sharing in governance of extractive industries
How did Brazil get started?
Brazil legislated local content policies for the oil and gas sector in 2003, establishing the Brazilian Petroleum Agency (ANP) as the regulatory body for monitoring results and Petrobras as the main operator. Implementation of the local content policy was with PROMINP - the National Oil And Natural Gas Industry Mobilization Program. Its steering committee included multiple stakeholders including Ministers, Petrobras’ CEO, the President of Brazil’s Development Bank and the Oil and Gas organization. After a decade, PROMINP has benefited local businesses and created 875,000 jobs with an increase in local content ratios from 57% to 75%. The program was rolled out around the nation through the participation of over 80 educational institutions in 17 states in Brazil.
A strong vision and leadership, a multi-stakeholder approach, and excellent results, what’s there not to love? These all came with high costs, low output and corruption. In order to achieve local content targets, many companies, including Petrobras, struggled to deliver quality goods and services that were on time and within budget. For example, the tight-skilled local labor market has made the employment of experienced Brazilian professionals costly and difficult to retain. High demand for qualified workers and the difficulty in obtaining the required certifications by national authorities meant that local labor comes at a premium, with workers constantly looking for better offers.
Another issue of concern is security. As Jon Sofus Lerche, Managing Partner at Nor-Ocean Offshore and former Country Representative in Brazil points out, “In some areas, such as sub-sea construction, the lack of experienced workers can also entail in safety risks.” The need to have locals with the right skills increases competition for qualified staff and adds to turnover, but companies have little choice. When oil companies struggle to meet their local content commitments they are subject to very significant fines, around 455m BRL ($140 million USD) last year alone.
These challenges have only been augmented by the recent revelations of widespread corruption. Starting from the top, impeachment proceedings are currently underway against President Dilma Rousseff, for illegally manipulating finances to hide a growing public deficit ahead of her re-election in 2014.
Meanwhile the Lava Jato, or “car wash” inquiry into a $3bn kickback scheme at Petrobras (chaired by Ms. Rousseff before she became president) has resulted in the jailing of several high-ranking businessmen and lawmakers. This corruption scandal has paralyzed spending with estimates that the forgone investment may have reduced GDP growth by one percentage point last year. Fines, arrests, contract cancellations and ongoing investigations within the oil and gas supply chain have left many of the leading Brazilian suppliers unable to compete for new work bringing an even greater slowdown to the industry. Finally, plunging oil prices since June 2014 have only squeezed the petrol-economy even more.
To improve the local content piece of the puzzle, Brazil is reforming its local content policy with the ‘Incentive Program for Supply Chain Competitiveness and the Development and Improvement of Suppliers to the Oil and Gas Sector’ (PEDEFOR). The January 2016 Decree (No. 8.637/2016) that launched PEDEFOR, is expected to lead to a change in local content rules with a mixture of incentives and bonuses, making it easier for oil companies and their international suppliers to achieve local content targets. This ‘carrot’ approach provides incentives for suppliers achieving local content percentages for systems, goods and services of strategic importance, such as local engineering, technological innovation within Brazil, and generating skilled jobs or promoting exports. Bonuses will be granted to companies that facilitate the creation of new suppliers in Brazil, but also expand production capacity and technological innovation of Brazilian suppliers. These changes will enable more flexible contracting so oil companies can select the most suitable contractors for projects, including foreign contractors when necessary.
While the Decree sets out the framework for change, much is still left to be defined. The devil is in the details of which goods, industrial segments and technological areas will benefit from the bonuses and incentives. Measurement criteria and overall rule changes will be important. Finally, what systems will be put in place to mitigate corruption in procurement and hiring processes, as well as, the doling out of incentives and bonuses.
“We haven’t seen what the new local content rules will look like in practice,” says Pål Nordgreen, Nor-Ocean’s Executive Director. “The original intention with local content in Brazil was good, but it enabled corruption on a grand scale.” Still, ongoing efforts by the Brazilian Judiciary to bring wealthy businessmen caught in the series of bribery scandals to justice may set a new precedent. “After more than 30 years operating in Brazil, we have seen large corruption scandals before, but this is the first time that we see some real action to do something about it”, says Nordgreen.
With the current political crisis and downturn of Petrobras’ production, it is clear that local content reforms in the Brazilian oil industry are necessary to get the sector back on its feet. Reform is no easy task with opposition watching closely, especially trade unions concerned about the impact the reforms will have on jobs. By easing local content requirements, Brazil hopes to allow local suppliers to remain competitive and offer quality services while increasing opportunities for foreign suppliers entering the market. The details and governance of these new reforms will ultimately determine whether the oil industry will turn around and whether Brazil will still be an attractive place for business. Let’s wait and see.
For the full article and references, please visit the full article published at Melim-Mcleod Consulting.
Add a Comment