Petroleo Brasileiro, S.A. (PBR), also known as Petrobras, has not been very kind to its shareholders over the past few years. Since the high oil prices peaked in 2008, PBR has fallen from a high of $77.61 to its current level of $20.34 as of this writing, a drop of 74%. Still, I believe there are several reasons to like Petrobras at current levels. First, let me give some background on the company for those who are not too familiar.
Petrobras is the national oil company of Brazil, and it operates in five segments. Exploration and Production (28% of revenues) includes exploration and production activities in Brazil and in other Latin American countries. Refining, Transportation, and Marketing (45%) includes crude oil exports and imports, refining, petrochemicals and fertilizers. Distribution (17%) consists of all activities of the company's subsidiary, Petrobras Distribuidora S.A. As of the end of FY 2011, PBR had 7,485 retail service stations. Gas and Power (4%) deals with the purchase, sale, and transportation of natural gas , and also includes the company's thermal electric power generation operations. Lastly, International (6%) consists of all of the company's operations outside of Brazil.
First, let me get the negatives out of the way. Under Brazilian law, the government owns all natural gas and crude oil reserves in the country, although PBR has some rights o exploit these reserves. A result of this is that fuel prices are set by the government, giving the company very little control over its profit margins. Additionally, the currency of Brazil, the real, is particularly weak right now, and fuel prices are low within the country, although the government has raised prices somewhat this year.
Reason One: Ambitious Growth Strategies
PBR expects to increase its production by 27% by 2016, with most of the increase projected between 2014-2016, when it sees production growing by 6% annually. Looking forward, PBR intends to double production b 2020. It plans to accomplish this by investing $236.5 billion over the next 4 years on projects including the continued exploration and development of the Campos Basin, as well as the Espirito Santo and Santos basins. The company is actively expanding refining operations in Brazil, while simultaneously developing export markets. Currently, PBR has about $208.7 billion of projects under implementation and another $27.8 billion under evaluation.
Reason Two: Shareholder-Friendly Management
The management has a good track record of excellent cash distributions to shareholders, currently yielding 5.1%. In addition, PBR has raised payouts almost every year since 2003, when it was only yielding 19 cents a share, as compared with $1.03 currently. The lone exception was 2009-2010, when economic pressures and low commodity prices forced the company to reduce its payout. Still, a 5% yield for a company with significant upside potential is very nice indeed.
Reason Three: Undervalued
Speaking of upside potential, PBR is currently trading below historic averages at 8.8 times this years earnings. In addition, earnings are expected to rise significantly next year to $2.85 a share from $2.05, meaning the stock is currently trading at only 7.1 times forward earnings. The P/E multiple for PBR has steadily declined from 14.4 to current levels over the past 3 years. Analysts agree that PBR is undervalued, with an average 1-year price target of $29.42, which is a 44.6% upside over current prices. Even using a 9 times earnings multiple, which is at the low end of PBR's historic range, I arrive at a 1-year target of $25.65 based on next year's projected earnings of $2.85.
Disclosure: I am long PBR.