Equities Research

Brazilian Chemicals

Americas Chemicals Sector Comment 23 September 2009

Bracing for the down cycle

After a good run, now more cautious Brazils Chemicals have seen a fairly good run in the face of what looked like very tough odds in the beginning of the year. Boosted by (i) a positive mindset on global demand, (ii) lower risk aversion and (ii) Brazils small and mid cap renaissance, the sector did well year to date gaining 80% vs. the Ibovespas 62% run. We are now more cautious on the sector, moving it all to Neutral. Main fear is of the Chemical down cycle, secondary is rally strength Our main concern in the sector is the risk that between now and the end of 2010, polymer (and glycol) spreads see a significant reduction that raises concerns on Braskems cash flow generation potential. We also believe that following its rally, Providncia has to send a clear message on dividends vs. growth, and that following its recent rally, Ultrapar is now less appealing. Ultrapar is our pick, but down to Neutral We are downgrading Ultrapar and Providncia to Neutral, although our target for Ultrapar is up. Within the sector, Ultrapar would still be our main pick. We see potential upside for Providncia but in the absence of stronger dividends we fear this upside may be not be visible for investors anytime soon. We fear how Braskems stock might react to weaker spreads or an acquisition.

Gustavo Gattass Analyst gustavo.gattass@btgpactual.com +55 21 3262 9299 Pedro Medeiros Analyst pedro.medeiros@btgpactual.com +55 21 3262 8764

ANALYST CERTIFICATION AND REQUIRED DISCLOSURES BEGIN ON PAGE 1 BTG Pactual does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision.

Brazilian Chemicals 23 September 2009

page 2

Bracing for the down cycle

Sector Investment Case Out of the sectors that we cover, the Chemical sector is the one that behaves less as a sector. Consolidation and M&A in the recent past have turned the sector into a less coherent group making us focus on companies. We see one leveraged diversified commodity producer, Braskem, one player that is now more focused on fuel distribution and logistics, Ultrapar and one player that is a third generation polymer processor, Providncia. Common to all are (i) the chemical cycle, where our view is negative for the next two years, (ii) a negative exposure to an appreciating currency, which we see as possible, and (iii) reasonable leverage to Brazils GDP growth. At present, the sector makes up 1% of the Ibovespa and 1% of the IBX index. Wed suggest an underweight position on the sector and would concentrate our exposure in Ultrapar. Braskem could prove to be a good play on deleveraging and better than expected chemical cycle performance, but we are cautious on that. Providncia could prove a good play on a weaker chemical cycle, but liquidity is tight. Year to date, Brazils Chemicals have seen a very strong bout of performance. The rally has been driven by (i) stronger than expected polymer spreads from Q2, which, combined with (ii) falling risk aversion, made Braskems high leverage appealing, and a (iii) renewed interest on small caps. In essence, our view is that the largest part of the rally is behind us and that the outlook less appealing. Table 1: Stock Performance and Information Chemical stocks have performed very well this year

Source: BTG Pactual and Bloomberg

Table 2: Chemical Peer Valuation

and left valuations less appealing under our base case assumptions

Source: BTG Pactual and Bloomberg

Brazilian Chemicals 23 September 2009

page 3

Table 3: Chemical Price Scenarios

We believe that buying chemicals now must be a function on grater faith that polymer spreads will hold or improve

Source: BTG Pactual and Bloomberg

Table 4: Valuation under Chemical Price Scenarios

which would make valuations and balance sheets more appealing

Source: BTG Pactual

Table 5: Currency Scenarios

Or a belief that the currency will weaken considerably

Source: BTG Pactual

Table 6: Valuation under Currency Price Scenario

which might be even better for potential value at these companies.

Source: BTG Pactual

Brazilian Chemicals 23 September 2009

page 4

Target and Forecast Changes We have made some major changes to our forecasts and targets. We increase our target for Braskem, to R$11.5/share from R$7/share as a result of (i) an increase in our earnings forecast for this year of roughly R$3/share (from FX gains on its debt) and (iii) the use of our methodology of 6.0x EBITDA (this is at a discount to peers now, but Braskems lack of earnings offsets that). Our target for Ultrapar is up 7% to R$76/share from R$71/share. Most of this comes from improved forecasts and target valuations for Ultrapars LPG business, Ultragaz. Our EPS forecasts are down marginally for 2009, but we have brought them down a bit more in 2010 on a stronger currency and expectations for a tougher glycol market (our view of the down cycle). Our forecasts for Providncia have changed the most. There are three drivers for this: (i) underperformance versus our initial expectations for margins in past quarters; (ii) a stronger currency; and (iii) Brazils new tax rules that make Providncia book higher, non cash, income tax. We cut our target to 10x 2011E EPS, which is significantly lower than DCF, on low liquidity and low payout. Table 7: Target and Forecast Changes Braskem target up on improved earnings this year. Ultrapars on Ultragaz

Source: BTG Pactual

Looking ahead Looking ahead and through to the end of 2010, our call for the sector is to focus on the least chemical of its plays, Ultrapar. While here too valuations are not as appealing as they were in the past, we find that the Ultrapar offers more leverage to the most positive of the sectors catalysts while offering least exposure to the ones we are more concerned about. We see Braskem as the riskiest of our coverage universe, as a result of its high exposure to commodity chemical spreads (particularly polymer spreads to naphtha). It is still a beneficiary of falling interest rates and potentially a deleveraging play, but if polymer spreads play out as we fear they will, there is room for disappointment and tough times for the stock.

Brazilian Chemicals 23 September 2009

page 5

We see Providncia as a good play on a grimmer outlook for polymer spreads, and in a sense a good play on our base case scenario for the sector. However, we also see it as a less liquid name that has good cash flow generation but little appetite to payout a good deal of its cash in dividends. Management is focusing on growth and we are simply not sure that is the best strategy at the moment. Under our alternate scenarios our stock preferences would see some relevant changes. In our strong scenario for chemicals wed make Braskem our preferred pick in the sector. In our weak scenario wed retain our preference for Ultrapar, but perhaps increase our exposure to Providncia somewhat. The Case for the Pick Among the Brazilian Chemicals, we chose to focus on Ultrapar for our exposure. We do so in part because of a belief in Ultrapars positives (synergy driven earnings growth, solid management and more domestic business). But as strong as our love of Ultrapars story is, we have an equal dose of attraction to the name due to our more cautious forecasts for chemicals themselves. Solid earnings growth outlook We see Ultrapars earnings growing by 37% in 2010 and 17% in 2011 mostly on the back of the consolidation and synergy gains stemming from its Texaco acquisition of early 2009. But we also see room for improvements in LPG and its chemical business. Lower exposure to the currency and the commodity cycle Ultrapar has been growing into more of a domestic fuel distribution and logistics play in the last years. This lowers its exposure to the commodity cycle and also lowers its operational currency exposure. Lower valuation volatility under BTG Pactuals scenarios In a sense, the company also offers a more consistent story in times of uncertainty about the global macro environment. Even under our weaker scenarios for chemicals our multiples show little deterioration. Solid management and cautious leverage policy In our view, Ultrapars management is somewhat cautious with its balance sheet, but very zealous of the return on capital employed in its business. We see risk of cash flow being used for deleveraging, but see solid long term upside for the name. Key Drivers (Catalysts and Risks) While each of these is looked at in greater detail in the Key Drivers section of this report, we here summarize the key drivers that we see for the sector from now to the end of 2010. Some, more company specific, drivers are approached separately in the company sections of this report. In general terms, we believe that most of the stock performance will be linked to these drivers.

Brazilian Chemicals 23 September 2009

page 6

Polymer spreads to naphtha Polymer spreads, and, to a lesser extent, glycol spreads, are the key drivers for the sector. We believe that after the rally seen this year (back to $660/t in Q3) spreads are likely to weaken considerably in 2010 ($590) and 2011 ($550) on rising global capacity. Brazils currency Most of the companies in the sector are either exporters or have their margins defined by international pricing parity. A strengthening currency weakens domestic cost structures. We assume in our forecasts R$1.81 in end 2009 and R$1.87 in 2010, but see downside risk to that. M&A Both Braskem and Providncia seem keen on acquiring assets internationally. While this may prove to be positive, we believe that it is more likely to raise leverage and increase the complexity of these businesses with more opaque benefits. Ultrapar may target more fuel distribution assets. Cash flow focus We see Braskem focusing on growth (organic and M&A), Ultrapar focusing on deleveraging, and Providncia coming to a crossroads on growth vs. higher dividends. We believe that higher dividends at Providncia would be very welcome, but still see them as less likely. Valuation and Price Targets Our targets for Brazils Chemicals are set more on internal metrics than peer valuation. While, Braskem has some relevant peers globally, its high cost of debt and high leverage make EV multiples less comparable and its earnings multiples often negative. Ultrapar and Providncia have no real liquid peers globally that we see as good valuation benchmarks. In the multiples, P/E is our main focus. Table 8: Peer Valuation We dont see real peers for Ultrapar or Providncia in the market

Source: BTG Pactual and Bloomberg

Table 9: Valuation at Target

Under our assumptions for polymer spreads, our target for Braskem is challenging

Source: BTG Pactual

Brazilian Chemicals 23 September 2009

page 7

Key Drivers
In this section we support our views for the four most relevant drivers that we see for the Brazilian chemical sector: (i) polymer (and glycol) spreads; (ii) the behavior of Brazils currency; (iii) M&A potential and (iv) cash flow usage for the companies in the sector. We also take a brief look at the alternate scenarios we have put together for the key variable. Polymer Spreads En Route to the Down cycle? By far, the most relevant driver for Brazils Chemical sector is the behavior of the chemical cycle and in particular that of ethylene. Of the three companies in our coverage universe, two, Braskem and Ultrapar, have exposure to the ethylene cycle. Providncia is less exposed to ethylene being instead a player with more exposure on the outlook for propylene, or more specifically polypropylene. Our main forecast drivers on this front are (i) the spread between polyethylene and naphtha, which is the key variable that we use to gauge Braskems results and (ii) the spread between glycol and ethylene, with is the key chemical input into Ultrapars chemical business, Oxiteno. On both fronts, our view is for tough times in the next two years. Table 10: Base Case Chemical Assumptions Global spreads are as important as the Brazil premium

Source: BTG Pactual and Bloomberg

Our negative outlook is predicated mostly on (i) a large increase in ethylene capacity that is scheduled to come online in 2009, 2010 and 2011, and which we see as unlikely to be offset by capacity rationalization or surging demand; and (ii) a belief that most of this capacity will be directed towards the production of both polyethylene (PE) and glycol. Ultimately, one may wonder if our case for the sector is not overly cautious. After all, global polymer spreads have held up much better against a massive reduction in demand over the course of 2H08 and 1H09 as producers globally cut back on production and mothballed capacity. While spreads collapsed to $430/ton in early December, they rallied back to $770/ton by May. We have to admit that we did not expect such a strong recovery. We credit it both to rising Chinese demand but most importantly to plant rationalization. Roughly 2 mtpy of ethylene capacity have been mothballed over the course of the last 12 months. And a further 2 mtpy are expected to be shut down by the end of 2010.

Brazilian Chemicals 23 September 2009

page 8

Chart 1: PE spreads to Naphtha ($/ton)

Our main concern relates to the PE spreads

Source: Bloomberg

But against this backdrop, some 18 mtpy of capacity are to come on line in 20102011 (80% more than the average annual increase seen in the last five years), and most of this in areas where feedstock is very cheap (Middle East) or as import substitution (Asia). The capacity increase represents 9% of existing capacity in 2010 and 5% in 2011. Table 11: Global Capacity Additions and Polymer Spreads as too much capacity is coming on stream and shutdowns have already happened.

Source: Bloomberg, BTG Pactual and company reports

We believe that the quick move the industry saw in mothballing capacity was a planned reaction to an expected massive increase in Middle East and Asia capacity. That it was used to counter a drop in demand in 2009 did not matter. It worked. What does is that we do not believe that similar capacity rationalization is possible when this new capacity comes on stream. In our view, the necessary sacrifice is too big in light of the size of the players that would be likely to rationalize capacity. An effort of about 3-4 mtpy might be needed to neutralize the increase in capacity in 2010 and 2011 (assuming 5% growth in demand which may be too much). The largest players in the market now have some 6-9 mtpy of capacity. Cutting this much again is challenging. Brazils Currency Another strengthening run? While our forecasts for Brazils earnings and cash flows are based on currency forecasts that simply reflect the inflation differential between US and Brazilian inflation rates for the future, our fundamental view of the currency in Brazil is that

Brazilian Chemicals 23 September 2009

page 9

it offers more strengthening risk than weakening risk for the coming two years. Driving this are commodities, and a positive picture for Brazils macro. M&A Hunting abroad! Over the course of the last months, both Braskem and Providncia have sent signals to the market that they might reap growth opportunities abroad. The case for both is similar. They appear to be searching for a foothold into the US so that they might have a developed client base for when their planned capacity expansions come on line in the future. We tend to believe that an acquisition by Braskem in the US is more likely than not from now until the end of 2010. For Providncia we see a tougher outlook on acquisition as we tend to believe there are fewer targets available with the kind of traits (machinery) that the company is seeking. Still, our view on the potential for market reaction on both is similar. We tend to see them with caution. At the heart of our caution are three key drivers: (i) the likelihood that the upside and synergies from the acquisitions might be hard to explain; (ii) the fact that Brazils financing options still make for very high hurdles for acquisitions by either player and (iii) the fact that in the case of Braskem, this could lead to a call for a capital increase that investors might not be counting on. Ultimately, the appeal of any acquisition is in both the target and the valuation paid to take it over. But we tend to believe that the short term benefits from acquisitions to shareholders are generally inexistent unless (i) the business is very simple and (ii) the synergy upside is clearly visible to all, as was the case with the Texaco acquisition by Ipiranga. As a result, our general view is that, at present, M&A is more of a risk than a positive catalyst for these stocks. We would rather not see it happening and see (i) greater dividend payout at Providncia, or (ii) greater deleveraging at Braskem. Still, since both companies have very clear targets to grow their businesses, our wishes may be hard to fulfill. Beyond these there are two other points wed flag Brakems alleged merger with Quattor Over the last month, Brazils press brought some comments on the potential for a merger between the countrys two base chemical players. Press releases from both parties have indicated intentions to negotiate a partnership but not confirmed merger talks. We believe that a merger between Braskem and Quattor is unlikely as it would probably lead to the removal of Brazils import tax on chemicals (14%). We do believe that Braskem would desire such a deal. Ultrapars potential acquisitions in fuel distribution While we do not see very clear plans from Ultrapar to grow its business through acquisitions in

Brazilian Chemicals 23 September 2009

page 10

the short term, we believe that it is possible that the company targets additional acquisitions in the fuel distribution market to increase its market share in the event that any assets are offered. Due to the simple nature of the business and the clear benefits that synergies with a domestic distribution player might have, wed see those as positive, if they come. Cash Flow Usage Not on dividends, eh? The last relevant driver that we see for the sector is the potential change in cash flow usage policy for each of the players over the course of the next years. We believe that investors have generally disliked the cash flow usage policy of Braskem and Providncia in the last years, and have only seen that of Ultrapar as truly accretive to, minority, shareholders. Table 12: Dividend Payout Policies Relative to Earnings and Cash Flow We believe Providncia could pay a lot more, but they have a 50% policy

Source: BTG Pactual

Still, we believe that there is a chance that these policies might change over the course of 2010. Here may lie a potential driver for the stocks. Unfortunately, though we do not see these changes as particularly pleasing to investors. Ultrapar, which has delivered accretive growth may move into de-leveraging. Braskem and Providncia may continue to look for growth. Our best case scenario would be one where: (i) Ultrapar clearly indicated that it was happy with its current leverage and hinted that it would increase payout or focus on additional growth; (ii) Providncia sent a more bullish message on dividends and (iii) Braskem hinted that for now it would move towards a less leveraged balance sheet that would allow it to pay dividends. BTG Pactuals Scenarios While we have based our forecasts on our best estimates of what is to come for the key assumptions that drive company earnings and valuations, we have to admit that commodities and currencies offer more surprises than wed like to admit, even at times of macro calm. Hence, we offer in most of our coverage sensitivity analysis to how earnings might look under alternate scenarios.

Brazilian Chemicals 23 September 2009

page 11

Table 13: Base Case Chemical Assumptions

Source: BTG Pactual and Bloomberg

For the chemical sector we look at two different variables for sensitivity: Lower and higher chemical spreads At the low end we consider that polymer spreads hit $500/ton 2010-11 and stay there as the sector works away overcapacity. At the high end we consider that spreads stay at $660/ton. On glycol we work with $40/ton (low) and $150/ton (high). Table 14: Base Case Chemical Assumptions

Source: BTG Pactual and Bloomberg

Table 15: Chemical Price Scenarios

Source: BTG Pactual

Table 16: Valuation under Chemical Price Scenarios

Source: BTG Pactual

Brazilian Chemicals 23 September 2009

page 12

Table 17: Valuation under Currency Price Scenario

Source: BTG Pactual

Stronger and weaker currency At the strong end we consider that Brazils currency strengthens to R$1.6/US$ by end 2009 and stays there for 2010 and 2011. At the weak end we consider that the currency weakens to R$2.3/US$ by end 2009 and stays there in 2010 and 2011. Table 18: Currency Scenarios

Source: BTG Pactual and Bloomberg

Table 19: Valuation under Currency Price Scenario

Source: BTG Pactual

Brazilian Chemicals 23 September 2009

page 13

Table 20: Valuation under Currency Price Scenario

Source: BTG Pactual

The combination of our low scenarios for the currency and the polymer spreads throws Braskem into a tight cash flow position by the end of 2011 and would lead us to believe that investors would be questioning its ability to go about its everyday business without a capital increase. In the high scenario we would see the company as the best performing stock in the sector.

Brazilian Chemicals 23 September 2009

page 14

Ultrapar Neutral Target R$76/share (US$41/ADR)

Brief Company Description Ultrapar is a diversified conglomerate that has three key businesses: (i) fuel distribution business that caters both to domestic LPG consumption and service stations under the Ultragaz and Ipiranga brands; (ii) a specialty chemical business working with ethylene oxide and fatty alcohol under the Oxiteno brand and (iii) a logistics business under the Ultracargo brand. Ultrapar is the second largest player in Brazil in fuel distribution to service stations, one of the largest players in LPG distribution and the only player in Brazil and the largest player in LatAm in ethylene oxide. The company is controlled by the Igel family and has a track record of financial caution both in acquisitions and the management of its balance sheet. Investment Case and Valuation Buying Ultrapar is effectively a play on the potential that Brazils automotive fuel distribution business may continue to enjoy strong growth and that Ultarpar may meet or exceed its target to reach an EBITDA per cubic meter sold of R$53 (from R$37 in 2Q09). Brazils LPG distribution market might continue to show improvements in margins that allow Ultrapar to have a very profitable business in spite of the low growth that the sector sees. Ultrapar might both maintain a high margin on its chemical specialty business and also see an improvement in the glycol spreads so that its commodity business contributes more. Management might, over time, continue to grow the business through organic means or through acquisitions maintaining its historical level of value accretion. We calculate our R$76/share (US$41/ADR) target price for Ultrapar using a sum of the parts approach where we value each of Ultrapars parts with a simplified DCF model. Our target valuation for each of the businesses can be seen in the table below. At target, we see Ultrapar trading at 16.0x and 13.6 P/E in 2010 and 2011 vs. a historical figure of 14.9x in 2004-2008.

Brazilian Chemicals 23 September 2009

page 15

Table 21: Sum of the Parts Valuation for Ultrapar

Source: BTG Pactual

Key Forecasts and Drivers We see EPS CAGR for Ultrapar of 21% from 2009 to 2012 driven mostly by synergy gains to be reaped in the Texaco fuel distribution business acquisition of 2009 and from expected improvements in the companys chemical business during this period. We believe that Ultrapar will stick to its minimum dividend distribution policy of 50% in the period and focus on deleveraging. Table 22: Summary Financial Forecasts

Source: BTG Pactual

In our view, Ultrapars operational results are a function of three key variables (i) automotive fuel sales growth and EBITDA per cubic meter sold; (ii) cash gross profit per ton of LPG sold; and (iii) cash gross profit per ton of glycol and specialty chemicals sold. In the table below we detail our forecasts for these variables.

Brazilian Chemicals 23 September 2009

page 16

Table 23: Key Forecast Assumptions for Ultrapar

Source: BTG Pactual

Catalysts and Risks Automotive fuel distribution margin outperformance Positive performance in Ipirangas EBITDA per cubic meter is key, but we believe it would only be a strong catalyst if Ultrapar beat or raised its guidance for R$53/m3. Positive performance is expected from management as it has a strong track record of delivering on guidance. LPG margin, a risk While Ultragazs 2Q09 results and 3Q09 guidance were very positive with a significant rise in cash gross profit per ton, we believe this is, at present, more of a source for risk than upside. Historically margins in this business have been erratic, and we seem to be at a high. Spinning off the businesses In our view, Ultrapar could benefit from the potential spin off of its businesses into two separate entities: (i) a chemical stock and (ii) a fuel distribution stock which would be more of a logistics and retail play. We believe this could happen in 2010 if chemicals improve. Further automotive distribution acquisitions While we no longer see as many targets in the market for Ipiranga today, it is undeniable that the company could benefit from even greater scale. We believe that any acquisition on this front is likely to be positive for the stock.

Brazilian Chemicals 23 September 2009

page 17

Braskem Neutral Target R$11/share (US$10.8/ADR)

Brief Company Description Braskem is Brazils largest basic chemical producer, operating the countrys two largest naphtha crackers (in Camaari and Triunfo). The company has an ethylene capacity of 2.5mtpy and the capacity to produce roughly 3.6 mtpy of polymers (PE, PP and PVC). The company has a market share of roughly 50% of Brazils polymer sales and exports roughly 20% of its polymer production. Braskem is controlled by Brazils Odebrecht group with a 38.3% stake and with Petrobras as a relevant shareholder with 25.3%. The company has a history of growth by acquisition and has in the last years consolidated most of Brazils chemical and polymer assets. While not the most leveraged player in the market, it is highly geared. Investment Case and Valuation Buying Braskem is effectively a play on the potential that Global polymer spreads remain very strong in spite of the expected increase in low cost capacity and that as a result, Braskems cash generation potential becomes much larger for 2010-2012. Braskem is able to, in spite of weaker polymer spreads, gather enough political support in Brazil for the sector that it is able to capture higher polymer spreads through additional taxes or input subsidies. Braskem is able to deliver some form of M&A that is simple enough in its strategy, execution and potential for synergies that investors can clearly see upside to the stock from the deal. Through the course of the next year, the potential investments in Venezuela gain enough transparency and visibility that investors start to see them as clearly accretive for the company. Our more cautious view on the stock is supported by a more negative view on these drivers. We believe that (i) polymer spreads are more likely to weaken than remain flat, that (ii) additional government support is unlikely after the naphtha renegotiation; that (iii) M&A, if it comes, is likely to be opaque and can potentially trigger a capital increase, and that (iv) visibility on Venezuela will be low. We calculate our R$11.5/share target price for Braskem using a 6.0x EV/EBITDA multiple for the stock in 2010. This represents a discount to its international peers. We believe that this discount is warranted as its peers have some P/E support to their higher multiples in 2010. Higher cost of debt in Brazil, and charges below the EBITDA line, make less earnings vs. EBITDA for Braskem.

Brazilian Chemicals 23 September 2009

page 18

Table 24: Braskem Multiples Compared to Peers

Source: BTG Pactual and Bloomberg

Key Forecasts and Drivers We see a good dose of EPS volatility at Braskem as a result of its large dollar denominated debt and the potential for volatility in Brazils currency. That said, we see flat EBITDA from 2009 to 2012 on expectations of weakening polymer spreads that offset our expectations for increases in capacity and in capacity utilization from 2009 onwards. Table 25: Summary Financial Results

Source: BTG Pactual and Bloomberg

In our view, Braskems operational results are a function of three key variables (i) international polymer spreads and Braskems ability to get a spread above that on its domestic sales; (ii) the spread that Braskem gets on its co-products relative to naphtha; and (iii) the capacity increases and capacity utilization that Braskem is able to get from its plants. Table 26: Key Forecast Drivers

Source: BTG Pactual

Brazilian Chemicals 23 September 2009

page 19

Catalysts and Risks Polymer spread strength or weakness Over the course of the fourth quarter we expect to see the first impacts of the low cost capacity increases that we are expecting for 2010-2011. Polymer spread performance will be key to confirm our view of impending weakness. Stronger naphtha kicker During the second quarter, we saw Braskems performance as surprisingly strong. We believe this was the result of a gain on naphtha pricing due to the change in pricing policy implemented in March. If we are wrong, Q3 could be a catalyst. US acquisition Braskem has been very vocal in its intention to acquire assets in the US as a stepping stone for its future exports from Venezuela. We believe that this acquisition is less likely to happen, but if it does, it may trigger a capital increase. Domestic merger Both Braskem and its main domestic competitor, Quattor, have disclosed that they are in strategic talks. We believe that a merger, which has been hinted in the press, is unlikely as it would potentially bring about a call for compensations that Braskem would not want. Falling protection barriers Much of Braskems margins come from the (i) import tax that is imposed on chemicals; and (ii) its ability to price its products above import parity. As Brazils macro improves and more investment is done in logistics, this could lessen. The currency and the rates While a strengthening currency is negative for Braskems operations, it does provide one off gains to its profits on FX gains on its debt. Braskems high leverage also makes it susceptible to gaining in the event of even lower interest rates in the country. Management revolution Much of our view of Braskems strategy and execution is a function of its recent history. However, last year, Braskems CEO was changed and we find the new CEO, Bernardo Gradin, much more cautious. There could be upside here, in our view.

Brazilian Chemicals 23 September 2009

page 20

Providncia Neutral Target R$6.0/share

Brief Company Description Providncia is a third generation chemical company that buys polypropylene (PP) to make nonwovens that are in turn used in hygiene and durable goods products. Providncia is focused on the manufacturing of nonwovens using the most modern technology in the field (spunbond), having roughly 80ktpy of production capacity. The company is the largest spunbond player in LatAm and roughly 35% of its revenues come from exports. Providncia is controlled by a group of four private equity funds that together hold 66.5% of its capital: AIG, Governana e Gesto, Asas and BES. The company has historically been Brazils largest nonwoven supplier and has indicated plans to expand its operations into the United States with the construction of as much as 40ktpy of additional capacity there. Investment Case and Valuation Buying Providncia is effectively a play on the potential that Providncia is able to capture higher margins on its nonwoven business over time through either (i) higher pricing power in Brazil; (ii) more domestic sales (margins are better in Brazil) or (iii) better pricing on its inputs. Providncia can clearly show to investors that it is able to generate more cash in its business than earnings and thus unlock the potential for higher earnings based multiples. Providncia is able to clearly show to investors that its potential investments in greenfield units are accretive and highly profitable ventures, thus unlocking value as they are announced. Providncia makes a choice to cut back on its growth plans and increases the payout of its dividends thus becoming a strong cash flow and dividend story as opposed to a company with growth plans. Our more cautious view on the stock is supported on a more negative view on these drivers and a concern on liquidity. We believe that (i) Providncia will not make the leap into the dividend world and that (ii) enough clarity on its expansion plans is unlikely before end 2010, making it a company with the potential for high cash flow and dividends but with unwillingness to pay them.

Brazilian Chemicals 23 September 2009

page 21

Table 27: Key Forecast Drivers

Source: BTG Pactual

We calculate our R$6/share target price for Providncia based on a reported P/E target of 10x for 2011 (12x for 2010). We focus on reported earnings as opposed to adjusted earnings (for non cash tax) because we believe management has still not focused enough on the non cash nature of its income tax payments to make it a consensus and because dividend payout of 50% is on reported earnings. As with Ultrapar, Providncia offers (i) no real liquid peers that share its business characteristics or drivers, and (ii) too little of a track record to have historical multiples. As such, we believe that peer valuations are not really relevant drivers for the stock price. We would prefer to use target dividend yields, but low payouts make that an unappealing venture as well. Table 28: Valuation Multiples

Source: BTG Pactual and Bloomberg

Curiously, our discounted cash flow (DCF) valuation of Providncia offers significant upside to our target price. We see DCF value for the stock at R$7.9/share using a 13% WACC, 31% above our target for the company. However, this implies 16x 2010 reported P/E and with its low liquidity, we believe that investors will not focus on cash flow before cash starts building strongly.

Brazilian Chemicals 23 September 2009

page 22

Table 29: DCF Model for Providencia

Source: BTG Pactual

Key Forecasts and Drivers We see EPS CAGR of 6.1% from 2009 to 2010 on expectations that (i) capacity usage will rise over the course of 2009 and be at full run from 2010 onwards; that (ii) Providncia will hoard cash and thus see its interest expense fall marginally; and that (iii) gross profit per ton of nonwovens sold remains fairly flat at US$1.2/kg throughout the period. Table 30: Summary Financial Forecast

Source: BTG Pactual and Bloomberg

In our view, Providncias operational results are a function of three key variables (i) the gross profit per ton that it is able to capture on its nonwoven sales; (ii) the capacity utilization that it is able to secure in its sales contracts and (iii) potential increases in its capacity over time. Two expansions had been planned for the US before the crisis, but these are now on hold. Table 31: Key Forecast Drivers

Source: BTG Pactual

Brazilian Chemicals 23 September 2009

page 23

Catalysts and Risks Cash flow comes into focus At present, we see 17% cash yield on for 2010 on low capex and cash tax payments. If investors were to gain confidence on this figure (i.e. no expansions and clearer disclosure) we believe the stock could be up for a re-rating. Switch into dividends While we tend to believe that this is unlikely, we believe that a clear message of higher payout for Providncia would lead the stock to re-rate. At 100% payout, wed see 8.3% yield and an additional R$60m of excess cash flow to be used for growth. Not bad. Clarity on growth outlook Providncia had been planning to grow its business into the US, but even before the crisis this offered little visibility on how its earnings might be impacted after the plants were running. Growth plans have been put on halt. Clarity here might be both positive or negative. Acquisitions Providncias management have always indicated that they would be keen on potentially growing their business via acquisitions. Weve generally been lukewarm on this front believing that there are too few targets that fit the bill. We remain so. Quickly rising domestic demand As with Braskem, domestic sales have higher margins than exports. A surge in domestic demand could, in our view, lead to much higher profitability and higher earnings power at Providncia. This would only be visible, though, in its quarterly results.

Brazilian Chemicals 23 September 2009

page 24

Required Disclosures
This report has been prepared by Banco BTG Pactual S.A. The figures contained in performance charts refer to the past; past performance is not a reliable indicator of future results. Additional information will be made available upon request.

BTG Pactual Definition Rating Buy Expected total return 10% above the companys sector average. Expected total return between +10% and -10% the companys Neutral sector average. Sell Expected total return 10% below the companys sector average.

Coverage1 IB Services2 40% 51% 9% 76% 60% 29%

1: Percentage of companies under coverage globally within the 12-month rating category. 2: Percentage of companies within the 12-month rating category for which investment banking (IB) services were provided within the past 12 months.

Absolute return requirements Besides the abovementioned relative return requirements, the listed absolute return requirements must be followed: a) a Buy rated stock must have an expected total return above 15% b) a Neutral rated stock can not have an expected total return below -5% c) a stock with expected total return above 50% must be rated Buy

Analyst Certification
Each research analyst primarily responsible for the content of this investment research report, in whole or in part, certifies that: (1) all of the views expressed accurately reflect his or her personal views about those securities or issuers, and such recommendations were elaborated independently, including in relation to Banco BTG Pactual S.A. and/or its affiliates, as the case may be; (2) no part of his or her compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed by that research analyst in the research report. Research analysts contributing to this report who are employed by a non-US Broker dealer are not registered/qualified as research analysts with the NASD and NYSE and therefore are not subject to the restrictions contained in the NASD and NYSE rules on communications with a subject company, public appearances, and trading securities held by a research analyst account.

CVM 388
Each research analyst primarily responsible for the content of this investment research report, in whole or in part, certifies that: (1) all of the views expressed accurately reflect his or her personal views about those securities or issuers, and such recommendations were elaborated independently, including in relation to Banco BTG Pactual S.A., as the case may be; (2) no relationship is maintained with any person who works for the subject companies which securities are mentioned on this research; (3) Banco BTG Pactual S.A. and/or its affiliates (including the funds, portfolios and investment clubs in securities managed by them) do not own directly or indirectly 1% or more of the total capital of the subject company(ies) BRASKEM S/A, COMPANHIA PROVIDENCIA INDUSTRIA E COMERCIO S/A, ULTRAPAR S/A or are involved in the acquisition, alienation or intermediation of such securities in the market; (4) does not hold, directly or indirectly securities of the subject companies which represent 5% or more of his or her net worth, and is not involved in the acquisition, alienation or intermediation of such securities in the market; (5) the analyst does not receive compensation for any services rendered or presents any commercial relationships with any of the subject companies or person, entity or any kind of funds which represents the same interest of the subject companies; (6) no part of any of the research analyst's compensation was, is, or will be directly or indirectly related to the pricing of any of the securities issued by any of the subject companies and/or to the specific recommendations or views expressed by the research analyst in this research although part of the analyst's compensation comes from the profits of Banco BTG Pactual S.A. and/or its affiliates and, consequently, revenues arisen from transactions held by Banco BTG Pactual S.A. and/or its affiliates (7) Banco BTG Pactual S.A. and/or its affiliates receive compensation for any services rendered or presents any commercial relationships with the subject company(ies) BRASKEM S/A, COMPANHIA PROVIDENCIA INDUSTRIA E COMERCIO S/A or person, entity or any kind of funds which represents the same interest of subject company(ies); (8) Banco BTG Pactual S.A. and/or its affiliates does not receive compensation for any services rendered or presents any commercial relationships with the subject company(ies) ULTRAPAR S/A or person, entity or any kind of funds which represents the same interest of subject company(ies);

Risk Statement
Brazils chemical stocks are generally exposed to changes in commodity prices, the currency and to the risk of refinancing their debts as they are usually leveraged. Competition from imports is a serious risk in a scenario where companies are depending on more protected market for their profitability in these years of crisis.

Company disclosure
BRASKEM S/A ULTRAPAR S/A 1, 2, 3, 4, 10 1, 2, 3, 4, 10 1, 3, 4

COMPANHIA PROVIDENCIA INDUSTRIA E COMERCIO S/A

1. Within the past 12 months, Banco BTG Pactual S.A., its affiliates or subsidiaries has received compensation for investment banking services from this company/entity. 2. Banco BTG Pactual S.A, its affiliates or subsidiaries expect to receive or intend to seek compensation for investment banking services and/or products and services other than investment services from this company/entity within the next three months. 3. Within the past 12 months, Banco BTG Pactual S.A has received compensation for products and services other than investment banking services from this company/entity.

Brazilian Chemicals 23 September 2009

page 25

4. This company/entity is, or within the past 12 months has been, a client of Banco BTG Pactual S.A., and investment banking services are being, or have been, provided. 10. Banco BTG Pactual S.A. makes a market in the securities of this company.

Braskem S/A (R$)

Source: BTG Pactual as of Sep. 21th, 2009 Companhia Providncia Indstria e Comrcio S/A (R$)

Source: BTG Pactual as of Sep. 21th, 2009

Brazilian Chemicals 23 September 2009

page 26

Ultrapar S/A (R$)

Source: BTG Pactual as of Sep. 21th, 2009

Note: On September 21, 2009 BTG Pactual revised its rating system. The new rating system combines both relative and absolute return requirements, a s detailed below. Stocks with expected total return 10% above the companys sector average are rated Buy; stocks with expected total return between +10% and -10% of the companys sector average are rated Neutral; stocks with expected total return 10% below the companys sector average are rated Sell. Besides the abovementioned relative return requirements, the listed absolute return requirements must be followed: a) a Buy rated stock must have and expected total return above 15%; b) a Neutral rated stock can not have an expected total return below -5%; c) a stock with expected total return above 50% must be rated Buy. On August 4, 2007 the predictability levels 1 and 2 were removed from the rating system and Core Band Exceptions (CBE) to the +/- 6% bands were inserted, in order to allow, subject to the Investment Review Committee, wider bands requirements for riskier investments. From December 1, 2006 to August 3, 2007 our ratings and their definitions were: Buy 1 = Forecast Stock Return (FSR) is > 6% above the Market Return Assumption (MRA), higher degree of predictability; Buy 2 = FSR is > 6% above the MRA, lower degree of predictability; Neutral 1 = FSR is between -6% and 6% of the MRA, higher degree of predictability; Neutral 2 = FSR is between -6% and 6% of the MRA, lower degree of predictability; Reduce 1 = FSR is > 6% below the MRA, higher degree of predictability; Reduce 2 = FSR is > 6% below the MRA, lower degree of predictability. The predictability level indicates an analyst's conviction in the FSR. A predictability level of '1' means that the analyst's estimate of FSR is in the middle of a narrower, or smaller, range of possibilities. A predictability level of '2' means that the analyst's estimate of FSR is in the middle of a broader, or larger, range of possibilities.

Brazilian Chemicals 23 September 2009

page 27

Global Disclaimer
This report has been prepared by Banco BTG Pactual S.A. (BTG Pactual). Either BTG Pactual or Tradewire Securities LLC (Tradewire), a broker-dealer registered with the U.S. Securities and Exchange Commission and a member of the Financial Industry Regulatory Authority and the Securities Investor Protection Corporation, is distributing this report in the United States. Tradewire assumes responsibility for this research for purposes of U.S. law to the extent it distributes this report. This report can only be distributed to US persons by Tradewire or to major US institutional investors only by either BTG Pactual or Tradewire. All transactions by a US person in the securities mentioned in this report must be effected through Tradewire. Any U.S. person receiving this report and wishing to effect any transaction in a security discussed in this report should do so with Tradewire at 786-623-2330, 1441 Brickell Avenue, Suite 1210, Miami, FL 33131. This report is for distribution only under such circumstances as may be permitted by applicable law. Nothing in this report constitutes a representation that any investment strategy or recommendation contained herein is suitable or appropriate to a recipients individual circumstances or otherwise constitutes a personal recommendation. It is published solely for information purposes, it does not constitute an advertisement and is not to be construed as a solicitation or an offer to buy or sell any securities or related financial instruments in any jurisdiction. The information herein is believed to be reliable as of the date in which this report was issued and has been obtained from public sources believed to be reliable. No representation or warranty, either express or implied, is provided in relation to the accuracy, completeness or reliability of the information contained herein, except with respect to information concerning BTG Pactual, its subsidiaries and affiliates, nor is it intended to be a complete statement or summary of the securities, markets or developments referred to in the report. As of the end of the month immediately preceding the date of publication of this report, neither Tradewire nor any its affiliates beneficially own 1% or more of any class of common equity securities of the companies analyzed in this report. In addition, neither Tradewire nor its affiliates: (a) have managed or co-managed a public offering of securities for the companies; (b) have received compensation for investment banking services from the companies in the past 12 months; of (c) expect to receive or intends to seek compensation for investment banking services from the companies within the next 3 months. Tradewire did not engage in market-making activities in the subject company's securities at the time this research report was published. Tradewire does not undertake that investors will obtain profits, nor will it share with investors any investment profits nor accept any liability for any investment losses. Investments involve risks and investors should exercise prudence in making their investment decisions. The report should not be regarded by recipients as a substitute for the exercise of their own judgment. Opinions, estimates, and projections expressed herein constitute the current judgment of the analyst responsible for the substance of this report as of the date in which was issued and are therefore subject to change without notice and may differ or be contrary to opinions expressed by other business areas or groups of Tradewire as a result of using different assumptions and criteria. Prices and availability of financial instruments are indicative only and subject to change without notice. Research will initiate, update and cease coverage solely at the discretion of BTG Investment Bank Research Management. The analysis contained herein is based on numerous assumptions. Different assumptions could result in materially different results. The analyst(s) responsible for the preparation of this report may interact with trading desk personnel, sales personnel and other constituencies for the purpose of gathering, synthesizing and interpreting market information. Tradewire is under no obligation to update or keep current the information contained herein, except when terminating coverage of the companies discussed in the report. Tradewire relies on information barriers to control the flow of information contained in one or more areas within Tradewire, into other areas, units, groups or affiliates of Tradewire. The compensation of the analyst who prepared this report is determined by research management and senior management (not including investment banking). Analyst compensation is not based on investment banking revenues, however, compensation may relate to the revenues of BTG Pactual as a whole, of which investment banking, sales and trading are a part. The securities described herein may not be eligible for sale in all jurisdictions or to certain categories of investors. Options, derivative products and futures are not suitable for all investors, and trading in these instruments is considered risky. Mortgage and asset-backed securities may involve a high degree of risk and may be highly volatile in response to fluctuations in interest rates and other market conditions. Past performance is not necessarily indicative of future results. If a financial instrument is denominated in a currency other than an investors currency, a change in rates of exchange may adversely affect the value or price of or the income derived from any security or related instrument mentioned in this report, and the reader of this report assumes any currency risk. This report does not take into account the investment objectives, financial situation or particular needs of any particular investor. Investors should obtain independent financial advice based on their own particular circumstances before making an investment decision on the basis of the information contained herein. For investment advice, trade execution or other enquiries, clients should contact their local sales representative. Neither Tradewire nor any of its affiliates, nor any of Tradewire's or any of its affiliates, directors, employees or agents accepts any liability for any loss or damage arising out of the use of all or any part of this report. Any prices stated in this report are for information purposes only and do not represent valuations for individual securities or other instruments. There is no representation that any transaction can or could have been effected at those prices and any prices do not necessarily reflect BTG Pactual's internal books and records or theoretical model-based valuations and may be based on certain assumptions. Different assumptions, by BTG Pactual or any other source, may yield substantially different results. Analyst compensation: compensation paid to analysts are the sole responsibility of BTG Pactual. United Kingdom and the rest of Europe: Except as otherwise specified herein, this material is communicated by BTG Pactual, to persons who are eligible counterparties or professional clients and is only available to such persons. The information contained herein does not apply to, and should not be relied upon by, retail clients. United States: Distributed to US persons by either Tradewire, BTG Pactual that is not registered as a US broker-dealer (a non-US affiliate), to major US institutional investors only. BTG Pactual and/or Tradewire accepts responsibility for the content of a report. All transactions by a US person in the securities mentioned in this report must be effected through Tradewire. The disclosures contained in research reports produced by BTG Pactual shall be governed by and construed in accordance with English law. This report may not be reproduced or redistributed to any other person, in whole or in part, for any purpose, without the prior written consent of BTG Pactual. Additional information relative to the financial instruments discussed in this report is available upon request.