Brazil has been the focus of substantial attention in the last several years within the oil and gas industry. As one of the so-called “BRICs” economies, Brazil presents some positive signs of an emerging economy that provides an interesting picture of the overall importance of the country. According to the data published by the Brazilian Central Bank, direct foreign investments in Brazil have dramatically increased in the last decades, reaching a peak of US $30,000,000,000.00, which illustrates the global interest in this country.
In order to better understand Brazilian oil and gas regulation, it is helpful to provide the highlights of the historical context. The petroleum legislation in Brazil encompasses the following main phases: the first period prior to 1938; the second period from 1938-1953, beginning, with the creation of the National Petroleum Council; a third phase from 1953-1995, during which Law 2004 created Petróleo Brasileiro S.A. – Petrobras and granted to this company the monopoly over oil and gas exploration and production (E&P) and remained in force; and, finally, the fourth and current period since 1995, when the 9th Amendment to the Federal Constitution (FC) introduced a new regulatory framework for oil and gas in Brazil. The new regulation started to be implemented with the enactment of Law 9478, of August 6th, 1997, and the establishment of an independent regulatory agency for this segment of the industry, named the Brazilian National Agency for Oil, Natural Gas, Hydrocarbons and Biofuels (ANP).
In the current regime, as per Article 177 and paragraphs of the Federal Constitution, oil remains a monopoly of the State, but the performance of either upstream or downstream activities is not exclusive of Petrobras as it can be granted to private companies as well, through the execution of concession contracts for the upstream activities or through authorization for the downstream activities.
This concession is granted by ANP, upon the participation by interested players in a transparent bidding process conducted by the Agency. In an evolving and transparent upstream, a Bid Round is organized after the concession contract entered into with ANP. The concessionaire needs to pay the Government Take foreseen in Article 45 of Law 9478, which includes (i) royalties, as a compensation for the exploitation; (ii) special participation, in case there is a high level of production; and (iii) a payment for the occupation or retention of the area. This regime was very successful during the last decade and brought significant results to the country and stability to investors. An example of this is the participation of the industry in the GDP, which has grown from 2.7% in 1997 to 12% in 2007.
As a result of this scenario, there is now a significant number of private companies (both domestic and foreign) operating in E&P in Brazil[1]. However, a relatively small portion (less than 7%) of Brazilian sedimentary basins (composed of 2.5m km2 offshore and 5m km² onshore) are currently under concession. The onshore areas not yet exploited can represent an opportunity for independent producers to enter the Brazilian market.
In the interim, due to the high expectations over the pre-salt area in Campos and Santos Basins and the current Government intention to impose a significant change in the regime for such pre-salt area, a few new Bills (some already converted into law) were submitted for congressional consideration, including the proposal of a new contractual model (PSA) for E&P on the so-called “pre-salt blocks” and strategic areas to be determined. This has the potential for resulting in a new regulatory framework for oil and gas in Brazil.
The first act that we can point out is Law 12304 of 2010, which creates the Pré-Sal Petróleo S.A. (PPSA), a state owned company responsible for the management of the production sharing agreements. The second is Law 12276 of 2010, which allows the assignment by the State directly to Petrobras of 5 billion barrels in the pre-salt area. There is a third Law very recently signed by the ex President Luiz Inacio Lula da Silva (Law 12351 of 2010), which regulates exploration and production in the pre-salt area under the production sharing agreement contractual model and also creates a Social Fund with the purpose to raise funds for the Social Fund with the purpose to raise funds for the social development of the country. This article will highlight some of the challenges presented in this new regulatory framework without an exhaustive analysis of all the details.
The option for a PSA regime over the pre-salt area was motivated by the huge amount of oil expected to be found in this area – (close to 8 billion barrels of oil). The Government argues that the prospects presented less risk for exploration and offered a better capacity to attract investments to the country. Basically, in this regime the contractor carries out, at its own risk, the exploratory activities and, in case there is a commercial discovery, the company acquires the right to have its costs covered by the produced oil as well as an amount of the production equivalent to the due royalties. The contractor can also have a share of the remainder amount of oil, according to provisions of the contract entered into with the State. The features are somewhat similar to other PSA’s with additional aspects pointed out below.
According to Law 12304, PPSA shall manage all the production sharing agreements executed by the Ministry of Mines and Energy and shall manage all the contracts for commercialization of federal oil and natural gas. These management functions include: (i) representation of the Federal Government in the consortiums formed for the execution of PSAs as well as in the Operating Committees; (ii) technical and economical evaluation of the E&P projects and administration of the execution of the contracts; and (iii) auditing the investments related to the production sharing agreements and the costs and prices of oil and gas sales.
The main criticism over this Law is that the management functions described above could (and should) be performed by ANP as ANP has the statutory competence (as per Article 8 of Law 9478), to regulate, to contract and to control the economic activities of the Brazilian oil and gas industry, without any differentiation between areas or models. From this perspective, the recently enacted Law can be characterized as an affront to ANP’s jurisdiction (as PPSA will be performing duties which were legally attributed to ANP). It can also be viewed as a “waste” of public resources in constituting a new administrative entity, entirely owned by the Government, because the function to represent the Federal Government could be perfectly performed by Petrobras, a role that would certainly be more suitable pursuant to the “Efficiency Principle”.
In reality, the enactment of Law 12304 can also be interpreted as an attempt to increase government control over the oil and gas industry. This may interfere with the current (legal) stability, independence and impartially that has prevailed so far in this sector and that has allowed the expansion of small and medium players in the industry.
Law 12276 is also subject to relevant criticisms and has aroused attention from different sectors of the government and the society, including jurists and specialists in the fields both of comparative oil and gas law and administrative law. Law 12276 authorizes the assignment by the State directly to Petrobras of upstream activities on “non-granted areas” in the pre-salt equivalent to 5 billion barrels and entitles Petrobras with the production yields resulting from the exploitation of this area.
As an example of the controversies that have arisen out of this Law, a recent lawsuit was presented by the Head of the Executive of the State of Rio de Janeiro last November 11, in a case to the Federal Supreme Court (ADI 4492) requesting an interpretation of Law 12276 according to the Federal Constitution. The main point of this case is to ensure that Law 12276 does not eliminate – as interpreted by Petrobras – the right of the producer states and districts to receive, as per Article 20, §1, FC, special participation derived from the production over the assigned area.
One of the arguments made by the Head of the State’s Executive to justify his claim is that an opposite interpretation would result in the violation of constitutional rules and principles, as well as the Principle of Democracy. Furthermore, it is well observed that the Law 12276 does not specify which non-granted areas in the pre-salt is the object of this assignment to Petrobras, giving excessive discretion to the Federal Government to reallocate state and local revenues in conflict with the constitutional Federative Principle and to the Constitutional Principle of Publicity that demands that every act of the State should be public and transparent (and not omitted, as was the case here) so as to assure certainty for the individuals and entities as well.
Other issues challenging the constitutionality of this Law were presented such as the evident disregard to Article 170, IV, and 173 and paragraphs of the FC that guarantee free competition in the Economy Order and prohibit mixed-capital companies, such as Petrobras, to be in a position of advantage in comparison to other private companies active in the Industry.
Notwithstanding these issues, we must take into account that Article 60, §40, IV, FC, does expressly veto any proposal from the Congress tending to abolish individuals’ rights and guarantees as prescribed in the Federal Constitution, and “Free Competition” is one of these guarantees that should remain until a completely new Constitution is established.
In conclusion, although there are some concerns related to the new regulatory framework’s impact and trend, we can still picture an optimistic scenario for the position of the oil and gas industry in the Brazilian economy, and the potential for great future opportunities for investors and independent producers.
By Marilda Rosado and Ilana Zeitoune of Doria, Jacobina, Rosado e Gondinho Advogados Associados, Rio de Janeiro, Brazil (mrosado@djrlaw.com.br; izeitoune@djrlaw.com.br)
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