Is Petrobras a Hopeless Bet?

Petrobras (PBR) released its fourth quarter and full year 2015 results on March 21st. The company has made some progress on an adjusted basis through 2015 although on a reported basis its net loss increased by 15% in USD terms over 2014 to US $8,450 million. The major cause of the increase was impairment of assets and investments due to decreased crude oil prices and higher discount rate in the wake of an increase in Brazil’s risk premium and a credit risk downgrade. This pulled down the net income by US $12,849 million.
The second biggest contributor to the increase in reported net loss was the interest expenses and foreign exchange loss amounting to US $9,853 million.

Otherwise, the operating loss decreased from US $6,963 million in 2014 to US $1,130 million in 2015. The adjusted EBITDA also increased by 25% in Brazilian currency terms although it was 9% lower than in 2014 in USD terms due to a 47% depreciation of the Real compared to 2014. The EBITDA margin went up from 18% to 23%. This compares to the average EBITDA margin of oil majors which dropped from 14% to 12%. Also, the free cash flow improved from a negative of US $8,118 million in 2014 to a positive of US $4,411 million in 2015. This was the first time since 2007 when the company reported a positive free cash flow. The company invested 38% less in CAPEX and other investments in 2015 (US $23,058 million) compared to 2014 (US $37,004 million).

More statistics          

The company also reduced net debt by 5% from the end of 2014 to US $100,379 million as of December 31, 2015. Another progress in the direction of reducing debt load was the increase in the average maturity of outstanding debt from 6.10 years to 7.14 years from 31st December 2014 to the same point in time of 2015. Petrobras has a cash position of $25 billion and a total of $15 billion of unused credit lines. This much liquidity should be enough to pay for debt coming due in 2016 and most of 2017. Still, the total debt is at a level where it should continue to concern the investors especially when the interest rates have finally started to increase.

Oil Prices and Production moves:

Petrobras is a vertically integrated energy company. Thus, if at the upstream it is suffering because of low oil and gas prices, at the downstream it has the opportunity to exploit the same. Petrobras is going through a corporate business adjustment phase in line with the new oil price environment. The excess production of oil and gas by the US based companies due to technological advancements like shale production is the biggest reason for the oil crash. Further, on the consumption side China’s growth has slowed and the developments in the field of renewable energy are proving to be strong barriers for oil prices returning to profitable levels.

This is causing integrated players like Petrobras to sell assets, reduce downstream CAPEX and shift their focus from production to the high margin downstream operations. As a result of the new investment plan, funds from operations more than covered capital expenditures. And while the revenue dropped 32%, the EBITDA only fell 0.5% and funds from operations only fell 2.7%.

Even after so much production cuts and asset sales, Petrobras’s upstream production grew 5% between 2013 and 2014 and 4% between 2014 and 2015. At Pre-Salt, the production was a monthly record at 874,000 barrels per day. The company also connected 73 offshore wells during 2015 including injectors and producers.

Nearly 90% of oil produced by Petrobras is incorporated into the downstream business and only a fraction of the remaining is exported. This transfer of value within Petrobras' operational segments contributes in a positive way to earnings.

The spoilsport Scandal

The Petrobras scandal that involves its highest officials, the Brazilian politicians and Brazil’s major construction companies, is so impactful that it has shattered the Brazilian republic. Hence, it could more than nullify any progress that the company claims to have made in terms of reduced losses, increased cash flows and margins and improved efficiencies. Petrobras now faces a Herculean task of turning around the company which has deep ethical issues that take years to get resolved and show any positive effect.

For the short term, some investors might be hopeful of a bailout by the Brazilian government. But you don’t go out to bet on a bailout kind of thing in the stock market. Further, a bailout is a far-fetched possibility at present. And even if a bailout does happen, the common shareholders come after the more preferred claimants especially the banks and bondholders. And the net debt stands at over US $100 billion and the total debt represents 54% of total assets. So unless we get more clarity on this case, we can’t have an optimistic view on the company. Therefore, it is advisable for equity investors to stay away from this stock till at least the investigation is over.
Published on May 11, 2016
By Subhen Mittra

Copyrighted 2016. Content published with author's permission.

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