petroleumworld

VenEconomy : An empire of impositions

More than ten years ago, when the crude upgraders in the Orinoco Oil Belt were still in the project stage, there were well-founded doubts regarding their profitability. This project, still in its infancy, required highly complex processes and technology that had not yet been proven, quite apart from an extremely heavy initial investment, much more than would have been required for a normal oil project.

It was calculated that an investment of $15 billion would be required in order to produce some 550,000 barrels a day of upgraded crude, while the investment for producing the same volume of conventional crude would have been between $2 billion and $3.5 billion, in other words 80% less.

It was this situation that prompted the authorities to agree to the companies that were to take part in the Oil Belt projects paying income tax at the corporate rate (34%) plus an initial royalty of 1%. It was also agreed that the royalty would increase to 16.67% once the upgraded crude production goals were reached.

Today the efficiency of the technology has been more than proven and, although it is costly, it is still profitable at today’s prices, even more profitable than expected.

In view of this high profitability of the upgraders, it is logical that the government should wish to renegotiate the contract to obtain more favorable terms. What does not seem to be logical is for the government, instead of negotiating, to impose new conditions unilaterally and arbitrarily.

Two years ago, the government increased the 1% royalty to 16.67%, earlier than stipulated in the contracts. On Sunday, it announced a further increase to 33.3%, to be broken down into 30% in royalties and 3.3% for social programs.

As though that were not enough, President Chávez said that these companies should pay income tax at 50% as, the way he sees it, 34% is not an acceptable rate for those who “are becoming wealthy from extracting hydrocarbons.” Besides all this, they had already been informed that they would have to switch over to mixed enterprises as the service contractors have been forced to do.

There is little doubt that the crude upgraders will also swallow the bitter medicine and accept the new conditions. However, it is also clear that, from now on, very few firms -be they domestic or foreign- will run the risk of making long-term investments in a country where there is no respect for the Constitution or the law, much less for contracts and the logical channels of negotiation. Today in Venezuela, there is no promise worth anything or word than cannot be broken.

VenEconomy is a Venezuela's leading specialized publisher in the economic and financial area. VenEconomy's Points of View on the issues of the day, as seen by VenEconomy during the last week. Petroleumworld not necessarily share these views.

Editor's Note: This commentary was originally published in by VenEconomy, on 05/07/2006. Petroleumworld reprint this article in the interest of our readers.

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Petroleumworld 05/10/06