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Petrobras—back from the brink?

Brazil's state-run oil firm has had a brutal few years. Growth is its focus again, but a full recovery is still some way off

Sitting in the lobby of a central London hotel, surrounded by tall, plastic cups of expensive, milky coffee, I meet Petrobras chief executive Pedro Parente. A few feet away, across the plush carpet and marble floors, a pianist is setting the mood.

The calm scene is in sharp contrast to some of the dramatic moments Brazil has experienced in the past 12 months. Not so long ago, violent protestors took to the capital's streets to demand the resignation of President Michel Temer. It was the latest turn in a years-long corruption scandal—so-called Lava Jato, or Carwash—that has crippled two former presidents and permeated right to the heart of Petrobras.

Temer is clinging to power, for now. But next year's political elections leave a chasm of uncertainty over who will occupy the Palácio do Planalto, the presidential palace.

Will this signal a return to resource nationalism?

"No, I don't think so. Even in the period of the previous (political) party's tenure we continued our partnerships with a number of different, foreign companies," Parente tells Petroleum Economist. And, whatever else has happened, he thinks the government has done a good job of developing a regulatory framework that investors like. "Since 1999 the country has had 10 bid rounds. The government wouldn't do that if they didn't want investment."

The bigger task—for Petrobras and the government—is reassuring investors that Brazil is a safe bet again. The state firm needs partners.

The multi-billion-dollar Lava Jato scandal, coupled with a collapse in international oil prices, has been punishing for Petrobras. Ratings agency Standard & Poor's slashed its debt status to junk two years ago and the company has not paid dividends since. Parente says that if Petrobras turns a profit in 2017 then it can begin paying out to shareholders again.

"I feel that if we manage to demonstrate to Brazilian society that the better way to run the company is the way we are doing it, the professional way, which is not driven by any kind of political agenda but just driven by financial functionality and responsibility, then we can make it work," Parente says.

Petrobras is "a completely different company" since Lava Jato, Parente says, and has worked to tighten up internal compliance rules.

3.41m boe/d - Petrobras output targets for 2021

"The company used to work as silos so we didn't have what is a very important feature of any good compliance system—the segregation of functions. So an area of exploration would have their little department for communication and procurement," Parente says. "But now, we have centralised all these functions and so no decision is taken by any one single person anymore. If a decision is taken by an executive committee then the board will approve it."

Petrobras also now has an anonymous whistleblowing system to report corruption or malpractice within the company. No employee can be fired for reporting any graft, says the chief executive. It's a broad clean-up effort that started before Parente took the helm a year ago.

Now his focus is on reducing debt and boosting output.

In 2012, with oil prices trading well above $112 a barrel, Petrobras's adjusted pre-tax earnings (ebitda) came in at 53bn reals ($16.9bn). Last year, when oil prices were a third of 2012's level, or just $44/b, adjusted ebitda was almost double, at 89bn reals. And the company's ebitda margin—a measure of its operating profitability as a percentage of its total revenue—went from 19% to 31% in that time. (By contrast, ExxonMobil's was 15%.)

Parente says the company has done this by cutting capital spending, shedding assets and staff, improving efficiency and getting both technical skills—and cash—from international oil companies.

A drop in services fees has helped too. Average lifting, or production, costs for its pre-salt plays have fallen around 15% since 2014, and stand at about $7 a barrel now.

As for output, Parente says Petrobras is sticking to its 2021 target of 2.77m barrels a day of oil and natural gas liquids combined, up from 2.07m b/d this year. The company's combined oil and gas output targets are to reach 3.41m barrels of oil equivalent a day by 2021, up from 2.62m boe/d this year.

Pre-salt production rose to a record 1.35m b/d in June, according to the International Energy Agency, making up over half of Brazil's total output.

Streamlining strategy

Finding more efficiency, cutting costs and ramping up pre-salt output are the pillars of Parente's strategy. He suggests it's working. When pre-salt output started, Petrobras took 330 days to complete a well; now it's around 90 days-a huge saving of time and money.

Average output from pre-salt wells is also now around 26,000 b/d—some 6,000 b/d more than Petrobras expected. Some wells produce up to 40,000 b/d. "This is very important because these are wells we don't need to drill," he says. "Meaning we don't need eight wells to top the capacity of a platform, we only need six."

Selling assets and cutting capex have also helped lower the company's debt. Planned capex for 2017 has been revised down from $20bn ($16bn on exploration and production) to $17bn ($14bn on E&P). The company wants to raise $21bn from asset sales in 2017-18, up from $13.6bn in 2015-16.

It will sell off bits from across the business, from onshore and shallow-water fields, to pipelines and stakes in petrochemical companies.

'There will be peak oil, there is no doubt about it. The million-dollar question is: when?'

A crowded, oversupplied oil market makes all this difficult too. But for Parente, the recovery of Petrobras and the rebalancing of the global crude market are about playing the long game. Eventually, he believes, the market will turn more favourable for producers.

"The main question is not what will happen next month or next year but in 2019 or 2020, when we will see the impact of cuts to major investments that companies have made since 2014," he says. "From 2014 to 2015 we've seen reductions in investments of around 25%, and another 25% from 2015 to 2016. The main question mark for me is if tight oil will be able to answer global demand when we start seeing the impact of this reduction."

And when the market eventually starts feeling pinched by the capex crunch, Brazil's cheaper-to-produce pre-salt output will be there to plug the gap, Parente says.

"The productivity of the wells is pretty high. We need to work very hard at keeping costs down. If we receive a selling price of $7/b in the pre-salt we'll break even. Of course, we will not see Brent prices of $7/b."

Brent futures have been averaging around $51/b this year, so a price drop to those levels does indeed look unlikely. But Petrobras has in the past based its budget on on overly optimistic price forecasts. Parente says the company is "in the middle of the process of updating our Brent forecasts—we had a number between $50-60/b for this year".

What about the longer-term outlook for oil—and Petrobras's place in it?

Shell's chief executive Ben van Beurden said in July that—foreseeing the end of oil's reign as king of the road fuel—his next car would be electric. How about Parente? "Interesting," is all he'll say, before reiterating his company's focus on oil and gas development, at least for the next five years.

"We decided to keep [doing] our research in alternative sources of energy, in a low-carbon economy, in increased efficiencies. We all know that gas is the transition fuel to a low-carbon economy." But he adds: "There will be peak oil, there is no doubt about it. The million-dollar question is: when?" Only the lower-cost operators will survive the cull, he says.

But after that brief foray into the future, Parente is back on message, stressing the company's focus on debt and cost reduction and growth from the pre-salt: the recipe he thinks will move Brazil's energy champion beyond Lava Jato.

"Petrobras is back. Our share price has increased so the market is already recognising what we're doing. The question is when the (ratings) agencies will accept that," Parente says. "We are not yet at the point we would like to be but we are clearly going in the right direction and we have very ambitious targets for 2018. One year ago, we didn't have any of the possibilities to finance the company that we do now. Finally, we have all the options open to us again."

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