Petrobras: Still Too Cheap For A Commodities Bull Market

Pounding The Table Once Again On The Brazilian Oil Giant

It has been a busy couple of weeks, but I wanted to start going through the different companies that I cover and write updates on each one. Petrobras PBR 0.00%↑, which has grown into my largest holding, is up first. The company recently reported Q3 results, which showed that the company continues hum right along. Owning Petrobras has been very profitable for investors willing to buy into the political uncertainty, but I think the best is yet to come for shareholders.

My original post covers Petrobras in more detail, but I wanted to include a couple things that I have seen in recent weeks that stood out to me. One of the best things about using Twitter as an investors is that you get interesting articles and insights from wide variety of sources. Another Petrobras shareholder shared an article on Twitter, which compares where we are today with Petrobras to where PetroChina was in the early 2000s. The article discusses Berkshire Hathaway’s investment in the company and some of the logic behind it. I would love to see my Petrobras investment play out in a similar fashion (obviously on a smaller scale), but it’s worth a read as a potential case study of what could play out over the next several years with Petrobras.

PetroChina was an unusual investment for Berkshire Hathaway in a lot of ways. First, it was unusually profitable, even by Buffett’s standards. A $488 million investment made between 2002 and 2003 turned into $4 billion by the time Buffett sold it between 2006 and 2007. That’s north of a 50% IRR!

PetroChina is also unusual because of what it is — a commodity business controlled by a foreign government. Buffett rarely invests abroad and had never invested in China before this. However, there are no bad assets, just bad prices. In this case, the price made it an easy decision to buy.

Warren Buffett and PetroChina

There was another article that shows that institutional money continues to flow into Petrobras stock. There are several institutions that have been buying, even after the strong run in shares we have seen over the last six months. I think we will continue to see large investors buy Petrobras because of its cheap valuation and asymmetric setup.

“The stock has gone up a lot in the last 12 months, but risks have also gone down,” GQG investment analyst Siddharth Jain — Rajiv Jain’s son — said in an interview. “We’ve been adding to our position over the past few months because even after a rally, this is still, in our opinion, the cheapest large cap stock in the world.”

- Siddharth Jain, GQG Partners: The largest minority shareholder of Petrobras

Now I try to avoid confirmation bias and I’m always looking for information or developments that break the bullish thesis on any investment I make. Petrobras does carry political risk, but the continued dividend payouts have shown me that they have no intention to hang shareholders out to dry.

I jumped the gun with the original version of this post and one of the people I talk to about Petrobras let me know that I should double check the most profitable companies list. I want to be accurate and the point still stands that there is a very wide valuation gap, but I went back and pulled the most recent complete fiscal year for each of these companies. Petrobras had a net income of $35.6B in 2022. Apple AAPL 0.00%↑ and Microsoft MSFT 0.00%↑ had net income in their most recent fiscal year of $97B and $72.3B. Google GOOG 0.00%↑ had net income of $60B. Apple and Microsoft are closing in on a $3 trillion valuation, and Google is valued at $1.7 trillion. By comparison, Petrobras has a market cap just over $100 billion.

I understand that these are all very different companies, but my thinking on the subject is pretty simple. Why would I buy Apple at 31x earnings when Petrobras is dirt cheap and pays a massive dividend for you to wait? One of the things I try to do as an investor is have a different mindset from the herd mentality that many investors tend to have. The S&P 500 has worked so well for investors over the last decade, and that recency bias is something I try to avoid. Right now, the herd is still in big tech, and for the most part, avoiding commodities and the related equities.

Dividends

With current oil prices bouncing in a range between $70-90 for the last couple months, Petrobras is still a very profitable company. I don’t bother trying to forecast Petrobras dividends with precision because I think the discount to fair value is so massive. What I will say is that with their current payout policy of 45% of free cash flow, I would be surprised if the quarterly dividend falls below $0.40 (which is typically split into two payments). I have heard from other investors that they are expecting a larger dividend with Q4 (and potentially a special payout), but we will have to wait and see. Below is a list of the dividends I have received (or will be receiving) since buying Petrobras.

Q4 2022 Dividend

May 26^th – $0.58 per share

June 23^rd – $0.36 per share

January 4^th, 2024 – $0.20 per share

Q1 2023 Dividend

August 25^th – $0.38 per share

September 27^th - $0.38 per share

Q2 2023 Dividend

November 30th - $0.21 per share

December 22nd - $0.23 per share

Q3 2023 Dividend - paid to shareholders as of 11/24/23

February 27, 2024 - $0.25 per share

March 27, 2024 - $0.27 per share

Conclusion

When it comes to Petrobras, I think it makes sense to own the preferred shares (PBR.A or PBR/A) over the common. You get the same dividend and the preferred shares are a buck cheaper than the common shares. Am I counting on a return to all time highs around $70 in 2008 from the blowoff top? No, but I won’t consider selling any of my shares before $30 unless something materially changes. It might take a couple years, but investors get a double digit yield to wait for shares to get closer to what I believe is fair value. If we get the commodities bull market that I’m expecting, Petrobras represents an asymmetric investment opportunity with a cheap valuation. Shares are up significantly over the last six months, but that share price increase just represents the shares going from extremely undervalued to very undervalued in my opinion. For patient long term investors in Petrobras, I think the best is yet to come.

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Disclaimer

I own shares of PBR.A. Any time I talk about Petrobras shares I am referring to the American Depository Receipts (ADRs). You should do your own research before making any investment decisions. Different investment strategies have different risk/return profiles which should be considered before making any decisions.