Gustavo Ballvé on May 21st, 2012
Food for thought, Home, Investment Themes

As Internet connection allows, I’ll update this post with Day 1 notes from Rio Investors Day 2012. All time stamps are local time (GMT-3 or ET+1).

9:33am: Starting (late) a video about Rio as the city’s Secretary of Finance explains the government’s priorities (which, in a nutshell, is about a delicate balance between fiscal discipline and ongoing investment in infrastructure). Rio’s credit rating is now Investment Grade according to all 3 majors.

9:37am: Rio’s mayor highlights the investment grade rating, which in practice, he says, means that Rio is a business-friendly city. That is the message he wants investors here today to remember.

9:45: Mayor’s speech ends.

First panel: Utilities

Companies represented: Light, Equatorial, CPFL, AES Tietê and Cemig.

Host: BTG’s head of research Gustavo Gattass

1st question about contract renewals and signals by the government that terms may get worse (specifically, de-indexing from inflation). Dr. Rolla from CEMIG answers that distributors guarantee contracts upstream and any problems they face can become sector-wide, and that de-indexing of revenues might lead utilities to de-index costs as well, including salaries. Plus he raised the issue of contract security, which is one of the factors making utilities attractive for investors – especially in a time that so much investment in the sector is needed to support the country’s growth.

AES Tiete’s CEO agrees that de-indexing at a time of extremely stable, consolidated low inflation might make sense to discuss, but not so in today’s Brazil.

The question about network losses draws different answers because, of course, the companies’ markets are very different. For Light, for instance, the losses in metropolitan Rio are obviously an opportunity and have already been influencing results. For Equatorial, however, some markets are already “stretched” in the sense that any further tightening of the proverbial screw in the poorest areas would actually cause “stress” in the network. And AES’s CEO remembers that other factors are much more relevant, such as taxation and (again) the contract negotiations (see 1st question).

The utilities CEOs are clearly quite unhappy with the “imbroglio” over tariff negotiations… It’s rare that execs are so vocal in such a regulated sector, especially given the recent interventions in the banking sector.

Question about dividends: Dr. Rolla says focus on the yield, but sometimes paying dividends is seen by the government and part of the population as a “sign of wealth”, thus implying that tariffs should be reduced (again this issue). And Equatorial agrees. Another exec jumped in to remember that the 7.5% ROA allowed in the tariff is completely apart from the other parts of the tariff that allows for investments, paying salaries and – last but not least – the ROE. So the ROE part is after investments, decreasing dividends won’t increase investments, it will just diminish returns, which will lead people away from the sector. Yet another exec jumped in to remember that utilities are ok today because of hard work and investments to extract efficiencies, and that it’s easy to forget that the sector was in disarray not so long ago.

10:55: first panel ends. Quite late!

(Unfortunately I missed the 2nd panel, Mining and Steel)

Third panel: Consumer Products

Companies represented: Lojas Americanas, B2W, AmBev, maybe Renner (see below)

12:05: Panel starts. José Galló of Renner had a flight delay but is on his way (possibly the best retail exec Brazil has ever seen, so this panel will miss his insights).

12:08: Lojas Americanas results and optimism for the 2nd half.

12:11: AmBev also discussing results so far, special mention to their ad campaign during Carnival. Q1 beer volume growth YoY 4%, soft drink 7.4%. Should have a better 2nd half as well. Some uncertainty about federal taxes on alcoholic beverages.

12:16: B2W even more optimistic, be it 2nd half or long-term. Quoted Brazil’s low Internet retail penetration and other “long-term” metrics. There’s no doubt That Brazilian e-commerce will grow, but it’s far from clear that B2W would benefit after so much trouble.

12:20 Mr. Galló has arrived. Also discusses short-term results, and he doesn’t see much difference from his 2-weeks-ago update (in short, “measured optimism”).

12:32: Galló complains about the trend to treat “the Brazilian consumer” as a single entity. There are many ways to slice and dice the data so there are consumers with spending/credit problems, but there are also those who are increasing spending sustainably and so on. Renner’s idea of the 5 “lifestyles” represented by their products means targeting many groups in many ways, given different payment types and so on. And while that has worked for them it may not work for others.

12:37: Innovation in AmBev has been one of the main strategic pillars since 2008, be it product, packaging or “route to market”-wise. The visibility of these initiatives has also been taken to another level.

Premium beers in Brazil: 5% in 2011, Argentina 15% (overall, not AmBev). AmBev accelerated Stella Artois and launched Budweiser (August 2011 in Sao Paulo, Rio, the South and Minas but main cities in North and Northeast this year).

12:43: Aha, the inevitable question… The elephant in the room: Logistics/distribution question for B2W. B2W reminded us that it’s an Brazilian e-commerce issue rather than B2W’s, and mentioned the huge investments in 2011 and ongoing, which he says already show improvements as per Q1 results. A careful answer, which is perfectly understandable given the forum. Which raises the question, again and always in such conferences, of how useful really is this format for investors who have studied these companies for a while.

Mr. Galló’s answer on the same subject was much more useful: it described how they segment stores (by at least 4 factors and crosses of those), which have implications in terms of logistics, and how future growth will affect even the size of trucks the company uses.

13:01: Panel ends. The last question was about the rising US Dollar vs the Real and impacts. None of the answers brought new insight in terms of the companies’ known revenue and cost lines. Renner for instance has from 10-15% imported products, which they hedge somewhat (if I heard it well, a dollar above R$2.00 isn’t the best of worlds for them), but there’s also been a positive effect from the price of cotton and so on.

13:07: Just noticed that the “real” reporters have a few minutes to ask question from execs after each session by ganging up on them. Not surprisingly, B2W’s representative is the one they’re after. I probably won’t join them, unless the other “yellow badges” start giving me funny looks.

We do have a lunch break now and I can’t make it to the Central Bank presentation during that break. I’ll be back with the Healthcare panel around 15:00 (14:00 ET).

Fourth panel: Healthcare

Companies represented: SulAmérica, Odontoprev, Amil, Qualicorp and DASA

15:06: DASA’s CEO argues about LabCorp + Quest’s market share in the US, and the unfair view about his company regarding organic growth opportunities. In terms of concentration, not even Rio and SP are concentrated “enough” and the North and Northeast represent opportunities.

15:11: Qualicorp’s Heraclito discusses that it’s actually a very fragmented sector, even more so in health plans. He also argues that the HC sector sends its regulator a huge amount of information periodically, so it’s quite transparent and shouldn’t be considered concentrated at all. He’s right, in terms, but the tone was almost combative.

15:46: After a quick power shortage (wow…), DASA’s CEO was extremely frank to the point of impressing the audience, and perhaps even to a fault, by saying the young former CFO couldn’t handle the pressure (“but he’s a great kid”). Even so, I much prefer this frank discussion of the company’s different phases and problems and the sources of those. And while the part of how they’ll solve the problems wasn’t very specific/point-by-point, it couldn’t be given the forum. the key, he says, is balancing the investments for long term growth and sustainability with the need for returns.

15:50: Qualicorp repeats the mantra that they’re not brokers, they’re managers. They control HC costs for companies, saying that their medical cost CAGR was 6% p.a. since 2007, if I heard it well, which is below Brazil’s medical cost CAGR in the same period. They’re growing 40% p.a. while the market grows 5% (in terms of lives). Their own guidance is 25% CAGR for the next 5 years in terms of lives, and that brings leverage and smaller companies can’t replicate it. The path of increasing coverage while also keeping costs in check just doesn’t favor smaller companies (which he defines as those with less than 50,000 lives).

All CEOs had their own versions of why sector concentration is far from over and why that’s good for everyone. They may or may not be right, and it may or may not matter in terms of what will happen anyway, but remember the sources’ interests.

Fifth panel: Financial Services

Companies represented: Cielo, Cetip and DirectEdge

16:23: question about competition for Cielo. Says it’s become more rational, although Redecard supposedly more aggressive very recently and Santander also aggressive and growing but again, not a huge problem. Alamo + Citi, Global Payments and other global players will also enter Brazil either very soon or soon.

16:26: Cetip should benefit from low interest rates as it tends to drive new debt issues. That said there are IT/platform opportunities as well, which in practice might mean offering more turnkey solutions to companies. He mentioned specifically Real Estate companies, acting since the origination to the placement of debt.

Cetip has some contracts that were established when the company wasn’t even for-profit, so its prices range from the very cheap to the “normal”. Profitability came from gains of scale, but yes, there could be an opportunity from repricing.

16:31: DirectEdge is a new exchange, and the CEO has been coming to Brazil for 2 years now talking to every player in the market, be it investor or regulator, to understand the market, the product, pricing and so on. The question of how they’ll bring their model from the US here without a clearing house of their own was answered in a simple way: we will use existing clearing facilities. As long as there’s fair access to the clearing facility, they can be for-profit as much as they want. He mentions Australia as a working case. And said that there’s a concern about access to clearing facilities vs. too much concentration of power in their hands…

Over here, Bovespa’s tariff is so that 2/3 of it is clearing and 1/3 is processing. The CEO said it happened for tax reasons, so there was some explanation for it, but that it’s still much higher (proportionally) than in the US, so there’s got to be room for improvement…

16:40: Question to Cielo about Itaú potentially acquiring Redecard: Cielo already processes stuff for banks other than Bradesco and Banco do Brasil (their controlling shareholders) – such as HSBC. And it has been working with existing customers in terms of new innovations and integrated products to provide a more complete solution. Also mentioned is the “loyalty” program(s) trying to create switching costs for retailers. There are also solutions in which they can customize promotions for retailers targeting different metrics, such as increasing average ticket or providing funding for consumers through the cards and so on.

16:46: ICE owns 12.4% of Cetip and are currently the largest shareholders. They’ve been learning a lot from ICE, and there are specific joint projects coming up.

16:51: Cetip in the defensive, that is, says price isn’t the only factor, he mentions experience, quality, reliability etc. – yeah, but other markets have been disrupted by a price player before despite all that. Again, it’s not a given that a low price player will take the market but it’s also not that easily dismissible.

16:54: DirectEdge about technology, saying that The learning experience from US high-frequency traders and hedge funds that need both reliability and speed (order throughput) has given them a technological strength that they think makes sense to bring to Brazil, as long as they learn what the market needs – and they’ve done that study and are applying for a license at CVM. They’re talking to potential CEOs here and should have interesting announcements in the following months. They’ll deliver reports to CVM about market efficiency as well (so there is an evangelist side to their approach).

The amount of questions from the audience to DirectEdge was pretty interesting, and the CEO sounds pretty knowledgeable and straightforward. Whether his assumptions about the BR market are correct is something else. He thinks, for instance, that some 30% market share is “up for grabs”.

17:16: Panel ends.

(I had to leave and missed the final panel, on banking. It took a while but I left the hotel at 17:50. I got home, not 20km from the hotel, one hour and 20 minutes later. I probably witnessed dozens of traffic code violations that would mean arrests in civilized countries. Just a reminder of how Rio is far from the “new cool/hip/place to be/bestest city in the whole wide world”).

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