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LYONDELL-CITGO REFINING, LP v. PETROLEOS DE VENEZUELA

August 6, 2003

LYONDELL-CITGO REFINING, LP, PLAINTIFF, -AGAINST- PETROLEOS DE VENEZUELA, S.A. AND PDVSA-PETROLEO, S.A., DEFENDANTS


The opinion of the court was delivered by: Constance Motley, Senior District Judge

MEMORANDUM OPINION AND ORDER

Plaintiff Lyondell-CITGO Refining, LP ("LCR") has brought suit against defendants Petroleos de Venezuela, S.A. ("PDVSA") and its wholly owned subsidiary, PDVSA-Petroleo, S.A. ("Petroleo"), claiming that defendants breached a contract for the delivery of extra-heavy crude oil to LCR's newly-built refining facility in Texas. This court has jurisdiction pursuant to 28 U.S.C. § 1330(a) because PDVSA is a "foreign state" as defined in 28 U.S.C. § 1603(a) as well as pursuant to 28 U.S.C. § 1332(a)(2) because LCR is a citizen of a state (a limited partnership organized under the laws of Delaware with its principal place of business in Houston, Texas) and PDVSA and Petroleo are citizens of a foreign state (corporations organized under the laws of Venezuela with their principal places of business in Venezuela).

Defendants have moved under Fed.R.Civ.P. 12(b)(6) to dismiss the case pursuant to the act of state doctrine and for other reasons. For the reasons that follow, defendants' Motion is granted in part and denied in part.

BACKGROUND*fn1

The parties to this action entered into two contracts for the purchase and sale of extra-heavy crude oil ("XHC"). XHC is thicker and denser than traditional crude oil. It contains higher concentrations of sulfur and heavy metals, which makes it harder to refine but cheaper to purchase. In other words, a company willing to build the appropriate refinery will be able to purchase the unrefined fuel at a lower cost and thereby turn a profit. [ Page 2]

Venezuela is the world's largest producer of XHC, and in 1993 it was trying to create a market for it. Fortuitously, Lyondell Petrochemical Company (predecessor to Lyondell Chemical Company ("Lyondell")) owned a crude-oil refinery in Houston, Texas which was built in 1920 and was overdue for repair. Lyondell entered a joint venture with CITGO (a PDVSA subsidiary) to refurbish the Houston refinery so that it could process XHC. CITGO would provide some of the capital needed for the refurbishment, and PDVSA would commit to providing a steady source of XHC. Plaintiff LCR claims that it would never have agreed to the joint venture and renovate its refinery, at the high cost of $1.1 billion, in the absence of an agreement with PDVSA and Petroleo to supply a continuous flow of XHC.

The Crude OH Supply Agreement and the Supplemental Supply Agreement

The parties entered two written agreements for the purchase and sale of XHC. Under the Crude Oil Supply Agreement ("COSA"), Petroleo committed to supplying up to 230,000 barrels a day to the LCR refinery, an amount equal to roughly 86% of the refinery's total capacity. The COSA contains a force majeure provision, however, under which, owing to circumstances beyond its control, Petroleo is relieved of the obligation to provide the contracted amount of XHC. In such force majeure circumstances, Petroleo

may reduce, withhold or suspend deliveries under this Agreement to such extent as may be reasonably required to prorate deliveries by PDVSA and its subsidiaries of crude oil in satisfaction of their aggregate existing contractual obligations to [LCR] and other purchasers. . . .
Pl.'s Mem. in Opp, Ex. B ("COSA"), § 2.12. The same section of the agreement lists several situations which would constitute forces majeures, including "acts, regulations, laws or restraints imposed by the government of any sovereign nation or state or any agency, branch, political subdivision or other similar body thereof." Id. The only qualifier to that definition is that the governmental action must be beyond the reasonable control of PDVSA and its subsidiaries. Id.

In the event that Petroleo is unable to deliver the contracted amount of XHR without a valid force majeure excuse, the COSA specifies that LCR is entitled to a shortfall payment of roughly $3-4 per barrel. Id., § 2.13.

Under the Supplemental Supply Agreement ("SSA"), in the event that there were a shortfall and no shortfall payments by Petroleo, PDVSA agreed either to deliver the appropriate amount of oil or make the shortfall payments itself. Additionally, PDVSA agreed to deliver the shorted barrels or make shortfall payments even in the event that Petroleo claimed a force majeure situation as a result of the acts of the Venezuelan government, unless the governmental acts in question consisted either of "(1) a general embargo . . . prohibiting the export of Crude Oil to all purchasers located in the United States . . . or (2) [a] health, police, military, judicial or regulatory measure of general applicability having the effect of temporarily impeding the production or export of Crude Oil in the Republic of Venezuela." Def. Mem. in Opp., Ex. C. ("SSA"), § 2.1(iii)(b). [ Page 3]

Both the COSA and the SSA were dated May 5, 1993 and have a 25 year term which expires on December 31, 2017. Both agreements include a provision requiring parties "to act in good faith and observe reasonable commercial standards of fair dealing. . . ." COSA, § 5.13; SSA, § 2.5. The COSA states that its provisions will be governed by and construed in accordance with Venezuelan law. COSA, § 5.1. It contains a choice of forum provision requiring that any litigation arising from its terms be brought in New York in either state or federal court. Id., § 5.4. The SSA states that its terms are governed by and construed in accordance with New York law, SSA, § 4.1 and incorporates the COSA's choice of forum clause by cross-reference. Id., § 2.5.

The Shortfalls

According to the Complaint, Petroleo declared itself in a force majeure situation on two separate occasions: first, on April 16, 1998, it claimed that the Venezuelan Ministry of Energy and Mines ("the Ministry") had instructed it to cut production of certain grades of crude oil to comply with a directive from the Organization of Petroleum Exporting Countries ("OPEC"); second, on February 9, 2001, it announced another force majeure, in connection with yet another OPEC directive resulting in instructions from the Ministry to cut production.*fn2 As a result of these situations, LCR was denied roughly 31 million barrels of XHC that would have been due had there been no force majeure declarations.

In addition to the force majeure declarations, on several occasions, Petroleo refused to deliver the contracted 230,000 barrels of XHC per day without any justification, merely claiming that it is not required to do so under the COSA and SSA as long as it is willing to make the requisite shortfall payments. Indeed, according to the Complaint, Petroleo has credited LCR over $12 million in shortfall payments. Plaintiff alleges that during the time that defendants were failing to deliver the contracted amount of oil (both due to the forces majeures and for other reasons), they were selling XHC on the "spot" market, to customers with whom they did not have an existing contract.

Plaintiff's Claims

The complaint contains a ten count cause of action, with the first five counts against Petroleo and the last five against PDVSA. Against Petroleo, LCR asserts that the force majeure declarations were invalid and that the failure to supply the agreed amounts of XHC in the absence of a force majeure violated the good faith provision of the COSA. Against PDVSA, LCR asserts that even if the force majeure declarations were valid, the SSA's narrower description of what circumstances would excuse PDVSA's performance were not met and thus that PDVSA was required either to deliver the shorted barrels of XHC or to make shortfall payments. [ Page 4]

Against Petroleo

Plaintiff claims the force majeure declarations were invalid for four reasons. First, OPEC's directives are non-binding on its member states. Therefore, Venezuela was not compelled to reduce its oil production by OPEC; it's decision to do so was voluntary. Furthermore, Venezuela's oil minister is currently the President of OPEC, and so any OPEC related decisions are not beyond the ressonable control of PDVSA. Second, the instructions from the Ministry do not have the force and effect of an official government act under Venezuelan law. Third, defendants could have maintained their oil shipments to LCR even under the instructions issued by the Ministry, since those instructions did not specify exactly how to reduce oil production, only that it be reduced. They could have cut shipments to other customers ...


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