Brazil is currently undergoing a resource boom—it is the second largest producer of iron ore and is home to one of the largest off-shore oil discoveries in decades. As such, it presents huge opportunities for foreign direct investment (FDI), particularly in the extractive industries and also in the agri sector. However, inflationary pressures, an antiquated and overly complex tax regime and corruption at both local and state level can pose serious risks for potential investors.
The risk of governmental intervention and civil unrest in Brazil is very low, that’s despite populist policies and resource nationalism having characterised the policies of neighbouring Bolivia, Venezuela and Argentina and resulting in numerous expropriations of foreign owned assets and forced contractual renegotiations.
Not so Sweet for Insurers
Whilst the political landscape in Brazil is relatively benign, that is not to say that the credit and political risk insurance market has gone unscathed in recent times.
In the wake of the financial crisis, insurers have suffered a number of losses relating to credit policies covering the financing of soft commodities, namely soybean and sugar. The collateral underpinning the majority of these transactions were CPRs (crédula de produto rural).
Created in 1994, a CPR is essentially a bond issued by the rural producer, farmers associations, or cooperatives to investors and lenders, which guarantee a future harvest or crop. In exchange for funding, a farmer promises to deliver the harvest to the investor, or lender, via a third party or collateral manager. CPRs are also tradable financial instruments at commodity exchanges or in over the counter transactions.
CPRs have been instrumental in the growth of the agri sector in Brazil, and when they work, which they more than often do, they work very well.
However, problems arise when the investor or lender fails to call or realise the CPR, usually because it had not been properly registered or endorsed to the third-party beneficiary.
Whilst there is no legal requirement to do either, it can become difficult to perfect that security. Unless it has been endorsed to the lender, there is also a risk that the trader or first beneficiary will simply deregister the CPR or allocate the crop to someone else.
This has been a salutary lesson for lenders and insurers alike, particularly in relation to multi-year crop financing. It has also demonstrated that it is difficult for European lenders, or so-called briefcase bankers, to finance transactions in Brazil without having boots on the ground.
Also, the legal system, whilst modelled on the European civil code, can prove to be a minefield for investors. Invariably, due to local patronage or corruption, the local court of first instance will find in favour of the Brazilian entity, which could mean that the foreign investor finds himself embroiled in the appeal process, which can take up to eight years or more before obtaining a final judgement.
A Look to the Future
Given the widening gap between the ‘haves’ and the ‘have nots’, crime is arguably on the increase. Whilst Rio may have taken steps to clean up its act in advance of the World Cup, in other cities such as Sao Paulo, car-jacking remains rife. Such is the spate of petty crime that most expats are forced to live in gated communities.
Whilst we have witnessed a rise in resource nationalism in the Bolivar republics, with the state seeking to take a greater share in strategic projects to the detriment of the foreign investor, it is unlikely that Brazil will follow a similar path as this would severely impact future FDI flows.