The 1975 and 2007 Oil Nationalizations in Venezuela

On August 21, 1975, the Venezuelan Congress enacted the Organic Law Reserving to the State the Industry and Commerce of Hydrocarbons (hereinafter, the 1975 Nationalization Law), extinguishing all of the existing oil concessions to private companies. The bill provided for payment of compensation not exceeding the net book value of the companies’ assets. Article 1 of the 1975 Nationalization Law reserved for the State the industry and commerce of hydrocarbons at all levels, which would thereafter be managed exclusively by the newly created State-owned oil company Petróleos de Venezuela, S.A. (i.e., PDVSA). Petroleum exports would be under the exclusive administration and control of the State, directly by the Government or through State entities (Article 2), in order to maximize the economic benefits in accordance with the requirements of national development (Article 3). Article 5 defined the space left to private enterprise:

The State shall carry out the activities indicated in Article 1 of this Law directly through the National Executive or through entities owned by it, being able to enter into the operating agreements necessary for the better performance of its functions, without these arrangements affecting in any case the very essence of the activities assigned. In special cases and when convenient to the public interest, the National Executive or the aforesaid entities may, in the exercise of any of the aforementioned activities, enter into association agreements with private entities, with a participation such that guarantees the control by the State and with a determined duration. In order to enter into such agreements, the prior authorization of the Chambers in a joint session shall be required, under the conditions [the Chambers] establish, once they have been duly informed by the National Executive of all relevant circumstances.

In other words, the Article 5 of the 1975 Nationalization Law permitted two means of private participation in the oil industry: (i) operating agreements, which were to be simple service contracts; and (ii) association agreements, which were permitted only in “special cases.” However, the latter were valid only if a State company had a participation that guarantied control by the State and only if the agreement was approved by Congress” (id.).

The 1990’s marked a change of policy known as Apertura Petrolera. Indeed, in the early 1990s, Venezuela approved a plan to increase oil production. To achieve this goal, Venezuela decided to develop the large extra-heavy oil reserves in the Orinoco Oil Belt through progressively more strained interpretation of the second portion of Article 5 of the 1975 Nationalization Law. In particular, Venezuela reopened the oil industry to foreign investment in three different ways:

• First portion of Article 5: PDVSA was allowed to enter into operating agreements with private investors for the reactivation of old, non-performing wells, in exchange for a fee per barrel produced.
• Second portion of Article 5:
• Profit Sharing Agreements: PDVSA auctioned to foreign and national investors the rights to explore and exploit potential light and medium crude reservoirs under shared-profit-and-risk association agreements. Under this arrangement, the private party carried the risk of exploration and PDVSA had the opportunity to participate in up to 35% of the production in the event of a commercial discovery.
• Association Agreements: certain oil companies entered into so-called “strategic associations” with PDVSA subsidiaries, primarily to produce and upgrade extra-heavy crudes in the Orinoco Oil Belt. To this end, both Chambers of the legislative power (i.e., the Congress and the Senate) granted these private oil companies a more favorable tax regime, in addition to the required authorization under Article 5 of the 1975 Nationalization Law.

However, a new Hydrocarbon Law was adopted in 2001 and, from October 2004, a number of measures were taken by the Government of Venezuela to regulate the petroleum industry: (i) in October 2004, the royalty rates were then increased; (ii) in April 2005, the Minister of Energy and Mines issued an instruction declaring that the agreements with the private companies were illegal and setting in motion an orderly process of “migration” of those agreements to the new form of mixed companies required under the 2001 Hydrocarbons Law; (iii) in May 2006, an extraction tax of 33 1/3 % was enacted; and (iv) in August 2006, the income tax rate was increased to 50 %. Additionally, in August 2006, term sheets were prepared for all companies involved in the associations, outlining the proposed conditions for conversion into mixed companies consistent with the 2001 Hydrocarbons Law.

Discussions regarding migration failed to reach fruition, and on January 8, 2007, the President of the Republic announced that all the projects that had been operating outside the framework of the 2001 Hydrocarbons Law would be nationalized. A decree of February 26, 2007 called for the transformation (called “migración”) of the oil associations into mixed companies approved by the National Assembly (this is known as the “Nationalization Decree”).

Amicable settlements were arrived at in most cases, but some companies like the American oil ConocoPhillips and Exxon failed to reach an agreement with the Venezuelan Government and thus were expropriated. Those companies refused to accept the compensation for expropriation offered by the Government and instead filed a request for arbitration with the International Centre for the Settlement of Investment Disputes (an organism belonging to the World Bank). In essence, in this kind of arbitration proceedings, a panel of three arbitrators decide the question of whether there was an unlawful expropriation of a foreign investment. Additionally, they also decide what is the amount of compensation due to the foreign investor. These arbitrators obtain their powers the World Bank, which, in turn, has been empowered to set arbitrations of this nature from a framework of treaties entered into by different countries. In the present case, the two countries involved are The Netherlands and Venezuela, as ConocoPhillips and Exxon – despite being of American nationality – channeled their investments in Venezuela through Dutch subsidiaries. The arbitrations of ConocoPhillips and Exxon against Venezuela are still pending.

As opposed to ConocoPhillips and Exxon, thirty private companies operating in Venezuela were successfully migrated, with financial settlements reached with those that did not. Indeed, BP, Chevron, Shell, Petrobras, Repsol, CNPC, Hocol, Perenco, Tecpetrol, Teikoku and Harvest Natural Resources successfully participated in the migration process and agreed with the Government to remain in Venezuela under the 2001 legal regime.

Sources:

Juan Carlos Sosa Azpúrua, La Apertura petrolera: reprivatización del negocio La Apertura Petrolera en Venezuela, PDVSA Web site (available at www.pdvsa.com)

Mobil Corporation, Venezuela Holdings, B.V. et al. v. Bolivarian Republic of Venezuela, ICSID Case No. ARB/07/27, Decision on Jurisdiction dated June 10, 2010.

Hildegard Rondón de Sansó, En la Haya se juega la credibilidad del arbitraje internacional, Aporrea.org, dated June 1, 2010 (available at www.aporrea.org).

Statoil, Total, Chevron and BP Sign Joint Venture Deals with PDVSA, ALEXANDER'S GAS & OIL CONNECTIONS COMPANY NEWS: LATIN AMERICA, June 26, 2007.

Jorge Rueda, Venezuela Signs Agreements With Foreign Oil Companies to Create Joint Ventures, THE ASSOCIATED PRESS, April 1, 2006.

Chevron CEO: “There are Opportunities to Invest in Venezuela", EL UNIVERSAL, March 19, 2009.

Chevron, Shell for More Investment in Venezuela, PRENSA LATINA, March 19, 2009.