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Brazil
Investment Case
Marcelle Brann & Roberto Guimaraes 3/9/2009
Brazil
Brazil
Contents
INVESTMENT CASE
EXECUTIVE SUMMARY ........................................................................................................ 3 Brazil, the Country of the Present.......................................................................................................... 3 Unique Access to Natural Resources .................................................................................................. 3 Young and Strong Democracy ............................................................................................................ 3 Investment Grading Rating Backed by 15 Years of Sound Fiscal Policies ................................. 4 Strong Growth, Stability, and Market Friendly Policies Attract FDI ............................................ 5 Income Growth in All Economic Classes to Add New Consumers ................................................. 5 Economic Crisis May Favor Brazil in the Long-Run .......................................................................... 6 Brazil Remains a Top Choice for Investors ........................................................................................ 7 GENERAL COUNTRY OVERVIEW ......................................................................................... 8 History, Geography, and Population ................................................................................................... 8 History ...................................................................................................................................................... 8 Geography ............................................................................................................................................. 8 Population ............................................................................................................................................... 9 Macro-Economic Overview ..................................................................................................................... 9 General Public Markets Information .................................................................................................. 10 Size& Scope ........................................................................................................................................ 10 Number of Offerings ......................................................................................................................... 10 Top Growth Sectors .............................................................................................................................. 11 Agriculture ............................................................................................................................................ 11 Industry ................................................................................................................................................. 11 Services ................................................................................................................................................. 11 Total Foreign Direct Investment and Major Sectors Receiving Funds .......................................... 12 Main Sectors ........................................................................................................................................ 12 PRIVATE EQUITY INVESTMENT OVERVIEW ....................................................................... 13 Fund Raising............................................................................................................................................ 13 The Internationalization of the Brazilian Private Equity and Venture Capital Industry ........... 13 The Private Equity and Venture Capital Impact in the Capital Market...................................... 14 HOW TO INVEST IN BRAZIL .............................................................................................. 15
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Option 1 Investing in Individual Companies: Depository Receipts ........................................ 16 Option 2 Investing in Mutual Funds.............................................................................................. 16 Option 4 Foreign investment in Brazilian Financial and Capital Markets ........................... 16 CONCLUSION .................................................................................................................... 17 ENABLING ENVIRONMENT ................................................................................................................. 17 EFFETIVE MACROECONOMICS POLICIES ..................................................................................... 17 Low Country Risk ................................................................................................................................. 18 Aggressive Fiscal Policies .................................................................................................................. 18 INVESTOR FRIENDLY INSTITUTIONAL & REGULATORY LANDSCAPE ......................................... 19 Tax Incentives ...................................................................................................................................... 19 Improving Efficiencies......................................................................................................................... 19 WORLD CLASS GOVERNANCE ......................................................................................................... 19 APPENDIX ......................................................................................................................... 21 Appendix I Map of Brazil ................................................................................................................ 22 Appendix II Population Growth vs. Average Age....................................................................... 23 Appendix I Break-Down of Key GDP Supply & Demand Components .................................. 24 Appendix II - Household Consumption to Drive Lower Demand in 2009 ................................... 25 Appendix III Trend & Forecasts of Key Economic Indicators ..................................................... 26 Appendix IV- Financial Market Stats ................................................................................................ 27 Appendix V Bovespa Offerings Details 2004-2008 ................................................................. 28 Appendix VI Private Equity Data ................................................................................................... 29 SOURCES ........................................................................................................................... 32 1. Phases so that the Non-Resident Investor may Invest in Brazil Based on CMN Resolution 2689/2000 .................................................................................................................................................................. 34 To incorporate one or more Legal Representatives in Brazil ................................................... 34 Request Registration in the CVM ..................................................................................................... 34 Select a Custodian in Brazil .............................................................................................................. 34 Select an Authorized Brazilian Bank to Operate in the Foreign Currency Exchange Market34 Observe the remaining Rules and Regulations Established by the Institution where he will Operate or Register his Operations ..................................................................................................................... 34 Non-resident investors according to CMN Resolution 2687/2000 .......................................... 34 Client Registration .............................................................................................................................. 35 Financial Clearing- .............................................................................................................................. 35 The Operation Day ............................................................................................................................ 35 Currency Exchange Contract Clearing- .......................................................................................... 36 Financial Clearing- with the Client ................................................................................................... 36 Deposit of Guarantees ...................................................................................................................... 36 Margin Coverage in Cash................................................................................................................. 37 Execution of Guarantees ................................................................................................................... 37 Compensation Member Responsibilities ......................................................................................... 37 Chart of the Regulatory Structure of the Brazilian Financial System ....................................... 37
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EXECUTIVE SUMMARY
No longer the Country of the Future Brazil emerges as the of the Present. Country
For a number of years, Brazil has been considered the Country of the Future due to its geographical size, growing population and abundant resources. Historically Brazil continued to live up to this long standing reputation as the Country of Future, as it remained plagued by poor economic conditions, political instability, poverty as well as immense socioeconomical and bureaucratic challenges. In 1994, the governmental and business leaders launched a set of measures to stabilize the economy which, have resulted in Brazil securing a position as one of the top 10 largest economies in the world, an investment grade credit rating on its sovereign debt, and has set the stage for sustainable long-term growth for years ahead. Today, Brazil is now positioned as the Country of the Future and is rapidly becoming one of the worlds economic powerhouses. Unique Access to Natural Resources The idea of Brazil as the country of the future stems from the large geographical area of the country and the abundance of resources that is possesses. As the fifth largest country in the world, Brazils territorial extension is bigger than all of Western Europe and larger than the continental United States. It shares common boundaries with every South American country except Chile and Ecuador. Brazil controls a great deal of the worlds most basic resources. It has the largest farmable area in the world (22% of the territory), 33% of the planets forests, and 15% of the worlds potable water. It is the worlds largest producer of coffee, oranges, and sugar-cane; 2nd largest of manioc, beans, soy, beef and chicken; 3rd largest of refined sugar and corn; and ranks in the top ten in the production of grains,cocoa, eggs, pork,cotton and rice. In addition, it is one of the few countries in the world that is self-sufficient in oil and is the worlds leader in alternative energy sources. It is responsible for 33% of the worlds ethanol production., Brazil enjoys an advantageous climate that is primarily free from major natural disasters, and enjoys a temperate climate that extends the growing season beyond that of many other countries. In summary, Brazil has more food, forest, water, minerals, and energy than it needs. These are unique luxuries that many countries do not enjoy, contributing to the rationale that Brazil has historically has been viewed as the Country of the Future. Considering the wealth of Brazils attributes, what are the factors that have contributed to Brazil not reaching its full economic potential to date? Young and Strong Democracy While Brazil is currently the third largest democracy in the world, the democratic form of government in the Country is only 24 years old, which makes it 38 years younger than Indias democratic regime and 200 years
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younger than that of the United States. Brazils democratic regime began in 1985, after a 21 year military dictatorship. The military regime that preceded it severely hampered the Countrys development by poor economic policies and rampant corruption, destroyed its credibility by defaulting on its external obligations, and drove the economy into hyperinflation while simultaneously accruing enormous foreign debt. In addition to having to deal with carnage left behind due to the dictatorship, the first seven years of the democratic regime also had unique challenges to overcome, creating more hurdles for the fledgling society. The first President elected, Tranquedo Neves, died from natural causes before even taking office and was replaced by his Vice-President, Jose Sarney, who was not successful or equipped to solve the countrys massive economic problems. The second President, Fernando Collor, took office in 1990 and was impeached, after a crowd of 10,000 peacefully gathered in the nations capital to protest against a massive corruption scandal. When his Vice-President, Itamar Franco, took office in 1992 the Brazilian economy was still unstable and the problems inherited from the dictatorship continued to drag and weigh on the country. Finally, in 1993, President Franco appointed Fernando Henrique Cardoso (FHC) as his Minister of Finance. One year later, FHC launched the Real Plan which introduced the Real as the Brazilian national currency and marked the beginning of Brazils economic and political stability. FHC was later elected President in 1994 and served two terms until 2003making him the first elected President since the dictatorship to serve a complete term. Brazil has made great progress since the dictatorship. Today, it has an exemplary democratic process supported by one of the most advanced voting systems in the world (expedient and fraud free) and an increasingly transparent regulatory environment. It has introduced several new market-friendly policies favorable both to domestic and foreign investors. Its governmental and financial system levels of accountability have also improved significantly. All of these factors demonstrate that the Brazilian democracy is maturing and becoming increasingly efficient. The problems that have held Brazil back as just the country of the future are now fading behind and the improvements seen over the past several years have set up the basis for an optimistic view of what lies ahead. Investment Grade Rating Backed by 15 Years of Sound Fiscal Policies One of Brazils major accomplishments over the past 15 years has been the stabilization of its economy. Since the Real Plan was introduced in 1994, regulators have been focused on controlling inflation, managing the countrys balance of payments, restoring its credibility in the global financial community, and laying down building blocks for a sustainable long-term economic model. This focus is agreed to by policy makers of all political parties and has been continuous since the plans inception. As a consequence, inflation rates have dropped from an annual rate of nearly 640% in 1994 to an average of 5.4% over the past five years; the countrys net external debt has shrunk from approximately 15% of GDP to negative levels over the same period, and per capita GDP growth (PPP) has soared at an average of 6.2% annually over the past three years. What makes these achievements even more impressive is that they were sustained and enhanced by the current leftist President, Luis Inacio da Silva (Lula), who followed through with the conservative policies of his predecessor despite their ideological differences. Therefore, supporting the idea that commitment to sound fiscal policy is a consensus among policymakers from all spectrums of the political environment.
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The maturing political environment and the commitment to sound fiscal policy have rendered Brazil two consecutive investment rating upgrades in 2008. Today, the country is far different from what it was under the dictatorship regime in the early 80s when it defaulted on its debt. The upgrades granted by Fitch and Standard & Poors are a reflection of what is becoming a consensus in the world investment community, that Brazil offers one of the best long-term, risk/reward alternatives in the world.
Strong Growth, Stability, and Market Friendly Policies Attract FDI Foreign Direct Investment (FDI) going into Brazil has increased 437% from approximately US$4.4 B in 1995 to an average of around US$23.6 B over the past 5 years. Bradesco, one of Brazils major banks, expects FDI to remain above the past 5 year average in 2009, at around US$25 B, despite the global economic crisis. The surge in FDI is the result of the high risk/return ratio the country offers, driven not only by its stable economy but also by existing market/investor friendly legislation that has recently been enacted. Brazilian law gives the same protection and guarantees to foreign capital investments that it gives to investments made by Brazilian nationals. The Brazilian government is actively encouraging foreign investment to enhance and stimulate economic growth. Historically, Brazil has been an important destination for prospective investors as the government permits registered capital and earnings to be repatriated on a tax free basis. The liberal FDI policies have led Brazil to be a preferred destination for global investors. Currently there are attractive tax incentives for foreign direct investments, including mechanisms that can be utilized to reduce or eliminate taxes for foreign investors, including private equity. For example, Law 2689 allows for capital gains and financial transaction tax exemptions on stock market investing for foreign investors. The investment vehicle know as FIP (Fundo de Investimento em Participacoes) is similar to a limited partnership in that it allows for investors to make investments in private entities on a capital gains tax-exempt basis. The federal government has also granted tax benefits to certain free trade zones. The Manaus Free Trade zone is the most prominent of all such trade centers to have attracted significant foreign investments, including those from noted US companies. This combination of favorable policies, economic stability, and credit rating upgrades has increased the countrys access to capital while decreasing such capital cost. A higher inflow of cheaper capital is crucial for the countrys future, as it gives room for domestic investments that will ensure sustainable long-term growth. Income Growth in All Economic Classes to Add New Consumers The prosperous economic cycle taking place in Brazil is also driven by the increased purchasing power of the middle and lower class. Poverty reduction and income distribution indicators have dramatically improved over the past several years. According to the World Bank, the countrys full poverty rate dropped from 41% in the early 1990s to 25.6% percent in 2006, with an estimated 6 million people moving out of poverty in 2006 alone. Fueling this substantial improvement has been low inflation and economic growth, targeted transfer programs (including Bolsa Familia, a conditional cash transfer program to lower income families), improvements in labor productivity due to gains in schooling, and a reduction in the geographic segmentation of labor markets. The improvement of poverty conditions has added new consumers to the market. Over the next decade, these new consumers will play a vital role in taking Brazil into the next level of economic prosperity. GDP per
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capita is expected to double by 2018. As massive wealth creation in the lower income class is realized over the next decade. The rise in income levels across all economic classes, and the rising demand that it is forecasted to generate, is likely to take Brazils growth story outside the main metropolitan areas to smaller towns across the country. All this activity is expected to create a cycle of growth that starts with higher purchasing power, leading to increased demand that will stimulate infrastructure investment, thus creating additional jobs and again adding to consumers income. Ultimately leading to a sustainable economic growth model equipped for the long term Economic Crisis May Favor Brazil in the Long-Run Brazil will undoubtedly be affected by the Global Economic crisis. Signs of a decelerating economy have already started to surface, as industrial output and retail sales figures have begun to trend downwards. The ongoing financial crisis will continue to push confidence levels down (both consumer and economic), suggesting that the borrowing appetite in Brazil this year will be kept to a minimum. Disappearing investor appetite and the lack of global liquidity will have severe implications for fixed investment and capital flows in 2009. Overall, Brazil has braced itself for one of its biggest economic slowdown since the Russian default and the Asia financial crisis of 1998, when Brazilian GDP growth fell to 0.1% Although Brazil will have to face difficult challenges in 2009, it is actually better positioned to weather the storm than the majority of nations around the globe. While a change in GDP growth from 5.7% in 2008 to an estimated 0.8% in 2009 is a significant setback to the economy, it is not as bad as what other countries are experiencing. In fact, Brazil is expected to rank among the top 5 highest growth economies in the world in 2009, coming in fourth place behind China, India, and Indonesia. Brazilian banks are well capitalized and in better shape than their peers around the world. The Bovespa has continued to outperform the great majority of global equity indexes and has been recovering well from the sharp drop of 2008. The reduced foreign debt levels have prevented any major adverse impacts derived from the sharp drop of the real. In fact, opposite to what has happened in prior recessions, the devaluation of the real versus other currencies may actually help spur exports once global demand starts to pick up. For the first time Brazil is showing signs that it is becoming a more independent economy able to deal with a major global crisis without running a major risk of default. The conservative fiscal policies followed by the Brazilian Central Bank (BCB) have placed Brazil in an unprecedented position in this global crisis. In the past, when there was a sharp drop in the Real, the country was forced to tighten its spending in order to prevent a default. The BCB has also had to maintain high interest rates in order to control inflation. This strategy prevented the government from being able to provide any type of stimulus to spark the economy, thus, exposing the country to the full extent of international economic crisis. Currently the Brazilian government continues to keep a tight budget in order to ensure its ability to support its debt, however, because the current global economic crisis has nullified prior inflationary forces, the BCB is finally in a position to cut interest rates and use them as a tool to spur economic activity. As of December 2008, the Brazilian Selic rate (A Brazilian Central Bank's system for performing open market operations in execution of monetary policy) was approximately 13.75%. Economists predict that the Selic rate will fall close to 400 BP over the course of this year to levels near 9.75%. Such a large cut in interest rates would reduce the governments interest rate expense from 5.6% of GDP in 2008 to 4.7% in 2009. Thus,
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increasing its ability to invest in the economy and thus preparing Brazil for a strong recovery relative to other nations. Ultimately, Brazil averted the major issues currently affecting other nations in the current financial climate. Brazilian banks have relatively low leverage and were not exposed to significant levels of sub-prime lending. The BCB has the ability to lower interest rates, which may well put Brazilian rates at a permanently lower level moving forward, thus, freeing up resources for investments and added economic activity. Most importantly, the Brazilian economy is, for the first time in decades, in a position to make decisions more focused on the countrys internal needs, as opposed to decisions based mainly on debt management. The global crisis comes with significant risks and setbacks - the way Brazil handles these difficult times may define the trajectory it will follow in the years ahead. The country is well positioned to manage the challenges that will be presented as the crisis plays out. All variables indicate that Brazil will come out stronger and will finally settle into a meaningful growth pattern. Brazil Remains a Top Choice for Investors Aside from the current headwinds afflicting the Brazilian economy, its long term outlook remains bullish. Brazils economic growth will continue to be fueled by the emergence of a rapidly growing middle class in the years ahead. Despite the lower growth rates estimated for 2009, economists predict that real GDP growth rates will pick up in 2010 and should remain at a rate of 3.4% over the next decade. Credible monetary and fiscal policies will help to keep long-term investor interest in vital sectors of the economy anchored. The Brazilian growth story will be written by the rise of new consumers as income levels increase. The new middle class will set a foundation for Brazil to remain stable and to guarantee its place as one of the leading global economies. Massive wealth creation is expected to take place over the next decade and this added demand will lead to growth both within and outside major metropolitan areas. This shifting socio-economic dynamic is likely to attract FDI, which will unlock capital investments. This additional inflow of investments combined with government lead initiatives, such as the Growth Acceleration Program 2007-2010 (GAP), will likely pave the way for elaborate upgrades of Brazils infrastructure. The Growth Acceleration Program promotes investment opportunities in infrastructure. The main areas of focus are the following sectors: Logistics, receiving a total of US$ 56.3B; Power, receiving a total of US$322.9 B; Social and Urban Projects, receiving US$ 109.4B. Therefore, by the end of 2010 a total of US$ 488.6B will be invested in infrastructure projects throughout the entire country. In the Logistical arena, investments will be made in roads, railroads, and ports. Investments in roads will be made in the South-Central region, where most of the industrial and agricultural production is located, representing 54% of the Brazilian GDP. The railroad concession program will allow companies to participate in bidding processes for the North-South railroad, East-West railroad, and high-speed train. The Southern section represents 33% of the Brazilian agricultural production, 72% of land available for agriculture, a high concentration of mineral resources, and a distribution of agricultural and industrial production through 4 ports. The East-West railroad investment will be US$ 1.9B to maximize the distribution of agricultural and mineral production, and interconnection with waterways. The high speed train between Rio and Sao Paulo will include an area of 650 km that can reach up to 36 million inhabitants, and represents 45% of the Brazilian GDP. The high speed train will connect Sao Paulo (the largest business center in Latin America - 70% of the stock market) with Rio de Janeiro (the biggest tourist center in Brazil.) The estimated investment is US$ 11B. Exports through the sea in 2008 reached a total of US$ 162 B with an annual average growth of exports of 22% of US$ per annum from 2003 to 2008, and 8% in tons per annum at the same time period. Investment opportunities will also exist in the energy sector,
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including generation and transmission of electric power, oil and gas, and bids to procure rigs, supply vessels, and tug boats, long-term contracts with service providers. Although poverty levels have been considerably reduced, Brazil still has high social discrepancies, thus indicating that there is an entire population of consumers that have not been playing a major part in countrys demand. Economic growth will continue to raise these consumers out of poverty, which in turn, will increase demand, further spur economic growth, promote added capital investments, and cement a sustainable growth model for the country.
Specific details pertaining to the numbers found in this section can be found in Appendices I-VII
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Brazil is the fifth largest country in the world and the largest one in South America with a total area of 8.5 million square kilometers covering approximately two-thirds of the continents entire Atlantic coast. The country is of continental scope with a size of 4,420 km from North to South; 4,328 km from East to West, an Atlantic coastline of 7,367 km and a total border of 23,103 km. Brazil neighbors every country in South America, except Chile and Ecuador. More than half of the country is 200 meters or more above sea level but only a small part rises above 1,000 meters, with the highest peaks reaching an altitude of around 3,000 meters. Brazil has an extensive river system. The Amazon and its tributaries, which are great rivers in themselves, drain over half of Brazil. Other large rivers include the So Francisco in the northeast and the Paran and the Paraguay River system, which flow south to empty into the Rio de La Plata. The considerable hydroelectric potential of Brazils rivers has been increasingly exploited over the last 35 years. Forests still cover vast expanses and farmland is found mainly in the South, Southeast and Central West with large areas suitable or adaptable for pasture. Brazil has some of the largest iron ore deposits in the world and mines significant quantities of many other metals, minerals and precious stones. Population Brazil has a population of more than 196 million people. The majority of Brazils population is located near the coast, where there is the highest concentration of metropolitan centers. Brazils annual population growth has decreased continuously since the 1980s, and this trend is expected to continue going forward, changing from an annual growth rate of 0.98% forecasted for 2009 to 0.30% forecasted for 2030. The countrys population is expected to grow to 216 million by 2019. Although the average age of its population increased significantly over the past 30 years, Brazil is still a young country with an average age of approximately 28 years. This young profile is expected to change moving forward, as Brazilians increase their life expectancy and families become smaller in size. The country average age is forecasted to change at a compounded annual growth of 3% per year up to nearly 38 year of age by 2030, in other words, the Brazilian population will become 10 years older on average in the next 30 years.
Macro-Economic Overview
Brazil is one of the top countries in the world in natural resources, providing the country with a comparative advantage in terms of natural products, agriculture, wood, livestock, and minerals. With a population of over 196 million people and a per capita income of around US$ 7.6 thousand per year, Brazil has the largest domestic market in Latin America. Brazil is the largest economy in Latin America. With a nominal GDP currently around US$ 1.3 trillion it represents 36% of the regions GDP. Irrespective of the tools employed in measuring the size of national economies, Brazil's is always ranked among the ten largest economics in the world. Services comprise 64 % of the GDP, followed by industry and agriculture with 31 % and 5%, respectively. Tourism, IT, and banking are the chief sub-sectors of services. The industry sector, the second most important sector to GDP, includes such subsets as motor vehicles, industrial equipment, chemicals, and aircraft. The southeastern region of the country contains the majority of these industries and is responsible for the largest workforce in the region. Appendix III provides further detail on Brazils supply and demand components of GDP.
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During 2006 and 2007, Brazils GDP grew at rates of 3.8% and 5.2%, respectively. According to the International Monetary Fund's World Economic Outlook, Brazils GDP growth in 2008 was 5.1%, and predicts a decline by only 1.3% this year compared to an expected decline of 3.3% in the IMFs January report, with inflation at 4.8% this year compared to the 5.7% realized in 2008. Brazil's growing urban centers account for 75 percent of the GDP. These growth rates are expected to slow significantly over the next two years, with estimates of 1.3% and 3.5% in 2009 and 2010 respectively. As we can see in Appendix V, the slower growth rates are expected to be driven mainly by a drop in internal demand growth, expected to fall from 8% to 1% from 2008 and 2009, driven mainly by lower household consumption rates. Reduced household consumption is expected as a consequence of diminished accessibility to capital, lower salary growth, and uncertainty affecting consumer confidence. Total Brazilian international reserves (US$196bn) now exceed the total foreign debt (US$163bn) by more than US$30bn, a fact that has allowed Brazil to achieve a risk classification of investment grade. In 2008, Brazil received a total of approximately $US40B of Foreign Direct Investments, 67% in the form of equity capital and 13% in intercompany loans. This number is expected to decrease significantly over the next two years due to the global economic crisis. Credit Suisse forecasts a total of $US20B and $US25Bof Foreign Direct Investments for 2009 and 2010. Brazils disciplined fiscal policies have allowed it to considerably reduce its external debt, which has decreased from 26.5% of GDP in 1998 to an estimated 13.5% in 2008. Although debt levels are expected to increase slightly over the next two years it is expected to remain close to current levels.
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achieving a positive performance of all subsectors, especially in the financial sector with a 13 % increase. Commerce registered a 7.6 % increase, transportation, mail, and warehouses a 4.8 %, information technology an 8%; real estate services 3.5 %, and other services 2.3 %. Total Foreign Direct Investment and Major Sectors Receiving Funds One of the basic characteristics of the Brazilian economy is a high level of internationalization, with foreign corporations playing a leading role in many sectors. This is not a new phenomenon since historically Brazil has been an important destination for prospective investors as the government permits registered capital and earnings to be repatriated on a tax free basis. In the 1980s, however, the external debt crisis ended the Brazilian economys long growth cycle. Brazil started to experience highly volatile GDP growth rates, as well as chronic inflation which stagnated FDI inflows stagnated at low levels. During the 1990s, motivated by changes in the economic policy and conditions, with liberalization, privatization, and macroeconomic stability, followed by an increase in demand for consumer durables, international investors began to expand their presence in the Brazilian economy again. As a result of more favorable economic environment, FDI inflow increased to an average level of US$24B billion annually between 1995 and 2000. Despite the Asian crisis of 1997, the Russian crisis of 1998, and even the Brazilian crisis of 1999, it is interesting to notice that inflows continued to grow through the year 2000. After being at low levels for a few years due to a world economic slowdown, the FDI inflow into Brazil declined reaching a nadir of US$ 10 MM in 2003. In 2004, FDI rose again to US$18.3 B. Since then the FDI inflows into Brazil have continued to increase and an acme of US$ 45.1 B in 2008. Being a major destination for foreign direct investment, in this decade, the country attracted US$ 218.1 Bof FDI Inflows.
Main Sectors
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Until 1995, the manufacturing sector accounted for more than 67% of all foreign direct investment in Brazil. Foreign direct investment in the service sector had a notable resurgence in the second half of the decade because of the privatization of electricity, gas, water, postal services, telecommunications, wholesale, and financial services. By the year 2000, the manufacturing sector only accounted for approximately 34% of FDI and the service sector was responsible for 64% of FDI. On the other hand, many manufacturing industries such as food and beverages, automotive, chemicals, and metallurgy continued to attract significant amounts of foreign investment. The retail and consumer goods sector, more specifically the food and beverages segment, was the most attractive sector and has accounted for more than US$ 5 B in investments since 2000. Since last decade, the service sector has been the largest recipient of FDI inflows, accounting for more than half of total inflows although it has dropped compared to previous years. In particular the ICT sector has received the principal share of total FDI inflows. Other areas that have attracted considerable foreign investments are financial, insurance and business services sector as well as the manufacturing sector that accounted for 38.5% of the total inflows during the same period. Agriculture and mining also grew accounting for 7.1% of total FDI. The high FDI inflows have meant an increase in the foreign share in the Brazilian economy. According to the census of foreign capital made by the Brazilian Central Bank in 1995 and 2000, total sales of foreign majority-owned companies reached 14.4% of Brazils total output in 1995. In 2000, this ratio increased to 19.7%. Foreign corporations also increased their share of the countrys foreign trade, reaching 41.3% of exports and 49.3% of imports. Large companies are responsible for a strong role in the foreign capital. Among the largest 500 private Brazilian companies, those under foreign control accounted for 41.2% of sales in 1989, 49% in 1997, and by 2003, reached 51.7%. These data show the progress of internationalization of the Brazilian economy. Financial investors have also increased their investment in the Brazilian market, particularly through Initial Public Offering (IPO).
The Internationalization of the Brazilian Private Equity and Venture Capital Industry
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The maturiation and consolidation of the Brazilian Industry of Private Equity and Venture Capital are evidenced by the fact that 21 managing organizations have at least 10 years of activity. They are responsible for the administration of around 30 % of the whole committed capital of the industry. As per FGV study, out of the 67 managing organizations that began their activities between the beginning of 2005 and June of 2008, 46 are from Brazil. In June of 2008, out of 127 managing organizations operating in Brazil, 107 (79 %) were independent 7 of which became listed, 15 (12 %) affiliated with financial institutions, 3 (2 %) were from the public sector (2 %) and two (2 %) were from industrial groups or corporate ventures (2 %). While there was a reduction in the quantity of managing organizations affiliated with financial institutions from 20 to 15, the number of independent managing organizations presented a significant growth, from 50 in 2004 to 107 organizations. However, from the distribution of the committed capital, it is possible to observe a bigger participation of the independent organizations (both private and public listed) followed by the ones affiliated with financial institutions. The public sector is not much expressive as managing organization and therefore, as committed capital, though it has an important participation as investor in investment vehicles managed by private managing organizations (see item 3.7. for further information). The 91 managing organizations from Brazil were the majority in the industry in 2008 and corresponded to 72% of the total against 53 in 2004 (75 % of the total). The managing organizations from the US are the second biggest contingent (17) followed by the Europeans (9) and the ones with head offices in Bermuda (3). It is important to notice the substantial increase in the operations of the international managing organizations in Brazil through their Global and Regional investment vehicles. Furthermore, the participation of the Brazilian managing organizations in the total committed capital of the industry corresponds to 50 %. There was an expressive increase in the relative participation of the European organizations and of structures with head offices offshore, from 1.6 % and 3.4% in 2004, respectively, to 13 % and 16 % in 2008.
The Private Equity and Venture Capital Impact in the Capital Market
The IPOs (Initial Public Offerings) constitutes one of the natural outlets for investments in PE/VC in the whole world and for many years was not a viable alternative in Brazil due to the volatile macroeconomic environment and high interest rates in the country during the decades of 1980 and 1990. Thus, few companies choose the stock market as a long term investment option in Brazil and, consequently, the IPOs market went through a period of very low activity. With the improvement of the macroeconomic scenario, increased in global liquidity and reduction of interest rates, the stock market has gained prominence as a long term investment alternative. In fact, from the year 2004, the Brazilian capital market was taken on a new momentum with a wave of IPOs triggered by the divestments of companies from the portfolios of some PE/VC managing organizations. Between 2004 and June 2008 there were 110 IPOs which raised US$ 88.5 billion, of which 39 companies had received PE / VC investments before the public offering according to the Center of Studies in Private Equity and Venture Capital of Sao Paulo School of Business.
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The Computer Science and Electronics sector remains the largest portion of companies in the portfolio of the managing organizations (22% of the total), although in the past four years there was a reduction in its relative participation (it was 33% in 2004) and the considerable number of divestments that occurred in this sector between 2005 and 06/30/2008. One of the sectors that stood out the most in recent years was the Civil Construction / Real Estate sector: it increased its relative participation in the total portfolio of the industry (from 3 % to 12 %) stimulated by the reduction of the interest rate, facilitation of government credit to the sector and heating up of the economy. Today this sector has the 3rd largest relative participation in the total portfolio of the industry. Although still representing a small portion of the total portfolio, the investments in companies shares in the education sector were also among the fastest growing between 2004 and 2008 (+200%), together with the Energy and Agricultural Business sectors (+314% and +133 %, respectively) and Communication / Media (+357%). In the last four years, the number of companies of the industry portfolio based in the Southeast increased significantly from 66% in 2004 to 80% in 2008. Companies form the South region reduced their relative participation from 26% to 12% and other regions, all together, maintained their relative participation of 8% of the total number of companies in the portfolio.
The total volume of funds raised by companies that received PE / VC investments reached R $ 27.2 B, being equivalent to 31% of the total volume of IPOs issued in the period, between primary and secondary offerings. Between May 2004 and May 2008, investments in shares of companies disinvested by PE / VC had an average annual return of 17.3% against 1.5% of companies that have did not received PE / VC investments. On 67% of the observations, the returns of the companies invested through PE / VC were positive against 40% of the ones not invested through PE/VC.
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Option 1 Investing in Individual Companies: Depository Receipts Currently, there are 35 share certificates of Brazilian companies listed and traded on the New York Stock Exchange (and 1 on NASDAQ). Brazilian certificates are known as Depository Receipts (DRs) and can be bought like any other share listed on the NYSE by using your existing brokerage account in the US. Depository Receipts are quoted in U.S. dollars. Other companies that operate in Brazil but that usually have headquarters outside of Brazil have shares listed directly in the US (not as DRs, but as shares) which can be bought like any other share. These companies often have operating companies in Brazil but holding companies outside of the country. Here are some examples: Vale (RIO & RIO-P, top 3 mining company in the world), Petrobras (PBR & PBR/A, top 10 oil company in the world), Embraer (ERJ, top 4 aircraft manufacturer in the world) and many other companies involved in natural resources (VCP, ARA), steel (SID, GGB), food (PDA, SDA), financial services (BBD, ITU, UBB), utilities (ELP, CIG, CPL, SBS), telecom (BRP, TSP, TSU, TNE), airlines (GOL, TAM), real estate (GFA), consumer and retail (ABV, CBD), etc. Option 2 Investing in Mutual Funds If you would rather invest if a group of companies, there are two easy options for an investor to take. The first option is to look for a mutual fund that invests in Brazil. Many of the largest banks and asset management companies offer Brazil-specific funds in the U.S. and Europe, like ABNAmro, HSBC and others. However, many institutions will only offer Latin American funds because they offer more diversification. It should be known that a Latin American fund will usually have a significant percentage of investments in Mexico, which is an economy much more dependent on the United States. It depends on what your objective are, but if you already have a large portion of your assets in the U.S. or other industrial countries and are seeking global diversification, you may want to target more country-specific funds that target Brazil directly. Option 3 Investing in Exchange Traded Funds iShares MSCI Brazil Index (EWZ) is an Exchange Traded Fund (ETF) which mirrors the Morgan Stanley Capital International Brazil index. Currently, if buy a share of EWZ, then you are investing in the equivalent of 24% Petrobras, 21% Vale, 13% Brazilian Banks, 6% steel companies, and 36% in various other companies. This option may be the easiest for you to invest in Brazil if you already have a brokerage account. You can find the updated holdings of this fund online. In order to purchase this ETF, you simply put the symbol EWZ in your brokers online system and purchase it like you would any other stock. Option 4 Foreign investment in Brazilian Financial and Capital Markets Brazil has actively sought direct foreign investments for many years. Therefore, Brazil has issued a resolution (CMN Resolution 289/2000) that allows non-resident investors to have the same access to Brazilian financial and capital markets in order to allow non-residents to invest in commodities, futures markets, and investment funds. Listed below is an excerpt from a website portaldoinvestidor.gov.br that indicates the rules and regulations for international investors to gain access to the financial and capital markets of Brazil. According to the website portaldoinvestidor.gov.br: the Securities and Exchange Commission, through its Rule 419/2005, created the simplified registration of the non-resident investor. Generally, based on this Rule, the brokerage firms (and the custodians) may perform the simplified registration of its non-resident clients given that the following prerequisites are complied with:
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the non-resident investor must be a client of a foreign intermediary institution, before which he is duly registered under the applicable country of origin legislation; the referred intermediary institution would take before the brokerage firm the obligation to present, whenever requested, all the information required by the CVM Rules that deal with investor registration within the ambit of the securities market, duly authorized, as well as other information required by Brazilian public bodies with inspection powers; and the capital market regulating body of the foreign intermediary institution's country of origin would have signed with the CVM a mutual cooperation agreement that would allow the exchange of investors' financial information.
Furthermore, the country in which the foreign intermediary institution is located should not be considered high risk as regards money laundering and terrorism financing, and should not be classified as non-cooperative by international organs, in relation to the fight against illicit actions of that nature.
CONCLUSION
ENABLING ENVIRONMENT
Since being named in the BRIC group of emerging economies in a 2003 report by Goldman Sachs- along with Russia, India, and China- Brazil has grown at an average rate of 3.8 %, reaching 5.4 % last year. The countrys GDP per capita has risen 120 %to US $6,951 in 2007, and local consumer demand has continued to expand at an impressive pace. The recent consecutive upgrades to investment grade in early 2008 have quelled the long-standing worries about government insolvency. Several vital developments have led to a resurgence of investments and have made Brazil the most lucrative private equity market in the region. Recent institutional changes have led to a number of improvements in the macroeconomics, institutional and regulatory landscape, capital markets, and corporate governance that have allowed for the sustainability of the private equity and venture capital market in Brazil. In fact, PricewaterhouseCoopers recently declared in its annual report, One thing is clear: within the BRICs, Brazil is the country that has the most developed capitalist system, in terms of its institutions, its market economy, the flexibility of its economic policy and democracy. Several key developments will play a fundamental role in continuing to drive the economy over the next ten years. Domestic demand will ultimately remain the key driver of the economy, and rising disposable income levels will attract greater investments into Brazil. Over the next decade, it is the rise of the Brazilian consumer that will lure foreign direct investors and turn the economy into a regional powerhouse. EFFETIVE MACROECONOMICS POLICIES Since the introduction of the plan Real Plan in 1994, Brazil has managed to suppress the inflation that once plagued at rates as high as 2,400 % per year. The economic stability plan was based on the superindexation of its economy, a change in its currency, and a rise in interest rates. The towering interest rates constrained aggregate demand and led to a sharp appreciation of the nominal exchange rate. This introduced an era where the country was able to start using traditional instruments of economic policy and was able to align relative prices correctly, especially salaries. Market mechanisms began operating more efficiently and prices were no longer a reflection of an exchange rate correction or inflationary inertia and Brazilian corporations were again able to accurately assess their viability and predict their need for resources. Controlling inflation however caused an escalation of the public debt and a deficit in the balance of payments which fueled foreign debt and increased external vulnerability. This culminated in another
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currency crisis in 1999 and a loss of a substantial amount of foreign reserves. In 1999, the government introduced an economic policy that combined a floating exchange rate system, inflation targeting, and a primary fiscal adjustment in combination with various tax reforms to address the costs associated with the monetary stability plan of 94. This new combination of economic policy based on a tri-pod system allowed Brazil to reduce real interest rates to below ten percentage points, to reduce external vulnerability, and to contain the growth of the public debt. Brazils macro-economic performance from 2004-2008 was the best in the last thirty years largely because it has recorded consecutive current account surpluses for the last five years. Brazils gross national debt has declined dramatically since President Luiz Inacio Lula da Silva (Lula) was elected president in 2002 while Brazilian exports have tripled largely due to rising world demand for soybeans, iron-ore, beef, and cars. In 2007, Brazil had a trade surplus of $40 B. Net currency inflows reached a record $87.5 B thanks to rising foreign investment coupled with high domestic interest rates. In February 2008, Brazil emerged as a net foreign creditor for the first time and was able to pay off its debt to the International Monetary Fund. Foreign currency assets exceeded liabilities by more than $4 B in contrast to the net debt of $165 billion at the end of 2003, Lulas first year in office. The latest figures estimate Brazils foreign reserves at $205 B, four times higher than in 2004. Brazil has also been gaining international market share in its exports, from 0.83 % in 1999 to 1.12 %t in 2007. Approximately 55% of Brazilian exports are manufactured goods and not raw materials (25%) as many people believe. Low Country Risk The post-99 external adjustment resulted in the reduction of the country risk and the appreciation of the currency. Brazils long-term foreign currency sovereign debt was upgraded to investment grade by Standard & Poors on April 30th 2008 and by Fitch ratings on May 29th 2008. The promotion to investment grade causes Brazil to be more attractive to international investors especially for funds earmarked for long-term projects. Brazils inflation is the lowest among the BRICs and ended 2006 at 3.14 % the lowest in a decade. In 2007, because of increasing food prices, inflation rose to 4.46 %. Accumulated inflation is currently standing at 5.23 % below the governments target of 6%. The external adjustment of 99 is perceived as long lasting given the gain in market share, higher trade balance, diversity of exports and destinations. As such, Brazilian inflation is expected to be systematically lower and less volatile from now on. Only thirty percent of bank assets are foreign-owned, compared to over eighty percent in Mexico. To the extent that Brazilian banks also have very low foreign liabilities, the economy is somewhat protected from a major credit contraction in international financial markets. Brazil is likely to withstand any external liquidity shock given that its non-financial public sector external debt / FX-Reserves ratio fell from 292 % in December 2002 to 32.7 % in September 2008. Aggressive Fiscal Policies Brazil is among the best positioned economies in Latin America to weather the current fiscal financial storm and a rapidly deteriorating global macroeconomic outlook. Certainly the global outlook continues to deteriorate and the Brazilian economy will be impacted by tighter liquidity conditions and more expensive domestic credit. In order to mitigate the liquidity constraints policymakers and central bankers are acting to pre-empt a credit crisis by issuing short term loans to the banking system, spending international reserves to offer funding to the export sector, relaxing the reserve requirements for the banking system and delaying the introduction of higher reserve requirements on cash deposits for two months (to 1/16/09), and increasing financial resources of BNDES to be used in exports financing. In total, these measures are expected to add $7.2 B to Brazils financial system and to prevent a sharp decline in the private sector credit growth next year. The nominal interest rate is expected to remain at 13.75 %, given the growing focus on liquidity
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internal controls. The law has provisions that control self concession of salaries, bonuses and stock options. Moreover, they prohibit close relations between company executives and Board of Directors.
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APPENDIX
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240
40 38
Average Age
220 36 200 34 32 30 160 28 26 24 120 22 100 1980 1985 1990 1995 2000 2005 2010 2015 2020 2025 2030 20
180
140
Population
Avg. Age
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38%
5% 9% 18%
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GDP Growth from Supply & Demand Perspective (%) Gross Domestic Product, constant prices Agriculture SUPPLY Industry Services Household consumption Government consumption DEMAND Gross formation of fixed capital Exports Imports (-)
2006 3.8 4.2 2.9 3.8 5.3 2.6 9.8 5.0 18.4
2007 5.2 5.3 4.9 4.7 6.5 3.1 13.4 6.6 20.7
2008E 5.4 4.6 6.2 4.9 7.0 6.0 14.5 0.8 19.6
2009E 1.3 1.0 -0.7 2.0 2.2 4.5 -2.7 -10.2 -9.2
2010E 3.5 4.0 3.4 3.4 3.7 5.0 5.2 3.3 8.7
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7.1
6.8
6.6
4.5
4.5
4.5
2000 2001 2002 2003 2004 2005 2006 2007 2008E 2009E 2010E 2011E 2012E 2013E
1998
1999
2000
2001
2002
2003
2004
2005
2006
1998
1999
2000
2001
2002
2003
2004
2005
2006
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Primary 2004 Total R$ millions Number of firms Amt. Raise per Firm 2005 Total R$ millions Number of firms Amt. Raise per Firm 2006 Total R$ millions Number of firms Amt. Raise per Firm 2007 Total R$ millions Number of firms Amt. Raise per Firm 2008 Total R$ millions Number of firms Amt. Raise per Firm Average Volume R$ millions Average Number of firms Average Amt. Raised per Firm
902 2 451 2,646 6 441 12,111 25 484 790 4 197 16,449 37 393
4,833 10 466
7,580 16 504
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Industries
ITandElectronic IndustrialProductsandServices Construction/RealEstate Communication/Media Energy Agribusiness FinancialServices Biotechnology Retail FoodandBeverage MedicineandBeauty Telecommunications Transportation Logistics/Distribution Education
2004 Units
92 41 9 7 7 9 10 10 21 12 8 28 11 7 3
2008 %
30% 13% 3% 2% 2% 3% 3% 3% 7% 4% 3% 9% 4% 2% 1%
Units
108 63 60 32 29 21 20 19 19 17 15 13 13 12 9
%
22% 13% 12% 7% 6% 4% 4% 4% 4% 4% 3% 3% 3% 2% 2%
GrowRate 2004to2008
17% 54% 567% 357% 314% 133% 100% 90% 10% 42% 88% 54% 18% 71% 200%
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Others*
31
10%
31
6%
0%
Total
306
100%
481
100%
57%
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SOURCES
Panorama da Industria Brasileira de Private Equity, GV Cepe Centro de Estudos em Private Equity e Venture Capital da FGV-EAESP Emerging Markets Private Equity Survey, 2009, EMPEA Emerging Markets Private Equity Association Brazil Country Profile, Euromonitor International, 2008 Brazil Country Watch Review, 2008 Edition, Denise Youngblood Coleman Ph.D., Editor Chief Brazilian Transnational Companies, The route of Brazilian investment abroad, KPMG Brazil Country Partnership Strategy Brazil for Brazil, 2008, International Bank for Reconstruction and Development & International Finance Corporation The 2007-2012 World Outlook for Financial Services, Professor Philip M. Parker, Ph.D., Eli Lilly Professor of Business, Innovation and Society INSEAD (Singapore and Fontainebleau, France) Brazil: O pais do futuro? Deutsche Bank Research, May 30 2006 Destaques Acoes e Programas do Governo Federal, Junho 2008, Secretaria de Comunicacao Social Governo Federal Boletim do Banco Central do Brasil Relatorio annual 2007, Banco Central do Brasil Bovespa Facts & Figures Oct/Dec 2007, Bovespa Brazils Stock Exchange Brazil Market Profile, BEST, April 2008, www.bestbrazil.org.br Brazil, A country with Open Arms, BES, www.bestbrazil.org.br Latin America LAVCA Venture Capital Association, 2008 Scorecard, The Private Equity and Venture Capital Environment in Latin America in Cooperation with Economist Intelligence Unit Private Equity & Venture Capital Analysis of Brazilian Industry, Sao Paulo June 2007, Monitor Group and ABVCAP Private Equity e Venture Capital no Brasil, Abril de 2008, PriceWaterhouseCoopers A Superior Marketplace, Bovespa Brazils Stock Exchange, 2008 Brazil - Country Analysis Report, DATAMONITOR, July 2008 O Brasil Diante da Crise: Estabilidade e Resistencia, Henrique de Campos Meirelles, Marco de 2009, Banco Central do Brasil
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Brazils Institutional Framework And International Relations, Dilma Rousseff, Chief of Staff to the President of Brazil, March 16th, 2009 Sources of financing and investment opportunities, Luciano Coutinho, BNDES, Brazilian Development Bank, March 16th, 2009 Brazil And The Global Crisis - How the Country Is Overcoming the Current Turmoil, Henrique de Campos Meirelles, Banco Central do Brasil, New York March 2009 Brazil and The World Crisis, Minister of Finance, Guido Mantega, March 2009 Brazils Responses to Strains in Global Markets, Henrique Meirelles, October 2008 Panorama da Industria Brasileira de Private Equity e Venture Capital. Relatorio de Pesquise, Dezembro 2008. Deloitte Edicao Pinheiro Neto Advogados. Crise Internacional e a Economia Brasileira. Banco Votoratim. March 31 2009. APRESENTAO PARA CDES-CONSELHO DE DESENVOLVIMENTO ECONMICO E SOCIAL. Otavio Barros. March 2009 Focus-Relatorio Mercado. Banco Central do Brasil. March 2009. Economic Prospects. Banco Central do Brasil. February 2009. Brasil em Foco; (http://www.mre.gov.br/cdbrasil/itamaraty/web/port/band.htm) also available in english! IBGE, Instituto Brasileiro de Geografia e Estatstica (www.ibge.gov.br) Anthropos Consulting, A Parte Cheia do Clice Brasil; (www.anthropos.com.br) ANFAVEA, Associao Nacional de Fabricantes de Veculos Automotores (www.anfavea.com.br) ANATEL, Agncia Nacional de Telecomunicaes (www.anatel.gov.br) EMBRAPA, Empresa Brasileira de Agropecuria (www.embrapa.gov.br) Cenario Brasil 2009-2010. Credit Suisse. December 2009. The Brazilian Mercantile & Futures Exchanges BM&F, www.bmf.com.br International Bank for Reconstruction and Development
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1. Phases so that the Non-Resident Investor may Invest in Brazil Based on CMN Resolution 2689/2000
According to according to CMN Resolution 2689/2000 / How to Invest in Brazil's Stock Market, to be able to invest on Brazil, the "2689 investor" must undergo the following phases: To incorporate one or more Legal Representatives in Brazil The formalization of this agreement before the Securities and Exchange Commission (CVM) is done through the sending of the form attached to the Resolution 2689, duly filled out and signed by the non-resident investor and his legal representative. When this representative is an individual or a non-financial legal entity, the investor must appoint an authorized institution to operate through the Central Bank of Brazil as the coresponsible party for the compliance with the representative's obligations. Furthermore, even though this representative is not to be necessarily confused with the one required by the tax legislation, in reality it usually is. Request Registration in the CVM After the filling out and signature of the form, the representative must request before the CVM the "CVM Operational Code" (or "CVM Registration Number") of the non-resident investor. The request will have to be sent electronically, through the CVM web page on the Internet. The CVM will reply to the request within up to 24 hours from the time in which the representative has sent the necessary information. Select a Custodian in Brazil The non-resident investor, directly or through his legal representative, will have to sign an agreement with a local custodian in Brazil which must be an institution or entity authorized by the Central Bank of Brazil or by the Securities and Exchange Commission to provide those services. Select an Authorized Brazilian Bank to Operate in the Foreign Currency Exchange Market He will also have to sign an agreement with a Brazilian bank authorized to operate in the foreign currency exchange market. This bank will register the investor in the Central Bank of Brazil (BCB). At each currency exchange operation made by the non-resident investor for the internalization of resources in Brazil will generate an Electronic Declaratory Registration (RDE), which must also be on the sending registration of those resources to foreign countries. Observe the remaining Rules and Regulations Established by the Institution where he will Operate or Register his Operations Finally, the non-resident investor will have to observe the specific rules and regulations of institutions where he intents to operate or register his operations. It is worth highlighting that the operations of non-resident investors may only be carried out or registered in institutions authorized by the CVM and/or the BCB, depending upon each case. Non-resident investors according to CMN Resolution 2687/2000 The CMN Resolution 2687/2000 enables non-resident investors (individuals or collective parties, individuals or legal entities, collective investment funds or other entities) to carry out operations in the commodities- and futures markets involving term agreements, future agreements and option agreements referenced in farming
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and cattle raising products, without the need to internalize the financial resources in Brazil. However, it is prohibited the carrying out of operational strategies that may result in pre-determined earnings, except when expressly authorized by the Central Bank of Brazil. Thus, the "2687 investors" financially clear their operations and invest guarantees abroad in accounts opened through commodities- and futures markets exclusively for such purpose. Additionally, those markets are responsible for the hiring of currency exchange services related to the operations of those investors and for the collection of taxes related to their investments, being exempt from taxation all non-resident investors that cannot be framed in the differentiated taxation situation according to what is indicated in section 2.2. (The percentage of tax rate is of 15% for non-resident investors, upon which the differentiated taxation situation applies). Client Registration The client registration in the BM&F is done through an associated brokerage firm. The BM&F may request, at any time, documents that prove the data reported by the investor in the adhesion term; therefore it is the brokerage firm's duty to keep such documents in its files. The client registration will have to be approved by the BM&F, to whom, after approval and registration in its internal systems will the brokerage firm inform the client's code indicating that he is eligible to operate. At the time of the client's registration, the BM&F verifies the country of origin of the investor for tax treatment purposes. Due to the need to verify the amount to be cleared in US dollars on the same day of operation, the BM&F begins, immediately after the closing of the trading day, the updating process of positions and calculation of the daily adjustment. Thus, the grantors specification must be performed until 5:30 p.m. of the trading day. The grantor specification system is the same used for all other clients. Supported by resolution 2687, the BM&F maintains in its Clearing- Bank, in New York, many accounts so that the liquidation and investment of guarantees would be done: receiving of the daily adjustment, receiving of margin paid in cash and receiving of margin through stocks. Financial Clearing The process of financial clearing- is carried out in the following manner: The Operation Day The Brokerage firms specify the deals for the clients until the due dates established by the BM&F; After the closing of the specification process, the BM&F verifies the financial clearing- of these clients (creditor/debtor general total), with exception of the brokerage services and exchange market's fees that endured distinguished treatment; The BM&F contracts the currency operation with its Clearing- Bank for the transactions of the clearingamounts, using as closing quotation the BM&F referential currency exchange rate of one (1) day. The BM&F closes two types of currency exchange rates for the financial transactions; one for the General Debtor/Number Entry Total (Type 3) and the other for the General Creditor/Number Remittance Total (type 4).
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The referential currency exchange rate is verified by the BM&F based on its own methodology, supported by the average price calculation verified based on the dollar purchase and sale rates, for clearing- in 2 days, daily collected at the best positioned institutions in the market. Discarding the greatest two and the lowest two average prices, a simple arithmetic average of the remaining prices is checked, given that the 2-day rate adjusted to the following day through the increase or decrease of the compensation cost, in dollar, based on the Libor, and the bank reserve cost in Brazilian currency (BRL), through the CDI Rate. The Clearing- Bank registers the currency contracts and the BM&F receives the same registrations through a printer connected to the Sisbacen. Currency Exchange Contract Clearing THE DAY AFTER THE OPERATION The BM&F clears the currency contracts in its Clearing- Bank through the netting of the contracts, what means, the clearing- in BRL through the Brazilian Payment System (SPB) by the netting of the contracts in BRL and clearing- in dollars in New York through the netting of contracts in dollar.
To speed up the clearing- process of the currency contracts, the BM&F adopts, alongside its Clearing- Bank, the digital signature procedure of the contracts. Financial Clearing - with the Client
THE DAY AFTER THE OPERATION The BM&F makes available several financial reports for participants responsible for those clients to follow up on the financial clearing- as well as the brokerage invoice in English to be sent to clients;
The BM&F's clearing- is directly performed with the client, what means, it performs the payment to creditor clients and receives the payment from debtor clients through the BM&F account for clearing- of adjustments. The bank data informed by the client in his registration are used at this time for the financial clearing-. In case of eventual problems in the bank transference system that would render impossible the necessary financial transactions, the BM&F adopts some contingency procedures. The financial clearing- must comply with a time schedule scale, given that if the client does not make the payment within the established deadline, the BM&F will debit the appropriate Brokerage Firm/Compensation Member. The brokerage fees and the market fees are accumulated up to the first working day of each month when are then repatriated through specific currency exchange contracts and the amounts in BRL are sent to the respective participants. When there is a holiday in New York, the clearing- of the farming and cattle raising markets is transferred to the next working day. The client from "tax heavens" endures similar taxation as the non-resident client in the country; given that, the monthly verification of the tax amount and its respective collection are under the BM&F's accountability. Deposit of Guarantees
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The BM&F makes available to the Brokerage firms, in the day after the operation, reports with margin amounts required from each client. The Brokerage firm informs the client about the amount to be deposited, which in turn must cover the amount required in North-American dollars or in T-Bills (North-American Treasury Bonds). Margin Coverage in Cash The deposits and collection of margins in cash are performed in the specific BM&F Account for that procedure. The bank data informed by the client in its registration are used at this time for the financial transaction. Execution of Guarantees The Brokerage firm informs to the Chamber the client's lack of payment, arranging therefore for the compulsory clearing- of the open positions. The Chamber begins the execution process of the client's guarantees in the following fashion:
Guarantee in cash: the Chamber transfers the amount deposited in the margin account to the account for clearing- adjustments and repatriates these resources through a currency exchange contract. Guarantee in stocks: the Chamber, through its Clearing- Bank, exchanges the deposited stocks (at market value), transfers the resources to the account for clearing- adjustments and proceeds to the repatriation through a currency exchange contract.
Compensation Member Responsibilities The Compensation Members are responsible, before the Chamber, for the correct clearing- of all and any operation attributed to them by registration, compensation and clearing-, as well as for delivery, receiving, authenticity and legitimacy of all and any stock, document, securities and guarantees related to those operations. Chart of the Regulatory Structure of the Brazilian Financial System
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