by Dan Shirai and Ben Miller

Carlos Fadigas, Braskem’s CFO, speaks rapidly and candidly about his company’s many forays into capital markets. Like his counterparts at Odebrecht, Braskem’s biggest shareholder, he brandishes a sleek fluency in issues surrounding cross border financing, investors and bank lenders. He appears particularly pleased with his ability to have squeezed the tightest possible margin out of the bank market last year when his company needed a loan to buy its competitors Ipiranga and Copesul.

“For $1.2 billion, we didn’t need 10 banks lending to us,” Fadigas tells LatinFinance. He conducted a beauty contest and got three banks to commit to an affordable bridge financing at Libor plus 35 basis points, stepping up to 55 basis points in the second year of draw down. That was well below market levels for Brazil, even pre-subprime.

“As far as we know, it was the cheapest [dollar] bridge loan ever in Brazil,” says Fadigas of the facility joint-led by Calyon, ABN AMRO and Citi. As LatinFinance went to press, Braskem was halfway through the process of taking out the facility in the bond and loan markets.

But all the savvy in the world cannot change the fact that Braskem, a successful niche player producing highly sought after industrialized products, must still purchase naphta, its main oil-based raw material, at market rates. The price of oil and its derivatives have soared in recent months, providing Petrobras with a windfall at the expense of clients, the biggest of which is Braskem.

Incidentally, the oil giant also controls 30% of the Braskem’s voting shares. This two-sided relationship puts the pair at extreme odds in the commercial context but aligned at a broader strategic level.

The Bully Shareholder
The problem for Braskem is that while expenses rise, it has not been able to pass costs onto customers, thanks to steep international competition from companies like Dow Chemical, BASF and Saudi Arabia-based Sabic.
“Brazil and therefore Braskem are in a natural disadvantage to some of its competitors with regards to feedstock,” says Paula Kovarsky, vice president for oil and gas, petrochemicals and transportation equity research at Itaú Securities. “While companies like Sabic have access to cheap and abundant natural gas, Braskem’s resins production is mostly naphtha based, a more expensive feedstock,” she adds.

Rising oil prices are compressing petrochemical margins worldwide, in an environment where demand is slowing. Braskem is also menaced by local currency appreciation and an increase in imports. “Braskem is in a very difficult position to improve margins,” says Kovarsky. Braskem’s Ebitda margin at the end of the first quarter was around 13%.

Braskem’s stock price reflects the challenges. In early June, ordinary shares were trading at around 14 reais, roughly in line with 2005 year-end.

There is a new effort underway to address this. “Braskem is one of the biggest buyers of naphta in the world and because of this – not because Petrobras is one of our shareholders – we have been recently advocating that we deserve to be offered [the naphta] at a discounted price,” says Fadigas. As a result, the two companies are now in tough commercial negotiations on the issue, notes the CFO. Whether these will yield any concrete results in the near future for Braskem, however, is unclear.

Braskem’s lack of vertical integration is its Achilles’ heel, say local business executives who point to the company as an example of the dangers of running a commodities business in Brazil without full control of the supply chain.
“I think if I were to depend on Petrobras, they’d try to screw me,” notes Eike Batista, the leading shareholder and executive of a host of Brazilian natural resource companies including MMX, a vertically integrated Brazilian mining complex. “How do you think BR Distribuidora [Petrobras’ fuel distribution company] has managed to dominate the Brazilian gasoline market?”

Big Fish in a Big Pond

What Braskem lacks in vertical integration, however, it makes up for on the horizontal plane. Last year it succeeded in clinching major stakes in Ipiranga and Copesul, two of Brazil’s substantially sized producers of polyethylene and polypropylene, for $1.2 billion, shoring up its position as the region’s largest petrochemicals company. Meanwhile, the rest of Brazil’s petrochemical industry is undergoing rapid consolidation.

“The acquisitions were good for us,” says Fadigas. “They gave us bigger cashflow, a bigger client base, a bigger industrial base, and made us more solid.”

The Brazilian market is shared between Braskem and the burgeoning Companhia Petroquímica do Sudeste, which is being assembled through the merger of several smaller entities, including Suzano Petroquímica, Petroquímica União, União Polietilenos, and RioPol.

Braskem will have a market cap of roughly 2.5x the size of Petroquímica do Sudeste. Petrobras, which held significant stakes in all of the entities at one point, will retain minority shares.

“There isn’t a lot of big consolidation left to be done,” says Fadigas, who adds that the main focus is organic expansion. For example, the company invested 700 million reais in a polypropylene plant in Paulinia, in the state of São Paulo, which opened in April. It also has plans for new facilities in both polypropylene and polyethylene.
“Resin prices have gone up a lot, growing two times the rate of Brazil’s GDP. This is why we need to increase our capacity, the market is growing,” says Fadigas.

Locking Horns with Chávez
Among Braskem’s bolder initiatives is a joint venture with Pequiven, its smaller, state-owned Venezuelan counterpart. An initial agreement was made in 2006 for a joint venture to build two new plants. In December the plan surged to life with the announcement that two new companies would be created in Venezuela requiring total investment of more than $3.3 billion. They are sponsored on a 50-50 basis by Braskem and Pequiven.

Fadigas acknowledges the risk of moving into markets where the government track record for maintaining a stable environment for investment is less than commendable. “The Venezuelan government is our partner in these projects,” says Fadigas, adding that any foreign investment – be it in the US or Venezuela – must be done carefully.

To minimize Braskem’s cash outlay, the venture will use 70% project finance and 30% equity, which means the Brazilian partner’s equity exposure is only $550 million, says Fadigas, who adds that the company’s annual Ebitda is $1.6 billion. Braskem and Pequiven hired Société Générale as financial advisor and recently completed a tour of European, US and South American multilaterals, development banks and export credit agencies to discuss financing options.

Propilenio del Sur will demand investment of upwards of $800 million for a new polypropylene plant expected to be online in 2010, while Polietilenios de America will deploy roughly $2.5 billion to build an ethane cracker expected to be up by 2012. Both will rely on Venezuelan natural gas and are being designed to compete with similar operations run out of the Middle East.

Fadigas takes comfort from the fact that the project is of high importance to the Venezuelan government, which has a strong interest in using natural resources to produce value-added commodities for export. The initiative makes economic sense for the government because it generates jobs and adds to overall revenue and competitiveness, says the CFO.

Braskem has also set up clear contracts that protect the project’s shareholders and provide security in the event of any changes in the project or cost of raw materials, says the executive.

Taking on the Markets
The past several weeks have been some of the most critical for Braskem in regards to managing liabilities. The company has resumed plans to take out last year’s $1.2 billion bridge, a refinancing that was halted when the subprime crisis shut down cross border financing.

The three leads on the bridge – Calyon, ABN AMRO (now RBS) and Citi – had to hold the chunky facility for many more months than expected, but have seen some relief with the reopening of the bond market.
In late May, Braskem issued $500 million in 7.25% 2018 notes at a spread of 328.5 basis points over US Treasuries. The deal, led by the three bridge lenders, was upsized from an announced $400 million, and came tight to 7.50% area guidance.

“The spread over Treasuries was very close to what some investment grade issuers have recently paid [for that tenor,]” says Fadigas. Braskem was upgraded to BB+ by S&P and Fitch following its acquisition of Copesul and Ipiranga last year. Moody’s rates Braskem Ba1.

The sizable bond paves the way for a syndicated loan that could potentially take out the remaining $700 million left on the bridge. The company has suggested it would like to refinance as much as possible of what is left in the two-year facility, though bankers on the deal are more cautious on size estimates.

The plan, says Fadigas, is to raise a pre-export facility with tenors of five to seven years. The executive hopes to lock in a margin close to the lower end of a 175-200 basis point range over Libor. The trio that led the bridge is running the deal, and launch was expected in June.

Once that is done, Braskem’s CFO can go back to running the business, which has expanded significantly in scope and size over the past year. Aside from preparing to tackle a new larger and stronger competitor at home – Petroquímica do Sudeste – the company will continue to battle offshore competition while trying to convince Petrobras to lower prices. And while it keeps a focus on growing organically, there are possibilities beyond its own borders that may tempt Braskem.

“There may still be some opportunities elsewhere in Latin America,” admits Fadigas, who knows well that a host of banks are ready and willing to pony up the cash when the chance to acquire abroad emerges. LF