It’s not the macro in Brazilian M&A

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Sometimes we can’t see the trees for looking at the woods.

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Discussions with Brazilian bankers about incentivizing international investment in Brazil usually turn to politics and, specifically, pension reform. 

The debate: will embattled president Michel Temer have the political capital to push through the pension reform that the markets want? (The reform that the markets really wanted was one that did something to stop the upward pressure on fiscal spending. The legislation that proposed to do that has already been compromised away.)

But this is really a financial flows issue for the Bovespa and the fixed income market. Foreign direct investment – real world investment in the country through M&A – has never been so myopic. 

These investors, both strategic and financial sponsors, have a much longer time horizon. And they, by and large, seem to think something will be done sometime soon enough to stop something catastrophic happening to the economy that would impact their investments. 

In other words, they don’t really care about this year’s pension reform. And they certainly are not using it as the trigger to enter.

Inactivity

So why has there been such light deal flow in inward M&A despite the fertile macro environment (companies wanting or needing to sell and a strong dollar)? According to M&A bankers, it is not due to lack of international appetite: there are reports of a flurry of visitors with cash to spend looking around the country for bargains. 

Rather, the inactivity is down to local legislation that makes divestments complicated and uncertain. Local M&A advisers tell of painstaking explanations about the complexities of isolating corporate-wide liabilities from potential subsidiaries. This complicates valuations and legal risks. 

Worse, should the seller of any distressed asset fall into bankruptcy protection within six months of selling an asset, a Brazilian judge can invalidate the deal completely. All that work, time and expense down the drain (not to mention any investments made in the six months). 

There are plans to amend the 2005 bankruptcy law to provide a regulatory environment that would increase deal flow, not only benefitting those seeking to buy good Brazilian assets (and the bankers of course), but also improving the strategic flexibility of over-leveraged Brazilian companies.

It is an example of something worth remembering: sometimes we are obsessed by looking at macro reforms to spur economic growth when in reality it is key micro changes that could have the biggest impact.