THIRD QUARTER OF 2012

Consolidated net income attributable to the shareholders of Petrobras reached U.S.$2,744 million in the third quarter of 2012 and U.S.$7,271 million in the nine-month period ended September 30, 2012. Adjusted EBITDA reached U.S.$7,087 million in the 3Q-2012, a 31% increase compared to the previous quarter, and U.S.$21,829 million in the nine-month period ended September 30, 2012.

Highlights

The Company’s net income for the third quarter of 2012 was U.S.$2,744 million, mainly as a result of:

·         Upward adjustment in the domestic prices of gasoline and diesel in June and July 2012.

·         Improvement of refining performance indicators, reaching 98% of utilization of nominal capacity and 2% increase of feedstock processed, maximizing diesel production, with a view to decrease the need for imports.

·         The appreciation of the U.S. dollar relative to the Real did not impact our financial expenses significantly as in the previous quarter, since the exchange rate remained flat.

·         Lower expenses related to write-offs of dry or sub-commercial wells.

·         Crude oil production decreased primarily due to maintenance stoppages, partially offset by lower operational losses and by the benefits generated by the Operational Efficiency Increase Program (Programa de Aumento da Eficiência Operacional – PROEF) in the Campos Basin operational unit.

·         Production start-up of the Chinook deep water field in the Gulf of Mexico in September 2012, and of the Baleia Azul field in the pre-salt layer of the Campos Basin.

·         Higher operational costs generated by personnel expenses arising from the 2012 Collective Bargaining Agreement as well as maintenance expenses.

Comments from the CEO -

Mrs. Maria das Graças Silva Foster

Dear Shareholders and Investors,

We recorded net income of U.S.$2,744 million in the third quarter of 2012. The reversal over the previous quarter was due to the gasoline and diesel price increases in June and July, the upturn in diesel output in our refineries, reduced expenses from write-offs of dry or sub-commercial wells, and greater exchange rate stability. Although our results were, to a certain extent, an improvement, we continue working with persistence and focus to recover profitability and improve our performance. In this context, we presented the status of the Operating Costs Optimization Program (Procop). We have mapped opportunities in various operational macro-processes, which are currently being quantified and will be disclosed next December.

We are directing our best efforts towards developing production. Nevertheless, oil output fell this quarter due to longer-than-planned operational stoppages, especially in September. These stoppages are absolutely necessary to ensure operational safety and the sustainable recovery in production. However, we are confident that the results of the Increasing Operational Efficiency Program (PROEF) and the ramp-up of new production systems will help keep output stable in 2012 (variation of +/- 2%). PROEF’s first results in the Campos Basin Operating Unit (UO-BC) are highly encouraging – the program, launched in April this year, has already increased oil production by an average of 16,700 bpd  in the year. In November, we will launch PROEF in the Rio Operating Unit and we are confident the results will be as positive as they were in the UO-BC.

We continued to record excellent levels of operational efficiency in the refining segment, where capacity utilization reached 98% and diesel output moved up. We also reached an important milestone in the modernization of our refinery installations with the operational start-up of Repar’s coking unit and hydrotreater.  

We also continued with our funding program for the Business and Management Plan (PNG). In an operation concluded at the beginning of October and characterized by strong demand, we tapped into the EUR and GBP markets for the second time, raising the equivalent of U.S.$3.3 billion for up to 11 years, at extremely attractive rates. At this point, I would just like to reemphasize that I will be closely monitoring the liquidity and leverage limits established by our Board of Directors, which are essential vectors for ensuring the financeability of the PNG.

We are very proud to have been included in the world’s most important sustainability index, the Dow Jones Sustainability Index (DJSI), for the seventh consecutive year, reaffirming our commitment to aligning integrated growth and sustainable development. Finally, I would like to reiterate that we are acting in a very determined, objective and pragmatic manner and I am absolutely certain that Petrobras will achieve the high level of competitiveness needed to ensure consistent returns for our shareholders in the coming years.

Main Items and Consolidated Economic Indicators ^{[1] [2] [3]}

RESULTS OF OPERATIONS FOR THE NINE-MONTH PERIOD ENDED SEPTEMBER 30, 2012 COMPARED TO THE

NINE-MONTH PERIOD ENDED SEPTEMBER 30, 2011

Virtually all of the revenues and expenses for our Brazilian activities are denominated and payable in Reais. When the U.S. dollar strengthens relative to Real, as it did in the nine-month period ended September 30, 2012 (14.9% impact) the effect is to generally decrease both revenues and expenses when expressed in U.S. dollars. However, the appreciation of the U.S. dollar against the Real affects the line items discussed below in different ways.

Gross Profit

Gross profit reached U.S.$28,523 million in the nine-month period ended September 30, 2012, a 22% decrease compared to U.S.$36,706 million in 2011, mainly due to:

Ø Sales revenues, which decreased by 1% to U.S.$108,443 million in the nine-month period ended September 30, 2012 compared to U.S.$109,661 million in 2011 due to the appreciation of the U.S. dollar.

Excluding the exchange variation effect, sales revenues were 16% higher, reflecting:

·   Higher export prices and domestic prices for oil products that were adjusted to reflect the depreciation of the Real (14.9% impact);

·   7% increase in domestic demand, mainly of gasoline (19 % increase in sales volume), reflecting its higher competitive advantage relative to ethanol, diesel (6 %) and jet fuel (6 %), partially offset by lower exports volumes due to higher feedstock processed and to the lower crude oil production; 

·   Upward adjustment in the prices of gasoline and diesel for the domestic market in November 2011, June 2012 and July 2012.

Ø Cost of sales, which increased by 10% to U.S.$79,920 million in the nine-month period ended September 30, 2012 compared to U.S.$72,955 million in 2011. Excluding the exchange variation effect, the cost of sales was 29% higher due to:

·      7 % increase in the domestic oil products sales volume, the greater part of which was met by imports; 

·    The impact of the depreciation of the Real on imports of crude oil and oil products, as well as on production taxes;

·    Higher depreciation, depletion and amortization costs due to the operational start-up of new plants.

Net income before financial results and income taxes

Net income before financial results and income taxes decreased by 39% to U.S.$13,588 million in the nine-month period ended September 30, 2012 compared to U.S.$22,257 million in 2011, due to the lower gross profit and higher operating expenses, mainly as a result of:

·    Higher exploration costs (U.S.$1,153 million), reflecting higher write-offs of dry or sub-commercial wells in the second quarter of 2012, partially offset by;

·    Lower selling expenses, administrative and general expenses and other operating expenses when expressed in U.S. dollars due to the appreciation of the U.S dollar relative to the Real, but increased excluding the exchange variation effect as a result of:

·  Selling expenses: higher freight expenses driven by higher sales volumes and also by higher personnel expenses arising from the 2011 and 2012 Collective Bargaining Agreements;

·  Administrative and general expenses: higher personnel expenses arising from the 2011 and 2012 Collective Bargaining Agreements, larger workforce and increased third-party technical services;

·  Other operating expenses: higher losses from legal and administrative proceedings provided for as well as allowances for marking inventories to market value.

A breakdown of other operating expenses by segment is included on page 22.

Financial Income (Expenses), Net

Net financial expense of U.S.$3,281 million in the nine-month period ended September 30, 2012, compared to a net financial expense of U.S.$146 million in 2011, mainly due to exchange and monetary losses on higher net debt as a result of the appreciation of the U.S. dollar relative to the Real.

Consolidated net income/(loss) attributable to the shareholders of Petrobras

Consolidated net income attributable to the shareholders of Petrobras reached U.S.$7,271 million in the nine-month period ended September 30, 2012, a 58% decrease compared to U.S.$17,316 million in the nine-month period ended September 30, 2011, reflecting higher financial expenses and lower net income before financial results and income taxes as described above.

NET INCOME BY BUSINESS SEGMENT

Petrobras is an integrated energy company, with the greater part of its oil and gas production in the Exploration & Production segment being transferred to other business segments of the Company.

In the computation of the results by business segment, transactions carried out with third parties and transfers between business segments are factored in. Inter-segment transactions are valued using internal transfer prices that are defined between business segments, using methodologies that are premised on market parameters.

We provide below the financial information from our different operating segments and related operating information.

EXPLORATION & PRODUCTION
(U.S.$ million)

Exploration & Production net income for the nine-month period ended September 30, 2012 decreased US$730 million compared to 2011 when expressed in U.S. dollars. Excluding the exchange variation effect, net income for this segment increased, primarily due to higher domestic oil sales/transfer prices, reflecting the depreciation of the Real.

This effect was partially offset by increased production taxes and higher write-offs of dry or sub-commercial wells mainly drilled between 2009 and 2012 at higher costs, especially in areas of new exploratory frontiers.

The spread between the average domestic oil sale/transfer price and the average Brent price diminished from U.S.$9.98/bbl in 2011 to U.S.$6.09/bbl in 2012.

Total production decreased 1% in the period mainly due to operational stoppages, partially offset by higher production in the Uruguá and Lula fields and by the production start-up of the Tambaú and Baleia Azul fields.

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(*) Not revised.

⁸ Does not include LNG. Includes reinjected gas.

Lifting Cost - Excluding production taxes

Our lifting cost in Brazil, excluding production taxes, increased by 10% in the nine-month period ended September 30, 2012 compared to the nine-month period ended September 30, 2011. Excluding the impact of the appreciation of the U.S. dollar, our lifting cost increased by 22% due to operational costs generated by higher well maintenances and interventions in the Marlim, Albacora, Albacora Leste fields, partly related to the Operational Efficiency Increase Program (Programa de Aumento da Eficiência Operacional – PROEF), as well as Marlim Leste, Marlim Sul and Roncador fields. The increase in our lifting cost also reflects higher personnel expenses arising from the 2011 and 2012 Collective Bargaining Agreements.

Lifting Cost - Including production taxes

Our lifting cost in Brazil, including production taxes, increased by 6% in the nine-month period ended September 30, 2012 compared to the nine-month period ended September 30, 2011. Excluding the impact of the appreciation of the U.S. dollar, our lifting cost increased by 11%, due to the changes at the lifting cost excluding production taxes mentioned above.

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(*) Not revised.

REFINING, TRANSPORTATION AND MARKETING

(U.S.$ million)

The increase in the net loss for our RTM segment was due to higher crude oil acquisition/transfer costs and increased costs related to imports of oil products, reflecting the appreciation of U.S. dollar relative to the Real and the greater share of imports of oil products in the sales mix.

These effects were partially offset by higher oil products sales prices (both domestic and exports) and by the 6% increase in oil products output.

Lower crude oil production along with increased feedstock processed decreased the availability for exports.

Higher imports of crude oil, with ongoing efforts to match our oil products production profile with the domestic market demand and reduce imports of oil products. Notwithstanding, imports of oil products were still higher than 2011, mainly gasoline and diesel due to the market increase. 

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(*) Not revised.

  ⁹ Includes crude oil exports volumes of Refining, Transportation and Marketing and Exploration & Production segments.

10 Starting from the second quarter of 2012, this number only includes volumes delivered to third parties. We have adjusted the 2011 numbers for comparison purposes.

The daily feedstock processed increased in the nine-month period ended September 30, 2012 compared to the nine-month period ended September 30, 2011 due to the higher utilization of distillation units driven by a decrease in maintenance scheduled stoppages.

Our refining cost in Brazil decreased by(16% in the nine-month period ended September 30, 2012 compared to the nine-month period ended September 30, 2011.  Excluding the impact of the appreciation of the U.S. dollar, our refining cost in Brazil decreased by 2% in the period due to lower expenses associated with scheduled stoppages, partially offset by increased personnel expenses arising from the 2011 and 2012 Collective Bargaining Agreements.

________________

(*)Not revised.

¹¹ As registered by the National Petroleum, Gas and Biofuel Agency (ANP).

GAS & POWER

(U.S.$ million)

The decrease in the net income of this segment was mainly due to lower margins of natural gas sales resulting from the appreciation of the U.S. dollar on import costs, as well as higher participation of LNG in the sales mix to meet growing thermoelectric demand, besides the positive effect of tax credits (U.S.$388 million, post-tax) in 2011.

These effects were partially offset by higher electricity generation revenues and increased sales volumes in the electricity free-market.

The increase in electricity sales (20%) was due to an increase in available proved capacity.

The 162% increase in the electricity generation and the 287% increase in the differences settlement price (price of electricity in the spot market) was due to lower rainfall levels.

The 277% increase in LNG imports aimed at meeting the thermoelectric demand.

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(*)Not revised.

¹² Weekly weighed prices per output level (light, medium and heavy), number of hour and submarket capacity.

BIOFUELS 

(U.S.$ million)

Changes in auction rules in the last quarter of 2011 contributed to offset losses on biodiesel operations in 2012. However, the reduced losses were more than offset by negative results in invested companies and by an increase in research and development expenses related mainly to second generation ethanol.

DISTRIBUTION 

(U.S.$ million)

The net income of our Distribution Segment increased by 19%. Excluding the appreciation of the U.S. dollar relative to Real, gross margins increased by 12% driven by the negative impact of the volatility of ethanol prices in 2011, which caused losses related to sale of inventories previously purchased at higher costs. The 3% increase in sales volume and improved operational efficiency also had positive impact.

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(*)Not revised.

¹³ Our market share in the Distribution Segment in Brazil based on Petrobras Distribuidora’s estimates.

INTERNATIONAL 

(U.S.$ million)

Net income for our International segment experienced a marginal increase in the nine-month period ended September 30, 2012 compared to the nine-month period ended September 30, 2011. Higher sales volumes in markets that practice international prices had a positive effect on average realization prices, which was partially offset by the beginning of tax oil charges in Nigeria (U.S.$358 million) throughout 2011, as well as allowance for marking inventory to market value (U.S.$96 million) and by expenses arising from the Pasadena settlement (U.S.$73 million).

International consolidated crude oil and NGL production increased due largely to operations in the United States, specifically with the production start-up of the Cascade field in February 2012, the restart of operations at the Coulomb field in October 2011 (as determined by Shell, the operator of the field) and production start-up of a new production well in the Cottonwood field. These effects were partially offset by lower production in Colombia due to the termination of partnership agreements in Hobo and Caguan in December 2011 and Upia in February 2012.

Natural gas production was flat during the period.

________________________

(*)Not revised.

¹⁴ Some of the countries that comprise the international production, such as Nigeria and Angola, are operating under the production-sharing model, with the production taxes charged in crude oil barrels.

¹⁵ Values for Nigeria were reviewed for previous periods.

The international lifting cost was higher in the nine-month period ended September 30, 2012 compared to the nine-month period ended September 30, 2011 due to production start-up costs in the Cascade field in the United States in February 2012, to contractual upward price adjustments of third-party services as well as increased well interventions and maintenances in mature Argentine fields.

The decrease in the feedstock processed in the nine-month period ended September 30, 2012 compared to the nine-month period ended September 30, 2011 was due to the disposal of the San Lorenzo Refinery in Argentina in May 2011, partially offset by the higher feedstock processed in Japan to meet higher local demand (after the March 2011 earthquake) and by the increase in output in the United States due to scheduled stoppages in the fluid catalytic cracking unit (FCC) between March and May 2011.  

International refining cost decreased in the nine-month period ended September 30, 2012 compared to the nine-month period ended September 30, 2011 due to lower maintenance and scheduled stoppages expenses in the Pasadena Refinery in the United States.

________________________

(*)Not revised.

¹⁶Values for Nigeria were reviewed for previous periods.

Sales Volumes – (mbbl/d) (*)

Our domestic sales volumes increased 7% in the nine-month period ended September 30, 2012 compared to the nine-month period ended September 30, 2011, primarily due to:

·         Diesel (increase of 6%) – mainly due to growth in the retail sector, along with higher thermoelectric consumption in the northern region of Brazil;

·         Gasoline (increase of 19%) – mainly due to a significant increase in the flex-fuel automotive fleet, the competitive gasoline prices compared to ethanol prices in most Brazilian federal states and the reduction of the hydrated ethanol content on Type C gasoline (from 25% to 20%) beginning in October 2011;

·         Fuel oil (decrease of 6%) – due to a partial transition to natural gas at thermoelectric power plants and in the industrial sector;

·         Jet fuel (increase of 6 %) – due to demand growth in the aviation sector;

·         Natural gas (increase of 11%) –due to higher thermoelectric demand resulting from lower water reservoir levels at hydroelectric power plants.

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(*)Not revised.

LIQUIDITY AND CAPITAL RESOURCES

Cash and cash equivalents

At September 30, 2012, we had cash and cash equivalents of U.S.$14,866 million compared to U.S.$19,057 million at December 31, 2011. 

Net cash provided by operating activities decreased from U.S.$25,761 million in the nine-month period ended September 30, 2011 to U.S.$22,213 million in the nine-month period ended September 30, 2012. Excluding the effects of the appreciation of the U.S. dollar, net cash provided by operating activities remained flat as part of the negative effects on the 2012 results, such as exchange and monetary variation on debt, write-offs of dry wells and depreciation did not affect the cash and cash equivalents of the Company in the period. In addition, the lower variation on equity items, accounts receivables and inventories contributed for the maintenance of cash provided by operating activities.

Net cash used in investing activities increased from U.S.$25,486 million to U.S.$28,117 million, the greater part of which invested in Exploration & Production (U.S.$15,630 million) and Refining, Transportation and Marketing (U.S.$9,515 million) activities.

Cash provided by the issuance of debt (U.S.$18,857 million) along with operating activities (U.S.$22,213 million) sourced part of our capital expenditures needs, repayment of debts and payment of dividends, hence U.S.$4,191 million from our cash and cash equivalents were used.

Our adjusted cash and cash equivalents¹⁷ reached U.S.$25,913 million at September 30, 2012, which includes government securities with maturity of more than 90 days of U.S.$11,047 million, 23% higher compared to U.S.$8,948 million at December 31, 2011.

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¹⁷ Our adjusted cash and cash equivalents are not computed in accordance with IFRS and should not be considered in isolation or as a substitute for cash and cash equivalents calculated in accordance with IFRS.  Our calculation of adjusted cash and cash equivalents may not be comparable to adjusted cash and cash equivalents of other companies. Management believes that adjusted cash and cash equivalents is an appropriate supplemental measure that helps investors assess our liquidity and assists management in targeting leverage improvements. At September 30, 2012 our adjusted cash and cash equivalents comprised long-term National Treasury Notes in the amount of US$2,983 million, previously pledged as security for the Terms of Financial Commitment with Petros, which were replaced by a crude oil and/or oil products deposit from the inventory of the Company in July, 2012.

Capital expenditures and investments

In line with its strategic objectives, the Company operates through joint ventures with other companies, both in Brazil and abroad, as a concessionaire of oil and gas exploration, development and production rights.

Currently, the Company is a member of 88 consortiums in Brazil, of which it operates 65. Petrobras is a member of 148 partnerships abroad, of which it operates 89.

In the nine-month period ended September 30, 2012, we invested an amount of U.S.$31,131 million, primarily aiming at increasing production, modernizing and expanding our refineries, as well as integrating and expanding our transportation network through pipelines and distribution systems.

Consolidated debt

At September 30, 2012 the net debt of Petrobras and its consolidated subsidiaries in U.S. dollars was 20% higher than at December 31, 2011, due to long-term debt funding, decreased cash and cash equivalents and to an impact of 7.6% from the appreciation of the U.S. dollar relative to the Real.

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¹⁸ Includes finance lease obligations (Current debt: U.S.$21 million on September 30, 2012 and U.S.$44 million on December 31, 2011; long-term debt: U.S.$92 million on September 30, 2012 and U.S.$98 million on December 31, 2011). 

¹⁹ Our net debt is not computed in accordance with IFRS and should not be considered in isolation or as a substitute for total long-term debt calculated in accordance with IFRS.  Our calculation of net debt may not be comparable to the calculation of net debt by other companies. Management believes that net debt is an appropriate supplemental measure that helps investors assess our liquidity and assists management in targeting leverage improvements.

²⁰ Total liabilities net of cash and cash equivalents and financial investments.

FINANCIAL STATEMENTS

Income Statement – Consolidated

Statement of Financial Position – Consolidated

Statement of Cash Flows Data – Consolidated

See also the analysis of cash flow on page 14 – Liquidity and Capital Resources.

Consolidated Income Statement by Segment