The Brazilian government's drive to counter inflation is hitting Petrobras (PBR) in its bottom line. The state owned company is being forced to sell oil at lower than its imported cost which has cost the company's refining unit $8.4 billion in the first nine-months of the fiscal year, up from $4.8 billion last year. The shortage of refining capacity has prompted Petrobras to increase imports by 65% to 84,000 bpd. The increase in the import bill, coupled with the price ceiling - 8% below-cost - has widened the loss by 75%. The country's central bank has raised the inflation forecast in September to 5.2% for the current year and 4.9% for 2013, which is significantly more than its 2010 target of 4.5%. Its GDP would increase by just 1.6% this year but this is enough to cause an increase in the demand for oil.
So far Petrobras has been the worst performing oil giant. Its Chinese peer Sinopec (SNP), China's oil behemoth and world's third biggest refiner behind Exxon (XOM) and Shell (RDS.A), has also witnessed dwindling profits for a similar reason - Chinese government capped petroleum prices to counter CPI inflation and the refiner ended up losing billions. However, allowing fuel prices to rise in China starting in August and September helped it post $2.9 billion in profits for three months ending September, which while down 9.4% YoY was far higher than analysts' expectations and up 65% sequentially. More importantly, the refining margins for the firm have finally turned positive as the government allowed up to a 6.5% increase in prices of refined fuel.
The bottom line is that no matter what, price controls create havoc and price controls put in place to counter inflation emanating from the Federal Reserve create even more havoc This is what happened first in Q1, loose Fed policy, which caused oil prices to rise sharply, and then during Q2 which was dominated by the fear trade over the E.U. - and tight Fed policy - and saw the BRICS nations' currencies all drop by 10-20% versus the US Dollar.
Petrobras, on the other hand, has not been so lucky. Its CFO, Almir Barbassa, believes that if prices are not increased then they will have to sell some assets and the company already has a plan to raise $14.8 billion by 2016 to help fund an ambitious plan to develop crude reserves in offshore Brazil. The total plan calls for a $236 billion investment over the next five years. Its African assets in Nigeria, Angola and Namibia are being considered for sale while it has announced to sell its Gulf of Mexico oil fields for $8 billion in 2013.
Unlike China, where other leading oil firms are also engaged in refining, Petrobras is the only one in Brazil so it has to bear the entire refining loss of the whole country. The GDP projections have also shown that demand is only going to increase in the future and since it does not have any refined stock, its import bills are going to increase. Moreover, the deadline on tax breaks of the "IPI tax" for vehicle buyers has also given a boost to the demand for cars whose sales are expected to rise by 5% this year. But in 2013, that growth will fall to 2% as taxes kick in and new industry rules take effect. This rise in the number of cars has translated into four times as much increase in the demand for oil than the increase in GDP.
Petrobras has also recently withdrawn from the world's biggest ethanol pipeline project - a $3.1 billion, 1,300 km affair- in Brazil as it wants to focus on more lucrative oil exploration instead. Its five other partners, however, are expected to carry on the work. In its most recent quarter, the company's revenues had fallen by 6.31% to $36 billion as production fell due to ongoing development work on some oil fields. Net income, under pressure from refining, fell by 29% to $2.7 billion. Lastly, Bank of America has given a grim warning that if oil prices are not increased, then Petrobras would net $4-$6 billion in losses in 2013.
Without reform of the pricing situation for fuel, it is difficult to assess the operational efficiency or future profitability of Petrobras, no matter how bullish the fundamentals for petroleum products are going forward.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.