Everything is big in Brazil: the population, jungles, cities, football, inflation. But, you cannot overlook its vast infrastructure needs, First State’s deputy head of global infrastructure, Andrew Greenup, has said.
‘Brazil’s infrastructure sector suffers from high regulatory, political and legal risks. Opaque concession extension, renewal, and re-auction processes have caused significant uncertainty for private sector operators,’ he told sister site Citywire Selector.
Citywiree AAA-rated Greenup currently has a 2.8% weighting in Brazil, as well as several other stocks which have Brazil operations, bringing the fund’s look-through exposure to Brazil to 4%.
Here he highlights three bets he is taking to make the most out of Brazil’s infrastructure needs in the First State Global Listed Infrastructure fund.
There is a widespread acknowledgment from federal and state governments that new toll roads are needed in Brazil to improve economic productivity and prosperity, said Greenup.
‘In April 2017, Spanish listed toll-road company Abertis won the tender offer of a 720km highway in São Paulo that incorporates the current concession and additional new road investment.
'We expect six new roads to be auctioned in late 2017 or 2018. In addition, we expect financially distressed construction companies to be forced sellers of toll road assets over the next year or two.
‘Companies such as CCR, Abertis, and Atlantia (4.9%) are well placed to expand their market positions, as the sector looks to enjoy volume recovery from a low base.’
Like most emerging market countries, Greenup said Brazil enjoys strong growth in its air travel market.
‘Since 2000, passenger volumes have grown at a Compound Average Growth Rate (CAGR) of 6.9%, with growth from domestic passengers being even higher at 7.2%. This growth rate has been 3x domestic GDP (gross domestic product).
‘Until 2012, Brazil’s airports were wholly owned by the federal government. Given the rundown state of these airports and large amounts of capital needed to upgrade and expand them, the government started a privatization program.’
The country has now sold 51% of its stakes in nine airports over the past five years, Greenup said these airports are regulated on a "dual till basis", meaning returns on aeronautical assets are regulated but commercial activities are unregulated.
‘From a customer and airline perspective, the airport privatization and investment program has been a great success that improves productivity while enabling future structural growth in the sector.
'I am bullish about the future of the Brazilian airport sector but remember what one Brazilian CFO said to me: "Optimists go broke in Brazil".'
3. Freight railways
Greenup said for such a large country, Brazil’s freight railway infrastructure sector is underdeveloped.
‘The country has three freight railway operators spread across nine concessions. Two of these operators, Vale and MRS Logistica, are essentially vertically integrated mining and rail operations. That leaves Rumo as the country’s only independent freight rail company.’
‘Rumo is two years into a five-year turnaround strategy. So far the company has reduced operating costs and redesigned work processes, leading to higher productivity; improved service levels; changed pricing to more take-or-pay contracts; and invested R4 billion in newer locomotives and wagons.
‘This has seen the company take significant grain haulage market share from trucks. Rumo is now investing capex in order to reduce bottlenecks and improve the rail track network.’
More investment needed
All in all, Greenup said the Brazilian government is aware that investment in infrastructure will provide part of the solution to overcome its many social, political and economic challenges.
'For existing Brazilian infrastructure assets, as the country slowly emerges from its two-year economic depression, the risks to traffic and earnings forecasts for Brazilian infrastructure assets are to the upside.
'However, these significant growth opportunities do not come risk-free: a scandal-plagued, lame duck federal government, a Presidential election in the second half of 2018, uncertainty surrounding concession rebalancing, amendments and renewals as well as a legal system that operates very slowly.'