Snags delaying 'oil city'

Like nearly everyone else in this sleepy fishing town, unemployed former soldier Miguel Fernandez is eagerly anticipating the massive "oil city" that President Hugo Chavez has promised to build here on the banks of the Orinoco River.

"There was a rumor last week that the first well was being drilled. Half the town rushed out there looking for work," Fernandez, 23, said. But the project was only a small field test, and there were no jobs. "We were all disappointed."

Chavez's vision for the huge new oil complex 400 miles southeast of Caracas will cost $36 billion and ostensibly add half a million barrels of oil a day to Venezuela's output by 2012, reversing a decade-long decline in output.

At a time when the search for crude is becoming more and more tricky, sending oil companies into deep water and risky political arenas, the petroleum industry sees Venezuela's oil venture as a relatively defensible bet despite the unpredictability of the Chavez regime. Nineteen international firms, including Chevron Corp. of San Ramon, Calif., paid $2 million each for the right to bid on exploration of the oil fields that Soledad will serve.

The Soledad complex will resemble an oil city called Jose built in the mid-1990s on the Caribbean coast that opened up exploitation of vast reserves of heavy oil in Venezuela's Orinoco Belt, a region that includes Soledad. The project helped Venezuela become the third-largest exporter of crude to the U.S., after Canada and Mexico, a ranking it holds despite a 30% production drop since 2002.

The Soledad venture is to include seven major oil fields, hundreds of new oil wells and three processing plants to make the Orinoco's heavy crude, which has the consistency of tar, easier to transport by pipeline. (That's done by mixing in a kerosene-like substance that thins out the oil.) Thousands of jobs would be created in this depressed farm and cattle area.

But Fernandez and other Soledad residents will have to wait longer than they expected for the good times to roll.

The bidding to explore the oil fields -- called the Carabobo auction -- was just delayed for the second time, a reflection of investor nervousness over the financial terms, doubts about the socialist Chavez government and concerns about the global economy.

Oil Minister Rafael Ramirez, in announcing the delay two weeks ago, acknowledged that bidders were trying to renegotiate project terms, which include the requirement that investors forfeit any right to take contractual disputes to international arbitration.

That's an important deal point because Exxon Mobil Corp. and ConocoPhillips have brought billion-dollar claims against Venezuela since 2007, the year Chavez forced foreign oil firms to cede operating control and majority ownership of Orinoco projects to the state oil company Petroleos de Venezuela, which is known as PDVSA.

Rather than yield, those U.S. oil giants abandoned the country and are asking international tribunals to force Chavez to compensate them. Several others, including Chevron, agreed to Chavez's conditions and are still pumping.

Investors also are wary of Chavez because of his decision this year to nationalize the assets of more than 70 oil field services companies, including many U.S. firms working in Venezuela. In the nationalization, PDVSA essentially will choose which assets -- boats, pumps, drill platforms and so on -- it wants and then tell the companies how much it will pay for them. Estimates of the assets' total worth range from $3 billion to $7 billion.

According to two people who have seen the information packets that PDVSA delivered to the Carabobo bidders, oil companies also are balking at bankrolling the Venezuelan government's majority interest in the projects. Chavez won't fork over any cash to build the massive infrastructure that an undeveloped area such as Soledad will need, such as roads, barges and pipelines.

Although PDVSA will receive an immediate 51% to 60% stake in the projects, it won't spend a dime of its own cash to make the oil city materialize.

Still, insiders are optimistic that investors and PDVSA eventually will agree and that the bidding will be held this year.

For one thing, the bidders, which include Russian, French, Japanese, Indian, Colombian and Brazilian oil companies, see drilling for oil in the Orinoco Belt as a sure thing. Several studies confirm the presence of vast -- even "infinite," as one observer put it -- supplies of difficult-to-manage but readily accessible crude.

"There is no geological risk," said one person, who like others involved in the bidding spoke on condition of anonymity because they weren't authorized to speak on the record. "You know you are going to book the reserves and produce the oil. The variables are cost and the risk stemming from the unpredictability of what Chavez will do."

As inhospitable as Chavez may seem to foreign investors, the relatively few opportunities for oil development elsewhere can be seen as even riskier, whether it's the geological jeopardy of deep-water drilling in offshore Brazil or Angola, or the political risk of drilling in Nigeria and Colombia amid rebel insurrections.

As much as Fernandez could use the work that an oil city would generate, Chavez needs the oil to fuel an economy in which half of all goods and services produced are connected to crude. Venezuela's average output has fallen more than 1 million barrels a day -- to an estimated daily average of 2.2 million -- since a crippling oil strike at the state-owned oil company earlier this decade.

The high price of oil in recent years has financed Chavez's socialist agenda even as production has fallen. Now, the global economic crisis and forecasts that crude prices could collapse this year have created a sense of urgency for new developments.

Chavez needs large amounts of cash to finance his ambitious welfare projects at home and oil giveaways abroad. But he could be facing a 40% decline in oil revenue this year because of last year's price plunge, said economist Jose Manuel Puente, a professor at Instituto de Estudios Superiores de Administracion in Caracas.

After peaking above $145 a year ago, crude oil prices have settled around $70 a barrel.

Other signs of financial strain are the fact that the government has taken out $17 billion in additional debt in 2009, nearly triple the amount forecast. Chavez's budget is bleeding red ink and his trade deficit is widening, which has led to extreme measures to cut imports, Puente said.

"Times are tight," Puente said. "But even with lower oil prices, Chavez has room to maneuver. He can adapt."


Kraul is a special correspondent.

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