Brazil Oil Firm Petrobras Slowly Rising From Pits Of Hell
Brazil’s beat-up oil firm Petrobras is slowly rising from its self-created pit of hell.
Yes, its rear-end is still ablaze, and this is a fairly weak country with loads of political strife to drag it back down. But the bad news has got to be fully baked in now. (Nobody ever really knows for sure.) The worse case scenarios are largely out of Brazil’s control. But the one domestic matter likely to push Petrobras shares back under $10 — where it has been mostly parked since 2014 — is a sure-fire victory for Brazil’s former president Luiz Inacio Lula da Silva.
Lula is seen by at least half the country as the reason why Petrobras and the country are in this mess. Petrobras is the corporate sponsor of this long and tiring soap opera known as Lava Jato, or Car Wash in Portuguese. It’s a political corruption story so massive, that it brought down a sitting president in Brazil, and knocked out a vice president in Ecuador just last month. Some of the country’s A-list executives like Marcelo Odebrecht are in jail. Superstar politicians like Eduardo Cunha are also in jail. Brazil’s reputation, and Petrobras’s reputation by default, lies in ruin. It is this scandal that has Petrobras trading at such a deep discount.
Last week’s settlement with U.S. investors gave Petrobras a much-needed boost. While oil prices have risen steadily over the year, Petrobras has traded relatively flat. Only its Argentinian subsidiary, Petrobras Argentina (PZE), has been doing well thanks to some energy policy changes and new gas discoveries down there.
Fitch Ratings said the recent $2.95 billion settlement was credit neutral for Petrobras, adding that the payout would likely be covered by the company’s cash position. The settlement is pending approval by the U.S. courts. The announced settlement reduces the legal risk associated with Petrobras shares.
There are several other individual investor lawsuits still outstanding, but they could join this settlement and therefore increase the total payout. That would be a near-term drag on the stock.
Petrobras also remains party to investigations from the Securities and Exchange Commission and the U.S. Department of Justice related to the Lava Jato corruption scandal, so litigation risk is not over. It has subsided, and investors are buyers at the moment.
If the U.S. courts approve the settlement, Petrobras expects to make the payments in three equal installments; two in 2018 and a final one in January 2019, Fitch said.
These payments, coupled with an estimated $6.5 billion of principal payments due in 2018 to bondholders, can be covered with cash on hand and expected cash flow generation. As of Sept. 30, 2017, Petrobras reported $25.3 billion in cash on its balance sheet. During 2017, Petrobras lowered the amount of principal payments it planned to pay in 2018 and extended the life of their loans, some of the largest loans in the oil business.
Petrobras says it expects principal payments of approximately $6.5 billion this year, down from $11.2 billion.
Additionally, Petrobras faces ongoing tax disputes that total approximately R$45 billion ($13.9 billion). The amounts and timing of the court rulings on this are unknown at this time.
Petrobras’ junk bond status is tied to the government’s rating, but look for the credit agencies to issue firmer outlooks in the fourth quarter when the election outcomes are known. If someone from the rival Social Democrats wins, there could be a more positive credit outlook for the country and for Petrobras.
Petrobras is used as a lever of inflation in Brazil. New leadership is trying to make Petrobras run more like a for-profit entity. Recent asset sales have done little to impress equity investors, though investors continue to buy Petrobras bonds at a premium.
Brazil’s government owns 63.6% of Petrobras’ voting shares, directly and indirectly through government pension funds, and has an overall stake in the company of 47.6%. If Lula wins for the third time, the market is likely to dump all of Brazil’s securities. But Petrobras will surely be singled out. One concern would is whether Lula reverses a 2016 decision to allow Petrobras to stand-down on investing in new deepwater oil fields, thus giving foreigners a chance at 100% ownership of a particular field if it won an auction to do so. Previous rules required Petrobras to own a 30% stake, forcing it to fork over money it no longer had.
Lula is a former union leader and his allegiances are to them, not to Petrobras shareholders. So it is not difficult to assume that Lula would reverse course on that ruling by President Michel Temer. He could even stop Petrobras’ ongoing asset sale, though on the other hand, if he is as pragmatic this time around as he was in his first two terms, there is a chance that he can convince the unions that selling assets is an overall positive for the health of Petrobras. If there is one man who can do just that, it is Lula. He will not have Congress on his side, giving the fact that his Workers Party has taken a beaten as a result of Lava Jato. They are unlikely to win the landslide victories required to become a majority party once more.
A Lula reversal on the new Petrobras policies regarding deepwater auctions and asset sales would ultimately be blip on the Petrobras stock chart, I think.
With oil prices expected to stand firmly in the $60s this year, and with other Latin American oil firms like EcoPetrol of Colombia up more than 80% in 2017 (PBR rose around 2%), there is no reason other than politics for Petrobras to remain a single digit stock.
The market will do the usual knee-jerk reaction to a Lula victory. That will be a buying opportunity for Petrobras, the most important oil company in Latin America today, and a stock that has become the most beat up large-cap in Brazil for the last five years. It’s time this thing arises from the ashes.