Oil Field Seizure Threatens to Haunt Ecuador Nine Years Later

  • Ecuador says final ruling on oil dispute due this month
  • Nation is appealing an order imposing $1.77 billion in damages

When Ecuador seized Occidental Petroleum Corp.’s oil fields in 2006, crude was at a record high. Now, the OPEC nation may be forced to pay the price at a time when it can least afford it.  

President Rafael Correa said Oct. 8 that he expects the World Bank to make a final decision by the end of the month on the country’s appeal of a ruling ordering the Andean nation to pay Occidental more than $1.77 billion for the takeover.

While Correa said the government has “taken all the necessary precautions,” without providing more details, the country’s fiscal position suggests it’s likely to struggle to come up with the cash, according to Capital Economics, a London-based research company that provides analysis for investment banks and governments. Crude oil, which accounted for about half of Ecuador’s export revenue in 2014, has plunged 42 percent in the past year, leaving foreign reserves at a five-month low of $3.5 billion. Making matters worse, the economy posted its first recession since 2009 in the first half of the year and the central bank forecasts expansion of just 0.4 percent in 2015.

“This couldn’t have come at a worse time,” said Edward Glossop, an economist at Capital Economics in London. “The government is completely stretched and it’s doing all it can to try and plug the hole left by low oil prices.”

Finance Minister Fausto Herrera said Wednesday that the country doesn’t have all the funds it would need to pay Occidental if its appeal fails. The ministry is in talks with the Attorney General’s office to find a solution if it’s ordered to pay, he said.

The press offices of Ecuador’s Finance Ministry and the Economic Policy Ministry didn’t respond to telephone calls and e-mailed requests for comment on how the government would pay the award.

“It’s outrageous; it’s the biggest indemnification in the history of arbitrations,” Correa said Oct. 10 in his weekly speech to the nation. “We’ve asked to have the award annulled. We’ll see what we get, but we’ve got to be prepared for any scenario.”

Correa’s predecessor, Alfredo Palacio, expropriated Occidental’s oil fields in the eastern Amazon region in May 2006, saying that the Houston-based company failed to obtain government approval to transfer part of an oil block to Canada’s EnCana Corp. The fields were producing about 17 percent of the country’s total output at the time.

Occidental, the country’s biggest foreign investor when its contracts were canceled, offered to pay Ecuador as much as $1 billion in disputed taxes, investments and extra revenue from its crude output to settle the disagreement. But the talks failed, prompting the company to file the arbitration at the World Bank’s International Centre for Settlement of Investment Disputes in Washington. Six years later, an arbitration panel ruled Ecuador failed “to accord fair and equitable treatment” and ordered the nation to pay $1.77 billion plus interest. 

In its appeal to the arbitration panel, the government’s lawyers said enforcing the award would cause “catastrophic, immediate and irreparable harm” to the country.

Occidental declined to comment on the dispute. Ecuador’s Attorney General’s said it would comment on the ruling after the final decision was announced.

A ruling against Ecuador is likely to deepen the selloff in the nation’s bonds, said Anthony Simond, a London-based investment analyst who helps manage $13 billion of emerging-market debt at Aberdeen Asset Management Plc.

The country’s dollar-denominated bonds have handed investors a loss of 7.1 percent this year, according to JPMorgan Chase & Co.’s EMBIG index. That compares with an average return of 2.7 percent for emerging markets, the data show.

The market is already signaling that lower oil prices “will have a negative impact both on the economy and short-term debt sustainability,” Simond said from London. Having to pay the award to Occidental would further reduce liquidity in the dollarized country, he said.

Still, any ruling shouldn’t hurt Ecuador’s ability to make a $650 million bond payment due in December, said Donato Guarino, a strategist at Citigroup Inc. in New York. 

The government, which defaulted on most of its foreign debt in 2008 and 2009, has said it intends to repay the notes when they reach maturity on Dec. 15. Paying off the debt would mark the first time the nation has repaid a bond in full in 180 years, Finance Minister Herrera said Wednesday at a congressional hearing in Quito.

Ecuador would probably seek to delay any payment to Occidental by filing appeals in other courts, according to Credit Suisse economist Juan Lorenzo Maldonado. The South American country may ultimately be able to reach a separate agreement with the company to use bonds if it has to pay the award, he said.

But that may come at a steep price. With its bonds yielding 14.8 percent on average, Ecuador’s borrowing costs are the highest in emerging markets after Venezuela and Ukraine. Ecuador would probably need to offer investors between 17 percent and 18 percent for a new five-year bond if it tried to raise the funds now, Herrera said Wednesday.

“Having a negative ruling means that Ecuador has to make more payments and in a context of a weak fiscal position, it’s not going to be taken positively by the market,” Maldonado said. “People may wonder: How is Ecuador going to be able to make a payment of this sort?”

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