Archive for October 12th, 2014

ExxonMobil Decision A Win For Venezuela

October 12, 2014

Finally the arbitration panel of the World Bank, the ICSID ruled on the compensation for ExxonMobil over the nationalization by the Venezuelan Government of its Cerro Negro and La Ceiba projects, in a 138 page decision published this week. That there would be compensation there was no doubt by now, the only question was how large it would be and whether the panel would say anything about the relationship between its award and that of the International Chamber of Commerce in New york, where ExxonMobil was awarded US$907 million in 2012, which was covered in detail in this blog.

As expected, both sides claimed victory. The same way that both side fought with extremes during the case, Venezuela saying it had to give little to ExxonMobil in compensation and ExxonMobil asking for absurd amounts that people somehow took seriously in Venezuela. This has led many to believe that Venezuelan won huge, because in the end it will “only” have to pay a total of US$ 1,943 in compensation for ExxonMobil’s 41% stake in the Cerro Negro project. Exxon claimed victory and Venezuela said it was satisfied with the decision and that it would pay after November this “manageable” amount.

But the truth is that the number are not that far away from what analysts believed would happen and they are very far from what either side wanted. In fact, while most estimates were around US$ 10 billion for both ExxonMobil and ConocoPhillips (which is 2.5 times bigger than Cerro Negro), there were estimates as low as US$ 5.6 Billion.

But let’s look at the facts of the case prior to this week:

i) ExxonMobil was asking for US$ 14.5 billion in compensation (page 52 of decision), arguing that if it had not been expropriated, the 120,000 barrels per day (bpd) produced could have been expanded to 344,000 bpd by 2014. While this was feasible, the original project had a target of 120,000 bpd, there was never any authorization to expand it and it was clear none would not be given by the Bolivarian Government. This is typical over reach when you sue, you include everything asking for the moon, hoping the final award will be what you want. Dismissing this absurd request cut ExxonMobil’s claim by a factor of 2.4 to US$ 6 billion.

ii) On the opposite side, Venezuela was only offering US$ 353 million (page 57), based on a price cap set forth in the association agreement, from which the country would subtract US$ 238 million from the repurchasing of the Cerro Negro bonds by PDVSA.  The tribunal dismissed the price cap argument based on the laws that created the association, as well as subtracting the payment of the bonds. .

But let us also look at statements made by Venezuela on the case, which were purely grandstanding: “Venezuela considers the ExxonMobil case closed” said in 2012 Rafael Ramirez, the same one that claimed this week the decision was “just”. Or “the book value is less than US$ 750 million” said Ramirez on a different occasion and that is what would be fair to pay. But the best contrast may be what Hugo Chávez said in 2012 “From now on I tell you: Venezuela will not recognize any decision by that Ciadi (Spanish acronym for ICSID)”, which he said after Venezuela “won” the ICC case.

So, given this. Did anyone score a victory this week?

Let’s look at this week’s numbers and facts:

The ruling: The arbitration panel ruled in favor of ExxonMobil, deciding that it had no jurisdiction over tax increases to the participants of the project, but it did have jurisdiction over the remaining claims, including the imposition of an extraction tax, production limitations imposed by the Venezuelan Government and the actual expropriation of the projects.

No jurisdiction over tax increases means that there would be no compensation for that part. Subtract that from the US$ 6 billion requested.

The Compensation: The final award given to ExxonMobil and its affiliates is: a) US$ 9.0 million for the forced production cuts in 2006 and 2007, b) US$ 1.411 billion for the investment in the Cerro Negro Project c) US$ 179.3 million for the expropriation of the La Ceiba project. This amounts to a total of US$ 1.599 billion dollars plus 3.25% interest since the date of expropriation (June 27th. 2007) to the date on which payment is made. From this amount, the arbitration panel ordered the subtraction of the US$ 907 million awarded by the International Court of Arbitration (ICC) in December 2011, which has been paid in full.

If PDVSA pays this in November, as it has announced, I calculated the interest to be US$ 345.2 million, where I separated the interest due in the original US$ 907 million of the ICC decision, paid in early 2012 and the interest on the remainder US$ 1.1 billion since June 27th. 2007. This gives a total of US$ 1.943 billion for the award, minus the US$ 907, which would give a total bill due of US$ 1.036 billion, assuming PDVSA pays in November.

The award for La Ceiba is easier to judge. ExxonMobil asked for US$ 179.3 million. It was awarded exactly US$ 179.3 million for its half of the project. (The other half was owned by a Canadian company which accepted US$ 75 million in negotiated compensation). A small victory for ExxonMobil.

Obviously the award is on the low end of things, which is the reason that I consider this to be a slight win for Venezuela. But the actual reason the award is on the low end of things is quite ironic: Venezuela argued that country risk (it’s own!) was high and the discount rate used in the calculation of the payment should be near 20%. In the end, the panel used 18% versus ExxonMobil’s proposed 8.5% which made a roughly US$ 1.5 billion difference in the compensation.

This is what Venezuela argued:

“The Respondent (Venezuela) contends that the CAPM methodology is of little relevance in determining the value of an international oil project because it does not take into consideration the country risk. According to the Respondent, Prof. Myers has relied on a single, inappropriate method, whereas Respondent’s experts have used four separate methods, ICAPM and country risk survey (“market acquisition approach”), and backward- and forward-looking data (“make-whole approach”). These four methods resulted in discount rates “within a relatively narrow range”, which the Respondent’s experts averaged, yielding a discount rate of 19.8%”

Thus, the same Government that is always complaining that the markets demand such a country premium when it sells it bonds, turns around and cheers for the high country risk they have created by their mismanagement of the economy. .

Oh! The pretty revolution!

So, technically, ExxonMobil got less because the revolution has made the country so risky. Strange, but not only true, but also correct from a technical point of view. But I don’t believe analysts were using such a high rate in their calculations.

If ConocoPhillips was 2.5 times larger, then you can expect this decision to establish some precedents and that case will be 2.5 times larger, plus a bit more because that panel already ruled Venezuela negotiated in “bad faith” with ConocoPhillips. I don’t know how much that will cost, but say it takes it from 2.5 times to 3 times and ConocoPhillips will be awarded with interest around US$ 6 billion. This gives a total of US$ 8 billion for both cases, below the “average” expected by markets of US$ 10 billion between the two projects.

Yes, it is low, but ISCID awards have always been on the low side, this is after all, the second highest award ever after the Occidental Petroleum-Ecuador case. In fact, two weeks ago, the ICSID awarded Canadian company Gold Reserves US$ 730 million in its arbitration case against Venezuela in an award that surprised many by its large size. The company started asking for US$ 5 billion, was cut down to US$ 2 billion and was awarded US$ 730 million after investing some US$ 300 million in the Las Brisas gold project. Venezuela has not said what it thinks of this award, whether it will pay it or not.

Yeap, a slight win for Venezuela. But I get the feeling the real winners are the lawyers on both sides.