Amid so much political, social and economic upheaval in Venezuela during the past year, most oil and gas companies and foreign investors have understandably cast a wary eye toward further activity in this restive South American country. There are, however, a few knowledgeable observers of South America and at least one U.S. independent, operating in Venezuela for many years, that take the long view of history. To them, the massive strikes that recently crippled Venezuela's oil and gas industry and that nation's overall economy-and this fall's vote on the recall of President Hugo Chavez-are but small seismic events on the political and economic Richter scale. "Long-term, this country has been a reliable and important supplier of oil to U.S. markets, and it's ultimately going to be seen again as a place where a lot of small companies have the opportunity to become significant oil and gas producers." So says Bill Cline, Houston-based chief executive for Gaffney Cline & Associates, a worldwide management consulting firm specializing in the oil and gas industry. Indeed, Venezuela has the largest hydrocarbon resource base in South America, with proven oil reserves of some 75 billion barrels-which excludes more than 240 billion barrels of heavy-oil reserves in the country's Orinoco Belt-and proven gas reserves of about 145 trillion cubic feet. With the Chavez administration's firing this year and last of some 18,000 workers at PDVSA, the national oil company, Venezuela's daily oil production-to which gas output is tied-has declined significantly. Official government figures for August 2003 put daily oil output at 3.3 million barrels-about par with 2001's daily average of 3.4 million barrels. However, the Paris-based International Energy Agency contends Venezuelan daily oil production for that month was more like 2.25 million barrels, or 2.63 million daily barrels if Orinoco heavy-oil output is included. While recent daily production rates remain unclear, what is clear is that at the end of this past June, Venezuela's economy had witnessed six consecutive quarters of recession. "For the first six months of 2003, the country's GDP was down 18.5% versus the same prior-year period," says Cline. "For Venezuela's economy to recover, it's going to have to rely very heavily on its oil sector, which accounts for 70% of the country's exports and 30% of its GDP." That's going to be no small undertaking. Venezuela's largely mature oil fields are experiencing average decline rates of about 25%. "Just to hold production levels steady requires a capital expenditure of $4 billion per year, and it's clear that even before the [strikes] began last December, this kind of spending wasn't taking place." Meanwhile, foreign investment in Venezuela's upstream sector, while somewhat dampened by the recent strikes, has been even more negatively affected by recent changes in the country's hydrocarbon law. "The new law has changed the fiscal terms applying to the E&P sector such that the tax rate on oil production has dropped from 67% to 40% but the royalty regime has increased from 16.7% to 30%," says Cline. "While there are some positive aspects to these changes, in particular the cost-control incentives induced by the lower tax rate, they nonetheless drive up the economic threshold for developing new fields. Also, they shorten the life of existing fields since the crossover point between dollars realized from the sale of production and dollars required to maintain production is reached sooner." In addition, Venezuela's currency, the bolivar, has declined precipitously. Whereas 570 bolivars equaled one U.S. dollar in 1998, the exchange rate is currently some 1,600 bolivars to the U.S. dollar-even with government intervention to prop that currency. "Clearly, the events of the last 12 months or so have shaken consumer and investor confidence and have caused foreign oil companies to reassess their operations in the country," says Cline. "However, because of the profound effect all the recent turmoil has had on the country's economy and PDVSA itself, that may have the paradoxical effect of opening Venezuela's door even wider to foreign investment in the future. Without that investment, the country isn't going to be able to maintain its 3 million-plus barrels of daily oil production." Recently, the government licensed a number of offshore blocks near the country's border with Trinidad. Also, it has indicated intent to hold another bid round on exploration blocks around the Gulf of Venezuela, near the mouth of Lake Maracaibo. "Once the deep political and social divisions in this country are healed, as I believe they will be, foreign investors and U.S. independents are going to again focus on Venezuela's huge resource potential," Cline predicts. "Then we'll see a flood of capital into the country. However, it's those producers going in there now-or those looking for ways to expand their existing presence-that are going to make the big bucks. It's what MBAs call the first-mover reward." Houston-based Harvest Natural Resources has been on the ground in Venezuela since 1992, when it signed a 20-year contract with an arm of PDVSA to operate and develop three oil fields in the South Monagas Unit in the eastern part of the country. Working through its 80%-owned Venezuelan affiliate, Benton-Vinccler, NYSE-listed Harvest has drilled since that time some 150 development wells in those fields. "We've spent about US$450 million not only on drilling those wells, but also on pipeline infrastructure and a sizeable processing plant in our Uracoa Field that separates the produced oil, gas and water," says Steven W. Tholen, Harvest senior vice president and chief financial officer. In a watershed event for Harvest, in July 2002 the company signed a contract to deliver gas production to PDVSA. As a result of that commercial contract, the producer-which already had 95 million barrels of proven Venezuelan oil reserves on its books-was able to greatly enhance its asset profile with the added booking of 198 billion cubic feet of proven gas reserves. "When we get our gas production up and running-with 30 million cubic feet per day in fourth-quarter 2003, increasing to 70 million cubic feet by first-quarter 2004-our revenue stream will also be greatly enhanced, by about US$25 million annually," says Tholen. In 2002, the operator's revenue stream out of Venezuela was US$127 million, based on average oil production of 28,000 barrels per day. That output level, of course, was impaired this year by the 75-day civil strikes in Venezuela, which began last December. However, not long after the strikes ended, the company was able to bring daily oil production back up to around 24,000 barrels versus 26,000 barrels just before the strikes. This disruption aside, Peter J. Hill, Harvest president and chief executive officer, is sanguine about the overall economic and operating climate in Venezuela. "PDVSA pays us on time-in dollars-and we haven't had any difficulty obtaining services, either from domestic or foreign companies operating in the country," he says. "The rigs are available and the prices are competitive. Also, we're able to import equipment and bring dollars into the country to fund our expenses, so overall we really haven't been affected by local currency issues." To further enhance the profitability of its Venezuelan operations, the company in recent years has emphasized workover investments to meet or exceed its hurdle rates, reduced the cost of chemicals used to control corrosion in the wellbore, reduced operating costs at its processing plant and reduced water-handling costs. The result? "In December 2000, our operating costs per barrel were a little above $5; last year, those costs dropped to $3.25 per barrel-and they would have declined to $3 per barrel this year if we hadn't experienced the civil work stoppage," says Tholen. Cost-structure improvement, however, isn't the biggest challenge facing the operator in Venezuela. "This is a resource-rich country and we've got to find ways to repeat the type of business plan we've executed here since 1992. "In short, we need to gain the rights to develop more dormant oil fields like those in the South Monagas Unit. And that's a very realistic possibility. The government has indicated it intends to increase the country's oil production significantly by bringing in more companies like ourselves to develop its fields." Adds Hill, "When you look at Venezuela on balance, the political risk in this country is greatly outweighed by the opportunities it offers small producers." Particularly producers that are first-movers.