HSBC goes Latin
Private-sector capital requirements are set for a dramatic upturn in Brazil, principally driven by a privatization programme expected to involve the sale of assets worth more than $80 billion between now and 2000. As well as buyers issuing debt and equity in order to purchase the assets, newly created private-sector companies in capital-hungry industries such as electricity generation and telecoms will quickly embark on ambitious expansion programmes that will require additional financing.
Much of this money will be raised on the international debt markets. But although the investor base for Brazilian assets has been broadening, investment bankers are aware that being overdependent on foreign bond market access is to give hostages to fortune. This point was underscored by the July crises in some Asian currency markets, which led to volatility in Latin American debt issues in general as well as specific worries over a possible speculative attack on the real, which is linked to the US dollar as a key element of the three-year-old stabilization plan.
"Brazil has been lucky with its timing, since the privatizations so far have coincided with very liquid international markets," says a banker in Sao Paulo. Another adds that "the privatizations are so huge that they will require funding from any and all possible sources".
There are already encouraging signs that the elements are in place for a diversification of funding sources. The amount of money under domestic management is growing fast in Brazil, and it was this liquidity that drove Brazilian share prices up so rapidly in the first half of 1997, with the Bovespa index rising by over 50%. And part of the same pool of capital is also moving into domestic fixed-income products.
At the same time diversification of international dollar-based lending is also beginning - away from its overwhelming reliance on unsecured bond issuance. Non-bridge-loan syndicated bank lending is starting to get under way again in Brazil after a 15-year absence. And project-finance bankers are setting up shop in Sao Paulo, taking a look at opportunities in sectors such as independent power projects (IPP) and telecoms. Bankers believe the first non-recourse lending could be seen in the telecoms sector - though many complex issues need to be addressed first - and this has the potential to provide a deep pool of dollar-based funding.
The combination of these new sources of funding, coupled with an expected acceleration in domestic and international equity, will create a more stable funding mix. This is particularly important since many buyers of privatized assets are taking on a lot of debt in order to finance their acquisitions, a move that marks an important shift away from the underleverage that has characterized the Brazilian corporate sector since the days of hyperinflation.
"It will be necessary for many buyers to work with a very high debt to equity ratio," says Vinicius de Queiroz, head of domestic underwriting at Citibank in Sao Paulo. "Companies with local-currency revenues will want to match their revenues with local-currency debt, so we believe that it will be in the interest of those companies to go to the local market," he says.
De Queiroz points to the electricity sector as a case in point, noting that the recent privatization of the Coelba utility in the north-eastern state of Bahia suggests high valuations for the much bigger electric utilities already listed in the privatization schedule. In late July a consortium led by Iberdrola of Spain, including Brazilian pension fund Previ, won control of Coelba with a R1.73 billion ($1.6 billion) bid - a 77% premium over the government's minimum sale price. Federal development bank Banco Nacional de Desenvolvimento Economico e Social (BNDES) had put its weight behind the sale process by offering to extend loan finance for half the floor price, but that still leaves the buyers with over R1 billion to find from other sources.
Roger Wright, a partner at Banco de Investimentos Garantia in Sao Paulo, expects that in addition to electricity generation and distribution, companies in the fast-growing telecom sector are natural candidates to do more domestic capital markets issues. "If you have real-based sales, as the telecom companies do, you will want to borrow in reals," he says. However, he notes that the growth of domestic debt issuance will continue to be inhibited by the government's high interest rate policy, which is one of the anchors of the anti-inflation plan.
One positive development is that maturities are being extended. "If you are a triple-A domestic credit you can now go out to five years," Wright notes, whereas only a couple of years back two-year paper was impossible to place. Analysts say that this change is the result of a fast-growing pool of money under management in Brazil, as the era of hyperinflation disappears into memory and more Brazilians begin to invest and buy products such as life insurance.
"You haven't really had a professionally managed institutional investor base in Brazil, but that is changing very fast," says Walter Stoeppelwerth, head of research at Robert Fleming in Sao Paulo. "There is a fantastic boom in the fund management business in Brazil, with lots of joint ventures with foreign partners," he says.
One example is the joint venture announced in June between Alliance Capital Management and Banco de Credito Nacional (BCN), the sixth-largest privately owned bank in Brazil, to manage fixed income and equity funds.
And Banco Excel Economico, a medium-sized bank formed when Excel acquired the troubled Banco Economico in 1996, has signed an agreement with Cigna's Brazilian unit to sell life and health insurance products in Brazil, in a deal that also involved Cigna taking a 4.6% equity stake in Excel Economico. Other powerful banks such as Bradesco and Itau are going it alone without foreign partners, and are committing a lot of resources to boosting their strength in asset management.
The big banks also report a boom in insurance products, which is helping create a pool of capital looking for longer-tenor paper. And the rapid build-up of pension fund money is having the same effect, though the slow pace of progress on social security reform has so far held back the huge leap in growth that a Chilean-style pension fund model in Brazil would create.