Oliver L Campbell :
Arbitration Award Mobil versus PDVSA (II)
The recent award of $908 million in the Mobil case has given rise to much comment in the press. A common theme is that the award was much lower than had been expected. But then we learnt there were two parallel cases under arbitration: 1) Mobil versus PDVSA for breach of contract, and 2) Mobil versus the Republic under the Bilateral Investment Treaty (BIT) with The Netherlands. The first case was heard at the International Chamber of Commerce and some experts assert the award is only for breach of contract and does not represent compensation for the assets expropriated. PDVSA'S lawyers question this opinion and believe it covers compensation so the matter is far from clear. The second case is still in progress at the International Centre for Settlement of Investment Disputes.
When the assets of the international oil companies were expropriated, Venezuela said compensation would be based on the net book value for tax purposes. Those companies, including Chevron, Statoil and Total, which wanted to continue in Venezuela had no option but to accept this condition. However, those that walked away, like Conoco and Mobil, wanted something more than net book value. It is believed the latter's assets amounted to some $750 million and that PDVSA had offered compensation of around $1billion. ExxonMobil considered this insufficient and decided to go to arbitration. The company initially claimed some $12 billion, but Mobil's lawyers had made the bad mistake of not protecting its Venezuelan investment through a BIT. It was only in October 2005 that Mobil formed a new company under the laws of The Netherlands which, through a chain of companies, owned the Cerro Negro and La Ceiba investments. The Tribunal ruled that claims pertaining to the period before the BIT came into force in 2006 could not be accepted. This meant Mobil could not claim compensation for the increase in the royalty rate and income tax from October 2004 and, as a result, ExxonMobil reduced its claim from $12 billion to $7 billion.
One commentator has called this claim "outrageous" but without giving reasons or substantiation. It much depends on which side of the fence you are on. The BIT with The Netherlands states "Such compensation shall represent the market value of the investments affected immediately before the measures were taken or the impending measures became public knowledge, whichever is the earlier." This is certainly not net book value. Should it be construed as the replacement cost of the assets, then drilling costs have shot up and so have the costs of constructing new refineries--a crude upgrader has many characteristics of a refinery--so that the replacement cost of the wells drilled and the upgrader could be $2 billion or more.
However, I believe the Republic and ExxonMobil hold two very different views: Venezuela considers it to be the expropriation of assets, while ExxonMobil considers it to be the expropriation of a business and so has included an element to compensate for the loss of future earnings. Under classical economic theory, the latter is the value, discounted to the present day, of the loss of future net profits. This is not easy to establish since it involves making several assumptions about the future, but the loss of earnings remains a fact. The recognition of "lucro cesante" is anathema to PDVSA and the Republic, but market value can arguably incorporate an element for lost profits. The original contract was for 35 years and $7 billion divided by, say, 25 remaining years works out at $280 million per year. This is still a high figure but whether it is "outrageous" is debatable. I hold no brief for either party and my only intention is to emphasise the expropriation of assets and the expropriation of a business are quite different things. The important factor is if the arbitration panel will allow for any loss of earnings or whether they will equate market value with asset replacement cost.
I assume they will be guided by precedents in previous cases.
An interesting point for accountants is that the $1.5 billion set aside for claims in PDVSA'S books only covers claims against PDVSA and not those against the Republic. This means it covers the $908 million awarded by the International Chamber of Commerce but not any award that may arise from the case before the International Centre for Settlement of Investment Disputes where the Republic is the respondent.
As an ex employee of PDVSA, I am pleased the company has been fortunate with the award of such a low sum. However, we now have to wait and see what the award is against the Republic under terms of the Bilateral Investment Treaty. Some lawyers believe this second award could be considerably higher.
Oliver L Campbell
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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. Petroleumworld does not necessarily share these views.
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Petroleumworld News 01/02/2011
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