Online Extra: Q&A with PDVSA Director Del Pino

The Venezuelan oil company exec discusses higher royalty taxes, coping with 18,000 fewer workers, social-program funding, and more

In January, Eulogio Del Pino, was named to the board of directors of Petróleos de Venezuela (PDVSA), the country's state-owned oil company. A 25-year veteran of PDVSA and other government-run oil entities, Del Pino, 48, is a geophysics engineer with a master's degree in petroleum exploration from Stanford University. Del Pino met with BusinessWeek Latin America Chief Correspondent Geri Smith and Caracas Correspondent Steven Ixer on Feb. 21 to discuss the challenges facing PDVSA as it attempts to exploit the largest petroleum reserves outside the Middle East. Following are edited excerpts of their conversation:

Q: Venezuela's Orinoco Belt is believed to hold anywhere from 100 to 270 billion barrels of super-heavy crude, which would make it the largest reserve in the world after Saudi Arabia. PDVSA started exploring and producing in the Orinoco Belt during the 1990s in joint ventures with foreign oil companies. But there was initially some doubt that international markets would accept the crude, which has to be processed to make it more pure.


Back then, we could only dream that we would have production this inexpensive and this profitable in the Orinoco belt. We laid out scenarios in which we would produce 300 barrels a day per well, but today we're producing 3,000 barrels. The [production] cost was calculated at $4, but today in one venture we are producing at just a half-dollar per barrel.

To upgrade the crude, we figured it would cost $6 to $7 per barrel, but we're doing it for $3 to $3.50. Twelve years ago, it was thought that refineries would reject the synthetic crude, but today this [synthetic] crude is very well accepted on the open market. We have demonstrated that these projects are highly profitable, we have immense resources, and we've maximized their value for the country.

Q: So the scenario today is different, and that's why you're changing the rules on royalties?


No. There has been some misinterpretation of the decision taken by the government. We have strictly respected the rules. We took the [royalties] to 16.66% because the 1942 law under which these strategic associations were signed allowed the state to lower the royalties under special conditions. When you read the law, you see that it is [meant] to be applied to mature oil fields that have been exploited already.

That's not the case for the Orinoco Belt, but we gave that [reduced royalty] benefit because it was necessary to demonstrate that projects there would be economically viable. The state had the right to give that royalty break to boost the projects, but considered [later] that the conditions had changed, and so it decided to restore them to 16.66%.

Q: But some of your foreign partners have complained, saying the increase isn't valid.


Up to now we have seen an excellent reception [to the increase] on the part of our partners. In recent days the president of Conoco Phillips (COP ) was in Venezuela meeting with the highest government authorities and with us, and they have come to us with [new] proposals. Venezuela is a very important country for Conoco, which has investments of around $5 billion in the country. They are important partners in two of the Orinoco Belt projects.

Like all partners, we often have differences in points of view. We had come to an impasse on this project, and fortunately that was taken care of. At no point was the project going to be shut down or anything like that.

Q: Opening the market in the 1990s to foreign companies was important because it's now bearing fruit at a time of high world oil prices. Was it the right decision?


At the time it was. But the government also put in its fair share. For example, tax benefits such as very low royalties, helped a lot of the Orinoco Belt projects by completely minimizing the financial risk. The level of investment in the four strategic association projects added up to about $14.5 billion, and if you add up what the government offered in tax benefits, it was around $14 billion.

For every dollar of investment in the strategic associations the state gave a dollar in benefits. So, when you look at last October's decision [to raise royalties], it was more than reasonable. Now that conditions are different, and for new projects we have a new hydrocarbons law that will require 30% royalties and a 51% project share for the state, all the companies are telling us that they want to invest.

Q: How is PDVSA coping with the loss of 18,000 employees who were fired after the 2002-03 strike? You lost a lot of expertise.


We're overcoming it. We believe oil-company employees now are much more conscious of how important the company is for Venezuela. We believe many of the people who worked here before, when they made the political decision to abandon their workplace [and go on strike], abandoning their responsibilities and damaging installations, caused immense losses to the country that are still being quantified. They placed political interests before the interest of the country. They were very well prepared, technically speaking, but they lacked integrity and ethics.

We are preparing people as quickly as possible. Last year, we sent around 160 people to Norway, to observe North Sea operations. I just came back from the University of Houston, to try and implement a program so their professors can come here to teach PDVSA employees one week per month for on-site master's degrees. We're working with a lot of younger people now.

Q: How is PDVSA funding President Chávez's social development programs without hurting its own finances?


We manage a rotating fund of some $2 billion. For every barrel of oil sold above the $23-a-barrel price, the difference is deposited into this fund. This is spent on projects -— railways, highways. We've been doing this for about a year and a half.

Q: And the other $1.7 billion that PDVSA gave last year to finance health and education projects? Isn't that taken out of your PDVSA investment budget?


No, that is included in our annual budget [as a separate item]. We plan for enough oil investment to comply with our production goals. Our business plan calls for producing 4.9 million barrels of crude within five years, and so we are investing enough to comply with that plan.

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