The Federative Republic of Brazil extended its recent run of lowering the cost of its international funds in September by selling $1.25 billion in 2023 bonds to yield 2.686% (US treasuries plus 110 basis points).
The deal, which attracted orders of more than $4.5 billion, demonstrates the country’s continued appeal for international investors despite recent disappointing economic data. But while high-grade paper from Brazil continues to sell – Vale and Petrobras sandwiched the sovereign with large international bond deals last month – high-yield corporates report that they are unable to tap international markets at attractive rates and are instead relying on the booming domestic market for debentures.
Brazil’s coupon on the Baa2/BBB/BBB transaction was an all-time low of 2.625%, according to Dealogic. The sales effort of lead managers BTG Pactual and Deutsche Bank was made easier by the increasing appeal of investment-grade countries within emerging markets and the fact that Brazil hadn’t issued 10-year bonds since 2010.
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However, Andrew Janszky, partner and head of law firm Milbank’s Latin America practice, says that international market sentiment has turned against Brazilian issuers.
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| Andrew Janszky, partner and head of law firm Milbank’s Latin America practice |
"The market isn’t good right now and it hasn’t been good for a while," Janszky told delegates at LatinFinance’s Issuers and Investors Forum in São Paulo at the end of September. "There has been an emotional response [from investors] that is specific to Brazil – it has lost its ‘darling’ status. Frequent issuers can still [issue] but there is a scepticism about the growth of Brazil and how long it will take to get back to better growth rates. In terms of high yield we are looking at issuing covered bonds, which is going backwards a little bit. A lot of my clients have given up for this year and are waiting for 2013." Gilberto de Souza Biojone Filho, director of investor relations at beef and consumer products company Rodopa, says his company would like the tenor of debt available on international markets but his company is frozen out for now. "We have been approached by many banks but we feel the interest rates are higher than we expected," he says. "Nominal interest rates would be between 12.5% and 13%; the effective cost of finance rises to about 14%; that’s too high."
The good news for these companies is that the domestic debt markets continue to grow and offer a competitive cost of finance.
"We just issued a local debenture and I was very surprised with the results – it was the cheapest and the longest we’ve ever done," says Pedro Daltro, CFO of BR Properties, of his R$600 million ($295 million) issuance – it was upsized from a planned R$400 million – which included an inflation-linked tranche of 2019s. "The sovereign is not crowding out the local debt markets anymore and the pension funds need to diversify into longer tenors."
The development of the local markets is opening new opportunities for corporate finance. Frederico Brito e Abreu, CFO of Kroton Educacional, says the firm’s aggressive growth has been driven by acquisitions that in the past had to be financed by equity if they were too large to be paid for by cashflow. "We are seeing things we haven’t seen before – like acquisition finance. It was impossible to buy a company with debt five years ago. But in one recent acquisition we [financed through] a bridge and then a debenture. With Reg 476 it took less than a month, the costs were reasonable and the interest rate was cheap."
Brito e Abreu is referring to the company’s January R$550 million domestic 2019 paper, which pays DI+2%. And volume is becoming less of an issue for domestic bonds: Telefónica recently sold a Reg 476 deal that was R$2 billion. The opportunity to finance acquisitions through debt – quicker, cheaper and more efficient than equity – has also been cited as one of the reasons for the low levels of fresh equity market issuance in Brazil this year.
Regulation 476 was introduced in 2009 to speed up access to the local market. Documentation is simpler and quicker for deals that satisfy certain criteria – the most important are that a deal is marketed to fewer than 50 investors and sold to fewer than 20. It has proved popular with issuers and banks either retain the debt on their balance sheet or conduct highly targeted transactions such as Telefónica’s, which was sold to a single investor.
However, while leading to more volumes – the local debenture market has doubled in volumes this year according to Juan Pablo De Mollein, managing director at Standard & Poor’s in Brazil – it has weakened transparency and looks likely to frustrate the country’s challenge to create a liquid secondary market for bonds.
The 500 basis point fall in the Selic (Brazil’s base rate) during the past year is driving a lot of the issuance, spurring companies to finance among the lowest-ever real interest rates. The base rate now stands at 7.5% and the real interest rate is around 3%, meaning local investors – both institutional and private – are moving into private-sector debt in the search for yield. However, the big question is how sustainable the lower interest rate environment is – with futures suggesting a return to rate hikes next year.
