Libra out of balance – International oil companies indifferent to Brazilian pre-salt oil

Cornelius Fleischhaker on recent offshore oil auctions in Brazil

Attractions at the beach

Rocks and teargas canisters we’re flying in Rio again this Monday but this time demonstrators came out for a very specific reason: the auction of the production rights to the first of Brazil’s massive pre-salt offshore oilfields known as the Libra field.

While old resource nationalist slogans were chanted in anger on the streets (“O petróleo é nosso!”) the mood in the boardrooms of big oil was apparently not that great either.

When it was time to sign up for the auction in September, only 11 firms participated (the government had expected up to 40). Some of the biggest players such as BP, Exxon, Chevron stayed out, leaving a field dominated by state-oil companies, especially from Asia.

The oil is there – does anybody want to go get it?

The reason? According to the commentary it was mostly do to the restrictive regime the leftish government of President Dilma Rousseff had set up for pre-salt exploration.

Ironically, while protesters were crying foul over the nation’s resource being handed over to foreign capital, much of the same foreign capital chose to stay on the sidelines because of too much state meddling in the proposed operation.

Under the new regime, unlike the one in effect for Brazil’s current oil fields, all resources remain the property of the sovereign. Firms are allowed to invest and take a share of the profit in oil fields, which will be operated exclusively by Petrobras (the majority state-owned Brazilian oil giant), which will also have a minimum stake of 30 percent in all operations.

If the operation becomes profitable, at least 41.65 percent of profits would have to go to the government. At least 41.65 percent because the auction was to be won by whichever company or consortium would let the government keep the most profits above this figure.

However there might be a whole different (but related) set of reasons behind the low interest in Libra:

The oil market is not what it used to be

A lot has changed in the international oil markets since pre-salt was discovered in 2007. Back then oil was reaching for new record heights every month and growth of demand (especially from emerging markets like China) was outstripping that of supply.

As discussed here previously, supply of oil and gas has expanded greatly since then (remember fracking?) and there is reason to believe that it will expand further. As a sign, the same day Libra was auctioned, oil dropped below $100 for the first time in months and there is even talk that Iran might be allowed back on the market if nuclear talks go somewhere this time.

Futures prices are pointing down and lower oil prices mean less interest in reserves, which, while huge, bear great uncertainty in term of technical feasibility and cost of production.

So it may well be that some of the big players just decided to sit this one out and rather spend their limited investment budget elsewhere. After all, there are plenty of oil reserves out there that are not capped by a couple thousand meters of salt and are located in jurisdictions that might be more favorable.

Consider for example the reforms currently under way in the Mexican energy sector. It’s very possible that some firms are staying away from the challenges of the pre-salt for now as they prefer the prospects of drilling for oil in the Gulf where they have ample experience.

Even if they were convinced of the long term profitability of Brazil’s huge reserves, there are plenty more fields to go around (in pre-salt and other formations) and firms might be speculating that the poor showing in this auction could lead to more favorable conditions in subsequent ones.

Is it still an auction if there’s only one bidder?

The auction did go ahead and it was a quick one, as there was only one bid: a consortium including two Chinese state oil companies along with the old guys Shell and Total and of course Petrobras (taking 40 percent, not just the 30 they were guaranteed).

The government will get its minimum share of 41.65 percent of profits (though when you consider that Petrobras is majority owned by the government, it will actually get more) along with a sign-up bonus of 15 billion Reais (US$ 7 billion). The minister of finance declared the auction a success, the Financial Times disagreed and the protesters outside called it the end of Brazilian sovereignty.

Also, right outside the beachside hotel in the posh Barra da Tijuca district where the auction was held, Cariocas were enjoying the beach, undisturbed by the black stuff thousands of feet below them waiting for someone to bring it up.