CAPITALIZATION OF ECOPETROL

The company will achieve greater autonomy and will increase its investment, finance its major projects, and base its activities on profitability criteria.

On 25 July, the Colombian government authorized the process to attract third parties to share up to 20% of Ecopetrol S.A equity, preferably through the solidary sector and following a process whereby a plural number of citizens can participate.

The decision is even more relevant considering the new role of Ecopetrol after the transformation process that began in the year 2003 with the issuance of Decree 1760. This decree forced the company to behave as one more player within the Colombian oil industry, having to compete with other oil companies to be awarded exploration and production areas, without the advantages provided in the past by the old association system and the management of reserves.

The aim was to make Ecopetrol a competitive company to ensure its sustainability. The first step was to opt for a number of housekeeping measures and get the company ready to operate under the new scheme. Among the changes adopted between 2003 and 2005, it is worth highlighting the change in its organizational structure; the optimizing of the personnel force; the changes in the working regime; the increase in investment budgets, particularly to increase exploration, stop the decline in production and enhance the reliability of the refineries, and the adoption of a management scheme based on results and customer satisfaction.

The changes introduced have translated into greater competitiveness of Colombia in the world arena and in better operational indicators for Ecopetrol. Nevertheless, the company is subject to restrictions that make it difficult to compete in equal conditions with other oil companies, particularly as regards the difficulty to finance its future investment plans.

CAPITALIZATION TO GROW

In order to remove some of the ties that prevent Ecopetrol from acting as a competitive company, the Colombian Government and Ecopetrol decided to allow third parties to share its equity. The option implies that the Government will maintain the control, inasmuch as it will retain a share equal to or greater than 80%. The aim is not to look for a strategic partner to contribute knowledge and technology, as Ecopetrol has proven its ability to operate in the oil sector.

The fundamental objective is to obtain fresh resources to carry out an aggressive investment plan. The scheme proposes the issue of new stock to guarantee the company’s capitalization. The intent is not to sell a percentage of the stock currently held by the Ministry of Finance - more than 99% - and other five public agencies. Therefore, from a technical standpoint, this is not a sale bur rather a capitalization through the issue of stock.

First of all, this measure will strengthen Ecopetrol investment budgets. In spite that the company has trebled its operational investment in the past three years and is executing an unprecedented budget of US$1,405 million in 2006, it is still necessary to increase it to strengthen the company and to face the current situation, affected by the possible loss of its self-sufficiency early in the next decade.

In 2007 Ecopetrol will require a budget of US$2,500 million, nearly US$1,100 million above that of 2006, to consolidate the recovery of the exploration activity, pursue the development of mature fields and heavy crude, begin the internationalization and position its refineries among the top in Latin America.

The greater investments are derived from Ecopetrol’s strategy for the next few years, which will be intended to achieve its own production of 500,000 barrels of equivalent oil per day by year 2011.

Such increased investment will not be financed only by the capitalization through the issue of stock, but the autonomy of the company will allow its access to the capital market and also to get into debts just as other oil companies or any other company in the real sector do. These advantages stem from the fact that by having a third party share of more than 10%, Ecopetrol becomes a mixed economy corporation, which in practice will enable it to move away from the national accounts and force it to respond to its new stockholders on the basis of strictly entrepreneurial criteria.

Hence, the issue of stock must be complemented with other decisions such as Corporate Governance practices, in which the company has already made progress through the issuance of a Good Governance Code since the year 2004. In this regard, the Government has also announced a modification in the mechanism to appoint the Board of Directors of Ecopetrol, which will now be based on technical criteria and merit principles and, at the same time, it will be responsible for electing the President of the company.

Its concentration on corporate functions translates into Ecopetrol not continuing to assume burdens such as the fuel subsidies. It is worth mentioning here that the Ministry of Finance incorporated into the 2007 budget project a $2.9 trillion line item to cover such subsidies.

GREATER AUTONOMY

The stock issue will enable what the experts call the administrative, budgetary and financial autonomy, which is nothing else than the company being able to take its decisions based on its strategic plan and its own investment needs, without obstacles that hinder its competing for public resources allocated to priority activities such as education and health.

The lack of autonomy also translates in Ecopetrol budgets being approved by other Government departments every year, with the risk of undergoing reductions and numerous difficulties related to long-term planning, thus becoming a critical issue in a sector where most of the projects are planned for a ten-year development.

The Government cannot always meet the increasing budget requirements of the company, or it has other priorities. Adding up to its limitations, Ecopetrol practically has no debt, despite its financial soundness and its great leverage capacity as the first company in Colombia, with annual revenues above $15 trillion and a net worth of nearly $14 trillion.

This limitation, which according to the economics theory is not justified, is explained by the fact that the debt of Ecopetrol affects the country’s overall indebtedness and its international commitments.

As regards staffing, the company is suffering more an more the consequences of not being able to retain its more competitive professionals, as many of them find more attractive opportunities in other companies in Colombia and abroad.

DEMOCRATIZATION

The decision of the Government is intended to have a good number of Colombians, whether directly of through the so called solidary sector, to start sharing Ecopetrol equity capital. This objective is framed within constitutional principles and the policy of building a country of Government owners.

Therefore, the solidary sector, made up of pension funds, cooperatives and compensation funds, among others, and of pensioned workers and the associations under which they are grouped, will have a preferential option to participate. The democratization process undertaken in ISA is an evidence of the beauties of the scheme, where the Government retains the control of the company, but it is able to attract over 70,000 stockholders, most of them private citizens, and let the company act based on entrepreneurial criteria, without restrictions to expand, both in Colombia and abroad.

Even though the share of Ecopetrol in ISA today is less than six years ago, the value of said share has increased almost five times. It has become the first electricity transporting company in Latin America, and it has just crystallized a commercial operation in Brazil that calls for an investment of over US$500 million. As in ISA, it is foreseen that the dividends generated by Ecopetrol after its capitalization will increase. Hence, even with the State having a smaller share, it would be receiving more resources thanks to investments and enhanced management by Ecopetrol. The rest of transfers from the company to the Nation, basically comprising royalties and taxes, will not change and will continue to be paid pursuant to the current law and these could even increase as the company is able to increase its production.

International examples of companies such as Petrobrás confirm the benefits of the scheme proposed for Ecopetrol. Ten years ago, the two companies showed similar figures as hydrocarbon production indicators. Today, after a process that moved it away from its State functions and led to its incursion in the New York Stock Exchange to increase its available resources for investment, the production of Petrobrás is six times that of Ecopetrol, it has become an international player, now being one of the l5 largest oil companies in the world, with more than 300,000 stockholders; moreover, the Brazilian State retained its control thanks to the so called Golden Shares.

OPPORTUNITIES

The transformation of Ecopetrol into a mixed economy corporation enables its growth and consolidation. It will be the key for the take-off of numerous projects that due to tax restrictions had been delayed or were just in the imagination of the workers. The possibility of doubling its investment budget and that the decisions will respond exclusively to profitability criteria, will enable the company to consolidate the presence of Colombia and to enter into international markets, which is quite important as part of the internationalization process that is commencing.

Ecopetrol will have a stronger financial position to participate in entrepreneurial alliances with other oil companies, without having to resign due to tax difficulties, delays in the approval of future terms or for not having access to financing, among other reasons. For the employees of the company, the democratization process represents a two-fold opportunity. On the one hand, it will allow many of them to participate directly in the stock issue process.

Furthermore, they will have the chance to work in a company with a better growth potential, able to materialize ambitious projects in a corporation that will be managed as per entrepreneurial criteria among its decision making bodies, where decision making will be expedited and long-term planning will become a reality.

The democratization process through the issue of stock, with its respective benefits, requires hard work in the organization before becoming a reality.

In the next few months the company will have to undertake processes such as its valuation, the definition of procedures and regulations for stock issue, and getting the company ready to operate within a greater autonomy scenario. Each business in Ecopetrol will have to define the projects they will undertake in coming years to strengthen the company and its position in domestic and international markets.

Moreover, changes will be required in the legal framework to allow for third parties sharing the property of the company. Lastly, it is necessary to apply corporate governance principles set forth in the Good Governance Code, and to have the company concentrating on the satisfaction of its customers and other stakeholders.