“Great company, wrong zip code,” sums up investor attitude last year to Latin America’s best companies. Many of the region’s companies can legitimately claim to be world-class operations, but their location puts off investors, newly reacquainted with risk. This meant that Latin companies had to work harder to convince lenders, and bankers had to develop more ingenious structures to attract investors.
Petrobras, the Brazilian national oil company, found a way to bolster its case by insuring its bond. “Political risk insurance introduced us to investment-grade energy investors,” says Ted Helms, general manager of Petrobras in New York. “It gave them the chance to look at Petrobras as an international oil company and not as an emerging markets company.”
The seven-year, $450 million, seven-year 144a issue led by UBS Warburg with a political risk insurance policy from Steadfast Insurance Company, a subsidiary of Zurich American Insurance, enabled Petrobras to raise financing at 368 basis points less than Brazil was paying on its 2009 benchmark bond. The deal opened the long-term public international bond market for Latin American companies in below-investment grade countries and is LatinFinance’s political risk insurance bond deal of 2001.
As investors worried that fallout from Argentina would hurt Brazil, Brazil’s sovereign spreads rose steeply, making financing for Petrobras expensive. Brazil’s ’09 bond was trading around 843 basis points over US Treasurys in May. “Until this product came along, investment bankers were talking about pricing [Petrobras] at a premium to the sovereign,” says Helms.
UBS Warburg approached Petrobras with the idea of offering a $300 million bond with political risk insurance. “Political risk insurance typically suits a credit with a recognized name in a global industry, where there is a big difference between the local and foreign currency rating,” says Marcelo Delmar, managing director of UBS Warburg’s Latin America debt capital markets. Petrobras had an investment-grade local currency rating of Baa1 and a sub-investment grade foreign currency rating of Ba1. “Petrobras was a company with a great story,” says Delmar.” It had done a tremendous marketing effort, so it was quite fresh in investors’ minds.” Less than a year earlier, Petrobras had executed the largest-ever equity offering by an emerging markets issuer when it raised $4.32 billion on the New York Stock Exchange.
Petrobras issued the PRI bonds through its offshore subsidiary, Petrobras International Finance Company (PIFCO), which must keep a standby liquidity account to cover the first six months of coupon payments in the event of a political crisis. Steadfast would cover bond repayments for the following 12 months.
Helms says buying political risk insurance did not increase the cost of the transaction appreciably. “The savings were literally several hundred basis points inside the sovereign. The transaction costs were not nearly that much.” UBS priced the deal with a coupon of 9.875% and a re-offer price of 99.623 and a re-offer spread of 475 basis points over eight- year US Treasurys. Ben Vance, senior investment officer at Provident investment management agrees, “Compared to other Latin investments [Petrobras] came in on the tight end of the range,” he says.
It was also a good deal for investors. Vance says the deal offered investors a significant pick-up in yield over other major oil companies. Investors could buy a triple-B rated US oil company’s paper with a spread of around 170 basis points over US Treasurys, or they could buy Petrobras for a spread of 475 basis points over Treasurys. “In this economic environment any new exposure to oil and gas companies needed to be with the top-tier companies. We wanted to go with the biggest and the best, and Petrobras is a top 10 oil company in all respects,” says Vance.
The response to the Petrobras bond was overwhelming. Petrobras attracted offers of $800 million but closed the book at $450 million. The majority of the investors were from the US and over three-quarters of the accounts were money mangers or insurance companies.
Petrobras returned to the market at the end of June with another PRI bond, raising $600 million with a 10-year issue carrying a 9.75% coupon. The insurance policy on the second bond was cancelable in the event of a significant credit upgrade by Moody’s.
Following Petrobras’s two issues, Brazilian banks and companies flocked to the market with PRI bonds. Banco Bradesco issued a $200 million, one-year bond with a 5.75% coupon in October and a $125 million, 10-year bond with a 10.25% coupon in December. Banco Itaú and Brazil’s national development bank BNDES also did similar deals. Provident’s Vance says he expects PRI to feature strongly in the Latin American capital markets this year but only for the best companies. “Market leaders with proven track records in all economic cycles are the most appropriate for the US capital markets,” he says.