Identifier
Created
Classification
Origin
06CARACAS3131
2006-10-17 20:09:00
CONFIDENTIAL
Embassy Caracas
Cable title:  

MEP PRESENTS TERMS FOR STRATEGIC ASSOCIATION

Tags:  ECON ENRG EPET VE 
pdf how-to read a cable
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RUEHAC/AMEMBASSY ASUNCION 0698
RUEHBO/AMEMBASSY BOGOTA 7062
RUEHBR/AMEMBASSY BRASILIA 5787
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RUEATRS/DEPT OF TREASURY WASH DC
RUMIAAA/HQ USSOUTHCOM MIAMI FL
RUCPDOC/DOC WASHDC
RHEHNSC/NSC WASHDC
C O N F I D E N T I A L SECTION 01 OF 05 CARACAS 003131 

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E.O. 12958: DECL: 10/06/2016
TAGS: ECON ENRG EPET VE
SUBJECT: MEP PRESENTS TERMS FOR STRATEGIC ASSOCIATION
MIGRATION

REF: CARACAS 2667

Classified By: AMBASSADOR WILLIAM R. BROWNFIELD, FOR REASON 1.4 D

C O N F I D E N T I A L SECTION 01 OF 05 CARACAS 003131

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ENERGY FOR CDAY, DPUMPHREY AND ALOCKWOOD
NSC FOR DTOMLINSON

E.O. 12958: DECL: 10/06/2016
TAGS: ECON ENRG EPET VE
SUBJECT: MEP PRESENTS TERMS FOR STRATEGIC ASSOCIATION
MIGRATION

REF: CARACAS 2667

Classified By: AMBASSADOR WILLIAM R. BROWNFIELD, FOR REASON 1.4 D


1. (C/NF) Chevron Latin America Upstream President Ali
Moshiri (strictly protect throughout) and ExxonMobil
Venezuela (XM) President Tim Cutt (strictly protect
throughout) paid separate calls on the Ambassador the week of
September 29 to update him on the upcoming forced migration
of the Faja strategic associations (of which they are major
stakeholders) to PDVSA majority held joint-ventures. Moshiri
said that Chevron's strategy would be to not make any new
serious investment commitments in Venezuela for the time
being and slow-roll the strategic association migration.
Moshiri was confident about Chevron's negotiating position
and underscored his view that only U.S. IOC's were capable of
providing the technology and human resources to fully develop
the Faja. Cutt, who a day earlier had received written terms
for the Cerro Negro migration (see para 10 - strictly
protect) from MEP VM Mommer, said the BRV knew clearly where
it wanted to go but had no clue on how to get there. (Note:
XM owns 41.67% of Cerro Negro, along with BP (16.67%) and
PDVSA (41.67%) respectively. End Note). The BRV, according
to Cutt, was seeking a majority position in primary/upstream
activities, would take a minority position in upgrading, and
sought an increased recovery rate for Cerro Negro, but had
clearly not thought through how to compensate XM for lost
value. Cutt added that the BRV was determined to have some
type of transition agreement completed by December 15 with
additional terms likely to be worked out by June 2007, in
order to declare that the BRV regained full-sovereignty over
the oil business during 2007 (during 2006 the BRV migrated
the Operating Service Agreements). Over the next 2-3 months,
XM would decide the course of action for their investments in
Venezuela -- compensation being key. End Summary.

-------------- --------------
Chevron Plans No New Major Investment for the Time Being
-------------- --------------


2. (C/NF) Moshiri was optimistic about Chevron's bargaining
position regarding the migration of the strategic
associations to joint ventures but acknowledged each
company,s position was different. He said that for the time
being Chevron would hold back on making additional large
investments in the Venezuelan energy sector until things
cleared up. Moshiri said that Chevron planned to slow-roll
the migration process by overwhelming the Ministry of Energy
and Petroleum with technical and financial issues. He added,
confidently, that U.S. companies were the only ones that
could supply the technology and human resources necessary to
develop and maintain production at the strategic
associations. As an example, he noted that the BRV needed
Chevron technology to run the Hamaca upgrader which converts
oil from 9 API to 28 API. He also said that a senior PDVSA
official groused to him privately that only 10% of PDVSA
employees currently have college degrees, 40% have high
school degrees, and 50% have no degree, and 50% of his time
was spent "finding jobs" for people. (Comment: We do not
share Moshiri's view that only U.S. firms have the necessary
technology and resources for Faja projects. Shell, which has
significant extra-heavy crude oil experience, is currently in
negotiations with the BRV for a Faja project. End Comment.)


3. (C/NF) Moshiri added that the upcoming migration was too
complex and would not be done by the end of this year.
(Note: In a July meeting with econoffs, Moshiri said Chevron
would be willing to sign an MOU migrating the strategic

CARACAS 00003131 002 OF 005


associations to BRV majority-held-joint-ventures since he
believed the agreement would be non-binding. Such an
agreement, according to Moshiri, would not threaten Chevron's
bargaining position and would provide the BRV with the
political capital it needed for the elections. End Note.)
The BRV's objective, per Moshiri, was to pick up 51% of the
strategic associations equity "without paying for it," and to
breakout upstream from downstream but didn't want a big
position in the upgrader. He said he had warned MEP Minister
Ramirez that Chevron would notify the strategic association's
lenders and they would call the loans if this breakout
occurred. (Comment: It remains to be seen whether lenders
would call the loans. Representatives from Fitch told
Petroleum Attache in early September that they were not sure
if lenders or financial markets would view a change in the
association's equity structure as a default if the
associations could meet their debt payments. End Comment.)

--------------
Decision Making and Decision Makers
--------------


4. (C/NF) Moshiri viewed decision-making on petroleum issues
as going from MEP VM Mommer directly to Chavez. Mommer,
according to Moshiri, comes to the table with the view that
everything must be under the control of the Ministry and
PDVSA and with a general lack of knowledge about how the oil
business works. He stressed to the Ambassador that "we must
remind everyone (that) Venezuela is not Saudi Arabia... (and
that) people tell Chavez what he wants to hear," (read: oil
production costs are much higher). For now, Chevron plans to
keep future investment decisions in Venezuela in "the
conceptual phase," and not spend billions. It also would not
agree to any type of contract that could be disputed by the
BRV. Chevron's investment would likely also shift, in the
interim, to Trinidad and Brazil. This approach, according to
Moshiri, was the right business decision for Chevron until
after the December national elections. He added that if the
BRV gets the feeling Chevron is feeling less cooperative then
"they'll make our life miserable, but we'll manage."


5. (C/NF) On other issues, Moshiri claimed that if oil
revenue fell by 20-30% the country would be "bankrupt in 12
months." He also noted that with the migration of the former
Operating Service Agreements to joint ventures, that Chevron
was now only responsible for 40% of the capital for those
projects.


--------------
Meeting with Exxon-Mobil
--------------


6. (C/NF) Cutt told the Ambassador on September 28 that the
BRV was seeking a majority position in primary/upstream
activities, would take a minority position in upgrading, and
sought increased recovery from Cerro Negro, but had clearly
not thought through how to compensate XM for lost value (see
para 10 "terms sheet" provided by VM Mommer to XM (strictly
protect). Cutt said the BRV was determined to have some type
of transition agreement completed by December 15 with
additional terms likely to be worked out by June 2007,
(Note: XM owns 41.67% of Cerro Negro, along with BP (16.67%)
and PDVSA (41.67%) respectively. End Note). What was clear
to Cutt, based on his meeting a day earlier with Mommer, was
that the BRV knew where it wanted to go, but had no idea on
how to get there (read: how to overcome the myriad of
financial and technical issues as well as addressing how XM

CARACAS 00003131 003 OF 005


would be adequately compensated for its lost value stemming
from the migration.) As an example, Cutt noted that the
recovery rate in the Cerro Negro concession area stood at
around 4% and could probably reach 11%; however, PDVSA wants
to take it to 20%, but did not understand that "the
incremental cost of 9% was four-fold." He added that XM
viewed the concession as already permitting a daily
production limit in excess of 120 kbd. The BRV's
proposition is basically it will pay for increased equity in
the strategic association by allowing it increased
production. Mommer, in Cutt's view, had no clear idea on the
exponential investment outlays that would be required for
additional production. PDVSA has established working groups
to deal with issues such as financing, recovery, and
net-present value issues, however, XM has not yet decided on
their level of participation. Cutt also didn't think
Minister Ramirez would give Mommer room to back down on the
basic conditions established in the terms sheet.


7. (C/NF) Cutt pointed out that there were additional
financial issues that could also complicate the transition.
The BRV was seeking a waiver of existing claims in the terms
sheet, but it wasn't clear whether resolution of this issue
would be insisted upon for December or be put-off until next
June. XM currently has USD 2 billion in claims, and when
Cutt reminded Mommer, it appeared he had forgotten. Cerro
Negro had also obtained approximately USD 600 million in
loans from commercial banks which have financing covenants
that govern changes in equity structure (reftel). Banks
could put the loans in default (Note: Cutt noted that while
XM had already notified the lenders, that "surprisingly there
had been no reaction. End Note.)


8. (C) Cutt said that XM Dallas would decide over the next
2-3 months on whether to take this issue to arbitration or
simply to "wallow-through" and keep a toe-hold in Venezuela.
He noted that XM's chairman had said recently that Venezuela
was not a place he was interested in investing in the
short-term. (Note: XM's Venezuela exposure as a percentage
of total operations is approximately 1%. End Note.) While
Cutt had no doubt that XM would win any arbitration, he
acknowledged that it really didn't get them much; he also
acknowledged there wasn't much interest is just running the
upgrader. The real issue remained how was XM going to be
compensated for lost value. Cutt also revealed that while
the BRV has not questioned the legality of the strategic
associations which were approved by the National Assembly,
Mommer suggested that in the case of Cerro Negro XM had not
obtained a final ministry approval following legislative
approval.



9. (C/NF) On other subjects, Cutt reiterated Moshiri's view
that Mommer knew very little about the technical aspects of
the migration, and that Mommer would be leaving the Ministry
at the end of the year for a European posting. However, in
Cutt's opinion, Mommer was at least a somewhat reasonable
interlocutor. Cutt acknowledged Cerro Negro's operation
could be run by PDVSA handling the upstream and other players
(presumably an IOC such as Shell) operating the upgrader.


10. (SBU/Business Confidential/NF)
(Begin Text)

Cerro Negro
August 2006.
Non Binding Terms for the Migration of the Associations.

1. Form of the Association: The existing project shall be

CARACAS 00003131 004 OF 005


divided in two parts: (i) the primary activities, which will
be developed by a mixed enterprise in accordance with article
33 of the Organic Hydrocarbons Law (the "Primary Activities
Mixed Enterprise:) and (ii) the upgrading activities which
shall be developed by a conventional mixed enterprise (the
"Upgrading Mixed Enterprise").


2. Capital Structure: The Primary Activities Mixed
Enterprise shall be owned by PDVSA with at least a minimum
51% and by ExxonMobil and BP with a maximum of 49%. In the
Upgrading Mixed Enterprise, PDVSA can be a minority
shareholder.


3. Operations: The Primary Activities Mixed Enterprise
shall be the operator for the heavy and extra heavy crude oil
production. The upgrader can be operated by ExxonMobil and
BP directly or through the Upgrading Mixed Enterprise.


4. Purchase/sale Contracts and heavy and extra heavy crude
oil transfer prices: All the crude oil produced by the
Primary Activities Mixed Enterprise shall be sold to PDVSA at
formula prices that reflect market price less a margin to be
determined. PDVSA shall have a "back to back" contract to
transfer at formula price the crude oil produced to the
Upgrading Mixed Enterprise as long as the upgrader is
functioning and has sufficient capacity. PDVSA shall market
the remaining production with the understanding that any
heavy and extra heavy crude oil production that cannot be
upgraded due to the lack of capacity of the upgrader or
because it is out of service for any cause, may be subject to
restrictions if the Ministry so decides.


5. Purchase/sale Contracts and upgraded crude oil transfer
prices: The upgraded crude shall be sold by the Upgrading
Mixed Enterprise at market prices, including sales to the
parent companies of the partners. A committee of experts
shall review the existing purchase and sale contracts.


6. Expansion: The primary Activities Mixed Enterprise will
no longer be subject any more to the production limit of 120
KBD. The Upgrading Mixed Enterprise may increase its
capacity to 165 KBD approximately.


7. Area: The area for the Primary Activities Mixed
Enterprise shall be determined by the Ministry of Energy and
Petroleum through a Resolution that shall be published in
Official Gazette.


8. Recovery Factor: The Primary Activities Mixed Enterprise
commits to immediately develop a pilot project of 20 KDB
steam-enhanced production in order to significantly improve
the recovery factor of the area.


9. Term: The Primary Activities Mixed Enterprise shall have
a 25 years duration and the Upgrading Mixed Enterprise shall
have a duration the same remaining term of the existing
project.


10. Special Advantage: A special contingent advantage
(payment to the State) shall be applied in case the sum of
the royalties, the extraction tax and the income tax paid by
the Primary Activities Mixed Enterprise in less that 50% of
the value of the crude oil production.


11. Waiver of claims: The parties shall mutually release
each other, in an appropriate manner of all outstanding
claims.


CARACAS 00003131 005 OF 005



12. Bonus: ExxonMobil and BP shall pay the Ministry of
Energy and Mines a bonus in an amount to be negotiated
considering the value added by the expansion to the project.


13. Authorizations: In accordance with the Organic
Hydrocarbons law the new projects shall be presented for
approval of the National Assembly. (End Text)


11. (C) Comment: As stated in reftel, the BRV wants some
sort of agreement on the migration by mid-December. However,
we believe they will want the agreement before the
presidential elections on December 3. The type of agreement
(binding, non-binding transitory, etc) that the BRV will be
satisfied with remains to be seen. The political statement
of regained sovereignty for the Venezuelan oil sector is
paramount, however, and not something the BRV will back down
from.


BROWNFIELD