Borrower view: Petrobras returns with a bang

A familiar friend resurfaced in the international capital markets in September. After a two-year absence, Petrobras returned with two new bond issues – one yen, one dollar – as well as a syndicated loan.

With a balance sheet of $10 billion, raising cash for its own sake is not necessary for the Brazilian state-owned oil and gas concern. “The sky’s the limit – for oil companies such as Petrobras there is a limitless capacity to issue debt if they wish, as the balance sheets are not stressed,” says Jeffrey Noble, an analyst at BBVA Securities.

Instead, the company issued the bonds to re-establish its presence in the markets and clean up its debt profile. Almir Barbassa, chief financial officer at Petrobras, says: “Petrobras’s sudden return to the capital markets coincides with increased production and increased prices leading to an increase in cashflow. This, combined with rating improvements, has turned our attention to liability management strategies as we start on an aggressive five-year expansion plan.”

The first deal, a ¥35 billion ($300 million), 10-year samurai bond, which pays a semi-annual coupon of 2.15%, was Petrobras’s first in the yen market for a decade. “The long-running relationship that Petrobras has with Japanese financial institutions makes it important for it to have access channels into this market,” says Emerson Leite, an analyst at Credit Suisse.

Moreover, with the company in discussions to buy a refinery in Japan, possibly by the end of the year, it was keen to re-establish this relationship with Japanese investors. The transaction received “an excellent market reception, with it selling very easily through private placements,” says Barbassa.

Even so, the bonds needed to come with a partial guarantee by the Japan Bank for International Cooperation to get the deal done. “We used the same strategy for this deal as we did in the US market in 2001, using a PRI [political risk insurance] with the purpose of reaccessing the market, expanding our investor base and keeping our name out there,” he adds.

New benchmark

The second deal, a $500 million, 10-year global bond, closed a week later on October 6. The notes yield 6.185%, 155 basis points over comparable US treasuries. It carried a coupon of 6.13%, lower than market expectation. Over 90% of the transaction was placed with investment-grade investors, reflecting the company’s strong credit quality (Petrobras has a split investment-grade rating). The rest of the paper went to dedicated emerging market funds.

“This dollar issue will establish a new benchmark and clean up the books from previous, non-investment-grade issues,” says Francisco Pujol, managing director at Morgan Stanley, which acted as joint lead manager with UBS. He adds that with the “sector being hot and there being only limited oil debt at investment grade out there these deals are very attractive.” This was illustrated by that fact that all placements were made within two hours, and the order book was nearly three times oversubscribed.

Liability manangement

The company complemented its bond deals with a $750 million syndicated loan that was finalized at the end of September. The loan replaced an existing $500 million financing from the end of 2005 and cut Petrobras’s costs substantially. The new loan costs Libor plus 37.5bp compared with 125bp over for the original transaction. “Our liability management continues; there was a renegotiation of costs and a change in the volumes, with an option to extend the loan after three years,” says Barbassa.

Combined with this market activity “Petrobras has brought back $1.2 billion of its outstanding bonds, therefore reducing their value from $2.9 billion to $1.7 billion,” he adds. Therefore, “by purely following a liability management strategy, the overall net balance has been unchanged, and remains at around $10 billion.”

The timing of these transactions becomes clear once Barbassa explains Petrobras’s investment strategy. “The company has no need to raise funds immediately. However, the investment plan illustrates our intention to invest $87.1 billion by 2011, this is about $18 billion per year, of which $75 billion will be spent in Brazil and $12 billion spent around the world,” he says. Investment outside Brazil will focus on exploration and production, while in Brazil the bulk will be spent on developing platforms, refineries and infrastructure in order to secure their self-sufficient status and generate export surpluses. ‘Currently there are heavy crude oil surpluses in Brazil with exports of 300,000 barrels a day. However, the country’s refineries are at their limits and so light oil is still imported. With light oil being more dear than heavy, an import surplus continues. This is why we are looking into refineries; we want to sell the more valuable oil products, not just the crude,” says the CFO.

Local funding

For these local projects, the company is considering local funding. This is why Barbassa intends to complete $1 billion-worth of asset-backed securitization deals in local currency before the end of the year. “For domestic investments we want to borrow locally, and though local interest rates have decreased, it is still cheaper to borrow through securitization deals,” he says. “With our rapid expansion plan to build docks and improve infrastructure these [ABS] deals make sense.”

The first of these deals, worth $93 million, will fund a dry dock in the southern state of Rio Grande do Sul. Barbassa adds that the company will target the ABS market several times a year in order to fund further projects over the next five years. But, does the company have plans for further foreign market issues?

With its strong balance sheet it has no need to raise more cash. However, even though Barbassa discounts any euro transactions in the foreseeable future he doesn’t rule out further dollar issuance. Marcelo Delmar, head of Latin American debt capital markets at UBS, says: “Petrobras wanted to set up a new benchmark through last month’s dollar issue. It is the starting point of what could turn into a more liquid benchmark in the future.”

Barbassa adds: “We intend to reopen the dollar issue with the purpose of using the additional amount of bonds to do an exchange. With this the overall value of the issue will rise to $1 billion and will grant more liquidity to the outstanding bond. Such liquidity is important as a provider of better information regarding costs for the company whenever it needs to access the capital market. However, I don’t think this need will arise at least until 2008 if oil prices stay high.”

Undercutting accusations

When the oil price spiked in July, Petrobras was criticized for undercutting the international price to its domestic consumers. However, Barbassa maintains that “Petrobras’s oil prices reflect international prices over a long-term average, therefore in July when international prices rocketed, Petrobras prices where lower. However, today, with prices nearer $62 a barrel, Petrobras maintains a price higher than this and is realizing good profits. It is a very positive strategy for the country and for its 180 million people.”

It appears to be working. It seems that if oil prices remain above the projected $55 a barrel for next year, Petrobras can continue its investment plan without raising any more funds until 2009.

Therefore, despite an ambitious investment plan that is running at an impressive 85% completion rate, as long as oil prices stay above projections Petrobras will have the luxury of picking its spots in its borrowing schedule.