Petrobras Seeks Higher Output While Costs Steepen - Analyst Blog

On Sep 4, 2014, we issued an updated research report on Petroleo Brasileiro SA, or Petrobras (PBR). Petrobras – the largest publicly traded Latin American oil company – is planning to increase its oil production considerably in the long run to support its aim of being among the top five oil companies in the world by 2030. However, the company's increased exploration cost is a matter of concern.

This balanced view is reflected in Petrobras' current Zacks Rank #3 (Hold), implying that the stock is expected to perform in line with the broader U.S. equity market in the next one to three months.  

Petrobras – which produces and refines almost the entire crude oil and natural gas of Brazil – has an intension to place itself among the top five integrated oil companies in the world by 2030. To support the plan, the company has a target to increase its daily oil production significantly to 4 million barrels of oil per day (MMbpd) and is expected to produce at that rate from 2020.  

We appreciate Petrobras' view to focus on properties that have the potential to generate significant cash flows for its shareholders. The company has divested several non-core assets since it has restructured its divestiture program in 2012. Moreover, on Jul 2014, Petrobras got an approval from its board of directors to sell its 40% stake in Gasmig − a Brazilian natural gas distribution company – to electricity firm Companhia Energética de Minas Gerais or CEMIG (CIG).

However, Petrobras' significant rise in exploration expenses during the second quarter of 2014 is a matter of concern. The heightened cost considerably hampered the company's quarterly earnings. If this trend continues, Petrobras' future profitability might be hampered.

Moreover, Petrobras has embarked on an ambitious investment program for the 2014-2018 period, totaling a massive $220.6 billion. This is expected to substantially increase the company's leverage and deteriorate its credit metrics during the current downturn in the economic cycle.  

Key Picks in the Industry

Currently, we prefer to remain on the periphery regarding Petrobras. Better-ranked players in the energy sector include PetroChina Co. Ltd. (PTR), Patterson-UTI Energy Inc. (PTEN) and Cameron International Corp. (CAM). All the stocks sport a Zacks Rank #1 (Strong Buy).

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