BG Brazil offers Shell big upside plus some snags

OREANDA-NEWS. Shell's proposed \$70bn takeover of the UK's BG would catapault the major into a lead position in Brazil's prolific subsalt patch, but a sharp slide in oil prices, coupled with the fallout of a massive corruption case there, could limit the near-term upside.

BG was an early mover in Brazil, participating in five significant subsalt discoveries in the Santos basin: Lula, Iracema, Sapinhoa, Iara and Lapa. The company also operates 10 blocks in the Barreirinhas basin that it picked up in a May 2013 licensing round.

The firm is the second largest net producer in Brazil behind state-controlled Petrobras, accounting for 109,423 b/d of oil and 4.421mn m3/d of natural gas in February, according to the latest data from Brazil's oil regulator ANP.

In contrast, Shell was a distant fifth with just 43,012 b/d of net oil output and 552,000 m3/d of gas. In January, Shell agreed to sell its 80pc operating stake in the deepwater Bijupira and Salema fields to local independent PetroRio for \$150mn. But the major is already firmly grounded in Brazil with a 20pc stake in Petrobras-operated 8bn-12bn bl Libra subsalt block, along with Total and Chinese state-owned CNOOC and CNPC. Two exploration wells have been drilled so far.

Since the first subsalt discoveries in the late 2000s, Brazil has emerged as a rising non-Opec supplier, with relatively steady production-sharing contract terms and regular licensing rounds that resumed in 2013 after a five-year hiatus.

But the outlook has since become decidedly less predictable. Petrobras, BG's partner and legally mandated subsalt operator, has been weakened financially and operationally by revelations of systemic corruption that erupted in the run-up to the tight 2014 presidential election. Brazilian contractors that traditionally thrived on the country?s rigid local content rules have been implicated in the scandal and temporarily banned from new Petrobras business. Three have gone bankrupt.

Last month, BG dismissed assertions from one of its subsalt partners, Portugal's Galp, that the crisis will delay the installation of key subsalt platforms.

In comments today, Shell chief executive Ben van Beurden acknowledged the broader risks. "What is happening at the moment is going to be temporary. Petrobras is a very strong company, with lots of strong capabilities. It will come out of this, in my estimation, as a stronger company, and we will be there as its key partner alongside," he said. "Having said all of this, you never know how this will play out, what implications it may have on the development trajectory and the valuation of the asset."

The prospect that Brasilia will be forced to relax local content rules and Petrobras' subsalt mandate in order keep oil projects from derailing could offer opportunities for well-heeled, experienced companies like Shell. But requisite legislative initiatives are unlikely to take root in Brazil's deeply fractured political landscape in the short term. And troubles that dogged Chevron over two minor offshore oil spills in Brazil in 2011-12 are a reminder of legal and regulatory risks.

Elsewhere in Latin America, Shell would inherit upstream assets and a liquefaction stake in Atlantic LNG in Trinidad and Tobago, as well as upstream interests in Bolivia, Uruguay, Colombia, Honduras and Aruba. Shell already has a stake in Atlantic after scooping up Spanish Repsol?s LNG assets in 2013, and an upstream presence in Colombia.