Venezuela has an amazing geological endowment. The country has the largest proved reserves of conventional oil in Latin America at 41 billion barrels, more than doubling Brazil’s and tripling Mexico’s. In addition, it has an estimated 1.3 trillion barrels of extra-heavy oil resources in the Orinoco Belt region. The official figure of proved extra-heavy resources is 257 billion barrels using a 20% recovery factor. Even using a more conservative estimate the country has more than 150 billion barrels of unconventional crude reserves. Venezuela is thus among a handful of countries that, for all practical purposes, has unconstrained geological potential; along with Saudi Arabia, Canada, Iran and Iraq. As in Canada, the resource base is largely made up of unconventional oil, which requires the application of a higher oil price, but Venezuela’s bitumen is easier and less expensive to extract. The country has also 197 tcf of proved natural gas reserves, and even though close to 90% of that gas is associated to oil, it has made significant discoveries in offshore non-associated gas, including the recently developed PERLA gas field, in a partnership between Eni and Repsol, with current production capacity of 400-500 bcfd.
Great resources but falling production
The limitless geological potential of the Venezuelan oil industry contrasts with its dire reality today. In the short term the biggest obstacle it faces is the low price environment. In February, a barrel of diluted crude oil (16 API grade), a blend of extra-heavy (8 API grade) and 20% to 30% of a lighter oil or product, was being sold at levels as low as $15 per barrel. At that price level it was not attractive to produce even before considering the government-take. The average total cost of production is estimated at more than $20 per barrel using the official FX rate. The operational cost is about $13 and using a more reasonable depreciated exchange rate that number could fall to $8-10. Still with the WTI at $30 per barrel (about $23 on average for the Venezuelan export basket), production can barely cover costs and cannot afford to pay the 33% royalty. With the WTI at $40, Venezuelan production is economically viable, but it produces very limited fiscal and net FX resources for a country that depends on oil for more than 90% of its exports and 50% of its fiscal revenues.
The problems of the Venezuelan oil industry are long in the making and were only exacerbated by the collapse in oil prices. Production has declined, during the last decade, by more than half a million barrels/day. Net exports have declined even more. Venezuela’s domestic market oil products are heavily subsidized and the country also subsidizes sales to some countries in the region, as a result the country only monetizes about 2/3 of its production. Conventional production is declining more rapidly, and the less profitable heavier unconventional crude is only partly compensating. PDVSA’s operated production has collapsed and more than 1/3 of total production is now operated by joint ventures. The financial debt of the company exploded during the last decade from $3 billion in 2006 to $44 billion today, without a significant increase in investment and a stagnant number of oil rigs in operation. The expropriation of Exxon and Conoco may require an additional $7 billion in payments (ICSID arbitrations). Production per employee has collapsed as the number of employees tripled while production fell. Clearly these trends were unsustainable even at high oil prices.
The new pragmatism: will it be enough?
The trends described above led Venezuela to offer foreign oil companies significant investment opportunities in the country, just a few years after they had partly nationalized the oil sector. The end of the investment cycle brought about by the oil opening of the ‘90s required a significant new investment cycle. Starting in 2009, new JVs were signed with major industry players, including Chevron, CNPC, Rosneft, Eni and Repsol, but very little investment has materialized. Conditions were not very attractive, PDVSA had cash flow and execution problems, and the above ground risks were perceived to be significant.
The appointment of Eulogio Del Pino as PDVSA’s CEO and Oil Minister in 2014 brought a much more pragmatic stance, which was reinforced by the oil price collapse. Del Pino signed new contracts providing operational and cash flow control to conventional JV partners, he offered better fiscal conditions (although some have been slow to materialize), and moved to a lower cost extra-heavy blending strategy. He reduced subsidized shipments to the region and recently reduced the domestic gasoline subsidy (which is still massive). He has granted the use of a much more depreciated FX for the JV partners to bring in capital and makes oil production less costly in dollars. He also has pushed for a more pragmatic natural gas policy, helping to put in operation the PERLA project and proposing to export gas to Trinidad, which has a very well developed LNG infrastructure. Extra heavy oil production increased by more than 200 tbd in 2 years, a significant expansion, more than half of which has been done by foreign companies. Nevertheless, the collapsing oil price has made the attraction of foreign investment much more difficult. PDVSA is cash strained, in massive arrears with partners and contractors, and thus it cannot come up with the capital required for the 60% equity it has in oil JVs. In addition, as mentioned before, even though extra-heavy production is barely able to cover costs, the government has been slow in implementing a promised royalty rate reduction.
What will the future look like? If prices recover, Venezuela is able to deliver a more substantial oil policy reform, and political stability is attained; the country can become an investment magnet and develop its massive untapped potential in oil and gas. It would not be easy, as many obstacles remain, but one thing is clear, a more pragmatic policy consensus has been emerging, which would lead to a significant reopening of the oil and gas sector in any foreseeable political scenario. That is, at least until the next oil boom brings resource nationalism back (unless, hopefully, some lessons have been learned).