Tickers in this Article: PBR, APA, STO, BP, LUKOY, SLB, RIG
What happened to Brazil? Once one of the darlings of the international investment community, Brazil has not done so well of late. Beset by worries of inflation and increasing government interference, Brazil's markets have lost a little luster.

This is still a high-quality growth emerging market, though, and investors looking to play an eventual recovery in investor interest should give some thought to Petrobras (NYSE:PBR) - one of largest and best-known Brazilian companies.

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A Strong Start to the Year
Petrobras got 2011 off to a good start. Net operating revenue rose 9% from last year (and 1% from the fourth quarter), helped by very strong price realizations in the E&P segment, as well as some modest production volume growth. Petrobras is still very much a Brazil play, as less than 10% of the company's oil and gas production comes from outside Brazil.

Gross profit rose 11% from last year, but operating income performance was flat (though up 26% sequentially). Operating income improved significantly in E&P, with 18% annual growth, but the refining business reversed to a loss due to the pressures of higher crude costs and frozen domestic pricing on refined products. The gas and electricity segment was also a strong performer (up 34% from last year), but is relatively small at less than 6% of total operating income. (For more, see Bargains In Brazil.)

Winning Some Battles on Costs
Petrobras reported that domestic lifting costs rose 28% from the year-ago level to $30.48 per barrel. The increase is not surprising; most energy companies are reporting that it costs more to get oil and gas out of the ground. That is especially true for companies like Apache (NYSE: APA), BP (NYSE: BP), Statoil (NYSE: STO), and Petrobras that have large offshore operations. What's more, guidance from major service providers like Schlumberger (NYSE: SLB), Transocean (NYSE:RIG) and Subsea 7 does not suggest that those pressures are going to ease. (For more, see Demand For Oil A Boon For Service Stocks.)

Even with the pressure in drilling costs, the cost picture is better in E&P than in refining. As mentioned, the refining business is struggling between the rising price of crude and other refining inputs and the limited ability to pass it along. Petrobras is seeing good pricing in areas like exported jet fuel, but the Brazilian government is in no great hurry to see full price adjustment for domestic gasoline and diesel prices.

Fear Creates Opportunity
There are a lot of fundamentals that make Petrobras attractive, not the least of which is a huge amount of oil off the shore of Brazil. Counterbalancing that, though, is the direct involvement and interference of the Brazilian government. Brazil's government has made it explicitly clear that the state is going to benefit from these offshore discoveries. What's more, the Brazilian government's involvement in the CEO change at the giant iron miner Vale (Nasdaq:VALE) shows that the government will interfere more directly when it feels its concerns are not being accommodated.

This sort of interference is anathema to many investors and they won't hold Petrobras shares as a result. The thing is, the Brazilian government knows that they need Petrobras to succeed and there are more than a few examples in Latin America of governments strangling their golden geese through under-investment and overt interference. That argues for Brazil finding a middle ground that allows the state to benefit without wrecking the company. (For more, see It's Time To Invest In Brazil.)

The Bottom Line
Petrobras is one of the cheapest major oil companies, due in large part to those concerns about the Brazilian government. That's par for the course in energy, where many of the discounted stocks carry some sort of fear discount. Statoil, for instance, trades cheaply on the fears that it cannot replace production fast enough, while major Russian energy companies like Lukoil (Nasdaq: LUKOY) and Gazprom (Nasdaq:OGZYPY) trade cheaply in part due to concerns about the Russian government's policies.

Investors certainly should not ignore ideas like Apache or Statoil, but Petrobras could be an appealing bargain for those looking to add exposure to both energy and Brazil.

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