Oliver L Campbell : Liquid natural gas -- A tale of two countries

Former Petroleos de Venezuela (PDVSA) Finance Coordinator Oliver L Campbell writes: Many people are asking what Venezuela can do to mitigate its present predicament brought on by the fall in oil prices. The 2009 budget is based on receiving an average export price of $60 a barrel and this looks increasingly unlikely as Venezuela 's oil basket is currently yielding around $30 a barrel. We have to wait and see what effect OPEC'S production cut of over four million barrels per day will have on oil prices, but it certainly makes sense for Venezuela to see where bureaucracy can be reduced and/or other income can be generated. The President has stated social expenditure will not be reduced, and he believes substitute income can be obtained from gold mining, cocoa production and tourism.

The idea is fine, but let us consider its practicality. The first problem is that the lead time for construction, planting and infrastructure is considerable. The delay on deciding the structure of private/state participation in the Guayana goldfields means development is at a standstill. A good example is the Crystallex International project which, had it not been plagued by indecision, could now be producing gold. At this rate, it will be years before gold produces any substantial income for the country.

Certainly Venezuela harvests some of the best cocoa in the world and was once a major exporter. The world's appetite for chocolate seems insatiable, but other countries are better placed to meet the demand. The Ivory Coast is by far the largest producer and its neighbour Ghana is next. Between them, they produce some 60% of the world's crop. Ghana has ambitious plans to increase production by close to a one million tonnes by 2010. Venezuela will find it tough to compete with these countries which already have a dominant market position.

This leaves us with tourism from abroad which is the least likely to provide Venezuela with any significant foreign income. Holidaymakers choose places where it is reasonably safe to travel and Venezuela has a poor reputation. The UK Foreign Office advice states, “The incidence of street crime in Venezuela is high. Armed muggings and "express kidnappings" are a regular occurrence. You should exercise caution at all times.” Another problem is that of indecision as regards which class of tourist to attract. President Chávez favours tourism of the “working classes” i.e. of the type that already exists in the Isla de Margarita. These are mainly tourists who arrive on charter flights as part of a package holiday. They enjoy the sun, good beaches and limitless free drinks at their hotels, but are not big spenders locally. The other option of attracting the big spenders means creating the infrastructure such as exists in the Caribbean islands of Aruba , Bahamas , Barbados , Jamaica , St Lucia , etc. My advice is to forget about foreign tourism except for one type and that is eco-tourism. For that, people are interested in the flora and fauna, which abound in Venezuela , and they do not expect four star hotels, marinas and golf courses.

Having poured cold water tourism because of the small contribution it is likely to make, and on gold and cocoa because of the long lead times to produce results, let me propose an alternative which also requires a long lead time but will generate substantial foreign income. It is too late this time round, but the country should do what it could have done many years ago and that is to produce natural gas, liquefy it and sell the LNG in the export market. The Cristóbal Colón project to liquefy natural gas, renamed Gran Mariscal de Ayacucho after Christopher Columbus fell out of favour, has been on the drawing board since 1989 when a joint study by Shell and PDVSA showed LNG development would be profitable.

PDVSA has procrastinated for 20 years though, to be fair, some delay occurred because, under a rticle five of the Oil Nationalisation Law, the approval of Congress was required for setting up a joint venture, and there were political objections to foreign companies being involved in the project. However, in 1990, Shell, Exxon and Mitsubishi were invited to form a joint venture. This did not prosper--Shell and ExxonMobil were subsequently dropped and then Petrobras, an alternative partner, had second thoughts about taking part. Since that time, PDVSA has had trouble attracting partners with the know-how prepared to take the risk.

The problem has been threefold: 1) determining the quantity of the gas reserves, 2) agreeing what proportion of the gas would be liquefied for export, and 3) deciding on the price of the gas for domestic use. The quantities of offshore, non associated gas are huge but they still had to be quantified. The second point was crucial since the partners would only make money from the LNG exports. The third complication was that gas required for domestic consumption and the petrochemical industry would have priority and, furthermore, the prices would be heavily subsidized. This left potential partners with too many unknowns, and the project has only just got off the ground with PDVSA taking a major stake.

Contrast this with Trinidad and Tobago (T&T) who are far ahead of Venezuela on the development of gas production. They completed their first LNG plant and made their first shipment in 1999 and, by the end of 2006, they constructed three more. In 1990, gas generated 10% and oil 90% of hydrocarbon revenue, but in 2002 gas produced 58% and oil 42%. Since then, the proportions have varied because oil prices have increased ahead of gas prices.

From its four trains at Fort Fortin , the joint venture company, Atlantic LNG, is the single largest supplier of LNG to the USA . Sales of LNG have steadily increased since 1999 and in 2006, the latest figure available, they reached $4.4 billions 1 . It is remarkable that in 2006 this small company produced seven percent of the world's LNG production. The message is loud and clear--T&T have made the most of their gas resources while Venezuela has not.

T&T's volumes are modest when compared with Venezuela 's gas potential and PDVSA must now regret not matching T&T's development of liquefied gas. Had PDVSA not delayed the Gran Mariscal de Ayacucho project, Venezuela could now be benefiting from LNG exports. Not only that, but gas production is not subject to OPEC quotas and sales of LNG would not have been affected by the recent cuts in oil production quotas.

PDVSA'S procrastination did not seem important while oil prices remained high and Venezuela enjoyed high revenues, but it has now been caught napping with the sudden drop in oil prices. The delay in the construction of the liquefaction plant means PDVSA has no alternative source of income immediately available. Mr Jeroen van der Veer, President of Royal Dutch Shell, gave a clear hint on the importance of gas when he said, “Shell is an oil and gas company but soon it may become a gas and oil company.”

Oil prices will pick up again -- the question is how long this will take -- but, in the interim, it is lamentable that natural gas will not produce export income to help Venezuela over a difficult period. It is a recognised failure of state companies that they take a long time to make important decisions, but PDVSA has really no excuse for delaying the LNG project for 20 years.

PDVSA has just reduced the number of drilling rigs and will place less effort on oil production while capacity is shut in following the cuts ordered by OPEC. This must be the time to switch drilling effort to producing non associated gas. It is also necessary to get the Gran Mariscal de Ayacucho project up and running quickly so as to have a backup for the next time oil prices fall. Russia has just cut gas supplies to the Ukraine and this has affected several other countries. The European Union will be looking for ways of becoming less dependent on Russian gas, and one way will be to enter into long term contracts for the supply of LNG.

LNG has a great future for power plants and industrial and domestic use, and now is the time for Venezuela to get on the bandwagon. If T&T could make sales of $4.4 billions back in 2006, there is no reason why PDVSA should not surpass that figure in the near future. LNG exports have more potential for producing additional income than gold, cocoa or foreign tourism.

Reference: A Guide for Monitoring the Management of Oil and Gas Resources in Trinidad and Tobago by Gregory McGuire, Dennis Pantin, Dale ames and Navin Seeterram (September 2008).

Oliver L Campbell
oliver@lbcampbell.com

Oliver L Campbell, MBA, DipM, FCCA, ACMA, MCIM was born in El Callao in 1931 where his father worked in the gold mining industry. He spent the WWII years in England, returning to Venezuela in 1953 to work with Shell de Venezuela (CSV), later as Finance Coordinator at Petroleos de Venezuela (PDVSA). In 1982 he returned to the UK with his family and retired early in 2002.