joint venture.

The North American market has a refining deficit of more than 2.5 million b/d. We're in the process of increasing our refining capacity. We've asked our Orinoco Belt partners to refine within the country; we're going to include in our own system an increase in deep conversion to be able to convert heavy crude.

Q. Why is Venezuela boosting commercial ties with China? Does this mean Venezuela will interrupt its supply of crude to the US?

A. The US should not be concerned because this expansion in no way means that we will be withdrawing from the North American market for political reasons. The US is our natural market and we have been supplying it for more than 100 years. We buy more than $4 billion in oil industry supplies from the US. Eighty percent of our oil supply to the US is made up of long-term contracts of 20 to 25 years. However, meeting the needs of emerging energy markets is a challenge for all the oil producing countries of the world. We have even received offers from North American companies interested in working with us to meet China's demand for oil. China's market is an expanding one, but we still expect the majority of our crude sales to go to the US because we can get there quickly and we have important refineries in the US. Our relationship with the US will remain strong. There is already a pipeline in Panama with a capacity of 800,000 b/d that is only operating at 10% capacity right now. They have come here to offer us the possibility of using the pipeline's maximum capacity or even expanding its capacity so we can move our crude into the Pacific without having to spend days at sea. There is even a lot of interest in the project among North American companies because we could reach the US West Coast.

Q. Do you have an estimate of how much you could sell to China over the next 10 years?

A. No, right now we don't have any projections as to how much we would sell in Asia; they are still developing their refining capacity.