CURRENT STATUS OF OSA MIGRATIONS: NOT VERY PRETTY

C O N F I D E N T I A L SECTION 01 OF 02 CARACAS 000394

SIPDIS

SIPDIS

ENERGY FOR CDAY, DPUMPHREY, AND ALOCKWOOD

E.O. 12958: DECL: 02/25/2016
TAGS: EPET ENRG EINV VE
SUBJECT: CURRENT STATUS OF OSA MIGRATIONS: NOT VERY PRETTY

REF: A. 2005 CARACAS 03758

B. CARACAS 00065

C. CARACAS 00190

Classified By: Economic Counselor Andrew N. Bowen for Reason 1.4 (D)


1. (C) SUMMARY: Progress on negotiations on the migration
from operating service agreement (OSA) to joint venture
companies continues to be bogged down over basic issues such
as block reserves certification and value assessment, the
formula for valuing crude production, and royalty
calculations and payments. As the April 1 deadline gradually
grows more unrealistic, the Ministry of Energy and Petroleum
(MEP) has told the companies that each of them needs to sign
a memorandum of understanding (MOU) by the end of March in
which they commit to sign the joint venture agreement under
current terms. In addition, MEP will submit joint venture
guidelines to the National Assembly by the end of this month.
MEP expects three or four companies to drop out of the OSA
negotiations. END SUMMARY

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CURRENT STATE OF OSA NEGOTIATIONS
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2. (C) According to minutes of the January 2006 monthly
exploration luncheon held by oil companies operating in
Venezuela (strictly protect),progress on negotiations on the
migration of OSAs to joint ventures in which PDVSA holds a
controlling interest have bogged down. Companies continue to
complain that the executive transition committees that are
supposed to manage the OSA fields during the transition do
not seem to have clear roles and perform different functions
with different operators (See Reftel A). As a result, the
operators have stated they will continue to work under the
OSAs until the joint ventures enter into force.


3. (C) The oil companies are currently negotiating a sixth
version of the joint venture agreement. Block reserve
certification and value assessment are still key sticking
points (See Reftel A). The Venezuelan Petroleum Corporation
(CVP),a PDVSA subsidiary which acts as a liaison with
foreign oil companies, will nominate a third party to handle
the certification of reserves. Since the reserves are not
certified and pre and post migration business plans and
production profiles are unavailable, it is impossible to
establish the value of each of the OSA fields. In addition,
the OSA companies claim the 2001 Hydrocarbons Law must be
amended to allow the new joint ventures to commercialize oil
to PDVSA and enjoy a sales tax exemption. The companies are
also unhappy about MEP's equation for valuing crude oil. The
proposed equation contains a variable that MEP can define at
its convenience.


4. (C) Royalty calculations also appear to be a problem. It
appears the MEP wants the calculations to be based on the
destination of the crude oil. In addition, the MEP and PDVSA
have been hinting recently that they are considering
accepting royalty payments in kind (Reftel B). Although the
option is very attractive to some companies, it would require
a new royalty definition. It is not clear if there will be
additional options for royalty payments. Companies also have
questions regarding what currency will be used for the
payment of profits to joint venture partners. If it is USD,
then foreign currency regulations will have to be amended.


5. (C) The CVP has also told companies that some of the new
joint ventures would receive additional acreage in order to
make them commercially viable for all of the partners (Reftel
C). It now appears that the new acreage will be reduced to
only contain the exploitation area.


6. (C) According to the minutes, the MEP expects three or
four companies to drop out of the OSA negotiations. This may
explain why CVP President Del Pino told us that he expected
to see 10 or 12 joint ventures rather than 16 as he
originally told an industry association (Reftel C).

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HOW ABOUT A NICE MOU?
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CARACAS 00000394 002 OF 002



7. (C) The MEP and PDVSA have repeatedly and publicly stated
the joint venture agreements must be presented to the
National Assembly for approval on April 1. Given the vast
number of issues that must be negotiated, energy attorneys
and oil company executives have been highly skeptical about
meeting the deadline. It now appears that the MEP has
realized that the April 1 deadline is unattainable. MEP
Deputy Minister Bernard Mommer notified the companies that
they needed to sign a new MOU by the end of March whereby the
companies commit to sign joint venture agreements under
current terms.


8. (C) COMMENT: It is not clear what the luncheon minutes
mean by "current terms". An energy company executive told
Petroleum Attach (Petatt) that President Chavez canceled a
speech that he was to give the week of February 6 on the
conversion of the OSAs to joint ventures due to the failure
to resolve operators' objections to the MOU. According to
the executive, the speech was to be held at Petrobras'
Concepcion oil field in Zulia and the highlight of the speech
was to be the signature of the MOU by Petrobras. Petrobras
refused to sign the MOU because it contained numerous terms
on the conversion that Petrobras found objectionable. The
MOU contained a significant number of terms that were
supposedly still being negotiated. As a result, the speech
was called off at the last minute. Two oil company
executives told Petatt they were told of the cancellation
minutes before they left their office to travel to Zulia.
END COMMENT


9. (C) Deputy Minister Mommer also plans to present
guidelines for the joint venture agreements to the National
Assembly by the end of the month. The guidelines will
contain information on the parties' working interests, the
relevant exploitation areas, and specific terms for second
and third round OSAs. (NOTE: The OSAs were awarded in three
rounds. END NOTE) According to the minutes, the guidelines
will be presented to the National Assembly if the operators
agree. If not, negotiations will continue.

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EXPLORATION AND PRODUCTION
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10. (C) The minutes stated none of the attendees carried out
development drilling and workover activity as a result of
contract uncertainties arising from the transition
negotiations. Average production in the OSA fields declined
by 190 barrels to 474,296 barrels per day in January. Extra
heavy crude oil production in the four strategic associations
fell 4.18 percent to 595,024 barrels per day in December.
The strategic associations produced on average 561,213
barrels of syncrude per day in December.
BROWNFIELD