VZCZCXRO2636
PP RUEHRG
DE RUEHRI #0288/01 2391515
ZNY CCCCC ZZH
P 271515Z AUG 09
FM AMCONSUL RIO DE JANEIRO
TO RUEHC/SECSTATE WASHDC PRIORITY 5063
INFO RUEHBR/AMEMBASSY BRASILIA PRIORITY 1356
RUEHRG/AMCONSUL RECIFE PRIORITY 3519
RUEHSO/AMCONSUL SAO PAULO PRIORITY 5279
RHEBAAA/DEPT OF ENERGY WASHDC PRIORITY
RUEAIIA/CIA WASHDC PRIORITY
RUCPDOC/DEPT OF COMMERCE WASHDC PRIORITY
RHEHNSC/NSC WASHDC PRIORITY
C O N F I D E N T I A L SECTION 01 OF 03 RIO DE JANEIRO 000288
SIPDIS
STATE FOR WHA/EPSC, MMCMANUS, BDUGGAN
NSC FOR RACHEL WALSH, LUIS ROSSELLO
FOR DOE GWARD, RDAVIS, LEINSTEIN, RROSS
STATE PASS USTR KDUCKWORTH DOC FOR ADRISCOLL, LFUSSELL, MCAMERON
E.O. 12958: DECL: 08/26/2019
TAGS: BR ECON ENRG PREL
SUBJECT: RIO'S OIL PLAYERS REACT TO SPECULATION ON PRE-SALT REGULATIONS
REF: BRASILIA 1021 Classified By: Consul General Dennis W. Hearne. Reasons 1.4 (b,d).
SUMMARY -------
1. (C) While the Government of Brazil (GOB) has yet to publicize its regulatory framework for the exploration of
pre-salt reserves (reftel), Petrobras executives, petroleum industry representatives, and Rio de Janeiro-based managers
of American oil firms have expressed concern over the main provisions of the reform package reported in the press. In
reaction to the likelihood the new framework will mandate Petrobras as the sole operator for all unlicensed blocks,
Petrobr as and Brazilian Institute for Petroleum executives argued the company does not have sufficient resources to
effectively carry out this role, which could lead to subcontracting opportunities for other oil firms. While petroleum
companies praised the concession model under the existing regime and opposed the likely shift to production sharing
contracts (PSC), some analysts argued PSC provisions could potentially carry fiscally advantageous terms for investors.
The possibility of a new state company to own and administer all pre-salt reserves is anathema to industry
representatives in Rio de Janeiro, although there appears to be a sound legal justification for such an entity. Local
representatives of Chevron and Exxon Mobile are bracing for a far more challenging operating environment, but both
companies will maintain an active presence in Brazil, regardless of the changes the new reform package brings. End
Summary.
PETROBRAS AS SOLE OPERATOR --------------------------
2. (C) In reaction to the widely-accepted perception that the new framework will mandate Petrobras as the sole operator
for all unlicensed blocks, Petrobras and Brazilian Institute for Petroleum (IBP) executives in Rio de Janeiro contend
the company does not have sufficient resources to effectively carry out this role. Fernando Jose Cunha, General Director
of Petrobras for Africa, Asia, and Euroasia, told Rio Econoff on Monday August 17 that such a provision, along with the
strong likelihood Petrobras will also be guaranteed at least a 30 percent share in every block, could deter potential
investors and partners. Alvaro Teixeira, General Director for IBP, an industry association that represents Petrobras and
other petroleum companies operating in Brazil, called the proposal a "bad idea," stating the GOB would first have to
recapitalize Petrobras. According to Gustavo Gattas, a prominent energy analyst with UBS Pactual, Petrobras' lack of
resources will likely lead to extensive cont racting for pre-salt exploration and production operations. He explained
that some companies stand to benefit more than others from this model, explaining many IOCs and oil services company
consider Petrobras to be one of the "harshest" contractors in the world. "Some people are comfortable working with
Petrobras, others are not," he explained.
3. (C) Reaction by Rio de Janeiro-based representatives of American oil companies to the possibility of Petrobras as the
sole operator is mixed. Exxon Mobile's External Relations Director Carla Lacerda, told Rio FCS officer on August 10 the
proposed model constituted a reversion to Brazil's former monopoly system. As the sole operator, she explained,
Petrobras would have more control over equipment purchases, personnel, and technology selection, which, in turn, could
adversely affect U.S. equipment and service supply to Brazil. Chevron's Director for Business Development and Government
Relations Patricia Pradal told Rio Econoff on Aug ust 21 that she had doubts over the legality of such a provision. "The
Brazilian government will have to fight this out in the courts or change the shareholder composition of Petrobras to
give the government a greater share," she explained. In spite of that possibility, Pradal did not believe non-operating
partner status would necessarily be bad for Chevron. She stated, "We are trying to maintain a lower profile nowadays,"
adding, "We area already partnering with RIO DE JAN 00000288 002 OF 003 Petrobras on five projects here."
MOVE FROM CONCESSION TO PRODUCTION SHARING CONTRACTS --------------------------------------------- ----------
4. (C) Although industry is opposed to the likely shift from concession to production sharing contracts (PSCs) under the
new regime, PSC provisions could potentially carry fiscally advantageous terms for investors. IBP's Teixeira and
Chevron's Pradal praised the concession model under the existing regime, calling it "strong and stable." Pradal said the
shift from such a model to a PSC was a political move, explaining "Everything the Brazilian government is trying to get
from a PSC, they could have done through concessions." USB Pactual's Gattas offered a more favorable view on PSCs,
however, explaining the new model could erase the upfront cash payments associated with current concession contracts.
The Tupi field, for example, required an upfront payment of 15 million Brazilian Reals (8 million USD). Gattas also
explained that new provisions could possibly allow companies to recover a greater percentage of their investment within
the first years of production. "A quick pay back under a PSC can be very attractive to many IOCs," he explained.
FORMATION OF NEW STATE COMPANY ------------------------------
5. (C) The likelihood of a new state company to own and administer all pre-salt reserves is anathema to industry
representatives in Rio de Janeiro. Petrobras' Cunha stated Petrobras never agreed with the concept of a new state
company. With Petrobras already at capacity, he did not know how such a company would receive its financial and human
capital. "Will we be robbing Peter to pay Paul?," he asked rhetorically. Chevron's Pradal said the GOB's motivation for
creating such a company was based on political jockeying, stating, "The PMDB needs their own company." (Note: The PMDB,
the government's coalition partner, has reportedly been negotiating with President Lula's PT party for seats on the
board of such a company, in exchange for political concessions going into an election year. Energy Minister Edison
Lobao, who is a leading PMDB member, was a key proponent of the new state entity. End note). According to USB Pactual's
Gattas, however, it makes legal sense for the GOB to form a body to serve as a contract counterparty in court disputes
and PCS re-negotiations." IBP's Teixeira said such a company will consist of less than 100 personnel, and would receive
technical support from the Min istry of Mines and Energy.
UNITIZATION AND LOCAL CONTENT -----------------------------
6. (C) There is mixed reaction over whether unitization and local content requirements will be included in the new
framework. While some industry players have speculated the regulations will address unitization, a term of art in the
petroleum industry for the process of distributing unlicensed blocks that share reservoirs with licensed blocks already
under concession, Nelson Narciso Filho, Director for the Brazilian National Petroleum Regulatory Agency (ANP) stated the
new regime will not address the unitization issue (Note: ANP is responsible for administering unitization. End Note).
"We should not touch unitization until after the new regulations are in place," he said. While the Ministry of Mines and
Energy Undersecretary for Oil, Natural Gas, and Renewables told Brasilia Econoff that the new regulations will provide
for a flat local content requirement for all blocks (reftel), as oppos ed to local content factoring into bidding
criteria under the concession system, USB Pactual's Gattas doubted this would be the case. (Note: At the July 20 CEO
Forum, an attendee of Presidential Chief of Staff Dilma Rousseff's meeting with the Brazilian CEOs told Brasilia Econoff
that an increase in local content requirements would be part of the new pre-salt regulations. End Note). Gattas
explained local content requirements are already too high for the Brazilian equipment companies. "Everyone is fully
contracted right now," he stated, "And this could go overboard." He argued such requirements would not be RIO DE JAN
00000288 003 OF 003 addressed in the law, but rather handled through individual contracts, perhaps based on the
precedence of the first PSC to fall under the new framework.
AMERICAN OIL COMPANIES: 'WE WILL STAY' --------------------------------------
7. (C) Although Rio de Janeiro-based representatives of Chevron and Exxon Mobile are bracing for a far more chal lenging
operating environment, both companies will maintain an active presence in Brazil, regardless of the changes the new
reform package brings. According to Exxon Mobile's Lacerda, the Brazilian market remains attractive, especially
considering declining access to reserves, world wide. Chevron's Padral conceded her company will be "struggling" in the
coming years, but said existing investments and her company's long-term goals here will keep Chevron engaged. "The rules
can always improve later on," she said. Both Lacerda and Padral stated their companies were accustomed to PSCs
world-wide and would enter into them here, given competitive and transparent terms.
COMMENT -------
8. (C) Petroleum actors and insiders in Rio de Janeiro uniformly view the pre-salt reform as pre-election politicking by
the Lula Administration. Given the fact that the GOB has not yet publicly released details of the new regulatory
framework, however, industry is tempering its reaction to the actua l terms of the framework until after its
announcement in Brasilia on August 31. Ultimately, the pace of production the GOB subsequently sets for the pre-salt
reserves could influence the IOC's ability to develop these fields more than the actual terms that govern how they do
so.
9. (C) Even once the announcement of the government's vision of a new regulatory framework is made next week, it will
still be a government proposal that needs the approval of the Congress. Given the highly politicized nature of
Congressional debate as Brazil anticipates the coming election year, a bill as important as this one will not face an
easy road to approval. The final product will likely be substantially different than the details that have been leaked.
For example, press reports varied leading up to the announcement, from Minister Lobao indicating that the distribution
of royalties to states and municipalities will be omitted from the August 31 proposal so that the issue does not hold up
pa ssage of the rest of the legislation, to other reports that the GOB, under pressure from oil producing states, will
in fact include royalties in the new framework, in a formulation closer to the current scheme. Such a decision which
would almost certainly create disappointment and controversy among the non-oil producing states. Sources at the Ministry
of Mines and Energy confirm that it is still unclear how this issue will be handled vis-a-vis the August 31
announcement. While this element of the new regime is not one that has concerned industry thus far, it is clearly one of
the biggest headaches for the government and likely to produce the toughest battles for the government. The fact that
this very issue already prompted the delay of the previously planned August 19 announcement, and government
consultations with affected state and local leaders in the interim do not appear to have brought them any closer to a
resolution, is likely just a harbinger of the difficulties tha t lie ahead for this part of the new regulatory regime.
Post will continue to closely monitor and report on developments. End Comment.
10. (U) This cable has been coordinated with Embassy Brasilia.
HEARNE