How to Finance an exploration and Production in Brazil

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sectionon eneRgy, enviRonMent, natuRal ResouRces, and inFRastRuctuRe law (seeRil)

latin aMeRican Regional FoRuM (laRF)

International

Mining and Oil & Gas

Law, Development, and Investment

Special Institute on

Mineral Law Series

Volume 2015, Number 3

Challenges to Set Up Securities in

the Brazilian Oil & Gas Market

Speaker:

João Luis Ribeiro De Almeida,

Moderator:

Alexandre Bittencourt Calmon,

Challenges to Set Up Securities in the Brazilian Oil & Gas Market

International Mining and Oil & Gas Law, Development and Investment April 20-22

Cartagena, Colombia

João Almeida Antonio Giglio

TABLE OF CONTENTS

Page

I. Introduction ...1

II. Background on Brazil’s oil and gas regulation ...2

II.A. Concession regime ...2

II.B. Production sharing regime ...3

II.C. Onerous assignment ...4

II.D. The role of ANP ...5

III. Alternatives for financing ...5

III.A. Capital markets ...5

III.B. Bank loans ...7

III.C. Lease Finance...11

III.D. Project finance ...13

IV. Assets usually offered as security ...14

IV.A. Project equipment ...14

IV.B. Real estate ...15

IV.C. Equity ...15

IV.D. Receivables ...16

IV.E. Exploration rights...16

IV.F. Oil and gas reserves and production ...17

V. Security and related issues ...18

V.A. Corporate Guaranty ...18

V.B. Mortgage ...19

V.C. Pledge ...21

V.D. Fiduciary Types of Lien ...23

Challenges to Set Up Securities in the Brazilian Oil & Gas Market

João Almeida1

Antonio Giglio2

I. Introduction

The purpose of this paper is to present a general overview of the challenges to set up securities in the Brazilian oil and gas market. The sector is extreme capital intensive and in Brazil the scenario is not different. Most of the local production comes from offshore fields, some of them with deep water and difficult challenges to overcome.

Financing is a constant need of the oil companies and follows certain worldwide standards of the industry with the peculiarities of the local market and regulation. Regarding the alternatives for financing, the forms vary depending on the companies involved and the specific projects. Large international oil companies will be in better position to negotiate with banks the costs of financing and the extent of security. On the other hand, small companies and project finance will involve larger costs and a full set of security.

In terms of sources of funding, the players have the alternatives of equity offered in capital market or privately placed and "industry finance" with part of the assets sold through farm-in transactions or with carried interests. These are not in the scope of this paper which intends to discuss the creation of security in the context of debt financing. The forms of debt financing

could be segregated into capital market debt issuance, bank debt and lease finance3. All three

categories could involve the formalization of security which will vary based on different aspects of the transaction, especially the allocation of risks among the parties involved (creditor, debtor, sponsor, owner of asset etc.). The financing could be guaranteed by the company itself and all its operation or just by the results of a certain project, under a project finance structure. Security could be created over a specific asset or over all relevant assets and with a structure to entitle the step-in of the creditor in cases of default.

Brazilian legislation allows certain well known structures, but it has some restrictions concerning particularly the exploration and production assets which assignment is subject to the prior approval of the local government. These restrictions do not put Brazil in a place where the political and legal risks should be a concern, but there are aspects of the legislation which should be taken into consideration by creditors willing to be benefited by local security.

1

João Luis Ribeiro de Almeida is a partner in the oil and gas group of Demarest Advogados in Rio de Janeiro. 2

Antonio Giglio Neto is a partner in the corporate finance group of Demarest Advogados in São Paulo. 3

WINFIELD, David. Oil and Gas Financing Agreements. In: David, Martyn R. Upstream oil and Gas Agreements. London: Sweet & Maxwell, 1996.

As in many other different jurisdictions the security agreements are usually governed by local laws and have local filing requirements to be effective. The obligation to apply Brazilian laws to security arrangements does not restrict the choice of law applicable to the financing agreement, as it is usual and well accepted by Brazilian courts that financing agreements be governed by foreign law and the local security agreements ruled by Brazilian law. In any case, the financing documents must be clearly reviewed by local legal experts to avoid any provision which can conflict with the local laws and weaken the creation of security.

II. Background on Brazil’s oil and gas regulation

In order to discuss financing and the challenges for setting up security in the Brazilian oil and gas industry, it is important to understand the regimes in force for the exploration and production of oil and gas in the country. The opening of the Brazilian market for foreign

investors4 was structured with the adoption of the concession regime regulated by the

Petroleum Law5. Before that, any activity of exploration and production could only be

performed by Petrobras6, the Brazilian national oil company, and there were only service

providers, although some of them operating under risk agreements for the exploration. The fields already operated by Petrobras were granted to the company under the new concession regime, the so called "Round Zero". Afterwards, there were periodic bid rounds that brought several international oil companies and other national oil companies to invest and operate in Brazil.

The concession regime was consolidated as the sole regime for oil and gas exploration in Brazil until a certain deep water area shown good results and extraordinary potential. Such area known as pre-salt changed the history of the oil and gas industry in Brazil and influenced

the government to change the regime and adopt a new legal framework7. In 2007, the time of

the first discoveries, certain blocks were withdrawn from the 9th Bid Round, and in 2010

different laws were enacted for the adoption of the new legal framework. The production sharing regime was adopted for the pre-salt and other strategic areas as well as a regime specific for Petrobras also for the pre-salt called onerous assignment.

II.A. Concession regime

The Brazilian concession regime follows the main standards of concession regimes worldwide. The oil company which wins a bid round or acquires the rights from a third party

must enter into a concession agreement with the ANP8, the governmental agency in charge of

regulating and supervising the sector. The bid criteria are the offers regarding the signature bonus, the minimum exploratory program and percentages of local content. The oil company 4

The opening of the regime was implemented by the 9th Amendment to the Brazilian Federal Constitution which amended article 177 authorizing the Union to contract with state own or private companies the performance of exploration and production of oil and gas.

5

Law 9,478 of Aug. 6, 1997 [hereinafter Petroleum Law]. 6

Petróleo Brasileiro S.A. - Petrobras [hereinafter Petrobras]

7 _{The new legal framework included the following laws: Law 12,276 of Jun. 30, 2010; Law 12,304 of Aug. 2, 2010 and Law} 12,351 of Dec. 22, 2010.

has exclusive title over the production and it is allowed to export it. The only restriction is the provision in the concession agreement that ANP is entitled to limit the exportation of the production from the oil companies in cases of emergency when the supply to the Brazilian

market is at risk9. The government take is composed of the signature bonus, royalties, special

participation10, compensation for the retention of the area and applicable taxes.

The concession agreement is divided into a period of exploration, which includes the activity of commercial valuation of the discoveries, and production, which includes the development. The oil company must follow the minimum exploratory program and such period of exploration can be extended depending on certain aspects. In most concession agreements, the production of the fields lasts up to twenty seven (27) years and counts from the commerciality declaration.

Following the industry standard the concession agreements can be granted to a consortium which must follow Brazilian law and the oil companies would have joint and several liability for the obligations under the agreement. One of the parties is the operator which, besides the responsibility for the operation, will be in charge of presenting the programs and all information required by ANP.

In the context of financing and placing security, it is important to understand that the concession agreement expressly provides for the possibility of the assignment of the rights under such agreement. It also does not have restrictions on the standard rules of joint operating agreements regarding assignment and right of first refusal. The only restriction is the prior approval of ANP in case of assignment and in certain cases of transfer of control. This will be further explained in the section regarding the pledge of rights emerging from concession agreements, but the main concept is that the parties acquiring assets must obtain prior approval from ANP in connection with its legal, technical, economic and tax qualification. It is also worth mentioning that such assignment may be subject to the Brazilian antitrust approval.

Regarding the predictability and reliability, the concession regime can be seen in Brazil by financing parties as mature and well tested by the market. It is in force for over fifteen years and major players are in Brazil working under such agreements.

II.B. Production sharing regime

Different from the concession regime, the production sharing regime was implemented in Brazil with some very specific rules. Such regime applicable to the pre-salt and other strategic areas applied the traditional concept of having the oil companies taking the risk of

9

Section 12.6. of the Concession Agreement from the 12th Bid Round. (http://www.anp.gov.br/?pg=67637&m=&t1=&t2=&t3=&t4=&ar=&ps=&cachebust=1427148712332)

10

The special participation is a royalty for large production of a certain field as set forth in Decree 2,705 of Aug. 3, 1998 and due each quarter by the concessionaire.

exploration, being reimbursed of their costs by the cost oil and sharing with the government the profit oil.

The only criteria for the bid round is the share of the profit oil offered to the government. The signature bonus, local content and minimum exploratory program figures are set forth in the bid protocol as compulsory commitments.

There is a couple of specific rules for the Brazilian production sharing regime. Petrobras must be the operator for all production sharing agreements, having at least 30% of the share of the consortium. There is also the participation in the consortium of the government entity called

PPSA11. PPSA is responsible for the management of the production sharing agreement on

behalf of the government and it is entitled to appoint 50% of the members from the operating committee and the right to appoint the president who has the veto right and the quality vote. Although controlling the operating committee, PPSA does not share costs or risks under the agreement. That fact was criticized as it could result in a conflict of interest between the consortium interests and the government policy.

Until today there is only one production sharing agreement in place with a term of 35 years including the period of exploration and production. In terms of possibility of assignment, there is specific provision that the assignment is subject to the prior approval of the Union as contracting party after hearing the ANP. While the concession regime is simpler as the ANP is the contracting party of the agreement, the concept of having the legal, technical, economic and tax qualification of the party acquiring the asset should be followed in the production sharing regime.

The projects related to production sharing agreements involve large investments and the parties may look for financing for such projects. As a new regime with very specific rules for the agreement, the financing of the oil companies involved will probably be at the corporate level of such companies and not at the project level. Considering the huge investment, these will be major players which can offer guarantees in other projects or at the corporate level for financing.

II.C. Onerous assignment

The onerous assignment could be considered as a third regime under Brazilian legislation.

This was a direct assignment of certain areas to Petrobras determined by specific law12.

Under such law Petrobras is entitled to produce up to 5 billion barrels of oil equivalent and the payment would be made by Petrobras using government bonds and with the value of the reserves based on a study requested from third parties expert. Such notes were granted to the company by the government as part of subscription of new capital stock. The agreements were granted for a period of 40 years which can be extended for additional 5 years upon Petrobras request. The main aspect to take into consideration for areas in the context of 11

Empresa Brasileira de Administração de Petróleo e Gás Natural S.A. - Pré-Sal Petróleo S.A. (PPSA) [hereinafter PPSA] 12 _{Law 12,276 of June 30, 2010.}

securing financing is the fact that the exploration rights over such areas cannot be assigned to third parties. Therefore, they cannot be pledged or offered as security.

II.D. The role of ANP

The ANP is the Brazilian national oil and gas agency, created by the Petroleum Law in 1997 and subject to the Ministry of Mines and Energy. The ANP has the purpose of regulating the sector, contracting with third parties in case of the concessions and other public bids and to supervise/inspect the related activities. It is also a party of the production sharing agreement.

It is the entity in charge of approving the assignment procedures of concession rights and it must participate in the assignment of rights under the production sharing agreements. ANP also supervises the oil companies performance under such agreements and applies the penalties which can vary from formal advertencies to penalties with fines and termination of agreements.

Although ANP is not in charge of approving the creation of security, it requires all oil companies to present pledges of the rights emerging from concession agreements to verify their content. The goal is to review the agreements in order to confirm that none of them implied an assignment without approval. The ANP does not regulate the financing of oil companies and the agreements with financial institutions.

III. Alternatives for financing

III.A. Capital markets

As in most countries the funding of oil and gas companies in Brazil involves the capital markets, both local (BMF/Bovespa) and international (mainly NYSE). Funding involves equity and debt offers in different structures.

Many oil and gas companies in Brazil are today listed companies with equity traded in stock

exchanges. Representative equity offers of the sector took place in Brazil such as Petrobras13,

OGX14, HRT15 and QGEP16, making viable different projects.

Debt offers also represent a large part of funding of oil and gas companies in Brazil. Mainly funding companies at the corporate level, the offers involve short or long term bonds such as commercial papers, medium term notes and debentures. There are also offers within the 13

Follow on offer on Sep./Oct. 2010 in the total amount of R$ 120,248,558,770.00 (http://www.bmfbovespa.com.br). 14 _{IPO offer on Jun. 2008 in the total amount of R$ 6,711,662,763.00 (http://www.bmfbovespa.com.br).}

15

IPO offer on Oct 2010 in the total amount of R$ 2,481,000,000.00 (http://www.bmfbovespa.com.br). 16 _{IPO offer on Fev 2011 in the total amount of R$ 1,515,079,361.00 (http://www.bmfbovespa.com.br).}

context of project finance such as the Marlin Project17. Securitization of credits are also an alternative of finance that varies depending on the type of credit involved. In the oil and gas industry, receivables of services companies or arising from charter agreements or even from the sale of hydrocarbons can be securitized. An interesting Brazilian securitization in the oil and gas sector was the royalties credit securitization implemented by some States, including

the one of the State of Rio de Janeiro18.

In such context Petrobras plays an important role, being the company with the largest offers

in Brazil. Although there was a relevant participation of the Brazilian government19, the 2010

equity offer of Petrobras was a worldwide record.

Project Bonds (Debêntures de Infraestrutura)

Brazil recently passed legislation to stimulate long-term financing, aiming to turn private investors a more relevant source of funding for infrastructure projects, through the so-called

project bonds20. Project bonds may become an important source of funding for relevant

projects in the oil and gas field, as they allow access to a great investor base and provide tax benefits.

Project bonds were created in Brazil simultaneously with a number of other special types of securities subject to tax benefits amidst governmental efforts to improve long-term fund raising mechanisms in recent years, specially those devoted to relevant infrastructure projects.

With the new legislation, Brazilian-resident individual investors and non-resident investors of project bonds, as well as of certain real estate backed securities and investment funds became entitled to a special tax regime consisting in a zero-percent income tax rate on the yield resulting from those securities. For those securities the investor is also subject to a zero-percent rate for the so-called financial tax on exchange transactions (IOF-Câmbio).

It is important to note that non-resident investors must be situated in any jurisdiction other than those where income is not taxed at all or is taxed at a maximum rate lower than 20%. Sovereign funds are also entitled to the tax benefit provided in the legislation. Corporate investors residing in Brazil are subject to a 15% income tax rate.

17

The funding of Marlin oilfield was structured with participation of Petrobras (as concessionaire), several equity holders including the subsidiary of equity investment from the Brazilian Development Bank. "D'ALMEIDA, Albino Lopes, Projeto Marlin - O Project Finance do Maior Campo de Petróleo do Brasil. Simpósio Brasileiro de Pesquisa Operacional - 8 a 11 de novembro de 2002, Rio de Janeiro, RJ.

18

The fund called Mellon FIDIC - Royalties de Petróleo was registered on Oct. 2005 and managed by BNY Mellon Serviços Financeiros DTVM S.A.

19

The offer raised funds for among other projects to pay for the acquisition of exploration rights of the onerous assignment. The government paid using government bonds which were used to pay the exploration rights granted by the government as part of the onerous assignment (vide section II.C.).

20

Law 12,431 of Jun. 24, 2011, as amended by Laws 12,715 of Sep. 17, 2012 and 12,844 of Jul. 19, 2013 and regulated by Presidential Decree 7,603 of Nov. 9, 2011).

Funds raised through project bonds must be used by the issuer (i) in priority infrastructure investment projects or research, development and innovation; or (ii) to reimburse costs, expenses or debts relating to such priority projects, incurred 24 months prior to the end of the offer of the relevant securities.

In order for an investment project to be considered priority, a specific request must be submitted to the analysis and approval by the competent Ministry. In case of oil and gas the

projects must be submitted to the Brazilian Energy and Mining Ministry.21

Considering the special tax treatment, the issuer of the project bonds may be subjected to penalty in case the funds are not channeled to the relevant priority projects, equivalent to 20% of the amount raised and not properly used.

III.B. Bank loans

Brazilian banks finance their clients in the oil and gas industry through the various types of credit transactions such as revolving credit facilities, forfeiting of trade notes and receivables, working capital financing, loans, vendor/compror financing, checking accounts, credit assignments, leasing, export finance and others. These can be on a bilateral basis, in case of smaller facilities, or on a syndicated basis, where larger amounts are involved.

Financings can be obtained both domestically and internationally.

Foreign lenders are currently not required to be licensed by any governmental entity to lend

to borrowers situated in Brazil other than the Central Bank of Brazil's CADEMP (“Cadastro

de Empresa”), which is a quite simple and fast proceeding taken right before the flow of the foreign funds into Brazil.

Also, foreign lenders are not required to register or be licensed by a government entity to take security interests or mortgages on assets situated in Brazil.

Foreign loans must be registered with the “ROF” (“Registro de Operação Financeira”),

which is the registration obtained from the Central Bank of Brazil through its electronic system “SISBACEN”. Brazilian borrowers are the parties responsible for registering the foreign loan with the “ROF”.

The following sections contain a summary of the main characteristics of some of the most usual types of transactions.

Bank Credit Certificates (Cédulas de Crédito Bancário (CCB))

The CCB is a transferrable instrument of credit issued by an individual borrower or legal entities in favor of a financial institution. It arises from credit transactions of any nature, and represents a promise to pay in cash. The CCB can be transferred by financial institutions to third parties in the secondary markets.

The CCB is always issued in favor of a financial institution which is part of the national financial system, but the issuance of a CCB in foreign currency in favor of an institution domiciled outside of Brazil is also possible.

A CCB can be issued with or without collateral. Collateral can be personal or created over assets, including real estate property (mortgage). If the CCB is transferred, the assignee shall subrogate all rights of the assignor also in respect of collateral.

The original financial institution creditor of a CCB may or may not be a co-obligor of the CCB. If it is, the transaction must be registered as a debt on its balance sheets.

The CCB, similar to a New York law-style promissory note, generally contains detailed provisions on the use of proceeds, interest, maturities, representations and warranties, covenants, and events of default.

In Brazil, financial institutions may issue CCB certificates, called certificates of bank credit certificates (CCCB), backed by CCBs kept under their custody for the purposes of negotiating the underlying credits on domestic or international financial markets.

"Vendor" and "Compror" Finance

So-called “vendor” arrangements usually provide for opening a line of credit to finance sales made by an oil and gas company or project to their customers.

A “vendor” is basically an agreement under which the bank, subject to certain conditions, will finance cash sales of the company's customers. The financing is given directly to the customers, pursuant to a financing request by the oil and gas company/project to the bank.

The customers are the main debtors of each financing agreement, which accrue interest. The oil and gas company/project may be a party thereto as a personal guarantor to the bank in relation to all amounts owed by the customers and can be joint and severally liable for those debts.

The “compror” structure is the inverse of the “vendor” structure and is commonly used when small businesses sell products to large commercial companies. In this case, the purchaser is the joint and several guarantor to the bank.

Both “vendor” and “compror” require a master agreement to define basic conditions of the transaction, which shall be effective upon each specific purchase transaction.

Export Finance

Export Prepayment Finance

Export prepayment finance is the prepayment of the export by the importer or any other person domiciled outside of Brazil (including financial institutions) prior to the shipping of goods or the rendering of services. The exporter assumes the commercial debt, which shall be repaid upon the export of the products sold, without the need for further financial flow in the future.

The agreed-upon interest is paid from Brazil by the exporter.

In the event that the shipping of the goods does not occur, the credit arising from the original transaction may be repaid in cash, converted into a direct investment or a currency loan. In these cases, however, the creditor will not benefit from the zero withholding income tax rate over the interest amounts received - the main attractiveness of this type of structure for oil and gas exporters.

Export prepayment finance may be structured as a club deal, allowing for the division of the credit risk among various participants.

Advance on Exchange Contracts (Adiantamento Sobre Contratos de Câmbio (ACC))

An ACC consists of a partial or total advance of the amount in Brazilian currency equivalent to the foreign currency purchased by exporters in the forward market. In other words, an ACC is an advance of national currency to exporters financed through a foreign facility.

The purpose of this form of finance is to provide advanced funds to the exporter for the production and sale of oil and gas to be exported in the future. According to current regulations, an ACC can be provided up to 360 days prior to the shipping of the goods. An ACC is nontransferable; i.e., the bank advancing the funds shall not be able to assign the credit in the future.

Financings obtained through ACC's with local banks can be replaced by an ACE (please see below) or by an export prepayment financing obtained with foreign banks.

Advance on Delivered Shipping Documents (Adiantamento sobre Cambiais Entregues (ACE))

The mechanism of the ACE is similar to the ACC except for the timing of when the funds are provided to the exporter: the ACE can be provided once the goods are shipped. The exporter shall repay the ACE until the last business day of the twelfth month subsequent to the shipment of the goods.

The ACC can be converted into an ACE upon the shipping of the exported goods, so that the financing is then extended for additional 390 days, totaling, therefore, a term of 750 days for the financed exporter.

Export Finance Program (Programa de Financiamento às Exportações (PROEX))

PROEX is a program created by the Brazilian Federal Government in order to provide conditions equivalent to the conditions of the international financial markets towards Brazilian export transactions. Banco do Brasil is the financial agent in charge of the management of PROEX.

The two types of financing under PROEX are: (i) PROEX Financiamento (financing); and (ii) PROEX Equalização (equalization).

PROEX Financiamento is financing extended by the Brazilian government at interest rates that are lower than the rates existing on the Brazilian market. This type of financing is directed to Brazilian exporters (supplier's credit) and to importers (buyer's credit), exclusively through Banco do Brasil, with funds supplied by the National Treasury. PROEX Financiamento finances 85% of the export value in any incoterm modality. The other 15% has to be paid by the importer, on demand or financed by an offshore bank. In transactions with a financing period limited to two years, the financed percentage can reach 100%.

PROEX Equalização allows financial institutions to equalize financing rates for export transactions of certain qualified Brazilian goods, services, and software, reducing the financial costs of such transactions. Through the equalization mechanism, ultimate interest rates paid in export financing transactions can reach levels similar to the rates charged in the international markets. Under PROEX Equalização, an entity financing Brazilian exports may receive the difference between the interest rate charged in the export financing transaction and part of the interest rate it would normally charge, in the event that the export transaction was not being financed under PROEX, from the Brazilian Treasury.

This benefit is paid for by the Brazilian National Treasury (Tesouro Nacional), allowing the Brazilian exporter to have access to financing conditions similar to those available to non-Brazilian exporters in the international markets. This makes non-Brazilian exports more competitive internationally.

Export credit lines granted by the Brazilian Development Bank - BNDES

There are two different export credit lines provided by the BNDES: (1) Pre-shipment: financing of production to internationally competitive companies established under Brazilian law; and (2) Post-shipment: financing of trade of goods and services abroad by refinancing the exporter, or through the buyer's credit category, in accordance with international standards.

Export credit agencies (ECAs) offer guarantee instruments for the access to export credit. To cover all risks involved, the transaction may include, for example, export credit insurances. Also, requests may be made to foreign banks that provide international guarantees for financing operations.

In addition, the Federal Government, through the Seguradora Brasileira de Crédito à

Exportação (SBCE), provides export credit insurance to cover the commercial, political, and extraordinary risks involved in the export transactions. The Export Guaranty Fund, an accounting fund from the Ministry of Finance, may cover the export credit insurance policies provided by the SBCE.

III.C. Lease Finance

Equipment used in oil and gas activities may depend upon significant financial investment and lease finance structures grant interesting advantages to the lessor so as to reduce its liability to tax.

According to Brazilian law, there are two types of leasing transactions in Brazil: (i) financial leasing; and (ii) operational leasing. These may be either domestic or international.

The Central Bank of Brazil is the entity responsible for regulation and supervision of leasing operations in Brazil.

The main characteristics of financial leasing are: (1) It is usually for new assets; (2) Lease payments are specified in a contract and owed by the lessee, normally sufficient for the lessor to recover the cost of the leased goods during the contractual period and also to return a gain on the capital invested; (3) Expenditures on maintenance, technical support, and services related to operational aspects of the leased goods are the responsibility of the lessee; (4) The

strike price of the purchase option is freely negotiated and may be, among others, the market value of the leased good. There is a guarantee of the residual value (GVR); (5) A minimum lease term set based on the useful life of the asset: (a) two years in cases involving goods with a useful life equal to or less than five years; or (b) three years, by the definition of the period stated in item (a), for leasing other goods; and (6) The lessee is assured options to renew the lease and to return or purchase the asset (for an amount no less than GRV).

The main characteristics of operational leasing are: (1) It is for new or used assets, often high tech goods that suffer from rapid obsolescence, with good second-hand markets; (2) Rental payments to be made by the lessee should cover the cost of leasing the goods and services involved in the lease. Present value of the rental payments may not exceed 90% of the cost of the good; (3) Maintenance, technical support, and services related to the operation of the leased good may be under the responsibility either of the lessee or the lessor; (4) The strike price of the purchase option is the market value of the leased good. There is no guarantee of the residual value of the leased good; (5) Lease term is a minimum three months and maximum limited to 75% of useful life of the asset; (6) The lessee may have options to renew the lease and to return or purchase the asset (at market value).

International (financial or operational) leasing transactions are those lease agreements executed with entities domiciled abroad. If the repayment term is longer than 360 days, they must be previously registered through the Central Bank Electronic System (SISBACEN) (Financial Registration Module (ROF)).

Normally, an international leasing operation involves the following steps: (1) Once terms and conditions have been negotiated between the lessor and lessee, a financial institution or a customs clearing agent representing the lessee should access SISBACEN and submit the financial conditions of the lease. This is called the Registry of Financial Operation (ROF). It is important to note that such procedure is applicable only to transactions with a term of repayment longer than 360 days. Otherwise, no registration with the Central Bank is needed; (2) The next step is to set up a schedule of payments based on the agreed-upon terms already registered in the ROF and its registry with the same ROF. For this to occur, the goods must already have been cleared, and the import declaration must have been issued by SECEX/DECEX; (3) The registry of the schedule of payments in the ROF is required to make the payments for rental and other amounts owed under the agreement.

Brazilian Central Bank's regulation provides for some specific terms applicable to international operational leasing transactions, as follows: (a) The term of the agreement shall not exceed: (i) 75% of the useful life of the leased goods for operational leasing; or (ii) the entire useful life of the leased good for financial leasing; (b) In respect of the operational leasing: (i) the price for purchase option shall correspond to the market value of the goods; and (ii) the relevant agreement shall not contain provisions of payment of guaranteed residual amount; and (c) In respect of the financial leasing: (i) the lease payments must be compatible with international market practice, and (ii) the lease payments should be distributed over time in such a way that, at any moment during the life of the contract, the proportion between the amount paid and the value of the lease is not greater than the proportion between the period elapsed and the total period of the transaction.

III.D. Project finance

Project finance is an alternative of financing which payment of principal and interest are based on the cash flow of a certain project. There are many aspects that could vary from project to project, but the concept normally involves longer term contracts, high risk for the lenders, high rates of return and lower risk for the sponsor.

In the oil and gas industry, project finance may be related to a whole exploration and production venture or to certain parts of the project. It could also be related to midstream or downstream activities.

In case of exploration and production project financing involves the risks of the activities which the financial institutions are not normally willing to take in full. Besides the exploratory risk there is also the risk on the commodities price fluctuation. Therefore, in project financing of such cases high rates of return are expected by financial institutions.

That is different from the scenario where there is a project finance of part of the project as it is the case of FPSOs and platforms financing based on charter agreements with large oil companies. The receivables of service companies which are in charge of building expensive assets such as FPSOs and platforms have fix remuneration which gives the financial institutions more predictability on cash flows. Also, the construction project risk is considered to represent a lower exposure when compared to the risks involving exploration activities.

In terms of structure, the most used alternative is the creation of a special purpose vehicle (SPV) for the implementation of the project. In a traditional project finance structure the financing would be granted directly to that entity and the payments should be supported only by the cash flow of the project (limited recourse financing). It is expected by financial institutions that the sponsors contribute a certain ratio of the funds as equity and in many cases there are equity support obligations triggered by certain events. In many Brazilian projects, the corporate guarantees of the sponsors are still required (full recourse financing).

Other alternatives could be implemented and considered as part of project financing such as securitization of receivables of a certain project, project bonds or limited to contractual arrangements.

The setting up of security in a project finance would be arranged in different ways depending on the negotiations for the involvement of the sponsor and financial institution. In a pure project finance transaction, there should be no security or collateral other than those assets and receivables of the project itself. The sponsor and its assets would not secure the repayment of the financing. The usual security package would involve the assets of the project, the exploration rights (or charter agreement rights or other agreement/concession rights from which the revenues of the project will come) and the equity of the SPV. Ideally

for the banks the security arrangements should allow the straight forward taking over of the project, usually known as step in. As further detailed in the following sections, this is not as straight forward as expected in the exploration and production stages in Brazil. In many cases, prior approval of the government and the technical qualification are required, and may be an obstacle for financial institutions. It is common opinion among the practitioners that changes of the legislation on the process of enforcing guarantees could foster the availability of financing in the oil and gas market, especially regarding project finance transactions.

An amendment to the Brazilian general law of concessions22 was recently approved, entitling

financial institutions to take over temporarily the control of concessionaires for promoting is financial restructuring. This change of the law is not applicable to the exploration and production of oil and gas, as such act could be considered an assignment of which would be subject to the prior approval of the ANP. Alternative solutions as this one could definitely foster the financing of the sector.

IV. Assets usually offered as security

Financing in the oil and gas industry involves certain challenges due to the nature of the activities. Financial institutions face difficulties in determining the potential of the reserves involved as well as in enforcing security created over assets of the companies. The existence of a technical team and geologists to evaluate the oil companies or the projects to be financed is common in financial institutions specialized in oil and gas financing.

There are also risks involving the takeover of certain assets. Some expensive assets do not have value outside the project and it would not be beneficial for lenders to foreclose security created on them. The alternative would be the so-called "step in" structures, where the financing institutions would have the alternative to assume the whole project or appoint a third party to acquire the project. There are cases where the assets involve obligations towards the host country (exploratory programs, demobilization obligations etc.) or potential environmental exposure. Therefore, the analysis of the securities and the process of enforcement are very important in the decision making of financing oil and gas operations in Brazil.

IV.A. Project equipment

In upstream projects there is different equipment which could be considered for placing guarantees. As mentioned, some of them would have no value outside of the project as for example fixed platforms, pipelines or other fixed structures. In these cases the value of the asset cannot be taken into consideration as for the use in other projects. It may be interesting to have the guarantee as part of a step in structure to assure these assets would not be part of other creditors foreclosure and to have priority in a bankruptcy process. In some situations it

would also be interesting in case it is possible to obtain a lease or fee for the use of the assets owned by project owners/sponsors.

The situation is different for assets that can be used in different projects, such as non-fixed rigs and platforms, vehicles, vessels and other equipment. As described below, most of the assets can be subject to pledges, but vessels and platforms would be subject to mortgages. The fiduciary lien would in principle be possible for all of them.

IV.B. Real estate

Considering that the larger productive fields in Brazil are offshore, real estate tend not to be very usual as guarantee for such projects. However, it may be a very relevant asset in cases of onshore exploration. Different from the United States, the reserves in Brazil do not belong to the owner of the land. It belongs to the Federal Union, which can grant exploration rights to private operators. The fact that the land does not belong to the oil company operating the field does not prevent its exploration, as the owners are obliged to authorize the use of the

land for exploration and production. There is a compensation to be paid to the landowner23

which may justify the acquisition of the property as well as areas for the support of the operation.

Although it is not compulsory, it is normal in onshore projects in Brazil that oil companies own a piece of land. These are assets with good liquidity for being offered as security due to the possibility of sale to third parties, the inexistence of technical qualification for financial institutions to take over it and the fact that the owner would have the right to compensation.

IV.C. Equity

Equity is also very commonly offered as security for oil and gas financings. There is no specific restriction on the technical capability of the owner of the equity, the formalization of its transfer is quite straight forward and it can be easily used for project finance structures.

Besides the requirement for filing of the pledge or the fiduciary transfer agreement with the competent notary office, it is advisable to have the security annotated in the share registry book of a corporation (when shares are nominative) and in the articles of association of limited liability companies. In cases where the lien is created over book-entry shares, the lien must be annotated in the extract of the relevant deposit account held by the shareholder with the depositary financial institution.

In the context of upstream in Brazil, the enforcement of a pledge or fiduciary transfer over

equity may be subject to ANP's prior approval depending on the situation. In the 11th bid

23

Petroleum Law: Article 52. The landowners are entitled to a participation in the production of the field corresponding to 0,5% to 1% of the production.

round, the standard concession agreement language was changed to determine that any change of control should be subject to prior approval of ANP. Therefore, it is important to analyze the concession agreement involved with the project to verify if such prior approval is required.

Another aspect to be taken into consideration for creating security over equity is the identification of the entity of the group granting the performance guarantee. Whenever the Brazilian company holding the concession rights does not have net equity to support the

activities of exploration and production24, ANP requires a parent guarantee, the so called

performance guarantee, related to the obligations of the direct holder of the concession.

For the previous bid rounds where the transfer of control does not trigger the prior approval of ANP, such transfer of equity may require the prior consent of ANP if a performance guarantee was granted by a parent company. In this case, the assignment of equity of an oil and gas company would result in the parent company that offered the performance guarantee not being in the same group as the exploration rights holder. ANP would require in this case that the performance guarantee be replaced. Such replacement of performance guarantee is considered by the concession agreements as an assignment and, therefore, requires prior approval of ANP.

IV.D. Receivables

An important asset of oil companies are their receivables arising from the sale of oil and gas. It is customary to have such assets offered as security and long term offtake agreements are usually seen as attractive collateral for financial institutions as they can predict cash flows and mitigate credit risk.

The receivables and rights deriving from other contracts could also be offered as security. Such assets include insurance policies rights, rights deriving from JOA or consortium agreements and any other contracts granting the oil company the right to receive payments.

IV.E. Exploration rights

Often used in Brazil, the security over exploration rights does not have specific regulation25. The commercial effectiveness thereof is controversial, considering the need for prior approval of ANP and the fact that financial institutions would not have technical qualification for holding such rights. The enforcement would necessarily involve the approval of ANP for the

24

The determination of the net equity is made in the Bid Protocol of the respective concession agreements. 25

ANP has only (i) notified the oil companies to present security agreements related to exploration rights to confirm no assignments were granted without approval of ANP and (ii) published and explanation on its website confirming the orientation that ANP accepts the security if it does not imply in assignment without prior approval of ANP (http://www.anp.gov.br/?pg=69256&m=&t1=&t2=&t3=&t4=&ar=&ps=&cachebust=1427128369410).

assignment, which may take up to 90 days26, but depending on the situation could take even longer. The time required for the assignment is an issue to be taken into consideration. The aspect that financial institutions cannot hold of exploration rights is also another aspect to be taken into consideration.

The wording of the security agreement must be carefully reviewed as ANP would examine such instruments and the interpretation that such agreement is considered an assignment de facto could trigger penalties imposed by the agency.

The main type of security used for exploration rights is the pledge, which can be created over movable assets - further explained below. Another alternative would be the fiduciary assignment (also further explained below) which involves the assignment of the property, but with the possession remaining with the debtor. It is not pacific the interpretation that such type of security could be used for exploration rights. The assignment of the exploration rights would necessarily depend on the prior approval of ANP and although the fiduciary assignment is considered a guarantee for practical purposes, the legal nature does involve the transfer of ownership. As mentioned, there is not a specific regulation on this matter, but in the explanation published in the website of ANP the fiduciary guarantee is mentioned within the context of placing securities over exploration rights. Therefore, this fact could be considered an indication that the agency understands that fiduciary assignment could be formalized over exploration rights.

IV.F. Oil and gas reserves and production

In Brazil the reserve based lending is not possible to be implemented with the same structure as in other countries, specially the United States. In Brazil the reserves belong to the Federal Union and would only become ownership of oil companies once oil is produced. Therefore, any lending which would be taken based on the existence of certain reserves in Brazil must be secured by other assets.

The pledge over sale receivables is an alternative viable under Brazilian law. Such alternative could be also implemented together with a broader security package. Step in rights where the creditor would have access to all assets in case of default may also be structured. An important remark applicable to this structure, however, is the fact that the enforcement of security over certain assets requires prior approval of ANP and may not be exercised by financial institutions as described in the equity and exploration rights section.

26

The concession agreements set forth the maximum period of 90 days for ANP to approve the process of assignment. However, ANP at its discretion may request additional documents and a new period of 90 days would apply. E.g. Section 28.11 of the 11th Bid Round Concession Contract (http://www.brasil-rounds.gov.br/round11/portugues_r11/edital.asp).

V. Security and related issues

Security is regulated mainly by the Brazilian Civil Code27. Summarized below are the most

common types of security when dealing with financial transactions.

A preliminary broader classification is relevant when it comes to collateral in Brazil: they are

classified between those of a “personal” type (pessoais) and “in rem” type (reais).

Personal Guaranties (garantias pessoais): Guaranties of a personal nature, the equivalent of a guaranty in the United States, meaning that another “person” is also liable for repayment of the debt in the event that the debtor himself/herself does not do so in a timely fashion. No priority is granted to the creditor in insolvency circumstances, and the creditor has no rights over a particular asset of the debtor. A personal guaranty can be either a letter of guarantee (fiança) or those guaranties granted in relation to an instrument of credit (aval).

In Rem Security (garantias reais): Security over an asset. This type mainly includes mortgages (primarily for immovable assets), pledges and fiduciary types of security.

The principal types of security interests available to lenders in Brazil are mortgages (hipoteca), pledges (penhor), and fiduciary transfers/assignments (alienação/cessão fiduciária).

It is important to note that, in theory, any contractual provision that authorizes a lender to keep assets offered as security if a loan is not repaid will be null and void. Only if the borrower and the lender so agree upon default may the borrower transfer said assets to the lender as payment in kind of the outstanding debt.

Also, upon judicial and (in certain cases) extra-judicial enforcement of security, the lender is

allowed to become the definitive owner of the asset given as security (adjudicação).

V.A. Corporate Guaranty

It is quite common that corporate guaranties are created to mitigate credit risk when extending credit to companies of the oil and gas field in Brazil.

When the borrowing economic group is of worldwide reach, which is common in the sector, while extending credit to the Brazilian subsidiary entity banks and creditors may request that the transaction be supported by means of a letter of guaranty or accession agreement executed

by the parent or some other legal entity within the same economic group of the borrower usually situated in a different jurisdiction.

It is also frequent that whenever a multinational group raises funds in the location of their main head offices or operations or in the traditional international financial markets (e.g. London, New York) that their Brazilian subsidiaries (usually with a strong balance sheet) accede to the deal as a guaranty provider.

Bank guaranties are also available in Brazil and may be an option.

Under Brazilian law, similar provisions to those applicable in traditional financial markets also apply, such as the possibility of the guarantor waiving the so-called benefits of order (benefícios de ordem) and the right to subrogation by the guarantor as to the rights of the defaulting borrower upon payment of the credit by the guarantor.

Local registration requirements should be fulfilled in order for a guarantee provided under Brazilian or foreign law to be enforced in the country, as registration is of the essence for effectiveness of the guarantee with third parties.

V.B. Mortgage

Mortgage is the appropriate type of security for real properties, their accessories, railways,

vessels, platforms and airplanes. Mortgages can only be created by a public deed (escritura

pública) prepared by a notary public (Tabelião de Notas), except in certain cases where the law expressly authorizes a lien to be created within a private credit instrument or certificate

(hipoteca cedular). The maximum term for a mortgage according to the Brazilian Civil Code

is 30 years, although it may be renewed through a new public deed.

Whenever a mortgage is created over a real property (the type of asset most commonly subject to mortgages), both legal title to and possession of the property remain with the mortgagor (borrower). If the mortgaged property deteriorates or depreciates, and the borrower does not offer additional collateral, the loan accelerates by operation of law. If repayment is properly made by the borrower upon maturity of the loan, then the loan is terminated and the mortgage, which is accessory to the loan, is also considered automatically terminated. A release document is signed and registered at the appropriate Real Estate Registry Office for effectiveness with third parties.

In a bankruptcy scenario (similar to U.S. Chapter 7), a loan secured by a mortgage is only subordinated to labor credits (up to a limit of 150 times the minimum monthly wage per

employee - currently R$118,200.00 or about US$36,470.2228). That does not mean, however,

that the lender is entitled to the full amount of the mortgaged property. The property is sold to

benefit the bankrupt estate, and the lender is granted priority (with other creditors secured by mortgages and pledges) in sharing the proceeds thereof, as well as the proceeds from the sale of the bankrupt estate’s other assets.

As mentioned above, mortgages are generally created by a public deed prepared by a notary public. In addition to execution of a public deed, perfection of a mortgage involves recording this public deed at the Real Estate Registry Office in the jurisdiction where the mortgaged property is located. In the case of vessels, FPSOs and platforms used in the oil and gas field

(also deemed as mortgageable assets), specific legislation29 provides that such recordation

shall be made with the Maritime Court (Tribunal Marítimo) and annotated in the title of

ownership of the asset. Once recorded, the mortgage is in force for third parties, although until that time, it is deemed to be legally binding between the contracting parties as of execution of the public deed. A properly recorded mortgage gives the mortgagee preference over any prior-but-unregistered mortgage created on that same property.

In the event of default on a credit transaction, once a favorable court decision has been issued in a summary collection claim, the mortgage is enforced at the competent court through: (i) adjudication of the mortgaged property by the creditor; (ii) private sale of the mortgaged property by the creditor; or (iii) a public auction to sell the mortgaged property.

Actual transfer of ownership to the mortgaged property after (i), (ii) or (iii) above is ordered by the judge at the appropriate Real Estate Registry Office.

In the oil and gas industry, mortgages can be used for the following assets, provided that title thereto is held by the borrower: (i) real estate used by onshore oil and gas projects; and (ii) vessels, exploration and production platforms (Although in some cases such assets are held by third parties, such as the landowner who did not seel the property, service providers or third parties chartering the vessels/platforms). It is interesting to note that, in the case of

vessels, exploration and production platforms, Brazilian law30 allows the creation of the

mortgage in favor of the builder or lender even during the construction phase.

The Brazilian Civil Code also allows the creation of mortgages over natural reserves in general. Notwithstanding, the Federal Constitution and the Petroleum Law provide that oil and natural gas reserves are owned by the Union and exploration rights thereof shall only be transferred by concession or under the production sharing regime, and that prevents the direct creation of security over oil reserves prior to exploration and production. In the current Brazilian system, the operator only acquires title to the oil once such is produced in the terms of the concession agreement and passes the measuring point. Only then the product can be commercialized and subject to liens in favor of creditors. Therefore, the financing based on reserves in Brazil (reserve based lending) cannot be structured with security over reserves. It must be structured with other types of securities which will guarantee rights over different assets (explorations rights, equity, oil production etc.), but not the reserves. Improvements in

29

Law No. 7,652 of Feb. 3, 1988 which governs the registration of maritime ownership. 30 _{Law No. 7,652 of Feb. 3, 1988 which governs the registration of maritime ownership.}

the law are yet to be adopted to foster financing granting to lender better guarantees that they would have access to reserves as if a reserve based lending was in place.

V.C. Pledge

A pledge is a form of security granted over movable assets. Stocks, personal movable assets, receivables and bank accounts can all be subject to a pledge.

Conventional subsets of pledge, set out by law, include rural pledges (penhor rural, where

pledged assets are agricultural machinery and equipment, crops, inventories or animals),

industrial and mercantile pledges (penhor industrial e mercantil, for industrial machinery,

materials, instruments, raw materials and manufactured products), pledged rights and credit

instruments (penhor de direitos e títulos de crédito, for receivables, rents, credits or credit

instruments) and pledged vehicles (penhor de veículos).

Whenever a pledge is created, title to the pledged asset remains with the pledgor (borrower), but possession may or may not be temporarily transferred to the lender's domain. If the pledged asset is sold, deteriorated or modified, the loan accelerates. If repayment is properly made by the borrower upon maturity of the loan, then the loan is terminated and the pledge, which is accessory to the loan, is also considered automatically terminated. A release document is then signed and registered at the appropriate Registry of Deeds and Documents, Real Estate Registry Office, or traffic/transport/licensing department(s), as the case may be, for effectiveness with third parties.

A pledge is ranked the same as a mortgage for bankruptcy purposes, i.e. in a bankruptcy (similar to the United States Chapter 7 - liquidation) scenario, a loan secured by a pledge over the borrower’s assets is only subordinated to labor credits (up to a limit of 150 times the

monthly minimum wage per employee - currently R$118,200.00 or about US$36,470.2231).

That does not mean, however, that the lender is entitled to the full amount of the pledged assets. These are sold to benefit the bankrupt estate, and the lender is granted priority (with other creditors secured by mortgages and pledges) in sharing the proceeds thereof, as well as the proceeds from the sale of the bankrupt estate’s other assets.

A pledge agreement may be entered into through a private instrument (instrumento

particular), and is registered either at a Registry of Deeds and Documents in the debtor’s domicile in Brazil or at the Real Estate Registry Office where the pledged assets are located, depending on the subset of pledge adopted. A pledge is also annotated in the ownership certificate issued by the appropriate traffic/transport/licensing department(s) in the case of pledged vehicles.

As a general rule, legal possession of a pledged asset is transferred to the lender, but physical possession may remain with the borrower.

In the case of receivables, except for formal credit instruments such as promissory notes or

trade bills (duplicatas), the payer of the receivables must be notified and instructed to pay in

accordance with the pledge agreement.

In the event of default on a loan, as in most cases, the pledged assets remain in the borrower’s possession, and the lender files a lawsuit requesting possession of the assets.

The lender is allowed to sell the pledged asset. This sale may take place in an out-of-court proceeding, provided that the borrower has contractually granted the creditor this right. If no such authorization exists, then the sale must necessarily be sought judicially through the same mechanism described above for the mortgage. As explained above, it is also possible for the lender to adjudicate the pledged assets, if duly approved by the court.

The rights arising from the oil and gas concession agreement executed by the oil companies with the Union can be used to secure financings under the pledge regime. Though the concession itself cannot be transferred unilaterally by the concessionaire, the rights arising

therefrom can be offered as a way of security32. In relation to those concession rights relating

to oil and gas, specifically, the ANP33 determines that a notice must be delivered to the

agency to inform the regulator about the creation of the pledge. It is important to note, however, that does not mean that the ANP must consent to the creation of the pledge. The notice requirement arises from Article 1,453 of the Brazilian Civil Code, which provides that the pledge of credit rights is not effective if not notified to the relevant ultimate obligor. Foreclosure of the pledge upon a default shall, however, be subject to the ANP's approval. Likewise, the regulator also determines that the payment in kind of the debt with the assets object of the pledge must be preceded by ANP's prior approval.

As usually lenders are not expected to have the required technical capacity to perform the activity, upon foreclosure of the pledge created over the concession rights they may need to appoint third parties to take over the concession on their behalf.

As previously mentioned, the prior approval of ANP and the restriction on financial institutions (lack of technical qualification) are challenges to be considered as far as security over concession rights is concerned.

32

As provided in article 1,451 of the Brazilian Civil Code rights over movable assets can be subject to pledge (rights over concession agreements are included in such definition). Article 28 of Law 8,987 of Feb. 13, 1995 authorizes securities over general concession rights. Although the oil and gas concession agreements are subject to specific law, such provision of the law could be extended to oil and gas concessions by analogy.

33

ANP has published and explanation on its website (i) confirming the orientation that ANP accepts the security if it does not imply in assignment without prior approval of ANP; (ii) requiring any security to be notified to ANP and (iii) determining that such securities could not restrict the voting rights of the oil companies. (http://www.anp.gov.br/?pg=69256&m=&t1=&t2=&t3=&t4=&ar=&ps=&cachebust=1427128369410).

Other important assets owned by operators that can be pledged in favor of lenders are (i) receivables arising from the sale of the oil after production (perhaps the most valuable asset due to its liquidity); (ii) oil product inventory - after passing by the measuring point (as explained above, current legislation provides that the operator only acquires title to the oil once such is produced in the terms of the concession agreement and passes by the measuring point); (iii) exploration and production equipment (such as drills, pipelines etc) and (iv) equity interest of the operating company.

As to the creation of security over the equity interest of the operating company, it is important to note that though the ANP does not prevent borrowers from pledging their shares/quotas in favor of lenders, but they are prevented from creating any restriction as to

voting rights attached to the pledged equity34. The concern of the regulator is that restrictions

to the voting rights of the shareholders may impair investments required for the performance of the obligations undertaken with the ANP. As previously pointed out in the equity section above, the foreclosure of equity security may also be subject to ANP approval depending on bid round and the ownership corporate structure of borrower.

V.D. Fiduciary Types of Lien

Fiduciary types of lien – generally also applicable to stocks, real properties, personal assets, receivables and bank accounts – give a lender fiduciary ownership of an asset or right. Either a pledge or a fiduciary lien can be created over stocks, personal assets, receivables and bank accounts. Mortgages or fiduciary liens are alternatives for real properties.

If payment is properly made by a borrower upon maturity of the loan, title automatically reverts to the original owner (borrower).

When a fiduciary lien is created, possession of the asset is deemed to be split into direct possession, held by the borrower, and indirect possession, held by the lender.

Under Brazilian law, the following types of fiduciary lien are possible: (i) fiduciary transfer of non-fungible movable assets; (ii) fiduciary transfer of fungible assets – to domestic financial institutions only; (iii) fiduciary transfer of bank accounts; (iv) fiduciary transfer of real properties; and (v) fiduciary assignment of receivables.

In general terms, the advantage of fiduciary forms of security compared to pledges and mortgages is that the lender typically enjoys greater protection in the event of a borrower’s bankruptcy (similar to United States Chapter 7 - liquidation). A lender may take possession

of an asset de pleno jure, while the borrower’s other creditors have to abide by the terms and

other conditions of a bankruptcy proceeding. That is, since ownership is deemed to be transferred to the lender, the asset is not in theory considered part of the bankrupt estate for the purposes of apportioning among creditors in a bankruptcy proceeding.

In addition, in the event of judicial recovery (recuperação judicial) (similar to United States Chapter 11), a lender secured by a fiduciary lien is not subject to the recovery plan.

A lender secured by a mortgage or a pledge is subject to the recovery plan approved by the creditors, but cannot be forced to release or to sell the mortgaged or pledged property.

Fiduciary transfer or assignment may be entered into through a private instrument registered at the Registry of Deeds and Documents in the borrower’s domicile. In the case of real properties, it is registered at the appropriate Real Estate Registry Office. Finally, in the case of vehicles, fiduciary transfer is also annotated on the ownership certificate issued by the traffic/transport/licensing department(s).

Termination of a mortgage, a pledge or a fiduciary lien occurs upon full repayment of the outstanding obligations under the loan. However, execution and registration of a release document at the proper Registry Office, signed by the lender, is required for termination to take effect with third parties.

With fiduciary types of security, given that the assets are deemed to have been transferred to the lender on a fiduciary basis, the lender may file suit seeking seizure of the assets, which will be preliminarily granted if the borrower is proven to have defaulted, thus restoring possession to them.

Once the lender has possession of the assets, it shall have the right to sell the assets in an out-of-court private sale.

Basically all those assets mentioned above as being able to secure financings in the oil and gas industry under a mortgage or a pledge can potentially be transferred to lenders on a fiduciary basis, therefore granting the latter the advantages hereinabove referred in this section as to foreclosure and bankruptcy remoteness, i.e. real estate, vessels, platforms, receivables, equipment and equity interests.

As mentioned in the exploration rights section, there is not a specific regulation regarding concession rights securities, but only an explanation from ANP, published in its website. In such document fiduciary guarantee is mentioned within the context of placing securities over exploration rights. That could be considered an indication that the agency understands that fiduciary assignment could be formalized over exploration rights. There is not a formal regulation or to our knowledge an opinion form the public attorney office in charge of ANP.

The possibility of fiduciary security over concession rights is not yet pacific due to the discussion on whether the prior approval of the ANP would be required (as explained before, the assignment on a fiduciary basis implies transfer of title for legal purposes). The same comment also applies to the transfer of shares on a fiduciary basis to lenders as a way of

security - for a school of thought, such share transfer (even fiduciary) should be treated as a transfer of title. The contrary argument which considers such security is possible is that when the transfer or assignment of title operates as a way of security there is no real transfer of the assets (at least not fully, as title is, and the situation should be treated as any other form of security until title be fully transferred to the lender upon default - occasion in which (and only then) the approval of the regulator should be obtained.

It is important to note that the same restrictions currently applying to oil reserves (mentioned in the last paragraph of the mortgage section above) obviously also apply likewise to the fiduciary transfer. Only once the oil product passes by the measuring point (as explained above, current legislation provides that the operator only acquires title to the oil once such is produced in the terms of the concession agreement and passes by the measuring point) may it be offered as security on a fiduciary basis.

VI. Conclusion

The Brazilian oil and gas field offers a vast number of opportunities. Local laws and regulations, though still deserving improvements, welcome investors and lenders willing to bear long-term maturities. Both local and international investment in equity and debt are available for players in the field, including in the capital markets, bank lending and project finance, among others. Recently created project bonds offer attractive tax benefits and globally used security packages can be put in place for fund raising in the sector.