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Window of opportunity for Petrobras asset sales

Brazilian company has ambitious divestment package but could be thrown off track by adverse economic conditions

Covid-19 has, for better or worse, initiated or accelerated wholesale structural changes across the energy sector. Producers have been forced to rethink their legacy business models, with uncertain energy demand and slumped oil prices, while governments have had to contemplate a future without assured oil revenues.  

In Brazil, structural reforms in the refining and natural gas sectors were already underway but have become more critical. State oil company Petrobras aims to offload eight refineries and several major natural gas pipelines and distribution companies, among other big ticket items, as part of its divestment drive to focus on core pre-salt oil production.

Petrobras’ refining business has particularly suffered in 2020 and showcases the motivation to divest. Refinery utilisation slumped to just 59pc in Q2 as domestic demand collapsed. Across the first six months of 2020, the Brazilian company’s refining unit posted a net loss of $1.27bn.

Vicious circle

Over the past decade, Petrobras has frequently recorded negative gross margins for its refining segment, the result of successive governments offering subsidies to keep fuel prices down. The refining business has struggled to separate political motivations from financial ones, to the detriment of its productivity, growth and attractiveness.

“This lack of investments impacts the performance and modernisation of the sector” Delgado, FGV Energia

Petrobras still operates 98pc of Brazil’s refining capacity, highlighting the heavy hand of the state. And cheap customer prices, growing demand and lack of capacity have forced the company to import at a sizeable loss to make up for the shortfall.

“Petrobras has made few investments and only some maintenance without significant improvements,” says Fernanda Delgado, a researcher at Brazilian thinktank FGV Energia. “This lack of investments impacts the performance and modernisation of the sector and keeps the country an importer of derived products.”

To tackle the problem, Petrobras and anti-trust regulator Cade signed an agreement to offload eight of the company’s refineries, representing around 1.1mn bl/d, or 50pc, of Petrobras’ capacity. The total value of the refineries on offer is estimated at $11.5-15.2bn, with the sale intended to increase market competition and lower the financial burden on Petrobras.

Motivating factors

Another incentive for the refinery sales is a looming shortage of refined products. Brazilian broker XP Investimentos estimates that the South American country will reach a products shortfall of 400,000bl/d by the end of the decade, given lack of refining and import capacity.

To secure national energy security, Brazil would have to increase either its refining capacity—at a cost of $8-9bn—or its import capacity—at a cost of $2-3bn. The government hopes that fast-tracking the completion of refinery sales will attract more private investment to address the imbalance. The result would be a leaner, more efficient sector with more incentive for further investment, especially given the size of the domestic market.

But there are some dangers. “Petrobras' disinvestment in refining introduces the discussion of supply risk,” says Delgado. “Given its relevance in refining, Petrobras maintains substantial inventory to give resilience to the system.”

And a study from the Pontifical University of Rio highlights that asset sales could replace a near national monopoly with regional ones instead. Of the eight refineries on offer, four are at high risk of enabling regional monopolies, while two are at moderate risk.

To avoid this, the study suggests that the Brazilian government should provide free access to coastal terminals and transportation pipelines and encourage the use of infrastructure between different agents. Investment in improved logistics infrastructure will also be needed to increase competitiveness and create overlap between refineries’ areas of influence.

Growing the gas sector

Reforming the country’s natural gas sector is also a key priority for the Brazilian government and Petrobras. Pre-salt oil production has exploded in recent years, and the company has ambitious floating, production, storage and offloading plans over the next decade.

But Petrobras’ hegemony over the natural gas sector and lack of infrastructure has left reserves of the fuel largely untapped or, often, reinjected. To help resolve the problem, Petrobras aims to sell its remaining stakes in the TBG and NTS gas pipelines, plus a majority stake in the distribution company Gaspetro, as part of a wider initiative to open the gas market to more willing participants.

Some baby steps have already been taken. A new Natural Gas Draft Bill was approved by congress at the start of September. It sets out to provide non-discriminatory entry to pipelines, processing units and LNG terminals for third parties. The government hopes increased competitiveness will lower Brazil’s domestic natural gas prices, which have traditionally been much higher than the international average.     

Hurdles ahead

The Gaspetro sale is slightly more complex, however. The gas distribution firm has a presence in 18 Brazilian states and shares a stake in 13 regional companies partly owned by state governments. Some states, such as in Rio Grande do Sul (Sulgas) and Parana (Compagas), aim to privatise their local distribution companies.

$1.27bn – H1 2020 net refining income loss

Furthermore, Japanese conglomerate Mitsui already holds a 49pc stake in the business and has first refusal to buy the remaining share. But, in 2016, a court injunction blocked the sale of the remaining stake to Mitsui when the state of Bahia raised fears that the transaction could impact the control of regional distributor Bahiagas. Gaspetro’s shared stake in many of the country’s regional distribution companies runs the risk of the sale again being delayed because of energy security concerns.

Delays have already impacted the roadmap of Petrobras’ planned divestments. The weak oil price and Brazil’s response to Covid-19 have made potential buyers cautious. “Both the current economic recession and the way the Brazilian government has dealt with the pandemic led to the downgrading of the national rating two months ago,” says Delgado. “All these aspects weaken the attractiveness of foreign investments, which is detrimental to the goals of Petrobras.” 

But speaking on the Brazilian company’s Q2 results call, CEO Roberto Castello Branco remained confident the refinery sales would at least be finalised before the end of the year. Petrobras has over $15bn planned in total divestments, which would help significantly in paying down some of the company’s eye-watering debt.

The Brazilian firm has already offloaded $16.3bn in non-core assets and reduced its debt pile by $8bn over the first half of the year, albeit only taking it down to $91.2bn. But further stumbling blocks could significantly slow the divestment pace and risk further financial pain for Petrobras over the remainder of the year.

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