Brazil auctions Libra pre-salt oil field to sole bidder

As Brazil completes its auction of production rights for the pre-salt of its offshore fields IFLR1000’s Chris Cooper looks at the arguments for and against the move

A consortium of Petrobras, Shell, Total, and two Chinese oil companies - China National Petroleum Corporation and China National Offshore Oil Corporation will develop the 1,550 square-kilometers Libra pre-salt oil field located in the Santos Basin offshore of Brazil.

The consortium paid a $7 billion signing fee and will invest about $185 billion over a 35-year period. The rights were sold at the minimum price. Petrobras has a 40% stake in the field, Shell and Total each has 20%, and China’s National Petroleum Corporation and National Offshore Oil Corporation each owns 10%.

In a 2014 Working and Investment Plan approved on January 21, the consortium agreed to start pre-salt drilling this year, which is expected to cost up to $500 million this year.

According to Petrobras, seismic reprocessing for the entire block will start this year and the drilling of two exploratory wells will take place in the latter half of 2014 and is expected to be completed in the first half of 2015. The program will include a 3D seismic survey using high-end technology and an extended well-test will be carried out at the end of 2016. The consortium has four years to carry out the exploration program, Petrobras said.

The Libra sale was the first to be held under Brazil’s new oil and gas regulatory framework, which requires state-controlled oil company Petrobras, whose long-term debt rating was downgraded by Moody's, to participate with at least 30% ownership in all pre-salt areas and be the operator in such areas.

Libra, discovered in 2010, is Brazil's biggest oilfield and is situated about 170km off the coast of Rio de Janeiro and is 5,000m.

Controversial policy

The sale of the production rights has caused a firestorm of controversy, with some arguing that the government has basically handed over the territory, estimated to produce up to 12 million barrels of oil, to the sole participant of the auction and others saying the sale will benefit Brazil’s economy.

Brazilian President Dilma Rousseff spent five years drafting the legislation and estimates that the country will bring in over $400 billion in royalties and crude oil over the next 35 years from its share of Libra.

Minister of Mines and Energy, Edison Lobao, called the exploitation of Libra the beginning of “a new era in Brazil”. "Libra is a watershed between the past and the future of the oil sector in the country," he said.

However opposition to the move was fierce. Director of the University of Sao Paulo’s Institute for Energy and the Environment and former Energy Director at Petrobas Ildo Luís Sauer called the sale a “crime against the country.” 

“There are those who think it’s great, but I think it was a mistake,” he said. “I cannot understand how the government gives up control of oil. It doesn’t make sense. It’s not strategic, and if Brazil wants to become an important exporter of oil, then it’s going to have to change its policies.”

Sauer said the government “basically gave away money” because it chose to sell Libra through an auction with only one bidder.

Rosane Menezes Lohbauer, infrastructure specialist at Madrona Hong Mazzuco, agrees, saying that this new model of exploration has shown that it is probably not the best competition model, which created an unfavourable image of the auction.

“An auction without competitors is not a real auction,” she said. “Even if the results were as positive as the government announced, the non-disclosed competition taking place before the auction is not the recommended way to transfer the exploration of natural resources to the market. Therefore, in our opinion, this model has to be improved to the next rounds of pre-salt auctions in order to disclose the competition to the public and create incentives to even better results in the auctions.”

She added that when the competition is displaced like this, there are no incentives to improve auction bidding, which could possibly hurt the government, especially its image.

“If Petrobras was not allowed to participate in the auction, composing the winning consortium only after the bidding competition, the results should have been different and the competition might have been improved,” she said. “There are other risks and aspects to be considered in this analysis, but we think that this model hinders the competition in the auction, which is not a good image to be constructed by the Brazilian government.”

Eleven companies showed interest in bidding when the auction was announced. Only nine of them offered the bid bond and ultimately, just one consortium with five companies presented a bid.

“The absence of competitors in the Libra auction indicates that companies may not be as eager to invest in certain types of projects as the government may have assumed,” added Machado Meyer Sendacz & Opice attorneys Pedro Jardim and Daniel Szyfman. “In this sense, the rules and the numbers for future pre-salt actions should be reviewed, in order to promote a more enthusiastic participation to the next pre-salt auction, thus enhancing chances of having interested companies and avoid jeopardizing the country’s oil development. This may be an issue of discussion in the upcoming presidential elections in October 2014.”

Partner Luis Souza  of Souza Cescon Barrieu & Flesch in São Paulo said that no illegality was committed by the Agência Nacional do Petróleo although the lack of competition created the sense that money has been left on the table.

“I sincerely believe that the federal government and Petrobras are genuinely trying to develop a resource which is mature to be developed under a model that has been created based on past experience between host countries and multinationals,” he said. “With so many variables on whether this is the right time to explore the pre-salt layers, absent crystal balls, any prudent government will choose to move forward rather than to remain inactive.”

Possible benefits

President Rousseff, running for reelection in 2014, defended the country’s decision to sell out Libra calling the move “a landmark in the history of Brazil, transforming a limited resource, oil, into an undebatable gain, that is investment in education.”

Jardim said Libra, particularly due to the expressiveness of the reserve, is relevant to the Brazilian economy.

“The multiplier effect shall also be taken into account – several different businesses shall increase or be created to address the demands of Libra,” he said. “Investments in education and infrastructure shall also increase. One of the greatest challenges will be to use the wealth which will come from the oil revenues to develop other sectors of the economy and avoid becoming dependent on the oil.”

“Although Petrobras is the largest specialist of drilling oil at great depths, the multinational consortium can assist in the exchange of technology, injection of resources to exploit the pre-salt layer and promote competitiveness,” Bruno Barata, a partner at Correa de Mello & Tolomei added. “The sharing system, legally speaking, is not a privatization, nor a concession system, but a new instrument that allows the state to explore the pre-salt layer, while owning part of it. So, people may be in favor of the government because the sharing system keeps the property of the layers to the country. Also, the amount designated to the state will be invested in education and health systems. It is important to mention, too, the bonus that the consortium must pay to the state.”

Barata said that when things are put into perspective, naysayers must remember that Libra was only the first case under the new system.

“So, for a greater competitiveness, which means higher financial return to the government, we must learn from the initial mistakes and move forward with the conception of having several bids in the next auctions,” he said.