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Oil Opportunities at Developing Markets
Posted by: Vanina Egea (IP Logged)
Date: October 19, 2013 10:48AM

I find the analysis and comparison between companies with base in different geographies an entertaining exercise that offers a singular perspective upon future prospects. In other words, business activities are approached from diverse angles according to social, political, and economical background. Hence, Petroleo Brasileiro (PBR) and PetroChina (PTR) do compete in the same segments, but results are separated by a gamut of particularities.

Looking to the East

PetroChina is the largest Chinese integrated oil & gas company, and was fostered through government initiatives. The main objective of Chinese authorities was to strengthen domestic firms to compete internationally. Today, PetroChina is listed among the top oil & gas companies of the world, but government intervention limits growth opportunities. Hence, the upstream segment continues to improve performance, while refining and natural gas activities lag behind due to strict price controls.

On the upside, PetroChina is located in the world’s fastest growing economy, and holds a dominant market positioning. Hence, the gas segment is expected to receive an extra push as the Chinese authorities continue to promote natural gas. Investment incentives are expected for a future the expansion of pipelines and distribution networks. Also, the government mediates between the firm and foreign authorities to tap open otherwise inaccessible markets. It is no surprise then, that the firm is present in Iraq, for example, where access to oil resources is so zealously guarded by domestic and international authorities.

With declining oil reserves in mainland China, PetroChina has been paying more attention to the gas side of the business. This is also related to the fact that oil production costs in China continue to raise as enhanced oil recovery techniques become ever more common. Another less significant reason is governmental preoccupation for the environment. According to Chinese authorities, the country holds an estimated 50.9 trillion cubic feet of gas reserves in the regions of Changqing, Tarim, and Sichuan. It is worth highlighting the fact that gas operations, and analyst concur on this point, will not be ready for another five years.

Financially, PetroChina is moderate due to a high debt when compared to cash flow. The stock currently trades at 9.9 times its trailing earnings, less than half a point above the industry average. Stock has recently been bought by Jim Simmons, who continues to be the guru with the largest position in the company. I do not share his optimism based on the continued governmental intervention. In other words, the Chinese authorities use the firm for domestic politics, keeping fuel prices low, while damaging company’s revenues.

Looking to the South

Petroleo Brasileiro is the largest integrated oil & gas company in Brazil, and among the top three in the region. Although in the past decade operations have exposed to its neighbors, the Argentine and Uruguayan markets have seen the Brazilian producer reduce its stakes. In Argentina, the firm sold out its gas station segment, while in Uruguay, recent announcements made public the sale of exploration blocks number 3 and 4 to Royal Dutch Shell. Another note worth highlighting is a reduction on domestic forecasted production, due to overly optimistic assumptions.

Looking forward, analysts have questioned Petrobras’ prospects arguing that new legislation will stretch the firm too thin. I understand their argument, but do not reach the same conclusions because the legislation also pressures foreign companies. In other words, if international investors have an important interest at a pre-salt field, and Petrobras is not able to meet legislation requirements, foreign interests may aid their Brazilian counterpart. There are not many untapped oil & gas sources around the world, and the partnership will in turn result beneficial to both parties.

The most important characteristic held by Petrobras is deepwater offshore operations. The expertise and skills acquired through time are invaluable, and grant the firm an important edge over many competitors, including industry leaders like Exxon and Chevron. Hence, being the victim of a spy scam at the hands of the most important intelligence agency in the world should surprise no one. However, that favorable built-in characteristic may not be enough to offset shortcomings in the refining segment. Government officials have some blame to take for it, as the company is unable to take advantage of favorable oil price swings.

The balance sheet for Petrobras is similar to that of PetroChina, although debt holds lesser importance. Currently trading at 7.8 times its trailing earnings, the stock carries a discount of 18% to the industry average. The largest guru holding stock, Ken Fisher, has stood still since December, 2012. Meanwhile, Brian Rodgers, the second largest guru holding a position bought an additional 3 million shares. I share his optimism and share the company´s recent cost control policies. The know-how held by the Brazilian oil & gas is turning more valuable as oil reserves continue to dwindle.

Less government is good

I prefer Petrobras to PetroChina simply because government authorities intervene in a comparatively smaller measure. While both authorities manipulate market prices, the Brazilian try to maintain a stable price. I mean, abrupt swings in price are not automatically passed on, but this does not mean that refining activities always get the short end of the stick. Sometimes, the mechanism works the other way around, and benefits the firm, not the customer. Additionally, the stock currently carries an interesting discount.

Disclosure: Vanina Egea holds no position in any of the mentioned stocks.

Stocks Discussed: PTR, PBR,
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