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PdV’s downward spiral

Venezuela’s oil industry is cracking under the pressure of a domestic crisis and low oil prices

State oil company PdV is stuck in a downward spiral and nothing indicates it will pull itself out anytime soon.

The oil-price collapse hit revenues hard, crimping the company's ability to invest, which has led to a steep drop in production, in turn compounding the fall in revenues and making it even more difficult to find the cash needed to stave off further output declines. It is hardly alone in struggling with weak prices. But an economic crisis at home, huge debts to oil-service firms and bondholders, and oil-for-loan payment commitments to China set the company's troubled state apart and mean it will take much more than just an uptick in prices to right the ship.

The production decline over the past year has been staggering. From May 2015 to June this year, the company has seen output fall by almost 400,000 barrels a day, or 14%, to 2.36m b/d. That's according to figures Venezuela reports to Opec-most outside estimates put the overall production figure even lower, but reflect a similar decline. Even if PdV were able to stabilise output at present levels, the $40-a-barrel price Venezuela's oil fetches on international markets would still see it lose nearly $3bn in badly needed income over the second half of the year.

To give context to Venezuela's supply problems, consider that the US-widely seen as the price war's biggest casualty has seen output fall by 9% over the same period.

Deep pain

The production slump is concentrated around mature light-oil producing fields in the east of the country, especially the Furrial and Carito fields, as well as the Lake Maracaibo fields in the west. These ageing fields need complex and costly gas- and water-injection operations that PdV has struggled to manage for years. Total light oil production across the country fell 10% in 2015 from the year before, to 374,000 b/d, and is down nearly 30% from 0.511m b/d in 2011, according to the company's recently released annual report.

The loss in light oil output hurts PdV on two fronts. One, it sells for about $10/b more than the country's heavy crude grades. Second, PdV increasingly relies on domestic light oil to blend with new production from the Orinoco heavy oil projects. The less domestic supply available, the more light oil PdV has to buy from abroad to ensure supply for its refineries and heavy oil projects. The added cost of importing light oil undermines the economics of the new Orinoco projects and saps crucial dollars from PdV's treasury.

PdV's deteriorating relationship with major international service companies, on which it relies heavily at technically difficult mature projects, is also weighing on the industry. As the services sector has fallen on hard times, Schlumberger, Halliburton and Weatherford have all scaled back their Venezuelan operations because of mounting unpaid debts. The national oil company owes them more than $20bn.

PdV's resourceful president Eulogio del Pino has proposed securitising the service companies' commercial debt-es-sentially turning their bills into financial instruments. Given the few options the service companies have to collect, they are likely to be open to the idea. But they aren't likely to rush back into the country. A proposal from president Nicolas Maduro to create a new military-led services company, known as Camimpeg, to fill in for retreating international companies would do more harm than good.

Mounting debt payments will also siphon cash away from oilfield investments. PdV faces a total of around $5.6bn in debt maturities this year and $7bn in 2017, according to Moody's. Moody's considers it "very likely" the company will default on one of the repayments, which would plunge the industry into a crisis not seen since the 2002 oil strike.

Then there are the barrels that PdV has to send to Chinese companies to re-pay around $50bn in oil-for-loans deals. Those shipments jumped to 0.627m b/d in 2015 from 477,000 b/d the year before. PdV paid back $6.35bn to China last year, bringing the total to $35.24bn since 2007.

Venezuela has sought a grace period on principal repayments under those deals to help free up cash to make its bond payments. It is likely to find a willing negotiating partner. China has little interest in helping to tip its biggest ally in the region into default, so it is likely to ease the terms of the deal. But Venezuela is also pushing for a new $5bn tranche of loans from Beijing, which is less likely to be forthcoming.

It all leaves little left over to deal with the problem of falling output. Even if prices stabilise above $50/b the billions of dollars locked up in payments elsewhere will undermine a recovery. PdV has aver-aged a monthly output decline of 30,000 b/d over the past year. That is likely to accelerate as PdV's financial position further deteriorates. Expect to see Venezuelan output fall below 2.1m b/d by the end of the year without a major turnaround.

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