Argentina Market

O'Grady: The Argentine Way of Business

It is never a good idea to agree to blackmail. The extortionist will not be satisfied until the victim is bled dry. Just ask Repsol, the Spanish oil giant. The record of its relationship with the government of Argentina strongly suggests the sovereign-risk equivalent of such a crime.

 Until last week, Repsol owned 57% of the Argentine oil company YPF. That's when Argentine President Cristina Kirchner announced that her government will seize 51% of the company. All of the shares she plans to take belong to Repsol. Nationalizations, particularly in the energy sector in Latin America, are nothing new. But the circumstances surrounding the Argentine grab of YPF may be. They demonstrate the special nature of kirchnerismo, an economic model that enriches friends of the government while driving the nation toward poverty. Repsol won ownership of YPF in a 1999 privatization. It seemed like a good idea at the time. But then the 2001-2002 peso collapse hit. The economy contracted sharply and a political crisis followed. In 2003, Néstor Kirchner, husband of Cristina and a former governor of the province of Santa Cruz, was elected president—with a mere 22% plurality.

Kirchner needed to shore up support. He did so by demonizing business and promising to redistribute wealth to the have-nots, whose numbers had swelled due to the crisis. He denounced entrepreneurs, condemned profits and stirred up class warfare. To hold back inflation after the peso devaluation, he imposed price controls on food and fuel. Utilities got hit with rate freezes. But wages and taxes kept going up. Companies referred to the slow strangulation by government diktat as "asphyxia."

Repsol was trapped. The government set the price of a barrel of oil at $42 and mandated that YPF oil output could not be exported until Argentine demand was satisfied. The natural gas business was even more difficult. Repsol says that the price controls combined with subsidies drove demand through the roof, taxing the company's resources. The relationship between the government and the Spanish company became strained. But having made a sizeable investment, Repsol did not want to exit. According to press reports supported by my own sources, the company agreed to allow Nestor Kirchner to broker a deal in 2008 to bring in an Argentine partner that he chose. That partner, the Petersen Group, was headed by banker and construction magnate Enrique Eskenazi, a long-time Kirchner ally.

According to published accounts in the Argentine press and in The Wall Street Journal, the Petersen acquisition of almost 25.5% of YPF was completed with almost no money down. Repsol agreed to finance the majority of the shares and loans from banks financed the balance. Repsol says that the Petersen Group still owes it $1.9 billion.
Repsol also agreed to increase YPF's dividend payout to 90% of earnings. Using those dividends Petersen was to pay back its loan to Repsol over time along with some $680 million in bank loans, according to Bloomberg. The company also paid one extraordinary dividend from retained earnings to help in paying down the loan.
Was this an attempt to avoid "asphyxia"? I asked Repsol why it agreed to such a deal and if it went along with the arrangement because Kirchner, who died in 2010, had been strong-arming the company. Repsol declined to comment.

Petersen's no-money-down acquisition was a sweet deal and some Argentines wonder if Kirchner set it up out of the goodness of his heart. This is a pertinent question since both Kirchner administrations have been notorious for a lack of transparency and have been plagued by corruption scandals. It is hard to answer because it is not clear who are the owners of the shares of Australian-based Petersen Energy. One Argentine source told me those shares are in bearer form, which would mean that there is no record of ownership. But when I asked Petersen if that is true and also how it financed the purchase of the YPF shares, it declined to comment. The Argentine government did not respond to requests for comment.

Mrs. Kirchner, who became president in 2007, justifies the nationalization by charging that Repsol was not meeting its investment obligations. Repsol denies this, saying that since 2006 "investment has been higher than earnings" and that in 2011 investment reached a record level. Since YPF retained only 10% of earnings after dividends, that investment required heavy borrowing and YPF debt increased sharply from 2007 to 2011. Nevertheless, Repsol claims that the government had nothing but good things to say about YPF through November 2011.

That was when the company announced that it had discovered the third largest shale-gas reserve in the world in a place called Vaca Muerta. Six months later, Mrs. Kirchner announced that Repsol would lose YPF. Apparently she decided that Repsol had outlived its usefulness. That's how things work in today's Argentina.