What could Brazil gain from privatizing Petrobras?

. Apr 30, 2019

More than just a company, Petrobras is part of Brazil’s identity. It was founded in 1953, following a nationalist campaign proclaiming “The Oil is Ours!”—against the entreguistas who were accused of wanting to hand over Brazil’s national riches to foreign groups. Six decades later, Petrobras is Brazil’s undisputed largest corporation—being featured on the Fortune 500 list for 23 straight years.

‘Privatization’ remains a dirty word for millions until this day, as 55 percent of Brazilians reject the idea, according to recent polls. But is privatization really such a bad idea?

</span></p> <p><span style="font-weight: 400;">President Jair Bolsonaro, who used to call Petrobras a &#8220;strategic&#8221; asset to national sovereignty, seems to be growing fond of the idea. The government recently announced that Petrobras is selling off eight of its 13 oil refineries in the country—and Mr. Bolsonaro said his administration could go for a &#8220;wider privatization&#8221; of the company, without specifying exactly what that means.</span></p> <p><span style="font-weight: 400;">The company&#8217;s current top brass, investors, and infrastructure experts envision a tremendous gain in efficiency were Petrobras to be privatized, especially as it would safeguard the company from the government&#8217;s political interference.</span></p> <div id="attachment_16510" style="width: 966px" class="wp-caption alignnone"><img aria-describedby="caption-attachment-16510" loading="lazy" class="size-full wp-image-16510" src="" alt="the oil is ours petrobras" width="956" height="500" srcset=" 956w, 300w, 768w, 610w" sizes="(max-width: 956px) 100vw, 956px" /><p id="caption-attachment-16510" class="wp-caption-text">&#8220;The oil is ours&#8221;</p></div> <p><span style="font-weight: 400;">Petrobras went public during the Fernando Henrique Cardoso administration and is now a government-controlled private company, with the federal administration controlling 50.26 percent of its shares. And, due to its mammoth size and monopoly over oil refining, the company plays a significant role in the government&#8217;s economic policy—which leads to interference.</span></p> <p><span style="font-weight: 400;">“Political ideologies interfere in a state-owned company. Right now, the company’s goal is not to be profitable, but to be used as an economic policy tool. When decision-making is based on ideology, you end up building refineries in places where there’s no demand for them—just to please politicians, for example. If Petrobras were privatized, it would </span><i><span style="font-weight: 400;">have</span></i><span style="font-weight: 400;"> to make the right call, otherwise, the company would go bankrupt,” said Vladimir Fernandes Maciel, coordinator of the Economic Freedom Center at São Paulo&#8217;s Mackenzie University. </span></p> <p><span style="font-weight: 400;">In a note to clients, BTG Pactual analysts Thiago Duarte, Pedro Soares, and Daniel Guardiola agreed with this perspective, considering the sale of refineries as “Petrobras’ most important divestment, not only due to its size but also because of what it means to a company which monopolistic position in refining has arguably been the main reason for interference in its price policy.” </span></p> <p><span style="font-weight: 400;">There is no shortage of examples of how this interference can be damaging to the company. A couple of weeks ago, President Bolsonaro blocked an increase in diesel prices, causing havoc in the markets and leading to a </span><a href=""><span style="font-weight: 400;">loss of BRL 32 billion in market value</span></a><span style="font-weight: 400;"> in a single day. </span></p> <p><span style="font-weight: 400;">Moreover, former President Dilma Rousseff (2011–2016) considered Petrobras key to her administration&#8217;s economic agenda as a whole. That&#8217;s why she used the government&#8217;s power as Petrobras&#8217; biggest shareholder to force prices down. The policy cut Petrobras&#8217; revenue, making debts balloon to nearly USD 130 billion. However, once controls were impossible to sustain, price hikes were brutal and very unpopular.</span></p> <p><span style="font-weight: 400;">In fact, the fear of interference is among the reasons why the company has a much lower market cap than global peers such as Exxon Mobil, Royal Dutch Shell, and Total, despite being one of the few oil companies in the world that </span><a href=""><span style="font-weight: 400;">still has room to upscale its production</span></a><span style="font-weight: 400;">.</span></p> <hr /> <p><img loading="lazy" class="alignnone size-full wp-image-16511" src="" alt="MOST VALUABLE OIL FIRMS" width="1200" height="616" srcset=" 1200w, 300w, 768w, 1024w, 610w" sizes="(max-width: 1200px) 100vw, 1200px" /></p> <hr /> <h2>The widespread impact of Petrobras</h2> <p><span style="font-weight: 400;">Privatization would certainly shake the Brazilian market. Petrobras is the most valuable Brazilian company listed on the stock market. Its preference shares amount to 7.6 percent of the Ibovespa benchmark index, while ordinary stocks amount to another 5.3 percent—meaning that the index is often dictated by Petrobras&#8217; fortunes.</span></p> <p><span style="font-weight: 400;">Away from financial markets, Petrobras is also crucial to the Brazilian economy, due to the sheer importance of oil derivatives to the economy—from fuels to the production of all kinds of plastics. And, as the company holds a monopoly in the sector, every change in its pricing policy has ripple effects of huge proportions. </span></p> <p><span style="font-weight: 400;">For Mr. Maciel, as long as Petrobras remains under government control, it will be used—on a larger or smaller scale—to influence Brazil&#8217;s macroeconomics. This would sustain the vicious cycle of higher-risk premiums, making it more difficult for the company to attract capital, which in turn makes debt harder to pay and curbs Petrobras&#8217; ability to invest, negatively affecting the country’s economy. </span></p> <p><span style="font-weight: 400;">However, were the company to be sold off, it would be crucial to choose the proper model of privatization, avoiding the risk of replacing a state-controlled monopoly for a private one.</span></p> <p><span style="font-weight: 400;">“The main challenge is to craft privatization rules which allow competition, not verticalization. The company has to be privatized in pieces, in a way that forbids whoever buys one piece to take on another. If you transfer control the way it is today, the monopoly is just changing hands,” said Mr. Maciel. </span></p> <h2>The model matters</h2> <p><span style="font-weight: 400;">The disposition of refineries is an example of why privatization rules matter so much. Despite selling off 50 percent of Brazil&#8217;s refining capacity, Petrobras kept control over its São Paulo and Rio de Janeiro units—the most relevant markets in the country.</span></p> <p><span style="font-weight: 400;">“It’s clear that Petrobras (at least initially) wants to retain control of its capacity in southeastern clusters—which some would call the &#8216;crown jewels.&#8217; Therefore, we’d also question whether it will be enough to break Petrobras’ virtual monopoly (or even the capacity to attract the interest of potential buyers) given the greater importance of the region in Brazil’s overall fuel market,” warn BTG Pactual’s analysts. </span></p> <p><span style="font-weight: 400;">Selling its stake in BR Distribuidora—a fuel distribution subsidiary—could also be another step towards better competition, but it “won’t solve the efficiency problem, because you would still have plenty of companies buying from a single supplier,” adds Mr. Maciel. </span></p> <h2>Timing</h2> <p><span style="font-weight: 400;">The full-scale privatization of Petrobras would certainly raise controversy—and would need a broad political coalition to get the nod from Congress. And while </span><a href=""><span style="font-weight: 400;">Petrobras&#8217; dilemma</span></a><span style="font-weight: 400;"> between controlled prices and the free market seems to generate pressure on the government—as the 2018 truckers&#8217; strike demonstrated—this may not be the time to bring forward this discussion.</span></p> <p><span style="font-weight: 400;">After all, the government has its plate full, attempting to reform the country&#8217;s pension system.

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Natália Scalzaretto

Natália Scalzaretto has worked for companies such as Santander Brasil and Reuters, where she covered news ranging from commodities to technology. Before joining The Brazilian Report, she worked as an editor for Trading News, the information division from the TradersClub investor community.

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