MACHALA POWER MAY BE CLOSE TO AGREEMENT WITH GOE

C O N F I D E N T I A L QUITO 000966

SIPDIS

TREASURY FOR MEWENS
DEPT FOR WHA/EPSC FAITH CORNEILLE
USTR FOR BENNETT HARMAN

E.O. 12958: DECL: 10/07/2018
TAGS: EINV ENRG ECON EC
SUBJECT: MACHALA POWER MAY BE CLOSE TO AGREEMENT WITH GOE
ON INVESTMENT DISPUTE

REF: A. QUITO 525

B. QUITO 672

C. QUITO 259

D. QUITO 681

Classified By: Ambassador Heather M. Hodges for Reasons 1.4(b) and (d)


1. (C) Summary: The GOE has agreed with U.S.-owned
electricity generator and natural gas producer Machala
Power/EDC that it owes Machala Power $59.8 million in unpaid
electricity tariffs. The GOE has asked Machala Power to drop
its international arbitration case upon payment. However, a
number of outstanding issues remain before the company will
agree to drop its arbitration and invest additional money in
natural gas production in Ecuador. End summary.

Agreement to Pay Arrears
--------------


2. (C) On October 1, the Government of Ecuador reported
through the media that it had reached an initial agreement
with U.S.-owned electricity company Machala Power, which
filed for international arbitration because of payment
arrears and other charges (ref A). The GOE offered to pay
Machala $59.8 million to settle the arrears if Machala Power
would drop its arbitration claim. Machala Power temporarily
suspended its arbitration case, but is seeking a more
comprehensive arrangement with the GOE before it drops
arbitration.

Comprehensive Solution Would Bring More Investment
-------------- --------------


3. (C) Machala Power generates electricity from natural gas
produced by its sister company EDC. Both are owned by
Houston-based Noble Energy. Noble Energy is looking to shift
its business in Ecuador, focusing more on gas production (to
be sold to state oil company Petroecuador) rather than
electricity generation. Petroecuador could use the gas for
producing electricity in state owned generators, or sell it
to private generators. Noble is prepared to invest $42
million in 2009 to expand natural gas production, and is
ready to add over $100 million more in 2012.


4. (C) In seeking a comprehensive, forward-looking solution
to its investment problems, Machala Power/EDC wants to
resolve four other issues in addition to clearing the
arrears. One is a guarantee that it will not suffer arrears
for future delivery of electricity, since electricity tariff
controls leave distributors perpetually short of cash to pay
generators. A second is an agreed price to sell its natural
gas, given Noble's plans to focus on gas production. Third,
EDC needs GOE approval of its plan to increase gas
production. Finally, Machala Power needs to be released from
its investment commitment to expand its own generating
capacity.


5. (C) According to Machala Power General Manager John
Tomich, the key stumbling block now appears to be agreeing on
a price for the natural gas. He complained that the GOE was
trying to lowball him on prices, bringing in Bolivian
advisors who were more "ideologues" than experts, who
contested his cost projections.

Correa Sees as Win-win
--------------


6. (C) In July, President Correa told the former Ambassador
that he saw resolving the Machala Power dispute as a win-win
for Ecuador and the company, and that he had instructed his
team to resolve the matter quickly (ref B). Tomich notes
that if his company increases natural gas production, several
companies could convert high-cost diesel thermal electricity
generators (which use GOE-subsidized fuel) to lower cost and
cleaner natural gas generators. He estimates that converting
one generator would save Ecuador roughly $500 million in
imported diesel.


7. (C) Tomich said that his headquarters is not in favor of
dropping arbitration with so many outstanding issues, but he
thinks he is close to convincing them to agree. Tomich

believes the positive economics of the proposal and the need
for his company's expertise and investment will convince
Correa to agree on the remaining issues.

Comment
--------------


8. (C) The overall investment climate in Ecuador is cloudy,
and a number of big petroleum and mining projects are on hold
until the GOE provides greater clarity in those sectors. At
the same time, the Correa Administration has worked to
address investment disputes with U.S. companies. In two
instances, it made payments to companies that had left
Ecuador or left immediately thereafter (Occidental Petroleum
(ref C) and City Oriente (ref D)). In working with Machala
Power, the company and the GOE see the payment as a first
step before addressing other investment hurdles that would
allow the company to increase its investment in Ecuador.
HODGES