RESEARCH AND ANALYSIS FROM THE FINANCIAL TIMES

CONTENTS
03.02.2011

A CHANGE OF
the view on brazil:
02 Facing up to the
fiscal challenge

approach
governing Brazil:
04 A change of
approach

resource Brazil:
06
IN BRAsILIA
Petrobras’s
performance test

financing Brazil:
11 Private equity: Sowing
seeds in Minas Gerais

consumer Brazil: As President Dilma

17 Low-income groups
feel the burden of debt
Rousseff gets down
building brazil:
to business, a sharp
fiscal adjustment
19 Shopping centres: fast growth,
regional opportunities
could be imminent
Guest column:
p2
22 Brazil’s growing
Africa engagement

The best of
local comment:
23 Diverse views on
interest rates

bulls and bears:

24 A rise in inflation
expectations

RESEARCH AND ANALYSIS
FROM THE FINANCIAL TIMES
BRAZIL IAL
CONFIDENT
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art, Dominic Phillips, Corvin Brady
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THE VIEW ON BRAZIL
facing up to the
fiscal challenge
Editor: RICHARD LAPPER
I
nvestors have given emerging markets something of
a cold shoulder in the first few weeks of 2011. And
Brazil has been as roughly treated as anyone, with
the Bovespa – the country’s stock market index –
down in January by nearly 4%, compared to the 2.8% fall
in the MSCI EM Index. The yield on interest rate futures
contracts – the financial instrument that most reflects
perceptions of interest rate trends – rose by about a third
of a percentage point over the same period.
It is easy to see why: local inflation forecasts are
trending higher, and Brazil – with its stretched infra-
The new government’s
structure, expensive labour market and recent increases
in government spending, (not to mention its history) –
determination to cut
has particular reasons to fear inflationary demons. spending should help
Yet there are also good reasons for confidence. After calm fears of
all, the factors that are pushing inflation higher – com- overheating
modity price rises and the pull of China – are also the
factors that underpinned Brazil’s rise during the first
decade of the twenty-first century, and will continue to
shore up its external accounts. More to the point, ex-
actly at the time that financial market investors are fret-
ting over the deterioration in public finances, there are
some signs that the new government of Dilma Rousseff
is facing up to the challenges that confront it.
These challenges are considerable and can’t be
underestimated. True, the headline inflation number is
still in single digits, with the consensus still confined to
a relatively narrow range.
But visiting Brazil over the New Year, it was hard to
avoid the impression that Brazil’s economy is becoming
overheated. In the ethanol industry – one of a number of
boom sectors sucking in skilled labour – I came across
a technician, for example, whose monthly salary had
risen fivefold to more than R$17,000 ($10,210, £6,326,
€7,385) since 2002, albeit with the help of one or two
promotions on the way.
Taxi fares in São Paulo increased by no less than
18% last month, a rise that means the journey between
Guarulhos, the site of the city’s main international
airport, and the central suburb where I used to live is
now twice as expensive in Real terms (let alone in dol-
lars) as it was five years ago. Rents that reflect the rise in
wholesale prices rather than the retail index will double
this year in some fashionable areas of Rio de Janeiro.
As our charts on page 5 show, public spending –
especially on wages – increased very quickly in 2009 and
2010, partly, as Guido Mantega, the finance minister, is
wont to insist, to cushion Brazil from the impact of the
international downturn.
But in addition, that rise also reflected short-term
political considerations, ahead of the October 2010 elec-
tion. Whatever the reasons, the scale of the increases
THE VIEW ON BRAZIL
facing up to the
fiscal challenge
3 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011

means that President Rousseff and her team have a
tough job ahead of them if they are to meet the targeted
primary surplus (before debt interest payments) of 3.1%
of gross domestic product.
This is especially so since much of Brazilian spend-
ing is fixed. Gil Castello Branco, director of Contas
Abertas, a think-tank, says the government is obliged
to spend about 90% of the projected 2011 budget of
R$2,073bn, either in debt service or constitutionally
mandated payments.
And yet the government can feasibly cut at least
R$40bn and possibly more from spending, even with-
out resorting to the kind of cosmetic measures that
Luiz Inácio Lula da Silva’s administration deployed in
2010. Blocking the increases voted by Congress late last
year would save more than R$30bn. Throwing into the
mix a possible freeze on promotions within the civil
service and on recruitment, as well as a cut
“Fiscal adjustment is vital if in expense accounts and overheads, would
the government is to have yield more than R$6bn.
any chance of achieving Ministers have been forthright in their
its aim of reducing interest recent insistence about the need for a
rates later this year.” fiscal adjustment. Mr Mantega himself
left no doubt about it during an inter-
view with Brazil Confidential late last year. Miriam
Belchior, the minister of planning, has repeatedly
insisted that the administration is preparing to do
“more with less.” And as our report from Brasília
shows on page 4, Ms Rousseff and her chief of staff
Antonio Palocci are addressing these matters with
some urgency.
Both she and Mr Palocci – as well as other members
of government economic team – have been burning the
midnight oil. And while it is true that Ms Rousseff lacks
her predecessor’s political touch (her election last Oc-
tober was the first time she had been voted into office),
the same cannot be said of Mr Palocci, who has been
deploying his considerable political skills to negotiate
changes through capital congress where his (and Ms
Rousseff ’s) Workers’ Party (PT) is still dependent on
the votes of its coalition ally, the Brazilian Democratic
Movement Party (PMDB).
All this has been accompanied by a change in
style. Whereas Mr Lula da Silva offered a fairly typical
Brazilian mix of geniality and laid-back affability, Ms
Rousseff is all focus, concentration and hard work,
a less attractive person to be with perhaps, but one
whose style is more appropriate to the tests her gov-
ernment faces.
As Brazil Confidential went to press for the first
time this week, it appeared that Ms Rousseff would
not cede to PMDB and trades union pressure for a
higher minimum wage, above the R$545 a month
already announced. Ms Rousseff also seems to be win-
ning in her insistence that the new managers of state
enterprises such as Eletrobras (LIPR3:SAO) and Fur-
nas, the electricity companies, should be technically
qualified rather than political appointees, a demand
that will prejudice the interests of the PMDB, which of
late has enjoyed control of these businesses.
Ms Rousseff and Mr Palocci know that sizeable
fiscal adjustment is vital if the government is to have
any chance of achieving its stated aim of reducing
interest rates later this year. In a world of quantita-
tive easing and low interest rates, that is the best way
to make Brazil less of a magnet for inflows of short-
term capital, ease upward pressure on the Real and
benefit hard-pressed exporters. Ms Rousseff must
know that this will be difficult but – as one of our
sources pointed out last week – she “is a woman of
her word”. For the moment, investors ought to give
her the benefit of the doubt. n

THE BOTTOM LINE

450m 25 18% $17bn 29.8 $13.8bn

tons kmph
Forecast iron ore The average The increase in Chinese direct Per 1,000, homi- 2010 exports
output in 2011 – speed of trains taxi fares investment in cides in Rio de of sugar and
a 20% increase. in Brazil. announced 2010, accounting Janeiro in 2010, cane ethanol.
Source: Brazilian Iron Source: O Estado de São last month in for about a third the lowest in Source: Conab
Ore and Base Metals Ex- Paulo
traction Association São Paulo. of the total. 20 years.
Source: Exame Source: Brazilian Source: O Globo
Society for the Study of
Multinational Compa-
nies and Globalisation
(Sobeet)
GOVERNING BRAZIL 4 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011

a change of approach

SUMMARY
President
Rousseff is
governing in a dif-
ferent way to her
predecessor.

As chief of
staff, former
finance minister
Antonio Palocci

LATIN CONTENT/GETTY IMAGES

has played a key
role.

Ms Rousseff
has employed
outside consult-
ants as she seeks
to make govern-
ment more Dilma Rousseff
effective.
mation in a social setting, surrounding him-
Negotiations Brazil’s new president has self with aides and advisers and gathering
between the gov- been going about her business ministers to discuss lots of different issues,
erning Workers’ even if they had no direct knowledge of the
Party and allied in brisk and no-nonsense subject under review.
parties have gone fashion. By contrast, Ms Rousseff is a more
well. solitary figure who does her own research.

F
or the last 38 years the Brazilian flag has
flown wherever the country’s president
happens to be. Not any more. In his last
day in the job Luiz Inácio Lula da Silva shelved
the requirement leaving his successor Dilma
Rousseff to pursue an agenda freer from
public scrutiny.
The change in protocol is emblematic of
a much broader shift in executive style. The
ebullient, charismatic and highly public
former president has been replaced by a
political leader who prefers a quiet and
discrete approach towards the job.
Admittedly, these are early days but in
Ms Rousseff ’s first few weeks in office there
have been plenty of signals of a change of
approach and some indications that this
could bring much-needed efficiency to the
heart of Brazilian government.
And with inflation and fiscal pressures
mounting (see chart) any new-found effec-
tiveness could soon be put to the test.
Mr Lula da Silva loved to soak up infor-
At her first meeting with ministers, for
example, Ms Rousseff used two separate
laptops. She has besieged her team with
requests for reports and studies. Meetings
are briefer and to the point. “Dilma’s agenda
is minimalist,” says André Pereira César, a
political scientist at Brasília-based CAC, a
political consultancy group.
New informal ministerial groups have
been formed to discuss specific issues. For
example, in discussions about cuts to the 2011
budget (scheduled to be announced in the
next few weeks), Ms Rousseff has involved
Guido Mantega, the finance minister, Alex-
andre Tombini, the central bank chief, and
Miriam Belchior, the minister of planning.
Ms Rousseff herself conducts the meet-
ings and explicitly asks participants to keep
the results under wraps, making it clear that
leaks and unauthorised comments will not
be tolerated. All this has been accompanied
by greater discipline. One junior minister,
Pedro Abramovay, has already bitten
GOVERNING BRAZIL
a change of
approach
the dust, resigning shortly after making
unauthorised comments that irritated his
superior. Another, more senior figure, Fer-
nando Haddad, the education minister, was
abruptly told to postpone a planned holiday,
as media controversy whirled around the
way a national university entrance exam had
been organised.
Encounters with some other senior
figures have been no less bruising. After
landslides and floods led to the deaths of
more than 800 people last month in Rio de
Janeiro state, Ms Rousseff had some harsh
words for Sergio Cabral, the state’s governor,
telling him she could not accept that money
transferred to the state to pay for flood
prevention efforts had not been used for that
purpose and complaining that she could not
believe he was asking for more money.
While Mr Lula da Silva was often over an
hour late for public ceremonies and other
events, Ms Rousseff hates delays. And she
eschews public comment when she believes
that it is not needed. “She won’t throw
words into the wind,” says one old friend. “If
you want to know what Dilma is planning
check her speeches. She is a woman of her
word and means to carry out her campaign
pledges before the end of her term.”
While Mr Lula da Silva lived in the
Alvorado Palace in the heart of Brasília and
visited the more reserved Granja do Torto
country house used by Brazilian presidents at
weekends, Ms Rousseff has chosen to live at
Granja, in an effort to retain more privacy.
Deeper administrative reform will be
needed if this more hard-headed mana-
gerial approach is to achieve faster and
better government. But that kind of more
far-reaching action is on the agenda. Ms
Rousseff has asked ministries to come up
with plans to save part of their budget allo-
cations. Ministers have been asked to work
more closely with colleagues in related
departments.
Another step in this direction involves
the deployment of a consultancy group that
has achieved some important advances at
a state level. The health minister, Alexan-
dre Padilha, has been at the forefront of
efforts to invite private sector bodies to
help improve public sector management.
Specifically, Mr Padilha has asked the Move-
ment for an Efficient Brazil (MBE), a body
associated with one of the country’s most
prominent entrepreneurs, the steel magnate
Jorge Gerdau Johannpeter, to help prepare
a plan to help improve management at two
government agencies, the National Health
Spending on the rise
Total expenditure except debt
Total federal government expenditure
Debt interests, financial investments and debt amortisation
60%
50%
40%
30%
20%
10%
0%
2003 2004 2005 2006 2007 2008
Note: Spending as a percentage of GDP
Source: Contas Abertas
Foundation (Funasa) and National Health of
Surveillance Agency (Avisa).
The group is to be assisted by the Insti-
tute for Managerial Development (INDG), a
consultancy group that between 2003 and
2009 advised nine Brazilian states, includ-
ing Minas Gerais and Pernambuco on how
they could improve their performance.
At Anvisa, which approves the licensing
of drugs that can be sold in Brazil, Mr Padil-
ha is looking to speed up the time it takes
to authorise drugs from an average of six to
three months. In recent years Funasa, which
oversees the installation of basic sanitation
in poor areas, has come under criticism for
the poor use of public funds. n
A smoother
congressional
connection
The president should find it
easier to win backing from
legislators
I
n his two terms at the head of Brazil’s
government, President Luiz Inácio Lula
da Silva encountered plenty of turbu-
lence in his relations with Congress, most
notably when it emerged in 2005 that his
Workers’ Party (PT) had used state funds to
buy votes from its coalition partners. At first
glance, Ms Rousseff could also face
difficulties in managing an alliance that
encompasses no fewer than ten parties. The
biggest of these the centrist Brazilian
Democratic Movement Party (PMDB) has
already indicated that it is unhappy with
policies and will support trades union
demands for a bigger increase in the
minimum wage, potentially undermining
the government’s fiscal plans.
5 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011
On paper it might seem that Ms Rouss-
eff ’s left-wing PT would still need to rely
on the congressional votes of the PMDB,
especially in the Senate where the PMDB
is the biggest force with 21 of the 81 seats.
However, many Brazilian political analysts
believe Ms Rousseff will be in a stronger
position than her predecessor.
First, in the lower house, the PT is the
biggest party with 88 deputies compared to
79 for the PMDB. But it can also count on sup-
port from a further 77 deputies from three
2009 2010
left-wing parties, the Brazilian Socialist Party
(PSB), the Democratic Labour Party (PDT)
and the Communist Party of Brazil (PCdoB),
all of which also enjoy stronger represen-
tation than they did four years ago when
between them they had only 64 deputies.
In addition, the Brazilian Social Demo-
cratic Party (PSDB) and the Democrats –
which together represent the nearest thing
Brazil has to a right-wing opposition – are
much weaker than they were in either
2007 or 2003 (with 96 deputies compared
to 131 in 2007 and 154 in 2003). The PMDB
won ten fewer seats in 2010 than it did four
years previously and is further undermined
by internal fissures. Alberto Almeida, a
political scientist and consultant with São
Paulo-based Instituto Análise, says there
are already signs that the PT “has been
intelligent in taking advantage of these
divisions”, particularly in the controversies
surrounding the appointment of managers
to publicly owned electricity companies,
recently viewed by the PMDB as something
of a political fiefdom.
The PT’s political management has also
become more effective. Back in 2005 the
party presented two competing candidates
for crucial position of president of the lower
house, a division which saw them lose con-
trol of the position to a provincial right-wing
politician, Severino Cavalcanti. There has
been no such sign of indiscipline this time
around, with Antonio Palocci, the president’s
chief of staff, this month securing wide-
spread support for the party’s nominee to be
president of the lower house, Marco Maia.
Mr Maia, a 46-year-old Rio Grande do
Sul former metalworker and trade unionist,
will now play a key role in piloting govern-
ment business through the legislature. In
the Senate, José Sarney, the veteran PMDB
leader from Maranhão state, former Brazil-
ian president and firm ally of Mr Lula da
Silva, was elected to a parallel position, and
is widely expected to give strong support to
Ms Rousseff. n
RESOURCE BRAZIL 6 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011

Petrobras’s performance
Test

SUMMARY
Petrobras has
followed Septem-
ber’s record share
offering with
its biggest-ever
debt sale, raising
$6bn last month.
However, the com-
pany’s massive
investment needs
raise the possibil-
ity of further stock
issues.

Brazil Confi-
dential research
shows that
local content
requirements
are undermin-
ing productivity.
Petrobras-owned
platforms, built
largely in Brazil- Hull of giant Petrobras production platform P-51, built at the Brasfels yard near Rio de Janeiro
ian shipyards,
are taking almost The current plan still only covers the leading edge of
twice as long to A close look at the readiness of Petro- pre-salt investments, suggesting that the allocation of
build as those
leased from bras’s local suppliers confirms doubts $33bn is just the tip of the iceberg. Another big increase
international sup- about the company’s prospects. in planned investment is likely when the plan is updated,
probably next quarter.

F
pliers and built
largely by Asian ormer market darling Petrobras (PETR3:SAO) en-
competitors. dured an annus horribilis in 2010, when the Bra-
zilian government’s handling of a stock issue per-
suaded many investors to head for the exit. The
company shed 23% of its stock market value, roughly
matching the retreat of Macondo-hit BP (BP.:LSE).
The possibility of a repeat capitalisation has prevent-
ed a rally from taking hold. Even considering Petrobras’s
excellent long-term prospects, with an estimated 60bn to
100bn barrels of oil equivalent in the new offshore ‘pre-
salt’ areas, there are reasons to be cautious.
The 2010 share issue was worth more than $70bn
(R$117bn, £44bn, €51bn), but $43bn of this was tied up
with an oil-for-shares mechanism that allowed the feder-
al government to increase its stake from 40% to 48%.
These sums are outweighed by the colossal amount
that Petrobras needs to spend, and government policy is
pushing capex demands ever higher. The 2010-2014
Petrobras plan earmarked investments of $224bn, com-
pared with $174bn under the previous version.
Nor do existing allocations yet account for the esti-
mated $3bn to $4bn needed to develop the 5bn barrels of
crude assigned to Petrobras under the oil-for-shares
mechanism.
The re-capitalisation cut the company’s debt-to-equi-
ty ratio to 17%, from 25%, but the scale of the company’s
demand for capital was illustrated by last month’s $6bn
bond issue, the company’s biggest ever.
Averting the risk of another major capitalisation ex-
ercise is likely to depend on a significant increase in
Petrobras revenue. This could come either from a fur-
ther surge in oil prices or increased efficiency in the
company’s production.
Yet there are growing signs that Brazil’s efforts to fos-
ter the growth of a local supply chain, by increasing do-
mestic sourcing of the hardware needed for deep-sea ex-
ploration and production, could undermine productivity
and slow the exploitation of the pre-salt reserves.
According to figures obtained by Brazil
Confidential, floating production platforms
RESOURCE BRAZIL Petrobras’s
performance test 7 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011

owned and engineered by Petrobras with a strong- with new production sharing contracts.
er emphasis on local construction have so far taken Under new rules, Petrobras will be the only qualified
almost 100% more time to complete than those built operator on future licences covering strategic pre-salt
by leased platform specialists elsewhere in the world. areas, contrasting sharply with the much-quoted
This tension between the scale of capital require-
ments and less efficient performance of locally dominat-
ed projects could become even more acute when Presi-
dent Dilma Rousseff ’s administration introduces new oil
laws, replacing competitively bid upstream concessions

International charter vs Petrobras-owned contracts

Marlim Sul
Cid. Niteroi

Cid. Vitoria
Cid. Angra

de Janeiro

Capixaba
dos Reis

Cid Rio
P-57

P-51

P-53

P-54

P-52

P-50

P-48

P-43

Number of months from contract to start of production

10

17 20
18 18

26 25 30
27
32
34
40

43 44
47 50
49 50
54
60
International charter contracts Petrobras-owned contracts

International charter contracts*

Platform Cap bpd Contract vs. Main contracts
Contract vs. Sched. vs. Scheduled Prod.
sched. prod. signed
prod. start prod. start prod. start
(mm/yy) (mm/yy) (mm/yy) (months) (months) (months)
Marlim Sul 100,000 01/03 04/04 06/04 15 17 2
Capixaba 100,000 11/04 04/06 05/06 17 18 1
Cid Rio de Janeiro 100,000 07/05 04/07 01/07 21 18 -3
Cid. Vitoria 100,000 08/05 01/07 11/07 17 27 10
Cid. Niteroi 100,000 01/07 10/08 02/09 21 25 4
Cid. Angra dos Reis 100,000 08/08 11/10 10/10 27 26 -1
P-57 180,000 02/08 01/11 12/10 35 34 -1

Petrobras-owned contracts
Platform Cap bpd Main contracts
Contract vs. Scheduled
Contract vs. Sched. vs. Prod.
signed
sched. prod. prod.
prod. start prod. start start
(mm/yy)
(months) (mm/yy) (mm/yy)
(months) (months)
P-43 150,000 06/00 04/03 08/04 34 50 16
P-48 150,000 06/02 07/04 02/05 25 32 7
P-50 180,000 02/02 10/04 04/06 32 49 17
P-52 180,000 12/03 05/07 11/07 41 47 6
P-54 180,000 04/04 07/06 12/07 27 44 17
P-53 180,000 04/05 07/07 11/08 27 43 16
P-51 180,000 05/04 12/08 11/08 55 54 8
*Platforms supplied, leased and operated by international companies.
Source:Brazil Confidential
RESOURCE BRAZIL Petrobras’s
performance test 8 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011

Norwegian model.
Crucially, Petrobras will also hold a minimum 30%
stake in any consortium selected to explore for oil on per-
mits in the pre-salt fields, so may be required to partici-
pate in projects not necessarily justified by its own fi-
nancing criteria or costs.
“Petrobras is already overburdened with projects and
its managers can only be praying that the government
will not carry out its promise to call a bid round as soon as
“Petrobras will hold a mini- it gets the legislation approved,” says Adriano
Pires, director of the Brazilian Institute of In-
mum 30% stake in any
frastructure Studies (CBEI).
pre-salt exploration consor-
The Petrobras stock price has probably
tium, potentially including concluded its adjustment cycle, with the re-
projects not justified by its cent dilution and associated risks now fac-
own financing criteria.” tored in. If oil prices remain stable or rise only
modestly, a more demanding assessment of project per-
formance and investment strategy is likely to restrain the
This can be seen by the mix of contracts for major
offshore production platforms, with roughly equal
numbers of international charter contracts and Petro-
bras’s own engineering, procurement and construction
projects.
The chartered units tend to be slightly smaller in
scale, with more streamlined engineering specifications
and have specialist “floater” companies – that make or
supply deep-water platforms – such as SBM Offshore
(SBMO:AEX) and Modec International building to ag-
gressive schedules.
The Petrobras EPC contracts are more Brazil-based,
and the oil companies own engineers have demonstrat-
ed impressive creativity in fitting specifications and
Petrobras’s oil production targets
Post-salt and soil (Petrobras)
Pre-salt (total)
Post-salt and soil (other players)

company’s stock in the medium term. Mil. bpd

So how does the company stand? Petrobras has per- 6
formed sluggishly in recent years, revising downwards –
5
but still missing – its production targets. Last year. For
example, output of crude oil rose by only 1.7%, compared 4

to an initial targeted increase of 2.5%. 3

Petrobras can feel relatively confident about boosting
2
production in 2011, with big new platforms such as the
P-56 and P-57 set to ramp up output. Some 250,000 bpd of 1

new production is scheduled to go on-stream this year, 0

more than offsetting the 90,000 bpd that is expected to 2006 2008 2010 2012 2014 2016 2018 2020

be lost due to the decline of older fields. Source:Petrobras, Onip

However, there are fewer new platforms in the pipe-

line for 2012, and plans to sharply increase local content Investment in production units 2010-2020
in the industry could further hamper output plans. Anchorage Equipment Materials and hull
Construction Engineering Installation, integration
and assembly and commissioning
The contract breakdown Other
US$ bn
The first phase of full-scale development of the Lula 10
field (the most prominent of the pre-salt fields) will fea-
ture the deployment of eight large Brazilian-built float- 8

ing production, storage and offloading (FPSO) plat- 6

forms. Petrobras is pursuing an even more ambitious
plan to order 28 sophisticated deepwater rigs, also to be 4

built locally. 2
The large number of orders for ships, production plat-
forms and rigs placed with Brazilian suppliers could lead 0
2010 2012 2014 2016 2018 2020

to bottlenecks and overruns. Brazil’s own petroleum in- Source:Petrobras, Onip

dustry body (Onip) acknowledged in a recent study that

the domestic offshore sector is competitive in some are- Shipyard capacity 2010
as, such as subsea equipment, but suffers from low ca-
pacity and high costs in other areas. Boats and support vessels Tankers Offshore platforms

“This policy of privileging Brazilian goods and servic- 000s of tons

es, unless measured carefully, actually increases the 500

probability of another capitalisation,” says an oil-sector 400

analyst at one of Brazil’s own government-owned banks.
Brazil’s local content policies are broadly inspired 300

by Norwegian and UK models dating back to the devel- 200

opment of North Sea oil and gas fields. The policy
makes sense in Brazil with its diverse industrial base, 100

but Petrobras planners have so far sought to limit its

0
implementation. 2010
Source: Petrobras, Onip
RESOURCE BRAZIL Petrobras’s
performance test
contractual models to get the most out of local
suppliers.
These EPC projects tend to feature more complex engi-
neering and integration matrices, and contractors are giv-
en longer schedules and more flexibility for modifications.
Local content has steadily increased in both cases, ris-
ing overall from 57% in 2003 to 77% in 2010, according to
Petrobras data. The chartered units usually have a strong
Asian yard component, but local content is now above
60%. Petrobras has recently begun requiring
“Industry sources describe international companies to work with local
the most competitive prices partners, with a view to handing over offshore
for rig-building contracts operations completely.
as dangerously low.” Local content assumed more importance
under President Lula da Silva and these policies were di-
rectly responsible for bringing the construction of some of
the biggest and most advanced production units into Bra-
zilian yards. The huge P-51 and P-52 series have been built
by Brasfels, a shipyard subsidiary of Singapore’s Keppel
FELS.
Yet the production platforms deployed in the pio-
neer pilot projects in the pre-salt fields have been char-
tered internationally, allowing oil to be produced more
quickly.
The first production platform on Tupi-Lula, inaugu-
rated with pomp and ceremony, was a chartered FPSO.
Two slightly larger leased FPSOs will be installed on the
Guara and Lula fields in 2013 and 2014, respectively.
However, Petrobras’s resistance to these projects has
been growing.
The private sector’s worry is that Petrobras’s govern-
ment masters are pushing too many projects into local
shipyards too quickly. The current investment plan calls
for 200 Brazilian-built supply vessels, 30 Brazilian-built
tankers and 28 Brazilian-built deepwater rigs.
Petrobras currently has 45 deepwater production plat-
forms on its fields, compared to Shell’s (RDSB:LSE) 15 and
ExxonMobil’s (XOM:NYQ) 13, but planners say they ex-
pect to order no less than 40 FPSO units by the end of the
decade, each one producing up to 150,000 bpd.
Brazil’s existing shipyards are already overstretched
and newer yards take several years to move from con-
ception to construction and then build up their produc-
tivity. An older yard, such the Maua facility in Rio de Ja-
neiro, is expected to take at least 1.8m man-hours to
conclude the first of several petroleum product vessels
on its books. This compares to about 500,000 man-
hours in a Korean yard.
Undaunted, Petrobras is piling up the orders and is
even pushing the charter companies to carry out their
hull conversions in Brazil. “Building or converting the
hulls in Brazil has become something of a point of hon-
our, but these elements do not represent the most value
in the platforms. Forcing these jobs into overstretched
shipyards just does not make sense,” said a representa-
tive of one of the international FPSO lease companies.
Awarding Engevix, a São Paulo-based contractor with
no previous experience in the offshore sector, a $3.46bn
contract to build the eight FPSO hulls for Tupi-Lula also
9 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011
set alarm bells ringing.
The contract will be carried out at the brand new Rio
Grande yard and industry insiders say steel processing
workshops that are essential for production are not yet in
place. The hulls are supposed to be delivered between
2013 and 2015.
Petrobras argues that building these units in a
standardised format will make the projects more cost-
effective, and José Miranda Formigli, a top pre-salt ex-
ecutive at Petrobras, says that the presence of experi-
enced Swedish and Chinese partners will guarantee
good performance.
A huge tender for the more complex topside process-
ing plant and equipment will follow later this year, with
up to 120 modules of topside processing equipment and
plant on offer.
The fact that private sector project partners BG
(BG:LSE) and Repsol YPF (REP:MCE) went along with
these arrangements is a testament to the appeal of the
pre-salt projects. Brazil Confidential, however, under-
stands that there was some tension over the issue, and
Petrobras agreed to spread the risk by tendering for
two more chartered units, adding up to five full-scale
leased units in the Santos basin, where the main pre-
salt fields lie.
The tender for drilling rigs alone has generated at least
four major new complex shipyard projects. Petrobras ex-
pects each rig to cost about $700m, but industry sources
describe the most competitive prices, submitted by Bra-
zilian consortia, as dangerously low.
Some new private sector yards have plans in train to
increase productivity but it is too early to judge how
successful these have been. Estaleiro Atlântico Sul
(EAS), a mainly Brazilian private-sector joint venture
shipyard in north-eastern Brazil in which Samsung
Heavy Industries (A010140:KSC) owns a 10% stake, has
put in place a highly-automated production line based
on so-called flow principles and which includes provi-
sion to lift heavy blocks in an automated way. The yard’s
operators aspire to achieve a blend of productivity and
wages sitting somewhere between Chinese and Japa-
nese yards, says Angelo Bellelis, the chief executive.
EAS already has 10 tankers on order, and is close to sign-
ing the first contract with Petrobras for seven deepwa-
ter drill ship rigs, putting that facility at full capacity
for some time to come. However, the first tanker and the
first production platform to be built at EAS have been
delayed. (The company would not provide data on pro-
ductivity.)
There are other Brazilian yard projects, some backed
by experienced groups such as Odebrecht and Jurong
Shipyard and OSX (OSXB3:SAO), but many others are
under-capitalised and have no experience. 
Private operators are also doing their best to increase
the supply of qualified workers, the shortage of which is
a major headache for the offshore sector, despite an am-
bitious government-backed training and education
programme that can draw upon 0.5% of royalty reve-
nues. Both EAS and Quip, another private sector
RESOURCE BRAZIL Petrobras’s
performance test 10 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011

joint venture, have have invested heavily in their
own training programmes.
“We have been working to create a whole new indus-
trial culture. This is a region with great potential, but we
are coming up against a shortage of suitably qualified la-
bour. There is already some wage distortion among the
sought-after category with a technical qualification,”
says the chief executive of Quip, Miguelangelo Thomé.
After investing in their own training and education
and casting their net for migrant workers, pioneers
such as Quip and EAS are already including loyalty in-
centives, but the sector is bracing itself for aggressive
recruiting and wage inflation as scores of new yard pro-
jects move forward. Basic educational standards in Bra-
zil are a problem, as are the shortage of technical col-
leges and competition from other sectors of Brazil’s
booming construction industry.
Meanwhile, critics also worry that the promotion of
new industrial clusters being in the northeast and south
of Brazil obey a political rather than commercial logic.
The hubs in Pernambuco and Rio Grande do Sul, for ex-
ample, are too distant and disconnected to established
industry of Rio de Janeiro, they suggest. For example,
the hull for another big production platform, the P-55,
which is currently being built at the brand new EAS
yard, will have to be shipped 3,500 km down the coast to
an equally new dry-dock facility in Rio Grande do Sul.
The deck and topside plant for the same platform is also
being built mainly in southern Brazil.
Moreover, for many investors these worries are part of
a broader set of concerns linked to government influence
on investment strategy. Petrobras, for example, is spend-
ing heavily on refineries that offer a relatively low rate of
return on capital. The company has a reputation for ne-
gotiating hard with local contractors, but its
managers have missed opportunities to save “The sector is bracing itself
money, by for example ordering new rigs for aggressive recruit-
when, because of the international credit ing and wage inflation as
crunch, ship builders were looking to unload scores of new yard projects
many half-built or completed units. move forward.”
Petrobras has undeniable strengths. Brazil’s
political context offers stability; the pre-salt reserves of oil
and gas are impressive; and with a succession of positive
results from well tests in the pre-salt fields fears about
technical production risks are beginning to fade. Ahead of ACTION
last month’s bond sale the company was also keen to reas- POINTS
sure investors that it would finance the development for
the additional 5bn barrels of crude obtained under the 01 Petrobras’s
capitalisation from its own resources, garnering revenue
honeymoon is over,
from a first platform before moving ahead with the others.
with financing pres-
sures likely to con-
“Petrobras has said it intends to double output by
tinue, and govern-
2020. It took 10 years to double output to 2m barrels per
ment intervention
day, and the new economies of scale mean that this is a on local content and
credible target, but this is still a massive challenge,” says investment strategy
Nelson Matos, an analyst with Banco do Brasil. posing risks.
But investors will need to watch more carefully the
performance of projects than they have done in the 02 Yet, given the
past. In the stock market at least the company has lost scale of Brazil’s
ground over the last two years. Of course, a sharp rise in reserves, a vein
the oil price would change matters but until it becomes of pragmatism
clear that operating results are improving the shares points to long-term
will underperform. n rewards.

RESOURCE BRAZIL:
THE COMMODITY OUTLOOK
2006 2007 2008 2009 2010
2011 forecast
Production
Iron ore (million metric tons) 317.00 355.00 351.00 310.00 370.0* 450.0*
Soy complex (million metric tons) 55.00 58.40 60.00 57.20 68.70 68.60
Chicken (million metric tons) 9.35 10.31 11.03 11.02 12.00* –
Beef (million metric tons) 9.12 10.08 8.83 8.47 8.92* –
Sugarcane (for industrial use) (million metric tons) 429.50 501.50 571.40 604.50 625.0* n/a
Orange production in São Paulo state 348.4 365.8 354.7 355.1 297.5 352.9
(million 40.8kg boxes)
Coffee (million 60kg bags) 42.5 36.1 46.0 39.5 48.1 41.9-44.7
Crude oil** (million barrels) 650.9 660.4 686.3 736.9 n/a –
Exports
Minerals and ores ($ m) 9,757 12,026 18,727 14,453 30,839 38,000*
Oil and derivatives ($ m) 13,005 16,042 23,047 14,947 22,890 –
Soy complex ($ m) 9,311 11,386 17,986 17,251 17,071 19,936*
Meats ($ m) 8,510 11,095 14,283 11,471 13,292 –
Sugar and cane ethanol ($ m) 7,771 6,578 7,873 9,716 13,776 –
Paper and pulp^ ($ m) 4,007 4,726 5,834 5,001 6,769 –
Coffee (in grain) ($ m) 3,311 3,829 4,733 4,251 5,739 6,000-6,400*
Orange juice ($ m) 1,043 1,543 1.997 1.619 1,775 –

*Estimate. **Figures for barrels of oil equivalent. Do not include Liquified Natural Gas. ^Brazilian Paper and Pulp Association – BRACELPA forecast exports of $20 billion by 2020 on investments
Sources: Brazilian Iron Ore and Base Metals Extraction Association – Sinferbase, US Geological Survey, National Mineral Production Department – DNPM, Brazilian Government Agricultural
Research Body – CONAB, Brazilian Association Of Chicken Farmers – APINCO, Brazilian Census Bureau – IBGE, Sao Paulo State Agricultural Research Institute – IEA, National Petroloeum Agency
– ANP, Brazilian Development, Trade and Industry Ministry, Brazilian Exporters Association – AEB, Brazilian Vegetable Oil Producers’ Association – ABIOVE, Brazilian Paper and Pulp Association –
BRACELPA, Brazilian Coffee Exporters Council – CECAFE
FINANCING BRAZIL 11 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011

PRIVATE EQUITY:

Sowing seeds in
Minas Gerais

SUMMARY
Pro-business
state government
policies, a diversi-
fied economy and
above average
growth rates are
attracting interest
from private and
venture capital in-
vestors to Brazil’s
second richest
state.

Money for big-

ger private equity
deals has come
from São Paulo,
Rio and abroad.
But a number of
New administrative offices of Minas Gerais state government in Belo Horizonte
seed capital and
venture capital ing to raise capital outside the banking system, no
firms have be- This is the first in a series of articles fewer than 25 companies are now saying they are inter-
come established
locally. on Brazil’s thriving venture capital and ested in listing on the stock exchange. Only 10 are list-
ed at present.
private equity industries, focusing on
For now, the number of funds is small and they are fo-
Clusters of developments state-by-state. In this cused on high growth opportunities in start-ups. But
high tech and bio- piece we look at Minas Gerais.
Marcus Regueira, managing partner at FIR Capital and

A
science business-
s a Belo Horizonte-based professor of eco-
es are developing
nomics, Clélio Campolina is well aware of
around the top
universities. And the shortcomings of the business culture of
the state govern- Minas Gerais, Brazil’s second most populous
ment wants to and economically important state.
see supply chains But Mr Campolina, who is rector at the state’s fed-
expand in areas eral university, is also enthusiastic about the way a
such as mining new risk-taking business culture is developing. “I have
and clothing. written academic books arguing that Minas does not
produce entrepreneurs, but today it is changing.
There is a new generation that is innovative.”
Most of the big deals in the state are financed from
São Paulo or abroad. Last year, for example, Omega En-
ergia signed a R$350m ($209m, £131m, €152m) agree-
ment with private-equity firms Warburg Pincus of the
US and São Paulo’s Tarpon Investimentos (TRPN3:SAO)
to fund growth in Minas and outside the state. In Sep-
tember, Rio de Janeiro’s Mercatto Investimentos
bought 29.3% of Fornos de Minas, a food company, for
an undisclosed sum.
However, backed by the state development bank, a
local venture capital industry is taking root. In a state
where business owners have been notoriously unwill-
the former president of the Brazilian Association of Pri-
vate Equity and Venture Capital, says that there is space
in everything from traditional industries such as agricul-
ture, construction and mining as well as new ones such
as biosciences, pharmaceuticals, tourism, health and ed-
ucation. “Minas is the best kept secret in terms of invest-
ment opportunities.”
Political reforms aid development
Politics have helped pave the way for change. The state
government, led for the last eight years by Aécio Neves of
the Brazilian Social Democratic Party (PSDB), has adopt-
ed business-friendly policies. For example, it now takes
only eight days to open a company compared to eight
months before recent reforms, according to Dorothea
Werneck, the state’s energetic new secretary of economic
development.
The PSDB maintained control at October’s elections,
and although Mr Neves has moved on to take up a seat in
the Senate, his successor Antônio Anastasia intends to
continue along the same path. Ms Werneck is examining
ways that her department can stimulate the development
of small- and medium-sized businesses.
FINANCing BRAZIL Sowing
seeds in Minas Gerais 12 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011

State officials spend a lot of time explaining the
advantages of non-bank financing to business owners.
“The saying is ‘Minas works in silence’. I think there’s
nothing more harmful than this precept,” she says.
“There is lots of work to be done in explaining why it is
useful to have access to capital. ‘Don’t be afraid of inves-
tors’ – that is our most common advice.”
The state has helped in other ways too. The state de-
velopment bank, the Department Bank of Minas Gerais
(BDMG), is cooperating with a number of local players
after its board authorised spending of up to R$20m in
venture capital investments, an amount that could
eventually be increased to R$50m. It has already chan-
nelled some of the money into funds, investing R$2.5m
in the HorizonTI run by Belo Horizonte-based Confra-
par and R$10m in a separate fund invested in sustaina-
ble projects.
The bank is also looking at supporting a fund ear-
marking investment in innovative start-ups that is mod-
elled on the so-called Criatec Fund, a R$100m facility sup-
ported by other Brazilian development banks. “We
realised we need to do more than just offer credit. We
need to offer modern capital market instruments,” says
Paulo Paiva, its outgoing president.
Mr Paiva recognises that there are some limita-
tions. Onerous federal government regulations limit
the scope of development bank activity, for example.
But he says that the bank’s extensive contacts with
businesses based in the state can help open doors for
both domestic and foreign investors. “We can give an
entrée into the Minas business scene [which can be a]
closed shop,” he says.
Ties with academia
Another institution created by government, the Research
Support Foundation of Minas Gerais, best known by its
acronym Fapemig, has also emerged as a source of ven-
ture capital funding and was the first such foundation in
Brazil financially to support the sector. It has invested in
Confrapar’s HorizonTI and is investing in a life sciences
fund, run by the locally based FIR Capital (see below).
The federal universities in the state have put a new
emphasis on links with the private sector. In Belo Hori-
zonte, the federal university of Minas Gerais (UFMG)
runs an incubator – known as Inova – and a tech park is
being built in its grounds. Last year alone, the univer-
sity filed for 350 national and 110 international patents,
says Mr Campolina.
The products developed by UFMG range from
sports shoes to a vaccine for leishmaniasis, a poten-
tially fatal disease transmitted by sand flies. Produc-
tion of the shoes is already under way in the Minas city
of Nova Serrana.
Other federal university clusters are found at Viçosa,
famous for its technical prowess, which in conjunction
with the Fundação Arthur Bernardes, has spawned a tech
incubator and Lavras, renowned for agricultural courses.
Research centres include the Brazilian Agricultural Re-
search Corporation (Embrapa) in Sete Lagoas.
The Federation of Industries of Minas Ge rai s

INSIGHT North West West South

minas business Starting to attract energy There are steel and met- Centre for tech industries
at a glance intensive agro businesses als industries around including electronics and
thanks to cheap electric- the towns of Triângulo telecommunications.
ity. Irrigation is improv- Mineiro. Uberlândia is a In Itajubá industries
ing agriculture. centre of agroindustry, include auto parts, fibre
ethanol and chemicals. optics, textiles, electron-
North ics, helicopters (Helibrás)
Central Area and military weapons.
A mix of companies in (around Belo Horizonte) More than 110 companies
sectors ranging from are concentrated around
textiles to metals. Três 150km around the capi- Santa Rita do Sapucaí
Marias dam supplies hy- tal. Mining companies, and the so-called Elec-
droelectric energy for the steel and car and car tronic valley. University
region around the town parts. The best academic has stimulated cluster
of Montes Claros, where institutions, infrastruc- of electronic compa-
industries also include ture and technology re- nies. Home to Instituto
Minas Garais insulin and cement pro- sources. Companies with Nacional de Telecomuni-
Belo Horizonte duction and agribusiness. HQs in the area include cações and Escola Técnica
The Superintendência do Fiat, Arcelor, Toshiba, de Eletrônica.
Desenvolvimento do Nor- Usiminas and Google.
deste (Sudene) provides
financing for industrial East South East
development. The Vale do Aço/Rio
Mining and metallurgy
Doce is a steel center.
on the highway to Rio de
North East Janeiro.
Large companies include
Usiminas (steel) and
Vale de Jequitinhonha, Cenibra (paper and pulp).
one of the poorest areas
of Brazil. Underdevel-
oped mining includes
silica and graphite and
ornamental rocks.
FINANCing BRAZIL Sowing
seeds in Minas Gerais 13 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011

(Fiemg), which would like to foster closer ties with
academia, in particular in developing supply chains in
key manufacturing sectors, is also promoting its own
business education efforts.
Fiemg is cooperating in these efforts with the local
chapter of the Instituto Euvaldo Lodi, attached to the
National Confederation of Industry, to support and
train local businessmen and prepare them for outside
investment. “The institute is going to be the nerve cen-
tre of Minas industry. It will map out opportunities
and plan the path for industry,” says Olavo Machado
Junior, the federation’s president. He is seeking a tie-
up with the Fundação Dom Cabral, which has an inter-
nationally rated MBA programme.
Specialist business models
What’s more, Minas is rapidly developing a reputation as
a Brazilian hub for seed and venture capital, with a num-
ber of players from the state gaining national promi-
nence. Three specialised local managers have developed
business models that combine fund management with
advisory work.
Confrapar specialises in early-stage venture capital
and has tapped a range of funds and brought in gov-
ernment money. For its HorizonTI fund, Confrapar at-
tracted 40% of the monies from the Federal Ministry of
Science and Technology’s innovation programme,
known as Finep (whose Inovar programme supports
innovative ideas), and 30% from the state of Minas
through Fapemig and the BDMG. The remaining 30%
comes from 30 private Brazilian investors including
Confrapar’s own partners, high net worth individuals,
and family offices. HorizonTI typically invests about
R$2m in its target companies. It has made three invest-
ments and plans a further seven in companies in a
stage of fast growth. As Carlos Eduardo Guillaume,
chief executive of Confrapar, puts it: “There is no fund
like ours operating in São Paulo.”
Mr Guillaume is already seeing pension fund interest
as Confrapar starts to raise money for future launches
and predicts this year will be a tipping point as domestic
pension funds allocate more to private equity.
Who’s who in Minas
Company Name Name Job Title Email
Araújo Fontes Evaldo Fontes Managing partner evaldo@afs.com.br
Banco de Desenvolvimento de Minas Gerais (BDMG) Walter Elias Furtado Capital markets consultant walter@bdmg.mg.gov.br
Confrapar Carlos Eduardo Guillaume CEO carlos@confrapar.com.br
Consultant Dr Ivan Moura Campos ivan.mouracampos@gmail.com
Araújo Fontes, which started up sixteen years ago,
has a fund and advisory business. In its fast-growing ad-
visory business, the manager grooms companies by
putting in place proper accounting, struc-
“We have many more options
tures and policies. The managers present
to invest than capital under
these companies to some 70 venture capital
management. We would like
and private equity funds, charging the com-
pany a retainer and success fee on receiving
to attract more capital and to
investment that varies between 1.5% and
keep expanding our remit all
4.5%. In its advisory business, Araújo Fontes over Brazil”
is eclectic. It looks at companies with an annual income
of R$15m-100m across IT, mining, logistics, heavy and
civil construction and food production and distribu-
tion, says Evaldo Fontes, managing partner at the firm.
Demand for such opportunities is great and the advice
business is now scouting companies in Goiás, Paraná
and the northeast, in particular Recife, he adds.
On the other side of the business, it is managing a
R$15m seed capital fund focused on biotechnology and
life sciences called Novarum. Araújo Fontes is current- ACTION
ly selling stakes in the six companies in which No- POINTS
varum has investments. Mr Fontes says he would like
to launch either more seed capital or mezzanine and
credit funds. Mezzanine funds have the advantage of
allowing investors to buy convertible debt, giving
01 Local venture
them time to get comfortable with the company be-
capital company
fore committing equity, he says.
Araújo Fontes is
An important lesson from the experience with No- seeking out local
varum is that companies that benefit from venture and companies that are
seed capital need follow-on financing, says Mr Fontes. looking for third
“We learned the hard way that you need a second round party private equity
of funding for these small companies.” investors. Confra-
The third of this group of fund managers is FIR par and newcomer
Capital, which has been active since 1999 and in which DLM Invista are
Draper Fisher Jurvetson, the US venture capital firm, looking for foreign
acquired a minority holding in 2007. FIR Capital’s fo- participation in
cus is on innovative small and medium-sized compa- funds. FIR Capital
nies with sales of up to $150m per year. “We have many already works with
more options to invest than capital under manage- US partner Draper
ment. We would like to attract more capital and to Fisher Jurvetson.
keep expanding our remit all over Brazil,” says Mr
Regueira. 02 A tight-knit
business communi-
ty and suspicion of
newfangled financ-
ing impede deal-
making in the state
and makes a local
partner useful.

DLM Invista Mateus Tessler Operational manager mateus@dlminvista.com.br

03 The state devel-
opment bank Minas
E Prime Care Leonardo Florêncio Director of operations and innovation leonardo.florencio@eprimecare.com.br
Gerais Development
Federação das Industrias de Minas Gerais (FIEMG) Olavo Machado Junior President gabinete@fiemg.com.br
Bank and Research
FIR Capital Marcus Regueira Managing partner mregueira@fircapital.com Support Foundation
Lima Netto, Campos, Fialho, Canabrava Advogados Luciano Fialho Senior partner luciano.fialho@limanetto.com.br research centre
Portugal, Vilela, Behrens e Advogados Bernard Portugal Senior partner portugal@pvb.adv.br or bernardo@confrapar.com.br
(Fapemig), are both
Secretary of Development of Minas Gerais Dorotea Werneck Secretary secretario@desenvolvimento.mg.gov.br
active and receptive
to parties looking
Universidade Federal de Mians Gerais (UFMG) Clélio Campolina Rector info@prpq.ufmg.br
to get investment
Source: Brazil Confidential
ideas off the ground.
financing BRAZIL Sowing
seeds in Minas Gerais 14 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011

In Minas, FIR Capital has investments in Belo Hor- of the world, has an ageing
izonte that span the mining industry, including through population and there are
Devex, which offers solutions to optimise the running of limits to the amount of ad-
mines, and Sambatech, which has services that include ditional spending the public
simplified internet videos and streaming. FIR also in- system will bear, says Dr
vests outside the capital, including in Itajubá-based Safe Florêncio. In the short term,
Trace, which specialises in guaranteeing the provenance the country has a severe
of meat offering, an “auditable result in all production shortages of hospital beds,
stages, from the field to the consumer’s plate”. The man- he adds.
ager is currently seeking to raise R$400m for its fourth The company quickly
fund in Brazil. developed to cover in-
One Minas Gerais manager to watch is DLM Invis- hospital chronic illnesses,
ta, whose nascent private equity unit specialises in ranging from hyperten-
identifying software as a service (so-called SaaS) op- sion to diabetes. “When
portunities. (SaaS is a cheap, pay-as-you-go service we analysed the market,
for companies, offering Internet-based services in Dr Leonardo Florêncio we realised home health
areas such as accounting and customer relationship care represents just 0.5%
management.) CASE STUDY of patients whereas 30% of
The private equity unit is seeking to create a R$200m EPRIMECARE Brazilians have chronic ill-
fund and already has 40% committed from institutional ness,” he says. To scale up,
funds willing to put in more than R$1m apiece, with the The brainchild of a medical the business needed money
expectation that 20% of financing will come from for- doctor and a technician, Belo for research and develop-
eign sources, says Mateus Tessler, operational manager Horizonte-based Eprimecare ment and working capital. It
in the firm’s São Paulo office. DLM has identified hun- shows the many channels received a R$360,000 grant
dreds of companies to invest in both in Minas and other through which money is from Fapemig, the research
states, he notes. reaching determined Bra- institute. After intensive
All this is starting to attract growing domestic and zilian entrepreneurs. On coaching, Eprimecare and
foreign interest. For example, Mr Guillaume found its inception in 2005, the 12 other companies were
investors were cautiously receptive when he held company targeted efficiency presented by Finep at an
road shows for Confrapar last year in the US and UK. and cost improvements to investor forum and attracted
Yet many foreigners remain cautious. Perhaps one of outpatient treatment, sell- Confrapar.
the reasons is that for all its dynamism and opti- ing these services to health Outside investors helped
mism, the industry in Minas looks decidedly lopsid- insurers, says Dr Leonardo put in place structures rang-
ed, with the emphasis on tech companies rather than Florêncio, the chief execu- ing from marketing, and
industries in which the state has been traditionally tive. Improvements were fo- budget controls through
strong. Local industrialists complain that venture cused on making home-care to corporate governance.
capital funds are obsessed by high-growth areas. teams more efficient or, add- Fundamentally, the busi-
“They are ignoring a great swathe of Minas’ strengths ing technology to remind ness model has changed
in more basic industries,” says Mr Machado Junior at patients to take medicines, too: today the firm services
Fiemg. n for example. clients rather than selling its
In the long term, Brazil, proprietary technology, says
in common with the rest Dr Florêncio. n

Minas Gerais and federal research and funding institutions

Company Website Description

Associação Brasileira de Private Equity & Venture Capital www.abvcap.com.br Industry body for Brazil operating out of São Paulo

Companhia de Desenvolvimento Econômico de Minas Gerais (Codemig) www.codmig.com.br Mixed public-private sector company that directs investments in Minas with an emphasis
on infrastructure

Federação das Industrias do Estado de Minas Gerais (FIEMG) www.fiemg.org.br Industry association of the state of Minas

Financiadora de Estudos e Projetos (FINEP) www.finep.gov.br Financing body attached to Federal Ministry of Science and Technology that provides

money for technical studies and projects

Fundação Centro Tecnológico de Minas Gerais (CETEC) www.cetec.br Technology centre that works with companies to improve competitiveness

Fundação de Amparo à Pesquisa do Estado de Minas Gerais (FAPEMIG) www.fapemig.br Development agency that provides financing and support for technical innovation

INOVA Incubator www.inova.ufmg.br Incubator for technology firms at the Federal University

Instituto de Desenvolvimento Integrado de Minas Gerais (INDI) www.indi.mg.gov.br Institute that provides technical assistance for investors

Instituto Euvaldo Lodi (EL) www.fiemg.org.br/iel Institute attached to the National Confederation of Industry that gathers information
and plans long-term development

Universidade Federal de Minas Gerais (UFMG) www.ufmg.br Federal University of Minas Gerais

Source: Brazil Confidential

financing BRAZIL
fund monitor
This is the first of a regular series looking at the performance and strategies of Brazilian
investment funds.
SUMMARY We look at two Rio de Janeiro funds
that are positioned defensively: BNY
Fund Name:
Dreyfus Brazil Mellon Arx’s Dreyfus Brazil Equity fund
and Polo Capital’s event-driven and
Equity Fund
relative value fund.
Fund manager
group: BNY
Mellon ARX Dreyfus Brazil Equity fund
At 6%, BNY Mellon ARX’s forecast for 2011 inflation is at
Assets under the top end of the range. So, perhaps understandably, Al-
management: exander Gorra, the fund’s senior strategist, has taken a de-
US$1.3bn fensive stance in recent months: “In the fourth quarter, we
became very concerned with inflation; it was setting off all
Domiciles: Bra- our alarm signals.”
zil, Dublin, Korea, In response, Mr Gorra took profits on shares that he
Japan, and the views as sensitive to movements in interest rates and
United States. shifts in the economic cycle, and increased exposure to
stocks in sectors, such as raw materials, finance and utili-
Senior Strate- ties, which he considers to be natural hedges against ris-
gist: Alexander ing prices.
Gorra is based in In the utility sector, Mr Gorra says that he has pre-
Rio de Janeiro ferred companies that are involved in the generation
rather than distribution of electricity, arguing that gen-
erators enjoy more flexibility in relation to pricing. While
distribution companies face tough pressure from regula-
tors, generators typically negotiate power sales through
ten- to 15-year inflation-linked contracts. Even so, Mr
Gorra still carefully analyses specific companies, taking
care to spot when contracts come up for renewal when
prices can jump.
Among the generators he likes are AES Tietê
(GETI4:SAO) and Tractebel Energia (TBLE3:SAO). And
he also favours a couple of integrated generation and
distribution concerns: Companhia Paranaense de En-
ergia (Copel) (CPLE6:SAO) and Light (LIGT3:SAO). Po-
litical change – in the shape of the election of a market-
friendly candidate from the Brazilian Social
Democratic Party (PSDB) to the governorship of Par-
aná – has eased some of the regulatory pressures faced
by Copel. And Mr Gorra expects the Rio de Janeiro-
based Light to be a big beneficiary from the expected
rise in the state’s infrastructure spending and its im-
pact on local growth.
In the financial area, the range of stocks open for in-
vestment has widened following the listing of a number
of credit card and insurance companies. Mr Gorra is cau-
tious though about the prospects of small- and medium-
sized banks, arguing that his stance was partly vindicat-
ed by the R$2.5bn ($1.5bn, £0.9bn, €1.1bn) government
bailout three months ago of Banco PanAmericano
(BPNM4:SAO). “We have been concerned about hyper-
15 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011
growth modes. These banks were aggressively lending
without good risk-management capability,” he says.
The fund has 7.7% of its assets invested in Itaúsa
(ITSA4:SAO), the holding company of the eponymous
bank, which presents a useful arbitrage to the underlying
bank stock as it trades at a roughly 10% discount; 3.6% in
Bradesco (BBDC4:SAO); and 2% in Banrisul (BRSR6:SAO),
the state bank of Rio Grande do Sul. Mr Gorra says the lat-
ter is well established in the local market and is trading at
a discount of more than 20% to its peers, because the
stock is less liquid and the bank is controlled by the state
government.
Mr Gorra is keeping a beady eye on the retail sector,
where he has taken profits because of inflation. The fund
invests in Lojas Hering (LHER4:SAO) and Lojas Marisa
(AMAR3:SAO), which have performed spectacularly in
recent months, but have lost some momentum of late as a
result of rising interest rates.
Polo Capital Management
The terms of trade may be positive and portfolio inflows
strong, but Claudio Andrade, the manager of the Rio de
Janeiro-based Polo Fund, argues that the risks of invest-
ing in Brazil are becoming “significant positioning and
the commodity cycle have been long and the markets
could be vulnerable.”
Although the big picture is less salient, macro trends
do guide allocation. In 2008, the fund cut exposure to
natural resources stocks and concentrated on domestic-
related sectors, such as banking and homebuilders, while
last year it increased exposure to natural resources at the
expense of domestic retail names.
Like Mr Gorra, Mr Andrade is positioned defensively,
but Polo takes a distinct tack on his favoured utility and
banking stocks. Mr Andrade looks in particular at merg-
ers and acquisitions and regulation, and the way that
misperceptions about both these and the macro-pic-
ture can lead to price distortions. “We focus on specific
risk related to individual situations in everything from
risk arbitrage through to distressed situations. In gen-
eral, the fund is not a way to express macro bullishness,
but seeks out specific opportunities where there may be
overlooked opportunities,” he says.
In telecommunications, for example, Mr Andrade is
taking a close look at consolidation, arguing that restruc-
turing under way at Oi, the mobile company, is one factor
creating upside. Polo has a large position in Oi, which
took over Brasil Telecom (BRTO4:SAO) in 2008 and is now
negotiating a 12.7% stake to Portugal Telecom (PTC:LIS).
With that deal now completed, Oi is expected to integrate
Brasil Telecom and Mr Andrade is expecting manage-
ment improvements to follow. “Current manage-
financing BRAZIL
fund monitor
ment is largely ineffective,” he says.
SUMMARY
Mr Andrade is also watching potential changes in regu-
lations of electricity companies. He is particularly positive
Fund manager: about Companhia Energética de São Paulo (CESP)
Polo Capital Man-
(CESP5:SAO), the state-run generator, which he says has
agement
“had a terrific run” as investors turned less negative over
Manager the extension of the company’s concession and the new
location: Rio de government in São Paulo appeared more supportive.
Janeiro “CESP was a cheap option and had very little downside as
everyone became much more certain extension would be
Fund name: granted with a limited cap on what it can charge,” he says.
Polo Fund (event Regulatory changes are creating opportunities in
driven/relative the banking industry. For example, last year the cen-
value) tral bank moved to break up the duopoly that Redecard
(RDCD3:SAO) and Cielo (CIEL3:SAO) enjoyed in the
Assets under credit card business. More intense competition has
management: ensued with banks such as Santander (SANB11:SAO)
US$347m starting their own card operations, and that has driven
down spreads to a greater extent than the market had
Domicile: anticipated. n
Cayman Islands
Fund manager: Brazil local funds, long short as of Dec 31, 2010
Claudio Andrade 2010 2009
CDI 9.75% CDI 9.88%
Return Return Return Return
(%) (% CDI) (%) (% CDI)
BBM Equity Hedge FICFI Mult 12.74% 130.63% 26.89% 272.25%
Brasil Capital FICFI Mult 16.64% 170.61% 42.58% 431.14%
BNP Paribas Long And Short FI 13.21% 135.47% 13.08% 132.47%
Multimerca
Bnym ARX LS FICFI Mult 17.80% 182.51% 21.36% 216.25%
Bresser Hedge FI Mult 10.24% 105.01% 19.24% 194.77%
BRZ LS Advanced FICFI Mult 9.62% 98.68% 14.92% 151.10%
BRZ Long Short FI Mult 9.01% 92.36% 11.63% 117.78%
Claritas Long Short FI Mult 16.93% 173.57% 32.92% 333.32%
Constellation LS FICFI Mult 17.00% 174.32% 33.11% 335.27%
Ca Long Short FI Mult 10.84% 111.14% 12.41% 125.65%
CS Long Short Eq FIQFI Mult LP 11.35% 116.40% 18.04% 182.62%
CSHG Strategy LS FI Cotas de FI Mult 10.89% 111.64% 14.54% 147.18%
Duna Long Short FICFI Mult 11.11% 113.93% 12.42% 125.75%
Equitas Equity Hedge FI Mult 11.34% 116.25% 12.90% 130.65%
Explora Long Short 30 FI Mult 10.77% 110.42% 21.27% 215.33%
Fama Sniper FICFI Mult LP 7.03% 72.10% 26.01% 263.30%
FI Fator Arbitragem Mult 8.17% 83.78% 12.14% 122.96%
Fides Long Short Plus FI Mult 6.32% 64.81% 31.19% 315.81%
Fides Long Short FI Mult 7.03% 72.08% 18.02% 182.49%
Focus Long Short FI Mult 1.60% 16.38% 12.33% 124.85%
Gap Long Short FI Mult 16.99% 174.22% 13.81% 139.87%
Leblon Equities Hedge FIC FIA 16.94% 173.70% 46.85% 474.40%
Np Hedge FIC de FI Mult 10.77% 110.40% – –
Neo Long Short Feeder I FICFI Mult 13.51% 138.57% 7.68% 77.72%
Nest Mile High 30 FICFI Mult 9.65% 99.00% 4.98% 50.38%
Nest Mile High FI Mult 9.60% 98.45% 5.28% 53.44%
Oceana Long Short FI Mult 11.76% 120.64% 21.58% 218.50%
Perfin LS FI Cotas Mult 14.66% 150.39% 28.69% 290.44%
Pollux Long Short FI Mult 6.20% 63.63% 24.69% 249.94%
Polo Norte FI Mult 10.02% 102.74% 49.22% 498.30%
Polo CSHG FICFI Acoes 4.35% 44.63% 86.98% 880.70%
Quest Long Short 30 FI Mult 11.67% 119.66% 15.66% 158.54%
Schroder Brasil LS FI Mult 11.70% 119.99% 11.56% 117.06%
Sul America Equity Hedge FI Mult 9.63% 98.78% 12.11% 122.57%
Itau Equity Hedge Advanced Mult FI 11.84% 121.39% 8.23% 83.31%
Victoire Long Short CSHG Master FI 24.04% 246.53% 33.34% 337.53%
Mult
Average 11.47% 117.63% 22.22% 224.96%
Note: The CBI is an interbank lending rate against which long short funds typically measure their
performance.
Source: Brazil Confidential
16 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011
Brazil local funds, long bias and long only,
as of Dec 31, 2010
2010 2009
Ibovespa 1.04% Ibovespa 82.66%
Return Return Return Return
(%) (Ibov +) (%) (Ibov +)
Advis FIA 0.16% -0.88% 95.21% 12.55%
Aguasclaras Acoes FIC de FIA 29.67% 28.62% – –
Argucia Income FIA 14.95% 13.91% 88.08% 5.42%
Ashmore Brasil Acoes FICFI Acoes 0.48% -0.57% 101.52% 18.86%
Atico Acoes FIA -4.87% -5.92% 97.49% 14.84%
Atmos Acoes FIC de FIA 24.23% 23.19% – –
BBM Fermat FIA 19.26% 18.22% – –
Bc FICFI em Acoes 38.96% 37.91% 185.64% 102.98%
BNY Mellon ARX FIA 16.88% 15.83% 110.25% 27.59%
BNY Mellon ARX Income FIA 12.06% 11.02% 71.37% -11.29%
BRZ Valor FIA 15.35% 14.31% 127.97% 45.31%
Capitania Equities FIC FIA 5.08% 4.04% 106.10% 23.44%
Claritas Acoes FICFI em Acoes 13.74% 12.70% 90.22% 7.56%
Constellation FIC FIA 26.87% 25.82% 114.14% 31.49%
Cox FIC de FIA 37.87% 36.83% 104.69% 22.04%
CS “Fig” Premium FIA 3.98% 2.94% 81.33% -1.33%
CS Ibx Premium FIA 4.38% 3.33% 74.85% -7.81%
CSHG Strategy II FI Cotas de FIA 11.02% 9.98% 99.28% 16.63%
Duna Premium FIC de FIA 3.70% 2.66% 85.07% 2.41%
Dynamo Cougar FIA 22.55% 21.51% 81.55% -1.11%
Explora Long Acoes 30 FICFI Acoes 20.76% 19.72% 122.02% 39.37%
Fama Challenger FIC FIA 4.68% 3.64% 129.90% 47.24%
Fama Futurewatch FIC FIA 0.58% -0.46% 109.29% 26.64%
FI Fator Jaguar Acoes 1.03% -0.01% 81.45% -1.20%
Galleas Partners I FIA 7.96% 6.92% 81.62% -1.04%
Gap FIA 21.17% 20.12% 89.55% 6.89%
Gavea Acoes FICFIA 7.20% 6.16% 83.04% 0.38%
Geracao FIA -4.03% -5.07% 87.35% 4.69%
Gti Value FIA 18.54% 17.50% 163.51% 80.86%
Gwi Classic FIA 9.81% 8.77% 112.59% 29.93%
HG Top Acoes FICFIA 8.23% 7.19% 79.64% -3.02%
Humaita Value FIA 3.08% 2.04% 107.61% 24.95%
Ip Part FIC FIA 23.03% 21.99% 87.41% 4.75%
Ip Particip Institucional FICFI Acoes 24.10% 23.05% 86.41% 3.75%
Jardim Botanico Focus FIA 25.90% 24.86% 71.66% -10.99%
Kadima Acoes FIC FIA 12.19% 11.15% 60.67% -21.99%
Kondor FIA 14.40% 13.35% 133.52% 50.86%
Leblon Acoes FIC FIA 20.19% 19.15% 100.08% 17.42%
Leblon Equities Partners FIA 59.26% 58.22% 72.48% -10.18%
Long Brasil Acoes FI 10.22% 9.17% 92.53% 9.87%
M Square Acoes CSHG FIC FIA 27.75% 26.71% 84.55% 1.89%
M Square Acoes FICFIA 28.09% 27.05% 88.14% 5.49%
Maua Bolsa FIC FIA 1.96% 0.91% 103.25% 20.59%
Meta Valor FIA 6.38% 5.33% 77.03% -5.62%
Modal Bull FIC FIA 10.68% 9.64% 103.00% 20.34%
Oceana Valor FIA 4.69% 3.65% 100.07% 17.41%
Opportunity Logica II FIA -8.91% -9.95% 84.42% 1.76%
Orbe Value FIC FIA 18.91% 17.87% 35.62% -47.04%
Pollux Acoes FIA 20.29% 19.25% 159.77% 77.11%
Quest Acoes FIC FIA 10.17% 9.13% 87.91% 5.25%
Rb Fundamental Mb FIC FIA 9.92% 8.87% 63.81% -18.84%
Rio FIA 9.52% 8.48% 113.99% 31.33%
Schroder Alpha Plus FIA 0.64% -0.40% 72.98% -9.68%
Skopos HG FIC FIA 47.03% 45.98% 97.45% 14.79%
Squadra Long Biased FI Cotas de FIA 21.89% 20.84% 98.66% 16.00%
Squadra Long Only FI Cotas de FIA 30.67% 29.62% 157.83% 75.18%
Sunset CSHG FIC FIA 15.91% 14.87% 149.89% 67.23%
Tarpon CSHG FIC FIA 38.81% 37.76% 76.03% -6.63%
Tempo Capital FIC FIA 2.02% 0.98% 63.25% -19.40%
Vinci Gas Dividendos FIA 5.27% 4.22% 51.80% -30.86%
Vinci Gas Fundamento FIC de FIA – – – –
Vinci Gas Long Biased FICFIA – – – –
Vinci Gas Lotus FIC de FIA 0.37% -0.68% 95.81% 13.16%
Xp Investor FIA 9.45% 8.41% 145.35% 62.69%
Average 14.45% 13.41% 97.93% 15.27%
Source: Brazil Confidential
consumer BRAZIL 17 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011

low-income groups feel the burden of

debt

find an additional R$1,000. Take into account the R$550

SUMMARY Central bank moves to cool lending monthly service charge for her apartment and Ms Campos

Consumer debt come as many Brazilians are feeling

has little money available for anything else. “I have to try
the pinch of paying by instalments. not to spend, I economise a lot,” says Ms Campos.
is growing in Second, much of the recent increase in borrowing has

C
Brazil but is still ristina Campos is caught in a vicious circle. The been by low-income groups, who are especially depend-
relatively small 58-year-old São Paulo school teacher owns her ent on the instalment system. A study by MasterCard
as a percentage
own apartment, but still has debts equal to (MA:NYQ), the credit card group, showed that in classes
of GDP. However,
more than ten times her R$3,000 ($1,804, £1,118, C and D (households with incomes of between R$705 and
loan rates are
high and many €1,307) monthly salary. “I owe to everyone,” says Ms R$4,854 per month) 54% did not have bank accounts. Fig-
borrowers are Campos. “I began using cheque especial [a Brazilian form ures from Experian (EXPN:LSE) show that between 2007
unsophisticated. of overdraft]. Then I used a credit card to buy things in and 2010, loan growth was fastest among the lowest of
the supermarket. Then I took out a loan from the bank. Brazil’s five income quintiles, the so-called E class, a cat-
Much recent Because I’m a public servant, it’s easier to borrow mon- egory that is even more dependent on instalment credit.
borrowing has ey. Then I end up owing the loan and the credit card and Many of these new borrowers have little experience of
been by low- it all mounts up.” debt and tend to be very unsophisticated borrowers.
income groups, Ms Campos is part of a broader trend. As banks extend “Consumer credit is a little like alcohol,” says Roque
who are less likely lending to low-income customers, people like Ms Cam- Pelizzaro Junior, president of the National Confederation
to have bank pos have started to borrow more and are finding it harder of Shopkeepers in Brasília. “When you start out, you of-
accounts and are and harder to make repayments. Recent research by the ten overdo it.”
more dependent National Confederation of Goods, Services and Tourism,
on expensive in- showed that nearly three out of every five households
stalment arrange- were in debt and that more than one in five families were Consumer credit climbs higher
ments offered by late in making payments to their creditors. In the same
Total credit operations to the private sector
Total credit operations to individuals including mortgages
retailers. survey, 7.9% of respondents said that they would be una- Total credit operations to individuals
Mortgage operations
ble to pay down their debt.
The lack of Consumer debt levels are still a lot lower in Brazil than in
50%

reliable national the developed world but figures from the central bank show 40%
credit bureau
the stock of consumer debt has edged upwards in recent
makes it difficult 30%
years, amounting to 14.6% of gross domestic product last
for banks to price
risks and adds to year, compared to less than 6% in 2003. And in addition sev- 20%

the cost of credit. eral features of the market give cause for concern.
First, borrowing is expensive, partly because basic in- 10%

Banks are terest rates are high and partly because creditors typical-
0%
relatively ly charge quite high spreads. Ms Campos enjoys the ben- 2003 2004 2005 2006 2007 2008 2009 2010
Note: Consumer loans as a percentage of GDP
sanguine about efit of special low-interest loans that her bank, the Source: BCB-Depec and IBGE
their exposures, publicly owned Banco do Brasil, has made available to
although the civil servants. But she still pays interest on a five-year
central bank has R$30,000 loan at 2.5% per month. Although lending rates The poorest borrow more
moved to clamp have fallen sharply over the last decade, they still average More than R$10,000
R$2,000-5,000
R$5,000-10,000
R$ 1,000-2,000
down on lending about 40% a year. R$500-1,000 Less than R$500
by increasing Moreover, about 40% of Brazilians do not have a bank 150
minimum reserve account and are therefore dependent on credit extended
requirements. by retail stores where loans – embedded in instalment ar-
rangements – can cost as much as 16% per month. In Brazil
even basic goods are bought with monthly instalments. 120
Together with credit card instalments and high rates for
services such as fees for private health care or education,
high outgoings mean that Brazilians are often stretched.
As well as meeting her bank loan payments each month,
90
Ms Campos, for example, pays interest on her credit card 2007 2008 2009 2010
Note: Base 2007=100
debt at the rate of 11% per month, which means she has to Source: BCB-Depec and IBGE
consumer BRAZIL low-income
groups feel the burden of debt 18 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011

All this is complicated by a third factor. Brazil

lacks a reliable national credit bureau, so lenders have to
rely on a patchwork quilt of private data and a voluntary
credit bureau, where it is up to borrowers to register. This
lack of information helps explain why banks take a con-
servative approach to lending and make such high esti-

LATIN CONTENT/GETTY IMAGES

mates for non-payment.
“Even the largest banks have significant gaps in their
data,” says Francisco Valim, Experia’s Chief Executive. “In-
dividual credit behaviour is a mystery to all the banks and
none have differentiated themselves in assessing risk. Indi-
viduals can outsmart banks by taking credit from multiple
sources.”
Even so, creditors are relatively sanguine. Mr Pelizza-
Alexandre Tombini, president of the central bank, last month in Davos.
ro says recent increases in minimum salaries (scheduled
The bank has clamped down on lending
to rise to R$545 a month in February) and falls in unem-
ployment have helped the capacity of borrowers to ser-
vice their obligations. INSIGHT implied rates charged by
And banks are trying to expand their business among CONSUMER retailers ranged from 6.7% to
low-income customers. For example, Bradesco, one of Bra- as much as 29% over the same
zil’s biggest banks, has waived requirements for mini-
PRESSURE GROWS period.
mum balances and no longer insists on proof of earnings, The findings are likely
measures that have helped it open 11m accounts for low- Controversially high lending to add pressure for more
income customers since 2000. rates are attracting grow- effective regulation of
Bradesco’s managing director, Odair Afonso Rebelato, ing interest from consumer consumer lending. Ms Gunn
says the bank takes a conservative view of risk, assuming groups, with banks the butt says that poorer customers,
that 10% of borrowers will default, compared to a current of much criticism. Lower especially those who rely on
rate of 7%. Banks and retailers alike offer only small income consumers are par- store cards, national lottery
amounts of credit to individual low-income customers. ticularly vulnerable to falling outlets and other non-bank
Mr Pelizzaro, for example, says credit is typically set at a victim to the credit trap, says lenders, are not provided
month limit of R$500. Lisa Gunn, executive coordi- with sufficient information
Moreover, many banks also insist that borrowers nator at the Institute for the about borrowing costs. She
agree to pledge future earnings under so-called credito Defense of the Consumer in says that the IDEC is work-
consignado arrangements. “Most bank exposure is con- São Paulo. ing with the Ministry of
centrated in very safe payroll deducted credit, taken at According to a federal Justice to push for tighter
source before it gets to the employee,” says Celina Van- complaints register, which regulation of the sector.
setti-Hutchins, senior analyst at Moody’s (MCO:NYQ), records consumer actions “We want to move away
the credit rating agency, in New York. made through the official from the model of just fixing
Even so, the authorities are seeking to cool the market, consumer defence organiza- problems after they have oc-
with the central bank clamping down on bank lending in tion, Hipercard Banco Múlti- curred,” she says.
December by imposing higher reserve requirements. n plo received the second larg- The National Monetary
est number of complaints Council, a government
Bad loans by credit amount of any company during 2009 regulatory body, already
R$0-50 R$50-100 R$100-250 R$250-500 More and 2010. Banco Itaucard was publishes a list of suggested
than R$500
2008 27.51 22.18 23.95 12.91 13.45
the third most complained tariff levels. The CMN plans
2009 25.98 24.71 23.11 12.12 14.07 about organization. Publicly- to introduce a code to reduce
2010 32.31 20.95 22.54 10.98 13.23 owned Banco do Brasil and the number of charges banks
Note: Percentage of total bad loans by year Banco Citicard were in eighth can make in relation to cards
Source: CNDL Brazil
and ninth spots. in order to simplify the sys-
Consumer credit as a percentage of GDP High rates and charges tem and make it more trans-
Including mortgages Without mortgages were the main bugbear. In parent. Separately, in order
Brazil 19% 15.20% its own provisional survey, to clamp down on abusive
Mexico 6.20% 3.20%
IDEC found that consumers lending with unrealistically
Argentina 6.10% 4.20%
Chile 44.50% 9% can pay charges and interest low minimum payments,
France 53.70% 12.90% payments equivalent to up the CMN is considering
Germany 40.30% 9% to 45.4% over a 60-day period increasing minimum card
Spain 77% 14.40%
India 9% 4.30%
on borrowings from one payments to 15% in June and
US – 16.50% credit card company. Similar again to 20% in December. n
UK – 15.30%
Source: Central Banks (or its equivalent) of each country for credit data and IMF for GDP
BUILDING BRAZIL 19 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011

SHOPPING CENTRES: FAST GROWTH,

REGIONAL OPPORTUNITIES

fast. Already all municipalities with a population of more

SUMMARY Shopping mall owners were star-perform- than 400,000 have at least one shopping centre – showing
Brazil has ing stocks in 2010, benefiting from the how the most ambitious mall owners have been headed
twin booms in property and retail. We into the interior. Now another tier of towns – those with
room for more
shopping malls, believe that regional exposure is central to populations above 200,000 – are coming into play.
with the biggest companies’ longer-term attractiveness. The market leader: BR Malls
operators boast-
Five mall companies – Multiplan, BR Malls (BRML3:SAO),
ing vacancy rates

T
his week has seen the disappointing IPO of Sonae Aliansce, and Iguatemi (IGTA3:SAO), and General Shop-
under 3%.
Sierra (SSBR3:SAO), the first of several medium- ping (GSHP3:SAO) – have floated on the Bovespa since
Mall owners sized shopping mall owners expected to list in São
are enjoying wide Paulo in 2011. Sonae Sierra priced its shares at R$20, be-
margins, and low the target range of R$21.50-$26.50, giving the offer- Shopping malls, 2000-2012
appear fairly insu- ing an overall value of R$478m ($287m, £177m, €207m). No. of shopping malls

lated from infla- But that underwhelming entrance should not deter in- 500

tion and interest vestors from the sector’s underlying growth story.
400
rate rises. Flush with rising wages and easier credit, Brazilians
are spending faster than they save. Retail sales have 300
Consolidation grown by over 8% year-on-year for each of the last four-
so far has been teen months; the latest figures, for November 2010,
200

modest, and is showed a 9.9% increase, above forecasts. 100

likely to acceler- Malls – which offer consumers choice, security, and
ate only after the respite from the heat and rain – are well-positioned to 0
00

01

02

03

04

05

06

07

08

09

20 10

20 (e)

)
ongoing growth

(e
20

20

20

20

20

20

20

20

20

20

20
benefit. Thanks to increased car ownership, they are

11

12
spurt. more accessible to low-middle income earners, such as Source: Abrasce, individual companies

the Classe C, who make up 52% of the population. Multi-

plan (MULT3:SAO) and Aliansce (ALSC3:SAO), the first Gross leasable area in malls, 2000-2012
major mall owners to report full-year figures for 2010, Mil. m2 Total GLA/m2 Growth in GLA
saw a year-on-year same-store sales increase by 12.4% and 15 15%

14.9% respectively. With rents increasing as part of the

12 12%
wider property boom, the companies’ ebitda margins are
typically 60-80%. 9 9%

The number of malls in Brazil has risen from 280 in

6 6%
2000 to 408 in 2010. Gross leasable area (GLA) has in-
creased over 80% during the same period: from 5.1 mil- 3 3%

lion square metres to 9.5 million square metres.

0 0
Yet, despite this steady increase in supply, vacancy
)
20 (e)
(e
00

01

02

03

04

05

06

07

08

09

20 0
1

12
11

rates at all the biggest mall owners have fallen below 3%.
20

20

20

20

20

20

20

20

20

20

20

That suggests there’s room for expansion. Brazil’s mall Source: Abrasce, individual companies

sector is relatively underdeveloped compared to interna-

tional peers. Malls represent only 18% of total retail sales,
Sales in malls, 2000-2010
compared to 50% in Mexico. Brazil currently has 49 square
R$bn
metres of GLA per 1,000 people, while Mexico has 105
100
square metres.
However, the regional picture is varied. In São Paulo and 80
Rio de Janeiro, the opportunities for new malls are limited.
Malls account for nearly half of retail sales in those two cit- 60
ies; in São Paulo, fewer than ten cinemas are now located
outside of shopping centres. Cost pressures are increasing, 40
due to exceptionally high land prices and rising construc-
tion costs. Meanwhile, growth potential appears stronger 20
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
in secondary cities, where retail sales have been increasing
Source: Abrasce
BUILDING BRAZIL SHOPPING CENTRES:
FAST GROWTH, REGIONAL OPPORTUNITIES 20 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011

2007. Their primary and secondary share offerings Brookfield Brazil Retail Fund:
raised a total of $5.8bn, and the stocks rallied sharply in Brookfield Asset Manage-
2010, beating both the Bovespa and the fourteen-member ment (BAM:NYS) launched
property index. (Some stocks slipped back in January – the Brookfield Brazil Retail
potentially because investors are switching to sovereign Fund in 2007, and has invested
bonds, expecting further interest rate rises, says Guil- $800m in 15 shopping malls,
herme Assis, an analyst at Raymond James.) including one that is under
BR Malls has built up the biggest portfolio of malls development. Having initially
largely through acquisitions – most recently, buying aimed at high-income seg-
mall owner CIMA for R$800m in late 2010. There is still ment, Brookfield now plans
considerable mileage in this strategy, given than much to focus more on Classe C

BLOOMBERG
of the sector remains in the hands of small groups, consumers, outside the major
which are often locally focused and family-run. The capitals.
biggest four listed owners – Multiplan, BR Malls,
Aliansce, and Iguatemi – currently own just 15% of the Shoppers in a mall in Brasília in Brazilian retailers: The
country’s leasable area. (Their footprint rises to 27%, if December malls’ buoyant mood goes
one counts the entire GLA of the malls in which they alongside that of major
own stakes, and not just their shares.) INSIGHT retailers, such as Lojas Ren-
BR Mall’s strategy has entailed taking on a fair Alternative ner (LREN3:SAO), Marisa
amount of leverage – net debt was 25% of its equity ways to invest (AMAR3:SAO), and privately
value at the beginning of the year, and the company in the sector held C&A. About half of
has subsequently raised $300m in perpetual bonds Marisa’s 278 stores are in
yielding 8%. However, with rents linked to inflation, Squarestone Brasil: Prop- malls; they are frequently an-
current debt levels appear manageable. erty developer Squarestone chors for Classe C complexes.
Crucially, the company, in which US investor Sam Zell turned to Brazil after selling The chain has introduced its
has been reducing his stake, is geographically diversified, its UK portfolio in 2006, but own credit card for custom-
with 46% of its GLA outside of São Paulo and Rio de Janei- has struggled to live up to ers, and another card in
ro. Recent inaugurations include a mall in Sete Lagoas (Mi- its own expectations. The partnership with Itaú Bank,
nas Gerais) – the first in a town of 214,000 people – which company aimed to raise at which together account for
attracted over 40,000 shoppers on the first day. Over 80% least £150m in an IPO on the more than 50% of purchases.
of BR Malls’ planned expansion is in the two biggest cities, UK’s AIM market last April,
yet the company is likely to make acquisitions elsewhere. but was forced to rethink Supermarkets: Supermar-
Its ebitda target of $1bn by 2013 is ambitious and credible. amid low interest. Ulti- kets, including Lojas Ameri-
However, other mall owners risk being drawn into a mately, only one of its two canas (LAME4:SAO), Pão de
battle to squeeze São Paulo and Rio de Janeiro. Iguatemi, malls – Golden Square in São Açúcar (PCAR3, PCAR5:SAO),
in particular, looks overly concentrated on the high-in- Paulo – was included in the and chains owned by
come market in São Paulo, home to two-thirds of its leas- listed vehicle, Squarestone Walmart and Carrefour, are
able area. Multiplan, which is currently strong in Minas Brasil. The listing raised a growing in importance. Their
Gerais, is also planning most of its expansion in the modest £39.5m, attracting no ability to set up stores away
south-east. (Unlike Iguatemi, Multiplan is seeking to ca- US investment, perhaps be- from malls, and attract other
ter to different socio-economic groups – Classes A, B and cause of currency risk. With shops to come with them,
C – within the same mall.) financial losses continuing may ultimately challenge
In contrast, Sonae Sierra, which will reinvest around during the Golden Square’s mall owners’ dominance.
half of the proceeds of its IPO in expansion projects, is development stage, Square-
seeking to redress its lack of regional exposure. Eight of its stone’s shares have seen Cinemas: The shift towards
existing ten shopping centres are in São Paulo, but its three little volume. Squarestone’s ‘destination retail’ – whereby
development projects lie in Minas Gerais, Paraná and privately-held asset – a mall the malls aim to offer con-
Goiás. By 2013, therefore, 48% of its GLA will lie outside São in Garulhos, São Paulo – has sumers a day’s entertain-
Paulo (it has no presence in Rio). However, its current va- more momentum, following ment, beyond shopping – has
cancy rate – an above-average 3.9% – is a slight concern. a refurbishment. Sales grew seen a rise in the number of
18.4% year-on-year in Decem- cinemas. There are now 2,502
Private equity digs deeper ber, a good basis for filling cinema screens in Brazilian
The modest approach of some listed players – who are ex- empty stores and renewing malls: an average of 6.1 per
cessively focused on the south-east, with limited lever- five-year rents. Squarestone mall, up from 3.3 per mall in
age – opens the door to private equity. Prosperitas an- is now selling the mall, 2005. The market leader is
nounced in November that it is investing in Macapá, worth around £55m, and says Cinemark (CNK:NYQ), with
Amapa (population 398,000), currently the biggest town potential buyers include pen- 433 screens, 82 of which have
in Brazil without a mall. Together with a local partner, the sion funds, mall operators 3D technology; it plans to add
group will invest approximately RS$110m in the and wealthy individuals. a further 50 screens this year.
BUILDING BRAZIL SHOPPING CENTRES:
FAST GROWTH, REGIONAL OPPORTUNITIES 21 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011

development.
Mall stocks outperformed the Bovespa Similarly, Vision Brazil Investments, a hedge fund that
in 2010 bought the majority of Barueri mall in São Paulo from Gen-
Bovespa Iguatemi BR Malls
Aliansce Multiplan
eral Shopping, is planning to invest in up to five
malls in second-tier cities in Paraná, São Paulo, “Large, out-of-town
175
Rio de Janeiro, and Bahia. Its strategy is to estab- retail parks may emerge,
lish the first mall in an area, sealing contracts marking a shift away from
150
with anchor stores to create an obstacle to rival fashion-centred malls.”
developments nearby. Ken Wainer, a partner of
125
VBI, says costs have been kept low, for example by buying
up land not on the market. First-movers to the regions
100
should accrue significant advantage.

75
Borrowing from abroad
10

10

10

10

10

10

10

1/ 0

1/ 0

1/ 0
0
11

11

As malls spread throughout Brazil, their character is

1
/1

/1

/1
1/

2/
2/

3/

4/

5/

6/

7/

8/

9/
10

11

12

3/

1/
1/

1/

1/

3/

1/

1/

2/

1/

Note: Rebased (01/02/2010 = 100) changing. Most obviously, malls are becoming bigger.
Source: Datastream, Brazil Confidential Average GLA now stands at 23,300 square metres, up
from 18,200 square metres in 2000. Complexes with less
New malls are bigger than 10,000 square metres of GLA – which currently rep-
Share of malls in Existing malls Planned malls* resent one in four malls – are no longer being built.
each size bracket
Malls are also becoming part of larger complexes, as
0-10,000m2
owners seek modest diversification from retail. Multi-
10-20,000m2
plan is including 16,830 square metres of office towers in
20,000-30,000m2 two of its new São Paulo malls; it says it sold 6,680 square
30,000-40,000m2 metres of offices in another São Paulo project within
40,000-50,000m2 three days, with no advertising. Aliansce plans to add a
50,000-60,000m2 fifteen-story office tower to its new Boulevard Shopping
Over 60,000m2
Belo Horizonte. Iguatemi announced in January 2011 that
0 5 10 15 20 25 30 35 it is investing R$383.6m in a mall in Votorantim, São Pau-
% of total lo, whose 60,000 square metres of GLA will include four
Note: Estimates for two malls unavailable. *Planned 2011 and 2012 inaugurations only office blocks with an estimated sale value of R$80m.
Source: Abrasce, individual companies
Ultimately, as land prices rise, and transport links
improve, large out-of-town retail parks may emerge.
The rise of cinemas in malls Such developments would mark a shift away from fash-
Avg. no. of
screens per mall
ion-centred malls. Certainly, short-term data suggest
7 that clothing is no longer driving malls’ success. Sales
6 of clothing rose only 9.2% year-on-year in November,
compared to a 20.5% rise in furniture and household
5
items. BR Malls’ anchor stores, many of them fashion- ACTION
4
focused, saw only 6.9% growth in the fourth quarter of POINTS
3
2010. But for the moment, malls are likely to diversify
2
their offering away from fashion, without lurching to- 01 Shopping malls’
1 wards the outskirts. sales are likely to
0 Several owners claim that they gain competitive ad- grow faster than
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
vantage by using internationally-tested techniques.
overall retail sales
Source: Abrasce
General Shopping has opened an open-air mall in
in the short and
medium term.
Mall owners’ regional presence Campinas (São Paulo) – a low-cost model in terms of
construction and air-conditioning, which it plans to
Current Including announced expansions 02 BR Malls,
replicate elsewhere in south and south-east Brazil. So- with its aggres-
BR Malls nae Sierra Brasil points to IT systems used by its own- sive growth stance
Aliansce ers elsewhere. Squarestone Brasil (SQB:LSE) says it has and its regional
Multiplan introduced western European mall style: increasing presence, has
Iguatemi visitors’ stay in the mall by moving the food court to particularly strong
General Shopping
the top floor, while also redesigning the complex to prospects.
improve lighting.
Sonae Sierra
Such innovations may help owners to eek out advan- 03 Significant pri-
vate equity oppor-
(Whole sector)
tage in highly competitive markets in the biggest cities.
0 10 20 30 40 50 60
% of owned GLA outside São Paulo and Rio de Janeiro In growth areas, however, the emphasis will remain on tunities exist beyond
Source: Individual companies, Brazil Confidential getting in first and tying up key anchor stores. n the traditional hubs.
GUEST COLUMN
michael power
brazil’s growing
africa engagement
I
t is perhaps not surprising that Petrobras is
gaining prominence in West Africa. After all,
surely Brazil’s oil giant has access to “inside
information”, obtained in the form of
geothermal readings gleaned from oil-bearing
basins that are adjacent to similar structures on
the other side of the South Atlantic? But Brazil’s
growing relationship with Africa is about much
more than these geological bookends.
Historically, of course, there has been the
common experience of the slave trade and
European colonialism. But the relationship
has started to acquire new intensity in the first
years of the twenty-first century.
For a start, the agreement of peace in Angola, the
biggest of Portugal’s former African colonies, has
helped trigger a big build-up of trade and invest-
ment ties between Brazil and lusophone Africa. From
heavyweights, such as Vale and Petrobras, to a string
of construction concerns, Brazilian business has
moved into the African mainstream. Vale is a domi-
nant player in Mozambique’s burgeoning coal sector.
In Angola, Odebrecht is the largest employer in
the private sector and is involved in activities ranging
from construction to ethanol and supermarkets. It, is
present in Mozambique, too, as well as Liberia, Libya,
and South Africa.
Elsewhere, Andrade, for example, is building the
Boussiaba Dam in Algeria, the Mongomeyen Airport
in Equatorial Guinea and a new road in Mauritania,
while Camargo Corrêa is developing the Mepanda
N’Kuwa hydroelectric plant in Zambia, the Benguela
cement plant in Angola and, in conjunction with
the Brazilian owner, Vale, the Moatize coal complex
in Mozambique. Brazil’s bankers, it now seems, are
following their corporations: the state-owned Banco
do Brazil and the private bank, Bradesco, have joined
forces to partner Portugal’s, Banco Espírito Santo.
The new combine aims to acquire stakes in financial
institutions across the continent.
Second, after his election as president in 2002
Luiz Inácio Lula da Silva gave much more promi-
nence to his country’s diplomatic presence, both in
Portuguese-speaking countries and the continent
more generally. During his two terms in office Mr
Lula da Silva visited Africa on no fewer than 12 sepa-
rate occasions, visiting a total of 17 countries. Brazil
opened a dozen new embassies in Africa and Mr Lula
da Silva has declared that one of his biggest priorities
in future will be to increase further the ‘South-South’
linkages between the two regions.
Africans view the success of Brazil’s poverty reduc-
22 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011
tion programmes with increasing interest. Bolsa
Família, a social welfare payment conditional on
school or clinic attendance much expanded by Mr
Lula da Silva, has been widely copied, with five Afri-
can governments – those of Kenya, Ghana, Ethiopia,
Zambia and Malawi – introducing similar schemes.
Brazilian state-owned financial institutions have
reinforced this engagement. The BNDES, Brazil’s
state-owned development bank, has extended some
$2bn (R$3.4bn, £1.3bn, €1.5bn) of credit lines to
Angola.
Technical cooperation is already growing
between Africa and Brazil is on the rise too.
Michael Power,
Strategist at Embrapa, Brazil’s legendary agricultural research
Investec Asset institute, initiated one of its most important research
Management in breakthroughs by using African Kikuyu grass as a
Cape Town, South durable hybrid for the cattle ranches of the Mato
Africa Grosso. Now that African “favour” is being returned
with Angola, Mozambique and other governments
deploying Brazilian technology to build up embryon-
ic industries based on ethanol and other green fuels.
The Brazilian ‘do-it-my-way’ approach to pharma-
ceuticals, especially in the low-cost production of
anti-retrovirals, has many African admirers: a plant
to manufacture ARVs using Brazilian technology and
expertise is being established in Kenya.
But one should not conclude that the corporate
traffic is all from west to east – far from it. In fact, the
likes of mining giant Anglo American have long been
one of the largest foreign investors in Brazil. Naspers,
the South African media conglomerate, has invested
heavily in Brazil since 2006, buying into magazine
publisher Grupo Abril, the mobile value-added ser-
vices company Movile (formerly known as Compera
nTime) and BuscaPé, the e-commerce business.
In November SABMiller, which has already made
significant investments elsewhere in Latin America,
took new steps to breach the Brazilian market, when
it acquired a small Argentine brewer.
More importantly, underpinned by this network
of commercial and political ties, geo-economic and
even geo-strategic interests have also started to
converge. Resource-rich Brazil and Africa have made
common cause in global economic forums. Brazil and
South Africa – along with India – are already cooper-
“Mr Lula da Silva ating closely in trade negotiations linked to the Doha
visited Africa on Development round. The two regional trade organi-
no fewer than sations to which they are linked – South America’s
12 separate Mercosur and Southern Africa’s SADC – are working
occasions, visiting together as well. Against a background of a multi-
a total of 17 decade bonanza in demand for resources, that com-
countries” monality of interest can only strengthen. n
The best of
local comment
The Brazilian central bank increased
interest rates on January 19, dampening
inflationary pressure but adding to the
pressure on the overvalued Real. Further
rate rises are seen as probable when
the bank’s monetary policy committee
meets in March. Fearing for the impact
on competitiveness and jobs, business
and trade unions are unhappy about the
policy and the issue has figured promi-
nently in debate within the Brazilian
media. Pro-market commentators such
as Luiz Carlos Mendonça de Barros argue
that rates may have to be increased much
higher if the spectre of rising inflation is
to be vanquished. But more radical com-
mentators such as Antônio Delfim Netto,
the Keynesian former economy minister,
argue that the authorities should adopt a
more pragmatic stance.
Brazil’s inflation
dilemma
Luiz Carlos Mendonça de Barros,
strategic director of Quest Invest-
ments, writing in Valor on Jan 17:
Inflation is already a serious problem in
countries such as China, India, Russia and
Brazil, partly because aggregate demand
in these economies is now greater than it
was before the crisis. But Brazil is a country
that could have particular difficulty in
adjusting. There is virtually full employ-
ment and unions have been able to achieve
wage increases at above the rate of infla-
tion. Many private companies are battling
to retain technically qualified staff and
such is their optimism about their incomes
and the future availability of credit that
Brazilians are continuing to increase their
spending. The public sector is also spend-
ing at a much faster rate, reinforcing the
growth of domestic demand. And invest-
ment, both by the private sector and the
states, is also strong. Sectors such as oil
and electricity are scheduled to increase
their investments, as plans to exploit the
pre-salt oil reserves and build the two
hydroelectric dams on the Madeira River
come to fruition. So, all in all we have a
difficult situation in Brazil: high levels of
consumption and investment; some key
inputs like labour and cheap electricity in
short supply; and international food prices
becoming more expensive. What’s worse in
some ways we are in a more difficult posi-
tion to confront these problems than we
Antônio Delfim Netto slams
“semi-terrorist bombardment”
were in 2007 and 2008. Then the Real was
appreciating strongly against the dollar,
government spending was lower and the la-
bour market a lot looser than it is today. A
little while before the crisis on Wall Street
there was an expectation that a rate rise of
between 400 and 500 basis points would
be necessary to slow the economy down. It
makes you wonder whether the 200 basis
point increase that the market is now pric-
ing in will be enough.
Let’s look at
things from
a new angle
Rubens Barbosa, writing in O Globo
on Jan 25:
The immediate reaction of economists and
the specialist media to the spike in infla-
tion has been to consider as inevitable an
increase in interest rates that are already
the highest in the world. … The time has
come to look at this from a new angle. The
government and the private sector must
start a debate about the criteria the central
bank use when they think about rates. …
In Brazil, we take a more strictly monetary
view [when we set interest rates] whereas
in the US there are wider concerns [such as
unemployment and economic growth]. …
After 15 years of successful economic poli-
cies that have kept inflation under control,
Brazil is entering a new phase, oriented
towards growth, expansion of the internal
market and its competitive connection to
overseas markets. In this context we need to
re-evaluate polices that made a lot of sense
in the previous stage. When it defines its
interest rate policies the central bank ought
not to base its analysis on purely financial
criteria. It is worth reviewing the rules to
include a concern for employment and
growth, in the way that the central banks of
the US and China do.
23 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011
The need to get
fiscal policy right
Miriam Leitão and Alvaro Gribel,
writing in O Globo on Jan 21:
Rising interest rates produce perverse ef-
fects in the economy. The most immediate
is to send signals to the foreign exchange
market that achieve exactly the opposite of
what is intended. Brazil is not the only coun-
try to increase rates. China and India have
also done so. But rates in Brazil are already
far too high, and that makes the country
more attractive for capital that wants to
come for the short term. To get out of this
problem, there has to be more convergence
between monetary and fiscal policy. The
central bank can’t get the economy right on
its own.
Bombardment
from financial
terrorists
Antônio Delfim Netto writing in Carta
Capital, a left-of-centre news weekly
on Jan 25:
Self-proclaimed intellectuals insist on
belittling the success of the government
and spreading distrust, while the world
has still not recovered from crisis. And
they are winning with the increases in
interest rates. … It has become clearer and
clearer that over the past three years Brazil
challenged the problems of financial
crisis much more successfully than most
countries, especially the most developed
ones. … [While the rest of the world has
been hit by high unemployment and low
growth] in Brazil we totally overcame the
world crisis, reaching full employment
and evolving positively with an increase
in the supply of jobs. Internationally, out
of a group of 20 of the most developed
economies we were the one that got un-
employment down most. … In spite of all
this, the public has been obliged to suffer
a semi-terrorist bombardment from soci-
ologists, economists and all manner of fi-
nancial analysts who judge themselves to
be intellectuals of great wisdom and use
the media to belittle the old government
and sow distrust and uncertainty about
the new one. Obviously, they haven’t won
the battle of public opinion but they have
completed some trades by defending the
increase in interest rates.
BULLS AND BEARS
Fortnightly comment on the
trends among the forecasters
After January inflation
beat expectations,
several forecasters
have revised their
full-year outlooks. The
debate centres on food,
credit and fiscal policy.
I
nflation forecasts are rising.
A year ago, only about 10 of
the 100 economists surveyed
by the central bank thought
prices would rise by more than
5.4% in 2011. Now the median
forecast is 5.64% – up from 5.53%
the week before (Jan 21) and
5.42% the week before that (Jan
14). The median for 2012 has also
increased, to 4.70% from 4.54%.
The main trigger was Janu-
ary’s inflation data: the IPCA-15
index came in at 0.76%, above
the 0.7% expected by the
market, due to steep rises in
services and transport. That
didn’t faze those at the top end
of the forecasting scale, such
as Barclays Capital, whose 2011
projection remains 6.3%.
But other forecasters reacted.
MB Asociados, a São Paulo con-
sultancy, increased its full-year
estimate to 5.8% from 5.5%. It
places responsibility squarely
with the government for “using
old and mistaken theories that
suggest that a bit more inflation
is no bad thing and that it even
helps growth.”
Evidence of this, the con-
sultancy says, can be found in
the government’s attitude to
the minimum monthly wage –
which “will rise to R$550 ($328,
£205, €240) or probably more”
– and to growth (the government
is targeting average growth of
5.9% until 2014). MB Asociados
also believe that food inflation
is here to stay, pointing out that
Argentine soy production is be-
ing affected by La Niña.
In contrast, Andre Pereira of
Gradual Investimentos argues
that food prices have been
pushed up by recent flooding in
São Paulo and Rio de Janeiro, and
“won’t be a serious problem in
the coming weeks”. As a result,
his forecast is up only modestly,
to a below-average 5.4%.
Meanwhile, the low end of the
forecasting spectrum is disap-
pearing. BBVA has raised its 2011
forecast – from 4.9% to 5.3% –
arguing that high inflation in late
2010 will have further second-
round effect. The rise in prices “is
not just a matter of commodity
prices, but also of strong domes-
tic demand,” says Enestor dos
Santos, an analyst at BBVA. “The
credit data [showing that lending
rose 20.5% year-on-year in 2010]
is a reflection of that.”
RBS analysts are less wor-
ried about credit, saying that the
The rise in prices “is not
just a matter of commodity
prices, but also of strong
domestic demand”
central bank’s “macro-prudential
measures caused a meaningful fall
in bank lending to individuals”
in December, of 10% compared to
November in seasonally-adjusted
terms. RBS joins the bulk of fore-
casters who expect a 50 basis point
rate hike in Mar 2.
Certainly, the minutes of the
central bank’s monetary policy
committee (COPOM), released
on Jan 27, were hawkish: strongly
justifying recent tightening
measures, and expounding
on how inflation damages the
country’s growth, household
incomes, and risk premium. Al-
though the bank said that some
recent inflation rises were prob-
ably seasonal, it added that the
latest reading from its Economic
Activity Index indicates that “the
period of most intense cooling
in economic activity could have
expired.” Yet even moderate rate
hikes may not lower inflation ex-
pectations now. Inflation is now
a major concern for the central
bank, and the COPOM’s latest
minutes strongly suggest that
rates will increase on Mar 2. By
then, the forecasters’ consensus
will likely have been shaken up
again, by fiscal announcements
due in mid-February. n
24 BRAZIL CONFIDENTIAL
F EB R UA RY 3-16 2011
Monthly key indicators
IPCA:Consumer price index (y/y % change)
Sep-10 Oct-10 Nov-10 Dec-10
4.7 5.2 5.6 5.9
IPA-DI: Wholesale price index (y/y % change) 9.5 11.0 13.3 13.9
Unemployment (%) 6.2 6.1 5.7 5.3
Retail sales (y/y % change) 12.0 8.7 9.9 –
Industrial output (y/y % change) 6.4 3.6 4.1 –
Exports ($bn)
Export growth (y/y % change)
18.8 18.4 17.7 20.9
35.3 30.5 39.4 44.1
Imports ($bn) 17.7 16.5 17.4 15.6
Import growth (y/y % change) 40.5 28.9 45.0 26.8
Trade balance ($bn) 1.1 1.9 0.3 5.3
Current account balance ($bn) -3.9 -3.6 -4.7 -3.5
International reserves, Liquidity Concept ($bn) 275.2 284.9 285.5 288.5
FDI into Brazil ($bn) 5.4 6.8 3.7 15.4
Brazilian FDI overseas ($bn) -0.05 -1.9 1.1 -4.7
Quarterly GDP
Q309 Q409 Q110 Q210 Q310
Real GDP growth (y/y % change) -1.8 4.9 9.3 9.1 6.8
Equities
01/02/2011 2 wk prev % change % change YTD
Bovespa 67,847.3 70,919.8 -4.3 -2.1
Petrobras 27.7 27.64 -0.3 1.3
Vale 51.9 53.4 -2.9 7.0
Currencies
01/02/2011 2 wk prev % change % change YTD
BRL per USD 1.66 1.674 -0.60 0.3
BRL per EUR 2.24 2.3 -2.70 -3.6
Government bonds
01/02/2011 2 wk prev Change Change YTD
Yield on 10-year USD- 4.563 4.435 0.13 -0.05
denominated bonds
Spread over US Treasuries 1.14 0.77 0.37 -0.17
Yearly key indicators
2008 2009 2010
Real GDP (% change) 5.2 -0.6 7.7
Industrial output (% change) 2.9 -7.2 10.6
Retail sales (% change) 9.1 5.9 7.1
Consumer price index (end-period; %) 5.9 4.3 5.8
Unemployment (%) 7.9 8.1 6.7
General Government Net Debt (% of GDP) 37.9 42.3 36.7
Trade balance ($bn) 24.8 25.3 20.3
FDI into Brazil ($bn) 45 25.9 48.5
Brazilian investment overseas ($bn) -20.5 10.1 -11.5
Gross fixed investment (% real change) 13.6 10.4 22.5
Selic Rate (end of year; %) 13.75 8.75 10.75
Source: IBGE, BCB, FGV/IBRE, IMF, EIU, Datastream, Bloomberg