Media Highlights

Peak Supply

14 July 2011

For a while, Rio de Janeiro seemed to be locked into a downward spiral. Held back by an at-best unimaginative local government, Brazil's former capital remained a must-go gringo destination, but seemed doomed to fade into commercial irrelevance as first the banks and later many companies defected to its roaring monster of a city-cousin, São Paulo. Then, Rio struck gold.

Many factors have contributed to Rio's renaissance and impressive growth rates, but the pre-salt oil discoveries off the state's coastline in 2007 have been pre-eminent among them. Billions of barrels of oil lie under miles of salt deep underwater, thus posing sufficient technical challenges to require huge investment: Petrobras, the state-owned oil behemoth, is now mid-way through a US$174 billion investment programme. And as the discoveries were made as oil prices climbed ever more sky-high amid continuing peak oil warnings, to say the situation looked promising was something of an understatement.

And indeed, business is good. Brazil has some of the heaviest oil rig traffic in the world, with a 30 per cent year-on-year increase. OGX, created just after the Tupi field was discovered and now the largest independent oil company in Brazil, floated with a then-record-breaking US$4.1 billion IPO and is still able to raise billions on the capital markets, despite having zero proven reserves.

Statoil did around US$20 billion of business in Brazil last year and thinks next year will be much busier. Investment banks now have dedicated oil and gas teams; more and more global private equity funds are keen to invest; and independent oil companies (IOCs) and service providers from Korea, China, Norway, the US, Canada and just about everywhere else have either already set up in Brazil, or are keen to do so.

All of which threw the previously cosy market for oil and gas lawyers in Brazil into a headspin. E&P began in Brazil as the market opened in 1997, with the first licensed activities in 2000 - meaning that for all firms the practice is relatively new and that no-one has had the opportunity to develop the levels of experience common elsewhere in the world. Moreover, for many years there was one company doing oil and gas work in Brazil, which meant that as a lawyer you either worked for Petrobras or you did not do oil and gas work.

Thus, for years expertise was concentrated in small boutiques, led by one or a handful of lawyers with significant experience in regulatory and other sector-specific work; other traditional Rio-based full-service firms were also prominent, but the large São Paulo firms, with one or two exceptions, seemed to consider the work rather beneath them. Then multi-billion dollar deals began to happen and everything started to change.

(...) Since the pre-salt discoveries were announced, the Lula administration and the succeeding government headed by Dilma Rousseff have put in place a new regulatory and legal framework that they claim will ensure the discoveries benefit Brazil, not foreign oil companies. Concession agreements have been replaced by production-sharing contracts (PSCs) and Petrobras's role has grown significantly, while another newly-created state-owned company, Petrosal, further enhances the government role.

States are still squabbling over who takes what of the profits, meaning that real E&P movement in the oil industry is still not expected until next year. Similarly, a new and long-awaited gas law has just been enacted, meaning that a real gas E&P business, mothballed for more than five years, can only now start to be built.

The new oil laws certainly have their critics in Brazil, but even if most lawyers still occasionally lament that the concession model worked perfectly well and they don't see why it needed fixing, they are long since resigned to making it work for their clients - when they are able to do so.

Luiz Antonio Lemos is the new head of oil and gas at Campos Mello Advogados, having brought his team over from TozziniFreire. He acknowledges the move has been a tougher one than he anticipated. "Everything is stuck waiting for the PSCs, so there have been no bid rounds in three years," he says. "Things are warming up though and there are expectations that the situation will be much better next year."

Lemos enunciates an idea common across Rio: that this year has been slower than expected; that the predicted upturn is yet to arrive. (...) The slowness of the market has also been difficult for others, like Lemos, in a position of building business.

(...) one very bright spot in the industry is work for services providers. While the laws governing E&P are perceived as retrograde by many in Brazil's business community, the local content rules - which heavily favour and prioritise service providers who make their products in Brazil in awarding contracts - are compelling an investment wave that might well create a local industry of global renown: exactly what the regulations are designed to do, of course.

(...)

Everyone of course wants Brazil to be like Norway, whose own local content rules played a major part in ensuring its industry has the global status it does today. But caution is needed, warn many, including Campos Mello's Lemos and team, who researched the concept in depth for BNDES.

Lemos himself points to the experience of the computer industry in Brazil when saying "our history shows that closed markets don't work - we lose the chance to develop." A senior associate in the team, Luis Menezes da Silva, says, "The concept is great, but it won't come by itself - we need government support in tax and education, as well as incentives for Brazilian companies to go abroad, or we will lose our competitiveness. The rules also need to stop at the time the Brazilian industry is strong enough not to need them."

(...)

The market is doubtless competitive, but the limited talent pool inside Brazil is one reason why the big, international oil companies will continue to hire US and UK firms for their work in Brazil. Equally, once pre-salt work finally does get off the ground, everyone should see an upturn in their practice irrespective of the address on their business cards.

Brazil will soon be a top-ten global oil producer, but in the legal market, that means demand should soon catch up with supply, even at the top levels, and probably overtake it. Until supply of legal expertise catches up with demand - and experience is difficult to acquire quickly - clients might yet need to keep their options open.

Source: Latin Lawyer