Fund managers support the SOE Law

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Fund managers and representatives of capital market investors see the proposals presented by lawmakers to change Brazil’s SOE Law as a potential institutional setback with severe consequences for the management of state-owned enterprises and mixed-capital companies.

Congress passed Brazil’s SOE Law in 2016 as an answer to the wrongdoing uncovered by Operation Car Wash. It is considered a landmark in improving the corporate governance practices of such companies. Amid the several improvements presented by the legislation, the criteria for electing directors were crucial to protecting such companies from political interference and granting more power to minority shareholders.

However, such a law limits the companies’ uses for political or partisan goals, which seems to be precisely the goal of political wings inside the federal administration. So, the idea of revamping the law by issuing a Provisional Decree has been gaining steam.

“If the legal framework changes, politicians will pressure for nominating directors. It will be a major setback that could bring back terrible experiences regarding SOE directors,” says Guilherme de Morais Vicente, Amec’s vice-president, and partner at Onyx.

The current rules state that professionals nominated for management positions and the board of directors of SOEs should have an academic background relevant to the position. They also must have worked as a civil servant or at a private company that operates in the same industry as the referred SOE and, obviously, of an immaculate reputation. Moreover, people connected to unions, that occupied a position in political parties in the prior 36 months, or that have any kind of conflicts of interest are ineligible.

“Nowadays, they do not accept just any person. Instead, there is a background check, with demands of proven experience, technical criteria for the selection, and compliance. Such measures have protected state-owned enterprises significantly,” notes Régis Abreu, board member at Amec and Founding Partner at Tagus Investimentos.

Besides setting the terms for nominations, the SOE Law has also encouraged improvements for such companies’ bylaws, including better definitions for the managers’ roles and accountability, says Mr. de Morais Vicente. Due to the more robust governance structure,  SOE managers have been abiding by the rules — or they might feel the impacts of the scrutiny by regulators like the Attorney General’s Office and the Federal Accounting Courts.

Another relevant issue was the progress of electing the board of directors and the finance committee. The law allowed for a greater number of independent directors, with minority shareholders nominating most of them.

The restrictions and demands enforced by the Law have positively affected the companies. Per the most recent report of the Ministry of Economy’s Secretariat of Coordination and Governance of State-Owned Enterprises (Sest), as of 2021, companies controlled by the Brazilian federal government reported record net profits of BRL 187.7 billion. Also, 22 out of 28 SOEs with independent finances from the federal administration turned in profits.

“Comparing the situation of, let’s say, oil maker Petrobras before and after the law and its impact on the company. Before the law, it was highly indebted, spent a lot on expensive loans, and delivered terrible results. Nowadays, it is performing according to international standards,” explains Mr. Abreu.

He also recalls the performance of Banco do Brasil bank, which is not falling behind the leading private banks in Brazil.

Is there a genuine intention?

Considering the positive outcomes of the law, fund managers raise doubts on the real reasons behind the desire to change it, which could reverse the past years’ achievements.

For Marcelo Mesquita, a partner at Leblon Equities and board member at Petrobras, it’s essential to understand if there is a genuine intention to improve the SOEs Law or if some political wings in the National Congress are using it to negotiate their interests.

“We must understand if it is just a smokescreen or if there is an actual proposal to change the law. If it is real, then there is a risk of returning to the times when there was significant political interference in SOEs,” says Mr. Mesquita.

However, he believes that the federal government’s economic team still backs the law in its current form. In this regard, Mr. Mesquita recalls the Ministry of Economy recently proposed the creation of eligibility committees, aiming to scrutinize nominees before shareholders’ assemblies. “The committee means an improvement of the terms set by the law, but it has enraged politicians, who can’t change SOE directors as fast as they would like,” he says.

The fund managers also argue that there is a need to control fuel prices and utility fees due to the high inflation, as it is a global phenomenon.

“The idea of changing the law to curb price spikes concerns us. Similar measures are going on in several markets. For instance, in the US, President Biden is under pressure to change the rules for energy companies,” notes Mr. de Morais Vicente. He also recalls that, in Mexico, there are similar proposals to intervene in prices driven by the need to maintain the citizens’ purchasing power.

Investors’ response

Investors are teaming up to rise against eventual changes that might lessen the positive effects of the SOEs Law, and Amec has a prominent role in the movement.

As of June, Amec and five other capital market organizations published a joint statement against changes to the law. In their view, such changes could harm the criteria for management and board nominations, which are the “main protection created by the Law against the use of SOEs as a political or partisan tool.”

The statement highlights the damage caused by the political interference goes beyond the impacts on public finances, harming the “attractiveness of the Brazilian capital market as a source of funding for economic activities.” It also quotes a 2020 report by the Organisation for Economic Co-operation and Development (OECD) that says the board of directors of SOEs became more independent from political interference thanks to the law.