Underwhelming participation in Brazil's 13th licensing round for oil and gas blocks

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As was widely expected, business was slow at Brazil’s latest bid round for oil and gas concessions, held last week in Rio de Janeiro. Of 266 blocks on offer (182 onshore and 84 offshore), only 37 received bids and will be licensed, with signature bonuses of around R$121 million (£21 million).

Unattractive concession terms

In the current low oil price environment, many oil companies are cutting costs and being very selective in bidding for new exploration opportunities. In a competitive global market, with excess supply of new licences and farm-in opportunities, this year had already seen low demand in bid rounds in Peru and the first phase of Mexico’s first round.

Although this round was held under Brazil’s successful concession regime, rather than the production sharing regime reserved from pre-salt acreage, the Government had largely ignored industry demands for improvements to concession terms. In fact, in a number of respects, these concession terms were worse than those offered previously. The Brazilian Petroleum Institute (IBP) described them as “the worst of all time”.

One improvement was to the rules for qualification of bidders. ANP Resolution nº 18/2015 allowed technical, judicial and economic-financial qualification to occur only after the bid round, for successful bidders. Nonetheless, the 13th round received bids from just 17 companies. There should have been something for everyone, with a selection of blocks onshore, in deep and shallow waters, and in mature and frontier basins. However, all of the oil majors and NOCs stayed away, including Brazilian state oil company, Petrobras, which had taken a leading role in all previous rounds, but did not make a single bid this time. Petrobras is currently focussed on developing production and cutting costs, as it seeks to repair its balance sheet in the aftermath of a massive corruption scandal.

That scandal has brought low much of the Brazilian oil and gas supply chain. Many contractors are implicated in the payment of bribes to Petrobras executives, government officials and political parties, while others have suffered from a slow-down in Petrobras orders and payments. As a consequence, much of the Brazilian oil and gas industry is in a precarious financial position, and it may prove difficult for operators to comply with local content rules that require a minimum percentage of goods and services to be acquired from Brazilian sources. These rules have become progressively more prescriptive and bureaucratic over the years, and significant fines are imposed for failure to achieve local content commitments.

The latest concessions on offer have also sought to restrict oil companies’ access to arbitration. They define questions relating to “non-disposable rights”, which will be subject to the exclusive jurisdiction of the courts of Rio de Janeiro. These questions have been defined broadly and seem to include matters relating to the interpretation of the concession contracts, which will complicate dispute resolution procedures significantly.

The result of these unattractive concessions terms and the unfavourable economic environment is that many blocks did not receive any bids, and many of the successful bids were uncontested. Of 22 sectors with blocks on offer, 13 failed to receive any bids at all, including previously attractive basins such as Campos and Espirito Santo, and a much vaunted frontier province, Pelotas, near the maritime boundary with Uruguay.

The winners

In fact, the only offshore blocks awarded were two deep-water blocks in the Sergipe-Alagoas basin, which were won by Queiroz Galvão Exploração e Produção S.A. (QGEP). Surprisingly, QGEP had no competition. Those areas were expected to be hotly contested, as they are located near some of Petrobras’s most promising light oil discoveries of recent years.

Onshore, the big winner was Brazilian independent, Parnaiba Gas Natural (PGN), which won all six of the blocks that it bid for in the Parnaiba basin. PGN spent more than R$10 million (£1.7m) in signature bonuses and committed to drill 22 wells in the area. PGN already produces about 4.2 million cubic metres per day of natural gas in the Parnaiba basin from the Gaviao Real field. PGN needs to ensure supplies for power generation plants in Brazil’s North-East, which were developed to monetise natural gas discoveries in the area. This new acquisition solidifies its dominant position in this emerging gas play.

Apart from the Parnaiba basin, the remainder of onshore blocks were awarded in the mature Potiguar and Reconcavo basins, to a mix of Brazilian and international independents.

What next?

Perhaps unsurprisingly, the general director of the Brazilian petroleum regulator, Magda Chambriard, was keen to blame these disappointing results on the low oil price, rather than the contractual terms on offer. The current oil price scenario was certainly a significant factor, but the Brazilian government needs to recognise that, in good times and bad, they are competing for investment dollars with a large number of oil producing countries, or potential oil producers, worldwide. Oil companies compare opportunities across a wide range of countries, and the contractual terms, legal systems and political risk of those countries are carefully weighed up before making investment decisions.

In this context, the Brazilian government should consider the benefits that oil and gas investments can bring to their economy and budgets, and communicate with the industry to understand what changes may attract this investment back to Brazil. We saw this reaction in Mexico, to the disappointing results of its first bid round. The Mexican government received and reacted to feedback from oil companies, and its second round was much more successful. Unfortunately, this Brazilian government seems to view the private sector as an adversary, rather than an essential partner in the development of oil and gas reserves, so it has been slow to respond to its concerns.

Perhaps this 13th round will be the wake-up call that the government needed to make some important changes. Some voices within government have indicated that local content rules must be reviewed. There is no need to abandon the policy altogether, but the rules can be simplified and allow a greater degree of competition, so that protected Brazilian suppliers do not push up costs to such an extent that Brazilian oil and gas is no longer competitive.

The government should also expedite the environmental licensing process. Some of the blocks granted in the 11th round two years ago have yet to begin collection of seismic data due to delays in obtaining their environmental licences. The winners of those blocks are no doubt reluctant to acquire further blocks this time around!

The oil price will eventually recover, and Brazil’s oil and gas reserves remain as attractive as ever. The government’s challenge is to ensure that international oil companies have the confidence to invest the billions of dollars that will be required to find those reserves, develop them and bring them to market.