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Petrobras headquarters in Rio de Janeiro. The state oil giant continues to struggle with a high debt burden. (Photo: Petrobras)
Wednesday, March 28, 2018

Petrobras: The Debt Challenge

Is Brazil’s Petrobras finally getting on a firmer footing?

Inter-American Dialogue

Saddled with at least $85 billion in debt, Brazilian state oil company Petrobras faces a difficult path ahead, Fitch Ratings said last month, as it downgraded the company’s debt ratings further into junk territory, to BB- from BB. Meanwhile, Geraldo Alckmin, the governor of São Paulo State and a presidential hopeful in this October’s national election, said last month he was open to privatizing Petrobras, which already has semi-public ownership aspects. What are the biggest challenges shaping the outlook for Petrobras? What does Petrobras have working in its favor? How well has the company dealt with a multi-year corruption scandal and related governance changes?

Larry B. Pascal, co-chair of the International Law Section of Haynes and Boone, and Andre Berzins, Rio de Janeiro-based attorney: Petrobras faces a litany of challenges in its efforts to recover from numerous setbacks and obstacles, including billions in debt. Its lowered debt rating will mean higher borrowing costs.

Although it has put in place an ambitious divestiture program, laid off thousands of employees and contractors totaling more than 185,000 workers, and recently settled a class-action suit in the United States for approximately $3 billion, it still faces numerous challenges. Its large layoffs have hurt worker morale, and the divestiture program has seen certain sales (such as the Liquigas sale) blocked by the local Brazilian competition authorities. Its international reputation has also been damaged by the Lava Jato scandal, although the company insists it was the victim of official corruption. However, it does retain important advantages. It has seen four years of increased production. Moreover, the government has adopted rules to make its operations more flexible, including Decree No. 9,041/2017 which has granted it more flexibility for its participation in the pre-salt area, as well as new rules designed to enhance transparency in procurement. It recently won various new fields as part of the most recent upstream bid round. It remains a dominant actor in the Brazilian market and holds many valuable assets including the deep-water pre-salt fields. Petrobras has ample challenges as it works to restore its financial and operational luster that it previously enjoyed.

Francisco Ebeling Barros, independent Rio de Janeiro-based energy consultant: Fitch’s downgrade of Petrobras was indeed a big blow for a company that is attempting to re-couple with financial markets. In January, Petrobras agreed to settle a U.S. class-action corruption lawsuit for $2.95 billion, a sum that actually was more than Brazilian courts claimed that the Car Wash corruption scandal had cost the company. With Fitch’s downgrade, Petrobras is learning the hard way that regaining the markets’ trust in order to reduce its debt (such as through capitalizing itself) is much more complicated than it had initially expected.

What does Fitch downgrade show us? King oil is not dead, and it will not be dead for many decades to come. Also, the ratings agency is signalizing to investors, with all other things held constant, that the companies that succeeded in the second and third pre-salt bidding rounds—such as Statoil and Shell—are also strong competitors for investors’ attention. It also shows that markets want the whole package, and this probably includes the companies’ privatization.

It is possible that, by following that line, Petrobras will markedly improve its financial situation. It is an established fact in the petroleum industry that state oil companies and private companies are opposites when one compares financial performance with developmental goals. It is difficult to have both. Thus, if Petrobras follows the path that markets expect it to follow, its social and economic influence in Brazil´s economy will be substantially lower.

Jeremy Martin, vice president for energy and sustainability at the Institute of the Americas: It remains to be seen if God is Brazilian, and with Neymar’s latest injury, predict a Brazil World Cup victory at your own peril.

But what does seem to be humming along is Brazil’s oil sector and Petrobras’ recovery. It clearly is not back to the Petrobras of the heady early pre-salt days, but the company deserves some of the more positive plaudits it has garnered of late. Long linked to the horrific corruption wracking Brazil, the company and its current leadership have staked out a strategic plan that confronts its debt challenges, liquidity issues and a needed reset in terms of its procurement, as well as cost-reduction efforts. Despite its credit downgrade, some of its international debt offerings have been oversubscribed.

Indeed, several market analysts have begun to highlight the company’s upside. In addition to navigating the company through the detritus and out of the ashes that is the Car Wash scandal, Petrobras has increasingly been able to ride the tailwinds derived from a global oil price rally. But Petrobras would not be able to take advantage of the price rally as consequentially if the pre-salt geology had not begun to prove itself so prolific.

Brazil’s pre-salt wells are pumping more than 1.7 million barrels of oil equivalent per day. Moreover, one of Petrobras’ signature partnerships and projects in the pre-salt, the Libra field, has declared a breakeven price of $35 with the company’s CEO arguing that its cost reduction plans will reap a $29 breakeven price. For those arguing that is wishful thinking, it bears noting that Shell, another major producer in Brazil to the tune of some 300,000 barrels per day, has said it is confident that it can meet a breakeven price target of $40 in the pre-salt.

Republished with permission from the Inter-American Dialogue's weekly Energy Advisor


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