A good bet

The law firm has worked with Colombia’s oil and gas industry on major mergers and acquisitions, such as with Pacific Rubiales (now Pacific E&P), and Neher sees more of these in the future.

• On offshore exploration: To build up Colombia’s reserves you have to discover them now and have a production project now. That you can do onshore if you allow more actors to enter the market; it’s as simple as that. That is the task of Colombia in the next year and a half. Offshore is phenomenal, but that is long-term and much more sensitive to the price of the commodity than onshore production that already exists.

• On reaping the benefits of the peace process: To some extent, the Colombian government has been a pro-business government for a long time. If you compare it with other Latin American countries, Colombia’s institutions work very well. And the peace process has been sold internationally as an incentive to bring more investment.
Now, the proof is in the pudding, so it is important to remove the barriers in the field, which at the moment are zoning, communities, and environmental and entry requirements.

• On Venezuela: Of course, the oil situation in Venezuela has been very beneficial for other countries. I believe that the first beneficiary has been Colombia as a destination for investment and human talent. It has also helped countries like Peru, Argentina and Brazil. We are neighbours, so when the situation changes in Venezuela, it is not far to move.

Neher argues that Colombia’s most pressing need is to increase its reserves, as the reserves to production ratio has dropped significantly – however, he sees this happening onshore. Offshore, while potentially lucrative, will take much longer to develop. He emphasises that in order to do this, Colombia must clean up its legislative act and make it easier for companies to enter the market, particularly the juniors which have historically been the mainstay of the Colombian hydrocarbons industry. Most TOGY interviews are published exclusively on our business intelligence platform TOGYiN, but you can find the full interview with Jorge Neher below.

What is the present state of the oil and gas industry in Latin America?
After two years of low prices, the landscape in Latin America is of many companies with interesting assets, but in need of funds and with little capacity for negotiation. There is a certain appetite again from risk capital for investing in this type of projects, therefore it is a good match.
Bank financing is still dicey; what we are seeing most is basically private money, venture capital funds, family offices and a bit of flow of investments across the capital markets in Latin America. Right now we are working with a company with oil and gas assets in Colombia and Argentina that is going to be listed on the stock exchange in Toronto. This is an important sign that there may be a new cycle of acquisitions and investments in oil and gas in Latin America, especially in exploration.
During the time of low oil prices, exploration was the first thing that was limited. In the specific case of Colombia, this has been dramatic because the ratio between production and reserves here has dropped substantially, and production has gone down. Colombia went from producing 1 million barrels [of oil per day] to producing a little more than 800,000 barrels per day on average, a decrease of 20%. However, its ratio of reserves to production that was previously seven years, is now about five.
For example, Ecopetrol had a decent economic performance last year, but it lowered its reserves a lot with respect to its production. Companies and the country in general have to try to recover their levels of reserves.
On the other hand, there are other countries that have the opposite problem. In Colombia, for example, there is too much production for the reserves it has, and there is not much exploration. In other countries, such as Ecuador, there is very little production for the reserves it has. Ecuador used to produce half a million barrels [of oil per day] and now it must be around 600,000 barrels, with a reserve of 8 billion barrels. In Colombia, the reserves do not reach even 3 billion barrels. Destinations like Ecuador are very interesting for companies that are looking for projects since there is more availability of areas with reserves or resources than they can get in Colombia, for example.

How is Colombia faring in comparison with its neighbours?
In Ecuador, we are doing the financing of a mining project. It is [worth] USD 800 million, a big project. I am sure that if there were an oil and gas project in the same stage of development in Ecuador, there would be an appetite for financing both from funds and banking. In Colombia we are not seeing those levels of financings back, just yet.
There is also Venezuela, which always attracts big investors. However, those are high-risk tolerant investors . The other motivation is big companies that are settled in Venezuela, which, although they are not making much money, [are] simply maintaining a [position] in Venezuela waiting for the situation to change. When Venezuela´s regime changes, there will be a significant investment flow in that market.
Then there are countries like Argentina, whose political reality did not allow or encourage investment, and now can be an important investment destination. Additionally, Mexico had a very ambitious oil and gas opening programme, which the circumstances of the oil price has made slower than expected, but still successful. Mexico now has to go through the test of fire with operations in the field, which include navigating problems with communities and environmental permitting. It will be interesting to see [what happens] in Mexico.
Peru, which unfortunately lost the window of opportunity before 2008 in the development of its industry and has never been able to catch a break, has done things more or less well. However, the Peruvian sector is a very grassroots sector. It is not a simple sector because most of the reserves are on the Amazon side with little infrastructure. [Peru] tried to build infrastructure, such as the Northern Peruvian pipeline, but since no one used it, the pipeline is now in disrepair. Even those who want to use it can’t. That said, if you are a company with faith in the market and with appetite for grassroots projects, Peru is a very cheap and prospective [market] to enter.
There is also Brazil, which is doing its best to encourage investors to continue investing as much as onshore and offshore. However, Brazil’s political instability is a very important deterrent for investors at the moment. That said, there are always investors who want to risk it because Brazil is an important market and prices are not bad.
That is why we think that our practice will resume the mergers and acquisitions and financial activities this year and next, at least assuming that the price of oil remains above USD 50 or 55 per barrel. If it reaches USD 65, we will see much more activity. Of course I hope there are no restructurings, but if the price of oil goes down, we will see new restructuring in the sector.

What additional challenges do E&P companies have in financing their ventures in Latin America?
In some Latin American countries, like Colombia, geography is a big challenge. Companies that have a project not only have to worry about producing oil, but they have to worry about how to transport it and how to export it because there is no infrastructure. They have to make a pipeline, they have to make a terminal and they have to make ways for the trucks to pass. During the years of high oil prices, several infrastructure projects were advanced. However, with lower oil prices, projects which need midstream infrastructure as part of their capex requirement, may be uneconomical.
In the region, Argentina has developed a fairly decent infrastructure, Peru made an investment in state infrastructure. What Ecuador has made in recent years in terms of infrastructure is phenomenal, especially in roads, airports and hydroelectric plants, but also several pipelines. They are heavily indebted to China, but they have something to show for it. Venezuela is also heavily indebted to China, but you can’t see anything.
Debt, as long as the asset is there and helps produce to pay the debt, works. Debt where the asset is not seen and cannot help pay the debt does not work. For example, in Venezuela, they indebted themselves to China terribly to raise their oil production, but despite such debt oil production has been dwindling and now it is close to 2 million barrels per day, while in 1998 production was 3.5 [million] or 3.7 million barrels.
Of course, the oil situation in Venezuela has been very beneficial for other countries. I believe that the first beneficiary has been Colombia as a destination for investment and human talent. It has also helped countries like Peru, Argentina and Brazil. We are neighbours, so when the situation changes in Venezuela, it is not far to move.

What do you think will be the effect on Colombia if things change in Venezuela?
Venezuela and Colombia were trading partners at a very significant level. The only bigger trading partner Venezuela and Colombia had was the United States, and now that flow has come down a lot. I think Colombia would benefit a lot if there is a change of regime in Venezuela from a bilateral trade and investment perspective. However, perhaps the investments in specific sectors that would have come here would go there.

Do you see Colombia as currently being open for foreign investment?
To some extent, the Colombian government has been a pro-business government for a long time. If you compare it with other Latin American countries, Colombia’s institutions work very well. And the peace process has been sold internationally as an incentive to bring more investment.
Now, the proof is in the pudding, so it is important to remove the barriers in the field, which at the moment are zoning, communities, and environmental and entry requirements. The government must also work with the courts so that they know how [the industry] works and how it helps or contributes to the well-being of the communities in which it operates.

Do you expect an increase in mergers and acquisitions in 2017 within the exploration segment in Colombia?
Yes, indeed. It is clear that there are a lot of assets, or there are a certain amount of more or less decent assets, at very attractive prices. The few companies in the sector that have done well, have financial capacity and are in an enviable situation. Not only Gran Tierra, also Parex, Canacol, and Geopark, for example. These companies have lots to gain from their financial strength and the low-hanging-fruit acquisition opportunities in the country.

What is the current position that Pacific E&P finds itself in?
After its successful reorganisation they have to define how [the company] will grow and how it will replenish reserves. Natural resources companies that do not replenish reserves are dying. However, Pacific is Colombia’s second-largest producer by far and has a very important portfolio of assets in Colombia and a portfolio of assets abroad, which may be interesting.

Do you see financing coming from private investors in the Colombian market?
There are different cases. Canacol, for example, just refinanced its debt with banks, so it’s a sign that at least the banking sector sees the company [as] viable and there is a possibility for the flow of funds.
On the other hand, evidently there are funds and other specialised investors, both in equity and debt. We recently saw a company that raised USD 45 million to invest in three projects in Colombia and will do a reverse takeover to get a Toronto listing. It also has a project to make an equity financing to acquire properties in Argentina. That is a very clear sign that there is investor appetite in the sector.
If you go a little to the sibling sector of mining, I see how RK Mine Finance has just financed the Buriticá gold project for USD 250 million, plus USD 25 million in equity, which is the largest gold mining project that has been financed in the last two or three years in Colombia. That project is not done by a bank. It is a fund, but it is debt financing with an element of equity. Basically there is availability and appetite for such projects in Colombia.

How has the National Hydrocarbons Agency (ANH) made licensing conditions more attractive in the country?
The ANH, if you compare it with other regulatory agents in the hydrocarbons market in Latin America, has been very proactive in trying to make conditions more flexible for investors to continue investing in a low price environment. Possibilities of making more flexible guarantee terms and investment commitments from one area to another are initiatives that the ANH took in the last two years that have not been very common in other countries of Latin America. We need to give them credit for that.
However, the country has faced other challenges, such as the situation with communities, new zoning and environmental regulations that make it difficult to start operations and the very liberal interpretations that have been made by the Colombian high courts on the field of application of prior consultations. These have generated a climate of uncertainty that has not helped to materialise investment.
On the other hand, the ANH has also realised that the systems of granting rights under the typical auction process used in previous rounds is no longer the most efficient. It is now possible to grant exploration and exploitation titles directly. That is a great initiative.
An area for improvement is the ANH rules providing for the qualification systems of operators and investors in the oil sector, which are quite demanding. We find many cases where there are investors who have the money to invest in a project whose owner is not in a position to invest, but the operation cannot be advanced because the new investor does not meet the requirements to be an operator according to current regulations. I think this kind of thing is the next challenge. A specifically regulatory challenge will be making more flexible the terms of operating and holding E&P contracts in Colombia. That is in ANH’s corner.

When do you think the ANH will implement these types of changes?
At the moment the ANH is working on a regulation to consolidate all the regulations in oil matters. However, such consolidation should not impose higher requirements to existing operators and investors, but should allow for flexible terms for new operators and investors to access the sector.
Again, Colombia is not a country of large deposits. If the Colombian state is waiting to grow the sector with majors, they won’t achieve it. Here they need to make room for juniors to come and spend their money. Some will succeed and others will not, but that’s the game.
Here a company is an important producer with 30,000 barrels per day of output, while a project that produces 30,000 barrels in Venezuela is small potatoes. The majors have many more opportunities from the geological point of view in Venezuela than in Colombia. Here it is necessary to encourage the entry of others that are not the majors, and if these others want to enter, then perfect. Colombia can’t forget that the largest private company in the country, which at one point came to operate a third of the country’s production, was Pacific Rubiales, a company that began as a junior.
We have dozens of examples of juniors who want to enter, but since they don’t meet the requirements it is much more difficult. Others try to do it in a contractual way, but obviously such structures, when you are going to try to finance them, are perceived as much riskier than record-holding E&P companies.

Do you see the future of hydrocarbons exploration in the onshore or offshore sector?
The state has promoted offshore [exploration] and the regulations there are more or less competitive. However, offshore is a bet on the future. To build up Colombia’s reserves you have to discover them now and have a production project now. That you can do onshore if you allow more actors to enter the market; it’s as simple as that. That is the task of Colombia in the next year and a half. Offshore is phenomenal, but that is long-term and much more sensitive to the price of the commodity than onshore production that already exists.

What is the state of disputes between governmental bodies and private companies in the oil and gas industry?
In general, the government is conciliatory and does its best to try to keep the processes flowing. On the other hand, there are important controversies, for example, what we saw with Hupecol in La Macarena where the company invested a significant amount of money, received the environmental licence and two days later the government revoked it out of political pressure and without valid technical reasons. That is very serious.
To that end, there are mechanisms for internationally solving such controversies that some companies have already used in the hydrocarbons and mining sectors, such as the mechanisms provided by unilateral and multilateral investment protection treaties signed by Colombia.
For instance, there is the free trade agreement with Canada that has an investment chapter including ways to resolve disputes about investment claims of Canadian companies doing [business] in Colombia and vice versa. The government has dedicated an office of defence for the interests of the state, which seems to me a good initiative, to try to negotiate and reach agreements or to litigate these disputes. You have to take care of that kind of thing because when the market sees that the state does not provide solutions to legitimate investors’ claims, it downgrades such country as a destination for investment.

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