US embassy cable - 05CARACAS2944

C O N F I D E N T I A L SECTION 01 OF 03 CARACAS 002944 
 
SIPDIS 
 
NSC FOR CBARTON 
ENERGY FOR CDAY, DPUMPHREY, AND ALOCKWOOD 
 
E.O. 12958: DECL: 09/29/2015 
TAGS: EPET, EINV, VE 
SUBJECT: GOV HYDROCARBON POLICY OPTIONS 
 
REF: A. CARACAS 02934 
 
     B. CARACAS 02596 
 
Classified By: Economic Counselor Andrew Bowen for Reason 1.4 (D) 
 
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SUMMARY 
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1.  (C)  Reftel A outlined Embassy's views that declining 
production stemming from inadequate maintenance and a decline 
in PDVSA's administrative and operational abilities could 
have a significant impact on GOV revenues.  It is not clear 
at what point declining production will start to squeeze the 
GOV fiscally.  Once declines in production levels and/or 
declining prices begin to cause the GOV problems, we believe 
it will have four basic policy options: a broad rapprochement 
with the international oil companies (IOCs), a heavier 
reliance on major service companies to provide PDVSA with 
needed expertise, the acceptance of a minimal production 
level provided prices stay high and the GOV is willing to 
economize, or a strong arm policy to extract more revenues 
from the IOCs and service companies.  The policy options are 
not necessarily exclusive.  At this point, if we had to make 
a guess, we believe the GOV would combine aspects of both the 
first and fourth options: a limited rapprochement with strong 
arm tactics to secure more revenues.  END SUMMARY 
 
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WHAT ARE THE GOV'S OPTIONS? 
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2.  (C) Under the GOV's Siembra Petrolera plan, the GOV plans 
to increase daily production to 5.8 million barrels a day by 
2012.  As laid out in Reftel A, we believe the GOV will 
actually face declining production levels in the short to 
medium term.  If the GOV is eventually faced with a decline 
in production that threatens its revenue stream, it will have 
four basic policy options: a broad rapprochement with the 
international oil companies (IOCs), a heavier reliance on 
major service companies to provide PDVSA with needed 
expertise, the acceptance of a minimal production level 
provided prices stay high, or a strong arm policy to extract 
more revenues from the IOCs.  We do not believe that reliance 
on national oil companies (NOCs) is an option because the 
majority of them do not have the necessary technical 
expertise to handle Venezula's heavy and extra heavy crudes. 
At this point, we believe that the GOV will pursue a 
combination of the first and fourth options. 
 
3.  (C)  We do not believe that the GOV will opt for the 
second or third options.  Up to this point, we have not seen 
any action on the part of PDVSA to place greater reliance on 
the major service companies in order to compensate for its 
technical deficiencies.  When we raised the possibility with 
Halliburton and Baker Hughes, neither of them thought it was 
a realistic possibility.  In fact, executives from both 
companies believe the GOV will begin making life more 
difficult for them once it is through adjusting its 
relationships with the IOCs.  Relying on the service 
companies for technical expertise is also out of the question 
for practical reasons.  The service companies are capable of 
handling large scale projects but they do not offer the full 
scope of services that an IOC can offer.  If PDVSA 
significantly increased its reliance on service companies, it 
would need a technically and commercially sophisticated staff 
to handle the influx of new tenders and contracts.  As noted 
in Reftel A, PDVSA simply does not have the administrative 
resources to carry out such a program. 
 
4.  (C) We also do not believe the GOV will accept a minimal 
production level provided prices stay high for two reasons. 
First, it is not clear at what point PDVSA's production level 
will bottom out.  The point may well be below the necessary 
level to fund the GOV's current spending spree as well as 
meet its Petroamerica commitments.  Second, even if you 
assume production does bottom out at the necessary level, the 
GOV continues to increase its spending and shows no signs of 
slowing down.  As a result, we believe it will need 
additional oil revenues as well as increased tax revenues. 
 
5.  (C) It is clear from coversatons tht we havehad wih 
he IOC thatthey believe the GOV will eventually have to 
have some sort of broad rapprochement with them in order to 
increase production.  (Note: As noted in Reftel A, IOCs 
account for roughly 45 percent of Venezuela's oil production. 
End Note)  Based on history, this is not an unreasonable 
position.  Countries have traditionally opened their oil 
sectors to foreign investment when they have reached a point 
where they can no longer develop their resources on their 
own.  As former PDVSA director and noted commentator Jose 
Toro pointed out in a lunch with PetAtt, Venezuela's famous 
apertura did not come about due to a philosophical change 
within the GOV.  It occurred because the GOV realized that it 
did not have the necessary capital or expertise to develop 
the sector on its own.  The problem with this line of 
reasoning is that it assumes the GOV is a rational economic 
actor and that President Chavez will sacrifice his political 
goals for economic expediency.  We are not sure that either 
of these underlying assumptions is correct. 
 
6.  (C) We believe the GOV will favor one or more IOCs and a 
handful of NOCs from select friendly countries while at the 
same time seeking to extract as much revenue as possible from 
the rest of the IOCs and NOCs.  The "teacher's pets" may be 
subject to the same harsh tax policies and pressure to 
convert operating service agreements (OSAs) to joint ventures 
as the rest of the IOCs and NOCs but will be rewarded with 
choice projects.  We are not alone in this viewpoint. 
Chevron Latin America Upstream President Ali Moshiri stated 
he believes one or two American oil companies will continue 
to be significant players in Venezuela as well as six NOCs. 
These companies will receive the lions share of new projects, 
including the all important Faja projects.  Assuming two 
American companies remain active participants in Venezuela, 
Moshiri said one of the American companies will have the lead 
and the other will merely be a partner.  It was clear Moshiri 
believes he is positioning Chevron to be the lead American 
company.  (COMMENT: Chevron, ConocoPhilips, and ExxonMobil 
currently operate in Venezuela.  We believe the American 
"partner" will be ConocoPhilips.  ExxonMobil has taken a hard 
line with the GOV regarding royalty payments and is currently 
considering international arbitration.  President Chavez, as 
reported in Reftel B, publicly took a swipe at ExxonMobil in 
his speech announcing the Siembra Petrolera development plan. 
 END COMMENT) 
 
7.  (C) It is not clear if Moshiri believes the other IOCs 
and NOCs will simply be frozen at their current level of 
activities or eventually pushed out.  We believe the 
companies will be allowed to continue their current level of 
operations but the GOV will squeeze them as much as possible 
for additional revenue.  However, it is possible one or more 
of the IOCs and NOCs will be forced out of Venezuela.  On 
September 26, Energy Minister Ramirez publicly threatened to 
take over fields operated by oil companies under OSAs if they 
did not migrate the contracts to joint venture companies 
controlled by PDVSA by the end of the year.  Given the legal 
complexities of migrating the contracts, we do not believe 
nor have we found a single energy attorney or IOC executive 
who believes that it is possible to migrate the contracts in 
such a limited period of time. 
 
8.  (C)  At this point, it is our belief that the GOV may 
make examples out of one or two companies but it will seek to 
avoid taking over all or a majority of the fields.  We base 
this belief on two facts.  First, as noted in Reftel A, PDVSA 
does not have enough qualified staff to run 32 "new" oil 
fields.  Second, a successful migration from an OSA to a 
joint venture company under PDVSA control will allow the GOV 
to reach its goals of maximizing state oil revenues and 
control of reserves with a minimum outlay of resources.  Once 
the OSAs and strategic associations have migrated to joint 
ventures under PDVSA control, the GOV will be in the perfect 
position to exert pressure on the foreign companies to 
maximize its revenues.  If the GOV has a 60 percent interest 
in the new joint ventures, which Ramirez stated on September 
26 was the new minimum, it can basically strong arm its 
minority partners whenever it likes while at the same time 
benefiting from IOC and NOC operating expertise.  The trick 
will be for the GOV to exert just enough pressure to maximize 
revenues without exerting so much that the foreign companies 
halt production. 
 
9.  (C) Toro, who is no fan of Chevron, also believes the GOV 
wants to have at least one major American IOC that is active 
in Venezuela.  He believes the GOV wants to utilize the 
company to lobby Congress and act as a mode of communication 
with key USG departments and agencies.  Toro indicated he 
believes Chevron will be the GOV's American company of 
choice.  When pressed about NOCs, Toro said he thought 
Russian and Chinese companies would be the main 
beneficiaries.  He said Petrobras was still a contender for 
preferential treatment but that depended to a large extent on 
whether the current Brazilian government stays in power or is 
replaced by one that meets with President Chavez's approval. 
 
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CONCLUSION 
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10.  (C) We believe the next three months will provide 
valuable clues as to where the GOV's hydrocarbon policy is 
headed.  Oil companies with OSAs will be receiving their tax 
bills in the next two to three weeks.  It will be interesting 
to see whether any of the "teacher's pets" receive 
preferential treatment.  In addition, the GOV has stated 
repeatedly that OSAs must migrate to joint venture companies 
by year end.  Ramirez's comments on September 26 were clearly 
designed to raise the temperature on the oil companies with 
OSAs.  Since the migration of 32 unique contracts by years 
end is impossible, the GOV's actions once its deadline is not 
met will provide clues on where it is headed next. 
Brownfield