The New Latin American Oil and Gas Scene: Taking the High Road or the Low Road?
Elisabeth Eljuri
Carlos E Maduro -
Over the past years we saw a significant increase in commodity prices, but specifically during 2008, where oil prices rose above US$147 to an all-time record, as a result of several factors such as growing demand from the expanding BRIC economies, worries on oil supply, lack of stability in several oil-producing countries, and the decline of the US dollar, among others.
Elisabeth Eljuri
We also saw governments from all around the world taking different measures in response to the price increases. Latin America was no exception.
Many of these governments, due to the increase of oil prices and their specific ideologies and policies, were tempted to try to benefit from the windfall, regardless - in many cases - of prior rights of investors. In this context, in very general terms, it can be said that oil-producing countries have usually taken legal measures or de facto measures to increase government revenues; whether those measures are lawful in each case is an entirely different matter.
For instance, legal measures have been taken to:
• increase taxes and royalties;
• nationalise the sector or type of business by increasing state participation or imposing further limitations or controls on private participation; and
• modifying the terms and conditions of the granting instruments.
On the other hand, de facto measures have included:
• early termination of agreements;
• modification of terms and conditions through forced negotiations;
• expropriation of assets or concessions, or both;
• revocation of concessions; and
• curtailment of production to meet political objectives or international commitments of the host government.
While some of the above-mentioned measures qualify as expropriation or creeping expropriation, or violations of the obligation to provide fair and equitable treatment to investors, others do not.
From a legal standpoint, it is interesting to note how governments - especially in Latin America - took very different, and in some cases contradictory, approaches to the same phenomenon.
This article is an attempt to contrast the measures taken by some of the most significant Latin American countries in the areas of oil and gas in the past two years as a result of the global increase in commodity prices.
ARGENTINA
For almost 10 years, between early 1992 and 2001, the Argentine legal framework provided for completely free international trade of crude oil and refined products.
The economic crisis that hit the country in 2002 made the government take a series of emergency measures, among which it obliged producers and refineries, through mandatory agreements, to maintain crude oil prices for the domestic market between US$28.5 and US$32 per barrel. However, those agreements expired in 2004.
More recently, the Argentine government, to avoid the impact of the international rise in oil prices and the value of local fuels, and to obtain any extraordinary income derived from the exploitation of non-renewable resources, established a new withholding regime applicable to export activities of oil and other fuels. The formula established by the government provided that the export rate is calculated by taking into account the international price of the product and the "cut-off value" (valor de corte) set by the government.
In this regard, in 2007, the government issued Resolution No. 394/07 to capture producers' extraordinary profits by establishing an export price of US$42 per barrel for crude oil and any price revenues above such amount is now kept by the government.
BOLIVIA
On 1 May 2006, the recently elected president of Bolivia, Evo Morales, signed Supreme Decree 28,701, which nationalised the industry and gave absolute control of hydrocarbons to the state. More specifically, the measure entailed:
• nationalisation of production;
• expropriation of a sufficient amount of shares to gain control over the producing companies; and
• measures for taking control of the entire chain of production, refining, transportation and distribution.
According to the decree, companies that produced volumes equivalent to 100 million daily cubic feet during 2005 would only be able to benefit from 18 per cent of their production, while the remainder would vest in the state; those that produced less would only have to pay an 18 per cent royalty rate and the Direct Hydrocarbons Tax at a 32 per cent rate. However, according to the same decree, all companies were bound to hand over their production to the national oil company, Yacimientos Petrolíferos Fiscales Bolivianos.
The fact that Bolivia took control by means of a nationalisation of the shares of the companies that operated within its territory so that it had absolute control over the companies affected foreign investors such as Total, Royal Dutch Shell, Petrobras and Repsol; and although France, England and Spain have signed BITs with Bolivia, at the present time, Brazil has not done so.
The situation in Bolivia is delicate since no compensation has been granted for the expropriations.
COLOMBIA
Contrary to most Latin American countries, since 2003 the Colombian government made substantial amendments to its oil and gas legal framework, making Colombia more attractive to foreign oil investors during times in which oil prices were rising.
Initiatives to promote foreign investments in the oil and gas sector included, among others, several measures such as allowing foreign investors to own 100 per cent of participations in oil projects; longer exploration licences; and the establishment of a lower, sliding-scale royalty rate on oil projects.
Furthermore, Ecopetrol (the Colombian national oil company) is no longer in control of the activities of exploration and exploitation of hydrocarbons since it was transformed into a more traditional oil and gas operator and investor and, therefore, it is now forced to compete with private operators.
These legislative changes also included special foreign investments and currency regulations for the businesses related to oil and gas. Likewise, such amendments permit duty free imports and they also guarantee foreign investors the same benefits and rights as any national investor.
Additionally, the Colombian government made substantial improvements in security, which has been an important reason for the recent increase of foreign investments in Colombia.
ECUADOR
In 2006, the Ecuadorean government originally amended the Hydrocarbons Law by issuing Law No. 42-2006, which forced all foreign oil companies to pay 50 per cent of all revenues that came from their production above a certain price established by the government. This was a unilateral modification to the terms established in the contracts to take advantage of the windfall.
In that same year, Ecuador terminated its agreements with Occidental Petroleum for the operation of the oil and gas fields located in Block 15. After which, the Ecuadorean government took control over the fields through the state-owned oil company.
In 2007, after Rafael Correa became president, Ecuador rejoined OPEC (having left the organisation in 1992) and further modifications to the hydrocarbons legal framework were made. Correa amended the Regulation for the Windfall Distribution to retain 99 per cent for the state (and 1 per cent for the oil companies) when oil prices exceed US$24 per barrel, forcing oil companies to renegotiate their contracts, which remained in force even after the amendment. These actions left foreign oil investors with only three choices: to keep transferring the 99 per cent of the windfall to the state; to keep renegotiating their contracts to migrate from participation agreements to service agreements where they would produce oil on behalf of the government for a fee; or to leave their oil and gas ventures in Ecuador.
Likewise, during 2007, an ICSID tribunal ordered the Ecuadorean government to end domestic legal actions including, among others, criminal actions against Citi Oriente in relation to a dispute concerning royalties. In that same year, on its part, Ecuador notified ICSID of its intention to withdraw its consent to ICSID arbitration disputes related to foreign investments in natural resources.
Ecuador has also terminated eight of its 24 bilateral investment treaties - including those with the Dominican Republic, Cuba, El Salvador, Honduras, Paraguay, Uruguay and Guatemala - alleging that such treaties have not brought in enough foreign investments, possibly creating more uncertainty for investors in the country.
VENEZUELA
Before 2006, and despite the passage of a new Hydrocarbons Law in 2001, private investors were still able to participate in oil and gas activities in Venezuela through operating or association agreements (which were true E&P contracts), provided they had been entered into before 2001.
Nevertheless, since 2006, the Venezuelan government, led by President Hugo Chávez, started a process of "renationalisation" of the oil industry by limiting, through its legislation, the projects in which the private sector participated exclusively to projects operated as incorporated joint ventures companies with state-equity participation of more than 50 per cent.
In fact, the operating and association agreements remained in force until three laws were enacted between 2006 and 2007. The first of them, the 2006 Law on the Regularisation of the Private Participation in the Primary Activities indicated in the Hydrocarbons Law provided for the termination of the operating agreements.
Later on, in February 2007, Decree-Law No. 5200 concerning the migration of the association agreements of the Orinoco Oil Belt and of the exploration at risk and profit-sharing agreements into joint venture companies, provided for the transfer of activities to the state of the association agreements for the Orinoco Oil Belt as well as the exploration at risk and profit-sharing agreements. Nevertheless, this law also provided that the above-mentioned agreements could be migrated into joint venture companies with state-equity participation of at least 60 per cent.
Finally, the Law on the Effects of the Process of Migration into Joint Venture Companies of the Association Agreements of the Orinoco Oil Belt, and the Exploration at Risk and Profit-Sharing Agreements of October 2007 provided for the termination of the association agreements and the exploration at risk and profit-sharing agreements.
Therefore, under the Venezuelan legal framework that is currently in force, the activities of exploration, extraction, gathering, initial transportation and storage of hydrocarbons (primary activities) are reserved to the state, meaning that such primary activities can only be carried out directly by the state; through 100 per cent state-owned companies; or by incorporated joint venture companies with more than 50 per cent state-owned equity (these are known as mixed companies).
As a consequence of the continuous increase in oil prices, the Venezuelan government also increased the royalty rate to 30 per cent; included a "special advantage" in favour of the country in the new granting instruments which is a special contribution, according to which the state must receive at least 50 per cent of the joint venture companies' gross income; and, in 2007, established a windfall profits tax (technically characterised as a special contribution) that is payable by those who export or transport abroad natural or upgraded liquid hydrocarbons and derivative products. The rate of this special contribution is 50 per cent of the excess of the price per barrel of the Venezuelan basket (not the taxpayer's actual sale price) in a given month over a threshold of US$70. If the average price per barrel of the Venezuelan basket exceeds US$100, the rate applicable to such excess is 60 per cent.
The result of some of those measures was that companies like ConocoPhillips and ExxonMobil decided to leave their Venezuelan oil ventures and start an arbitration procedure against Venezuela. Moreover, given that most foreign companies were originally incorporated in the Netherlands, the Venezuelan government decided not to renew the BIT existing between the countries, alleging that private companies had engaged in an abusive and fraudulent use of the provisions of the BIT by making their investments in Venezuela through Dutch affiliates. This is an unprecedented case of BIT termination that has unsettled many investors.
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Having seen the different approaches taken by some Latin American countries in the areas of oil and gas and their effects on foreign investment, it is worth reflecting on the potential impact that the legal decisions taken by each country are currently having, and will continue to have, on their economies (especially now with a strengthening US dollar and continuous concerns that a global economic slowdown will hit demand for commodities, which has led to dramatic falls in oil prices worldwide).
Considering that, at present, most - if not all - of these countries need foreign direct investment and foreign technology to exploit their hydrocarbons, it seems that those countries that recognised an opportunity to attract foreign investment during the oil boom, instead of squeezing foreign oil companies to the point where many of them preferred to leave, may have made a wiser choice in the long term.