“Brazil is the country of the future…and always will be.” This quote can be traced back to 1947 and is as true today as it was then. However, the country is undergoing a serious cultural and economic transformation since the election in 2018 of right-wing president, Jair Bolsonaro. The country’s hydrocarbon industry is also at a similar crossroads as the current administration attempts to implement a series of free market reforms to attract outside investment and lessen the near monopoly power Petrobras continues to exert on the sector a full two decades after it was “opened.” The Bolsonaro administration is making bold and transformative moves to give the hydrocarbon sector a makeover. This could create unprecedented opportunities for players in the sector and could change Brazil from “the country of the future” into the country of opportunity for today’s hydrocarbon exploration and production industry.
PSL party candidate, Jair Bolsonaro, won Brazil’s presidential runoff election on October 28, 2018 with 55 percent of the vote, besting Fernando Haddad of the leftist workers party (PT) by about 10 percent. The PT governed Brazil from 2003 until 2014 under four consecutive terms of Lula and Dilma Rousseff.
The 2018 presidential election was unprecedented and highly polarized. Haddad was not confirmed as the PT party candidate until September replacing the PT party founder and former president Luiz Inacio Lula da Silva. Lula was the frontrunner in the election but declared ineligible to run due to serving a 12-year prison sentence for corruption. In short, Bolsonaro was elected amidst a prevailing mood of disgust by the electorate over corruption in the political system, economic stagnation, and a loss of faith in the liberal policies of the PT government and its allies.
Where’s the Beef?
Brazil is already the world’s eighth largest producer of hydrocarbon liquids and the third largest producer in the western hemisphere. However, the crown jewel of Brazilian resources remains the pre-salt, where other than Lula Field, production has barely started. A 2015 study of the pre-salt polygon, covering most of the Santos and Campos basins determined at that time that the area contained at least 176 Bboe of undiscovered, recoverable resources. The study was released by Cleveland Jones and Hernane Chaves of the National Institute of Oil and Gas (INOG) at Rio de Janeiro-State University. The figure was classified as P90 and a second P10 figure was also given as 273 Bbo. The INOG study estimate is the only major public assessment of the subsalt polygon’s potential. The 2015 INOG study estimate is 54 percent higher than the previous study by INOG in 2010 which estimated a P90 of 114 Bboe and a P10 of 288 Bboe. The average field size in the pre-salt polygon was also determined to be 246 MMboe.
Upstream Rounds and Opportunities for All
Not all the opportunity in Brazil lies in the pre-salt. There are four different types of bid round offerings that will be held in Brazil in the second half of this year alone, in addition to the Petrobras divestment.
The most conventional of these rounds is ANP Round 16 to be held on October 10, 2019. The royalty tax regime round will offer 36 blocks in five offshore sedimentary basins (Campos, Camamu-Almada, Jacuípe, Pernambuco-Paraíba, and Santos) totaling 29,300 sq km. The Campos Basin with 13 blocks totaling 12,004 sq km is expected to draw the most interest. The region is attractive based on lots of oil gas infrastructure in place and pre-salt potential.
A new system just implemented by the ANP is referred to as Permanent Offer of Areas established for open acreage. The bid opening date is set for September 10, 2019 for the first cycle of blocks. The program will tender exploration blocks previously bid or returned, and it officially launched on June 27. The ANP expects to announce by August 16 the final lineup of approved sectors that will be part of the first cycle. At last report the bid had 600 exploration blocks and 14 areas with marginal accumulations to be offered with environmental approval.
The round is designed to attract investment in mature basins with an ongoing supply of available blocks, to encourage more small and medium companies in the sector to help develop the industry, and to stimulate exploration in new frontier basins. The Permanent Offer Round consists of the ANP setting a minimum price and work commitment for each block. With the publishing of a new decree recently, all onshore areas, including new blocks, will be offered via the Permanent Offer program. Companies can express interest in acquiring the block by paying the guarantee for its work program for each block they wish to acquire. If the registered company is the only one paying the guarantee, they will automatically acquire the block at the minimum set price and work program. If more than one qualified company pays the guarantee for a given block in the round, then a competitive bid process is held.
Two different rounds are planned for the pre-salt in 2019. In June the ANP approved Production Sharing Round 6 in the deepwater pre-salt and the contract model. The round will offer the Aram, Bumerangue, Cruzeiro do Sul, Sudoeste de Sagitário blocks, and the Norte de Brava Block in the Campos and Santos basins with a total of 8,640 sq km. All blocks are inside the pre-salt polygon. The signing of the final contracts is scheduled for March 2020. The bid will be held on November 7, 2019.
For the production sharing contracts effective in this round, the signature bonuses are fixed, and the winning bidder is determined by the highest offered percentage of profit oil to the state. Petrobras on January 14, 2019, exercised its preferential right to operate three blocks in the round with 30 percent selecting the Aram, Norte de Brava, and Sudoeste de Sagitário blocks. Registration for the round is open until September 19.
However, the truly impactful round that everyone in the industry is eyeing is the Onerous Assignment Surplus Production Rights Bid, also called the Transfer Rights area, in the Santos Basin pre-salt polygon where bids are due on November 6, 2019. The registration period for the round began on June 13. The round will offer the Atapu, Búzios, Itapu, and Sepia blocks. Petrobras has carried out significant activities in all fields and has started production in Buzios. The CNPE set the total signature bonus payments at 106.56 billion reais (US$ 26.73 billion), of which 68.2 billion reais (US$ 17 billion) is for Búzios, 22.86 billion reais (US$ 5.5 billion, first oil expected 2021) for Sépia, 13.74 billion reais (US$ 3.5 billion, first oil expected 2020) for Atapu, and 1.77 billion reais (US$ 440 million, first oil expected 2023) for Itapu. The signature bonus is fixed and does not affect the bid award criteria, which is solely based on the highest percentage of profit oil offered to the government. The current Onerous Assignment contract gave Petrobras a production cap of 5 Bboe for seven ultra-deepwater blocks in exchange for Petrobras stock. The round now offers private companies the rights to produce the surplus volumes above the production cap that Petrobras has discovered in the contract area. Those surplus volumes are estimated to be 6 Bboe or higher. In May 2019, Petrobras indicated to the CNPE that it wished to exercise its right of first refusal with a 30 percent interest on the Búzios and Itapu blocks.
The numbers here are staggering. Almost US$ 27 billion expected in signature bonus money and a minimum of 6 Bbo in partially developed oil reserves is sure to attract the attention of oil and gas majors the world over. However, substantial opportunities are also present in the Petrobras divestment and in the downstream, midstream, and gas market sectors.
On June 12, Petrobras CEO, Roberto Castello Branco announced an increase in the money the company expects to raise in its divestment program of non-core assets. The program is now projected to generate US$ 35 billion over the next five years. The upward revision by Petrobras took place just after the supreme court ruling that made it much easier for state companies to sell subsidiaries without the authorization of the legislature thereby boosting the divestment program. In January Petrobras announced it had resumed a process to divest about 70 percent of its 254 mature onshore and shelf fields.
Although divestment is targeted toward mature, onshore, and shelf and marginal producing assets, for the right price almost anything is on the table. Production and especially exploration have declined sharply in these assets over the past decade or more, due to underinvestment by Petrobras as the company struggled with debt and the need for large investments to develop its pre-salt discoveries. When put together, the following factors should provide the “perfect storm” of opportunity for some small to medium players in the sector.
- Recent favorable supreme court ruling
- Petrobras debt and high investment obligations in the pre-salt
- An administration that wants more diversity, free enterprise, and investment in the sector
- Underinvestment and relative neglect of mature producing properties
However, the opportunities don’t end here. The biggest opportunities may lie in the midstream, downstream, and gas market sectors where Petrobras has continued to hold monopoly power despite the opening of the sector 20 years ago. The current administration is making it a priority to change this.
On June 28, 2019, Petrobras announced some details regarding the divestment process for four of its refineries and associated assets. The first refineries to be sold are Rnest, Repar, Rlam, and Refap. Divestment of the other four Petrobras refineries is planned for launch in the second half of 2019. Experts in the sector have expressed the opinion that the Petrobras refineries will not attract the interest of big oil companies but will be more attractive to fuel distributors and refining specialists in the sector. On June 11, 2019, Petrobras committed to the 100 percent sale of eight oil refineries and related fuel transportation assets with a total capacity of 1.1 MMbo/d. When the sale is completed, Petrobras will have seven refineries remaining in Brazil.
Recent Pipeline Sales
On June13, 2019, Engie and Petrobras announced the conclusion of the sale of the Petrobras 90 percent stake in the gas pipeline company Transportadora Associada de Gas (TAG). The deal involved the acquisition of 90 percent of the share capital of TAG by the French company ENGIE valued at approximately US$ 8.1 billion. TAG has a gas pipeline network of 4,500km with a transport capacity of 2.612 MMcfg/d. With the completion of the deal, almost 70 percent of the domestic gas pipeline network of about 9,500km, is now controlled by two private companies. In 2017, Petrobras sold the New Transportadora do Sudeste (NTS) pipeline network of 2,000km to Brookfield. The completion of the sale of TAG was made possible by a recent decision from Brazil’s Federal Supreme Court allowing the sale of state-owned subsidiaries without congressional approval.
The biggest opportunity in Brazil’s hydrocarbon sector could involve the transformation and development of its natural gas market. As the country commits to reducing its carbon footprint, it will begin producing large amounts of associated gas with its pre-salt oil production and development. Much of it can be used for the country’s energy matrix where natural gas only accounts for 11 percent of current energy usage.
In late June 2019, Brazil’s National Council for Energy Policy (CNPE) presented 24 guidelines for the opening of the natural gas market as well as new annual targets for greenhouse gas emission reductions for fuels. The CNPE proposals aim to increase unbundling throughout the natural gas value chain and most of all, create conditions for access not just to gas pipelines, but also to all the essential infrastructures of the sector, such as outlets, processing units, and LNG terminals. The proposals are directed at opening the market and promoting competition.
Change = Opportunity
Whichever direction you turn and whatever your perspective on the industry in Brazil, one must realize that, “the times they are a changin.” Rarely do you have so many factors in play at the same time opening so many different doors in so many different areas as in the Brazilian hydrocarbon sector today. The large companies and majors have the pre-salt E&P with its huge investments and even larger rewards potential. As Petrobras is forced to focus on this aspect of the business and improve its balance sheet, it must sacrifice some smaller and neglected hydrocarbon assets to divestment. Meanwhile, the door to exploration and discovery of new resources is opened even wider by conventional bid rounds such as ANP Round 16 and a new program that could revolutionize the sector like the Permanent Offer of Areas which allows open acreage to be claimed by any company willing to pay the guarantee and perform the work commitments. On top of this a sympathetic, pro-business administration in power is taking action to dismantle long-standing pipeline, gas market, and refining monopolies by Petrobras in the country as well as an underdeveloped natural gas market that is virtually certain to expand. All of this adds up to the definite conclusion regarding Brazil that for hydrocarbons, “The future is now.”