June 25, 2012 / 3:01 PM / in 5 years

COLUMN-Petrobras admits everything broken but the model: Campbell

(Robert Campbell is a Reuters market analyst. The views expressed are his own)

By Robert Campbell

NEW YORK, June 25 (Reuters) - For a long time, Brazil’s Petrobras was the state-run oil company that was supposed to show other state-run oil companies how it was done.

But burdened with unrealistic government policy, Petrobras is starting to look as broken as some of the industry’s laggards.

Years of missed production targets, ballooning costs and investor suspicion that an activist central government will short-change equity holders has turned the former stock market darling into a dog.

So at the very least, the company’s latest business plan presentation on Monday is refreshing for its candor. Gone is all the bluster about eclipsing the super majors that figured prominently beforehand.

Instead, slide four (of 89!) comes devastatingly clean on nine years of “unrealistic” targets for production growth.

Slide six discloses an eye watering blowout in costs for its new refinery in Pernambuco. The plant, which will now not process any oil until late 2014, is expected to cost as much as $20 billion, up from initial estimates of $2.3 billion.

But after those doses of brutal honesty, Petrobras retreats into a defensive stance, hitting back at criticisms of other elements of Brazil’s oil policy.

For instance Brazil’s insistence on higher local content in new offshore drilling rigs and production facilities has been blamed for previous delays and cost overruns, in part due to the inexperience of Brazilian industry with these types of projects.

Petrobras tries to deflect these charges, noting it has suffered significant delays in the delivery of rigs ordered from overseas shipyards too.

Similarly, criticism that Petrobras loses too much money on local fuel sales due to low prices are rebutted by a chart that at times, such as in 2009-10, Petrobras has profited from this scheme because its prices were above world levels.

STILL UNREALISTIC

As a result of its soul-searching, Petrobras has scaled back its production goals. While a disappointment in terms of future non-OPEC oil production, Brazil’s inability to meet its own targets had always called past forecasts into question.

The company now sees its oil and natural gas liquids output in Brazil reaching only 2.5 million barrels per day in 2016, down from a previous forecast of more than 3 million bpd by 2015.

This slower growth curve is probably more reflective of the reality on the ground, given the huge challenges associated with developing Brazil’s massive, but remote “pre-salt” discoveries in the deep waters of the Atlantic Ocean.

Yet despite the more pragmatic short term approach, the long-term trajectory of production growth inexplicably accelerates.

This acceleration is surely more the product of wishful thinking despite all the happy talk about standardized projects and streamlined costs.

After all, the presentation goes on to show progress reports for 10 different offshore production facilities, all of which are behind schedule.

As such, the new 4.2 million bpd production goal for 2020 should continue to be viewed with scepticism, even if it is more than 700,000 bpd lower than last year’s inflated target.

Similarly the financial disaster at the Pernambuco refinery is promised to be a one-off, with future refining plans held back for renewed study.

But here again, what investors are promised is simply better management and better implementation. The actual plan, and the means chosen to carry out the plan are never really questioned.

STATE MODEL

The root of the problem in Brazil’s oil industry lies in the state-directed model that has been adopted.

Petrobras has become, for lack of a better term, a national development agency. The company has agreed to not only pursue Brazil’s national content demands, but is working to exceed them regardless of cost or efficiency concerns.

Steps taken towards liberalizing the industry after 2000 were reversed once the massive pre-salt oil discoveries inflated the egos of Brazilian politicians.

Petrobras was given a legally entrenched role as sole operator of the most promising fields and allowed, or encouraged, to extend its dominance in the domestic refining sector.

The result is huge demands on Petrobras’ management to develop and supervise practically the entire industry. Much of the finance for this development also has to come from the company.

At the same time its dominance of the domestic fuel sector has left it vulnerable to politicians seeking to tamp down on inflation through price controls.

None of this is meant to take anything away from Petrobras’ achievements. The company’s engineering prowess is well known, as are its accomplishments in offshore oil exploration and production.

Nor is this to say Brazil should abandon national content rules or other regulations aimed at fostering local industry.

But Brazil’s oil problem is greater than mere management missteps at one company.

The government has to choose if it wants development at all costs, including the risk of more boondoggles like Pernambuco, or whether it wants an industry that is sustainable.

It has to decide whether it wants to go down the path of other state oil companies, like Mexico’s Pemex, whose revenues subsidize all sorts of inefficient industries and interest groups, or not.

For the broader oil market, Brazil’s problems are the oil market’s problems. The country is still expected to be a major source of oil production growth over the next two decades.

But until the existing model of development is overhauled, delays and disappointment remain the likely outcome. (Editing by Marguerita Choy)

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