LatAm equity markets heat up again
January 17, 2018 | Aaron Weinman
A turnaround in the equity markets of Brazil and Argentina has set the stage for a transformational 2018. With economic reforms on the horizon, companies are telling investors just what sets them apart
Capital Markets Equity Funds IPO Features Argentina Brazil Mexico
More Latin American IPOs were completed in 2017 than in the previous three years combined, and two long-stalled markets — Brazil and Argentina — led the charge.
Fund managers piled into Brazil and the B3 stock exchange soared to almost 80,000 points in December — up from roughly 61,000 points in January 2017. Companies that rode out the corruption scandals that have hindered Latin America's largest economy since 2014 flocked to issue equity.
In Brazil, 12 IPOs priced in 2017, compared to just one in 2016, according to data from Bank of America Merrill Lynch. Throughout Latin America, 23 IPOs crossed the tape by the end of last year, a 188% jump from 2016.
Among the investors who took advantage of Brazil’s equity revival was Qatar Investment Authority, which cashed in on Brazilian gains and sold a portion of its stock in Santander Brasil, the local division of Spanish bank Santander. Brazilian billionaire Abílio Diniz also profited from the IPO of Carrefour Brasil, the local business of the French supermarket chain Carrefour.
Overall, corporate issuers in Brazil saw 2017 as an opportunity to capitalize on signs of a nascent economic recovery.
Brazilian companies are expected to continue the trend in the first quarter of 2018, looking to issue shares ahead of Brazil’s presidential election. But David Tyler, a counsel at the law firm Hogan Lovells, expects a slowdown in the second half of the year. “Investors are seeing the window closing, given the uncertainty typical with Latin American elections,” he says.
In the meantime, issuers are strategizing the best way to tell their individual stories within the context of the Brazilian market, a formula that has worked well for some recent IPOs.
Carrefour Brasil, for example, leveraged a strong financial performance over the last three years to attract equity investors. “The track record, significant market expansion and growth, despite the economic slowdown in Brazil, helped us get demand,” says Daniela Bretthauer, the head of investor relations at Carrefour Brasil.
Brazil’s political and macroeconomic environment presented challenges, and Bretthauer says Carrefour Brasil filed IPO documents with the securities regulator CVM shortly after the meatpacking company JBS was implicated in a bribery scandal with President Michel Temer and the former Speaker of the House Eduardo Cunha.
“The JBS scandal hit markets in May, right when we did our first filing,” she says. “During the roadshow, a lot of investors thought we did not have the right macro backdrop.”
Nevertheless, Carrefour priced its IPO in July, illustrating that investor interest in the right stock can withstand economic hiccups.
The Brazilian airline Azul and the state-owned reinsurance company IRB Brasil Re had also attempted in the past to go public, only to be stifled by weak market conditions. But by 2017, investors seemed almost accepting of Brazil's underlying risks, and in some cases, agreed to see past it.
If investors are aware of inherent risks, they also understand the issues specific to each business, says Dan Green, a partner at the law firm Gunderson Dettmer.
“Plenty of aspects could drive a company's decision to go public,” he says, adding that companies with a long-term view provide “enough diversification to help smooth the ups-and-downs in one market.”
Brazil’s IPO pipeline is the longest in Latin America, Green says. “IPO markets come and go. There is only a small window of opportunity and you want to seize that momentum and timing,” he says.
One of the last IPOs in 2017 came from BR Distribuidora. Its parent, the state-owned energy company Petrobras, had long toyed with the idea of reducing its stake in its service station business. It filed IPO documents in 2015, only to cancel the offering, and a year later it considered a direct sale of BR Distribuidora.
A scenario similar to Brazil’s is playing out in Argentina, where Cambiemos, the center-right coalition of President Mauricio Macri, scored a strong showing in the midterm elections in October.
Argentina’s Merval benchmark index soared 77% year-on-year in 2017, thanks to investor optimism over Macri’s steps to engineer an economic turnaround, and sources expect more Argentine companies to go public in 2018.
The activity comes after many of Argentina’s corporates were largely shut out of the equity markets for years. Many observers credit Macri's policies with ushering in the new wave of capital markets activity. His plans to boost infrastructure spending provided a favorable backdrop for Loma Negra’s almost $1 billion IPO in November. Investors bet the company is poised to benefit from infrastructure development now that the outcome from the elections increased odds the government can carry out its agenda.
Conrado Tenaglia, co-head of the Latin American practice at the law firm Linklaters, describes the timing of Loma’s offering as “impeccable.” He says the IPO served as a proxy for infrastructure investment and believes the company will benefit from a wave of public works investment.
“Infrastructure financing is on its way after a PPP law,” he says about Argentina’s public-private partnership initiative. In October, the government announced plans to procure 52 new infrastructure PPPs.
Corporación América also hopes to benefit from the government’s PPP plans. The company filed public IPO documents with the US Securities Exchange Commission in December.
Tenaglia, whose firm is involved in the IPO, says many investors are becoming comfortable with Argentina’s corporate stories and are willing to switch their debt positions to equity holdings.
“Equity investors are noticing Argentine opportunities now,” he says. “IPOs are about growth stories and [IPOs] need the prospect of a growing economy.”
The macroeconomic backdrop matters, of course, and in Latin America market conditions can shift swiftly. Despite the Merval’s gains, local agribusiness Molino Cañuelas postponed a planned $333 million IPO, scheduled to price in November, at the last moment, citing market volatility.
At the time, the Merval slumped, suggesting the country’s stocks were being oversold, one equity capital markets banker says, adding that Cañuelas’ leverage ratio concerned some investors.
It is only a matter of time until Cañuelas goes public, sources say. Well-known companies in Argentina’s strongest sectors, including power, infrastructure and agribusiness, are the best placed to tap investor appetite.
Power providers Genneia, Central Puerto, and Pampa Energía are studying equity sales, with Pampa assessing a convertible bond-to-equity trade.
Following a hefty spree of bond sales, Argentine companies are eager to position their balance sheets to fund future growth by infusing new equity.
Argentina’s equity cycle is still in its early stages, says Santiago Gilfond, head of equity capital markets for Latin America at Credit Suisse. “The economic benefits of the reforms are starting to take place,” he says.
Macri’s midterm gains opened a window to advance his administration’s proposed changes to Argentina’s tax and labor laws. Companies and investors that assume they can comfortably bet on longer-term growth are stoking the enthusiasm.
For example, issuers in the utilities sector can point to Macri’s desire to introduce market rates to an industry that previously had subsidized energy prices.
“Utilities were forced to comply with non-market rates under the previous administration,” Gilfond says. “The new administration is normalizing the tariffs. For fund managers, these assets are more investable.”
And given the energy needs of the country, the Macri government welcomes this equity injection.
Tenaglia says it makes little sense for an economy the size of Argentina’s to have so few listed companies. “There is a mismatch between the potential and the actual amount of capital devoted to Argentina,” he says.
Gunderson Dettmer’s Green says the pipeline is not limited to Argentina’s strongest sectors. Companies that have the right story and a healthy balance sheet are palatable to investors ready to take advantage of the Argentine momentum.
And observers hope the excitement emanating from Brazil and Argentina will extend to other markets in the region. Despegar’s IPO, for example, revealed a pent-up demand for IT-focused stocks in Latin America.
“Tech is evolving and outpacing other industries,” says Green, whose firm represented the underwriters on Despegar’s IPO. “Tech investors in Latin America only have a few options, so the more they understand, the more they see success, then the more interest there will be.”
Aside from DEspegar, along with Argentina’s Mercado Libre and Globant and Brazilian sporting goods company Netshoes, there are few tech comparables in the region. But in Green’s view, Despegar’s IPO indicated a shift in investor thinking.
“If these names trade well in the US, then investors will take the time to understand the risks and business-specific issues for Latin American companies,” he says.
A “healthy dose” of caution is the common approach to investing in Latin America, he says, but fund managers appreciate that tech-based companies can expand beyond borders.
“For bullish investors with a longer-term view, regional diversification in a business model makes companies like Mercado Libre and Despegar effective,” Green says.
Energy opportunities throughout the region also offer potential for investments. Beyond Macri’s proposed reforms to Argentina’s utilities, his administration intends revisions meant to foster investment in oil and gas. Similar reforms are also well underway in Brazil and Mexico.
Whether it is through Brazil’s pre-salt fields or Argentina’s Vaca Muerta shale formations, companies are analyzing ways to raise capital and be ready when more investments can be made.
Vista Oil & Gas, for example, tailored its IPO to corner investor interest in Latin America. The special purpose acquisition company, led by CEO Miguel Galuccio, who formerly headed Argentina’s YPF, listed on Mexico’s stock exchange in August. The $650 million offering was increased from $500 million after investors flocked to the orderbook.
“When you talk with the industry, the common understanding is that Argentina is on the way,” Galuccio says. “Mexico, Brazil, Colombia and Argentina — these countries offer an opportunity.”
In recent years, Latin American equity offerings have revolved around safe havens such as financial services and blue-chip corporate issuers. But this year’s revival in IPOs and follow-ons reveals that investors are looking for compelling corporate stories.
“Investor appetite does seem less sector specific,” Hogan Lovells’ Tyler says. Given a growing list of more targeted opportunities, “investors are evaluating specific credits.” LF