Petrobras $79 bln capital hike relies on bull case

September 21, 2010

Petrobras seems to be banking on the bull case for buying its stock. Despite the investment risks, it has upsized its already huge offering to as much as $79 billion. The Brazilian oil giant is hoping enough investors really think it can deliver on its plans.

Over the past year Brazil’s government has given shareholders plenty of reason to view the glass as half empty. Brasilia foisted $74 billion of not very profitable refinery investment on Petrobras over the next five years. And the government is overcharging the company for 5 billion barrels of new oil reserves, in return for which it is collecting $43 billion of stock.

But there is a bull case, too. If Petrobras can live up to its business plan, it will take over from Exxon Mobil as the world’s largest publicly traded oil producer by 2017. It has also set its sights on doubling current production to 5.4 million barrels a day by 2020. To reach that goal, the company may need to boost reserves from about 17 billion barrels of oil and oil equivalents — the level after the government’s newest infusion — to closer to 26 billion barrels, according to Louis Capital Markets.

Assuming it can do that, LCM reckons, Petrobras’ enterprise value is currently around 18 percent of the net present value of those higher reserves, roughly in line with Exxon. But 84 percent of what Petrobras produces is crude, whereas most Big Oil rivals increasingly depend on less valuable natural gas. Oil makes up only 56 percent of Exxon’s output, for instance.

So Petrobras could merit a premium valuation. The oil-heavy Occidental Petroleum trades at around 25 percent of the present value of reserves, by LCM’s calculations. That benchmark would leave room for the Brazilian company’s value to rise by a third. LCM also assumes the oil price hovers around $75 a barrel. With Cambridge Energy Research Associates predicting a price close to $100 by 2014, there could be further upside.

That’s the reasoning that may help Petrobras raise up to $36 billion from the private sector along with its oil-for-shares deal with the government. It requires investors to play up the long term case for oil and play down the risks of the company falling short of its business plan and of government meddling. Persuading strategically-minded investors like sovereign wealth funds would be a start. The company is going to need plenty of others to buy the logic, too.

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