Venezuela: The truth below

| Sept. 1, 2012 | Caracas, Venezuela

As Venezuelan bond yields ebb and flow with the health saga of president Hugo Chávez, who faces his toughest election yet on October 7, foreign investors are once again starting to take a closer look at the country’s oil supplies, the largest in the world.

They are hoping either for a change of government or perhaps a wave of pragmatism from Chávez. This appears to be in the offing with the recent announcement of a $2 billion financing deal between Chevron and state oil firm Petróleos de Venezuela (PDVSA). Chevron will lend the company the money at Libor plus 4.5% over 20 years for their Petroboscan joint venture. The California-based multinational appears to have placed a bet on Chávez’s continued presidency of Venezuela and has so far avoided the expropriations that have blighted operations by competitors such as ExxonMobil and ConocoPhillips. Chávez in turn appears uncharacteristically to be ignoring Chevron’s recent record across the region. Its dispute with Ecuador for alleged environmental damage has been simmering for years, and the company was recently castigated by the Brazilian government for the Frade oil spill off that country’s coast last November. Venezuela is hoping to produce 3.5 million barrels/day this year – up 40% on 2011 – mostly through investment in the Orinoco belt region. This will cost around$80 billion, according to PDVSA.

“Because Venezuela must own 60% of all the joint ventures, PDVSA would need to come up with $48 billion,” says Russ Dallen, head trader at Caracas’ BBO Financial Services. “Of course, that is just for one region – gas and oil projects in other regions need another$40 billion, bringing PDVSA’s 60% total need for funds to $72 billion.” With PDVSA used as a political cash cow, sending free oil to friendly nations as well as propping up Chávez’s costly election campaign, the firm simply does not have that sort of cash. “The Chevron move may be the first acknowledgment by Chávez that he will need the technology, management and capital of private and foreign firms if he is to successfully raise oil production,” says David Rees, Latin America analyst at Capital Economics in London. “That said, I suspect he would prefer to deal with firms of ‘friendly’ nations – Chinese and Russian spring to mind. Any opening up of the oil sector under Chávez is likely to be fairly low-key since he will be keen that the government appears to still be running the show.” With elections now imminent, the prospect of opposition leader Henrique Capriles Radonski taking over from Chávez is tantalizing potential investors. By simply not being Chávez, Capriles will win over many who are keen to invest. “If Capriles wins, the situation will improve dramatically, and the market will have an automatic response of confidence, meaning more access to funds and lower borrowing costs,” says Carlos Bellorín, oil and gas analyst at Petroleum Economics and Policy Solutions for IHS in London. In an interview with LatinFinance, Capriles gave his nod to deals such as Chevron’s, to help bolster the ailing industry. “These are options that should be further explored to support the funding of the development plans in the oil and gas sector, which is a cornerstone of the upcoming government’s policy platform.” Capriles has sharpened his attacks on Chávez’s policy of sending oil to nations such as Cuba, Syria and Belarus, thereby propping up their regimes. He has insisted that “not a single free barrel of oil” will be delivered to foreign nations, saving Venezuela nearly$7 billion annually.

“As a country with severe problems in terms of poverty and infrastructure, oil gifts that represent about 3% of our GDP are not acceptable,” Capriles tells LatinFinance. “These gifts disguise the buyout of geopolitical favours to an ideological agenda as international development support.

“We remain committed to supply oil to all our neighbors, but without the heavy discounts that are currently in place.”

In contrast to Capriles’ anti-Chávez predecessors over the years, the 40-year-old state governor has been more anodyne in his policies and statements since coming to prominence in recent years, keen to attract many former Chavistas who may be disillusioned or have simply grown tired of the 13-year tenure of the socialist maverick.

Datanálisis, the respected Caracas-based pollster, put Capriles around 15 points behind Chávez recently, though around a third of voters are undecided. It is this part of the electorate that both contenders are attempting to woo. Luis Vicente León, who heads the polling firm, says that it is these voters who will decide the election, if they vote.

Capriles often cites Norway as a model for Venezuela to look towards. The country is often seen as an international success story, having earned huge amounts of cash from its coastal oil fields and invested in a \$600 billion oil fund, one of the largest sovereign wealth funds in the world, from which just 4% is extracted annually for government spending.

This helps stem inflation – in stark contrast to Venezuela whose annual inflation figure to July was 19.4%. Annual inflation peaked at 103% in 1996, just as Chávez was tantalizing Venezuelans before coming to power three years later.

Capriles sees other aspects of the model to be followed. “The regulatory framework of Norway provides for a clear separation between the state-owned company and the regulator, which we should aim to emulate as the current oil minister and president of PDVSA is the same individual,” he says.

“We can develop the largest oil reserves in the world and still achieve economic diversification. In Norway this has been achieved through the saving of oil revenues and the smoothing of their volatility, so that the economy does not become as risky as oil prices. Norway shows that managing natural resource wealth in a responsible manner can make it compatible with broad-based development, which is a key goal for the upcoming administration.”

Chevron is not the only company that has its sights set on Venezuelan oil, though “only major players have the financial muscle,” says HIS’s Bellorín. “Only these players are big enough to take the high risk that involves working in Venezuela.”

Bellorín says the change, should Capriles win, might not be as stark as some investors are hoping. “It seems that Capriles has understood that a radical change in the current legal and contractual framework of the hydrocarbons sector is not needed and will be carried out at massive political cost,” he says.

“International players cannot expect a dramatic change à la 1990s Oil Opening. That’s not going to happen. What they can expect is some fiscal incentives, operational efficiency and the de-bottlenecking of crucial issues such as payment of dividends, more efficiency in oil and gas goods and services procurement and a more fluid communication with PDVSA.”

Many investors, however, see any change in government in Venezuela as a positive, as indicated by recent bond rallies on Chávez’s health scares and Capriles’ growing support.

Chávez himself, likely to stay in power at least as long as his health holds out, appears to be putting political ideology aside just slightly for a little pragmatism; this is being jumped upon by investors.

“Everyone wants a piece of the world’s biggest oil reserves,” says Capital Economics’ Rees.