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Brazil Oil Discovery Investing

Brian Hicks

Written By Brian Hicks

Posted September 23, 2013

Fair or unfair, President Dilma Rousseff’s Workers’ Party has been accused of being less than friendly to outside investors. More importantly, Brazil’s regulations on foreign oil companies have kept companies from taking a further stake in the country. That’s why it should come as no surprise that when Brazil opened up its largest crude discovery for auction – the offshore Libra field – U.S. companies have not taken the bait.

oil drillingThe auction only generated a quarter of the interest the government was expecting. And the Libra field is no small discovery either – it’s said to contain anywhere between 8 to 12 billion barrels of oil. Forecasts for the Libra could be up to 1 million barrels per day.

The auction is expected to take place on October 21. But despite the large discovery and promising recovery rates, Western companies are still not convinced; Exxon Mobil (NYSE: XOM), Chevron (NYSE: CVX), BG Group (LON: BG), and BP (NYSE: BP) have all decided to stay away.

Why are These Companies Snubbing Brazil?

There are a variety of factors contributing to this – one of them being the frosty tensions between the U.S. and Brazil ever since Guardian journalist Glenn Greenwald disclosed that the National Security Agency has been spying on state-run oil firm Petrobras (NYSE: PBR), President Rousseff’s private communications, and Brazilian citizens.

The revelation has garnered such a firestorm that Rousseff has postponed all scheduled visits to the White House indefinitely. There is even talk of Brazil canceling American contracts. Tensions have boiled to the point where Brazilians are discussing setting up their own national Internet to steer clear of NSA spying.

This may explain the absence of U.S. companies, but what about British firms like BP and BG Group?

Well, this may have more to do with the rules behind the Libra deal.

The winner of the auction will be the one that can pledge the most production output from the Libra to the government.

Petrobras will take a 30 percent minimum stake in development and become the primary operator, maintaining control of production and exploration. Brazil is expected to get over $400 billion in taxes and royalties from the deal.

One of the reasons major companies are staying away is because they will be sidelined as operations commence, as the deal mostly favors Petrobras and the government.

On a business level, it may not make sense for some companies to participate either.

As part of the deal, the government would get 75 percent of all oil recovered after costs, which means Brent prices would have to be at $110 or above to keep up lucrative operations, Reuters reports. Over the weekend, Brent crude prices fell a bit short of the mark at $109.22. But with ever-growing tensions in the Middle East, they could easily surge above $110 in the near future.

Local content requirements and costs for infrastructure also played a role in scaring off investors. Slow growth in Brazil’s economy and inflation could potentially skyrocket costs for companies in the future. Oil companies expect Brazil’s energy costs to more than double compared to the rest of the world by 2020.

Additionally, Big Oil prefers to take a more active role in production and development. Since Petrobras will retain control over exploration and production, this explains why Western companies like Exxon are put off by the terms of the deal.

So which companies have decided to participate?

Malaysia’s Petronas, along with ONGC (NSE: ONGC) of India, have registered. China is also a large bidder, with China National Petroleum Corporation, CNOOC (NYSE: CEO), and Sinopec – (NYSE: SHI) through a partnership with Spanish company Repsol (OTC: REPYY) – getting involved.

The Chinese have been moving fast in places like the Middle East and Latin America.

Other companies that have registered include Total SA (NYSE: TOT) and Royal Dutch Shell (NYSE: RDS-A).

Most of the bidders are state-run firms that need large supplies of oil but would prefer not to take an active role in operations.

Only 11 companies registered for the bid. The government was expecting over forty.

To get to the heart of the matter, it seems outside investors are tired of dealing with the Brazilian government and do not have full confidence in Brazil’s energy policies. There are other fields in Brazil that oil companies are focused on where they have control over all output, simply paying a ten percent royalty on oil produced. And there are other fields around the world that are open to foreign investment without the hassle of government interference.

Shale Oil Boom

If you’re looking for production sites with little government intervention, then the North America shale boom is a good place to be. Though the EPA is coming out with stringent environmental laws, this has mostly targeted coal.

Shale oil production is facing little restriction because the government knows the value it is adding to the economy.

Domestic shale is your best bet because the U.S. has the necessary drilling technology and innovation to keep operations afloat. In the U.S., tight oil is the primary asset, but you also have a choice of dealing in natural gas. The commodity that has slumped as of late due to low prices, but prices are picking back up and demand is growing.

You may be hearing about all the wonderful shale fields across the world, but many of these countries currently do not have the technological means to drill shale areas, have tough fracking laws, or have faced opposition from local communities. In the U.S., promising shale discoveries are being made regularly across the country.

Issues to watch out for in the U.S. are land rights, local opposition to fracking, and supply gluts, but so far operations are running smoothly. Texas has reached over 2 million barrels in production, and North Dakota has reached over 800,000 bpd.

So if you’re skeptical of Brazil’s centralized control over its energy industry, keep your investment dollars parked in the southern and western territories of the United States. This isn’t to minimize or diminish Brazil’s energy potential; if you’re looking for international investment, Brazil is certainly one company to keep your eye on if foreign interest picks back up in the future.


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