CHAPTER 18 BRAZIL ONSHORE PRIVATE TO PRIVATE OIL AND GAS TRANSACTIONS

• Jurisdiction: Derecho Internacional

International Mining and Oil & Gas Law, Development, and Investment
(Apr 2011)
CHAPTER 18
BRAZIL ONSHORE PRIVATE TO PRIVATE OIL AND GAS TRANSACTIONS
João Almeida ¹
Demareste Almeida Advogados
Rio de Janeiro
Kate Gibson ²
Central Resources, Inc.
Denver, Colorado

JOAO LUIS RIBEIRO DE ALMEIDA is a partner in the Rio de Janeiro Office of Demarest & Almeida. His practice focuses on Mergers and Acquisitions and Oil and Gas. He graduated in the Universidade de Sao Paulo Law School and obtained LL.M in Corporate Law from the New York University, being admitted to the New York Bar. He worked as a foreign associate with the law firm Sidley Austin LLP, in New York, at the M&A and Capital Market Department.

KATHERINE E. GIBSON recently joined Central Resources, Inc. as corporate in-house counsel. Central Resources, Inc. is an independent oil and gas company producing and operating in the United States, Argentina and Canada with headquarters in Denver, Colorado. Ms. Gibson manages and oversees all legal matters for Central Resources, Inc. Prior to joining Central Resources, Inc., Ms. Gibson was an associate in the natural resource group at Davis Graham & Stubbs LLP for three years where she specialized in domestic and international debt financings, commercial transactions, and acquisitions, with specialized expertise working with mining and natural resources companies. While at Davis Graham & Stubbs, Ms. Gibson worked on financing and investment transactions in Argentina, Australia, Brazil, Canada, Chile, Cyprus, Hungary, Mexico, Slovak Republic, Spain, the United Kingdom and the United States. Ms. Gibson received her J.D. from the University of Denver Sturm College of Law in 2005 and her M.B.A. from the University of Denver Daniels College of Business in 2007. Ms. Gibson received a B.A. in Business and a B.A. in Spanish from Calvin College in 2003.

TABLE OF CONTENTS

I. Introduction

II. Executive Summary

III. Background of Denationalization of Brazil's oil and gas industry

III.A. Petróleo Brasileiro S.A. ("Petrobras")

III.B. The Petroleum Law

IV. The Bid Process

IV.A. Petrobras' Rights - Round 0

IV.B. Role of ANP

IV.C. Bid Rounds 1-10 (Exploratory Blocks)

IV.D. Marginal Fields

V. Concession Agreements

V.A. The Concession Regime

V.B. Obligations of Concessionaire

V.C. Government Participations

V.D. Exploration Phase and Production Phase

V.E. Concession Agreement Terms -- Bid Round 10

V.F. Concession Agreement Terms -- Marginal Fields

V.G. Local Content Requirements

VI. Assignments of Concession Agreements

VI.A. Petroleum Law

VI.B. Assignment Provisions in Concession Agreements

VI.C. Timing

VI.D. ANP Approval Process

VI.E. Assignment by Change of Control with Substitution of Performance Guarantee -- Practitioner's Experience

VI.F. Qualification -- Bid Round 10 Participants

VII. Assignment of Risk Agreements and Services Contracts

VIII. Brazilian Antitrust Approval

IX. Recommended Provisions in Purchase Agreement

X. Pre-Salt New Legal Framework (the "Production Sharing Regime")

XI. Expectations on Petrobras Divestment and Investment Opportunities

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Exhibits

Exhibit I Data on Historical Bid Rounds (Exploratory Blocks)

Historical Bid Rounds (Exploratory Blocks) - Signature Bonuses

Exhibit II Current Concessionaires of Exploration and Production Blocks in Brazil: January 2011

Exhibit III Data on Historical Bid Round (Marginal Fields)

Historical Bid Rounds (Marginal Fields) - Signature Bonuses

Exhibit IV Formalization of the Qualification Documents

Exhibit V Power of Attorney of Accredited Representative

Exhibit VI Confidentiality Agreement

Exhibit VII Guarantee of Performance

Exhibit VIII English Translation of Exhibit to CADE Resolution 15/98

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I. Introduction

Brazil is the world's fifth largest country (both in population and area),³ the ninth largest energy consumer in the world, and the third largest energy consumer in the Western Hemisphere, behind the United States and Canada.⁴ Brazil was the ninth largest oil producer in 2009 with production of 2.7 million barrels of oil per day.⁵ As of January 1, 2011, Brazil reported 12.9 billion barrels in proved oil reserves, the second largest in South America after Venezuela.⁶ Approximately 93% of Brazil's proved oil reserves are located offshore, with the remaining 7% located onshore.⁷See Table I below for information regarding the location of Brazil's proved oil reserves.

Table I - Proved Oil Reserves (December 31, 2009)⁸

Location	Proved Oil Reserves (December 31, 2009)
106 barrels	Percent by Location
Onshore	923.8	7.2%
Offshore	11,933.2	92.8%
Total	12,857	100%

The purpose of this paper is to present a general overview of the primary legal issues that arise in onshore private to private oil and gas transactions in Brazil. Our analysis will be concentrated on the regulatory approvals required in connection with such transactions taking into consideration the acquisition structures commonly used. Our aim is to equip investors and legal practitioners with practical information, which will allow them to (a) maneuver through the regulatory approval process with greater confidence and understanding and (b) negotiate appropriate provisions in definitive documentation. In addition to setting forth the legal issues that arise in private to private onshore oil and gas transactions, this paper will describe the history of the Brazilian oil and gas industry and the legal framework which allows companies to engage in oil and gas exploration, development and production in Brazil.

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II. Executive Summary

Pursuant to the Brazilian Federal Constitution, all hydrocarbons are owned by the federal government of Brazil and the exploration and production of non-strategic hydrocarbons by private and semi-private companies is required to be carried out pursuant to the terms of concession agreements entered into between the concessionaires and the Agência Nacional do Petróleo, Gás Natural e Biocombustíveis ("ANP"), the governmental body responsible for regulating the Brazilian oil and gas industry. See Section X for an explanation of the new production sharing regime approved for the pre-salt and other strategic areas.

Prior to the denationalization of the oil and gas industry in 1995, all oil and gas exploration and production activities in Brazil were carried out by Petróleo Brasileiro S.A. ("Petrobras"), the state-owned oil and gas company. Since 1999, ANP has held 10 public bid rounds whereby ANP has auctioned both onshore and offshore exploration blocks to domestic and foreign bidders, where the winning bidder is granted a concession over the applicable block by entering into a concession agreement with ANP. Although Petrobras continues to hold the majority of the onshore concessions, some concessions are now held by both domestic and foreign companies.

Private to private onshore oil and gas transactions in Brazil involve the acquisition of exploration and production rights granted pursuant to the terms of concession agreements. Such acquisitions are primarily structured through (a) indirect investment in the form of a company acquisition that results in a change of control of the ultimate beneficiary holder of the concession, (b) direct investment in the form of (i) an assignment of the concession agreement, or (ii) a farm-in or farm-out arrangement of the interest of a concessionaire. In limited instances, services agreements (often times referred to as "risk agreements") whereby private companies contracted to provide certain operational services to Petrobras (as the concessionaire) are assigned in connection with a company purchase.

All assignments of concession agreements or rights derived pursuant to a concession agreement are subject to the prior approval of ANP. In the event of a corporate reorganization or a change of control transaction where the entity which granted the original performance guarantee (required as a condition to the grant of the original concession) to ANP is no longer an affiliate of the concessionaire, the transaction will also be subject to prior approval of ANP as if the change of control transaction were an assignment. ANP is very diligent in its investigation of the qualification of assignees in order to ensure that each assignee has the experience and financial capability to carry out the obligations assumed by the original concessionaires. Depending on the complexity of the transaction and the level of qualification required for certain fields, the preparation of the necessary documentation can be arduous and time consuming. The parties should take into consideration that the ANP approval process may take from 3 to 9 months (and in some cases up to a year), which may affect certain conditions to closing agreed upon by the parties.

No assignment of exploration rights can occur before ANP approval is obtained, and the parties should not assume commitments on the timing of such approval. Although, the definitive transaction document does not need to be submitted to ANP, the parties should make sure the language of the agreement is clear that ANP approval is a condition precedent to closing. The penalties for an assignment without the consent of ANP (including indirect change of control with substitution of performance guarantee) are the imposition of a fine of

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R$500,000 (approximately US$300,000⁹ ) and termination of the concession agreement if such breach is not remediated within the term determined by ANP.¹⁰

One of the primary challenges facing investors and legal practitioners is that ANP has not yet promulgated specific regulations addressing the legal requirements for the assignment of concessions. As a result, buyers and sellers are forced to maneuver the regulatory landscape without standardized processes, procedures and requirements. However, considering that ANP has not offered blocks through bid rounds since the tenth...