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Company stayed fit by reducing sugar

– The world’s biggest sugar producer has lost its appetite for sugar.

Cosan, which controls top producer Raizen Energia in a joint venture with Royal Dutch Shell, is cutting investments in sugar cane amid a global glut of the sweetener and Brazilian government policies that hold down the price of ethanol, Chief Financial Officer Marcelo Martins said.

Returns on capital from the company’s sugar and ethanol operations have plunged to below 10 percent, he said.

“Reinvestment in the sector will be made only if returns become satisfactory, and we don’t see it happening now,” Martins said at Bloomberg’s office in Sao Paulo. “Returns need to rise to more than 15 percent to make investments attractive again.”

Cosan is hunkering down in the industry where it began as it carries out a four-year expansion into gasoline and natural gas distribution, service stations and railroads.

Sugar and ethanol account for about 20 percent of the Sao Paulo company’s earnings before interest, taxes, depreciation and amortization now. That’s down from about 73 percent in 2010.

That will fall further after Cosan completes its $3 billion, all-stock acquisition of America Latina Logistica, Latin America’s largest railroad operator.

Strategy worked

Sugar futures in New York touched a four-year low in late January and have since rebounded 14 percent.

While Martins sees global stockpiles shrinking and prices bottoming out, the fundamentals of the industry remain the same, he said.

“The sector is going through a very difficult phase, perhaps the worst in 15 to 20 years,” he said, adding that Cosan is weathering the downturn better than peers because it boosted cash generation through biomass power generation and ethanol trading.

“We diversified our energy business and countered the volatility in sugar and ethanol.”

Andre Facury, an analyst at Perfin Investimentos in Sao Paulo, said the strategy proved right.

“That’s what prevented the sugar and ethanol business from having a negative cash flow over recent years,” he said.

Cosan shares have lost 7.3 percent in the past year. But Biosev SA, Brazil’s second-biggest sugar producer, has plunged 49 percent in the period, and No. 3 miller Tereos Internacional SA has declined 13 percent.

Too many millers

Sugar millers across Brazil, which makes up almost half of the world’s exports, are facing cash shortages after expansions overshot demand.

While about two-thirds of the cars in Brazil can run on either ethanol or gasoline, producers are limited in what they can charge for the alternative fuel because government policies keep gasoline prices artificially low.

“There should be consolidation, as this is a very fragmented sector, but there are no consolidators,” Martins said. Raizen, which accounts for more than 50 percent of Brazil’s ethanol exports, is the only major potential consolidator, he said.

“We don’t rule out acquisitions in the future, but it would have to bring a lot of value to our portfolio in order for us to consider them,” Martins said.

The growing number of mills that are facing financial constraints may create merger and acquisition opportunities for big producers once sugar and ethanol prices start to recover, said Alexandre Figliolino, Itau BBA’s director for sugar and ethanol.

“Brazil’s sugar industry will become more competitive after that,” he said.

While current conditions remain unfavorable, the long-term outlook is positive as land and biomass availability gives Brazil a natural advantage in ethanol production, Martins said.

“Brazil lost an opportunity,” he said about the slowdown in the nation’s ethanol and sugar industry. “But it hasn’t yet lost the game.”

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