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Colombia - Attractive for Oil & Gas Exploration & Development

Richard Reinhard
November 15, 2005

Colombia is a country of significant natural resources, endowed with substantial oil reserves along with major deposits of gold, silver, emeralds, platinum and coal. It has also been ravaged by a decades-long violent conflict, involving guerrilla insurgencies, drug cartels and gross violations of human rights. Needless to say, this has deterred investors and tourists alike.

What may be less known is that the economy has been gradually and relentlessly transformed since 1999 in the aftermath of the country's worst economic crisis in 30 years. The result is real economic growth of 4% per year, unemployment down to 12% from over 20%, the public deficit down to a low 1.3% of GDP, inflation down to 5.5% - the lowest level in decades, a steep decline in the poverty rate, a strengthening peso and recovering banking sector. Recently, the IMF commended the Colombian government's pursuit of sound policies and structural reforms, and the resulting lowered country risk premium. Violence has been dropping significantly due in large part to the "get tough" attitude of the current president.

When President Alvaro Uribe came to power in May 2002, he was the first candidate ever to win a first-round political victory. He continues to enjoy high approval ratings. A Harvard and Oxford-educated lawyer and staunch Roman Catholic, he is considered hard-line and right-leaning, a workaholic and a disciplined scholar. He is a survivor, having been elected mayor of Medellin in 1982 and governor of Antioquia 1995-97. His father was a wealthy landowner, killed when FARC rebels tried to kidnap him. Mr. Uribe himself has survived a handful of assassination attempts.

Mr. Uribe has had much success in stemming the murder and kidnappings, simultaneously engaging in formal peace talks with far-right warlords, seeking international mediation, courting U.S. military and financial assistance, boosting the military and police presence, and launching major offensives against the various violent elements.

The U.S., a key market for Colombian cocaine, has increasingly bankrolled the fight against the drug cartels in particular, with billions of dollars, equipment, manpower and expertise. Colombia is the third-largest recipient of U.S. foreign aid, after Israel and Egypt, dispensed through the world's largest U.S. Embassy (at least until the new Iraq one is built).

Colombia is proof that having vast natural resources does not necessarily determine how wealthy that country is. In fact, it is often those very same natural resources that motivate the theft and larceny that ultimately impoverish a country's institutions and culture. With a renewed emphasis on property rights, transparency, personal security and freedom, Colombia is attracting significant new foreign investment capital.

One of Colombia's largest relatively untapped assets is hydrocarbons (oil and gas). Colombia produced over 800K boe/d at its peak, but currently produces only about 550K boe/d. Meanwhile, domestic consumption has grown from under 200K boe/d to nearly 400K boe/d. If Colombia does not start to grow production they will soon become an importing nation, along with the associated negative balance of payments pressures. For this reason extensive fiscal changes were made that encourage exploration in the country.

The county is vastly under-explored relative to the U.S. and Canada and yet has extensive infrastructure in place. Discoveries can be brought on line quickly. The producing basins are connected to refineries and ports by an ample oil and gas pipeline system. Colombia has enacted new legislation to encourage drilling in the country. With success in limiting terrorism, the upside for companies in the country is significant. The key for companies considering doing business in Colombia is to have the expertise and local relationships in place. There are relatively few foreign operators, and so there exists much opportunity for those able to bring expertise and technology to the table. The national oil company Ecopetrol usually retains the right to back in for a 30% interest.

Colombia has put in a very attractive new fiscal regime that several Canadian companies are taking advantage of. The one caveat is that while Colombia's government has had success in restraining terrorism, if a new government is elected in 2006 and changes policy (unlikely, but this is South America!) this could be negative for the oil industry. However, historically no existing contracts have ever been modified. Getting access to drilling rigs in Colombia is fairly difficult at this time.

• Gross Domestic Product (GDP) Growing

• Unemployment still high but dropping

• Inflation below 6%, the lowest in 30 years and among the lowest in Latin America

• International Debt Rating (S&P) increased from negative to stable in 2003
• The Colombian stock market rose 120% in $US terms in 2004 - the highest in the world
• Military personnel increased from 273,000 to 370,000 in 2 years
• U.S. assistance now approximately $US600 million per year
• Most assaults on the military now reduced to land mines versus previous direct attacks by groups of 30 to 100 guerrillas

Summary

Between 1990 and 2004, Colombia was among the top destinations for investment capital in Latin America, with foreign direct investment reaching a yearly average of about US$2.0 billion. Within the Andean Community, Colombia and Venezuela were the preferred destinations.

This positive performance is the result of macroeconomic and democratic stability, a successful defense policy and a favorable foreign investment framework.

Controls have been lifted on remittance of profits and capital, with foreign investors now being given the same treatment as national investors. Foreign capital is allowed to enter the country in most sectors, in particular for hydrocarbon and mining exploration and development.

Colombia also has attractive incentives designed to promote foreign and local investment such as tax benefits, special trade regimes and the export incentives. Foreign investment is protected by various international agreements like the Overseas Private Investment Corporation - OPIC, the Multilateral Investment Guarantee Agency - MIGA and the International Center for the Settlement of Investment Disputes - ICSID.

Colombia offers many attractions to foreign investors:

• Located at the midway point between North and South America.
• The only country in South America with Atlantic and Caribbean coasts.
• Easy access to North American, European, Asian and Latin American markets.
• One of the most stable economies in Latin America.
• Steady economic growth, above the Latin American average.
• Growth rate of 4.10% in 2004.
• Declining inflation over the past few years, reaching 5.5% in 2004.
• Declining foreign debt.
• Uninterrupted democracy except for a four-year period in the 1950s.
• The work force is considered the best in the Andean Community and is among the most qualified in Latin America for managerial, operational and technical positions.
• The adult literacy rate in Colombia is one of the highest in Latin America.
• The work force is competitive in terms of labor costs, with services salaries and hourly manufacturing wages highly competitive compared to other developing and developed countries.
• Human capital development in Colombia, particularly at the professional level, does not discriminate against women.
• Working shifts are between 6 a.m. and 10 p.m. for a regular 48-hour work week, reducing overtime and extra night time pay for companies needing to employ workers for two shifts.
• Companies can reduce labor costs by hiring apprentices under service contracts, and there are reduced compensation levels for dismissal without just cause.
• There is a defined export platform and privileged access to world markets through various trade agreements and tariff preferences.
• 10 Duty Free Zones offering a number of tax and procedural incentives, as well as foreign exchange benefits.
• 5 Special Economic Export Zones offering a special regime for new export-oriented businesses.
• Incentives for large exporters
• Special import - export systems.
• Colombia has the third largest population in Latin America (45 million inhabitants), after Brazil and Mexico.
• Modern communications infrastructure.
• Increasing investment in transport infrastructure.
• Over 400 multinational companies are doing business in Colombia, successfully growing their businesses and expressing confidence in the country's potential.

-Richard Reinhard
Richard Reinhard's Growth Stocks Weekly

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