Mexico, Brazil and Venezuela offer opportunities for savvy investors.

Experts place Latin America petroleum financing needs at more than US $225 billion in the next decade. But with political and economic crises in Venezuela, Argentina, Brazil and Ecuador, plus the inability of President Vicente Fox in Mexico to pass critical oil, gas and power legislation, that money may be hard to find.

In the past decade, Latin America's petroleum sector attracted large amounts of foreign investment principally because of:

* complete or partial privatization of state-owned petroleum companies in Argentina, Colombia, Peru and Venezuela;
* liberalization of foreign direct investment laws;
* reduction of import barriers
* adoption of regional free trade agreements; and
* sharply declining reserves in the United States and parts of Western Canada, among others.

Although it has become more difficult for private investors to evaluate opportunities because of Latin America's economic and political uncertainties, it is still considered less risky than the former Soviet Union and the Middle East. Multinational petroleum companies are still interested in the region because it offers a large volume of proven oil and gas reserves. This article will focus on the current investment environment in the three countries in Latin America which contain 80% of the region's proven oil and gas reserves - Mexico, Venezuela and Brazil.

Mexico

Mexico has the second largest oil and gas reserves in Latin America. Its hydrocarbon base is relatively unexplored and underdeveloped. Fox has a strong desire to increase its gas supply to meet a rapidly increasing demand for gas created by the building of new gas-fired electric plants. Unfortunately, however, under Mexico's Constitution, only state-owned Pemex may own oil and gas reserves. Currently, private companies are only allowed to provide technical and environmental services to Pemex.

In late May 2003, Fox announced Mexico's intention to increase its gas production by 50% and its crude oil production by 20% by 2006, primarily by increasing its offshore drilling in the Bay of Campeche.
Mexico is trying to meet the sharply increasing demand for gas through imports and an upstream program aimed at substantially increasing the production of dry gas in the Burgos Basin (which is located near the Texas border), through the implementation of the so-called multiple services contract (MSC) program, introduced by Pemex in June 2002.

To date, foreign investors have not shown much enthusiasm for the MSCs because, under the terms of the MSCs, participating companies cannot pass on extra costs to Pemex, cannot benefit if the market price of gas rises and cannot record the gas reserves produced pursuant to the MSCs as assets on their balance sheets for financing purposes.

However, since the new MSCs are worth an estimated $8 billion and represent the best chance for private petroleum companies to work in Mexico in 65 years, some private companies will almost certainly participate in the MSC program despite unhappiness with some of its key requirements. By participating, they hope to position themselves for larger, more attractive opportunities in the future.

Venezuela

Venezuela has the largest petroleum resource in Latin America, with proven reserves of some 75 billion bbl - not counting 240 billion bbl of heavy oil reserves in the Orinoco Belt. The country's economy is dependent on the success of its petroleum industry. Several unsuccessful efforts to oust President Hugo Chavez have left the company in political and financial turmoil. The country's gross domestic product plunged 29% in the first quarter of 2003, and unemployment is currently at 19.1%. Some 18,000 employees of Petroleos de Venezuela S.A. (PdVSA), the national oil company, have been fired in the conflict between PdVSA and Chavez.

Between 1975 and 1999, many reform initiatives were undertaken by Venezuela's government such as:

* Numerous strategic associations for integrated developments of extra-heavy crude oil from the Orinoco Belt with strong private company participation from companies like ExxonMobil, ChevronTexaco, ConocoPhillips and Total Fina Elf;
* Operational agreements for increasing production in old fields; and
* Exploration and production profit-sharing joint ventures.

Venezuela's new petroleum regime established by these laws requires PdVSA to take a majority interest in all new upstream projects, and contains no grandfathering provision (either for oil or gas) that would expressly confirm the validity of existing projects agreed to with the government under the prior regime. So far, the Chavez Administration has honored the terms of most pre-existing deals.

The new Hydrocarbon Law increases the maximum royalty rate to 30% allowing reductions to 20% for some heavy oil fields. In contrast, the Gas Law provides for a flat 20% royalty rate.

These higher royalty rates will increase the government's take from the oil sector and make investment less attractive for foreign investors. Some have claimed that the new legislation does not render capital-intensive heavy crude projects economically viable.

Many experts believe the PdVSA's strike and the subsequent dismissal of 18,000 highly skilled PdVSA employees by the Chavez Administration will have a huge adverse effect to Venezuela's economy. Because of this, Venezuela will have little choice but to open a large number of its petroleum industry operations and businesses to international private investment and participation under terms which will be competitive.

A recent example of this is the award of various gas licenses in certain areas offshore of the eastern territory of Venezuela, in the Northern Gulf of Paria (mid-2001) and in the Orinoco Deltana Platform next to Trinidad (2003) to ChevronTexaco and Statoil.

Petroleum companies operating in Venezuela are continuing to carry out existing commitments and are trying to "tough" it out. All of them, however, have doubts and concerns about the future of the country's petroleum industry if the Chavez Administration remains in power, even though the government has made progress in returning oil production to pre-strike levels. They will be cautious about new commitments until a few important issues are clarified and Venezuela creates a far more stable economic and political environment.

Brazil

Brazil has numerous, large, unexplored billion-barrel-potential oil fields, particularly in the ultradeep offshore areas like the Campos Basin. It has oil reserves of 8.4 billion bbl, which is third only to Venezuela and Mexico in Latin America. There is a good variety of play types, from the rehabilitation of oil onshore oil fields to high potential exploration plays.

After it was formed in 1997, the independent industry regulator, Agéncia Nacional do Petróleo (ANP) announced that 92% of Brazil's sedimentary basins would be offered for competitive bid. Royalties are currently set at 10% of gross revenues, but can be negotiated down to 5% depending upon the economics of each discovery. The decline of the value of Brazil's currency has been positive for the petroleum industry since it has reduced operating costs. Moreover, Brazilian oil and gas concession agreements now allow operators to export their oil production and thus realize their profits in dollars.
Foreign investors bid for specific oil and gas blocks during rounds promoted annually by ANP. Following a bid round, the winning company enters into a concession agreement with ANP, whereby ANP will establish the rights and obligations of the concessionaire for the phases of exploration, development and production of gas, among other things. Only companies incorporated in Brazil or consortia of Brazilian-formed companies can be granted oil and gas concessions.

Following the first exploration and production bid round in 1999, criticism arose that Petrobras had retained the best acreage and remained a partner in most of the blocks won through competitive bids.
The second bid round (June 2000), third bid round (June 2001) and fourth bid round (June 2002) attempted to diversify participation by offering smaller blocks. These were awarded mainly to mid-size and smaller independents. Frontier deep and ultradeep offshore blocks were won by the international majors and large independents. Petrobras heavily dominated each of these bidding rounds. However, in spite of government efforts to make the annual bidding rounds more attractive, the number of tracts and the dollars bid have declined.

All activities within the oil and gas industry are regulated by the Ministry of Mines and Energy, the National Council for Energy Policy and ANP.

In 1998, the only petroleum company operating in Brazil was state-owned Petrobras. Today, there are more than 40 producers there, including such independents as Devon, Samson, Kerr-McGee and Newfield Exploration.

In spite of the government's declarations of welcome for foreign investors, new rules requiring greater local content on projects reduces the attractiveness of working in Brazil. State taxes, such as the 18% tax recently enacted by the State of Rio de Janeiro, also impose higher costs on operators.

On the positive side, Petrobras recently announced a handful of strong discoveries offshore in the Northern Campos Basin. Those discoveries should offset some complaints that no operator had found a large field offshore Brazil since the discovery of Roncador in 1996.