The future of Brazil’s air transportation market

Hello! This week’s issue: the most important facts of the week. How markets performed. Companies are still skeptical about Brazil’s economic outlook. The growing market concentration of Brazil’s air transportation.

The week in review

Venezuela. For the past few days, Venezuela has been engulfed by even more turmoil and uncertainty—as forces opposing President Nicolás Maduro staged a botched coup and Caracas saw waves of violent protests. With the opposition calling for a general strike next week, the country seems to be edging closer to a civil war. Which could have severe consequences for Brazil—including a bigger inflow of migrants, a flee of investors who would see South America as an unreliable bet, and the potential of placing Brazil between its two largest trading partners, China and the U.S.—which are on opposite sides of the issue. 

M&A. Retailer Magazine Luiza announced its intention to acquire online sportswear retailer Netshoes for USD 62m (USD 2/share). A KPMG report to the U.S. Securities and Exchange Commission raises serious doubts about Netshoes’ “operational continuity”—which should force stakeholders to accept the deal, despite share prices being way below their levels on the stock exchange.

Economy. Just before Labor Day, President Jair Bolsonaro signed a provisional decree to reduce bureaucracy for businesses. The main changes include allowing companies engaging in low-risk activities to operate without the need for permits (safety, sanitary, and environmental), and giving total freedom to firms to establish their prices. For all details, subscribe to Brazil On The Record.

Recovery. Brazil is undergoing its slowest post-recession recovery in the country’s history. Industrial output in March was 1.3% smaller than in February—accumulating 2.2% in the year’s first quarter, against Q1 2018. Meanwhile, one-quarter of the workforce is either unemployed or underemployed. At the current pace, Brazil’s economy will only return to 2014 levels in Q3 2023—almost one decade after the recession began.

Education. Newly-appointed Education Minister Abraham Weintraub has announced a 30% cut to the budget of federal universities and schools. This latest cut follows a long trend of reducing investments in education. Between 2014 and 2018, the sector’s budget shrank from BRL 11.3bn to BRL 4.9bn—and should be BRL 4.2bn this year. Educators alert to the possibility of Brazil’s federal universities closing in 2019.

Immigration. A study by the U.S. State Department shows that the number of Brazilian nationals who obtained a green card jumped by 33% between 2016 and 2018. The numbers, however, don’t mean U.S. authorities are being less strict with Brazilian immigrants. Instead, they reflect a growing trend of Brazilians wanting to live abroad—more approvals come from a growing number of demands.

Person of the year. President Bolsonaro canceled a trip to New York, where he was to be honored by the Brazil-U.S. Chamber of Commerce. The decision came after several sponsors pulled out of the event, as they didn’t want to associate their brands with Mr. Bolsonaro—who NYC Mayor Bill de Blasio called “a dangerous man.” Mr. Bolsonaro criticized what he called “the ideologization” of the event.

Companies still skeptical about Brazil’s economic outlook

During the 2018 campaign, there was a feeling among business owners and market operators that, if Jair Bolsonaro won, an economically liberal agenda would be implemented and investments would pour in. That hasn’t happened—as the government has proven to be an agent of instability, with its members defending different things when it comes to taxation, pensions, and trade barriers. According to the Brazilian Institute of Economics (IBRE-FGV) business confidence index, local companies remain below the ‘level of trust’.

Markets

Pulp and paper company Suzano recovered some market value this past week. Shares dropped to around BRL 40, amid worries about persistently low pulp prices in China, but bounced back to around BRL 42 on Friday. As investors try to protect themselves from Brazil’s market volatility—the company’s export profile may become attractive once again. Shares have lost 17% of their value since their 2019 peak, but Rico Brokerage claimed it was “feeling comfortable about adding Suzano to its May portfolio.”

Natália Scalzaretto, TBR markets reporter

Without Avianca, Brazil’s air transportation market will grow even more concentrated

The imminent bankruptcy of Avianca Brasil will make an already highly-concentrated market even less diluted. Without the 4th-largest domestic carrier, the result will be fewer domestic flights and more expensive tickets—as only two firms, Gol and Latam, will be the undisputed market leaders. They already control two-thirds of the domestic market.

As it is, the Brazilian air transportation market is already highly concentrated, according to the Herfindahl-Hirschman Index. This index is a calculation based on competitors’ market share and goes from 0 (no concentration whatsoever) to 10,000 (complete monopoly). A score above 2,500 indicates a high level of concentration: Brazil’s mark is 2,829.

The number of national carriers operating in Brazil has been cut by nearly half between 2010 and 2018, according to data from the National Civil Aviation Agency. Nine years ago, there were 23 national carriers, including cargo and passenger transportation. Now, there are only 12 (and that number should go down with the Avianca crisis).

Most companies that folded were focused on cargo transportation. Among commercial airlines, low-cost Webjet was acquired by Gol in 2011 and Trip Airlines merged with Azul the following year. Other small carriers left the market: Puma went bankrupt and Noar stopped flying after a 2011 crash killed 16 people.

Profit margins in Brazil are very slim—due to high operational costs. And companies with fewer planes have less muscle to absorb the price fluctuations of fuel—which are priced in USD. In 2018, Brazil’s four biggest airlines (Latam, Gol, Azul, and Avianca) amassed a combined loss of BRL 2bn—despite a 16% hike in their net revenue. Imagine what that can do to a small company.

Closing up the air transportation market

For Gol and Latam, the goal in the current moment is to prevent new players from entering the market. The duo muscled out Azul from the fight to buy up the spoils of Avianca. The three companies had been declared eligible to participate in the auction of Avianca assets—scheduled for May 7. Azul, however, has declared it has no intention to take part, as the company has grown disgruntled with the process.

The company had signed a non-binding deal to purchase all of Avianca’s assets for USD 105m. But a move by Gol and Latam—in association with Elliott Management Corp., an investment fund which owns 70% of Avianca’s debt—changed the rules. Elliott decided to split Avianca into 7 new companies, each housing different assets of the company. That gives Gol and Latam the upper hand in increasing their concentration of airport slots in São Paulo and Rio.

Lobbying by domestic players also got Congress to tear apart a piece of legislation allowing complete foreign ownership of airlines in Brazil—a move precisely aimed at increasing competition. Congressmen, however, included two articles that will, if approved, scare away most international companies.

The first prevents companies from charging for checked luggage—something national carriers already do. Another forces them to have 5% of their routes destined to regional flights (far less profitable than connections between Brazil’s biggest urban centers).

“What Gol and Latam want is to prevent competition. Even Brazil’s antitrust authority (Cade) has released a statement alerting to the increased risk of an unusual level of market concentration,” said Cleveland Prates, a law professor at think tank Fundação Getulio Vargas.

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