“The devil will be in the details,” says US investor who bought 5% of Petrobras

“The devil will be in the details,” says US investor who bought 5% of Petrobras


In late December, GQG Partners announced it owned more than 5% of Petrobras’ capital. The position was built over time, and it was particularly meaningful given that many investors had fled the stock after Lula’s November election.

The investor behind the gambit is Rajiv Jain, who founded GQG in 2016 after a 23-year career at Vontobel Asset Management, where he was CIO, head of equities and co-CEO.

Based in Fort Lauderdale, Florida, GQG manages US$ 88 billion in assets, of which US$ 23 billion are allocated in an emerging markets strategy.

Rajiv jainThe literature on international investments has a separate chapter for the so-called ‘home bias’ – the discussion whether local investors’ better access to information is a bonus or a burden, given that greater proximity to the facts sometimes can tilt their analysis by mixing noise and signal.

In its analysis of the Petrobras investment case, Rajiv’ team counts on Polyana da Costa, a Brazilian and former journalist who migrated to the buyside when GQG was founded.

At the end of December, GQG had around US$ 10 billion in Brazilian stocks – around 1.3% of Brazil’s entire equity market. In addition to Petrobras, the firm owns relevant positions in Eletrobras, Itaú Unibanco and BTG Pactual.

Rajiv spoke to Brazil Journal about his bet on Petrobras, one of the cheapest oil companies in the world, but dragged down by political risk. Spoiler: he likes the company’s new CEO, Jean Paul Prates, but doesn’t think Petrobras should be in the business of building more refineries.

Most local investors fear that under this new government, Petrobras will suffer the same travails it suffered under the Rousseff administration, and this is reflected on the stock price.  You obviously don’t share those concerns…

We believe we need to differentiate between what happened under Lula and Dilma. Lula is not Dilma. And if you go back to the fears in 2001-2002 era, they are similar fears, if not identical.. But in our view Dilma was obviously very different, and she clearly did a lot of damage.

We have done a lot of research and so far we see no evidence of drastic measures – yes there’s a lot of political rhetoric – but we feel he is a very pragmatic individual and a lot of the comments in the press may be political posturing.

As of today, we feel that the political posturing scares a lot of people but the reality tends to be different – not just in Brazil, but also in a lot of other democratic societies. As an example, a lot of people panicked when a socialist won India’s 2004 elections, but in the end nothing really happened. People always forget how tough it is to make overnight changes in democracies such as India or Brazil, so you get time to react (unlike China).

CEO Jean Paul Prates has been saying that Petrobras must invest in offshore wind power generation and other green energy projects.  As you know, some oil companies went in that direction, while others decided to stay out of the energy transition and simply become a cash cow.  What is your view? 

We think that some activity in this area can make sense for an oil company given how we have seen this pan out globally, but oil companies can certainly do too much and the amount of capex that makes sense depends on the facts. Ultimately we think that there are other market factors that can have a bigger impact on our thinking about PBR than this one.

Petrobras has started to sell part of its refining capacity, but Prates said the company will stop selling assets. Do you think stop selling asset sales is a smart move?

In our  view, it would be better for the company to sell some of those assets. However, Prates has a long history in the oil and gas industry. He settled the first energy consulting firm in Brazil decades ago. So if anything, he is actually one of the most competent persons to be running Petrobras. Obviously, there are political pressures and we feel that can be handicapped in valuations rather than yes or no case. Every company has some issues.

If I look at Petrochina, they are selling at two times the valuation of PBR. That has arguably more government intervention than Petrobras. In our view its oil assets are not better than Petrobras’. In fact, Petrobras is selling below CNOOC, which is actually a sanctioned company by the US. So having someone like Prates is not necessarily a bad thing. Again there was a lot of political posturing that went on before the elections and some statements were made but we feel that he would be pragmatic. In fact, they have begun to say that they are not there to destroy shareholder value. We hope that’s not just talk and as shareholders, we will be watching this very closely.

In our view, the government’s interest is also aligned with investors because as shareholders they are getting a large chunk of dividends and naturally, they too benefit if Petrobras is well managed.

We spoke to Prates several years ago and we found him very knowledgeable about the industry, very sensible. He came across as very technical and objective at the time. Obviously, at that time his name was not in the spotlight so it’s a less biased assessment in our view. But only time will tell. 

What happens if PBR changes its pricing policy and abandons parity with international prices?  There is talk Prates wants to create a pricing policy that considers a mix between international and local prices…. What’s your view on that?

Jean paul pratesThe devil will be in the details. If it’s a minor change, the stock will probably react positively because there is so much overhang at the stock. You have to keep in context that the stock is 2.5x earnings with a very chunky dividend yield.

So the real problem has been the uncertainty, so the more clarity there is better the stock will do because the uncertainty will come down.. We feel at this point, that Prates would not want Petrobras to be in the situation it was a decade ago. Nobody wants Petrobras to become a Pemex.

But honestly, with oil prices where they are today we shouldn’t even be discussing parity issues. If oil is $150, it’s a different matter. But where oil prices are today, the discussion is not even needed.

If PBR changes its dividend policy and goes back to the minimum payout required by law — 25% of earnings — would that change your view on this investment?

Obviously it will become less attractive, but if you look at what just happened at Banco do Brasil, they maintained a 40 percent dividend payout ratio. As the largest PBR shareholder, we believe the government has every incentive to maximize the dividend payout.  

But again, everything has to be looked at in context of valuation. Nobody is saying we would own it irrespective of valuations. But at these valuations, a lot of bad news is priced in. Petrobras is routinely considered one of the best deep offshore operators and we have talked to vendors who worked with Petrobras over the years. We have talked to a lot of US/intl companies who operate with Petrobras and it is a consistent message: this is one of the best deep offshore operators in the world. It’s a very well-run company, with fantastic assets and talent pool – and it’s selling at valuations below a company that was sanctioned by US authorities. 

There is talk of Fuel Price Stabilization Fund. One idea being floated is that PBR would somehow divert funds that otherwise would go straight to dividends to capitalize this Fund, although it seems to me that the only honest (and legal) thing to do would be for the government to use only ITS OWN share of the dividends to achieve its public policy goals.  How do you see this Stabilization Fund idea?

We actually like the idea. There has been plenty of case studies. Depending on how it’s structured or funded, there are plenty of examples that have worked very well and it’s a win-win. We think that would de-risk the stock. Now in terms of Petrobras helping fund it, well ideally the government should fund it with the dividends they are getting. Now, if that is not the case, again the devil is in the details.

How much would the government be asking Petrobras to contribute and how is that different than higher taxes, for example? It all depends on the valuation. In some cases a stock is not a sell because taxes are raised but if it rises too much, then it becomes a sell. So it’s hard to talk about hypothetical cases.

If you look at European companies, for example, there are windfall taxes right now -in some cases the stock has reacted and the valuation has gone down but that’s our job, to analyze it and make a call then. Nobody here is saying we have a dogmatic view and would own Petrobras for rest of our lives, so it depends on a number of other things.

There is talk of PBR investing in refinery upgrades and in building new refinaries.  What’s your take?

Actually, I feel that the world is short of refining capacity. Adding some capacity is not necessarily a bad thing but it doesn’t have to be under Petrobras’ umbrella. Brazil does need refining capacity actually, so adding capacity in the system is not a bad thing but we prefer it not be under Petrobras. 

What level of capex is acceptable to you as a shareholder?

For the longer term viability of the business, and as a long time shareholder, some Capex is essential. This is a depleting business, you can’t simply not invest in capex to pay dividends. The business won’t survive long term. So we are not against capex. In fact, one of the virtues of Petrobras is that they do have the ability to deploy good capex. Most of the oil companies in the world, they don’t have the assets to deploy capex, it’s a different problem. So in Petrobras case it’s a good thing that they have the ability to deploy capex but balance between dividends and capex matters because if they turn into big spenders once again, the math may not work out for many investors. We always look at these things objectively. It always comes back to the details and the valuation, so it’s hard to say without knowing the details.






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