Band Gram Slattery
March 11 (Reuters) – Last year, when Brazilian President Jair Bolsonaro sacked the head of state oil company Petrobras amid a row over domestic fuel prices, the market reaction was apoplectic.
The company’s preferred shares fell 22% in one day. Analysts quickly downgraded a slew of Brazilian assets from state banks to sovereign debt. Many investors feared the company would revert to the policies seen under previous governments, when Petroleo Brasileiro SA PETR4.SAas the company is officially known, subsidized Brazilians at the pumps, incurring billions of dollars in losses.
Just over a year later, history threatens to repeat itself, but investors have responded with a shrug.
Last week, Bolsonaro complained that Petrobras was too profitable and would have to make a sacrifice to keep prices down. The company’s president resigned over the weekend. Ministers met daily to discuss how to hold down prices at the pump as global crude prices soar due to the Russia-Ukraine war and Western sanctions on Russian oil in response to the conflict.
Still, Brazilian-listed Petrobras shares are down just 1% this week and have gained 18% year-to-date. The company’s New York-listed ADRs are up 27%.
Petrobras investors who have stuck to their guns were partly vindicated on Thursday when the company announced its first fuel price hike in more than 50 days. However, the oil company said it was still offering consumers a discount from world prices.
Even before the price hike, investors said they had plenty of reasons not to jump ship. Some were simple: with Brent LCOc1 over $110 a barrel and much of its output exported, Petrobras can support Brazilians at the pumps while still making money.
This is especially true as the company has sold many of its midstream and downstream assets and has ramped up its higher-margin exploration and production activities in recent years.
“Even though we have a populist president in Brazil compared to Petrobras, the market is recovering because we have an upstream division that has turned into an ATM,” said James Gulbrandsen, chief investment officer for Latin America at NCH Capital in Rio. of Janeiro.
The company has grown with particular fervor in recent years in a region of ultra-deep water called the pre-salt, describing its operations as profitable.
Moreover, political risks could be largely factored in after Bolsonaro’s three-year presidency, said Andre Vidal, chief oil and gas analyst at Sao Paulo-based brokerage XP Investimentos.
Prior to the February 2021 fuel price stalemate, Petrobras’ EV/EBITDA ratio, a common measure of corporate valuation, was in line with or better than its peers.
But it has since diverged significantly, falling below 3x for Petrobras while remaining above 4x for most Western oil majors, according to a Vidal-led analyst report sent to clients this week.
Perhaps more importantly, analysts and investors say the dynamics of Brazil’s domestic fuel market have changed recently, as reforms have paved the way for greater competition.
Petrobras sold a major refinery last year, breaking its effective monopoly in this market. Private companies are also importing a lot more fuel now.
Together, private sector suppliers would trigger a dramatic shortfall if they exited the market due to Petrobras’ extreme discounts, creating a serious backlash for Brasilia.
“If (the private importers and refiners) get out, it will create a very complex situation that will be difficult to resolve in the short term,” said Edmar Almeida, a professor specializing in energy at the Federal University of Rio de Janeiro.
“It would be very traumatic.”
To be sure, Petrobras remains vulnerable to shifting political winds despite recent efforts to protect it.
Changes to both Brazilian law and Petrobras’ bylaws have made it harder for the government to impose losses on Petrobras, said Luiz Carvalho, senior Latin America oil and gas analyst for UBS.
For example, the company is not allowed to import fuel at a loss for non-commercial purposes, a rule instituted under the government of former President Michel Temer.
However, as the majority shareholder of Petrobras, the government could call an extraordinary general meeting of shareholders to modify these statutes. This could be a way to effectively force the company to import fuel and sell it at a loss to Brazilians, which would please voters but send investors heading for the exits.
In the medium term, all eyes are on the Brazilian presidential election in October.
As Bolsonaro has oscillated between pro-market rhetoric on Petrobras and complaints about his fuel price policy, his most formidable opponent, leftist former President Luiz Inacio Lula da Silva, has pledged to shift priorities of the state enterprise.
“We don’t have to worry about profits,” the former chairman said in a radio interview in January, adding that he would rather see the company build new refineries than pay dividends.
Market analysts are still debating the possible outcomes of a Lula victory.
One of investors’ main fears, they say, is that a leftist government could demand investments that benefit voters or promote development in poor regions of Brazil, while contributing little to Petrobras’ bottom line.
The trick, XP’s Vidal said, will be figuring out which campaign promises in the coming months become policy.
“Regardless of what they say, we won’t know (what policies they adopt) until they take office,” he said.
“By then, there will be a lot of volatility.”
(Reporting by Gram Slattery; Additional reporting by Carolina Pulice in Sao Paulo; Editing by Aurora Ellis)
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