The bizarre tale of the PDVSA bond buyback

June 28, 2004

We have seen many bizarre tales in the last few years of the Bolivarian revolution. In the end, never had politics ruled above everything else in Venezuela like during the Chavez administration. Never have there been so many cases of obvious use of information for profit like in the last few years. But when we think we have heard enough, a new case appears to opaque the old ones and give new meaning to the words bizarre and Byzantine. Such is the case of the PDVSA bond buyback announced today.


But lets step back a couple of weeks: PDVSA has had about US$ 2.7 billion outstanding in bonds denominated in foreign currency. Not that long ago, these bonds were yielding more than the countrys sovereign bonds, which was somewhat non-sensical since the fortunes of Venezuela are tied so strongly to the fortunes of PDVSA, the countrys oil exploration and production company. PDVSAs bonds trade thinly in the international markets, that is, if a foreign fund wants to build a significant position in one of them, it has to do so slowly, so as not to prices higher. The company has bonds mostly in US currency, from maturity dates from 2006 until 2028.


 


Two weeks ago, something strange began happening to the companys bonds. Demand began increasing and prices followed, with some international brokers looking for fairly large amounts. Within days, most issues were up significantly with those with longer maturity increasing the most. But what made the increase strange was not only the price increase, but that the daily volume being traded rose dramatically. So dramatic, that it simply made no sense. According to investment bank UBS on June 15th. alone, more than US$ 300 million were traded in PDVSA bonds, an incredible 12% of the total amount outstanding. At the time, the explanation was that the company itself was taking advantage of the high oil prices to buy back the companys bonds, particularly those that had the sharpest discounts. Within days the rumor became that the company was ready to announce a buyback of some of its bonds.


 


Last Friday, the Financial Times was even more precise, saying the company would announce today the buyback of as much as US$ 1 billion in the bonds, even naming the underwriters for the buyback. If true, the early rise in prices would indicate a leak of information that someone took advantage of in style, given that the price of some bonds had risen by as much as 9% during the ten day period.


 


Well, today PDVSA announced the buyback plan not of US$ 1 billion, but of all of its outstanding debt. Moreover, the premiums paid are such that anyone purchasing the bonds in mid-June could have made profits of as much as 20% in the bonds with the longest maturity. Clearly, somebody profited from the information and the amounts and margins were simply huge and obscene. Another case for the annals of this pretty revolution. Will we ever know who profited from it? I doubt it, but I also doubt they are part of the opposition.


 


But the largest question is why would PDVSA do this? From a financial point of view, there seems to be very little rationale for buying back these bonds at such prices. PDVSA would have a difficult time placing new bonds in the international markets at such low interest rates. Additionally, at this point in time, PDVSA needs financing for its future projects and despite the high oil prices, it can not go at it only with its own resources. Margins in the oil business are such that it will always be advantageous for a properly run oil company to borrow at current interest rates to invest in new projects. If not, witness Exxon/Mobil, a US$ 290 billion company, with US$ 80 billion in debt.


 


Thus, it would seem to make little sense for the company to do this buyback, except that the company has been having problems completing its financial statements. Since most of these bonds are registered abroad the company has to submit its financials to the SEC. The deadline for such a submission is June 30th. with an extension being possible. The June 30th deadline seems almost impossible to meet since the company has not even held its shareholders meeting to approve its financials. But if the PDVSA Board asked for an extension and then bought back all of the bonds, then the requirement that it submit its financial statements to the SEC would simply disappear. Ingenious and bizarre: eliminate all of the foreign currency denominated debt so as to avoid possible violations of the law abroad. They could care less about Venezuelan laws or the health of PDVSA; after all, according to local regulations the financial statements should have been presented by March 30th. which did  not happen, but this has no relevance in a country without laws.


 


Obviously, none of this makes any sense from a financial point of view. PDVSA should be increasing its debt so as to embark in the type of investment programs that it needs to maintain the countrys oil production. It needs to invest as much as US 40 billion in the next five years, which would make no sense to have it financed from its own resources, more so when production has declined significantly in the last year and a half. But in the Bolivarian revolution politics is above rationality, long term planning and sensible management. It is more important to save the rear ends of the irresponsible heads of the oil industry that have been running the industry like a greasy diner for the last year and half.


 


Of course, there may be an even more bizarre explanation: The Government will turn around and issue the same amount in dollar denominated PDVSA bonds to local investors to be paid in local currency. In this manner, the coupons may be even lower than those that are currently outstanding and if issued under Reg. S will require no registration and filings in the US. Furthermore, issuing such a bond would push the parallel dollar exchange rate dramatically lower.  Thus, the law would be skirted and PDVSA would have its cake and would have eaten it too.


 


No matter which of the two option takes place, in the end one thing is clear: Transparency will simply disappear from the companys operations. Once there is no requirement for filing, Venezuelans will simply not be able to see or know what is going on within the industry that represents the lifeblood of the country. This from a Government that got to power asking for more transparency from PDVSA and complaining about the lack of decision power by the citizens in their most important industry. Bizarre indeed!

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