Dr. P.V. Viswanath

pviswanath@pace.edu

FIN 647: Advanced Topics in Financial Management
Homework Assignments, Fall 2010

Read the article, Petrobras Seeks $65 Billion From Share Sale (September 4, 2010, From The WSJ) and answer the following questions:

QUESTIONS: 
1. How much capital is Petroleo Brasilerio (Petrobras) hoping to raise through an offering of common shares? Why do they need the funds?

2. Share prices typically fall when a firm announces plans to issue stock. Why do you think Petrobras' stock price rose when it disclosed plans to issue stock?

3. How can an investor with a controlling interest in a firm take advantage of the firm's other stockholders?

4. How do these issues differ when the controlling entity is the Brazilian government?

5. How will potential conflicts of interest affect the price of the shares that Petrobras plans to issue? What can Brazil's government do to reduce the potential conflict with the firm's other shareholders?

6. If you had the money, would you buy any of the newly issued shares in Petrobras? Why or why not?

SUMMARY: After disclosing plans for a long-awaited stock offering that would rank as the biggest ever world-wide, Petroleo Brasileiro SA, Brazil's state-run oil giant, must convince private investors that the share sale is as good a deal for them as it is for the Brazilian government. Petrobras, as the company is known, in a regulatory filing on Friday disclosed plans to offer 3.17 billion new shares in a transaction that could raise as much as $65 billion. If demand proves sufficient, the company said, it could sell an additional 564 million shares in an expanded offering, raising about $10 billion more. The offer is a crucial step for Petrobras to begin financing an ambitious, $224 billion capital-spending plan lasting through 2014.

Summary and questions are courtesy of the WSJ

Answers in brief:

1. Petrobras, as the company is known, in a regulatory filing on Friday disclosed plans to offer 3.17 billion new shares in a transaction that could raise as much as $65 billion. If demand proves sufficient, the company said, it could sell an additional 564 million shares in an expanded offering, raising about $10 billion more. Petrobras needs the funds for a plan to develop offshore reserves.
2. Petrobras' stock price rose because the probability that the project would actually be undertaken and completed increased substantially with the firm taking the step of actually raising the money. When a firm announces a stock issue there are two effects -- one, the price drops because the market views the equity sale as a signal that the market is selling stock because it's overvalued; two, the stock price rises if the market feels that the funds are going to be used for a positive NPV project.
3. An investor with a controlling interest in a firm can affect the outcome of votes that benefit him personally either by benefiting a subclass of shareholders that he is a part of; or by involving the firm in a relationship with a third entity in which he has a personal interest.
4. In this case, the Brazilian government can use its political power, as well, to ensure that the firm does as the government desires. Court action against the "majority" shareholder, as well, is less likely to succeed in this case, if the judiciary is not truly independent.
5. If investors perceive conflicts of interest between the government and the other minority shareholders, they will be less willing to invest in buying new shares -- and if they do, they would pay less for it, discounting the potential dispossession. The government can reassure minority shareholders by pushing through corporate governance measures that allows company management to act independently of the government -- perhaps by requiring supermajorities for certain decisions so that the government's majority veto is lost.
6. If I felt that there are conflicts of interest -- and it's difficult to believe there aren't -- I wouldn't.