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The Economist : Brazil industry:
Petrobras under pressure
Petróleo Brasileiro (Petrobras), Brazil's state-controlled energy giant, has become one of the fastest-growing oil and gas companies in recent years, mainly thanks to huge discoveries in ultra-deep waters. It has unveiled ambitious investment plans, and the government is seeking to alter the regulatory framework to ensure that Petrobras plays a commanding role in the development of such key resources. Nevertheless, the company's market capitalisation took a battering on financial markets lately as it is facing a higher level of debt. The timing of a planned rights issue is also in doubt. And Petrobras's safety record has come under increased scrutiny as it prepares to break a new frontier in oil exploration.
Production tests are currently under way at Tupi and at least two other ultra-deep oil fields off the Brazilian coast. Drilling has to reach an unprecedented depth of more than 6,000 metres under the seabed, through a thick layer of sand, rock and salt (hence the expression “pre-salt” oil reserves). Brazil's current proven reserves of 14bn barrels are set to triple, according to official estimates. Petrobras also plans to extract the equivalent of 1.2m barrels per day from pre-salt reserves by 2020 (out of a total of 5.4m barrels of oil equivalent).
In order to achieve this, the Brazilian oil giant has boosted its already ambitious medium-term investment plans to US$224bn through 2014 (up from US$173bn under the previous five-year investment plan). Pre-salt-related investments are slated to total US$30.9bn. This will require extra funding, on top of the record US$41.5bn Petrobras secured from financial markets last year.
Rights road show
Meanwhile, the Brazilian government has been mulling a complex capitalisation plan, which has been approved by Congress, to boost the company's capital base. The rights issue, which was originally scheduled for June, has been delayed to September. The government intends to sell the rights to 5bn barrels of pre-salt oil to Petrobras at a price that is to be announced shortly, following an independent valuation. Minority shareholders would have to follow suit and pay upfront, or have their stakes diluted. Road shows have been scheduled for September in the US, Europe and Asia ahead of the new offering.
Yet further delays are likely. Brazil is currently in a midst of a presidential electoral campaign. Although the government's candidate, Dilma Rousseff, is the favourite to win, any unexpected political events could prove a distraction to the capitalisation plan. (At the same time, any setback in the capitalisation process may have a detrimental effect on Ms Rousseff, who is a former mines and energy minister).
If uncertainty related to the rights offer continues, the strategic plan might again be delayed, this time until after the October elections, and possibly until 2011, according to some government officials.
Financial performance under scrutiny
In the meantime, portfolio investors have already started to turn their back on Petrobras, which has lost over US$50bn in market value since the beginning of the year. Soros Fund Management, the hedge fund of the Hungarian-born investor George Soros, decided to sell all its Petrobras ADRs during the second quarter of the year, and UBS, the Swiss bank, also recommended selling in August.
Petrobras posted a 1.7% increase in profits between April and June compared with the same period last year, while other large oil companies (the exception being the UK's BP) registered stronger earnings. Moreover, Petrobras's debt-to-equity ratio reached 34% (up from 28% a year earlier), which is dangerously close to the top range of the company's 25-35% target. As the company intends to step up investment to pursue its aggressive plans, it needs a capital boost sooner rather than later if it wants to preserve its investment-grade credit rating, which in turn, gives it access to cheaper financing. In other words, if Petrobras cannot pull off its rights issue by the end of September, it may have to delay some investment or risk paying more for its loans.
New focus on safety
This is not a comfortable position. Further, Petrobras has had to deal with the indirect consequences of the recent BP oil spill in the Gulf of Mexico. The Brazilian firm's safety record has improved in recent years after it suffered a series of accidents at an offshore platform about 10 years ago (including a deadly explosion at the P-36 platform in 2001, which later sank). Nevertheless, oil workers' trade unions have recently denounced the poor state of conservation of some of these platforms, and the Agência Nacional do Petróleo (ANP), the regulatory agency, has called for the suspension of drilling operations there.
Indeed, the BP disaster has again highlighted the risk of offshore exploration. In the event of any accident at any of the new pre-salt platforms, which are based much farther (some 300km away from the coast) than the older platforms, the logistics for an emergency plans would be much more complex. The government has signalled that it is indeed working on new contingency plans together with Petrobras and other oil companies. The environment minister, Izabela Teixeira, has said that a new decree will be issued in September.
As a result, Petrobras now has to deal with strong pressures and new risks coming from various directions. The oil company has traditionally been a source of nationalist pride in Brazil. The pre-salt discovery has fed additional resource nationalism in the past three years. But the daunting task of exploring and investing in new deep-water areas is largely unchartered territory. Against a background of heightened environmental concerns worldwide, it represents a strong challenge.
The Economist is a leading financial , economics and authoritative weekly newspaper focusing on international politics and business news and opinion
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Editor's Note: This commentary was originally published by The Economist Intelligence Unit on Aug 26, 2010. Petroleumworld reprint this article in the interest of our readers
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