An Investors’ Guide to Libra

Petrobras is the largest deep-water operator in the world, with 22%+ of its activity in the deep. Petrobras is the first company in the world to find and produce gas under a layer of salt on the continental shelf. Its pre-salt discoveries have the potential to position Brazil as having one of the world's largest oil reserves. Petrobras has proven reserves of about 16 billion barrels of oil, which is forecast to double over the next 3-4 years with new discoveries, and is currently producing almost 350,000 barrels per day of oil equivalent in the pre-salt layer of the Santos and Campos Basins-beyond their expectations. By 2016, the company's pre-salt production should reach 750,000 bpd, and the forecast for 2020 is nearly 2 million bpd. It sounds fabulous-on paper.

In October 2013 in Brasilia, the National Petroleum Agency (ANP) will hold its first auction for pre-salt oil when it awards a concession for the Libra field, located off the coast of Sao Paulo and Rio de Janeiro in the Santos Basin. This, according to the ANP, will be the last pre-salt auction before 2015 at the very earliest.

Following a 3D survey the ANP estimates Libra to hold 26 to 42 billion barrels of oil equivalent, of which 8 to 12 billion barrels are currently classified as recoverable, making this a historic auction.

However, as a pre-salt field Libra presents some unique challenges: oil and gas deposits will be costly and technically difficult to extract. If the price of oil falls much below $100 a barrel, some wonder whether it even makes business sense to try. Indeed, we're talking about reserves that are under water, rock and salt up to depths of 7,000 meters below the surface of the Atlantic. And the layers of salt are shifting.

Libra is a large area (1547.76 km2), and will likely require nine to ten FPSOs at a minimum and about 100 production wells supported by 100 injection wells to attain maximum recovery which could be up to 1 million bpd. Many analysts believe profitable production could be 10, or even 20 years away for whoever wins the rights to explore and produce in Libra.

The director of the ANP, Magda Chambriard, said wells already drilled there prove Libra's viability, but she failed to mention in her stump speech that the first well drilled by Petrobras at the field cost $150 million and collapsed in 2010 before any oil was extracted.

The ANP is talking up Libra's potential, noting that the Santos basin and nearby Tupi have surpassed production targets. Petrobras hoped to be producing 241,000 bpd of pre-salt oil equivalent by 2014, but by March 2013 they were already at 349,600 bpd. Petrobras, which by law must serve as operator, has the deep-water technical expertise, but given its success elsewhere, Libra may not rank as a top priority for Brazil's state oil company--another issue that could come into play for whatever consortium wins the rights to develop Libra.

And the winner is almost certain to be a consortium of "giants" like BP, Total, Exxon or Statoil. Aside from Petrobras, Brazilian companies that may try to get in on the action include Queiroz Galvão Exploração e Produção (QGEP) or Batista's OGX, though the latter is in a precarious financial situation. Consortiums will be limited to five participating companies.

QCEP already has operating experience in the Santos Basin at the Atlanta and Oliva fields, near Libra.

In addition, Petrobras itself may not have as much room to sink cash into Libra, which would mean greater risk for its partners. Though there are rumors that China may finally step up to the plate in Brazil this fall to make a generous bid for Libra, its lack of participation in the last auction in May might have been an early signal that China is looking elsewhere.

At the same time, though, China National Petroleum Corp. is shopping around with an eye on Petrobras' South American assets outside Brazil. Rumors persist that CNPC is looking at $2 billion in Petrobras assets in Colombia and Peru. This would be a much-needed cash infusion for Petrobras-the most indebted publicly-traded oil company in the world.

Petrobras already divested half of its African assets in June, selling off $1.5 billion to Grupo BTG Pactual SA (BBTG11).  This extra cash will be used to develop Libra-but it's still not enough.  

Some companies have already expressed surprise at the ANP's announcement that the minimum cash offer for Libra will be set at $6.67 billion, plus terms that include a minimum of 41.65% of profit oil going to Brazil. A total of $22.2 million will go to Pré-Sal Petróleo, SA (PPSA), Brazil's state pre-salt company.

Under the terms of the contract, the winning bidder is also obligated to run a 3D seismic study of the entire block and drill at least two exploratory wells that reach the Barremian/Eoaptian layer.

The strict terms, which also include Brazil's standard local-content requirements, are not the only thing that might give oil executives pause: Brazil halted all oil auctions for years as the government strategically "updated" regulations to keep a larger portion of profits. This will be the first auction under the new laws, which one hopes will hold up to the pressure that will come from Brazilian politicians if Libra does in fact turn out to be a "black gold" mine.

As Ms. Chambriard said, they expect seven or eight combined international bids, but they only need one to make a record sale.

Will Brazil get what it's after in its first-ever pre-salt auction? If it only needs one sale to make a record, it will likely get it. Despite the risk here and the heavy up-front drilling expenses, someone will want to get their hands on this first pre-salt because the potential is enormous. Once they do, they will probably find themselves drilling for at least four years, maybe five, before production could begin. The big thing to keep an eye on here is whether Petrobras will be able to keep up its side of the Libra bargain financially.

This report was produced in cooperation with Southern Pulse.