Brazil’s Big Oil Find

04/02/2008 12:00 am EST

Focus: COMMODITIES

Elliott Gue

Editor and Publisher, Energy and Income Advisor and Capitalist Times

Elliott Gue, editor of the Energy Letter, discusses the big oil strike off the coast of Brazil and what it means to Petrobras, the national oil company.

There are few countries that are seeing real growth in oil production. The large onshore fields that have met the world’s oil demand for decades are now mature and already seeing declining production.

To offset declines from these easy-to-produce oil and gas fields, producers will increasingly target smaller, more-complex fields, as well as fields that are harder and more expensive to reach.

In other words, the world isn’t necessarily running out of oil, but we’re already seeing the end of easy oil. In addition, the era of cheap oil is over. To make the production of hard oil economically viable, prices will need to remain elevated.

[So], companies with the capacity to actually grow production are in the catbird’s seat. Brazil’s deepwater Tupi oilfield is located offshore of Rio de Janeiro; the field is roughly 800 kilometers long and 200 kilometers wide.

That country’s national oil company Petroleo Brasileiro (NYSE: PBR) believes that the field contains as much as seven billion to eight billion barrels of oil. Tupi is certainly the largest oilfield discovered anywhere in the world since the early 1990s.

The field could ultimately yield one million to 1.5 million barrels per day of oil production, a significant amount when you consider that Brazil currently produces just more than two million barrels of oil per day.

Even without Tupi, Brazil’s oil production was set to see strong growth in the coming years courtesy of deepwater developments; Brazil’s onshore production is relatively limited.

Companies levered to promising developments like Tupi are among my favorite plays in the energy patch. Specifically, Tupi is located in waters between roughly 6,500 and 10,000 feet in depth. That means that only the most advanced ultra-deepwater drilling rigs are capable of handling wells in this field. Petrobras has some rigs it contracted years ago at day-rates that would be considered low today.

However, a company looking to contract an ultra-deepwater rig in a few years’ time would likely pay north of $600,000 per day to lease that rig.

On top of that, the Tupi field is also geologically complex. The test wells that have been dug in this field are more than 20,000 feet long and are directional (non-vertical) wells. And producers had to drill through a mile-long layer of salt to access the reservoir. Salt layers are notoriously difficult to drill.

And the cost of leasing a rig and drilling a well is just one problem. Petrobras is building a series of floating offshore production platforms to process production from Tupi and other deepwater oilfields; these platforms can cost more than $1 billion and take considerable time to build.

As you can imagine, no producer would bother going after a field like Tupi if there were giant, cheap, easy-to-produce onshore oilfields that could still see growing production. (Petrobras closed just below $105 Tuesday—Editor.)

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