There’s no question Brazil is facing challenges. We can’t predict exactly how the political situation will pan out, but we do know that as markets dislike uncertainty, things could be a bit bumpy in Brazil for a while.
However, that doesn’t mean long-term investment opportunities aren’t there. Here I share my observations for a few of the many companies my team at Templeton and I visited recently in Brazil, the challenges they are facing, and the ways they are working to overcome them.
Amid some rather dire domestic data, we’ve seen exports as a beacon for many Brazilian companies. My team and I had the opportunity to visit a bus body manufacturer based in Brazil, but with worldwide operations and manufacturing. The lack of credit availability is a major concern for the sector, but more and better transportation is needed in the country, so the company felt longer-term demand for buses should increase.
We also sought to obtain some insight into the Brazilian auto industry by visiting an auto parts plant. The creation of toll plazas is interesting, as it becomes a political issue. Drivers will try to turn off a toll road, avoiding payment, when a plaza is located beyond a major population area. On one road, we learnt only 8 per cent of users pay tolls, while for another, about 40 per cent pay.
We also had dinner with executives of a car rental company. They confirmed the impact of Brazil’s devalued currency and told us that people were visiting other cities in Brazil rather than travelling abroad.
We met executives of a large food products company. With the weak Brazilian real and consumer weakness reducing their ability to raise prices, the company was facing a difficult year. Wheat is a key ingredient for many of their products, but the currency weakness didn’t offer them much of an advantage, as much of the supply has to be imported. The company is trying to maintain margins by raising prices slowly and restructuring plants.
Also, in the consumer sector, personal care products are of interest to us. Brazil is a very fashion and beauty-oriented country and its cosmetics, fragrances and toiletries industry is among the largest in the world. However, Brazil’s weak economy and higher taxes have taken a toll on many businesses.
Meanwhile, a pharmaceutical/healthcare products company we visited was diversifying its product line into new areas (including cosmetics), which has enabled the firm to deleverage its balance sheet. The pharmaceutical market in Brazil is highly concentrated, with 20 companies accounting for about 65 per cent of sales.
The Brazilian banking system is highly concentrated, and government-controlled banks have an important market share.
Executives at the bank we visited told us about the effects of the recession in Brazil (the worst since the 1930s) and political paralysis. Given the dire situation, it wasn’t a surprise to learn the risk of non-performing loans had increased. However, there was hope for a positive change in government with the next presidential election in 2018.
Education in Brazil is in high demand because of the inability of the government to supply it to a large, young population. Thus there has been rapid growth of commercial firms in education. We visited one of these companies, which has been coping with the government’s withdrawal or reduction of loans for private school tuition. The firm, being large and diversified, claimed it could surmount the current difficulties. However, their main risk continued to be changes in government regulations. The main barrier to entry into the sector is regulation.
The sector is tightly regulated and most openings of new institutions and courses must go through a lengthy process for approval by Brazil’s ministry of education.
One way the government is trying to get investment moving in infrastructure is to award concessions to private firms. The government has licensed private companies to take the risk of building public or civil works, but with the right to charge fees to obtain a proper return on the investment. Most projects are viable only with cheap finance from Brazil’s Development Bank, which has dispersed about US$88 billion under a subsidised lending programme.
With Brazil’s government finances in trouble, it could be difficult to continue such a programme.
After visiting companies and speaking with management, we learnt a lot about how the country’s economic malaise has been affecting businesses. We also heard about the challenges common to nearly all industries, including debt/high interest rates, high taxes and fear of government intervention, or policies that do not support business owners and foreign investment.
The debate about whether the president Dilma Rousseff should stay in office or leave continues, and there is no clear consensus on the best way forward for the country.
As we’ve said before, Brazil has great potential to improve its economic standing, but we aren’t alone in stating that many policies need to change. We can’t predict when this will happen, so investors there need to be patient. There’s no question to us that once the Brazilians begin to get their house in order, investors who have lost confidence will return.
Mark Mobius is the executive chairman of Templeton Emerging Markets Group.
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