December 2, 2008 / 11:43 PM / 10 years ago

INTERVIEW-Cosan says Esso investment an ethanol hedge

SAO PAULO, Dec 2 (Reuters) - Cosan, Brazil’s second largest sugar and ethanol producer, said on Tuesday it was committed to its acquisition of Exxon Mobil’s local fuel distribution assets as a hedge on its cane ethanol business.

Ratings agencies have downgraded Cosan (CZZ.N) (CSAN3.SA) because of the increased debt to earnings it will assume in acquiring the distributor known by the name Esso locally, especially under difficult global credit conditions.

“Esso will create a huge short on ethanol for us. We are naturally long on it, as one of the world’s major producers,” Marcos Lutz, vice-president of sales, told Reuters by phone.

Cosan announced in April it had bought Exxon Mobil’s (XOM.N) Esso assets in Brazil, outbidding state oil company Petrobras (PBR.N)(PETR4.SA).

The distributor buys about 1.5 billion liters of ethanol a year, just shy of the 1.7 billion liters Cosan’s milling assets sell annually, Lutz said. He added that Cosan does not sell one liter of ethanol to Esso, although it could.

“We will try to sell our ethanol at the highest price to other distributors and buy ethanol at the cheapest price through Esso from other producers,” said Lutz.

Cosan just closed the deal for $715 million for Esso assuming also its debt of $175 million, around $100 million less than initially estimated due to the cash generation of the company, Lutz said.

He said the Esso assets in Brazil have made a consistent 250 million to 300 million reais in earnings before interest, tax, depreciation and amortization, a measure of cash flow known as EBITDA. Before the consolidation of Esso which is still ongoing, Cosan has a debt to EBITDA ratio of 2.7.

It recently signed a promissory note with Brazil’s second biggest private sector bank Bradesco for 1.1 billion reais to help finance the Esso consolidation, Cosan’s investor relations head, Luiz Filipe Jansen de Mello said on the conference call with Reuters.

Lutz said that a few years ago the government began to crack down on the illegal fuel market that had been undercutting the big distributors through tax evasion, which has improved the sector’s profitability immensely.

The company also saw the acquisition of Esso as a defensive play in the distribution sector.

“If we had not acquired Esso, Petrobras or one of the other two large distributors such as Shell, Ipiranga-Chevron would have,” said Lutz. “So on a defensive side as an ethanol producer, we are in a lot less risky position, strategically, than we were before acquiring Exxon’s assets.”

Brazil blends all gasoline sold at the pump with 25 percent ethanol and sells 100 percent ethanol at over 30,000 filling stations to fuel a fast growing flex-fuel car fleet.

Analysts have questioned whether the company would have been better off by investing more in its core business of sugar and ethanol production, rather than in fuel distribution.

But Cosan has several expansion projects in the works.

“I think the company needs to be nonaggressive about its expansion right now. We don’t know how long this crisis will last and you can’t simply keep credit on the self,” Lutz said.

Prices for sugar and ethanol milling assets had skyrocketed up to a year ago but have fallen sharply under pressure of the current international credit and financial crisis.

Many medium to small producers are looking for larger partners and the environment is positive for mergers and acquisitions. Lutz said the company would be open to potential acquisitions based on share swaps.

Lutz added that Brazilian companies were better prepared to deal with the current global credit crunch than companies in many developed countries.

“Brazilian industries have been dealing with difficult credit markets forever, only in the last few years has there been no problem. So we are very aware of our cash position,” said Lutz. “We are careful not to over extend.”

The company said it did not comment on market rumors when asked about the story printed in the Valor Economico financial daily paper on Tuesday that Shell (RDSa.L) was interested in acquiring a stake in one of Cosan’s ethanol mills or potentially some of the jet fuel distribution assets controlled by Esso.

Editing by David Gregorio

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