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After Petrobras, part III: Brazil’s upstream is a gas supply source ready to be unleashed

In the third of a series, S&P Global Platts editors weigh in on Brazil’s liberalizing gas industry, with a look at developments, obstacles and possibilities in Brazil’s upstream sector.

Brazil’s natural gas production has been on an upward swing in recent years on the back of increasing output of pre-salt oil, a layer of hydrocarbons resting below a layer of salt in offshore Brazil, up nearly 10% from 2018.

Despite this growth, the upstream sector, one of the keys to the success of the “New Gas Market”, faces infrastructural headwinds that could pose a challenge to fully maximizing key goals of the legislation.

Read earlier instalments:

After Petrobras: Brazil’s liberalizing gas market in limbo

After Petrobras, part II: LNG takes up the mantle in Brazil

According to Brazil’s Ministry of Mines & Energy (MME) data, Brazil’s natural gas production, highly concentrated offshore Rio de Janeiro and Sao Paulo states, surged a whopping 59% from 2013 levels once the moratorium was lifted on producing pre-salt discoveries, reaching a 2019 average of 122 million cu m/d, or 4.3 Bcf/d.

This comparison doesn’t fully capture the scale of the increase, with early 2020 levels producing in the 139 million cu m/d range, or nearly 5 Bcf/d, effectively doubling natural gas production in the country from 2013.

While much of this supply is reinjected into fields for enhanced oil recovery, there are infrastructural constraints on the amount of gas can be moved from the prolific Campos & Santos oil-producing areas to the shoreline.

Ultimately, this could minimize the role domestic supply can play in displacing exports and bringing down domestic gas pricing, as well as providing a steady supply for increased consumption in other sectors, core components of the “New Gas Market.”

Infrastructure expansion makes slow progress

Currently, there are two routes, Route 1 and Route 2, that bring domestic production to the shoreline for further processing and distribution to end users. Route 3 is due to start operations in 2021, increasing total capacity to 44 million cu m/d, or 1.55 Bcf/d, a 40% increase from current capacity.

Despite this increase, the Brazilian Energy Research Office, or EPE, expects the continuous growth of associated gas to outpace capacity by the mid-2020s requiring further investment to keep pace.

Efforts are underway to avert the expected bottleneck, with Route 4 planned to bring more supply from pre-salt in the form of two tranches that would ultimately boost capacity by 10-15 mcm/d, or 350 MMcf/d -530 MMcf/d.

The prospects for this route are still uncertain though. The proposed investor Cosan, a large Brazilian agricultural and energy company, began the initial planning and permitting stages in 2014, but the process has been stuck ever since, throwing an element of uncertainty into the timeline.

Alongside greenfield investments, Petrobras took the step in early March to combine its stakes in the existing two offshore routes and near-complete third route, into a single company for potential listing on Brazil’s stock exchange, B3. The move could be a first step towards market efficiency as more players and investment come into the market.

However, to fully maximise the domestic potential, the offshore arena needs to see a similar market opening to the one starting to happen in the onshore pipeline network – wherein parties outside of Petrobras are able to subscribe to pipeline capacity. Without open access to offshore pipelines for all producers, the price of domestic Brazilian natural gas might have difficulty reaching market equilibrium.

The move to combine stakes in offshore pipelines fits with other developments in Brazil’s natural gas sector related to Petrobras. The Brazilian state-owned Petrobras has in recent years divested from various midstream assets such as Transportadora Asociada de Gas or TAG and Nova Transportadora do Sudeste or NTS, which together account for two-thirds of the countries gas pipelines, providing an opening for more participants, with the aim of a more efficient market and lower prices.

This divestment, alongside infrastructure developments that seek to fully capitalize on booming associated gas production, of which Petrobras accounts for nearly 75% of the total, are key to ensuring that Brazil’s gas market will shed the distinction of being one of the highest-priced in the world.

Currently, larger industrial end-users, which account for nearly 50% of total Brazilian natural gas demand, paid an average of $15.35/MMBtu in 2019, a $1.48/MMBtu increase from 2018, according to data compiled by MME.

This higher price environment for Brazilian industrial end users illustrates the importance, as well as the challenge, that Brazil’s upstream sector faces in achieving lower gas prices. Even though Brazilian industrial demand ticked lower in 2019, and domestic production surged to new heights alongside cratering global LNG prices, domestic gas prices still remained stubbornly high for the largest users.

How the infrastructure around the upstream sector develops to keep pace with surging associated gas production will be key to bringing lower prices, but also in spurring additional downstream demand, a topic that we’ll discuss in installment four of our blog series.

Additional reporting by J. Robinson