Ecological doubts, pipeline shortage, undercut Brazil Natgas bid

By Jeb Blount and Sabrina Lorenzi

RIO DE JANEIRO (Reuters) - A lack of pipelines and access to drilling equipment as well as unclear environmental rules restricted bidding at Brazil's latest oil and natural gas rights auction to less than a third of the 240 on-shore areas offered, industry officials said on Thursday.

Brazil's state-run oil company, Petroleo Brasileiro SA, also known as Petrobras , dominated bidding at the sale by taking stakes in 49 of the 72 blocks sold and agreeing to pay 73 percent of the 165.2 million reais (43.4 million pounds) that the government will get in up-front signing bonuses.

Of the other 11 companies that bought blocks, the biggest winners were Panama's Trayectoria Oil & Gas, which bought stakes in 10 blocks, all of them as operator, and Brazil's Cowan Petróleo e Gas SA which bought stakes in 10 blocks, two of them as operator, the rest as a financial partner.

Of the 21 companies signed up to bid, only 12 made offers. The only major foreign company to bid and win a stake in a block was France's GDF Suez SA .

The sale was Brazil's 12th under a concession-sale system since Petrobras lost its legal exploration and production monopoly in 1997. It was also the first focused exclusively on on-shore areas that show more promise for natural gas than oil.

"Demand might have been higher were it not for several factors," said Joao Carlos de Luca, president of the IBP, Brazil's main oil-industry association. "Not only is there a lack of pipeline infrastructure, there's a lack of the drilling rigs, water trucks and other equipment to drill and produce."

Some of the areas offered, like blocks in Brazil's Amazon northwest, are also far from markets and in terrain where laying pipelines is difficult, he said. The lack of clear regulations for drilling gas wells and many of the blocks proximity to national and state parks and Indian reserves also raised risk, he added.

These difficulties led some in the industry to request that the sale be delayed until the regulatory problems could be clarified. The areas that attracted the most bids were close to existing pipelines and cities.

'FRACKING' DEBATE COMES TO BRAZIL

Many of the blocks were chosen for sale because they likely hold so-called "non-conventional" gas reserves. Historically, gas in Brazil was produced in conjunction with oil and was often burned off as waste.

"Thirty years ago finding only gas in a well was considered worse than drilling a dry hole" Magda Chambriard, director-general of the ANP, Brazil's petroleum regulator, told reporters at the auction held in a Rio de Janeiro beach-front hotel.

But with many of the country's oldest on-shore fields in sharp decline and Brazilian gas demand growing, "gas-only" fields are becoming increasingly attractive.

Non-conventional gas is frequently trapped in less porous and permeable rock that contains far less oil compared with traditional gas reservoirs. As a result, this rock, frequently shale, requires special techniques, such as extensive drilling of horizontal wells and the use of large amounts of water and chemicals under high pressure to fracture the rock, a process known as fracking, to release the gas.

While these processes are decades old and tested, concern has been growing about the quantities of water needed to extract the gas and about potential environment threats such as contamination of aquifers and earthquakes.

Brazil's federal Environmental Protection Agency, known as IBAMA, wrote a policy paper in October arguing for strict limits and some prohibitions on fracking.

While state governments are responsible for most on-shore oil licenses, a negative view from IBAMA could open up drilling to legal challenges or have it banned if wells threaten federal areas such as national parks, beaches and ports.

"States do have control, but the IBAMA opinion will have influence and could cause a lot of problems," said Jose de Oliveira Junior, energy undersecretary for Brazil's state of Sergipe. "We were hoping for more interest at the auction and I think the regulatory issue hurt."

Sergipe is one of Brazil's main on-shore oil and gas producing states and is counting on areas sold at the auction to replace falling output from older fields.

The government though declared the auction a success, underlining its hope that the sale will eventually spark a transformation of gas development in Brazil, where most gas comes from distant offshore fields.

By increasing on-shore output close to industrial users the government hopes to slash energy costs in a way similar to that has accompanied the shale-gas revolution in the United States.

"This auction was designed to plant the seed of a on-shore natural gas culture in Brazil," ANP's chief Chambriard said.

(Additional reporting by Gustavo Bonato in Sao Paulo; Editing by Leslie Gevirtz)