Brazilian oil giant Petróleo Brasileiro S.A. (NYSE:PBR), also known as Petrobras, saw its market value plummet by around 8% shortly after releasing its latest Q1 results last week. In addition to weaker results, with falling revenue, profit, and profitability, the company surprised investors by announcing that the CEO, Jean Paul Prates, is stepping down after just over a year. This highlights the governance instability within the company, especially considering its state control.
I perceive this situation as a negative development, as Petrobras is currently undergoing its sixth CEO change in the last three years. Such turnover raises concerns about Petrobras’ credibility with its shareholders and accentuates the state risk surrounding its investment thesis. Although Petrobras remains a robust income stock and trades at relatively low valuation multiples compared to its peers, I am neutral on the Brazilian oil giant.
Petrobras’ Disappointing Q1 Earnings
The first-quarter results released by Petrobras were negatively impacted by a drop in both the company’s top line and bottom line compared to the same period last year. This is despite maintaining the exchange rate at an average dollar level of R$4.95 and a Brent price above $80 per barrel of crude oil (bbl), which is generally favorable for oil companies.
However, even with stable international prices and exchange rates, Petrobras reported a reduction in revenue from derivatives in the domestic market due to lower prices and volumes. As a result, Petrobras reported sales revenue of $23.76 billion, marking an annual decline of 11.2%.
In addition to the revenue drop, there was also a margin squeeze. The reported gross profit was $12.26 billion, down 13.2% yearly.
On the positive side, the company continues to maintain controlled expenses with no significant surprises in this area, enabling it to report an adjusted EBITDA of $12.12 billion, down 13.1%. However, Petrobras’ net profit was $4.78 billion, reflecting a 34.9% decrease year-over-year.
Despite these challenges, the company continues to generate robust cash, with operating cash flow of $9.4 billion in the quarter and free cash flow of $6.57 billion. Financial leverage remains controlled at 0.86x, which is not a cause for concern.
This sets up a feasible scenario of generating about $25 billion in free cash flow annually, translating to a free cash flow yield of 23% and a projected double-digit dividend yield.
Additionally, alongside the results, Petrobras announced another dividend distribution. The company declared that its board of directors had approved the payment of dividends and interest on capital totaling R$13.4 billion (approximately $2.69 billion), equivalent to R$1.04 (roughly $0.20) per share. As a result, Petrobras will provide a quarterly dividend yield of 2.5%.
This distribution aligns with the policy of distributing 45% of free cash flow if gross indebtedness is equal to or less than $65 billion, as is currently the case.
Change of CEO
More worrying than the slowdown in the company’s bottom and top lines was the announcement that CEO Jean Paul Prates would be stepping down just over a year after taking over. He is also due to step down as a member of Petrobras’ board of directors.
From my point of view, this move is very negative for Petrobras, especially since Prates managed to do a good job over the past year. During his tenure, there were high expectations that Petrobras would follow a course prioritizing the political interests of the state rather than its shareholders. Despite this, Petrobras reached its all-time high under his leadership, and political concerns were momentarily set aside.
His successor will be Magda Chambriard. She recently served as director-general of Brazil’s National Petroleum Agency (ANP) during the Dilma Rousseff administration and is from the same political party as the current President of Brazil, Luiz Inácio Lula da Silva.
It is important to recall that from 2012 to 2016, under Dilma Rousseff’s administration, Petrobras incurred the most significant debt in its history following a series of poor strategic decisions, such as subsidizing motor fuels. Petrobras became the world’s most indebted oil company, accumulating $127.5 billion in debt by November 2015, with 84% of it denominated in foreign currencies.
Petrobras’ Valuation Is Still Undeniably Low
Even though Petrobras’ shares have appreciated nearly about 27% over the past 12 months, the valuation remains attractive for holding the company in a dividend portfolio. This is true when considering a projected EV/EBITDA ratio of 3x and 3.5x for the next 12 months, while international peers trade at a multiple above 6x.
However, despite the company’s ongoing remuneration of shareholders through dividends and buybacks—a positive aspect—the persistent state risk strongly justifies its discounted valuation compared to private international peers.
Is PBR Stock a Buy, According to Analysts?
The analyst consensus on Petrobras indicates that Wall Street is unsure about the stock, as it has a Hold rating. The average PBR stock price target is $17.31, implying 15.55% upside potential. Of the eight analysts providing price targets in the last three months, only three are bullish, while just one is bearish.
Among the bears, CFRA’s Stewart Glickman stands out. After the company’s Q1 results were released, he reiterated his bearish stance but raised his former price target to $14 from $13.
According to Glickman, his price target reflects a “5.2x multiple of enterprise value to projected 2025 EBITDA,” slightly below U.S. integrated oil peers, due to concerns that weak capital allocation policies are on the horizon.
The Bottom Line on PBR Stock
The primary concern surrounding Petrobras’s investment thesis is future investments and their potential impact on cash reserves and the expected profitability of these projects. In the coming periods, the company is expected to announce its strategic planning, which should be key to regaining investor confidence and charting a more stable course for its future growth and profitability.
In addition to investments, there are concerns about the company’s future pricing policy, especially following the recent change in its board of directors. This change also stresses a significant internal conflict in the company’s governance, as evidenced by six CEO changes in three years.
Given these considerations, I’m sticking with a neutral position on Petrobras for now. Despite the company still delivering solid returns to shareholders and trading at reasonably low valuation multiples, I’m opting to hang tight and see how things unfold.
