After a nervous delay while government lawyers overturned an injunction, Brazil’s second and third bid rounds for oil and gas production sharing agreements in its pre-salt petroleum province took place on Friday, 27th October in Rio de Janeiro.

The bidding rounds attracted competing bids from a range of consortia, including many of the world’s leading oil companies and, in most cases, offered the Brazilian state a higher than expected share of profit oil. The Brazilian Government, therefore, will consider the rounds a great success; as will most of the bidders, since the majority of those who participated acquired at least one of their chosen blocks. The oil and gas supply chain will be equally pleased; seeing a successful conclusion to Brazil’s licensing for 2017 and a continued diversification of its client base, which should accelerate oil exploration activities over the next few years.

Legal challenges

These bid rounds occurred despite the granting of a last minute injunction, which threatened to derail both auctions. The injunction was granted by a Federal Judge from Amazonas, in favour of an Oil Workers’ Union on the night before the auctions were set to take place. According to the Federal Judge who granted the injunction, the signature bonuses provided for in the tender were too low, so the bid rounds would have a detrimental effect on the public assets of the state. The Judge also questioned the constitutionality of a recent law removing the requirement for state-controlled oil company, Petrobras, to be the sole operator of all pre-salt areas (see Petrobras priority rights in upcoming bids for Brazilian production sharing contracts for further details). Sensibly, an appeal ruling by another Federal Judge from the First Regional Federal Tribunal rescinded the injunction and allowed the auctions to proceed.

There has been a spate of similar actions recently, with injunctions sought by disgruntled parties who have used this process to challenge recent trends in the Brazilian oil and gas industry. Other claims brought by unions have sought to challenge Petrobras divestments and its international tenders for FPSOs, alleging breaches of local content requirements. Clearly, the judiciary provides important checks and balances on executive action. However, these recent claims have sought to undermine the Government’s reform agenda and have been brought by groups keen to see a return to the days of Petrobras’ monopoly; however impractical that may be.

Fortunately, as in this case, these obstructionist claims have tended to be thrown out by the Brazilian appeal courts. Therefore, although they may have delayed a number of investments, they have not derailed the Government’s important programme of reforms. These include reviewing local content policy, extending the period for fiscal benefits (the so-called REPETRO regime) and creating a schedule for regular bidding rounds until 2019.

Revised bid terms

Returning to the pre-salt auctions, Friday’s rounds offered eight areas in Brazil’s highly prized pre-salt region, estimated to contain reserves of 12 billion BOE. The second round focused on areas with unitizable deposits adjacent to the existing Santos and Campos basin fields (Carcará, Gato do Mato, Sapinhoá and Tartaruga Verde). Meanwhile, areas in the third round were also located in the Santos and Campos basins, but will not require unitization with existing fields.

Unlike recent bid rounds conducted under the concession model, new pre-salt areas are granted to successful bidders under a production sharing agreement (PSA) with the government. The signing bonuses for the respective fields were fixed in advance of the auction and ranged from R$ 100 million to R$ 3 billion. Competing bids were assessed according to the percentage of profit oil that each bidder or consortia offered to the Brazilian state, subject to the minimum level specified in the bidding rules. Profit oil is calculated as the volume of oil and gas that remains after royalties and the deduction of a percentage of production required to compensate costs incurred by the oil companies. Prior to the auctions, the Brazilian Government expected the eight areas offered to generate US$ 130 billion in royalties, profit oil and income tax during their lifetimes.

Since the first pre-salt auction took place in 2013 (see Brazil – Results of the 1st Pre-Salt Licensing Round for further details), the Government under President Temer has presided over a number of changes to the PSA. At the end of 2016, the previous requirement that Petrobras must be the sole operator in all pre-salt fields was removed. This was replaced with a priority right, whereby Petrobras could register in advance for fields it was interested in and elect to join the successful consortium as operator with at least a 30% stake. Petrobras exercised this right earlier this year and registered its interest in the Sapinhoá field in the second round and the Peroba and Alto de Cabo Frio Central fields in the third round. If those areas had been awarded to other oil companies offering the required minimum percentage of profit oil, Petrobras would have been required to take on the role of operator with a 30% participation interest. If they had offered more than the minimum percentage of profit oil, Petrobras would have had the option to take on the operator role and interest. In the event, Petrobras offered winning proposals on all three areas in consortia with other oil companies, so there was no need for it to rely on its preference rights.

Local content requirements also provided a further point of interest. Oil companies have been critical of these stringent and complex requirements to acquire goods and services from Brazilian sources, which have resulted in high fines and increased costs. For simplicity, areas included in the 2nd bidding round were required to attain the same level of local content as those established for the areas subject to unitization. In relation to the 3rd bidding round, the local content requirements were significantly less stringent than those provided for in the 1st bidding round, which awarded the Libra field to a consortium formed by Petrobras, Shell, Total, CNPC and CNOOC. The consortium sought a waiver of those requirements, claiming that local industry was unable to deliver certain categories of goods and services competitively. The National Petroleum Agency (ANP) recently granted a partial waiver, although this is not as extensive as the consortium requested and remains subject to judicial review.

Results

One interesting aspect of these rounds was how proactive Petrobras was. Historically, Petrobras has been aggressive in expanding its exploration portfolio in Brazil. However, over recent years, it has suffered from financial difficulties and become very highly leveraged, leading it to sit out the 13th licensing round altogether and to pursue an extensive programme of divestments. Petrobras had already surprised many by placing some very high bids in consortia with ExxonMobil in the 14th licensing round in September (see Brazil’s 14th Oil & Gas Licensing Round – Exploration Bounces Back for further details). It could have been expected to rely on its priority rights to obtain 30% operated interests Peroba, Alto de Cabo Frio Central and Entorno de Sapinhoá for the minimum offered share of profit oil. Instead, it chose to form bidding consortia for all of those blocks, increasing its stake to 40-50% and offering the government profit oil percentages exceeding 75%; several multiples of the minimum values and significant higher than rival bidders. It seems clear then that the pre-salt is a high priority for Petrobras and it will continue to take a leading role in these highly prized areas.

Of the private companies, Shell stood out, becoming the operator of two fields: Sul de Gato do Mato, with Total (to be unitized with their existing Gato do Mato field); and Alto de Cabo Frio Oeste, with CNOOC and Qatar Petroleum. Both fields were secured, offering only the minimum profit oil. Shell also won a 30% stake in the winning consortium for the Entorno de Sapinhoá field. The other partners in this consortium include Petrobras and Repsol, with the same interests as in their existing, unitizable Sapinhoá field development. Interestingly, this field attracted the highest profit oil bid (80%) of any field contained in either round.

Statoil consolidated its operated interest in the giant Carcará field, which it recently acquired from Petrobras. It acquired the Norte de Carcará block in a consortium with Petrogal and ExxonMobil, and afterwards announced that it will sell those parties additional interests in the existing Carcará block (BM-S-8), so that they are more closely aligned across the entire field development.

Meanwhile, BP secured significant interests in the Peroba (40%) and Alto de Cabo Frio Central (50%) areas, both to be operated by Petrobras. The round also marked an inaugural success for Qatar Petroleum International in a Brazilian bid round and the consolidation of CNOOC and CNODC’s interests in the Brazilian pre-salt (adding to their participation in the Libra consortium).

Of the eight areas on offer, two did not receive any offers. This will be a source of some disappointment to the government, which had indicated that they were expecting to receive offers for all blocks. However, they will be pleased with the levels of profit oil offered and the broad range of successful participants.

Of the registered participants, only Chevron, Petronas and Ecopetrol elected not to present any bids, whilst Brazilian independent, OP Energia was unsuccessful in its only bid. However, with a busy schedule of bid rounds mapped out until 2019, there will be further opportunities for these and other companies. Within this schedule, additional bid rounds include the 15th concession licensing round and 4th product sharing round, already scheduled for May and July 2018 respectively, whilst supplementary rounds for both types of contract are expected to take place in 2019.

There is some congressional debate regarding the end of production sharing contracts, which have attracted some criticism. The current model gives the government extensive operational control and the co-existence of PSAs and concession contracts will create significant complexities when it comes to unitization. However, these bid rounds seem to indicate that, where the reserves are sufficiently attractive, oil companies can live with the PSA model.

Together with September’s 14th bid round for concessions, these pre-salt rounds have shown the success of recent reforms in attracting investment back to Brazilian oil and gas. If this new business climate is maintained, we would expect that they will mark the beginning of a strong and sustained recovery.

2nd Pre-salt bidding round results

*Denotes operator of the field

3rd Pre-salt bidding round results

*Denotes operator of the field