Petrobras plans $25bn rights issue

Petrobras, Brazil’s national oil company, is preparing a share issue to raise an estimated $25bn as early as next month in a crucial step for developing its “pre-salt” oil fields – so called because they are trapped under several kilometres of sea water, rock and a hard-to-penetrate layer of salt – that promise to make the country one of the world’s biggest oil exporting nations.

Details of Petrobras’s capital plans are still sketchy, but an offering of that size would be the world’s biggest so far this year, trumping Agricultural Bank of China’s planned initial public offering next month, which looks set to raise about $20bn.

If the issue is successful, the new capital would allow the company to borrow more to fund the pre-salt development, without the company putting its valuable investment grade credit rating at risk.

Brazil’s Senate gave the plan the go ahead last week when it approved a package of legislation governing the pre-salt fields, which were discovered in 2007.

International oil company executives have likened them to the North Sea discoveries of the 1970s in their potential to transform the industry. Parts of the fields were put out to concessions under existing rules before their potential was understood.

The government wants the rest to be subject to production sharing agreements that it says are needed to maximise government income and increase its control over production. Under the proposals, Petrobras would be the sole operating company in the pre-salt area.

A successful share issue of this size would also be another sign of the ebullience of Brazil’s capital markets. Last year the São Paulo stock exchange hosted two of the biggest initial public offerings worldwide, from credit card company VisaNet ($4.3bn) and the local unit of Spanish bank Santander ($7bn).

“Brazil is still one of the strongest stories out there,” says Flavia Cattan-Naslausky of RBS Securities. “It’s extremely liquid and is one of the main channels for both bearish and positive sentiment.”

Petrobras’s issue represents about a 16 per cent expansion of its current market capitalisation. The plan is central to its ambitious investment programme, which includes R$88.5bn ($49bn) this year alone. As work proceeds in the pre-salt region over the coming five years, the company plans to invest an enormous $200bn to $220bn – the biggest capital expenditure programme in the global oil and gas industry.

The share issue will be a complex process designed to achieve a simple end; to avoid the government having to spend cash to recapitalise the company.

To make that possible, the government will sell Petrobras the rights to 5bn barrels of oil in the pre-salt fields. This, it is hoped, will encourage investors to take part in the share issue, to which the government will also subscribe.

It owns about 40 per cent of Petrobras’s share capital, including a majority of its voting shares, both directly and through public sector companies.

The idea is that the government will pay the same amount for its new shares as Petrobras will pay the government for the rights to the 5bn barrels, leaving Petrobras to pocket additional funds raised from minority shareholders.

This will strengthen its balance sheet and allow it to borrow while keeping its ratio of debt to equity below 35 per cent, which is considered the threshold for its investment grade rating.

Success hinges on the price of the 5bn barrels. Petrobras has commissioned an independent valuation and the ANP, Brazil’s oil industry regulator, will commission another. This will be ready only after the share issue but the process allows for adjustment. The price will value the oil where it is now, with all the risks of bringing it to the surface. It is expected to be in a range of $3 to $7 per barrel.

If minority shareholders perceive the price as too high, they may prove unwilling to invest. Too low, and the government could be accused of handing a favour to private investors at the expense of the national interest.

Ms Cattan-Naslausky says: “There is great sensitivity to the level of government participation and the government knows that.”

So far, the government’s plans have also proved to be immune to the reverberations from the BP disaster in the deep waters of the Gulf of Mexico. Officials from Petrobras and the ANP have visited the Gulf as observers.

Industry analysts believe Petrobras and Brazil’s regulatory regime are probably as well prepared as they could be for any event.

“Petrobras’s expertise [in deep waters] is top of the field,” says Christopher Garman of Eurasia Group. “Regulations on what blow-out preventers are required are as tough or tougher than anywhere in the world, and environmental regulations are probably more stringent than they are in the US.”