More on ExxonMobil’s US$ 12 billion injunction

February 9, 2008

Venezuela survived its first day after the injunction, markets went into panic, bounced back, PDVSA said nothing has been seized, which is almost correct and everyone gave its opinion even if they had no clue as to what they are talking about.

From what I have read, ExxonMobil obtained at least three injunctions of that size in three different jurisdictions. As I said yesterday, ExxonMobil is simply playing hardball. ExxonMobil had signed a contract with PDVSA and it was violated, it was told by the Venezuelan Government that they had to sell a piece of the Cerro Negro to PDVSA, at PDVSA’s price, so that PDVSA would own a 60% majority of the heavy crude projects. If ExxonMobil did not agree to it, it had to lave the country and take an offer from PDVSA which was not only low in price, but payable in kind, i.e. heavy crude, and not in cash.

This was a very straightforward expropriation, but whenever ExxonMobil signs a contract anywhere, it includes and international arbitration clause. For ExxonMobil this is actually a small part of its enterprise, but there is a matter of defending its rights not only in Venezuela, but everywhere else in the planet wherever they may go. Thus, ExxonMobil pulled off from a country where it had been for years and immediately filed for arbitration in the Court specified in its contracts. This was arbitration over its compensation on its US$ 1.6 billion investment, which is now wort more simply becasue oil is somuch higher than it was in the 90’s when it was first built. Comparables suggest the project is worth around US$ 3 billion, even if ExxonMobil as asked for about US$ 6 billion. ExxonMobil has yet to take action on intellectual property rights, as the Cerro Negro plant uses ExxonMobil’s technology and PDVSA has yet to pay for using it. This could be the matter of a lawsuit, but it will likely be settled as part of the arbitration. We note Venezuela under Chavez has lost all three cases that have gone to arbitration in very quiet fashion and the country paid up.

PDVSA said that it will have its day in Court and if its lawyers are any good, they should be able to lower the amount of the injunction, but we are sure that the amount will remain high. PDVSA could even argue that it paid a scant US$ 1.3 billion to its partners in Sincor, state owned companies Statoil and Total, both of which not only accepted the low price but also payment in the form of oil and not cash. Thus, the Court is likely to lower the amount to US$ 4-6 billion on February 13th. when PDVSA will have its side heard. Exxon in any case will have the ability to block PDVSA from any financial mobility as the Curt will block any sale of assets and cash will have to be moved around very carefully by PDVSA. ExxonMobil will keep a full Court press (Yes, it’s a pun!), trying to obtain similar injunctions in various jurisdictions, putting even more pressure on PDVSA.

For PDVSA and Venezuela this is bad news and it is likely to force them to settle fast, which we are sure is what ExxonMobil was after. Besides PDVSA’s cash flow problems, the company needs to borrow money by either issuing new bonds or borrowing from a bank, the Government needs to sterilize some of the excess liquidity by issuing a Government bond in local currency but denominated in US$ or PDVSA bonds. Besides this, the country has plans to issue debt in foreign currency to the tune of US$ 4 billion during the year to cover the budget. As long as this inunction is hanging over the market, it will be more expensive to issue these bonds for both, if at all possible.

Even worse, this is not the only case that PDVSA is negotiating as ConocoPhillips has also filed for arbitration over the Petrozuata project, a similar heavy crude partnership, which is actually more valuable, as production was 75% larger than Cerro Negro’s and thus the value was in the range of US$ 10 billion, of which ConocoPhillips owned half. ConocoPhillips has written off his investment and was negotiating in parallel with its arbitration filing.

The problem is that these arbitration processes can take years and certainly ExxonMobil is looking for a quicker solution. If ConocoPhillips can not reach an agreement in its negotiations, it may resort to high pressure tactics like ExxonMobil. These injunctions certainly do not help PDVSA’s negotiation capability in either case.

Thus, once again, the pressure is on Chavez, PDVSA and Venezuela to get this out of the way, as things continue to unravel locally after years of economic mismanagement. How the Government handles this impacts everything in the end. PDVSA is being used to solve and finance the problems the Government can’t handle, but its financial and management resources are strained to their limits. Much like the Venezuelan economy, there is little room for maneuver. There is money, some US$ 12 billion in Fonden and oil prices remain high, but something had to give and is doing it from shortages, to inflation, to inefficiencies ,to the slowing economy. It is certainly not the right time to reduce PDVSA’s social spending, but production is dropping and
little investment in production is being made.

And now comes ExxonMobil to make it more difficult for everyone. It reminds me of a local saying: “Eramos muchos y pario la abuela…”(There were many of us and grandmother gave birth…)

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